10-Q

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549 
 
FORM 10-Q 
 
(Mark One)
ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2015
or
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from            to            .
Commission File Number: 001-36730
 

INC RESEARCH HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
Delaware
 
27-3403111
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification Number)
3201 Beechleaf Court, Suite 600, Raleigh, North Carolina 27604-1547
(Address of principal executive offices and Zip Code)
(919) 876-9300
(Registrant’s telephone number, including area code)

 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ý    No  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ý    No  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one): 
Large accelerated filer
 
¨
  
Accelerated filer
 
¨
Non-accelerated filer
 
x (Do not check if a smaller reporting company)
  
Smaller reporting company
 
¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  ý
As of October 22, 2015, there were approximately 56,483,381 shares of the registrant's common stock outstanding.
 



Table of Contents






INC RESEARCH HOLDINGS, INC.
FORM 10-Q


TABLE OF CONTENTS
 
 
 
 
Page
Item 1.
 
 
 
 
 
Item 2.
Item 3.
Item 4.
 
 
Item 1.
Item 1A.
Item 2.
Item 5.
Item 6.
 
 


2



Table of Contents



PART I. FINANCIAL INFORMATION
Item 1. Financial Statements

INC RESEARCH HOLDINGS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2015
 
2014
 
2015
 
2014
 
(In thousands, except per share data)
Net service revenue
$
234,494

 
$
207,763

 
$
673,384

 
$
596,003

Reimbursable out-of-pocket expenses
115,651

 
90,861

 
322,970

 
255,141

    Total revenue
350,145

 
298,624

 
996,354

 
851,144

 
 
 
 
 
 
 
 
Costs and operating expenses:
 
 
 
 
 
 
 
Direct costs
135,530

 
129,557

 
398,988

 
381,102

Reimbursable out-of-pocket expenses
115,651

 
90,861

 
322,970

 
255,141

Selling, general and administrative
40,429

 
38,185

 
113,354

 
104,332

Restructuring and other costs
(28
)
 
2,951

 
1,566

 
6,126

Transaction expenses
403

 

 
922

 
2,042

Asset impairment charges

 

 
3,931

 
17,245

Depreciation
4,357

 
4,734

 
13,543

 
16,628

Amortization
9,462

 
9,597

 
28,413

 
23,337

    Total operating expenses
305,804

 
275,885

 
883,687

 
805,953

Income from operations
44,341

 
22,739

 
112,667

 
45,191

 
 
 
 
 
 
 
 
Other income (expense), net:
 
 
 
 
 
 
 
Interest income
28

 
26

 
157

 
226

Interest expense
(3,065
)
 
(12,929
)
 
(12,687
)
 
(41,853
)
Loss on extinguishment of debt

 

 
(9,795
)
 

Other income (expense), net
(1,003
)
 
5,136

 
4,138

 
6,177

Total other expense, net
(4,040
)
 
(7,767
)
 
(18,187
)
 
(35,450
)
Income before provision for income taxes
40,301

 
14,972

 
94,480

 
9,741

Income tax benefit (expense)
(2,487
)
 
(2,417
)
 
(8,089
)
 
16,569

Net income
37,814

 
12,555

 
86,391

 
26,310

Class C common stock dividends

 
(125
)
 

 
(375
)
Net income attributable to common stockholders
$
37,814

 
$
12,430

 
$
86,391

 
$
25,935

 
 
 
 
 
 
 
 
Earnings per share attributable to common stockholders:
 
 
 
 
 
 
 
Basic
$
0.67

 
$
0.24

 
$
1.47

 
$
0.50

Diluted
$
0.64

 
$
0.24

 
$
1.42

 
$
0.50

Weighted average common shares outstanding:
 
 
 
 
 
 
 
Basic
56,325

 
51,905

 
58,583

 
51,900

Diluted
58,764

 
52,514

 
60,826

 
52,215


The accompanying notes are an integral part of these condensed consolidated financial statements.

3



Table of Contents



INC RESEARCH HOLDINGS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)

 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2015
 
2014
 
2015
 
2014
 
(In thousands)
Net income
$
37,814

 
$
12,555

 
$
86,391

 
$
26,310

Foreign currency translation adjustments, net
of tax benefit (expense) of $0, $(1,281), $0 and $44, respectively
(880
)
 
(8,927
)
 
(12,274
)
 
(11,029
)
Comprehensive income
$
36,934

 
$
3,628

 
$
74,117

 
$
15,281


The accompanying notes are an integral part of these condensed consolidated financial statements.



4



Table of Contents



INC RESEARCH HOLDINGS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
 
September 30, 2015
 
December 31, 2014
 
(In thousands, except share data)
ASSETS
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
136,091

 
$
126,453

Restricted cash
431

 
505

Accounts receivable:
 
 
 
Billed, net
176,952

 
130,270

Unbilled
153,795

 
118,101

Current portion of deferred income taxes
16,610

 
16,177

Prepaid expenses and other current assets
37,423

 
35,393

Total current assets
521,302

 
426,899

Property and equipment, net
39,734

 
43,725

Goodwill
552,838

 
556,863

Intangible assets, net
161,755

 
190,359

Deferred income taxes, less current portion
15,910

 
15,665

Other long-term assets
11,502

 
11,576

Total assets
$
1,303,041

 
$
1,245,087

LIABILITIES AND STOCKHOLDERS' EQUITY
 
 
 
Current liabilities:
 
 
 
Accounts payable
$
14,348

 
$
16,548

Accrued liabilities
110,505

 
111,655

Deferred revenue
337,279

 
246,902

Current portion of long-term debt

 
4,250

Current portion of capital lease obligations
53

 
441

Total current liabilities
462,185

 
379,796

Long-term debt, less current portion
475,000

 
415,277

Capital lease obligations, less current portion

 
11

Deferred income taxes
27,826

 
30,368

Other long-term liabilities
20,177

 
27,426

Total liabilities
985,188

 
852,878

Commitments and contingencies (Note 15)

 

Stockholders' equity:
 
 
 
Preferred stock, $0.01 par value; 30,000,000 authorized, 0 shares issued and outstanding at September 30, 2015 and December 31, 2014, respectively

 

Common stock, $0.01 par value; 600,000,000 shares authorized; 56,483,381 and 61,233,850 shares issued and outstanding at September 30, 2015 and December 31, 2014, respectively
565

 
612

Additional paid-in-capital
584,002

 
634,946

Accumulated other comprehensive loss
(38,474
)
 
(26,200
)
Accumulated deficit
(228,240
)
 
(217,149
)
Total stockholders' equity
317,853

 
392,209

Total liabilities and stockholders' equity
$
1,303,041

 
$
1,245,087


The accompanying notes are an integral part of these condensed consolidated financial statements.

5



Table of Contents



INC RESEARCH HOLDINGS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
 
Nine Months Ended September 30,
 
2015
 
2014
 
(In thousands)
Operating activities
 
 
 
Net income
$
86,391

 
$
26,310

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
41,956

 
39,965

Loss on extinguishment of debt
9,795

 

Stock repurchase costs
922

 

Amortization of capitalized loan fees
1,079

 
4,818

Stock-based compensation
3,288

 
2,305

Provision (recovery) for doubtful accounts
(440
)
 
2,811

Deferred income taxes
112

 
(22,233
)
Foreign currency adjustments
(2,302
)
 
(10,697
)
Asset impairment charges
3,931

 
17,245

Other adjustments
(152
)
 
388

Changes in operating assets and liabilities:
 
 
 
Accounts receivable billed and unbilled
(84,107
)
 
(11,373
)
Accounts payable and accrued liabilities
(2,085
)
 
18,546

Deferred revenue
93,753

 
51,338

Other assets and liabilities
(11,019
)
 
(2,095
)
Net cash provided by operating activities
141,122

 
117,328

Investing activities
 
 
 
Acquisition of business, net of cash acquired

 
(2,302
)
Purchase of property and equipment
(11,565
)
 
(17,739
)
Net cash used in investing activities
(11,565
)
 
(20,041
)
Financing activities
 
 
 
Payments on long-term debt
(475,001
)
 
(5,453
)
Proceeds from issuance of long-term debt
525,000

 

Payments of debt financing costs
(4,987
)
 

Payments related to business combinations
(973
)
 

Principal payments toward capital lease obligations
(398
)
 
(2,455
)
Payments of stock repurchase costs
(922
)
 

Payments for repurchase of common stock
(150,000
)
 
(38
)
Payments related to tax withholding for stock-based compensation
(3,161
)
 

Proceeds from the exercise of stock options
1,058

 
108

Dividends paid

 
(375
)
Net cash used in financing activities
(109,384
)
 
(8,213
)
Effect of exchange rate changes on cash and cash equivalents
(10,535
)
 
(243
)
Net change in cash and cash equivalents
9,638

 
88,831

Cash and cash equivalents at the beginning of the period
126,453

 
96,972

Cash and cash equivalents at the end of the period
$
136,091

 
$
185,803

The accompanying notes are an integral part of these condensed consolidated financial statements.

6



Table of Contents



INC RESEARCH HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

1. Basis of Presentation and Changes in Significant Accounting Policies
Principal Business
INC Research Holdings, Inc. (the "Company") is a Contract Research Organization ("CRO") providing a comprehensive range of clinical development services for the biopharmaceutical and medical device industries to its customers across various therapeutic areas. The international infrastructure of the Company’s development business enables it to conduct Phase I to Phase IV clinical trials globally for pharmaceutical, biotechnology and medical device companies.
Unaudited Interim Financial Information
The Company prepared the accompanying unaudited condensed consolidated financial statements in accordance with generally accepted accounting principles in the United States of America ("U.S. GAAP") for interim financial information. The significant accounting policies followed by the Company for interim financial reporting are consistent with the accounting policies followed for annual financial reporting. The unaudited condensed consolidated financial statements, in management’s opinion, include all adjustments of a normal recurring nature necessary for a fair presentation. The information included in this Quarterly Report on Form 10-Q should be read in conjunction with the Company's audited consolidated financial statements and notes thereto included in the Company's Annual Report on Form 10-K for the year ended December 31, 2014 filed with the Securities and Exchange Commission on February 24, 2015. The results of operations for the three and nine months ended September 30, 2015 are not necessarily indicative of the results to be expected for the year ending December 31, 2015 or any other future period. The amounts in the December 31, 2014 consolidated condensed balance sheet are derived from the audited financial statements as of December 31, 2014.
Recently Issued Accounting Standards
In May 2014, the Financial Accounting Standards Board ("FASB") issued ASU No. 2014-09, Revenue from Contracts with Customers. ASU 2014-09 will eliminate transaction- and industry-specific revenue recognition guidance under current U.S. GAAP and replace it with a principle based approach for determining revenue recognition. ASU 2014-09 will require that companies recognize revenue based on the value of transferred goods or services as they occur in the contract. The ASU also will require additional disclosure about the nature, amount, timing and uncertainty of revenue and cash flows arising from customer contracts, including significant judgments and changes in judgments and assets recognized from costs incurred to obtain or fulfill a contract. In July 2015, the FASB issued ASU 2015-14, Revenue from Contracts with Customers: Deferral of the Effective Date, which delayed the effective date of ASU 2014-09 by one year and modified the standard to allow early adoption. For public entities, the standard is now effective for reporting periods beginning after December 15, 2017. Earlier application is permitted only as of annual reporting periods beginning after December 15, 2016, including interim reporting periods within that reporting period. Entities can transition to the standard either retrospectively or as a cumulative-effect adjustment as of the date of adoption. The Company is currently evaluating the impact of the adoption of this standard on its consolidated financial statements.
In April 2015, the FASB issued ASU No. 2015-03, Interest - Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs. The amendments in this ASU require that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability, consistent with debt discounts, and is to be applied on a retrospective basis. ASU 2015-03 is effective for financial statements issued for fiscal years beginning after December 15, 2015, and interim periods within those fiscal years. Early adoption of the amendments is permitted. As of September 30, 2015, the Company had debt issuance costs related to

7



Table of Contents



its term loans of $0.8 million in prepaid expenses and other current assets and $2.4 million in other long-term assets that would be reclassified to long-term debt, net.
In April 2015, the FASB issued ASU No. 2015-05, Customer's Accounting For Fees Paid In A Cloud Computing Arrangement, which provides guidance for a customer's accounting for cloud computing costs. Under ASU 2015-05, if a software cloud computing arrangement contains a software license, customers should account for the license element of the arrangement in a manner consistent with the acquisition of other software licenses. If the arrangement does not contain a software license, customers should account for the arrangement as a service contract. This standard may be applied either prospectively to all arrangements entered into or materially modified after the effective date, or retrospectively. ASU 2015-05 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015, and early adoption is permitted. The Company is currently evaluating the impact of the adoption of this standard on its consolidated financial statements.
In August 2015, the FASB issued ASU No. 2015-15, Interest - Imputed Interest (Subtopic 835-30): Presentation and Subsequent Measurement of Debt Issuance Costs Associated with Line-of-Credit Arrangements, which is effective immediately and clarifies that the guidance in ASU 2015-03 does not apply to line-of-credit arrangements. Accordingly, while ASU 2015-15 requires that debt issuance costs be presented in the balance sheet as a direct reduction from the carrying value of the associated debt liability, ASU 2015-15 states that entities may continue presenting unamortized debt issuance costs for line-of-credit arrangements as an asset. Accordingly, the Company will defer costs associated with line-of-credit arrangements as an asset and subsequently amortize such costs ratably over the term of the arrangement.
2. Financial Statement Details
Accounts receivable billed, net
Accounts receivable billed, net of provision for doubtful accounts, consisted of the following (in thousands):
 
September 30, 2015
 
December 31, 2014
Accounts receivable, billed
$
180,234

 
$
133,997

Less provision for doubtful accounts
(3,282
)
 
(3,727
)
Accounts receivable billed, net
$
176,952

 
$
130,270

Goodwill and Long-Lived Assets
In connection with the annual goodwill impairment analysis performed in the fourth quarter of 2014, the Company's Phase I Services reporting unit failed Step I of the goodwill impairment test. The Company performed Step II of the goodwill impairment test to asses if the goodwill has been impaired, which resulted in no further impairment during 2014. During the first quarter of 2015, the Company continued to observe deteriorating performance due to reduced revenue resulting from cancellations and lower than expected new business awards in its Phase I Services asset group and reporting unit. This resulted in a triggering event requiring an evaluation of both long-lived assets and goodwill for potential impairment. As of the date of this evaluation, there were no remaining intangible assets associated with Phase I Services.
In accordance with the authoritative guidance for Intangibles - Goodwill and Other under ASC 350, the impairment test of goodwill was performed at the reporting unit level and involved a two-step process. The first step involved comparing the fair value of the Phase I Services reporting unit with the carrying amount of its assets and liabilities, including goodwill, as goodwill was specifically assigned to this reporting unit. This impairment test of goodwill determined that the Phase I Services reporting unit’s fair value was less than the carrying amount of its assets and liabilities, requiring the Company to proceed

8



Table of Contents



with the second step of the goodwill impairment test. In the second step of the testing process, the impairment loss was determined by comparing the implied fair value of the Phase I Services reporting unit’s goodwill to the recorded amount of goodwill.  The implied fair value was calculated based on discounted estimated future cash flows. The estimated future cash flows were based upon, among other things, certain assumptions about expected future operating performance, growth rates and other factors. This first quarter evaluation resulted in a $2.9 million impairment charge, which represented the remaining goodwill balance of the Phase I Services reporting unit.
The changes in carrying amount of goodwill for the nine months ended September 30, 2015 were as follows (in thousands):
 
Total
 
Clinical Development Services
 
Phase I Services
 
Global Consulting
Balance at December 31, 2014:
 
 
 
 
 
 
 
Gross goodwill
$
570,106

 
$
542,683

 
$
8,142

 
$
19,281

Accumulated impairment losses
(13,243
)
 

 
(5,219
)
 
(8,024
)
Total goodwill and accumulated impairment losses
556,863

 
542,683

 
2,923

 
11,257

2015 Activity:
 
 
 
 
 
 
 
Impairment of goodwill
(2,923
)
 

 
(2,923
)
 

Impact of foreign currency translation
(1,102
)
 
(1,102
)
 

 

Balance at September 30, 2015:
 
 
 
 
 
 
 
Gross goodwill
569,004

 
541,581

 
8,142

 
19,281

Accumulated impairment losses
(16,166
)
 

 
(8,142
)
 
(8,024
)
Total goodwill and accumulated impairment losses
$
552,838

 
$
541,581

 
$

 
$
11,257

The Company also performed an impairment test of the long-lived assets by comparing the carrying amount of Phase I Services asset group to the sum of their undiscounted expected future cash flows. In accordance with the authoritative guidance for Property, Plant and Equipment under ASC 360, impairment exists if the sum of the undiscounted expected future cash flows is less than the carrying amount of its related group of assets.  If impairment exists, the impairment loss is measured and recorded based on the amount by which the carrying amount of the long-lived asset (asset group) exceeds its fair value. The indirect cost valuation approach was used to estimate the fair value. Under this valuation approach, the Company estimated the fair value by applying an index or trend factor to the historical cost. As a result of this evaluation, the Company recorded a long-lived assets impairment charge during the first quarter of 2015 of $1.0 million. As part of this evaluation, the Company also reviewed the estimated useful lives assigned to long-lived assets and determined no adjustment was deemed necessary at that time.
As a result of these evaluations, the Company recorded total asset impairment charges of $3.9 million for the nine months ended September 30, 2015.

9



Table of Contents



Accrued liabilities
Accrued liabilities consisted of the following (in thousands):
 
September 30, 2015
 
December 31, 2014
Compensation, including bonuses, fringe benefits, and payroll taxes
$
62,112

 
$
64,555

Accrued interest
413

 
2,678

Accrued taxes
13,040

 
10,784

Accrued rebates to customers
9,037

 
7,742

Accrued professional services
5,723

 
6,614

Accrued restructuring costs, current portion
1,912

 
1,777

Contingent consideration payable on acquisitions

 
1,113

Current portion of deferred income tax liability
338

 
319

Other liabilities
17,930

 
16,073

Total accrued liabilities
$
110,505

 
$
111,655

Other long-term liabilities
Other long-term liabilities consisted of the following (in thousands):
 
September 30, 2015
 
December 31, 2014
Uncertain tax positions
$
9,696

 
$
13,012

Accrued restructuring costs, less current portion
2,937

 
4,367

Other liabilities
7,544

 
10,047

Total other long-term liabilities
$
20,177

 
$
27,426

Other income (expense), net
Other income (expense), net consisted of the following (in thousands):
 
Three Months Ended
 
Nine Months Ended
 
September 30, 2015
 
September 30, 2014
 
September 30, 2015
 
September 30, 2014
Net realized foreign currency gain (loss)
$
1,092

 
$
(544
)
 
$
1,099

 
$
(4,636
)
Net unrealized foreign currency gain (loss)
(2,161
)
 
5,756

 
2,302

 
10,697

Other, net
66

 
(76
)
 
737

 
116

Total other income (expense), net
$
(1,003
)
 
$
5,136

 
$
4,138

 
$
6,177

3. Business Combinations
Acquisition of MEK Consulting
On March 5, 2014, the Company acquired stock and assets of MEK Consulting, consisting of MEK Consulting Egypt Ltd., MEK Consulting Danismanlik Ltd. Sti., MEK Consulting Hellas EPE, and MEK Consulting SARL (MEK Consulting), collectively referred to as MEK. MEK is a full service CRO with operations in Egypt, Greece, Jordan, Lebanon, and Turkey. The aggregate purchase price for the acquisition totaled $4.0 million, which consisted of (i) $3.0 million cash, of which $0.5 million was placed

10



Table of Contents



in escrow for one year following the closing, to satisfy potential indemnification claims, and (ii) $1.0 million contingent consideration, payable, if earned during the one-year period following the closing. In addition, the purchase agreement included provisions for $2.0 million of retention payments to operational staff and key employees that will be accounted for as compensation expense and expensed as earned during the three year period following the closing.
During the second quarter of 2015, the Company finalized the amount of the contingent consideration based on the achievement of the pre-agreed targets. The final contingent consideration totaled $0.8 million and, as a result, the Company released $0.2 million of accrued liabilities. The reduction in the contingent consideration was recorded in the "Other income (expense), net" line item in the Condensed Consolidated Statements of Operations. Additionally, the Company paid the $0.5 million of cash previously withheld to cover potential indemnification claims to the former owners of MEK.
Since the period of acquisition, the Company has recognized a total of $1.4 million of compensation expense for retention of operational staff and key employees, including $0.1 million and $0.3 million in the three months ended September 30, 2015 and 2014, and $0.4 million and $0.6 million in the nine months ended September 30, 2015 and 2014, respectively. This compensation expense is included within "Direct costs" line item in the Condensed Consolidated Statements of Operations. The remaining $0.6 million of the retention payments will be accrued and expensed ratably over the remaining contingent employment periods, to the extent it is earned.
4. Long-Term Debt
2015 Credit Agreement
On May 14, 2015, the Company entered into a five-year $675.0 million credit agreement ("2015 Credit Agreement") which is comprised of a $525.0 million term loan A ("2015 Term Loan") and a $150.0 million revolving line of credit ("2015 Revolver"). All obligations under the 2015 Credit Agreement are guaranteed by the Company and certain of the Company's direct and indirect wholly-owned domestic subsidiaries. The obligations under the 2015 Credit Agreement are secured by substantially all of the assets of the Company and the guarantors.
As of September 30, 2015, $475.0 million was outstanding on the 2015 Term Loan. Beginning on September 30, 2015 and continuing through March 31, 2020, the 2015 Term Loan has scheduled quarterly principal payments of the initial principal borrowed of 1.25%, or $6.6 million per quarter in year 1; 1.875%, or $9.8 million per quarter in years 2 and 3; 2.50%, or $13.1 million per quarter in year 4; and 3.125%, or $16.4 million per quarter in year 5; with the remaining outstanding principal due on May 14, 2020. On June 15, 2015, the Company made a $50.0 million prepayment on the term loan which will be applied against the regularly-scheduled quarterly principal payments. As such, the Company will not be required to make a mandatory principal payment until March 31, 2017.
The 2015 Credit Agreement provides Eurodollar Rate and Base Rate term loans. Eurodollar Rate term loans are one-, two-, three-, or six-month loans (or, with permission, twelve-month) and interest is due on the last day of each three-month period of the loans. Base Rate term loans have interest due on the last day of each calendar quarter. In advance of the last day of the then-current type of loan, the Company may select a new type of loan, so long as it does not extend beyond May 14, 2020.
The 2015 Revolver includes letters of credit (LOC) and swingline loans available in an amount not to exceed $15.0 million each. Fees are charged on all outstanding LOCs at an annual rate equal to the margin in effect on Eurodollar Rate revolving loans plus fronting fees. The fee is payable quarterly in arrears on the last day of the calendar quarter after the issuance date until the LOC expires. As of September 30, 2015, there were approximately $1.0 million of LOCs and no swingline loans outstanding, leaving $149.0 million in available borrowings under the 2015 Revolver.
The 2015 Term Loan and 2015 Revolver bear interest at a rate per annum equal to, at the Borrower's option, either: (i) a base rate determined by reference to the highest of: (a) the Prime Rate in effect on such date, (b) the Federal Funds Effective Rate in effect on such day plus 1/2 of 1.00%; and (c) the sum of (1) the Eurodollar Rate that would be payable on such day for the Eurodollar Rate Loan with a one-

11



Table of Contents



month interest period, and (2) 1.00%; or (ii) a LIBOR rate determined by reference to the costs of funds for Eurodollar deposits for the interest period relevant to such borrowing adjusted for certain reserve requirements (Eurodollar Rate).
The applicable margin with respect to Base Rate is between 0.50% and 1.25% and the applicable margin with respect to the Eurodollar Rate borrowings is between 1.50% and 2.25% depending on the "Secured Net Leverage Ratio" (as defined in the 2015 Credit Agreement). The Company also pays a quarterly Commitment Fee between 0.20% and 0.35% on the average daily unused balance of the 2015 Revolver depending on the Secured Net Leverage Ratio at the adjustment date. As of September 30, 2015, the interest rate on the 2015 Term Loan was 2.21%.
The 2015 Credit Agreement permits the Borrower to increase term loan or revolving commitments under the term loan facility and/or revolving credit facility and/or to request the establishment of one or more new term loan facilities and/or revolving facilities in an aggregate amount not to exceed $150.0 million if certain net leverage requirements are met. The availability of such additional capacity is subject to, among other things, receipt of commitments from existing lenders or other financial institutions.
The Company's maturities of obligations under the 2015 Credit Agreement for the years ending December 31, are as follows (in thousands):
2015 (remaining 3 months)
$

2016

2017
35,313

2018
45,938

2019
59,062

2020
334,687

Total long-term debt
$
475,000

2015 Refinancing
On May 14, 2015, the Company entered into the 2015 Credit Agreement and repaid all of its outstanding obligations under the 2014 Credit Agreement and paid transaction costs associated with the 2015 Credit Agreement. In addition, the Company recognized a $9.4 million loss on extinguishment of the 2014 Credit Agreement which was comprised of $5.1 million of unamortized discount and $4.3 million of unamortized debt issuance costs. In June 2015, the Company made a prepayment of $50.0 million under the 2015 Credit Agreement. As a result, the Company recognized an additional $0.4 million loss on extinguishment of debt.
The 2014 Credit Agreement was comprised of a $425.0 million term loan B, a $100.0 million revolving line of credit, and letter of credit and swingline facilities. The term loan had scheduled quarterly principal payments of 0.25% of the aggregate initial principal borrowed, or $1.1 million per quarter, with the remaining outstanding principal due on November 13, 2021. The 2014 Credit Agreement bore interest at approximately 4.5% during 2015 prior to repayment.
For the nine months ended September 30, 2014, the Company had outstanding debt under the 2011 Credit Agreement which was comprised of a $300.0 million term loan, a $75.0 million revolving line of credit and a letter of credit and swingline facilities. As of September 30, 2014, the outstanding balance under the 2011 term loan was $287.7 million and the combined interest rate was 4.25%. Additionally, at September 30, 2014 the Company had an outstanding principal balance of $300.0 million in secured Senior Notes bearing interest of 11.5% annually. In connection with the Company's initial public offering in November 2014, the Company repaid the 2011 Credit Agreement and Senior Notes and entered into the 2014 Credit Agreement.

12



Table of Contents



Debt Covenants
The 2015 Credit Agreement contains usual and customary restrictive covenants that, among other things, place limitations on the Company's ability to pay dividends or make other restricted payments; prepay, redeem or purchase debt; incur liens; make loans and investments; incur additional indebtedness; amend or otherwise alter debt and other material documents; make acquisitions and dispose of assets; transact with affiliates; and engage in businesses that are not related to the Company's existing business.
In addition, the 2015 Credit Agreement contains financial covenants which require the Company to maintain a Secured Net Leverage Ratio and Interest Coverage Ratio as of the last day of any four consecutive fiscal quarters. The Secured Net Leverage Ratio is a relationship between the level of secured outstanding borrowings, net of a certain amount of cash not to exceed $75.0 million, and Consolidated EBITDA. The Interest Coverage Ratio is a relationship between Consolidated EBITDA and Consolidated Interest Expense. Specifically, these covenants require the Company to maintain a maximum Secured Net Leverage Ratio of no more than 4 to 1 and a minimum Interest Coverage Ratio of no less than 3 to 1. The Company was in compliance with its debt covenants for all periods through September 30, 2015.
Debt Discounts and Debt Issuance Costs
The Company recorded debt issuance costs of approximately $4.2 million and $4.6 million as of September 30, 2015 and December 31, 2014, respectively. These costs are included as a component of other assets and are being amortized as a component of interest expense using the effective interest method over the term of the debt arrangements.
Borrowings under the Company’s 2014 Credit Agreement were issued net of a discount. As a result, the Company had a net discount balance of $5.5 million as of December 31, 2014. The discount was recorded as a reduction of the principal balance and was accreted up as a component of interest expense using the effective interest method over the term of the debt arrangement.
5. Fair Value Measurements
At September 30, 2015 and December 31, 2014, the Company’s financial instruments included cash and cash equivalents, restricted cash, accounts receivable, accounts payable, accrued liabilities and debt. The fair value of the cash and cash equivalents, restricted cash, accounts receivable, accounts payable and accrued liabilities approximate their respective carrying amounts based on the liquidity and short-term nature of these instruments.
The fair value of the long-term debt is determined based on market prices for similar financial instruments or model-derived valuations based on observable inputs and falls under Level 2 of the fair value hierarchy as defined in the authoritative guidance.  The estimated fair value of the long-term debt was $475.0 million and $423.4 million at September 30, 2015 and December 31, 2014, respectively. 
The Company does not have any recurring fair value measurements. There were no transfers between Level 1, Level 2 or Level 3 during the nine months ended September 30, 2015.
Non-Recurring Fair Value Measurements
Certain assets, including goodwill and identifiable intangible assets, are carried on the accompanying condensed consolidated balance sheets at cost and are not remeasured to fair value on a recurring basis. These assets are tested for impairment annually and when a triggering event occurs. As of September 30, 2015 and December 31, 2014, these assets carried on the balance sheet and not remeasured to fair value on a recurring basis total $714.6 million and $747.2 million, respectively.

13



Table of Contents



The fair value of these assets falls under Level 3 of the fair value hierarchy as defined in the authoritative guidance and the fair value is estimated as follows:
Goodwill – As of September 30, 2015 and December 31, 2014, the Company had recorded goodwill of $552.8 million and $556.9 million, respectively. Goodwill represents the difference between the purchase price and the fair value of the identifiable tangible and intangible net assets when an acquisition is accounted for using the purchase method. The Company performs a quantitative goodwill impairment assessment on each reporting unit. The Company derives each reporting unit’s fair value through a combination of the market approach (the guideline publicly traded company method) and the income approach (a discounted cash flow analysis). The Company then compares the carrying value of each reporting unit, inclusive of its assigned goodwill, to its fair value.
If the carrying value of the net assets assigned to the reporting unit exceeds the estimated fair value of the reporting unit, the Company performs the second step of the impairment test to determine the implied estimated fair value of the reporting unit’s goodwill. The Company determines the implied estimated fair value of goodwill by determining the present value of the estimated future cash flows for each reporting unit and comparing the reporting unit’s risk profile and growth prospects to selected, reasonably similar publicly traded companies. During the first quarter of 2015, the Company recognized a $2.9 million impairment charge related to goodwill, as discussed in Note 2 "Financial Statement Details."
Finite-lived Intangible Assets – As of September 30, 2015 and December 31, 2014, the Company had recorded finite-lived intangible assets of $126.8 million and $155.4 million, respectively. If a triggering event occurs, the Company determines the estimated fair value of finite-lived intangible assets by determining the present value of the expected cash flows.
Indefinite-lived Intangible Assets – As of September 30, 2015 and December 31, 2014, the Company had recorded indefinite-lived intangible assets of $35.0 million. When evaluating indefinite-lived intangible assets for impairment, the Company performs a quantitative impairment analysis. The Company determines the estimated fair value of the indefinite-lived intangible asset (trademark) by determining the present value of the estimated royalty payments on an after-tax basis that it would be required to pay the owner for the right to use such trade name. If the carrying amount exceeds the estimated fair value, an impairment loss is recognized in an amount equal to the excess.
6. Restructuring and Other Costs
During the second quarter of 2015, the Company initiated restructuring activities to better align its resources worldwide. Specifically, the Company initiated a plan to reduce its workforce by approximately 60 employees, primarily in the United States and certain countries in Europe and principally within the Clinical Development Services operations group and several corporate administrative functions. The Company completed the majority of these actions in June and July of 2015 and expects to complete the remaining activities by the end of 2015. For the nine months ended September 30, 2015, the Company incurred $1.8 million of severance costs related to these activities.
For the nine months ended September 30, 2015, the Company recorded a net reduction in facility closure expenses of $0.2 million primarily related to the reversal of previously accrued liabilities as a result of completing negotiations with respect to exiting certain facilities during the first quarter of 2015. Following these negotiations, the Company reduced its exit cost estimates related to the corresponding lease agreements by approximately $0.7 million, which was partially offset by expenses of $0.5 million primarily related to early lease termination fees.

14



Table of Contents



The costs related to all restructuring plans are included in the "Restructuring and other costs" line item in the Condensed Consolidated Statements of Operations. Restructuring costs are not allocated to the Company’s reportable segments because they are not part of the segment performance measures regularly reviewed by management. During the nine months ended September 30, 2015, the Company made payments and provision adjustments for all plans as presented below (in thousands):
 
Employee Severance Costs
 
Facility Closure Charges
 
Total
Balance at December 31, 2014
$

 
$
6,144

 
$
6,144

      Expenses incurred, net
1,761

 
(195
)
 
1,566

      Payments made
(1,378
)
 
(1,483
)
 
(2,861
)
Balance at September 30, 2015
$
383

 
$
4,466

 
$
4,849

7. Stockholders' Equity
In May 2015, the Company repurchased 5,053,482 shares of its Class A common stock pursuant to an agreement with investment funds affiliated with its Sponsors, Avista Capital Partners, L.P. ("Avista") and Ontario Teachers' Pension Plan Board ("OTPP"), in a private transaction at a price of $29.68 per share, after deducting underwriting discounts, commissions and related expenses, resulting in a total purchase price of approximately $150.0 million. In conjunction with this transaction, the Company's Sponsors and certain other stockholders sold in a registered secondary common stock offering an additional 8,050,000 shares of the Company's common stock, including 1,050,000 shares that were offered and sold pursuant to the underwriters' exercise in full of its option to purchase additional shares. Immediately following this transaction, OTPP, which was the only holder of Class B common stock, elected to convert 6,866,555 Class B shares into Class A shares on the pre-established one-for-one basis.
In August 2015, the Company's Sponsors and certain other stockholders sold 8,000,000 shares of the Company's Class A common stock in a registered secondary common stock offering. Immediately following this transaction, OTPP elected to convert all outstanding Class B shares into Class A shares on the pre-established one-for-one basis.
The following is a summary of the Company's authorized, issued and outstanding shares:
 
September 30, 2015
 
December 31, 2014
Shares Authorized:
 

 
 

Class A common stock
300,000,000

 
300,000,000

Class B common stock
300,000,000

 
300,000,000

Preferred stock
30,000,000

 
30,000,000

Total shares authorized
630,000,000

 
630,000,000

Shares Issued:
 

 
 

Class A common stock
56,483,381

 
51,199,856

Class B common stock

 
10,033,994

Preferred stock

 

Total shares issued
56,483,381

 
61,233,850

Shares Outstanding:
 

 
 

Class A common stock
56,483,381

 
51,199,856

Class B common stock

 
10,033,994

Preferred stock

 

Total shares outstanding
56,483,381

 
61,233,850


15



Table of Contents




8. Earnings Per Share
The following table provides a reconciliation of the numerators and denominators of the basic and diluted earnings per share computations for the three and nine months ended September 30, 2015 and September 30, 2014 (in thousands, except per share data):
 
Net Income (Numerator)
 
Number of Shares (Denominator)
 
Per-Share Amount
For the three months ended September 30, 2015
 
 
 
 
 
Basic net income per share
$
37,814

 
56,325

 
$
0.67

Effect of dilutive securities

 
2,439

 

Diluted net income per share
$
37,814

 
58,764

 
$
0.64

 
 
 
 
 
 
For the three months ended September 30, 2014
 
 
 
 
 
Basic net income per share
$
12,430

 
51,905

 
$
0.24

Effect of dilutive securities

 
609

 

Diluted net income per share
$
12,430

 
52,514

 
$
0.24

 
Net Income (Numerator)
 
Number of Shares (Denominator)
 
Per-Share Amount
For the nine months ended September 30, 2015
 
 
 
 
 
Basic net income per share
$
86,391

 
58,583

 
$
1.47

Effect of dilutive securities

 
2,243

 

Diluted net income per share
$
86,391

 
60,826

 
$
1.42

 
 
 
 
 
 
For the nine months ended September 30, 2014
 
 
 
 
 
Basic net income per share
$
25,935

 
51,900

 
$
0.50

Effect of dilutive securities

 
315

 

Diluted net income per share
$
25,935

 
52,215

 
$
0.50


The computation of diluted earnings per share excludes unexercised stock options and unvested restricted stock units ("RSUs") that are anti-dilutive. The following common stock equivalents were excluded from the earnings per share computation as their inclusion would have been anti-dilutive (in thousands):
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2015
 
2014
 
2015
 
2014
Weighted average number of stock options and RSUs calculated using the treasury stock method that were excluded due to the exercise/threshold price exceeding the average market price of our common stock during the period
344

 
644

 
184

 
820


16



Table of Contents



9. Stock-Based Compensation
The following table summarizes option activity as of and for the nine month period ended September 30, 2015:
 
 
Number of Options
 
Weighted Average Exercise Price
 
Weighted Average Grant Date Fair Value
Outstanding at December 31, 2014
 
3,930,220

 
$
11.64

 
 
Granted
 
446,598

 
$
41.65

 
$
13.80

Exercised
 
(466,714
)
 
$
10.02

 
 
Forfeited
 
(88,755
)
 
$
15.56

 
 
Expired
 
(10,244
)
 
$
10.57

 
 
Outstanding at September 30, 2015
 
3,811,105

 
$
15.28

 
 
As of September 30, 2015, the Company recorded a receivable of $0.4 million from the Company's brokerage services provider associated with the exercises of stock options by Company's employees. This receivable was included in the "Prepaid expenses and other current assets" line item on the Company’s Condensed Consolidated Balance Sheet as of September 30, 2015 and was fully paid in cash on October 1, 2015.
The following table summarizes RSU activity as of and for the period ended September 30, 2015:
 
Number of RSUs
 
Weighted Average
Grant Date Fair Value
Non-vested at December 31, 2014
674

 
 
Granted
223,292

 
$
41.65

Vested

 
 
Forfeited

 
 
Non-vested at September 30, 2015
223,966

 
 
Total stock-based compensation expense recognized in the Condensed Consolidated Statements of Operations for the three and nine months ended September 30, 2015 and 2014 was as follows (in thousands):
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2015
 
2014
 
2015
 
2014
Direct costs
$
732

 
$
491

 
$
1,468

 
$
1,026

Selling, general and administrative
936

 
390

 
1,820

 
1,279

Total stock-based compensation expense
$
1,668

 
$
881

 
$
3,288

 
$
2,305

10. Income Taxes
The Company's effective tax rate for the three and nine months ended September 30, 2015 and 2014 was lower than the U.S. federal statutory rate primarily due to (i) income or losses generated in jurisdictions where the income tax expense or benefit was offset by a corresponding change in the

17



Table of Contents



valuation allowance on net deferred tax assets, (ii) the geographic split of pre-tax income, and (iii) discrete tax adjustments related to the release of valuation allowances and unrecognized tax benefits.
The Company recorded a valuation allowance against all of its deferred tax assets related to net operating loss carryforwards in the United States as of September 30, 2015 and December 31, 2014, respectively. The Company assesses both positive and negative evidence available to estimate whether future taxable income will be available to permit the use of the existing deferred tax assets. As of September 30, 2015, a significant component of the evidence evaluated was the historical losses experienced in the United States. Such objective negative evidence limits the Company's ability to consider other subjective evidence, such as its projections for future growth. However, given the Company's current and anticipated future earnings, the Company believes it is reasonably possible that within the next 12 months sufficient positive evidence may become available to allow the Company to conclude that a significant portion of the valuation allowance will no longer be needed. The release of the valuation allowance would result in the recognition of certain deferred tax assets and a decrease to income tax expense for the period in which the release is recorded. The exact timing and amount of the valuation allowance released are subject to change and are based on the level of profitability that the Company is able to achieve and reasonably forecast.

The Company recognizes a tax benefit from an uncertain tax position only if the Company believes it is more likely than not to be sustained upon examination based on the technical merits of the position. Judgment is required in determining what constitutes an individual tax position, as well as the assessment of the outcome of each tax position. The Company considers many factors when evaluating and estimating tax positions and tax benefits. In addition, the calculation of tax liabilities involves dealing with uncertainties in the application of complex tax regulations in domestic and foreign jurisdictions. If events occur and the payment of these amounts ultimately proves to be unnecessary, the reversal of liabilities would result in tax benefits being recognized in the period when it is determined the liabilities are no longer necessary. If the calculation of liability related to uncertain tax positions proves to be more or less than the ultimate assessment, a tax expense or benefit to expense, respectively, would result.

As of September 30, 2015 and December 31, 2014, the Company had gross unrecognized tax benefits of $20.6 million and $21.6 million, respectively. The total amount of unrecognized tax benefit that, if recognized, would impact the effective tax rate was $9.7 million and $13.0 million, respectively. During the three and nine months ended September 30, 2015, the Company released $0.5 million and $2.9 million in uncertain tax benefits. The release of the benefits was recorded as a discrete adjustment to income tax expense. The Company believes it is reasonably possible that approximately $2.4 million of gross unrecognized tax benefits related to intercompany transactions will be released in the next twelve months due to statute of limitations expirations.
11. Segment Information
The Company is managed through three reportable segments: Clinical Development Services, Phase I Services and Global Consulting. Clinical Development Services offers a variety of clinical development services including full-service global studies, as well as ancillary services such as clinical monitoring, investigator recruitment, patient recruitment, data management and study reports to assist customers with their drug development process. Phase I Services focuses on clinical development services for Phase I trials that include scientific exploratory medicine, first-in-human studies through proof-of-concept stages, and support for Phase I studies in established compounds. Global Consulting provides consulting services regarding clinical trial regulatory affairs, regulatory consulting services, quality assurance audits and pharmacovigilance consulting, non-clinical consulting and medical writing consulting.

18



Table of Contents



The Company’s Chief Operating Decision Maker (Company's CODM) reviews segment performance and allocates resources based upon segment revenue and segment contribution margin. The Company’s CODM does not review inter-segment revenue when evaluating segment performance and allocating resources to each segment. Thus, inter-segment revenue is not included in the segment revenue presented in the table below. As such, total segment revenue in the table below is equal to the Company’s consolidated net service revenue. All direct costs are allocated to the Company’s segments, and as such, segment total direct costs are equal to the Company’s consolidated direct costs and consolidated gross margin. Revenue, direct costs and contribution margin for each of our segments were as follows (in thousands):
 
Three Months Ended
 
Nine Months Ended
 
September 30, 2015
 
September 30, 2014
 
September 30, 2015
 
September 30, 2014
Revenue:
 
 
 
 
 
 
 
Clinical Development Services
$
227,209

 
$
202,085

 
$
655,262

 
$
581,510

Phase I Services
5,276

 
3,782

 
12,141

 
8,377

Global Consulting
2,009

 
1,896

 
5,981

 
6,116

Segment revenue
234,494

 
207,763

 
673,384

 
596,003

Reimbursable out-of-pocket expenses not allocated to segments
115,651

 
90,861

 
322,970

 
255,141

Total revenue
$
350,145

 
$
298,624

 
$
996,354

 
$
851,144

Direct costs:
 
 
 
 
 
 
 
Clinical Development Services
$
130,755

 
$
124,663

 
$
385,411

 
$
367,245

Phase I Services
3,163

 
2,838

 
8,478

 
7,395

Global Consulting
1,612

 
2,056

 
5,099

 
6,462

Segment direct costs
135,530

 
129,557

 
398,988

 
381,102

Reimbursable out-of-pocket expenses not allocated to segments
115,651

 
90,861

 
322,970

 
255,141

Direct costs and reimbursable out-of-pocket expenses
$
251,181

 
$
220,418

 
$
721,958

 
$
636,243

Segment contribution margin:
 
 
 
 
 
 
 
Clinical Development Services
$
96,454

 
$
77,422

 
$
269,851

 
$
214,265

Phase I Services
2,113

 
944

 
3,663

 
982

Global Consulting
397

 
(160
)
 
882

 
(346
)
Segment contribution margin
98,964

 
78,206

 
274,396

 
214,901

Less expenses not allocated to segments:
 
 
 
 
 
 
 
Selling, general and administrative
40,429

 
38,185

 
113,354

 
104,332

Restructuring and other costs
(28
)
 
2,951

 
1,566

 
6,126

Transaction expenses
403

 

 
922

 
2,042

Asset impairment charges

 

 
3,931

 
17,245

Depreciation and amortization
13,819

 
14,331

 
41,956

 
39,965

Consolidated income from operations
$
44,341

 
$
22,739

 
$
112,667

 
$
45,191



19



Table of Contents



12. Operations by Geographic Location
The Company conducts operations in North America, Europe, Middle East and Africa, Asia-Pacific, and Latin America through wholly-owned subsidiaries and representative sales offices. The Company attributes net service revenue to geographical locations based upon the location of the customer (i.e., the location to which the Company invoices the end customer). The following table summarizes total revenue by geographic area (in thousands and all intercompany transactions have been eliminated):
 
Three Months Ended
 
Nine Months Ended
 
September 30, 2015
 
September 30, 2014
 
September 30, 2015
 
September 30, 2014
Net service revenue:
 
 
 
 
 
 
 
North America(1)
$
171,756

 
$
146,837

 
$
491,207

 
$
420,139

Europe, Middle East and Africa
58,083

 
55,343

 
168,876

 
157,771

Asia-Pacific
4,569

 
5,590

 
13,154

 
18,071

Latin America
86

 
(7
)
 
147

 
22

Total net service revenue
234,494

 
207,763

 
673,384

 
596,003

Reimbursable-out-of-pocket expenses
115,651

 
90,861

 
322,970

 
255,141

Total revenue
$
350,145

 
$
298,624

 
$
996,354

 
$
851,144

(1) Net service revenue for the North America region includes revenue attributable to the U.S. of $165.9 million and $145.8 million, or 70.7% and 70.2% of net service revenue, for the three months ended September 30, 2015 and 2014, respectively. Net service revenue for the North America region includes revenue attributable to the U.S. of $477.0 million and $418.5 million, or 70.8% and 70.2% of net service revenue for the nine months ended September 30, 2015 and 2014, respectively. No other countries represented more than 10% of net service revenue for any period.
The following table summarizes long-lived assets by geographic area (in thousands and all intercompany transactions have been eliminated):
 
September 30, 2015
 
December 31, 2014
Total property and equipment, net:
 
 
 
North America(1)
$
26,873

 
$
28,287

Europe, Middle East, and Africa(2)
8,387

 
10,212

Asia-Pacific
3,989

 
4,473

Latin America
485

 
753

Total property and equipment, net
$
39,734

 
$
43,725

(1) Long-lived assets for the North America region include property and equipment, net attributable to the U.S. of $26.5 million and $26.6 million as of September 30, 2015 and December 31, 2014, respectively.
(2) Long-lived assets for the Europe, Middle East, and Africa regions include property and equipment, net attributable to Spain of $4.1 million and $4.5 million as of September 30, 2015 and December 31, 2014, respectively.

20



Table of Contents



13. Concentration of Credit Risk
Financial assets that subject the Company to credit risk primarily consist of cash and cash equivalents and billed and unbilled accounts receivable. The Company holds cash and cash equivalents, consisting principally of cash, which have balances that often exceed insurance limits set by the Federal Deposit Insurance Corporation ("FDIC") at several major financial institutions with reputable credit ratings . The Company believes these instruments bear minimal credit risk. There was no governmental insurance coverage on bank balances of $0.5 million at September 30, 2015 and $1.2 million at December 31, 2014, held in the Netherlands.
The Company earns substantially all of its net service revenue by performing services under contracts with pharmaceutical and biotechnology companies. The concentration of credit risk is equal to the outstanding billed and unbilled accounts receivable, less deferred revenue related thereto. The Company does not require collateral or other securities to support customer receivables. The Company maintains a credit approval process and makes significant judgments in connection with assessing customers' ability to pay throughout the contractual obligation. Despite this assessment, from time to time, customers are unable to meet their payment obligations. The Company continuously monitors customers' credit worthiness and applies judgment in establishing a provision for estimated credit losses based on historical experience and any specific customer collection issues that have been identified.
No customer accounted for 10% or more of total net service revenue for the three and nine months ended September 30, 2015. For each of the three and nine months ended September 30, 2014, various subsidiaries of Astellas Pharma, Inc. accounted for 12% of total net service revenue. For the three and nine months ended September 30, 2014, various subsidiaries of Otsuka Holdings Co., Ltd. accounted for 12% and 14% of total net service revenue, respectively.
At September 30, 2015 and December 31, 2014, no customer accounted for more than 10% of billed and unbilled accounts receivable.
14. Related-Party Transactions
Through November 7, 2014, the Company had an agreement with a significant stockholder for the stockholder to perform certain consulting services. In conjunction with the corporate reorganization in November 2014, the Company paid cash of approximately $3.4 million to terminate this agreement. Prior to the termination of this agreement, the Company recognized $0.1 million and $0.4 million of consulting services expense for the three and nine months ended September 30, 2014, respectively.
The Company recorded net service revenue of $0.1 million for both the three and nine months ended September 30, 2015, from a customer who had a significant stockholder who is also a significant stockholder of the Company. There were no related-party revenue transactions for the three and nine months ended September 30, 2014.
15. Commitments and Contingencies
The Company records accruals for claims, suits, investigations and proceedings when it is probable that a liability has been incurred and the amount of the loss can be reasonably estimated. The Company reviews claims, suits, investigations and proceedings at least quarterly and records or adjusts accruals related to such matters to reflect the impact and status of any settlements, rulings, advice of counsel or other information pertinent to a particular matter.
In the normal course of business, the Company periodically becomes involved in various claims and lawsuits that are incidental to its business. While the outcome of these matters could differ from management's expectations, the Company does not believe the resolution of these matters will have a material effect upon the Company's financial statements.

21



Table of Contents



The Company currently maintains insurance for risks associated with the operation of its business, provision of professional services and ownership of property. These policies provide coverage for a variety of potential losses, including loss or damage to property, bodily injury, general commercial liability, professional errors and omissions, and medical malpractice.
The Company is self-insured for certain losses relating to health insurance claims for the majority of its employees located within the United States. The Company purchases stop-loss coverage from third party insurance carriers to limit individual or aggregate loss exposure with respect to the Company's health insurance claims.
Accrued insurance liabilities and related expenses are based on estimates of claims incurred but not reported. Incurred but not reported claims are generally determined by taking into account historical claims payments and known trends such as claim frequency and severity. The Company makes estimated judgments and assumptions with respect to these calculations, including but not limited to, estimated healthcare cost trends, estimated lag time to report any paid claims, average cost per claim and other factors. The Company believes the estimates of future liability are reasonable based on its methodology; however, changes in claims activity (volume and amount per claim) could materially affect the estimate for these liabilities. The Company continually monitors claim activity and incidents and makes necessary adjustments based on these evaluations. As of September 30, 2015, the Company had accrued self-insurance reserves of $2.7 million.

22



Table of Contents



Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.
Forward Looking Statements
You should read the following discussion and analysis of our financial condition and results of operations in conjunction with our condensed consolidated financial statements and the notes thereto included elsewhere in this Quarterly Report on Form 10-Q and with our audited consolidated financial statements and the notes thereto included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2014.
In addition to historical condensed consolidated financial information, the following discussion contains forward-looking statements that reflect, among other things, our current expectations and anticipated results of operations, all of which are subject to known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements, market trends, or industry results to differ materially from those expressed or implied by such forward-looking statements. Therefore, any statements contained herein that are not statements of historical fact may be forward-looking statements and should be evaluated as such. Without limiting the foregoing, the words “anticipates,” “believes,” “estimates,” “expects,” “intends,” “may,” “plans,” “projects,” “should,” “targets,” “will” and the negative thereof and similar words and expressions are intended to identify forward-looking statements. Unless legally required, we assume no obligation to update any such forward-looking information to reflect actual results or changes in the factors affecting such forward-looking information.
We caution you that any such forward-looking statements are further qualified by important factors that could cause our actual operating results to differ materially from those in the forward-looking statements, including without limitation, regional, national or global political, economic, business, competitive, market and regulatory conditions and the following: our potential failure to generate a large number of new business awards and the risk of delay, termination, reduction in scope or failure to go to contract of our business awards; our potential failure to convert backlog to revenue; the impact of underpricing our contracts, overrunning our cost estimates or failing to receive approval for or experiencing delays with documentation of change orders; the risks associated with our information systems infrastructure; any adverse effects from customer or therapeutic area concentration; the risks associated with doing business internationally; our potential failure to successfully increase our market share, grow our business, and execute our growth strategies; our failure to perform our services in accordance with contractual requirements, regulatory standards and ethical considerations; the risk of litigation and personal injury claims; the impact of unfavorable economic conditions and exchange rate and effective income tax rate fluctuations; the risks associated with potential future acquisitions or investments in our customers' businesses or drugs; the impact of changes in government regulations and healthcare reform; and our ability to service our substantial indebtedness. For a further discussion of the risks relating to our business, see “Risk Factors” in our Annual Report on Form 10-K for the fiscal year ended December 31, 2014 and in our Form 10-Q for the quarter ended March 31, 2015.
Overview of our Business and Services
We are a leading global CRO, based on revenues, and are exclusively focused on Phase I to Phase IV clinical development services for the biopharmaceutical and medical device industries. We provide our customers highly differentiated therapeutic alignment and expertise, with a particular strength in central nervous system, or CNS, oncology and other complex diseases. We consistently and predictably deliver clinical development services in a complex environment and offer a proprietary, operational approach to clinical trials through our Trusted Process® methodology. Our service offerings focus on optimizing the development of and, therefore, the commercial potential for, our customers’ new biopharmaceutical compounds, enhancing returns on their research and development, or R&D, investments, and reducing their overhead by offering an attractive variable cost alternative to fixed cost, in-house resources.
Our extensive range of services supports the entire drug development process from Phase I to Phase IV and allows us to offer our customers an integrated suite of investigative site support and clinical

23



Table of Contents



development services. We offer these services across a wide variety of therapeutic areas with deep clinical expertise with a primary focus on Phase II to Phase IV clinical trials. We provide total biopharmaceutical program development while also providing discrete services for any part of a trial. Our combination of service area experts and depth of clinical capability allows for enhanced protocol design and actionable trial data.
We have three reportable segments: Clinical Development Services, Phase I Services and Global Consulting. Clinical Development Services offers a variety of clinical development services, including full-service global studies, as well as ancillary services such as clinical monitoring, investigator recruitment, patient recruitment, data management and study reports to assist customers with their drug development process. Phase I Services focuses on clinical development services for Phase I trials that include scientific exploratory medicine, first-in-human studies through proof-of-concept stages, and support for Phase I studies in established compounds. Global Consulting provides consulting services regarding clinical trial regulatory affairs, regulatory consulting services, quality assurance audits and pharmacovigilance consulting, non-clinical consulting and medical writing consulting. For financial information regarding revenue and long-lived assets by geographic areas, please see Note 12 - Operations by Geographic Location in our condensed consolidated financial statements included in Item 1 of this Quarterly Report on Form 10-Q.
The discussion and analysis of our financial condition and results of operations herein is presented on a consolidated basis. Because our Clinical Development Services segment accounts for substantially all of our business operations, we believe that a discussion of our reportable segments’ operations would not be meaningful disclosure for investors. See further discussion in Note 11 - Segment Information to our unaudited condensed consolidated financial statements.
We earn net service revenue primarily for services performed under contracts for global clinical drug trials, based upon a combination of milestones and output measures that are specific to the services performed and defined by the contract. Engagements for Phase II to Phase IV clinical trials, which represent the majority of our revenue, are typically long duration contracts ranging from several months to several years. The contracts for these engagements typically cover the detailed scope of work, phases, milestones, billing schedules and processes for review of work and clinical results. Contracts are individually priced and negotiated based on the anticipated level of effort required to complete the project, the complexity and performance risks, and the level of competition in the market.
Direct costs associated with these contracts consist principally of compensation expense and benefits associated with our employees and other employee-related costs. While we can manage the majority of these costs relative to the amount of contracted services we have during any given period, direct costs as a percentage of net service revenue can vary from period to period. Such fluctuations are due to a variety of factors, including, among others: (i) the level of staff utilization created by our ability to effectively manage our workforce, (ii) adjustments to the timing of work on specific customer contracts, (iii) the experience mix of personnel assigned to projects, and (iv) the service mix and pricing of our contracts. In addition, as global projects wind down or as delays and cancellations occur, staffing levels in certain countries or functional areas can become misaligned with the current business volume.
New Business Awards and Backlog
We add new business awards to backlog when we enter into a contract or when we receive a written commitment from the customer selecting us as its service provider, provided that (i) the customer has received appropriate internal funding approval, (ii) the project or projects are not contingent upon completion of another trial or event, (iii) the project or projects are expected to commence within the next 12 months and (iv) the customer has entered or intends to enter into a comprehensive contract as soon as practicable. Contracts generally have terms ranging from several months to several years. We recognize revenue on these awards as services are performed, provided we have entered into a contractual commitment with the customer.

24



Table of Contents



Our new business awards, net of cancellations of prior awards, for the three months ended September 30, 2015 and September 30, 2014 were $327.7 million and $249.3 million, respectively. Our new business awards, net of cancellations of prior awards, for the nine months ended September 30, 2015 and September 30, 2014 were $879.1 million and $633.5 million, respectively. Net new business awards were higher in the first nine months of 2015 compared to the first nine months of 2014, primarily due to (i) the 2014 periods including a cancellation valued at approximately $132.0 million, impacting net awards by $85.0 million, (ii) the continued growth of our business across therapeutic areas, and (iii) the timing of the conversion of our relationship with a major customer from primarily a functional service provider relationship to a more traditional full service arrangement. New business awards have varied and will continue to vary significantly from quarter to quarter. Fluctuations in our reported backlog and net new business award levels often result from the fact that we may receive a small number of relatively large orders in any given reporting period. Because of these large orders, our backlog and net new business awards in that reporting period might reach levels that are not sustained in subsequent reporting periods.
The dollar amount of our backlog consists of anticipated future net service revenue from business awards that either have not started but are anticipated to begin in the future, or that are in process and have not been completed. Our backlog also reflects any cancellation or adjustment activity related to these contracts. The average duration of our contracts will fluctuate from period to period in the future based on the contracts comprising our backlog at any given time. The majority of our contracts can be terminated by our customers with 30 days' notice. We adjust the amount of our backlog each quarter for foreign currency fluctuations. For the three, nine and twelve months ended September 30, 2015, fluctuations in foreign currency exchange rates resulted in an unfavorable impact on our September 30, 2015 backlog in the amount of $3.1 million, $29.0 million and $48.1 million, respectively, primarily due to the weakening of the Euro and British Pound against the U.S. dollar. As of September 30, 2015 and 2014, our backlog was $1.8 billion and $1.5 billion, respectively. Included within backlog at September 30, 2015 is approximately $0.2 billion that we expect to generate revenue from in 2015.
We believe that backlog and net new business awards might not be consistent indicators of future revenue because they have been, and likely will be, affected by a number of factors, including the variable size and duration of projects, many of which are performed over several years, cancellations and changes to the scope of work during the course of projects. Additionally, projects may be canceled or delayed by the customer or delayed by regulatory authorities. Projects that have been delayed for less than 12 months remain in backlog, but the anticipated timing of the recognition of revenue is uncertain. We generally do not have a contractual right to the full amount of the revenue reflected in our backlog. If a customer cancels an award, we might be reimbursed for the costs we have incurred. As we increasingly compete for and enter into large contracts that are more global in nature, we expect the rate at which our backlog and net new business awards convert into revenue to decrease, or lengthen. See "Risk Factors - Risks Related to Our Business - Our Backlog might not be indicative of our future revenue, and we might not realize all of the anticipated future revenue reflected in our backlog" in our Annual Report on Form 10-K for the fiscal year ended December 31, 2014 and in our Form 10-Q for the quarter ended March 31, 2015.

25



Table of Contents



Results of Operations
The following tables set forth amounts from our condensed consolidated financial statements along with the percentage changes for the three and nine months ended September 30, 2015 and 2014 (in thousands, except percentages):
 
Three Months Ended
 
 
 
 
 
September 30, 2015
 
September 30, 2014
 
Change
Net service revenue
$
234,494

 
$
207,763

 
$
26,731

 
12.9
 %
Reimbursable out-of-pocket expenses
115,651

 
90,861

 
24,790

 
27.3
 %
    Total revenue
350,145

 
298,624

 
51,521

 
17.3
 %
Direct costs
135,530

 
129,557

 
5,973

 
4.6
 %
Reimbursable out-of-pocket expenses
115,651

 
90,861

 
24,790

 
27.3
 %
Selling, general and administrative
40,429

 
38,185

 
2,244

 
5.9
 %
Restructuring and other costs
(28
)
 
2,951

 
(2,979
)
 
(100.9
)%
Transaction expenses
403

 

 
403

 
 %
Depreciation
4,357

 
4,734

 
(377
)
 
(8.0
)%
Amortization
9,462

 
9,597

 
(135
)
 
(1.4
)%
    Total operating expenses
305,804

 
275,885

 
29,919

 
10.8
 %
Income from operations
44,341

 
22,739

 
21,602

 
95.0
 %
Total other expense, net
(4,040
)
 
(7,767
)
 
(3,727
)
 
(48.0
)%
Income before provision for income taxes
40,301

 
14,972

 
25,329

 
169.2
 %
Income tax expense
(2,487
)
 
(2,417
)
 
70

 
2.9
 %
Net income
$
37,814

 
$
12,555

 
$
25,259

 
201.2
 %

26



Table of Contents



 
Nine Months Ended
 
 
 
 
 
September 30, 2015
 
September 30, 2014
 
Change
Net service revenue
$
673,384

 
$
596,003

 
$
77,381

 
13.0
 %
Reimbursable out-of-pocket expenses
322,970

 
255,141

 
67,829

 
26.6
 %
    Total revenue
996,354

 
851,144

 
145,210

 
17.1
 %
Direct costs
398,988

 
381,102

 
17,886

 
4.7
 %
Reimbursable out-of-pocket expenses
322,970

 
255,141

 
67,829

 
26.6
 %
Selling, general and administrative
113,354

 
104,332

 
9,022

 
8.6
 %
Restructuring and other costs
1,566

 
6,126

 
(4,560
)
 
(74.4
)%
Transaction expenses
922

 
2,042

 
(1,120
)
 
(54.8
)%
Asset impairment charges
3,931

 
17,245

 
(13,314
)
 
(77.2
)%
Depreciation
13,543

 
16,628

 
(3,085
)
 
(18.6
)%
Amortization
28,413

 
23,337

 
5,076

 
21.8
 %
    Total operating expenses
883,687

 
805,953

 
77,734

 
9.6
 %
Income from operations
112,667

 
45,191

 
67,476

 
149.3
 %
Total other expense, net
(18,187
)
 
(35,450
)
 
(17,263
)
 
(48.7
)%
Income before provision for income taxes
94,480

 
9,741

 
84,739

 
869.9
 %
Income tax benefit (expense)
(8,089
)
 
16,569

 
24,658

 
148.8
 %
Net income
$
86,391

 
$
26,310

 
$
60,081

 
228.4
 %
Net Service Revenue and Reimbursable Out-of-Pocket Expenses
For the three and nine months ended September 30, 2015 and September 30, 2014, total revenue was comprised of the following (in thousands, except percentages):
 
Three Months Ended
 
 
 
 
 
September 30, 2015
 
September 30, 2014
 
Change
Net service revenue
$
234,494

 
$
207,763

 
$
26,731

 
12.9
%
Reimbursable out-of-pocket expenses
115,651

 
90,861

 
24,790

 
27.3
%
    Total revenue
$
350,145

 
$
298,624

 
$
51,521

 
17.3
%
 
Nine Months Ended
 
 
 
 
 
September 30, 2015
 
September 30, 2014
 
Change
Net service revenue
$
673,384

 
$
596,003

 
$
77,381

 
13.0
%
Reimbursable out-of-pocket expenses
322,970

 
255,141

 
67,829

 
26.6
%
    Total revenue
$
996,354

 
$
851,144

 
$
145,210

 
17.1
%
For the three months ended September 30, 2015, net service revenue increased by $26.7 million, or 12.9%, to $234.5 million from $207.8 million for the three months ended September 30, 2014. For the nine months ended September 30, 2015, net service revenue increased by $77.4 million, or 13.0%, to $673.4 million from $596.0 million for the nine months ended September 30, 2014. These increases were primarily driven by continued strong awards over the last two years, a lower cancellation rate of previously awarded business and a positive revenue mix. In 2015, our revenue grew across all therapeutic areas and has been particularly strong in the central nervous system, oncology and other complex therapeutic

27



Table of Contents



areas. During the three and nine months ended September 30, 2015, fluctuations in foreign currency exchange rates resulted in an unfavorable impact of $10.3 million and $31.9 million, respectively, on net service revenue as compared to the three and nine months ended September 30, 2014.
Net service revenue from our top five customers accounted for approximately 33.4% and 35.6% of total net service revenue for the three months ended September 30, 2015 and September 30, 2014, respectively. Net service revenue from our top five customers accounted for approximately 34.5% and 37.1% of total net service revenue for the nine months ended September 30, 2015 and September 30, 2014, respectively.
No customer accounted for 10% or more of total net service revenue for the three and nine months ended September 30, 2015. For each of the three and nine months ended September 30, 2014, various subsidiaries of Astellas Pharma, Inc. accounted for 12% of total net service revenue. For the three and nine months ended September 30, 2014, various subsidiaries of Otsuka Holdings Co., Ltd. accounted for 12% and 14% of total net service revenue, respectively.
For the three months ended September 30, 2015, reimbursable out-of-pocket expenses, which represent expenses related to our clinical studies that are passed directly through to customers, increased by $24.8 million, or 27.3%, to $115.7 million from $90.9 million for the three months ended September 30, 2014. For the nine months ended September 30, 2015, reimbursable out-of-pocket expenses, increased by $67.8 million, or 26.6%, to $323.0 million from $255.1 million for the nine months ended September 30, 2014. The reimbursements are offset by an equal amount shown under the same caption in the "Costs and operating expenses" section in our Condensed Consolidated Statements of Operations and, accordingly, have no impact on gross margin. Reimbursable out-of-pocket expenses fluctuate significantly from period to period based on the timing of program initiation or closeout and the mix of program complexity and do not necessarily change in correlation to net service revenue.
Direct Costs and Reimbursable Out-of-pocket Expenses
For the three and nine months ended September 30, 2015 and September 30, 2014, direct costs and reimbursable out-of-pocket expenses were as follows (in thousands, except percentages):
 
Three Months Ended
 
 
 
 
 
September 30, 2015
 
September 30, 2014
 
Change
Direct costs
$
135,530

 
$
129,557

 
$
5,973

 
4.6
%
Reimbursable out-of-pocket expenses
115,651

 
90,861

 
24,790

 
27.3
%
Total direct costs and reimbursable out-of-pocket expenses
$
251,181

 
$
220,418

 
$
30,763

 
14.0
%
 
Nine Months Ended
 
 
 
 
 
September 30, 2015
 
September 30, 2014
 
Change
Direct costs
$
398,988

 
$
381,102

 
$
17,886

 
4.7
%
Reimbursable out-of-pocket expenses
322,970

 
255,141

 
67,829

 
26.6
%
Total direct costs and reimbursable out-of-pocket expenses
$
721,958

 
$
636,243

 
$
85,715

 
13.5
%

28



Table of Contents



The following is a summary of the year-over-year fluctuation in components of direct costs during the three and nine months ended September 30, 2015 as compared to the three and nine months ended September 30, 2014 (in thousands):
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2014 to 2015
 
2014 to 2015
Change in:
 
 
 
Salaries, benefits and incentive compensation
$
6,977

 
$
24,945

Other
(1,004
)
 
(7,059
)
Total
$
5,973

 
$
17,886

Our direct costs increased by $6.0 million, or 4.6%, to $135.5 million for the three months ended September 30, 2015 from $129.6 million for the three months ended September 30, 2014. Our direct costs increased by $17.9 million, or 4.7%, to $399.0 million for the nine months ended September 30, 2015 from $381.1 million for the nine months ended September 30, 2014.
Salaries, benefits and incentive compensation increased by $7.0 million for the three months ended September 30, 2015 and $24.9 million for the nine months ended September 30, 2015 compared to the same periods in the prior year.  These increases were primarily driven by an increase in salaries and benefits as a result of the additions in personnel to support the growth of our business, partially offset by a reduction in incentive based compensation and favorable fluctuations in foreign currency, as discussed further below.
Other direct costs decreased by $1.0 million for the three months ended September 30, 2015, compared to the three months ended September 30, 2014, primarily due to the favorable resolution of disputed pass through costs partially offset by an increase in contract labor costs to support revenue growth.
During the nine months ended September 30, 2015 other direct costs decreased by $7.1 million compared to the nine months ended September 30, 2014, primarily due to (i) the 2014 period including a provision for non-recoverable Value Added Taxes (“VAT”) as compared to the 2015 including a release of a portion of these liabilities and (ii) certain one-time benefits realized in the first and third quarters of 2015. Partially offsetting these decreases was an increase in expenses related to contract labor and travel costs to support revenue growth.
As discussed above, direct costs in the nine months ended September 30, 2015 included certain one-time benefits that we do not believe are representative of ongoing operations, which we estimate to be approximately $6.6 million. Specifically, in the first quarter of 2015 we realized benefits of $5.1 million related to (i) a favorable resolution of several VAT and other tax items, (ii) a change in estimate related to employee incentive compensation, and (iii) a favorable settlement of disputed pass through costs. As discussed above, during the third quarter of 2015, we realized a benefit of $4.9 million from the favorable resolution of disputed pass through costs; however, we had initially recorded approximately $3.4 million of these obligations in the first half of 2015 resulting in the net favorable impact on the full nine month period ended September 30, 2015 of approximately $1.5 million.

During the three and nine months ended September 30, 2015, fluctuations in foreign currency exchange rates resulted in a favorable impact of $10.2 million and $29.7 million, respectively, on direct costs as compared to the three and nine months ended September 30, 2014.

As we continue to expand our business and initiate new studies, the increase in headcount-related expenses may outpace our revenue growth. However, we continue to see the benefits from a number of our cost saving initiatives including (i) leveraging our therapeutic management overhead infrastructure over the expanded revenue base, (ii) improving the utilization of our facilities, and (iii) the consolidation of our clinical trial management systems resulting in achieving better efficiencies due to standardization.


29



Table of Contents



As noted above, reimbursable out-of-pocket expenses increased by 27.3% or $24.8 million, to $115.7 million for the three months ended September 30, 2015 from $90.9 million for the three months ended September 30, 2014. Reimbursable out-of-pocket expenses increased by 26.6% or $67.8 million, to $323.0 million for the nine months ended September 30, 2015 from $255.1 million for the nine months ended September 30, 2014. Reimbursable out-of-pocket expenses fluctuate significantly from period to period based on the timing of program initiation or closeout and the mix of program complexity and do not necessarily change in correlation to net service revenue.

Selling, General and Administrative Expenses

For the three and nine months ended September 30, 2015 and September 30, 2014, selling, general and administrative expenses were as follows (in thousands, except percentages):
 
Three Months Ended
 
 
 
 
 
September 30, 2015
 
September 30, 2014
 
Change
Selling, general and administrative
$
40,429

 
$
38,185

 
$
2,244

 
5.9
%
Percentage of net service revenue
17.2
%
 
18.4
%
 
 
 
 
 
Nine Months Ended
 
 
 
 
 
September 30, 2015
 
September 30, 2014
 
Change
Selling, general and administrative
$
113,354

 
$
104,332

 
$
9,022

 
8.6
%
Percentage of net service revenue
16.8
%
 
17.5
%
 
 
 
 
The following is a summary of the year-over-year fluctuation in components of our selling, general and administrative expenses during the three and nine months ended September 30, 2015 as compared to the three and nine months ended September 30, 2014 (in thousands):
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2014 to 2015
 
2014 to 2015
Change in:
 
 
 
Salaries, benefits, and incentive compensation
$
3,166

 
$
6,819

Professional services fees
(383
)
 
800

Provision for doubtful accounts
(1,570
)
 
(3,252
)
Marketing expenses
139

 
2,037

Facilities and IT related costs
580

 
2,458

Other expenses
312

 
160

Total
$
2,244

 
$
9,022

Selling, general and administrative expenses increased by $2.2 million, or 5.9%, to $40.4 million for the three months ended September 30, 2015 from $38.2 million for the three months ended September 30, 2014. Selling, general and administrative expenses increased by $9.0 million, or 8.6%, to $113.4 million for the nine months ended September 30, 2015 from $104.3 million for the nine months ended September 30, 2014. These increases were driven primarily by (i) an increase in salaries, benefits, and incentive compensation, primarily as a result of the additions in personnel to support the growth of our business and the newly established public company infrastructure, (ii) an increase in facilities and information technology related cost, primarily driven by increased headcount as discussed above, and (iii) an increase in marketing expense primarily driven by the higher level of the advertising and trade show activities. These costs were partially offset by a positive change in bad debt expense as a result of the collection of previously reserved receivables.

30



Table of Contents



On a year-to-date basis, our selling, general and administrative expenses were also positively impacted by settlement of certain employee related liabilities totaling approximately $1.1 million. In addition, included within the net increase in selling, general and administrative expenses is a net reduction from fluctuations in foreign currency exchange rates of $1.5 million and $4.3 million, respectively, for the three and nine months ended September 30, 2015 as compared to September 30, 2014.
Selling, general and administrative expenses as a percentage of net service revenue decreased from 18.4% for the three months ended September 30, 2014 to 17.2% for the three months ended September 30, 2015. Selling, general and administrative expenses as a percentage of net service revenue decreased from 17.5% for the nine months ended September 30, 2014 to 16.8% for the nine months ended September 30, 2015. These decreases were attributable to (i) our ability to leverage selling, general and administrative functions as we grow revenue, (ii) our cost savings initiatives, (iii) the positive impact of the settlement of liabilities noted above, and (iv) the reduction in bad debt expense due to recoveries of previously reserved amounts.
Restructuring and Other Costs
Restructuring and other costs were $1.6 million for the nine months ended September 30, 2015, consisting of employee severance costs of $1.8 million, partially offset by a net reduction in facility closure costs of $0.2 million. Following the completion of negotiations related to exiting certain facilities during the first quarter of 2015, we reduced our exit cost estimates related to the corresponding lease agreements by approximately $0.7 million, which was partially offset by expenses of $0.5 million primarily related to early lease termination fees.
Restructuring and other costs were $3.0 million for the three months ended September 30, 2014, consisting of facility closure costs of $2.7 million and employee severance costs of $0.2 million. Restructuring and other costs were $6.1 million for the nine months ended September 30, 2014, primarily consisting of severance costs of $2.7 million and facility closure and other costs of $3.4 million. These costs were primarily related to the restructuring activities we initiated during the second quarter of 2014 as a result of the closure of our Glasgow facility and partial closure of our Cincinnati facility.
Transaction Expenses
For the three months ended September 30, 2015, we incurred transaction expenses of $0.4 million primarily consisting of third party fees associated with our August 2015 registered secondary common stock offering. There were no transaction expenses incurred for the three months ended September 30, 2014.
For the nine months ended September 30, 2015, we incurred transaction expenses of $0.9 million, primarily consisting of third party fees associated with our May 2015 stock repurchase and registered secondary common stock offerings in May and August 2015. For the nine months ended September 30, 2014, transaction expenses were $2.0 million, consisting of $1.7 million of third party fees associated with the 2014 debt refinancing and $0.3 million of legal fees associated with our March 2014 acquisition of MEK Consulting.
Asset Impairment Charges
During the second quarter of 2014, we determined that Phase I Services and Global Consulting reporting units were not performing according to management's expectations, requiring an evaluation of the impairment of the goodwill and intangible assets. As a result of this evaluation, for the nine months ended September 30, 2014, we recorded a $9.2 million impairment of goodwill and an $8.0 million impairment of intangible assets associated with the Phase I Services and Global Consulting reporting units for a total asset impairment charge of $17.2 million. There were no asset impairment charges for the three months ended September 30, 2014.
During 2015, we continued to observe deteriorating performance due to reduced revenue resulting from cancellations and lower than expected new business awards in our Phase I Services reporting unit. This

31



Table of Contents



resulted in a triggering event during the first quarter of 2015, requiring an evaluation of both long-lived assets and goodwill for potential impairment. At the date of this evaluation, there were no intangible assets associated with Phase I Services. As a result of this evaluation, for the nine months ended September 30, 2015, we recorded a total asset impairment charge of $3.9 million, consisting of a long-lived assets impairment charge of $1.0 million and a goodwill impairment charge of $2.9 million. There were no asset impairment charges for the three months ended September 30, 2015.
Depreciation and Amortization Expense
Total depreciation and amortization expense decreased to $13.8 million for the three months ended September 30, 2015 from $14.3 million for the three months ended September 30, 2014, primarily due to a decrease in depreciation expense of $0.4 million resulting from lower capital expenditures during 2015 compared to 2014 and the write-off of long-lived assets in the Phase I Services reporting unit during the first quarter of 2015.
Total depreciation and amortization expense increased to $42.0 million for the nine months ended September 30, 2015 from $40.0 million for the nine months ended September 30, 2014. Amortization expense increased $5.1 million for the nine months ended September 30, 2015 as compared to the nine months ended September 30, 2014, primarily due to the reduction in estimated useful lives of certain intangible assets during the second quarter of 2014. These increases were partially offset by a $3.1 million decrease in depreciation expense for the nine months ended September 30, 2015 compared to the nine months ended September 30, 2014, principally due to (i) lower capital expenditures in 2015, (ii) a reduction in 2014 of the useful life of certain data centers and information system assets, and (iii) the write-off of long-lived assets in the Phase I Services reporting unit during the first quarter of 2015.
Other Expense, Net
For the three and nine months ended September 30, 2015 and 2014, other income and expenses were as follows (in thousands, except percentages):
 
Three Months Ended
 
 
 
 
 
September 30, 2015
 
September 30, 2014
 
Change
Interest income
$
28

 
$
26

 
$
2

 
7.7
 %
Interest expense
(3,065
)
 
(12,929
)
 
(9,864
)
 
(76.3
)%
Other income (expense), net
(1,003
)
 
5,136

 
(6,139
)
 
(119.5
)%
Total other expense, net
$
(4,040
)
 
$
(7,767
)
 
$
(3,727
)
 
(48.0
)%
 
Nine Months Ended
 
 
 
 
 
September 30, 2015
 
September 30, 2014
 
Change
Interest income
$
157

 
$
226

 
$
(69
)
 
(30.5
)%
Interest expense
(12,687
)
 
(41,853
)
 
(29,166
)
 
(69.7
)%
Loss on extinguishment of debt
(9,795
)
 

 
9,795

 
 %
Other income, net
4,138

 
6,177

 
(2,039
)
 
(33.0
)%
Total other expense, net
$
(18,187
)
 
$
(35,450
)
 
$
(17,263
)
 
(48.7
)%
Total other expense, net decreased to $4.0 million for the three months ended September 30, 2015 from $7.8 million for the three months ended September 30, 2014. Total other expense, net decreased to $18.2 million for the nine months ended September 30, 2015 from $35.5 million for the nine months ended September 30, 2014. These decreases were primarily driven by a $9.9 million and $29.2 million decrease in interest expense for the three and nine months ended September 30, 2015 compared to the three and nine months ended September 30, 2014, respectively, due to lower outstanding debt balances

32



Table of Contents



and decreased interest rates in 2015 as a result of our debt repayment and refinancing activities during the fourth quarter of 2014 and second quarter of 2015.
The decrease in total other expense, net for the three months ended September 30, 2015 compared to the three months ended September 30, 2014 was partially offset by a $6.1 million decrease in other income, net, primarily due to higher foreign currency gains in 2014 as compared to losses in 2015 as a result of the strengthening of the U.S. dollar. The decrease in total other expense, net for the nine months ended September 30, 2015 compared to the nine months ended September 30, 2014 was partially offset by a $2.0 million decrease in other income, net, primarily due to higher foreign currency gains in 2014 as compared to 2015 as a result of the strengthening of the U.S. dollar and the $9.8 million loss on extinguishment of debt associated with the 2015 debt refinancing in the second quarter of 2015.
Income Tax Benefit (Expense)
Income tax expense was $2.5 million for the three months ended September 30, 2015 compared to $2.4 million for the three months ended September 30, 2014. Income tax benefit (expense) was a tax expense of $8.1 million for the nine months ended September 30, 2015 compared to a tax benefit of $16.6 million for the nine months ended September 30, 2014. Our effective tax rate varies from the statutory rate of 35% principally due to maintaining a full valuation allowance on our deferred tax assets in the United States and the resulting changes in the valuation allowance from period to period. In addition, income taxes for the three and nine months ended September 30, 2015 were impacted by $0.8 million and $2.9 million, respectively, related to discrete tax adjustments primarily from the release of a portion of unrecognized tax benefits. Income taxes for the three and nine months ended September 30, 2014 were impacted by a $23.1 million discrete income tax benefit recognized as the result of the release of the valuation allowance on certain foreign tax deferred tax assets, primarily net operating losses. Other variances from the statutory rate of 35% were due to (i) income or losses generated in jurisdictions where the income tax expense or benefit was offset by a corresponding change in the valuation allowance on net deferred tax assets and (ii) the geographical split of pre-tax income.
We recorded a valuation allowance against all of our deferred tax assets related to net operating loss carryforwards in the United States as of September 30, 2015 and December 31, 2014, respectively. We assess both positive and negative evidence available to estimate whether future taxable income will be available to permit the use of the existing deferred tax assets. As of September 30, 2015, a significant component of the evidence evaluated was the historical losses experienced in the United States. Such objective negative evidence limits our ability to consider other subjective evidence, such as our projections for future growth. However, given our current earnings and anticipated future earnings, we believe it is reasonably possible that within the next 12 months sufficient positive evidence may become available to allow us to conclude that a significant portion of the valuation allowance will no longer be needed. The release of the valuation allowance would result in the recognition of certain deferred tax assets and a decrease to income tax expense for the period in which the release is recorded. The exact timing and amount of the valuation allowance released are subject to change and are based on the level of profitability that we are able to achieve and can reasonably forecast.

Net Income
Net income increased to $37.8 million and $86.4 million for the three and nine months ended September 30, 2015, respectively, from $12.6 million and $26.3 million for the three and nine months ended September 30, 2014, respectively. These increases were primarily due to the reasons discussed above, in particular, the impact of increased net services revenue, the overall decrease of operating expenses as a percentage of net service revenue, the decrease in asset impairment charges compared to the prior year, and the decrease in interest expense as a result of our 2014 and 2015 debt refinancing activities. Partially offsetting these increases was the $9.8 million loss on extinguishment of debt associated with the 2015 debt refinancing in the second quarter of 2015, and the change in income tax position from income tax benefit to income tax expense due to the release of the valuation allowance in the second quarter of 2014.

33



Table of Contents



Liquidity and Capital Resources
Key measures of our liquidity are as follows (in thousands):
 
September 30,
2015
 
December 31,
2014
Balance sheet statistics:
 
 
 
Cash and cash equivalents
$
136,091

 
$
126,453

Restricted cash
431

 
505

Working capital, excluding restricted cash
58,686

 
46,598

We fund our operations and growth, including acquisitions, primarily with our working capital, cash flow from operations and funds available for borrowing under our $150.0 million revolving credit facility. Our principal liquidity requirements are to fund our debt service obligations, capital expenditures, expansion of services, possible acquisitions, integration and restructuring costs, geographic expansion, working capital and other general corporate expenses. Based on past performance and current expectations, we believe our cash and cash equivalents, cash generated from operations and funds available under our revolving credit facility will be sufficient to meet our working capital needs, capital expenditures, scheduled debt and interest payments, income tax obligations and other currently anticipated liquidity requirements for at least the next 12 months.
On May 14, 2015, we entered into a new five-year $675.0 million 2015 Credit Agreement, consisting of a $525.0 million term loan facility and a $150.0 million revolving line of credit, letter of credit and swingline facility. On June 15, 2015, we made a $50.0 million prepayment on the term loan, which will be applied against the regularly-scheduled quarterly principal payments. See Note 4 - Long-Term Debt to our condensed consolidated financial statements for information about the terms of this agreement.
As of September 30, 2015, we had total principal amount of indebtedness (including capital leases) of approximately $475.1 million. Further, we had undrawn commitments available for additional borrowings under our senior secured facilities of $149.0 million (net of $1.0 million in outstanding letters of credit as of September 30, 2015) which we may use for working capital and other purposes. The issuance of additional debt and the related incremental interest expense could adversely affect our operations and financial condition or limit our ability to secure additional capital and other resources.
Our ability to make payments on our indebtedness and to fund planned capital expenditures and necessary working capital will depend on our ability to generate cash in the future. Management believes that cash on hand, cash flows from operations and funds available under the revolving credit facility will be sufficient to meet our working capital and other currently anticipated cash needs, scheduled debt and interest payments and income tax obligations. However, our ability to meet our cash needs through cash flows from operations will depend on the demand for our services, as well as general economic, financial, competitive and other factors, many of which are beyond our control. Our business might not generate cash flow in an amount sufficient to enable us to pay the principal of, or interest on, our indebtedness, or to fund our other liquidity needs, including working capital, capital expenditures, acquisitions, investments and other general corporate requirements. If we cannot fund our liquidity needs, we will have to take actions such as reducing or delaying capital expenditures, acquisitions or investments, selling assets, restructuring or refinancing our debt, reducing the scope of our operations and growth plans, or seeking additional equity capital. There can be no assurances that any of these remedies could, if necessary, be affected on commercially reasonable terms, or at all, or that they would permit us to meet our scheduled debt service obligations. Our 2015 Credit Agreement limits the use of proceeds from any disposition of assets and, as a result, we may not be allowed, under the agreement, to use the proceeds from any such dispositions to satisfy all current debt service obligations.

34



Table of Contents



Nine Months Ended September 30, 2015 compared to Nine Months Ended September 30, 2014
For the nine months ended September 30, 2015 and 2014, our cash flows from operating, investing and financing activities were as follows (in thousands, except percentages):
 
Nine Months Ended
 
 
 
 
 
September 30, 2015
 
September 30, 2014
 
Change
Net cash provided by operating activities
$
141,122

 
$
117,328

 
$
23,794

 
20.3
 %
Net cash used in investing activities
(11,565
)
 
(20,041
)
 
8,476

 
42.3
 %
Net cash used in financing activities
(109,384
)
 
(8,213
)
 
(101,171
)
 
(1,231.8
)%
Cash Flows from Operating Activities
For the nine months ended September 30, 2015, our operating activities provided $141.1 million in cash flow, consisting of a net income of $86.4 million, adjusted for net non-cash items of $58.2 million primarily related to depreciation and amortization, loss on extinguishment of debt, stock repurchase costs, amortization of capitalized loan fees, stock-based compensation, asset impairment charges and foreign currency adjustments. In addition, $3.5 million of cash was used by changes in operating assets and liabilities, consisting primarily of an increase in billed and unbilled accounts receivable and other assets and liabilities, partially offset by an increase in deferred revenue.
For the nine months ended September 30, 2014, our operating activities provided $117.3 million in cash flow, consisting of a net income of $26.3 million, adjusted for net non-cash items of $34.6 million primarily related to depreciation and amortization, amortization of capitalized loan fees, stock-based compensation, asset impairment charges, foreign currency adjustments and deferred income taxes. In addition, $56.4 million of cash was provided by changes in operating assets and liabilities, consisting primarily of an increase in deferred revenue and accounts payable and accrued liabilities, partially offset by a decrease in billed and unbilled accounts receivable.
The changes in operating assets and liabilities result primarily from the net movement in accounts receivable, unbilled revenue and deferred revenue, coupled with changes in accrued liabilities. Fluctuations in billed and unbilled receivables and deferred revenue occur on a regular basis as we perform services, achieve milestones or other billing criteria, send invoices to customers and collect outstanding accounts receivable. This activity varies by individual customer and contract. We attempt to negotiate payment terms that provide for payment of services prior to or soon after the provision of services, but the levels of unbilled services and deferred revenue can vary significantly from period to period.
Cash flows from operations increased by $23.8 million during the nine months ended September 30, 2015 compared to the nine months ended September 30, 2014, primarily due to year-over-year increase in net income of $60.1 million and a year-over-year increase in net non-cash items of $23.6 million, partially offset by a decrease of $59.9 million due to a reduction in the cash inflow from working capital.
Cash Flows from Investing Activities
For the nine months ended September 30, 2015, we used $11.6 million in cash for investing activities for the purchase of property and equipment. For the full year 2015, we expect our total capital expenditures to be between $20.0 million and $22.0 million.
For the nine months ended September 30, 2014, we used $20.0 million in cash for investing activities, comprised of the purchase of property and equipment of $17.7 million and the 2014 MEK Consulting acquisition payment of $2.3 million.

35



Table of Contents



Cash Flows from Financing Activities
For the nine months ended September 30, 2015, financing activities used $109.4 million in cash, primarily driven by payments of $150.9 million related to the stock repurchase in May 2015, $3.2 million in payments related to tax withholdings for stock-based compensation and payments of $1.0 million related to the 2014 MEK Consulting acquisition. These cash outflows were partially offset by net inflows of $45.0 million, consisting primarily of the proceeds from the 2015 debt refinancing, offset by the June 2015 prepayment of $50.0 million of debt principal under the 2015 Credit Agreement and proceeds of $1.1 million from the exercise of stock options.
For the nine months ended September 30, 2014, financing activities used $8.2 million in cash, primarily driven by $7.9 million in net repayments on long term debt and capital leases obligations.
Contractual Obligations and Commitments
On May 14, 2015, we entered into a new five-year 2015 Credit Agreement. See Note 4 - Long-Term Debt to our condensed consolidated financial statements for information about the terms of this agreement.
The following table summarizes our expected material contractual obligations under this agreement as of September 30, 2015 (in thousands):
 
Payment Due by Period
 
Total
 
Remaining 2015
(3 Months)
 
2016 to 2017
 
2018 to 2019
 
2020