Summary of Significant Accounting Policies |
2. |
Summary of Significant Accounting Policies |
Basis of Presentation and Consolidation
These condensed consolidated financial statements have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. generally accepted accounting principles have been condensed or omitted pursuant to the SEC rules and regulations. There are no unconsolidated entities, or off-balance sheet arrangements other than certain guarantees supporting office leases and the performance under government contracts in the Company's European operations. All inter-company accounts have been eliminated.
The preparation of financial statements and related disclosures in conformity with U.S. generally accepted accounting principles requires the Company's management to make estimates, judgments and assumptions that affect the amounts reported in the condensed consolidated financial statements and accompanying notes, which could be impacted by existing market conditions and factors, including the COVID-19 pandemic. Such estimates primarily relate to the recognition of revenue, leased assets and liabilities, the purchase accounting for acquisitions and the valuation of goodwill, the valuation allowance for deferred tax assets, actuarial assumptions including discount rates and expected return on assets, as applicable, for the Company’s defined benefit plans, the valuation of stock options and restricted stock for recording equity-based compensation expense, the allowance for doubtful accounts receivable, investment valuation, legal matters, other contingencies, and estimates of progress toward completion and direct profit or loss on contracts, as applicable. Management believes that the information and disclosures provided herein are adequate to present fairly the condensed consolidated financial position, results of operations, comprehensive income (loss), cash flows, and shareholders’ equity of the Company.
The Company evaluated subsequent events from the date of the most recent balance sheet through the date of this filing. Through the date of this filing, about 10% of the Company’s billable resources have been idled by the COVID-19 pandemic. To offset this reduction in billable resources, during April 2020, the Company took a number of actions to reduce costs and mitigate the potential impact of the COVID-19 pandemic, including a full-time furlough of about 5% of its North American non-billable staff, and a reduced work schedule (20% furlough) for nearly all other non-billable staff, including senior management, that are not directly or indirectly related to business development. There are no other subsequent events that require recognition or disclosure in these unaudited interim condensed consolidated financial statements.
The Company operates in one industry, providing information and technology-related services to its clients. These services include information and technology-related solutions, including supplemental staffing as a solution. CTG provides these services to all of the markets that it serves. The services provided typically encompass the IT business solution life cycle, including phases for planning, developing, implementing, managing, and ultimately maintaining the IT solution. A typical client is an organization with large, complex information and data processing requirements.
IT solutions and IT and other staffing revenue as a percentage of total revenue for the quarters ended March 27, 2020 and March 29, 2019 was as follows:
The Company promotes a majority of its services through five vertical market focus areas: technology service providers, manufacturing, healthcare (which includes services provided to healthcare providers, health insurers (payers), and life sciences companies), financial services, and energy. The Company focuses on these five vertical areas as it believes that these areas are either higher growth markets than the general IT services market and the general economy, or are areas that provide greater potential for the Company’s growth due to the size of the vertical market. The remainder of CTG’s revenue is derived from general markets.
CTG’s revenue by vertical market as a percentage of total revenue for the quarters ended March 27, 2020 and March 29, 2019 was as follows:
|
|
For the Quarter Ended |
|
|
|
March 27, 2020 |
|
|
March 29, 2019 |
|
Technology service providers |
|
|
34.9 |
% |
|
|
32.7 |
% |
Manufacturing |
|
|
15.0 |
% |
|
|
16.9 |
% |
Healthcare |
|
|
13.4 |
% |
|
|
16.2 |
% |
Financial services |
|
|
14.2 |
% |
|
|
14.1 |
% |
Energy |
|
|
6.2 |
% |
|
|
4.6 |
% |
General markets |
|
|
16.3 |
% |
|
|
15.5 |
% |
Total |
|
|
100.0 |
% |
|
|
100.0 |
% |
Revenue Recognition
The Company recognizes revenue when control of the promised good or service is transferred to clients, in an amount that reflects the consideration the Company expects to be entitled to in exchange for those goods or services. For time-and-material contracts, revenue is recognized as hours are incurred and costs are expended. For contracts with progress billing schedules (i.e. progress billing), primarily monthly, revenue is recognized as services are rendered to the client. Revenue for fixed-price contracts is recognized over time using an input-based approach. Recognizing revenue over time best portrays the Company’s performance in transferring control of the goods or services to the client. On most fixed price contracts, revenue recognition is supported through contractual clauses that require the client to pay for work performed to date, including cost plus a reasonable profit margin, for goods or services that have no alternative use to the Company. On certain contracts, revenue recognition is supported through contractual clauses that indicate the client controls the asset, or work in process, as the Company creates or enhances the asset. On a given project, actual salary and indirect labor costs incurred are measured and compared with the total estimate of costs of such items at the completion of the project. Revenue is recognized based upon the percentage-of-completion calculation of total incurred costs to total estimated costs. The Company infrequently works on fixed-price projects that include significant amounts of material or other non-labor related costs that could distort the percent complete within a percentage-of-completion calculation. The Company’s estimate of the total labor costs it expects to incur over the term of the contract is based on the nature of the project and experience on similar projects, and includes management judgments and estimates that affect the amount of revenue recognized on fixed-price contracts in any accounting period. Losses on fixed-price projects are recorded when identified.
The Company’s revenue from contracts accounted for under time-and-material, progress billing and percentage-of-completion methods as a percentage of consolidated revenue for the quarters ended March 27, 2020 and March 29, 2019 was as follows:
|
|
For the Quarter Ended |
|
|
|
March 27, 2020 |
|
|
March 29, 2019 |
|
Time-and-material |
|
|
82.4 |
% |
|
|
80.9 |
% |
Progress billing |
|
|
14.0 |
% |
|
|
10.7 |
% |
Percentage-of-completion |
|
|
3.6 |
% |
|
|
8.4 |
% |
Total |
|
|
100.0 |
% |
|
|
100.0 |
% |
The Company recorded revenue in the quarters ended March 27, 2020 and March 29, 2019 as follows:
For the Quarter Ended: |
|
March 27, 2020 |
|
|
March 29, 2019 |
|
|
Year-over-Year
Change |
|
|
|
(amounts in thousands) |
|
|
|
|
|
North America |
|
|
57.9 |
% |
|
$ |
50,307 |
|
|
|
61.1 |
% |
|
$ |
59,435 |
|
|
|
(15.4 |
)% |
Europe |
|
|
42.1 |
% |
|
|
36,642 |
|
|
|
38.9 |
% |
|
|
37,803 |
|
|
|
(3.1 |
)% |
Total |
|
|
100.0 |
% |
|
$ |
86,949 |
|
|
|
100.0 |
% |
|
$ |
97,238 |
|
|
|
(10.6 |
)% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Significant Judgments
With the exception of cost estimates on certain fixed-price projects, there are no other significant judgments used to determine the timing of the satisfaction of performance obligations or determining the transaction price and amounts allocated to performance obligations. The Company allocates the transaction price based on standalone selling prices for contracts with clients that include more than one performance obligation. We determine standalone selling price based on the expected cost of the good or service plus margin approach. Certain clients may qualify for discounts and rebates, which we account for as variable consideration. We estimate variable consideration and reduce revenue recognized based on the amount we expect to provide to clients.
Contract Balances
For time-and-material contracts and contracts with periodic billing schedules, the timing of the Company’s satisfaction of its performance obligations is consistent with the timing of payment. For these contracts, the Company has the right to payment in the amount that corresponds directly with the value of the Company’s performance to date. The Company uses the practical expedient that allows it to recognize revenue in the amount for which it has the right to invoice for time-and-material contracts and contracts with periodic billing schedules. Billing schedules for fixed-price contracts are generally consistent with the Company’s performance in transferring control of the goods or services to the client. There are no significant financing components in contracts with clients. The Company records advanced billings that represent contract liabilities for cash payments received in advance of performance on the condensed consolidated balance sheet. Unbilled receivables are reported within “accounts receivable” on the condensed consolidated balance sheet. Accounts receivable and advanced billing balances fluctuate based on the timing of the client’s billing schedule and the Company’s month-end date. There are no significant costs to obtain or fulfill contracts with clients.
Transaction Price Allocated to Remaining Performance Obligations
As of March 27, 2020, the aggregate transaction price allocated to unsatisfied or partially unsatisfied performance obligations for fixed-price and all managed-support contracts was approximately $11.0 million and $50.2 million, respectively. Approximately $34.7 million of the transaction price allocated to unsatisfied or partially unsatisfied performance obligations is expected to be earned in 2020 and approximately $26.5 million of the transaction price allocated to unsatisfied or partially unsatisfied performance obligations is expected to be earned in 2021 and beyond. As the Company uses the “right to invoice” practical expedient, we do not disclose the value of unsatisfied performance obligations for contracts for which we recognize revenue at the amount to which we have the right to invoice for services performed.
Taxes Collected from Clients
In instances where the Company collects taxes from its clients for remittance to governmental authorities, primarily in its international locations, revenue and expenses are not presented on a gross basis in the condensed consolidated financial statements as such taxes are recorded in the Company's accounts on a net basis.
Fair Value
Fair value is defined as the exchange price that would be received for an asset or paid for a liability in the principal or most advantageous market for the asset or liability, in an orderly transaction between market participants. The Company utilizes a fair value hierarchy for its assets and liabilities, as applicable, based upon three levels of input, which are:
Level 1—quoted prices in active markets for identical assets or liabilities (observable)
Level 2—inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices for similar assets or liabilities, quoted prices in inactive markets, or other inputs that are observable or can be supported by observable market data for essentially the full term of the asset or liability (observable)
Level 3—unobservable inputs that are supported by little or no market activity, but are significant to determining the fair value of the asset or liability (unobservable)
At March 27, 2020 and December 31, 2019, the carrying amounts of the Company’s cash of $31.5 million and $10.8 million, respectively, approximated fair value.
As described in Note 3 of the condensed consolidated financial statements, the Company acquired 100% of the equity of StarDust in the 2020 first quarter, Tech-IT in the 2019 first quarter and Soft Company in the 2018 first quarter. Level 3 inputs were used to estimate the fair values of the assets acquired and liabilities assumed. The valuation techniques used to assign fair values to intangible assets included the relief-from-royalty method and excess earnings method.
The Company has a contingent consideration liability related to the earn-out provision of which a portion will be payable in each period subject to the achievement by Tech-IT of certain direct profit targets for fiscal 2019 and 2020. In addition, the Company has a remaining contingent consideration liability related to the earn-out provision of which a portion will be payable subject to the achievement by Soft Company of certain revenue and EBIT targets for fiscal 2019. There is no payout if the achievements are below the target thresholds. The fair value of these contingent considerations is determined using level 3 inputs. The fair value assigned to the contingent consideration liabilities is determined using the real options method, which requires inputs such as revenue forecasts, EBIT forecasts, discount rate, and other market variables to assess the probability of Tech-IT and Soft Company achieving their respective targets. The Company also acquired StarDust in the 2020 first quarter, and the Company has begun the process of accounting for the acquisition and anticipates completion in the 2020 second quarter.
The Company is also allowed to elect an irrevocable option to measure, on a contract-by-contract basis, specific financial instruments and certain other items that are currently not being measured at fair value. The Company did not elect to apply the fair value provisions of this accounting standard for any specific contracts during the quarters ended March 27, 2020 or March 29, 2019.
Life Insurance Policies
The Company has purchased life insurance on the lives of a number of former employees who are plan participants in the non-qualified defined benefit Executive Supplemental Benefit Plan. In total, there are policies on 18 individuals, whose average age is 76 years old. Those policies have generated cash surrender value and the Company has taken loans against the policies. At March 27, 2020, these insurance policies have a gross cash surrender value of $29.9 million, outstanding loans and interest totaling $27.6 million, and a net cash surrender value of $2.3 million. At December 31, 2019, these insurance policies had a gross cash surrender value of $29.7 million, outstanding loans and interest totaling $27.2 million, and a net cash surrender value of $2.5 million. The net cash surrender values are included on the condensed consolidated balance sheet in “Cash surrender value of life insurance” under non-current assets.
At both March 27, 2020 and December 31, 2019, the total death benefit for the remaining policies was approximately $37.7 million. Currently, upon the death of all of the remaining plan participants, the Company would expect to receive
approximately $9.8 million after the payment of obligations, and, under current tax regulations, record a non-taxable gain of approximately $7.5 million.
Cash and Cash Equivalents, and Cash Overdrafts
For purposes of the statement of cash flows, cash and cash equivalents are defined as cash on hand, demand deposits, and short-term, highly liquid investments with an original maturity of three months or less. As the Company does not fund its bank accounts for the checks it has written until the checks are presented to the bank for payment, the "change in cash overdraft, net," line item as presented on the condensed consolidated statements of cash flows represents the increase or decrease in outstanding checks in a given period.
Accounts Receivable Factoring
As part of our working capital management, the Company has entered into a factoring agreement to sell certain trade accounts receivables on a non-recourse basis to third-party financial institutions. We account for these transactions as sales of receivables and present cash proceeds as cash provided by operating activities in the condensed consolidated statements of cash flows. Total trade accounts receivable sold under the factoring agreement was approximately $11.9 million during the quarter ended March 27, 2020. Factoring fees for the sale of receivables were recorded in direct costs and were not material for the quarter ended March 27, 2020. There were no accounts receivable factoring activities during the quarter ended March 29, 2019.
Property, Equipment and Capitalized Software Costs
Property, equipment and capitalized software at March 27, 2020 and December 31, 2019 are summarized as follows:
(amounts in thousands) |
|
March 27, 2020 |
|
|
December 31, 2019 |
|
Property, equipment and capitalized software |
|
$ |
13,542 |
|
|
$ |
17,384 |
|
Accumulated depreciation and amortization |
|
|
(8,502 |
) |
|
|
(11,005 |
) |
Property, equipment and capitalized software, net |
|
$ |
5,040 |
|
|
$ |
6,379 |
|
The Company recorded $0.3 million of capitalized software costs during the quarter ended March 27, 2020 and less than $0.1 million of capitalized software costs during the quarter ended March 29, 2019. As of those dates, the Company had capitalized a total of $2.4 million and $1.9 million, respectively, for software projects developed for commercial use. Amortization periods range from 3 to 5 years, and are evaluated periodically for propriety. Amortization expense totaled approximately $0.1 million in the quarter ended March 27, 2020, and approximately $0.2 million in the quarter ended March 29, 2019. Accumulated amortization for these projects totaled $1.0 million and $0.9 million as of March 27, 2020 and March 29, 2019, respectively.
During the 2020 first quarter, the Company received two unsolicited bids for its owned real estate, and is exploring a sale of the property. Accordingly, the Company recorded the building in “other current assets” as a held for sale asset, rather than in property, equipment and capitalized software at March 27, 2020. As the sale price of the building is estimated to be $2.5 million, and the book value of the building is approximately $1.8 million, the Company expects to record a profit on the sale after related fees of about $0.6 million in the 2020 second quarter.
Guarantees
The Company has a number of guarantees in place in its European operations that support office leases and performance under government contracts. At both March 27, 2020 and December 31, 2019, these guarantees totaled approximately $3.0 million and generally have expiration dates ranging from March 2020 through October 2034.
Goodwill
The goodwill recorded on the Company's condensed consolidated balance sheet at March 27, 2020 relates to the acquisition of Soft Company in the 2018 first quarter, Tech-IT in the 2019 first quarter, and StarDust in the 2020 first quarter. In accordance with current accounting guidance for “Intangibles - Goodwill and Other,” the Company performs goodwill impairment testing at least annually (in the Company’s fourth quarter), unless indicators of impairment exist in interim periods. There were no impairment indicators noted in the quarters ended March 27, 2020 and March 29, 2019.
The changes in the carrying amount of goodwill for the quarter ended March 27, 2020 are as follows:
(amounts in thousands) |
|
|
|
Balance at December 31, 2019 |
$ |
16,681 |
|
Acquired goodwill |
|
3,260 |
|
Foreign currency translation |
|
(236 |
) |
Balance at March 27, 2020 |
$ |
19,705 |
|
Acquired Intangible Assets
Acquired intangible assets at March 27, 2020 consist of the following:
(amounts in thousands) |
Estimated
Economic Life |
Gross Carrying Amount |
|
Accumulated Amortization |
|
Foreign Currency Translation |
|
Net Carrying Amount |
|
Trademarks |
2 year |
$ |
1,432 |
|
$ |
1,023 |
|
$ |
(105 |
) |
$ |
304 |
|
Customer relationships |
8-13 years |
|
9,905 |
|
|
1,389 |
|
|
(838 |
) |
|
7,678 |
|
Total |
|
$ |
11,337 |
|
$ |
2,412 |
|
$ |
(943 |
) |
$ |
7,982 |
|
Estimated amortization expense for the remainder of 2020, the five succeeding years, and thereafter is as follows:
Year |
|
Annual Amortization |
|
(amounts in thousands) |
|
|
|
|
2020 |
|
$ |
891 |
|
2021 |
|
|
912 |
|
2022 |
|
|
857 |
|
2023 |
|
|
857 |
|
2024 |
|
|
857 |
|
2025 |
|
|
857 |
|
Thereafter |
|
|
2,751 |
|
Total |
|
$ |
7,982 |
|
Recently Issued Accounting Standards
In June 2016, the FASB issued ASU 2016-13, “Measurement of Credit Losses on Financial Instruments”, which requires the immediate recognition of estimated credit losses expected to occur over the remaining life of many financial assets, including trade receivables, and replaces the existing incurred loss model. The new standard requires an estimate of expected credit losses, measured over the contractual life of an asset, which considers relevant information about past events, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount. It requires entities to consider the risk of loss even if it is remote, which will result in the recognition of credit losses on assets that do not have evidence of deterioration. The allowance for credit losses will be the difference between the amortized cost balance of a financial asset and the amount of amortized cost expected to be collected over the remaining contractual life. This guidance is effective for reporting periods beginning after December 15, 2019; however, early adoption is permitted. The Company adopted the new credit loss standard on January 1, 2020. The Company estimated its allowance for credit losses by pooling assets with similar risk characteristics, reviewing historical losses within the last five years and taking into consideration any reasonable supportable forecasts of future economic conditions. The Company cannot guarantee that the rate of future credit losses will be similar to past experience, but considers all available information when assessing the adequacy of its allowance for credit losses each quarter. As the impact from this standard on the Company was immaterial, no adjustment was made to the beginning retained earnings balance.
In January 2017, the FASB issued ASU 2017-04,”Simplifying the Test for Goodwill Impairment”, which simplifies how an entity is required to test goodwill for impairment by eliminating Step 2 from the goodwill impairment test. This
guidance is effective for reporting periods beginning after December 15, 2019; however, early adoption is permitted. The Company adopted the new standard on January 1, 2020 for the year ending December 31, 2020 on a prospective basis and the adoption did not have a significant impact on the Company’s operations.
In August 2018, the FASB issued ASU 2018-15, “Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract”, which helps entities evaluate the accounting for fees paid in a cloud computing arrangement (hosting arrangement) by providing guidance for determining when the arrangement includes a software license. This guidance is effective for fiscal years beginning after December 15, 2019; however, early adoption is permitted. The Company adopted the new standard on January 1, 2020 for the year ending December 31, 2020 on a prospective basis and the adoption did not have a significant impact on the Company’s operations.
In March 2020, the FASB issued ASU 2020-04, “Reference Rate Reform - Facilitation of the Effects of Reference Rate Reform on Financial Reporting”, which provides optional expedients and exceptions for accounting contracts, hedging relationships and other transactions affected by reference rate reform if certain criteria are met. The amendments apply only to contracts, hedging relationships and other transactions that reference the London Interbank Offering Rate (“LIBOR”) or another reference rate expected to be discontinued due to the reference rate reform. It is effective for all entities as of March 12, 2020 through December 31, 2022. The Company does not expect a significant impact from the adoption of this standard as provisions have been made in our Credit and Security Agreement to use an alternate benchmark interest rate when the use of LIBOR is discontinued.
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