You should read the following discussion and analysis in conjunction with our financial statements and related notes included elsewhere in this report. Except for historical information, the discussion in this report contains certain forward-looking statements that involve risks and uncertainties. We have based these forward-looking statements on our current expectations and assumptions about future events. In some cases, you can identify forward-looking statements by terminology, such as "may," "should," "could," "predict," "potential," "continue," "expect," "anticipate," "future," "intend," "plan," "believe," "estimate," "forecast" and similar expressions (or the negative of such expressions.) Forward-looking statements include statements concerning 2021 revenue growth rates and capital expenditures. Forward-looking statements are based on our beliefs as well as assumptions based on information currently available to us, including financial and operational information, the volatility of our stock price, current competitive conditions and the impact of COVID-19. As a result, these statements are subject to various risks and uncertainties. For a discussion of material risks and uncertainties that the Company faces, see the discussion in our 2020 Annual Report on Form 10-K titled "Risk Factors" and in this Quarterly Report on Form 10-Q under Item 1A of Part II, "Risk Factors." BUSINESS OVERVIEW ISG (
Information Services Group) (Nasdaq: III) is a leading global technology research and advisory firm. A trusted business partner to over 700 clients, including more than 75 of the top 100 enterprises in our markets, ISG is committed to helping corporations, public sector organizations, and service and technology providers achieve operational excellence and faster growth. The firm specializes in digital transformation services, including automation, cloud and data analytics; sourcing advisory; managed governance and risk services; network carrier services; technology strategy and operations design; change management; market intelligence and technology research and analysis. Founded in 2006, and based in Stamford, Conn., ISG employs approximately 1,300 digital-ready professionals operating in more than 20 countries-a global team known for its innovative thinking, market influence, deep industry and technology expertise, and world-class research and analytical capabilities based on the industry's most comprehensive marketplace data. For more information, visit www.isg-one.com. Our strategy is to strengthen our existing market position and develop new services and products to support future growth plans. As a result, we are focused on growing our existing service model, expanding geographically, developing new industry sectors, productizing market data assets, expanding our managed services offerings and growing via acquisitions. Although we do not expect any adverse conditions that will impact our ability to execute against our strategy over the next twelve months, the more significant factors that could limit our ability to grow in these areas include global macro-economic conditions and the impact on the overall sourcing market, competition, our ability to retain advisors and reductions in discretionary spending with our top client accounts or other significant client events. Other areas that could impact the business would also include natural disasters, pandemics, such as COVID-19, legislative and regulatory changes and capital market disruptions. We principally derive revenues from fees for services generated on a project by project basis. Prior to the commencement of a project, we reach agreement with the client on rates for services based upon the scope of the project, staffing requirements and the level of client involvement. Revenues for services rendered are recognized on a time and materials basis or on a fixed fee or capped fee basis in accordance with accounting and disclosure requirements for revenue recognition. Revenues for time and materials contracts are recognized based on the number of hours worked by our advisors at an agreed upon rate per hour and are recognized in the period in which services are performed. Revenues for time and materials contracts are billed monthly, semimonthly or in accordance with the specific contractual terms of each project. We also derive our revenues from certain recurring revenue streams. These include such annuity-based ISG offerings as ISG GovernX®, Research, Software as a Subscription (Automation licenses), ISG Inform™ and the multi-year Public Sector contracts. These offerings are characterized by subscriptions (i.e., renewal centric as opposed to project centric revenue streams) or, in some instances, multi-year contracts. Our digital services now span a volume of offerings and have become embedded as part of even our traditional transaction services. Digital enablement provides capabilities, digital insights and better engagement with clients and partners. 16 Our results are impacted principally by our full time consultants' utilization rate, the number of business days in each quarter and the number of our revenue-generating professionals who are available to work. Our utilization rate can be negatively affected by increased hiring because there is generally a transition period for new professionals that result in a temporary drop in our utilization rate. Our utilization rate can also be affected by seasonal variations in the demand for our services from our clients. The number of business workdays is also affected by the number of vacation days taken by our consultants and holidays in each quarter. We typically have fewer business workdays available in the fourth quarter of the year, which can impact revenues during that period. Time and expense engagements do not provide us with a high degree of predictability as to performance in future periods. Unexpected changes in the demand for our services can result in significant variations in utilization and revenues and present a challenge to optimal hiring and staffing. The volume of work performed for any particular client can vary widely from period to period.
RESULTS OF OPERATIONS FOR THE ENDED THREE MONTHS
The geographic information on the segment’s turnover is as follows:
Three Months Ended September 30, Percent Geographic Area 2021 2020 Change Change (in thousands) Americas
$ 42,825 $ 34,968 $ 7,85722 % Europe 20,138 20,928 (790) (4) % Asia Pacific 8,132 5,739 2,393 42 % Total revenues $ 71,095 $ 61,635 $ 9,46015 % Revenues increased $9.5 million, or approximately 15%, for the third quarter of 2021. The increase in revenue in the Americaswas primarily attributable to an increase in our Advisory and Research service lines. The increase in revenue in the Asia Pacificwas primarily attributable to an increase in our Advisory service line. The decrease in revenue in Europewas primarily attributable to a decrease in our Advisory service line, partially offset by an increase in Research service line revenues. The translation of foreign currency revenues into U.S.dollars positively impacted performance in Europeand Asia Pacificcompared to the prior year. Operating Expenses The following table presents a breakdown of our operating expenses by category: Three Months Ended September 30, Percent Operating Expenses 2021 2020 Change Change (in thousands)
Direct costs and expenses for advisors
$ 43,249 $ 36,762 $ 6,48718 % Selling, general and administrative 19,236 20,318
(1,082) (5) % Depreciation and amortization 1,347 1,581 (234) (15) % Total operating expenses
$ 63,832 $ 58,661 $ 5,1719 % Total operating expenses increased $5.2 million, or approximately 9%, for the third quarter of 2021. The increase in operating expenses were primarily due to higher: contract labor costs of $4.5 million, compensation costs of $2.5 million, and travel and entertainment expenses of $0.2 million. These costs were partially offset by lower: restructuring costs of $1.3 millionand non-cash stock compensation of $0.7 million.
Compensation costs consist of a combination of fixed and variable salaries, annual bonuses, benefits and contributions to the profit sharing plan. A portion of the compensation expense of certain billable employees is allocated between direct costs and selling, general and administrative expenses based on the relative time spent between billable and non-billable activities. Premium
17 compensation is determined based on achievement against Company financial and individual targets and is accrued monthly throughout the year based on management's estimates of target achievement. Statutory and elective profit sharing plans are offered to employees as appropriate. Direct costs also include employee taxes, health insurance, workers compensation and disability insurance. Sales and marketing costs consist principally of compensation expense related to business development, proposal preparation and delivery and negotiation of new client contracts. Costs also include travel expenses relating to the pursuit of sales opportunities, expenses for hosting periodic client conferences, public relations activities, participation in industry conferences, industry relations, website maintenance and business intelligence activities. The Company maintains a dedicated global marketing function responsible for developing and managing sales campaigns, brand promotion, the ISG Index and assembling proposals. We maintain a comprehensive program for training and professional development. Related expenses include product training, updates on new service offerings or methodologies and development of project management skills. Also included in training and professional development are expenses associated with the development, enhancement and maintenance of our proprietary methodologies and tools and the systems that support them. General and administrative expenses consist principally of executive management compensation, allocations of billable employee compensation related to general management activities, IT infrastructure, and costs for the finance, accounting, information technology and human resource functions. General and administrative costs also reflect continued investment associated with implementing and operating client and employee management systems. Because our billable personnel operate primarily on client premises or work remotely, all occupancy expenses are recorded as general and administrative. Depreciation and amortization expense in the third quarter of 2021 and 2020 was
$1.3 millionand $1.6 million, respectively. The decrease of $0.2 millionin depreciation and amortization expense was primarily due to prior year intangible assets that are now fully amortized. Our fixed assets consist of furniture, fixtures, equipment (mainly personal computers) and leasehold improvements. Depreciation expense is generally computed by applying the straight-line method over the estimated useful lives of assets. We also capitalize certain costs associated with the purchase and development of internal-use software, system conversions and website development costs. These costs are amortized over the estimated useful life of the software or system. We amortize our intangible assets (e.g. client relationships and databases) over their estimated useful lives. Goodwillrelated to acquisitions is not amortized but is subject to annual impairment testing and interim impairment tests, if triggering events are identified.
Other income (expenses), net
The following table presents a breakdown of other income (expenses), net:
Three Months Ended
September 30, Percent
Other income (expense), net 2021 2020 Change
Change (in thousands) Interest income
$ 65 $ 61 $ 47 % Interest expense (538) (687) 149 22 %
Foreign currency gain (loss) 1 (66) 67 102 % Total other income (expense), net
$ (472) $ (692) $ 220
The total decrease in
Income Tax Expense
Our quarterly effective tax rate varies from period to period based on the mix of earnings among the various state and foreign tax jurisdictions in which business is conducted and the level of non-deductible expenses projected to
be incurred 18 during the current fiscal year. Our effective tax rate for the three months ended
September 30, 2021was 34.9% compared to 9.9% for the quarter ended September 30, 2020. The difference for the quarter ended September 30, 2021was primarily due to the impact of earnings and losses in certain foreign jurisdictions, and the impact of vesting of restricted stock units. The Company's effective tax rate for the quarter ended September 30, 2021was higher than the statutory rate primarily due to the impact of foreign operations.
There were no material changes in the uncertain tax position reserves or valuation allowances during the quarter ended.
RESULTS OF OPERATIONS FOR THE NINE ENDED MONTHS
Revenues Revenues are generally derived from fixed fee contracts as well as engagements priced on a time and materials basis, which are recorded based on actual time worked as the services are performed. In addition, we also earn revenues which are contingent on the attainment of certain contractual milestones. Revenues related to materials (mainly outofpocket expenses such as airfare, lodging and meals) required during an engagement generally do not include a profit mark up and can be charged and reimbursed separately or as part of the overall fee arrangement. Invoices are issued to clients monthly, semimonthly or in accordance with the specific contractual terms of each project. We operate in one segment, factbased sourcing advisory services. We operate principally in the
Americas, Europe, and Asia Pacific. Our foreign operations are subject to local government regulations and to the uncertainties of the economic and political conditions of those areas, and the revenue for our foreign operations is predominantly invoiced and collected in local currency.
The geographic information on the segment’s turnover is as follows:
Nine Months Ended September 30, Percent Geographic Area 2021 2020 Change Change (in thousands) Americas
$ 121,254 $ 103,422 $ 17,83217 % Europe 66,595 64,044 2,551 4 % Asia Pacific 20,414 15,273 5,141 34 % Total revenues $ 208,263 $ 182,739 $ 25,52414 %
$25.5 million, or approximately 14%, for the nine months of 2021. The increase in revenues in the Americasand Asia Pacificwas primarily attributable to an increase in our Advisory service line. The increase in revenues in Europewas primarily attributable to the increase in our Research service line. The translation of foreign currency revenues into U.S.dollars positively impacted performance in Europeand Asia Pacificcompared to the
prior year. Operating Expenses The following table presents a breakdown of our operating expenses by category: Nine Months Ended September 30, Percent Operating Expenses 2021 2020 Change Change (in thousands) Direct costs and expenses for advisors
$ 127,412 $ 111,539 $ 15,87314 % Selling, general and administrative 58,768 60,792 (2,024) (3) % Depreciation and amortization 3,962 4,641 (679) (15) % Total operating expenses $ 190,142 $ 176,972 $ 13,1707 % 19
Total operating expenses increased
$13.2 million, or approximately 7%, for the nine months of 2021. The increase in operating expenses were primarily due to higher: compensation costs of $11.9 millionand contract labor of $9.9 million. These costs were partially offset by lower: travel and entertainment expenses of $4.7 million, non-cash stock based compensation of $1.5 million, bad debt expense of $0.8 million, restructuring costs of $0.5 million, and communication costs of $0.3 million. Depreciation and amortization expense in the nine months of 2021 and 2020 was $4.0 millionand $4.6 million, respectively. The decrease of $0.7 millionin depreciation and amortization expense was primarily due to prior year intangible assets that are now fully amortized. Our fixed assets consist of furniture, fixtures, equipment (mainly personal computers) and leasehold improvements. Depreciation expense is generally computed by applying the straight-line method over the estimated useful lives of assets. We also capitalize certain costs associated with the purchase and development of internal-use software, system conversions and website development costs. These costs are amortized over the estimated useful life of the software or system. We amortize our intangible assets (e.g. client relationships and databases) over their estimated useful lives. Goodwillrelated to acquisitions is not amortized, but is subject to annual impairment testing and interim impairment tests, if triggering events are identified.
Other income (expenses), net
The following table presents a breakdown of other income (expenses), net:
Nine Months Ended September 30, Percent Other income (expense), net 2021 2020 Change Change (in thousands) Interest income
$ 196 $ 188 $ 84 % Interest expense (1,794) (2,890) 1,096 38 %
Foreign currency (loss) gain (2) 14 (16) (114) % Total other income (expense), net
$ (1,600) $ (2,688) $ 1,088
The total decrease in
Income Tax Expense
Our quarterly effective tax rate varies from period to period based on the mix of earnings among the various state and foreign tax jurisdictions in which business is conducted and the level of non-deductible expenses projected to be incurred during the current fiscal year. Our effective tax rate for the nine months ended
September 30, 2021was 27.7% compared to 57.6% for the nine months ended September 30, 2020. The difference for the nine months ended September 30, 2021was primarily due to the impact of earnings and losses in certain foreign jurisdictions and the impact of vesting of restricted stock units. The Company's effective tax rate for the nine months ended September 30, 2021was higher than the statutory rate primarily due to the impact of vesting of restricted stock units. There were no significant changes in uncertain tax position reserves or valuation allowances during the nine months ended September 30, 2021.
NON GAAP FINANCIAL PRESENTATION
This management's discussion and analysis presents supplemental measures of our performance that are derived from our consolidated financial information but are not presented in accordance with accounting principles generally accepted in
the United States of America("GAAP"). We refer to these financial measures, which are considered "non-GAAP financial measures" under SECrules, as adjusted EBITDA, adjusted net income, and adjusted earnings per diluted share, each as defined below. See "Non-GAAP Financial Measures" below for information about our use of these non-GAAP financial measures, including our reasons for including these measures and reconciliations of each non-GAAP financial measure to the most directly comparable GAAP financial measure. 20 NON-GAAP FINANCIAL MEASURES
We use non-GAAP financial measures to supplement the financial information presented on a GAAP basis. We provide adjusted EBITDA (defined as net income, plus interest, taxes, depreciation and amortization, foreign currency transaction gains/losses, non-cash stock compensation, change in contingent consideration, acquisition-related costs, severance, integration and other expense, and financing-related costs), adjusted net income (defined as net income, plus amortization of intangible assets, non-cash stock compensation, foreign currency transaction gains/losses, change in contingent consideration, acquisition-related costs, severance, integration and other expense, financing-related costs, and write-off of deferred financing costs on a tax-adjusted basis) and adjusted net income per diluted share, excluding the net of tax effect of the items set forth in the table below. These are non-GAAP measures that the Company believes provide useful information to both management and investors by excluding certain expenses and financial implications of foreign currency translations that management believes are not indicative of ISG's core operations. These non-GAAP measures are used by the Company to evaluate the Company's business strategies and management's performance. These non-GAAP financial measures exclude non-cash and certain other special charges that many investors believe may obscure the user's overall understanding of the Company's current financial performance and the Company's prospects for the future. We believe that these non-GAAP measures provide useful information to investors because they improve the comparability of the financial results between periods and provide for greater transparency of key measures used to evaluate the Company's performance. Three Months Ended Nine Months Ended September 30, September 30, 2021 2020 2021 2020 (in thousands) Net income
$ 4,421 $ 2,055 $ 11,951 $ 1,307Interest expense (net of interest income) 473 626 1,598 2,702 Income taxes 2,370 227 4,570 1,772 Depreciation and amortization 1,347 1,581 3,962 4,641 Change in contingent consideration 47 48 113 48 Acquisition-related costs (1) 18 100 (14) 350 Severance, integration and other expense 41 1,362 1,341 1,730 Financing-related costs - - - 92 Foreign currency transaction (gain) loss (1) 66 2 (14) Non-cash stock compensation 1,499 2,159 5,075 6,544 Adjusted EBITDA $ 10,215 $ 8,224 $ 28,598 $ 19,172Three Months Ended Nine Months Ended September 30, September 30, 2021 2020 2021 2020 (in thousands) Net income $ 4,421 $ 2,055 $ 11,951 $ 1,307Non-cash stock compensation 1,499 2,159 5,075 6,544 Intangible amortization 643 913 2,001 2,618
Change in contingent consideration 47 48 113 48 Acquisition-related costs (1) 18 100 (14) 350 Severance, integration and other expense 41 1,362 1,341 1,730 Financing-related costs - - - 92 Write-off of deferred financing costs - - - 167 Foreign currency transaction (gain) loss (1)
66 2 (14) Tax effect (2) (719) (1,487) (2,726) (3,691) Adjusted net income
$ 5,949 $ 5,216 $ 17,743 $ 9,15121 Three Months Ended Nine Months Ended September 30, September 30, 2021 2020 2021 2020 Net income per diluted share $ 0.09 $ 0.04 $ 0.23 $ 0.03Non-cash stock compensation 0.03 0.04 0.10 0.13 Intangible amortization 0.01 0.02 0.04 0.05
Change in contingent consideration 0.00 0.00 0.00 0.00 Acquisition-related costs (1) 0.00 0.00 (0.00) 0.01 Severance, integration and other expense 0.00 0.03 0.02 0.03 Financing-related costs - - - 0.00 Write-off of deferred financing costs - - - 0.00 Foreign currency transaction (gain) loss (0.00) 0.00 0.00 (0.00) Tax effect (2) (0.01) (0.03) (0.05) (0.07) Adjusted net income per diluted share
$ 0.12 $ 0.10
(1) Includes charges related to acquisition costs and non-cash fair value
adjustments to pre-acquisition contract liabilities.
(2) Marginal tax rate of 32%, reflecting
11% attributable to
U.S.states and foreign jurisdictions.
LIQUIDITY AND CAPITAL RESOURCES
Liquidity Our primary sources of liquidity are cash flows from operations, existing cash and cash equivalents and our revolving credit facility. Operating assets and liabilities consist primarily of receivables from billed and unbilled services, accounts payable, accrued expenses, and accrued payroll and related benefits. The volume of billings and timing of collections and payments affect these account balances. As of
September 30, 2021, our cash, cash equivalents and restricted cash were $54.6 million, a net increase of $10.8 millionfrom December 31, 2020, which was primarily attributable to the following:
? net cash provided by operating activities of
? treasury shares repurchased from
? payments related to withholding tax for stock-based compensation of
? repayment of the principal on the loans of
? cash dividends paid to shareholders of
Capital Resources On
March 10, 2020, the Company amended and restated its senior secured credit facility to include an $86.0 millionterm facility and a $54.0 millionrevolving facility (the "2020 Credit Agreement"). The material terms under the 2020 Credit Agreement are as follows:
? The Term Loan Facility and the Revolving Credit Facility each have a term
The credit facility is secured by all of the interests held by the
Company, and its direct and indirect national subsidiaries and, subject to
? agreed exceptions, direct and indirect “first rank” foreigners of the Company
subsidiaries and perfect first-rank security in all
The tangible and tangible assets of the Company and of its direct and indirect national subsidiaries
intangible assets. 22
The existing and future direct and indirect domestic assets of the wholly-owned Company
? subsidiaries guarantee the Company’s obligations under the
At the option of the Company, the credit facility bears interest at an annual rate
equal to (i) the “base rate” (which is the greater of (a) the rate
publicly announced from time to time by the administrative officer as his “first
? “, (b) the federal funds rate plus 0.5% per annum and (c) the Eurodollar
Rate, increased by 1.0%, increased by the applicable margin (as defined below) or (ii)
Eurodollar rate (adjusted for maximum reserves) as determined by the
Administrative agent, increased by the applicable margin. The applicable margin is
quarterly adjusted based on the Company’s quarterly leverage ratio.
The term loan is repayable in nineteen consecutive quarterly installments of
the outstanding principal of the term loan at the maturity date.
Mandatory repayments of term loans will be required from (subject to
exceptions) (i) 100% of the proceeds from sales of assets by the Company and its
? subsidiaries, (ii) 100% of the net proceeds from debt and equity issues
by the Company and its subsidiaries and (iii) 100% of the net proceeds of
recovery and conviction claims from the Company and its subsidiaries.
The senior secured credit facility contains a number of covenants which, between
other things, impose restrictions on matters usually reserved for seniors
secured credit facilities, including restrictions on indebtedness (including
warranty obligations), privileges, fundamental changes, sales or alienation of
? property or assets, investments (including loans, advances, guarantees and
acquisitions), transactions with affiliates, dividends and other payments in
compliance with share capital, optional payments and changes in other elements
debt securities, negative collateral and restricting agreements
breakdowns and changes of activity sectors. In addition, the Company is
respect a total leverage ratio and a fixed charge coverage ratio.
The senior secured credit facility contains typical events of default,
? including cross default to other material agreements, lack of judgment and
change of control.
The Company's financial statements include outstanding borrowings of
$75.6 millionat September 30, 2021and $78.8 millionat December 31, 2020, which are carried at amortized cost. The fair value of debt is classified within Level 3 of the fair value hierarchy. The fair value of the Company's outstanding borrowings is approximately $74.7 millionand $77.7 millionat September 30, 2021and December 31, 2020, respectively. The fair values of debt have been estimated using a discounted cash flow analysis based on the Company's incremental borrowing rate for similar borrowing arrangements. The incremental borrowing rate used to discount future cash flows 1.9%. The Company also considered recent transactions of peer group companies for similar instruments with comparable terms and maturities as well as an analysis of current market conditions and interest rates. As of September 30, 2021and December 31, 2020, there were no borrowings under the revolver. We anticipate that our current cash and the ongoing cash flows from our operations will be adequate to meet our working capital, capital expenditure, and debt financing needs for at least the next twelve months. The anticipated cash needs of our business could change significantly if we pursue and complete additional business acquisitions, if our business plans change, if economic conditions change from those currently prevailing or from those now anticipated, or if other unexpected circumstances arise that may have a material effect on the cash flow or profitability of our business, including the potential impacts of the COVID-19 pandemic and the severity of the related economic downturn and length of time of an economic recovery. If we require additional capital resources to grow our business, either internally or through acquisition, or maintain liquidity, we may seek to sell additional equity securities or to secure additional debt financing. The sale of additional equity securities or certain forms of debt financing could result in additional dilution to our stockholders. We may not be able to obtain financing arrangements in amounts or on terms acceptable to us in the future. The Company has financial covenants underlying its debt which require a Debt to adjusted EBITDA ratio of 3.25. In light of the pandemic, there is uncertainty regarding the marketplace demand for the Company's services and thus the Company's future revenue generation. Accordingly, in light of this uncertainty, the Company has developed plans to further reduce operating expenses to the extent more prolonged revenue shortfalls are experienced which would prevent 23
the Company to comply with its financial commitments. The Company is currently meeting its financial commitments.
August 2021, the Company announced it will pay a third-quarter dividend of $0.03per share of common stock. The Company expects to pay a total cash dividend of $0.12per share over the four quarters ending March 2022. On November 4, 2021, the Board of Directors approved the fourth-quarter dividend of $0.03per share, payable December 17, 2021, to shareholders of record as of December 3, 2021. The dividends are accounted for as a decrease to Stockholders' Equity. All future dividends will be subject to Board approval.
Off-balance sheet provisions
We do not have any off-balance sheet financing arrangements or liabilities, guarantee contracts, retained or contingent interests in transferred assets or any obligation arising out of a material variable interest in an unconsolidated entity.
Recently published accounting position papers
See note 3 to our condensed consolidated financial statements included elsewhere in this report.
Critical accounting policies and accounting estimates
Our discussion and analysis of our financial condition and results of operations is based upon our consolidated financial statements. We prepare these financial statements in conformity with
U.S.generally accepted accounting principles. As such, we are required to make certain estimates, judgments and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the periods presented. We base our estimates on historical experience, available information and various other assumptions we believe to be reasonable under the circumstances. On an on-going basis, we evaluate our estimates; however, actual results may differ from these estimates under different assumptions or conditions. There have been no material changes or developments in our evaluation of the accounting estimates and the underlying assumptions or methodologies that we believe to be Critical Accounting Policies and Estimates as disclosed in our Annual Report on Form 10-K, for the year ended December 31, 2020.
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