STG Group, Inc.
Condensed Consolidated Balance Sheets
March 31, 2017 (Unaudited) and December 31, 2016
(In Thousands, Except Share and Per Share Amounts)
|
|
March 31, 2017
|
|
|
December 31, 2016
|
|
Assets
|
|
|
|
|
|
|
|
|
Current Assets
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
|
$
|
4,002
|
|
|
$
|
7,841
|
|
Contract receivables, net
|
|
|
28,058
|
|
|
|
28,784
|
|
Investments held in Rabbi Trust
|
|
|
394
|
|
|
|
332
|
|
Prepaid expenses and other current assets
|
|
|
2,812
|
|
|
|
2,294
|
|
Total current assets
|
|
|
35,266
|
|
|
|
39,251
|
|
|
|
|
|
|
|
|
|
|
Property and equipment, net
|
|
|
1,152
|
|
|
|
1,157
|
|
Goodwill
|
|
|
72,313
|
|
|
|
72,313
|
|
Intangible assets, net
|
|
|
30,350
|
|
|
|
31,984
|
|
Other assets
|
|
|
423
|
|
|
|
423
|
|
|
|
|
|
|
|
|
|
|
Total assets
|
|
$
|
139,504
|
|
|
$
|
145,128
|
|
|
|
|
|
|
|
|
|
|
Liabilities and Stockholders’ Equity
|
|
|
|
|
|
|
|
|
Current Liabilities
|
|
|
|
|
|
|
|
|
Long-term debt, current portion
|
|
$
|
71,513
|
|
|
$
|
4,496
|
|
Accounts payable and accrued expenses
|
|
|
11,591
|
|
|
|
11,683
|
|
Accrued payroll and related liabilities
|
|
|
6,233
|
|
|
|
6,391
|
|
Billings in excess of revenue recognized
|
|
|
858
|
|
|
|
688
|
|
Deferred compensation plan
|
|
|
394
|
|
|
|
332
|
|
Deferred rent
|
|
|
123
|
|
|
|
228
|
|
Total current liabilities
|
|
|
90,712
|
|
|
|
23,818
|
|
|
|
|
|
|
|
|
|
|
Long-term debt, net of current portion and discount
|
|
|
-
|
|
|
|
67,694
|
|
Deferred income taxes
|
|
|
4,411
|
|
|
|
6,354
|
|
Deferred rent
|
|
|
805
|
|
|
|
743
|
|
Total liabilities
|
|
|
95,928
|
|
|
|
98,609
|
|
|
|
|
|
|
|
|
|
|
Commitments and Contingencies
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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Stockholders’ Equity
|
|
|
|
|
|
|
|
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Preferred stock; $0.0001 par value; 10,000,000 shares authorized; none issued and outstanding
|
|
|
-
|
|
|
|
-
|
|
Common stock; $0.0001 par value; 100,000,000 shares authorized; 16,603,449 shares issued and outstanding at March 31, 2017 and December 31, 2016
|
|
|
2
|
|
|
|
2
|
|
Additional paid-in capital
|
|
|
103,352
|
|
|
|
102,920
|
|
Accumulated deficit
|
|
|
(59,778
|
)
|
|
|
(56,403
|
)
|
Total stockholders’ equity
|
|
|
43,576
|
|
|
|
46,519
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and stockholdersʼ equity
|
|
$
|
139,504
|
|
|
$
|
145,128
|
|
See accompanying notes to the condensed consolidated financial
statements.
STG Group, Inc.
Unaudited Condensed Consolidated Statements of Operations
Three Months Ended March 31, 2017 and 2016
(In Thousands, Except Share and Per Share Amounts)
|
|
Three Months Ended
March 31, 2017
|
|
|
Three Months Ended
March 31, 2016
|
|
|
|
|
|
|
|
|
Contract revenue
|
|
$
|
35,778
|
|
|
$
|
40,606
|
|
Direct expenses
|
|
|
23,715
|
|
|
|
27,461
|
|
|
|
|
|
|
|
|
|
|
Gross profit
|
|
|
12,063
|
|
|
|
13,145
|
|
|
|
|
|
|
|
|
|
|
Indirect and selling expenses
|
|
|
14,913
|
|
|
|
12,703
|
|
|
|
|
|
|
|
|
|
|
Operating (loss) income
|
|
|
(2,850
|
)
|
|
|
442
|
|
|
|
|
|
|
|
|
|
|
Other income (expense)
|
|
|
|
|
|
|
|
|
Other income (expense), net
|
|
|
18
|
|
|
|
(398
|
)
|
Interest expense
|
|
|
(2,425
|
)
|
|
|
(2,162
|
)
|
|
|
|
(2,407
|
)
|
|
|
(2,560
|
)
|
|
|
|
|
|
|
|
|
|
Loss before income taxes
|
|
|
(5,257
|
)
|
|
|
(2,118
|
)
|
|
|
|
|
|
|
|
|
|
Income tax benefit
|
|
|
(1,882
|
)
|
|
|
(649
|
)
|
Net loss
|
|
$
|
(3,375
|
)
|
|
$
|
(1,469
|
)
|
|
|
|
|
|
|
|
|
|
Net loss per share
|
|
|
|
|
|
|
|
|
Basic and diluted
|
|
$
|
(0.20
|
)
|
|
$
|
(0.09
|
)
|
|
|
|
|
|
|
|
|
|
Weighted average number of common shares outstanding
|
|
|
|
|
|
|
|
|
Basic and diluted
|
|
|
16,603,449
|
|
|
|
16,107,071
|
|
See accompanying notes to the condensed consolidated financial
statements.
STG Group, Inc.
Unaudited Condensed Consolidated Statements of Cash Flows
Three Months Ended March 31, 2017 and 2016
(In Thousands)
|
|
Three Months Ended
March 31, 2017
|
|
|
Three Months Ended
March 31, 2016
|
|
Cash Flows From Operating Activities
|
|
|
|
|
|
|
|
|
Net loss
|
|
$
|
(3,375
|
)
|
|
$
|
(1,469
|
)
|
Adjustments to reconcile net loss to net cash used in operating activities:
|
|
|
|
|
|
|
|
|
Deferred taxes
|
|
|
(1,943
|
)
|
|
|
(680
|
)
|
Deferred rent
|
|
|
(43
|
)
|
|
|
128
|
|
Amortization of deferred financing costs
|
|
|
345
|
|
|
|
355
|
|
Depreciation and amortization of property and equipment
|
|
|
115
|
|
|
|
139
|
|
Amortization of intangible assets
|
|
|
1,634
|
|
|
|
1,751
|
|
Stock-based compensation
|
|
|
432
|
|
|
|
39
|
|
Changes in assets and liabilities:
|
|
|
|
|
|
|
|
|
(Increase) decrease in:
|
|
|
|
|
|
|
|
|
Contract receivables
|
|
|
726
|
|
|
|
6,747
|
|
Prepaid expenses and other current assets
|
|
|
(518
|
)
|
|
|
(1,712
|
)
|
Other assets
|
|
|
-
|
|
|
|
9
|
|
Increase (decrease) in:
|
|
|
|
|
|
|
|
|
Accounts payable and accrued expenses
|
|
|
(92
|
)
|
|
|
(1,560
|
)
|
Accrued payroll and related liabilities
|
|
|
(158
|
)
|
|
|
(752
|
)
|
Deferred compensation plan
|
|
|
43
|
|
|
|
(4,006
|
)
|
Billings in excess of revenue recognized
|
|
|
170
|
|
|
|
157
|
|
Net cash used in operating activities
|
|
|
(2,664
|
)
|
|
|
(854
|
)
|
|
|
|
|
|
|
|
|
|
Cash Flows From Investing Activities
|
|
|
|
|
|
|
|
|
Proceeds from sales of investments held in Rabbi Trust
|
|
|
-
|
|
|
|
4,006
|
|
Purchase of investments held in Rabbi Trust
|
|
|
(43
|
)
|
|
|
-
|
|
Purchases of property and equipment
|
|
|
(110
|
)
|
|
|
-
|
|
Net cash (used in) provided by investing activities
|
|
|
(153
|
)
|
|
|
4,006
|
|
|
|
|
|
|
|
|
|
|
Cash Flows From Financing Activities
|
|
|
|
|
|
|
|
|
Payments on long-term debt
|
|
|
(1,022
|
)
|
|
|
(511
|
)
|
Net cash used in financing activities
|
|
|
(1,022
|
)
|
|
|
(511
|
)
|
|
|
|
|
|
|
|
|
|
Net (decrease) increase in cash and cash equivalents
|
|
|
(3,839
|
)
|
|
|
2,641
|
|
|
|
|
|
|
|
|
|
|
Cash and Cash Equivalents
|
|
|
|
|
|
|
|
|
Beginning
|
|
|
7,841
|
|
|
|
8,503
|
|
|
|
|
|
|
|
|
|
|
Ending
|
|
$
|
4,002
|
|
|
$
|
11,144
|
|
|
|
|
|
|
|
|
|
|
Supplemental Disclosure of Cash Flow Information
|
|
|
|
|
|
|
|
|
Cash paid for interest
|
|
$
|
2,284
|
|
|
$
|
1,806
|
|
|
|
|
|
|
|
|
|
|
Cash paid for income taxes
|
|
$
|
19
|
|
|
$
|
597
|
|
|
|
|
|
|
|
|
|
|
Supplemental Disclosures of Non-Cash Investing Activities
|
|
|
|
|
|
|
|
|
Change in investments held in Rabbi Trust
|
|
$
|
(19
|
)
|
|
$
|
(401
|
)
|
|
|
|
|
|
|
|
|
|
Change in deferred compensation plan
|
|
$
|
19
|
|
|
$
|
401
|
|
See accompanying notes to the condensed consolidated financial
statements.
STG Group, Inc.
|
|
Notes to the Consolidated Financial Statements
|
(In thousands, except share and per share amounts)(Unaudited)
|
Note 1. Nature of Business and Significant Accounting Policies
Nature of business:
STG Group, Inc. (formerly, Global
Defense & National Security Systems, Inc. or GDEF) and its subsidiaries (collectively, the Company) was originally incorporated
in Delaware on July 3, 2013 as a blank check company, with Global Defense & National Security Holdings LLC (”Global Defense
LLC” or the “Sponsor”) as Sponsor, formed for the purpose of effecting a merger, capital stock exchange, asset
acquisition, stock purchase, reorganization, exchangeable share transaction or other similar business combination. On November
23, 2015, the Company consummated its business combination with STG Group Holdings, Inc. (formerly, STG Group, Inc. or “STG
Group”) pursuant to the stock purchase agreement, dated as of June 8, 2015, which provided for the purchase of all the capital
stock of STG Group by the Company (the “Business Combination”). In connection with the closing of the Business Combination,
the Company ceased to be a shell company in accordance with its Amended and Restated Certificate of Incorporation. The Company
also changed its name from Global Defense & National Security Systems, Inc. to STG Group, Inc.. The Company’s common
stock now trades over-the-counter on the OTCQB exchange, under the symbol “STGG”.
The Company provides enterprise engineering, telecommunications,
information management and security products and services to the federal government and commercial businesses. Segment information
is not presented since all of the Company’s revenue is attributed to a single reportable segment.
Basis of presentation:
The accompanying unaudited condensed
consolidated financial statements of the Company have been prepared in accordance with generally accepted accounting principles
for interim financial reporting and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes
required by generally accepted accounting principles for complete financial statements. For additional information, including the
Company’s significant accounting policies, refer to the consolidated financial statements and related footnotes in the Company’s
consolidated financial statements included in the Company’s Annual Report on Form 10-K as of and for the year ended December
31, 2016.
STG Group, Inc.
|
|
Notes to the Consolidated Financial Statements
|
(In thousands, except share and per share amounts)(Unaudited)
|
|
Note 1.
|
Nature of Business and Significant Accounting Policies (Continued)
|
In the opinion of management, all adjustments considered necessary
for a fair statement of financial results have been made. Such adjustments consist of only those of a normal recurring nature.
Operating results for the three months ended March 31, 2017 and 2016, are not necessarily indicative of the results that may be
expected for the entire fiscal year.
Revision of Prior Period Financial Statements
During the first quarter of 2017, the Company identified a
typographical error in the long-term debt line reported in the Consolidated Balance Sheets for the year ended December 31, 2016
contained in the Company’s Annual Report on Form 10-K for that year. The typographical error had no impact on the Consolidated
Statements of Operations, Stockholders’ Equity or Cash Flows. The correct long-term debt was reflected in Note 7 to those
financial statements. Management has determined that the correction is not material to the previously issued financial statements
and footnotes. The Company has corrected the error in this Form 10-Q filing.
The following table summarizes the revision made to the Company’s
long-term debt as of December 31, 2016 in its Consolidated Balance Sheets for the year ended December 31, 2016 (dollars in thousands):
|
|
Previously
Reported
|
|
|
Revised
|
|
|
|
|
|
|
|
|
|
|
Long-term debt, net of current portion and discount
|
|
|
72,522
|
|
|
|
67,694
|
|
Use of estimates:
The preparation of financial statements requires management to make estimates and assumptions that affect the reported amounts
of assets and liabilities and disclosure of contingent assets and liabilities at the date of the condensed consolidated financial
statements. Actual results could differ from those estimates.
Significant estimates embedded in the consolidated financial statements for the periods presented include
revenue recognition on fixed-price contracts, the allowance for doubtful accounts, the valuation and useful lives of intangible
assets, the length of certain customer relationships, useful lives of property, plant and equipment, valuation of assets held in
a Rabbi Trust and related deferred compensation liability. Estimates and assumptions are also used when determining the allocation
of the purchase price in a business combination to the fair value of assets and liabilities and determining related useful lives.
Going
concern:
The accompanying condensed consolidated financial statements have been prepared using the going concern
basis of accounting, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of
business
.
The Company was not in compliance with its financial covenants
related to the consolidated EBITDA and the senior secured leverage ratio under the Credit Agreement among the Company, MC Admin
Co LLC (the “Lender”) and the other lenders party thereto (the “Credit Agreement”) at September 30, 2016,
December 31, 2016, and March 31, 2017. At September 30, 2016, the non-compliance was cured by raising equity from stockholders’
(“Equity Cure”) as was allowed by the Credit Agreement. At December 31, 2016 the Company received a forbearance which
expired on March 31, 2017. The Company then entered into a Limited Waiver (“the Waiver”) from MC Admin Co LLC and other
lenders under the Credit Agreement as of March 31, 2017, pursuant to which the lenders waived the Company’s non-compliance
with the covenants related to the consolidated EBITDA, and the senior secured leverage ratio as of December 31, 2016. Pursuant
to the Waiver:
|
•
|
Loans under the Credit Agreement are subject to additional
interest at a rate of 2% per annum until the earliest of (x) the date on which all loans are repaid and all commitments
under the Credit Agreement are terminated, (y) the date the Company delivers the financial statements and certificates for the
quarter ending March 31, 2017 showing that they are not in default under the Credit Agreement or (z) the date on which default
interest is otherwise due under the Credit Agreement;
|
STG Group, Inc.
|
|
Notes to the Consolidated Financial Statements
|
(In thousands, except share and per share amounts)(Unaudited)
|
|
•
|
The Company must obtain lender consent prior to use of its revolving credit facility; and
|
|
•
|
The Company cannot effect
a Cure Right with respect to the quarter ending March 31, 2017.
|
The Company was not in compliance with the covenants related
to the consolidated EBITDA and the senior secured leverage ratio as of March 31, 2017. The Lender has not granted a waiver for
the covenant violations as of March 31, 2017. Without a waiver or other relief under the Credit Agreement, one of the remedies
the Lender has available to it, amongst others, is the ability to accelerate repayment of the debt, which the Company would not
be able to immediately repay.
The Credit Agreement also provides that the minimum consolidated
EBITDA requirement will be increased on June 30, 2017. If the business continues to perform at the current level through that period,
the Company does not expect to satisfy that covenant or the senior secured leverage ratio at that time, and it is likely that the
Company will be in non-compliance at June 30, 2017. The Company’s inability to meet the required covenant levels could have
a material adverse impact to the Company, including the need for the Company to effect an additional Cure Right or obtain additional
forbearance or an amendment, waiver, or other changes in the Credit Agreement. The Credit Agreement does not allow the Company
to exercise the Cure Right in consecutive fiscal quarters, more than three fiscal quarters in the aggregate, in more than two of
any four fiscal quarters or for the quarter ending March 31, 2017. The amount allowed under the Cure Right may not exceed the lesser
of $2.5 million and 20% of consolidated EBITDA. The aggregate of Cure Rights may not exceed $5 million.
The Lender’s not having granted a waiver or other relief
from the Lender and the potential acceleration of the debt by the Lender resulted in the reclassification of debt from a long-term
liability to a current liability as of March 31, 2017.
Even if the Lender does grant forbearance or an amendment to
or waiver under the Credit Agreement, any future covenant non-compliance could give rise to an event of default thereunder.
In addition, on May 18, 2017, the Company received a notice
of default (the “Default Notice”) from MC Admin Co LLC (“MC Admin”) that states the Company was in default
under the Credit Agreement for failing to deliver an annual budget to the lenders on January 15, 2017 as required by the Credit
Agreement (the “Budget Delivery Default”). The Company believes this notice is incorrect, as the Company previously
provided the required information to the lenders on February 7, 2017. The Default Notice stated that MC Admin was not taking action
to enforce the lenders’ rights under the Credit Agreement at this time, although it also provided that, as a result of the
default, the lenders had no obligations under the Credit Agreement to provide any additional loans or letters of credit. The Lender
has not granted a waiver or other relief from the Budget Delivery Default.
The potential acceleration of the loan repayment due to the
Lender not providing a waiver required the Company to evaluate whether there is substantial doubt regarding the Company’s
ability to continue as a going concern.
Management’s Plan to alleviate this condition is as follows:
|
1.
|
Complete the PSS Holdings, Inc. (“PSS”)
transaction including the raising of equity and refinancing of the current Credit Agreement;
|
|
2.
|
Identify, qualify, and win new business to increase
revenue and profits, or
|
|
3.
|
Renegotiate the current
Credit Agreement to obtain relief from the existing financial covenants and other terms.
|
The Company considered the likelihood of completing the PSS
acquisition financing which contemplates the negotiation of a new financial agreement with both new and existing lenders and investors,
including new financial covenants for the combined business. The Company also considered the likelihood of renegotiation of the
financial covenants with existing lenders in the event the acquisition of PSS is not completed. Based upon an executed term sheet
for financing of the planned acquisition of the PSS which contemplated new loans and financial covenants and discussions with the
Lender regarding the need to renegotiate the existing financial covenants in the Credit Agreement in the event the acquisition
is not completed, management determined that it was probable that the condition giving rise to the going concern evaluation had
been sufficiently alleviated as of December 31, 2016. However, the Lender has not currently granted a waiver or other relief for
the Budget Delivery Default or the financial covenant violations as of March 31, 2017. Consequently, management has changed our
assessment regarding the potential acceleration of the loan repayment made as of December 31, 2016. As the Lender has not currently
granted a waiver or other form of relief for the financial covenant violations as of March 31, 2017, and as disclosed above, sent
us a default letter on May 18, 2017, there exists substantial doubt about our ability to complete the PSS acquisition, or to continue
as a going concern, in the event the Lender exercises its rights to accelerate the repayment of the loan.
These condensed consolidated financial statements do not
include any adjustments to reflect the possible future effects on the recoverability and classification of assets and
liabilities that may result in the Company not being able to continue as a going concern.
Revenue recognition:
Revenue is recognized when persuasive
evidence of an arrangement exists, services have been rendered or goods delivered, the contract price is fixed or determinable
and collectability is reasonably assured. Revenue associated with work performed prior to the completion and signing of contract
documents is recognized only when it can be reliably estimated and realization is probable. The Company bases its estimates on
previous experiences with the customer, communications with the customer regarding funding status and its knowledge of available
funding for the contract.
Revenue on cost-plus-fee contracts is recognized to the extent
of costs incurred plus a proportionate amount of the fee earned. The Company considers fixed fees under cost-plus-fee contracts
to be earned in proportion to the allowable costs incurred in performance of the contract. The Company considers performance-based
fees, including award fees, under any contract type to be earned when it can demonstrate satisfaction of performance goals, based
upon historical experience, or when the Company receives contractual notification from the customer that the fee has been earned.
Revenue on time-and-materials contracts is recognized based on the hours incurred at the negotiated contract billing rates, plus
the cost of any allowable material costs and out-of-pocket expenses. Revenue on fixed-price contracts is primarily recognized using
the proportional performance method of contract accounting. Unless it is determined as part of the Company’s regular contract
performance review that overall progress on a contract is not consistent with costs expended to date, the Company determines the
percentage completed based on the percentage of costs incurred to date in relation to total estimated costs expected upon completion
of the contract. Revenue on other fixed-price service contracts is generally recognized on a straight-line basis over the contractual
service period, unless the revenue is earned, or obligations fulfilled, in a different manner.
Provisions for estimated losses on uncompleted contracts are
made in the period in which such losses are determined and are recorded as forward loss liabilities in the consolidated financial
statements. Changes in job performance, job conditions and estimated profitability may result in revisions to costs and revenue
and are recognized in the period in which the revisions are determined.
STG Group, Inc.
|
|
Notes to the Consolidated Financial Statements
|
(In thousands, except share and per share amounts)(Unaudited)
|
|
Note 1.
|
Nature of Business and Significant Accounting Policies (Continued)
|
Multiple agencies of the federal government directly or indirectly provided the majority of the Company's
contract revenue during the three months ended March 31, 2017 and 2016. For the three months ended March 31, 2017 and 2016, there
were two customers that each provided revenue in excess of 10% of total revenue. These customers accounted for approximately 82%
and 79% of the Company’s total revenue for the three months ended March 31, 2017 and 2016, respectively.
Federal government contract costs, including indirect costs,
are subject to audit and adjustment by the Defense Contract Audit Agency. Contract revenue has been recorded in amounts that are
expected to be realized upon final settlement.
Costs of revenue:
Costs of revenue include all direct
contract costs, as well as indirect overhead costs and selling, general and administrative expenses that are allowable and allocable
to contracts under federal procurement standards. Costs of revenue also include costs and expenses that are unallowable under applicable
procurement standards and are not allocable to contracts for billing purposes. Such costs and expenses do not directly generate
revenue, but are necessary for business operations.
For both the three months ended March 31, 2017 and 2016, there
was one vendor that comprised approximately 15% and 12% of total direct expenses, respectively.
Investments held in Rabbi Trust:
The Company has investments
in mutual funds held in a Rabbi Trust that are classified as trading securities. Management determines the appropriate classification
of the securities at the time they are acquired and evaluates the appropriateness of such classifications at each balance sheet
date. The securities are classified as trading securities because they are held for resale in anticipation of short-term (generally
90 days or less) fluctuations in market prices. The trading securities are stated at fair value. Realized and unrealized gains
and losses and other investment income are included in other income (expense) in the accompanying condensed consolidated statements
of operations.
Contract receivables:
Contract receivables are generated
primarily from prime and subcontracting arrangements with federal governmental agencies. Billed contract receivables represent
invoices that have been prepared based on contract terms and sent to the customer. Billed accounts receivable are considered past
due if the invoice has been outstanding more than 30 days. The Company does not charge interest on accounts receivable; however,
federal governmental agencies may pay interest on invoices outstanding more than 30 days. The Company records interest income from
federal governmental agencies when received. All contract receivables are on an unsecured basis.
Unbilled amounts represent costs and anticipated profits awaiting
milestones to bill, contract retainages, award fees and fee withholdings, as well as amounts currently billable.
In accordance with industry practice, contract receivables relating
to long-term contracts are classified as current, even though portions of these amounts may not be realized within one year.
Management determines the allowance for doubtful accounts by
regularly evaluating individual customer receivables and considering a customer’s financial condition, credit history and
current economic conditions. Management has recorded an allowance for contract receivables that are considered to be uncollectible.
Both billed and unbilled receivables are written off when deemed uncollectible. Recoveries of receivables previously written off
are recorded when received.
STG Group, Inc.
|
|
Notes to the Consolidated Financial Statements
|
(In thousands, except share and per share amounts)(Unaudited)
|
|
Note 1.
|
Nature of Business and Significant Accounting Policies (Continued)
|
Valuation of long-lived assets:
The Company accounts
for the valuation of long-lived assets, including amortizable intangible assets, under authoritative guidance issued by the Financial
Accounting Standards Board (FASB), which requires that long-lived assets and certain intangible assets be reviewed for impairment
whenever events or circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of the long-lived
assets is measured by a comparison of the carrying amount of the asset to future undiscounted net cash flows expected to be generated
by the assets. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which
the carrying amount of the assets exceeds the estimated fair value of the assets. No indicators of impairment were identified for
both of the three-month periods ended March 31, 2017 and 2016.
Identifiable intangible assets:
Intangible assets of
the Company are comprised of customer relationships and a trade name acquired as a result of the Business Combination. The Company
determined that the customer relationships and trade name represent finite-lived intangible assets with useful lives of eight to
fifteen years, respectively. The assets are being amortized proportionately over the term of their useful lives based on the estimated
economic benefit derived over the course of the asset life.
Goodwill:
The Company records the excess of the purchase
price of an acquired company over the fair value of the identifiable net assets acquired as goodwill. In accordance with authoritative
guidance issued by the FASB, entities can elect to use a qualitative approach to test goodwill for impairment. Under this approach,
the Company performs a qualitative assessment (Step zero) to determine whether it is more-likely-than-not that the fair value of
the reporting unit is less than the carrying value. If the fair value of the reporting unit is less than the carrying value of
the reporting unit, the Company is required to perform a goodwill impairment test using a two-step approach, which is performed
at the reporting unit level. In the second step, the implied value of the goodwill is estimated at the fair value of the reporting
unit, less the fair value of all other tangible and identifiable intangible assets of the reporting unit. If the carrying amount
of the goodwill exceeds the implied fair value of the goodwill, an impairment loss is recognized in the amount equal to that excess,
not to exceed the carrying amount of the goodwill. If the fair value of the reporting unit is not less than the carrying value
of the reporting unit, step two of the goodwill test is not required.
Application of the goodwill impairment test requires judgment,
including the identification of reporting units, assignment of assets and liabilities to reporting units, assignment of goodwill
to reporting units and determination of the fair value of each reporting unit. The fair value of each reporting unit is estimated
using a discounted cash flow methodology. This analysis requires significant judgments, including estimation of future cash flows,
which is dependent on internal forecasts, estimation of the long-term rate of growth for the business, estimation of the useful
life over which cash flows will occur and determination of the weighted-average cost of capital. This discounted cash flow analysis
is corroborated by top-down analysis, including a market assessment of enterprise value.
The Company has elected to perform its annual analysis on December
31 each year at the reporting unit level, and as of the Closing Date of the Business Combination, the Company determined that
there was one reporting unit. The Lender’s not having granted a waiver or other relief for the Budget Delivery Default or
the financial covenant violations as of March 31, 2017 resulting in the current classification of the Company’s long-term
debt is considered a triggering event requiring a step zero assessment. The Company’s assessment concluded that it is not
more likely than not that the fair value of the reporting unit is less than the carrying value and therefore is not impaired.
No triggering events occurred during the three months ended March 31, 2016 requiring an interim impairment test. If we are unable
to achieve revenue growth and increased profitability, future impairment tests may result in a goodwill impairment charge, which
could be material.
STG Group, Inc.
|
|
Notes to the Consolidated Financial Statements
|
(In thousands, except share and per share amounts)(Unaudited)
|
|
Note 1.
|
Nature of Business and Significant Accounting Policies (Continued)
|
Income taxes:
The Company accounts for income taxes under
FASB ASC Topic 740,
Income Taxes
(ASC740). At the end of each interim period, the Company estimates an annualized
effective tax rate expected for the full year based on the most recent forecast of pre-tax income, permanent book and tax differences,
and global tax planning strategies. The Company uses this effective rate to provide for income taxes on a year-to-date basis, excluding
the effect of significant, unusual, discrete or extraordinary items, and items that are reported net of their related tax effects.
The Company records the tax effect of significant, unusual, discrete or extraordinary items, and items that are reported net of
their tax effects in the period in which they occur.
In accordance with authoritative guidance on accounting for
uncertainty in income taxes issued by the FASB, management has evaluated the Company’s tax positions and has concluded that
the Company has taken no uncertain tax positions that require adjustment to the quarterly condensed consolidated financial statements
to comply with the provisions of this guidance.
Interest and penalties related to tax matters are recognized
in expense. There was no accrued interest or penalties recorded during the three months ended March 31, 2017 and 2016.
Fair value of financial instruments
The carrying value
of the Company’s cash and cash equivalents, contract receivables, line-of-credit, accounts payable and other short-term liabilities
are believed to approximate fair value as of March 31, 2017 and December 31, 2016, respectively, because of the relatively short
duration of these instruments. The Company also assessed long-term debt and determined that such amounts approximated fair value
primarily since its terms and interest approximate current market terms and was negotiated with an unrelated third party lender.
The Company considers the inputs related to these estimates to be Level 2 fair value measurements.
Certain assets and liabilities are recorded at fair value. Fair
value is defined as the price that would be received to sell an asset or paid to transfer a liability between market participants
in an orderly transaction on the measurement date. The market in which the reporting entity would sell the asset or transfer the
liability with the greatest volume and level of activity for the asset or liability is known as the principal market. When no principal
market exists, the most advantageous market is used. This is the market in which the reporting entity would sell the asset or transfer
the liability with the price that maximizes the amount that would be received or minimizes the amount that would be paid. Fair
value is based on assumptions market participants would make in pricing the asset or liability. Generally, fair value is based
on observable quoted market prices or derived from observable market data when such market prices or data are available. When such
prices or inputs are not available, the reporting entity should use valuation models.
The Company’s assets recorded at fair value on a recurring
basis are categorized based on the priority of the inputs used to measure fair value. Fair value measurement standards require
an entity to maximize the use of observable inputs (such as quoted prices in active markets) and minimize the use of unobservable
inputs (such as appraisals or other valuation techniques) to determine fair value. The inputs used in measuring fair value are
categorized into three levels, as follows:
|
Level 1
|
Inputs that are based upon quoted prices for identical instruments traded in active markets.
|
|
Level 2
|
Inputs that are based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar investments in markets that are not active, or models based on valuation techniques for which all significant assumptions are observable in the market or can be corroborated by observable market data for substantially the full term of the investment.
|
STG Group, Inc.
|
|
Notes to the Consolidated Financial Statements
|
(In thousands, except share and per share amounts)(Unaudited)
|
|
Note 1.
|
Nature of Business and Significant Accounting Policies (Continued)
|
|
Level 3
|
Inputs that are generally unobservable and typically reflect management’s estimates of assumptions
that market participants would use in pricing the asset or liability. The fair values are therefore determined using model-based
techniques that include option pricing models, discounted cash flow models and similar techniques. As of March 31, 2017 and December
31, 2016, the Company has no financial assets or liabilities that are categorized as Level 3.
|
The Company has investments carried at fair value in mutual
funds held in a Rabbi Trust, which is included in investments held in Rabbi Trust on the accompanying condensed consolidated balance
sheets. The Company does not measure non-financial assets and liabilities at fair value unless there is an event which requires
this measurement.
Financial credit risk:
The Company’s assets that
are exposed to credit risk consist primarily of cash and cash equivalents, investments held in Rabbi Trust and contract receivables.
Cash and cash equivalents are deposited with high-credit, quality financial institutions whose balances may, at times, exceed federally
insured limits. The Company has not experienced any losses in such amounts and believes that it is not exposed to any significant
credit risk on cash and cash equivalents. Investments held in Rabbi Trust are stated at fair value at each reporting period and
are subject to market fluctuations. Contract receivables consist primarily of amounts due from various agencies of the federal
government or prime contractors doing business with the federal government. Historically, the Company has not experienced significant
losses related to contract receivables and, therefore, believes that the credit risk related to contract receivables is minimal.
Debt issuance costs:
In April 2015, the FASB issued Accounting
Standards Update (ASU) 2015-03,
Interest— Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt
Issuance Costs
. Therefore, financing costs incurred for fees paid to lenders and other parties in connection with debt issuances
are recorded as a deduction against the related debt agreement and amortized by the effective interest method over the terms of
the related financing arrangements. In connection with the term loan described further in Note 6, the Company recorded amortization
of $0.3 million and $0.4 million for the three months ended March 31, 2017 and 2016, respectively, which is included in interest
expense.
Stock based compensation:
The Company measures
compensation expense for stock based equity awards based on the fair value of the awards on the grant date. Compensation is
recognized as expense in the accompanying condensed consolidated statements of operations ratably over the required service
period or, for performance based awards, when the achievement of the performance targets become probable.
Net loss per share:
Basic
net loss per share available to common shareholders of the Company is calculated by dividing the net loss by the weighted average
number of common shares outstanding during the period. Common shares issuable upon exercise of the stock options and future vesting
of the restricted stock awards (see Note 11) have not been included in the computation because their inclusion would have had
an antidilutive effect for all periods presented.
STG Group, Inc.
|
|
Notes to the Consolidated Financial Statements
|
(In thousands, except share and per share amounts)(Unaudited)
|
|
Note 1.
|
Nature of Business and Significant Accounting Policies (Continued)
|
Recent accounting pronouncements:
We consider the applicability
and impact of all ASUs. ASUs not listed below were assessed and determined to be either not applicable or are expected to have
minimal impact on our condensed consolidated financial position or results of operations.
In May 2014, the FASB issued ASU 2014-09,
Revenue from Contracts
with Customers (Topic 606)
, which establishes a comprehensive revenue recognition standard for virtually all industries under
GAAP, including those that previously followed industry-specific guidance. Under the guidance, all entities should recognize revenue
to depict the transfer of promised goods and services to customers in an amount that reflects the consideration to which the entity
expects to be entitled in exchange for those goods or services. Additionally, various updates have been issued during 2015 and
2016 to clarify the guidance in Topic 606. The guidance is effective for the Company in the first quarter of 2018. Early adoption
is not permitted. Management has not yet assessed the potential impact of this guidance on its consolidated financial statements.
In February 2016, the FASB issued ASU 2016-02,
Leases (Topic
842
). The standard impacts both lessors and lessees. The most significant change for lessees is that the requirement to recognize
right-to-use assets and lease liabilities for all leases not considered short term. The guidance is effective for fiscal years
beginning after December 15, 2018, and will be applied on a modified retrospective basis. The Company is currently evaluating the
impact of the adoption of this standard on its consolidated financial statements.
In March 2016, the FASB issued ASU 2016-09,
Compensation
– Stock Compensation (Topic 718), Improvements to Employee Share-Based Payment Accounting
. ASU 2016-09 is intended to
simplify several aspects of accounting for share-based payment awards, including the income tax consequences, classification of
awards as either equity or liabilities, and classification on the statement of cash flows. For example, the new guidance requires
all excess tax benefits and tax deficiencies related to share-based payments to be recognized in income tax expense, and for those
excess tax benefits to be recognized regardless of whether it reduces current taxes payable. The ASU also allows an entity-wide
accounting policy election to either estimate the number of awards that are expected to vest or account for forfeitures as they
occur. These amendments are effective for fiscal years, and interim periods within those fiscal years, beginning after December
15, 2016. Therefore, the effective date was the first quarter of 2017. The adoption of this new standard did not have a material
impact on the condensed consolidated financial statements. The Company made a policy election to account for forfeitures as they
occur.
In June 2016, the FASB issued ASU No. 2016-13,
Measurement of Credit Losses on Financial Instruments
.
ASU 2016-13 will replace the incurred loss impairment methodology in current GAAP with a methodology that reflects expected credit
losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates.
The amendments affect loans, debt securities, trade receivables, net investments in leases, off balance sheet credit exposures,
reinsurance receivables, and any other financial assets not excluded from the scope that have the contractual right to receive
cash. ASU 2016-13 will be effective for the Company beginning in the first quarter of fiscal year 2020, and early adoption is permitted
but not earlier than fiscal year 2019. The Company does not expect the adoption of ASU 2016-13 to have a material impact on its
consolidated financial statements.
In August 2016, the FASB issued ASU 2016-15,
Statement of
Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments
. The amendments in this update clarify the
guidance regarding the classification of operating, investing, and financing activities for certain types of cash receipts and
payments. The amendments in this update are effective for the annual periods, and the interim periods within those years, beginning
after December 15, 2017, and should be applied using a retrospective transition method to each period presented. Early adoption
is permitted. The Company is evaluating the impact of adopting ASU 2016-15, if any, to its consolidated financial statements.
In November 2016, the FASB issued ASU 2016-18,
Statement
of Cash Flows (Topic 230): Restricted Cash (a consensus of the FASB Emerging Issues Task Force),
which provides guidance on
the presentation of restricted cash or restricted cash equivalents in the statement of cash flows. These amendments are effective
for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017. The Company is currently evaluating
the impact of the adoption of this guidance on its consolidated financial statements.
In January 2017, the FASB issued ASU 2017-01,
Business Combinations
(Topic 805): Clarifying the Definition of a Business,
which amends the guidance of FASB Accounting Standards Codification
(ASC) Topic 805,
Business Combinations
, adding guidance to assist entities with evaluating whether transactions should
be accounted for as acquisitions or disposals of assets or businesses. The definition of a business affects many areas of accounting
including acquisitions, disposals, goodwill, and consolidation. This guidance is effective for annual and interim periods beginning
after December 15, 2017, and early adoption is permitted under certain circumstances. The Company intends to evaluate the
impact of this guidance on the condensed consolidated financial statements and related disclosures in connection with the potential
business combination as disclosed in Note 14 to the consolidated financial statements.
In January 2017, the FASB issued ASU No. 2017-04,
Intangibles-Goodwill and Other (Topic 350): Simplifying
the Test for Goodwill Impairment
. ASU 2017-04 provides guidance to simplify the subsequent measurement of goodwill by eliminating
the Step 2 procedure from the goodwill impairment test. Under the updates in ASU 2017-04, an entity should perform its annual or
interim, goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount. An entity should recognize
an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value; however, the loss
recognized should not exceed the total amount of goodwill allocated to that reporting unit. The amendments of this ASU are effective
for annual or any interim goodwill impairment tests beginning after December 15, 2019. The Company has not yet evaluated the impact,
if any, that the adoption of ASU 2017-04 will have on its consolidated financial statements.
STG Group, Inc.
|
|
Notes to the Consolidated Financial Statements
|
(In thousands, except share and per share amounts)(Unaudited)
|
|
Note 2.
|
Contract Receivables and Billings in Excess of Revenue Recognized
|
At March 31, 2017 and December 31, 2016, contract receivables
consist of the following (in thousands):
|
|
March 31, 2017
|
|
|
December 31, 2016
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Billed accounts receivable
|
|
$
|
18,499
|
|
|
$
|
21,588
|
|
Unbilled accounts receivable
|
|
|
9,625
|
|
|
|
7,262
|
|
|
|
|
28,124
|
|
|
|
28,850
|
|
Less: allowance for doubtful accounts
|
|
|
(66
|
)
|
|
|
(66
|
)
|
|
|
$
|
28,058
|
|
|
$
|
28,784
|
|
Billings in excess of revenue recognized as of March 31, 2017
and December 31, 2016, are comprised primarily of billings from firm fixed-price contacts, where revenue is recognized in accordance
with the proportional performance method.
|
Note 3.
|
Property and Equipment
|
At March 31, 2017 and December 31, 2016, property and equipment
consists of the following (in thousands):
|
|
|
|
|
|
|
|
Estimated
Life
|
|
March 31,
2016
|
|
|
December 31,
2016
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Leasehold improvements
|
|
Life of lease
|
|
$
|
1,324
|
|
|
$
|
1,324
|
|
Computer hardware and software
|
|
1 - 3 years
|
|
|
436
|
|
|
|
329
|
|
Office furniture and equipment
|
|
1 - 7 years
|
|
|
113
|
|
|
|
110
|
|
|
|
|
|
|
1,873
|
|
|
|
1,763
|
|
Less: accumulated depreciation and amortization
|
|
|
|
|
(721
|
)
|
|
|
(606
|
)
|
|
|
|
|
$
|
1,152
|
|
|
$
|
1,157
|
|
Depreciation and amortization expense on property and equipment totaled $0.1 million for both of the three
months ended March 31, 2017 and 2016.
STG Group, Inc.
|
|
Notes to the Consolidated Financial Statements
|
(In thousands, except share and per share amounts)(Unaudited)
|
|
Note 4.
|
Intangible Assets
|
Identifiable intangible assets as of March 31, 2017, consist
of the following (in thousands):
|
|
|
|
|
March 31, 2017
|
|
|
Estimated
|
|
|
|
|
Accumulated
|
|
|
|
|
|
|
Life
|
|
Cost
|
|
|
Amortization
|
|
|
Net
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Customer relationships
|
|
8 years
|
|
$
|
26,380
|
|
|
$
|
7,403
|
|
|
$
|
18,977
|
|
Trade name
|
|
15 years
|
|
|
13,460
|
|
|
|
2,087
|
|
|
|
11,373
|
|
|
|
|
|
$
|
39,840
|
|
|
$
|
9,490
|
|
|
$
|
30,350
|
|
Identifiable intangible assets as of December 31, 2016, consist
of the following (in thousands):
|
|
|
|
|
December 31, 2016
|
|
|
Estimated
|
|
|
|
|
Accumulated
|
|
|
|
|
|
|
Life
|
|
Cost
|
|
|
Amortization
|
|
|
Net
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Customer relationships
|
|
8 years
|
|
$
|
26,380
|
|
|
$
|
6,136
|
|
|
$
|
20,244
|
|
Trade name
|
|
15 years
|
|
|
13,460
|
|
|
|
1,720
|
|
|
|
11,740
|
|
|
|
|
|
$
|
39,840
|
|
|
$
|
7,856
|
|
|
$
|
31,984
|
|
Amortization expense amounted to $1.6 million and $1.8 million
for the three months ended March 31, 2017 and 2016, respectively. During the three months ended March 31, 2017 and 2016, there
were no adverse changes in long-lived assets, which would cause a need for an impairment analysis.
Changes in the carrying amount of goodwill are as follows (in
thousands):
|
|
Balances as of
March 31, 2017
and December
31, 2016
|
|
|
|
|
|
Gross carrying amount
|
|
$
|
113,589
|
|
Accumulated impairment losses
|
|
|
(41,276
|
)
|
Net carrying value of goodwill
|
|
$
|
72,313
|
|
The Lender’s not having granted a waiver or other relief
for the Budget Delivery Default or the financial covenant violations as of March 31, 2017 resulting in the current classification
of the Company’s long-term debt is considered a triggering event requiring a step zero assessment. The Company’s assessment
concluded that it is not more likely than not that the fair value of the reporting unit is less than the carrying value and therefore
is not impaired. During the three months ended March 31, 2016, the Company did not identify any triggering events related
to our goodwill and therefore was not required to test goodwill for impairment. To the extent the Company realizes unfavorable
actual results compared to forecasted results, or decreased forecasted results compared to previous forecasts, or in the event
the estimated fair value of the reporting unit decreases (as a result, among other things, of changes in market capitalization,
including further declines in the stock price), the Company may incur additional goodwill impairment charges in the future.
|
Note 5.
|
Fair Value Measurements
|
The Company has investments in mutual funds held in a Rabbi
Trust which are classified as trading securities and are included in current assets on the accompanying condensed consolidated
balance sheets. The Rabbi Trust assets are used to fund amounts the Company owes to key managerial employees under the Company’s
non-qualified deferred compensation plan (See Note 8). Based on the nature of the assets held, the Company uses quoted market prices
in active markets for identical assets to determine fair values, which apply to Level 1 investments.
The mark to market adjustments are recorded in other income, net in the accompanying condensed consolidated
statements of operations for the three months ended March 31, 2017 and 2016 for $0.02 million and $0.4 million, respectively.
STG Group, Inc.
|
|
Notes to the Consolidated Financial Statements
|
(In thousands, except share and per share amounts)(Unaudited)
|
The Company’s debt as of March 31, 2017 and December
31, 2016 consists of the following:
|
|
|
|
|
|
March 31,
2017
|
|
|
December 31,
2016
|
|
|
|
|
|
|
|
|
Term loan
|
|
$
|
75.997
|
|
|
$
|
77,018
|
|
Less: debt discount on term loan
|
|
|
(4,484
|
)
|
|
|
(4,828
|
)
|
Less: current portion
|
|
|
(71,513
|
)
|
|
|
(4,496
|
)
|
|
|
$
|
-
|
|
|
$
|
67,694
|
|
Credit Agreement:
In connection with the consummation
of the Business Combination, the Company entered into a new facility (the Credit Agreement) with a different financial lending
group. The Credit Agreement provides for (a) a term loan in an aggregate principal amount of $81.8 million; (b) a $15 million asset-based
revolving line-of-credit; and (c) an uncommitted accordion facility to be used to fund acquisitions of up to $90 million. Concurrent
with the consummation of the Business Combination, the full amount of the term loan was drawn and there were no amounts drawn on
the other two facilities. Each facility matures on November 23, 2020. The Company recorded $6.4 million of debt issuance costs
in connection with the new facility as a reduction to the carrying amount of the new term loan. These costs are amortized using
the effective interest method over the life of the term loan.
The principal amount of the term loan amortizes in quarterly
installments which increase after each annual period. The quarterly installments range from 0.625% to 2.500% of the original principal
amount and are paid through the quarter ending September 30, 2019. The remaining unpaid principal is due on the maturity date of
November 23, 2020.
At the Company’s election, the interest rate per annum applicable to all the facilities is based
on a fluctuating rate of interest. The interest rate in effect as of March 31, 2017 and December 31, 2016 was 9.0% and 10.3%, respectively.
The Borrowers may elect to use either a Base Rate or a Eurodollar Rate. The interest rate per annum for electing the Base Rate
will be equal to the sum of 6.80% plus the Base Rate, which is equal to the highest of: (a) the base commercial lending rate of
the Collateral Agent as publicly announced to be in effect from time to time, as adjusted by the Collateral Agent; (b) the sum
of 0.50% per annum and the Federal Funds Rate (as defined in the Credit Agreement); (c) the daily one month LIBOR as published
each business day in
The Wall Street Journal
for a one month period divided by a number equal to 1.00 minus the Reserve
Percentage (as defined in the Credit Agreement) plus 100 basis points, as of such day and; (d) 2.00%.
The interest rate per annum for electing the Eurodollar Rate
will be equal to the sum of 7.80% plus the Eurodollar Rate, which is equal to the highest of: (a) the amount calculated by dividing
(x) the rate which appears on the Bloomberg Page BBAM1, or the rate which is quoted by another authorized source, two business
days prior to the commencement of any interest period as the LIBOR for such an amount by (y) a number equal to 1.00 minus the Reserve
Percentage (as defined in the Credit Agreement) and; (b) 1.00%.
STG Group, Inc.
|
|
Notes to the Consolidated Financial Statements
|
(In thousands, except share and per share amounts)(Unaudited)
|
Advances under the revolving line-of-credit
are limited by a borrowing base which may not exceed the lesser of (x) the difference between $15 million and amounts outstanding
under letters of credit issued pursuant to the Credit Agreement; and (y) an amount equal to the sum of: (i) up to 85% of certain
accounts receivable of the Company plus (ii) up to 100% of unrestricted cash on deposit in the Company’s accounts with the
Collateral Agent, minus (iii) amounts outstanding under letters of credit issued pursuant to the Credit Agreement, minus (iv) reserves
established by the Collateral Agent from time to time in its reasonable credit judgment exercised in good faith. The amount available
under the line-of-credit was
,
subject to lender consent, $15 million at March 31, 2017 and
December 31, 2016.
The Company is also subject to certain provisions which will
require mandatory prepayments of its term loan and has agreed to certain minimums for its fixed charge coverage ratio and consolidated
EBITDA and certain maximums for its senior secured leverage ratio, as defined in the Credit Agreement (the “Specified Financial
Covenants”). As of September 30, 2016, the Company did not meet the required consolidated senior secured leverage ratio and
minimum consolidated EBITDA. The Company remained in compliance with the Credit Agreement using a provision of the Credit Agreement
that allowed the Company to cure (Cure Right) certain covenant non-compliance by issuances of common stock for cash and use of
the proceeds to reduce the principal balance of the term loan. The Company used the proceeds to reduce the principal balance of
the term loan as required to effect the Cure Right.
As of December 31, 2016, the Company did not meet the required consolidated senior secured leverage ratio
and minimum consolidated EBITDA. The Credit Agreement does not allow the Company to exercise the Cure Right in consecutive fiscal
quarters; therefore, on February 24, 2017, the Company entered into a limited forbearance to the Credit Agreement (the “February
Forbearance Agreement”) with MC Admin Co LLC and the other lenders under the Credit Agreement.
The Company then entered into a Limited Waiver (Waiver) from MC Admin Co LLC and other lenders under the Credit Agreement
as of March 31, 2017, pursuant to which the lenders waived the Company’s noncompliance with the Specified Financial Covenants
as of December 31, 2016. Pursuant to the Waiver:
|
•
|
Loans
under the Credit Agreement are subject to additional interest at a rate of 2% per annum until the earliest of (x) the date
on which all loans are repaid and all commitments under the Credit Agreement are terminated, (y) the date the Company delivers
the financial statements and certificates for the quarter ending March 31, 2017 showing that they are not in default under the
Credit Agreement or (z) the date on which default interest is otherwise due under the Credit Agreement;
|
|
•
|
The Company must obtain lender consent prior to use of its revolving credit facility; and
|
|
•
|
The Company cannot effect
a Cure Right with respect to the quarter ending March 31, 2017.
|
The Waiver does not apply to covenant non-compliance after December
31, 2016 or to covenants other than the Specified Financial Covenants.
As of March 31, 2017 the Company was not in compliance with
the covenants related to the consolidated EBITDA and the senior secured leverage ratio. In addition, on May 18, 2017, the Company
received a Default Notice from MC Admin that states the Company was in default under the Credit Agreement for the Budget Delivery
Default. The Company believes this notice is incorrect, as the Company previously provided the required information to the lenders
on February 7, 2017. The Default Notice stated that MC Admin was not taking action to enforce the lenders’ rights under
the Credit Agreement at this time, although it also provided that, as a result of the default, the lenders had no obligations
under the Credit Agreement to provide any additional loans or letters of credit.
STG Group, Inc.
|
|
Notes to the Consolidated Financial Statements
|
(In thousands, except share and per share amounts)(Unaudited)
|
The Lender has not granted a waiver or forbearance for the
Budget Delivery Default or the covenant violations as of March 31, 2017. One of the remedies the Lender has available to it, amongst
others, is the ability to accelerate repayment of the debt, which the Company would not be able to immediately repay.
The Lender’s not having granted a waiver or other relief
from the Lender and the potential acceleration of the debt by the Lender resulted in the reclassification of the debt from a long-term
liability to a current liability as of March 31, 2017.
The Credit Agreement also provides that the minimum consolidated
EBITDA requirement will be increased on June 30, 2017. If the business continues to perform at the current level through that period,
the Company does not expect to satisfy that covenant or the senior secured leverage ratio at that time, and it is likely that the
Company will be in non-compliance at June 30, 2017. The Company’s inability to meet the required covenant levels could have
a material adverse impact to the Company, including the need for the Company to effect an additional Cure Right or obtain additional
forbearance or an amendment, waiver, or other changes in the Credit Agreement. The Credit Agreement does not allow the Company
to exercise the Cure Right in consecutive fiscal quarters, more than three fiscal quarters in the aggregate, in more than two of
any four fiscal quarters or for the quarter ending March 31, 2017. The amount allowed under the Cure Right may not exceed the lesser
of $2.5 million and 20% of consolidated EBITDA. The aggregate of Cure Rights may not exceed $5 million.
Any additional forbearance, amendment or waiver under the Credit
Agreement may result in increased interest rates or premiums and more restrictive covenants and other terms less advantageous to
the Company, and may require the payment of a fee for such forbearance, amendment or waiver. If the Company is unable to renegotiate
the financial covenants either through a new credit agreement in connection with the anticipated financing of our planned acquisition
of PSS or in the event the acquisition of PSS is not completed, through an amendment of the existing financial covenants under
the current Credit Agreement, we may not be able to obtain a forbearance, waiver or effect a cure, on acceptable terms.
Even if the Lender does grant forbearance or an amendment to
or waiver under the Credit Agreement, any future covenant non-compliance could give rise to an event of default thereunder.
If the Lender does not grant forbearance or a waiver of
the covenant non-compliance as of March 31, 2017, the Budget Delivery Default, or any future covenant non-compliance, the indebtedness
under the Credit Agreement could be declared immediately due and payable, which could have a material adverse effect on the Company.
|
Note 7.
|
Commitments and Contingencies
|
Legal matters:
From time to time the Company may be involved
in litigation in the normal course of its business. Management does not expect that the resolution of these matters would have
a material adverse effect on the Company’s business, operations, financial condition or cash flows.
STG Group, Inc.
|
|
Notes to the Consolidated Financial Statements
|
(In thousands, except share and per share amounts)(Unaudited)
|
|
Note 8.
|
Deferred Compensation Plan
|
The Company maintains a deferred compensation plan (the Deferred
Compensation Plan) in the form of a Rabbi Trust, covering key managerial employees of the Company as determined by the Board of
Directors. The Deferred Compensation Plan gives certain senior employees the ability to defer all, or a portion, of their salaries
and bonuses on a pre-tax basis and invest the funds in marketable securities that can be bought and sold at the employee’s
discretion. The future compensation is payable upon either termination of employment or change of control. The liabilities are
classified within current liabilities as of March 31, 2017 and December 31, 2016 on the condensed consolidated balance sheets.
The assets held in the Rabbi Trust are comprised of mutual funds and are carried at fair value based on the quoted market prices.
As of March 31, 2017 and December 31, 2016, the amount payable under the Deferred Compensation Plan was equal to the value of the
assets owned by the Company. These assets total $0.4 million and $0.3 million as of March 31, 2017 and December 31, 2016, respectively,
and are included as part of current assets in the accompanying condensed consolidated balance sheets. Additionally, the Company
may make discretionary matching contributions to the Deferred Compensation Plan, which vest ratably over three years. The Company
recorded no contributions to the Deferred Compensation Plan during the three months ended March 31, 2017 and 2016. The assets are
available to satisfy the claims of the Company’s creditors in the event of bankruptcy or insolvency of the Company. The participants
in the Deferred Compensation Plan were paid a distribution of their earnings to date through the consummation of the Business Combination.
This distribution totaled $4.0 million and was paid on January 25, 2016.
|
Note 9.
|
Related Party Transactions
|
A company owned by a party related to the majority stockholder
of the Company is both a subcontractor to and customer of the Company on various contracts. As of March 31, 2017 and December 31,
2016, amounts due from this entity totaled $0.01 million for both periods. The Company recorded revenue of $0.01 million and $0.03
million for the three months ended March 31, 2017 and 2016, respectively.
No amount was due to this entity as of March 31, 2017 and December 31, 2016 for amounts relating to work
performed under subcontracts. The Company recorded no direct costs for both of the three months ended March 31, 2017 and 2016 relating
to such work performed.
On November 23, 2015, Global Strategies Group (North America)
Inc. and the Company entered into a services agreement, pursuant to which the Company may retain Global Strategies Group (North
America) Inc. from time to time to perform certain services: corporate development services such as assisting the Company in post-integration
matters, regulatory compliance support services, financial services and financial reporting, business development and strategic
services, marketing and public relations services, and human resources services. Global Strategies Group (North America) Inc. is
an affiliate of both the Company and a Board member. Amounts paid and expensed under this agreement during the three months ended
March 31, 2017 and 2016 totaled $0.2 million and $0.1 million, respectively.
|
Note 10.
|
Stockholders’
Equity
|
On November 23, 2015, the Company’s amended and restated
certificate of incorporation authorized 110,000,000 shares of capital stock, consisting of (i) 100,000,000 shares of common stock,
par value $0.0001 per share, and (ii) 10,000,000 shares of preferred stock, par value $0.0001 per share.
At March 31, 2017 and December 31, 2016, the Company had authorized
for issuance 100,000,000 shares of $0.0001 par value common stock, of which 16,603,449 shares were issued and outstanding, including
33,600 shares subject to the vesting of restricted stock awards, and had authorized for issuance 10,000,000 shares of $0.0001 par
value preferred stock, of which no shares were issued and outstanding as of March 31, 2017 and December 31, 2016.
STG Group, Inc.
|
|
Notes to the Consolidated Financial Statements
|
(In thousands, except share and per share amounts)(Unaudited)
|
|
Note 11.
|
Stock Based Compensation
|
In connection with the approval of the Business Combination,
the 2015 Omnibus Incentive Plan (the Plan) was approved by stockholders to provide incentives to key employees, directors, and
consultants of the Company and its subsidiaries. Awards under the Plan are generally not restricted for any specific form or structure
and could include, without limitation, stock options, stock appreciation rights, dividend equivalent rights, restricted stock
awards, cash-based awards, or other right or benefit under the Plan. The Plan allowed for the lesser of (i) 1.60 million shares
of common stock; or (ii) 8% of the outstanding common shares immediately following the consummation of the Business Combination
as reserved and authorized for issuance under the Plan. At March 31, 2017 and December 31, 2016, there were 0.4 million and 0.9
million shares, respectively, of common stock authorized and available for issuance under the Plan.
Stock Options
Upon completion of the Business Combination, the Company approved initial grants of non-qualified stock
option awards under the Plan to the current independent members of the Board of Directors. The stock option awards expire in ten
years from the date of grant and vest over a period of one year – 20% of the options vested 30 days following the grant date,
40% of the options will vest six months following the grant date subject to the Director’s continued service and the remaining
40% of the options vested 12 months following the grant date subject to the Director’s continued service. The exercise price
is required to be set at not less than 100% of the fair market value of the Company’s common stock on the date of grant.
In June 2016, the Company granted non-qualified stock option
awards under the Plan to certain key employees of the Company. The stock option awards expire in ten years from the date of grant
and vest in 20% increments over a period that ranges from the grant date to approximately 4.5 years.
In September 2016, the Company granted non-qualified stock option
awards under the Plan to a key employee of the Company. The stock option awards expire in ten years from the date of grant and
vest at 25% on the grant date and in 25% increments thereafter over approximately 1.5 years.
During the first quarter of 2017, the Company granted non-qualified
stock option awards under the Plan to certain employees and senior management of the Company. The stock option awards expire in
ten years from the date of grant and vest in 20% increments over a period that ranges from the grant date to approximately 4.0
years.
During the three months ended March 31, 2017, the fair value of each option award was estimated on the
date of grant using the Black-Scholes model that uses the following weighted average assumptions:
Expected dividend yield
|
|
|
0
|
%
|
Risk-free interest rate
|
|
|
1.9
|
%
|
Expected option term
|
|
|
6 years
|
|
Volatility
|
|
|
85.3
|
%
|
Weighted-average fair value
|
|
$
|
1.44
|
|
STG Group, Inc.
|
|
Notes to the Consolidated Financial Statements
|
(In thousands, except share and per share amounts)(Unaudited)
|
|
Note 11.
|
Stock Based Compensation (Continued)
|
The Company calculated the expected term of the stock option
awards using the “simplified method” in accordance with the
Securities and Exchange Commission Staff Accounting
Bulletins No. 107 and 110
because the Company lacks historical data and is unable to make reasonable assumptions regarding
the future. The Company adopted ASU 2016-09
Compensation – Stock Compensation (Topic 718), Improvements to Employee Share-Based
Payment Accounting
during the first quarter of 2017 and has elected to record forfeitures in the period they occur. The Company’s
assumptions with respect to stock price volatility are based on the average historical volatility of peers with similar attributes.
The Company determines the risk-free interest rate by selecting the U.S. Treasury constant maturity rate.
The total compensation expense related to stock option awards under the Plan was $0.4 million for each
of the three months ended March 31, 2017 and 2016, respectively. The income tax benefit related to share-based compensation expense
was approximately $0.2 million and nominal for the three months ended March 31, 2017 and 2016, respectively. As of March 31, 2017,
$1.4 million of total unrecognized compensation expense related to the share-based compensation Plan is expected to be recognized
over a weighted-average period of 2.7 years. The total unrecognized share-based compensation expense to be recognized in future
periods as of March 31, 2017 does not consider the effect of share-based awards that may be issued in future periods.
Stock option awards as of March 31, 2017, and changes during
the three months ended March 31, 2017 were as follows:
|
|
Options
|
|
|
Weighted
Average
Exercise
Price
|
|
|
Weighted
Average
Remaining
Contractual
Term
(Years)
|
|
|
Aggregate
Intrinsic Value
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding, beginning of period
|
|
|
679,308
|
|
|
$
|
4.28
|
|
|
|
|
|
|
|
|
|
Granted
|
|
|
460,808
|
|
|
|
5.00
|
|
|
|
|
|
|
|
|
|
Exercised
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
|
|
|
|
Forfeited
|
|
|
-
|
|
|
|
-
|
|
|
|
|
|
|
|
|
|
Outstanding, end of period
|
|
|
1,140,116
|
|
|
$
|
4.57
|
|
|
|
7.02
|
|
|
$
|
-
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercisable, end of period
|
|
|
473,775
|
|
|
$
|
4.50
|
|
|
|
9.45
|
|
|
$
|
-
|
|
There was no aggregate intrinsic value for the options outstanding and exercisable at March 31, 2017 and
2016, because the exercise price exceeds the underlying share price.
Restricted Stock Awards
In June 2016, the Company granted restricted stock awards under
the Plan to members of the Board of Directors. The awards vest at 20% on the date of the award and in two 40% increments during
the remaining annual period.
The total compensation expense related to restricted stock awards
granted under the Plan was $0.02 million for the three months ended March 31, 2017 and none for the three months ended March 31,
2016. The income tax benefit related to the restricted stock awards was approximately $0.01 million for the three months ended
March 31, 2017 and none for the three months ended March 31, 2016. As of March 31, 2017, $0.02 million of total unrecognized compensation
expense related to the restricted stock awards under the Plan is expected to be recognized over a weighted-average period of 0.2
years. The total unrecognized share-based compensation expense to be recognized in future periods as of March 31, 2017 does not
consider the effect of share-based awards that may be issued in future periods.
Outstanding (non-vested) and vested restricted awards as of March 31, 2017 totaled 22,400 and 33,600,
respectively, and there were none that vested during the three months ended March 31, 2017. There were no outstanding (non-vested)
and vested restricted stock awards as of March 31, 2016.
STG Group, Inc.
|
|
Notes to the Consolidated Financial Statements
|
(In thousands, except share and per share amounts)(Unaudited)
|
The Company’s effective income tax rate was 35.8% and 30.6% for the three months ended March 31,
2017 and 2016, respectively. The Company’s effective tax rate for the quarter ended March 31, 2017 and 2016, differs
from the statutory federal rate as a result of state benefits, net of federal provision, permanent differences and changes in estimates
made in the deferred taxes recorded as part of the Business Combination, which were not accounted for as measurement period adjustments.
|
Note 13.
|
Segment Information
|
Segment information is not presented since all of the Company’s
revenue and operations are attributed to a single reportable segment. In accordance with authoritative guidance on segment reporting
under the FASB, the chief operating decision maker has been identified as the President. The President reviews operating results
to make decisions about allocating resources and assessing performance for the entire company.
Note 14.
|
Subsequent Events
|
Merger Agreement
On February 18, 2017, the Company entered
into an Agreement and Plan of Merger (the “Merger Agreement”) to acquire PSS Holdings, Inc. (“PSS”) for
approximately $119.5 million in cash, subject to certain adjustments based upon closing working capital, plus a portion of the
value of certain tax benefits as they are realized after the closing.
PSS is a privately-held government services
business that provides products and services in information technology, engineering, and program management, and is a leading provider
of advanced computing, analytics, program and acquisition management, cyber and software solutions to key defense, intelligence
and federal civilian customers, working with over 25 government agency partners. Upon consummation of the merger contemplated by
the Merger Agreement (the “merger”), PSS will become a wholly-owned subsidiary of the Company.
The consummation of the merger is subject
to the satisfaction of certain conditions. If any condition to the merger is not satisfied or waived, the merger will not be completed.
In addition, the Company intends to fund the merger consideration through a combination of equity and debt financing. We do not
presently have commitments for such financing. To the extent the merger is not completed for any reason with respect to our ability
to obtain financing for the merger, PSS may be entitled to retain the Advance Payment.
Extension of
Merger Agreement to Acquire PSS
Holdings Inc. (PSS)
On May 8, 2017, the Company entered into an Amendment and Waiver
(the “Amendment”) to the Merger Agreement. Prior to the entry into the Amendment, PSS rescinded a notice of termination
of the Merger Agreement that had been received by the Company on May 3, 2017. The Amendment includes the following changes to the
Merger Agreement:
|
·
|
The outside date for closing the acquisition was extended to June 30, 2017 (the “Outside Date”);
|
|
·
|
The purchase price under the merger agreement was increased to $119.8 million, subject to certain adjustments based upon closing working capital;
|
|
·
|
The Company’s obligations to close were made subject to the Company obtaining debt and equity financing for closing the acquisition; and
|
|
·
|
The Company agreed to make an advance payment of $925,000 of the merger consideration on the date of the Amendment, which will be credited against the purchase price at closing (the “Advance Payment”).
|
In the event the merger agreement is terminated, and depending
on the reasons for such termination, PSS may be entitled to retain or obligated to return all, or a portion, of the Advance Payment.
May Default Notice
On May 18, 2017, the Company received the Default Notice from
MC Admin that states the Company was in default under the Credit Agreement for failing to deliver an annual budget to the lenders
on January 15, 2017 as required by the Credit Agreement (the “Budget Delivery Default”). The Company believes this
notice is incorrect, as the Company previously provided the required information to the lenders on February 7, 2017. The Default
Notice stated that MC Admin was not taking action to enforce the lenders’ rights under the Credit Agreement at this time,
although it also provided that, as a result of the default, the lenders had no obligations under the Credit Agreement to provide
any additional loans or letters of credit. The Lender has not granted a waiver or other relief from the Budget Delivery Default.
STG Group, Inc.
|
|
Management’s Discussion and Analysis
|
ITEM 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
INTRODUCTORY STATEMENT
The following discussion and analysis of
financial condition and results of operations of the Company should be read in conjunction with the Company’s audited consolidated
financial statements for the year ended December 31, 2016, and the related notes thereto, along with the related Management’s
Discussion and Analysis of Financial Condition and Results of Operations included in the Company’s 2016 Annual Report on
Form 10-K for the year ended December, 31, 2016.
This Management’s Discussion and
Analysis of Financial Condition and Results of Operations (“MD&A”) contains certain financial measures, in particular
the presentation of EBITDA and Adjusted EBITDA, which are not presented in accordance with generally accepted accounting principles
(“GAAP”). These non-GAAP financial measures are being presented because they provide readers of this MD&A with
additional insight into the Company’s operational performance relative to comparable prior periods presented and relative
to its peer group. EBITDA and Adjusted EBITDA are key measures used by the Company to evaluate its performance. The Company does
not intend for these non-GAAP financial measures to be a substitute for any GAAP financial information. Readers of this MD&A
should use these non-GAAP financial measures only in conjunction with the comparable GAAP financial measures. Reconciliations of
EBITDA and Adjusted EBITDA to net income, the most comparable GAAP measure, are provided in this MD&A.
CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
We make forward-looking statements in this
Quarterly Report on Form 10-Q. These forward-looking statements relate to outlooks or expectations for earnings, revenues, expenses
or other future financial or business performance, strategies or expectations, or the impact of legal or regulatory matters on
business, results of operations or financial condition. Specifically, forward-looking statements may include statements relating
to:
|
•
|
the future financial performance of the Company;
|
STG Group, Inc.
|
|
Management’s Discussion and Analysis
|
|
•
|
expansion plans and opportunities;
|
|
•
|
maintaining/increasing our growth rates through marketing and an effective sales force;
|
|
•
|
maintaining our technology platforms and continuing to develop enhancements;
|
|
•
|
maintaining cost-effectiveness of technology and operations;
|
|
•
|
maintaining and successfully bidding for government contracts;
|
|
•
|
changes in economic, business, competitive, technological and/or regulatory factors;
|
|
•
|
identify and consummating acquisitions on an accretive basis; and
|
|
•
|
other statements preceded by, followed by or that include the words “estimate,” “plan,” “project,” “forecast,” “intend,” “expect,” “anticipate,” “believe,” “seek,” “target” or similar expressions.
|
Other risks and uncertainties indicated
in this report, as well as those disclosed in the Company’s other filings with the Securities and Exchange Commission, including
those discussed under “Risk Factors” in Part I, Item 1A of the Company’s Annual Report on Form 10-K for the year
ended December 31, 2016.
Should one or more of these risks or uncertainties
materialize, or should any of the underlying assumptions prove incorrect, actual results may vary in material respects from those
expressed or implied by these forward-looking statements. You should not place undue reliance on these forward-looking statements.
These forward-looking statements are based on information available to us as of the date of this Form 10-Q and current expectations,
forecasts and assumptions and involve a number of risks and uncertainties. Accordingly, forward-looking statements should not be
relied upon as representing our views as of any subsequent date and we do not undertake any obligation to update forward-looking
statements to reflect events or circumstances after the date they were made. These forward-looking statements involve a number
of known and unknown risks and uncertainties or other assumptions that may cause actual results or performance to be materially
different from those expressed or implied by these forward-looking statements. Some factors that could cause actual results to
differ include:
|
•
|
success in retaining or recruiting, or changes required in, officers, key employees or directors;
|
|
|
|
|
•
|
economic weakness, either nationally, or in the local markets in which we operate;
|
|
|
|
|
•
|
the size of our addressable markets and the amount of U.S. government spending on private contractors;
|
|
|
|
|
•
|
adverse litigation or arbitration results;
|
|
|
|
|
•
|
the potential liquidity and trading of our securities;
|
|
|
|
|
•
|
risks and costs associated with regulation of corporate governance and disclosure standards (including pursuant to Section 404 of the Sarbanes-Oxley Act);
|
|
|
|
|
•
|
the risk factors listed in our Annual Report on Form 10-K for the year ended December 31, 2016, under “
Risk Factors
” beginning on page 17.
|
|
|
|
|
•
|
changes in economic, business, competitive, technological and/or regulatory factors; and,
|
|
|
|
|
•
|
competitors in our various markets.
|
STG Group, Inc.
|
|
Management’s Discussion and Analysis
|
OVERVIEW
We provide specialist cyber, software
and intelligence solutions to U.S. government organizations with a national security mandate. Our solutions are integral to national
security-related programs run by more than 50 U.S. government agencies, including the Department of Defense, the Intelligence Community,
the Department of Homeland Security, the Department of State and other government departments with national security responsibilities.
Our programs are predominantly funded from base budgets and are essential to the effective day-to-day operations of our customers.
Our operational strength and track record
has been established in securing highly sensitive, mission-critical national security networks, solving complex technology problems
in mission-critical contexts and providing decision makers with actionable intelligence from multiple data sources.
Our primary areas of expertise include:
|
•
|
Security information and event management
|
|
•
|
Network intrusion detection and prevention
|
|
•
|
Application vulnerability assessment
|
|
•
|
Agile software development
|
|
•
|
Command and control system development
|
|
•
|
Complex application development
|
|
•
|
Advanced collection and analysis
|
|
•
|
Multi-intelligence exploitation and dissemination
|
|
•
|
Multi-lingual intelligence analysis
|
We are SEI CMMI Maturity Level 3 Rated and
hold certifications in ISO 9001:2008 and ISO/IEC 20000-1:2011. We fully integrate ISO 20000-1:2011 quality aspects into our corporate
engineering methodology to ensure we deliver high-quality products and services on time and within budget.
We employ over 760 cybersecurity, software
development and intelligence analysis professionals who deliver these solutions in both the continental United States and in approximately
6 overseas locations.
STG Group, Inc.
|
|
Management’s Discussion and Analysis
|
The Predecessor was founded in 1986 as the Software Technology Group. Over that time, we have built strong,
trusted and enduring relationships with a wide range of Federal Government customers, supporting their mission-critical operations
across a very broad contract base. We have achieved a period of continuous performance of more than a decade. Our single largest
contract represented 23% and 20% of total revenues for the 3 months ending March 31, 2017 and 2016, respectively. Similarly, the
top 5 contracts represented 69% and 57% of total revenues for the 3 months ending March 31, 2017 and 2016, respectively.
We are currently contracted with approximately
50 U.S. Federal Government organizations, and we derive the majority of our revenue from contracts with U.S. Government agencies
with a national security mission. As of March 31, 2017, we derived approximately 42% of our revenue from the Department of Defense;
approximately 40% from the Department of State; approximately 18% from other Federal Civilian agencies, with most of that revenue
coming from the Department of Homeland Security; and approximately 2% coming from the Intelligence Community.
Recent Developments
On February 18, 2017, the Company entered
into an Agreement and Plan of Merger (the “Merger Agreement”) to acquire PSS Holdings, Inc. (“PSS”) for
approximately $119.5 million in cash, subject to certain adjustments based upon closing working capital, plus a portion of the
value of certain tax benefits as they are realized after the closing. See
Notes to the Consolidated Financial Statements, Footnote
14 Subsequent Events
for additional discussion of the Merger Agreement and the related Amendment.
Results of Operations (Unaudited)
Three Months Ended March 31, 2017 Compared to Three Months
Ended March 31, 2016
Selected Financial Information
The table below summarizes the Company’s
first quarter of 2017 and 2016 revenues and income from operations.
|
|
Three Months
Ended
|
|
|
|
|
|
Three Months
Ended
|
|
|
|
March 31,
|
|
|
|
|
|
March 31,
|
|
|
|
2017
|
|
|
(Decrease)/Increase
|
|
|
2016
|
|
(
in millions, except percentages)
|
|
|
|
|
$
|
|
|
%
|
|
|
|
|
Contract revenue
|
|
$
|
35.8
|
|
|
$
|
(4.8
|
)
|
|
|
(12
|
)%
|
|
$
|
40.6
|
|
Direct expenses
|
|
|
23.7
|
|
|
|
(3.8
|
)
|
|
|
(14
|
)%
|
|
|
27.5
|
|
Gross profit
|
|
|
12.1
|
|
|
|
(1.0
|
)
|
|
|
(8
|
)%
|
|
|
13.1
|
|
Indirect and selling expenses
|
|
|
15.0
|
|
|
|
2.3
|
|
|
|
18
|
%
|
|
|
12.7
|
|
Operating (loss) income
|
|
|
(2.9
|
)
|
|
|
(3.3
|
)
|
|
|
(825
|
)%
|
|
|
0.4
|
|
Other (expense) income, net
|
|
|
0.0
|
|
|
|
0.4
|
|
|
|
*
|
|
|
|
(0.4
|
)
|
Interest expense
|
|
|
(2.4
|
)
|
|
|
(0.2
|
)
|
|
|
(9
|
)%
|
|
|
(2.1
|
)
|
Loss before income taxes
|
|
|
(5.3
|
)
|
|
|
(3.1
|
)
|
|
|
(141
|
)%
|
|
|
(2.1
|
)
|
Income tax benefit
|
|
|
1.9
|
|
|
|
1.3
|
|
|
|
217
|
%
|
|
|
0.6
|
|
Net loss
|
|
$
|
(3.4
|
)
|
|
$
|
(1.7
|
)
|
|
|
(106
|
)%
|
|
$
|
(1.5
|
)
|
STG Group, Inc.
|
|
Management’s Discussion and Analysis
|
Contract Revenue
Revenue for the first quarter of 2017 decreased
by $4.8 million, or 11.9% compared to the same period in 2016. The decrease in revenue is due to the expiration of contracts with
the Army, the Department of Defense, the Department of Homeland Security and the Department of Housing and Urban Development (“HUD”).
The table below summarizes the Company’s
revenue by customer for the first quarter of 2017 and 2016.
|
|
Three months ended March 31,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue by customer
|
|
2017
|
|
|
|
|
|
2016
|
|
|
|
|
|
|
(
in thousands, except percentages)
|
|
Department of Defense
|
|
$
|
14,956
|
|
|
|
42
|
%
|
|
$
|
17,433
|
|
|
|
43
|
%
|
Department of State
|
|
|
14,400
|
|
|
|
40
|
%
|
|
|
14,817
|
|
|
|
37
|
%
|
Department of Homeland Security
|
|
|
2,336
|
|
|
|
7
|
%
|
|
|
3,286
|
|
|
|
8
|
%
|
Intelligence Community
|
|
|
797
|
|
|
|
2
|
%
|
|
|
992
|
|
|
|
2
|
%
|
Other Federal Civilian
|
|
|
3,289
|
|
|
|
9
|
%
|
|
|
4,078
|
|
|
|
10
|
%
|
|
|
$
|
35,778
|
|
|
|
|
|
|
$
|
40,606
|
|
|
|
|
|
The Department of Defense continues to
be our largest customer with 42% and 43% of the revenue generated from this customer during the first quarter of both financial
year 2017 and 2016, respectively. Revenue by customer decreased across all customers in 2017 compared to the same period in 2016.
Time-and-materials contract revenue increased by $2.6 million in the first quarter of 2017 versus
the first quarter of 2016. The increase in time and materials contracts was driven by consolidation and conversion of several fixed
price and cost plus fixed fee contracts to time and materials contracts as well as an increase in such contracts with the Department
of State. Fixed price contract revenue decreased by $1.5 million primarily due to the conversions just mentioned. The $5.9 million
reduction in Cost Plus Fixed Fee revenues was due to the expiration of contracts with the Army and HUD.
The table below summarizes the first quarter
of 2017 and first quarter of 2016 revenue by contract billing type.
|
|
Three months ended March 31,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue by Contract Type
|
|
2017
|
|
|
|
|
|
2016
|
|
|
|
|
|
|
(
in thousands, except percentages)
|
|
T&M
|
|
$
|
16,739
|
|
|
|
47
|
%
|
|
$
|
14,168
|
|
|
|
35
|
%
|
Fixed price
|
|
|
9,482
|
|
|
|
26
|
%
|
|
|
10,986
|
|
|
|
27
|
%
|
CPFF
|
|
|
9,557
|
|
|
|
27
|
%
|
|
|
15,452
|
|
|
|
38
|
%
|
|
|
$
|
35,778
|
|
|
|
|
|
|
$
|
40,606
|
|
|
|
|
|
Prime contract revenue decreased by $3.9
million in the first quarter of 2017 compared to first quarter of 2016. The decrease was attributable to the expiration of Army,
Department of Homeland Security and HUD contracts. The Company continues to look to increase its presence as a prime contractor
on larger, more complex programs where it delivers services to customers by deploying its own staff and expertise, and by managing
the efforts of other contractors.
The table below summarizes the Company’s
first quarter of 2017 and 2016 revenue by prime and subcontract type.
|
|
Three months ended March 31,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue - Prime and Subcontract
|
|
2017
|
|
|
|
|
|
2016
|
|
|
|
|
|
|
(
in thousands, except percentages)
|
|
Prime
|
|
$
|
31,279
|
|
|
|
87
|
%
|
|
$
|
35,151
|
|
|
|
87
|
%
|
Subcontract
|
|
|
4,499
|
|
|
|
13
|
%
|
|
|
5,455
|
|
|
|
13
|
%
|
|
|
$
|
35,778
|
|
|
|
|
|
|
$
|
40,606
|
|
|
|
|
|
STG Group, Inc.
|
|
Management’s Discussion and Analysis
|
Direct Expenses and Gross Profit
Direct expenses consist of direct labor,
subcontractors and consultants, and other direct costs. In the quarter ended March 31, 2017, direct expenses decreased by 14%,
or $3.8 million over the same period a year ago. This decrease in direct expenses is mainly a result of a reduction in Company
employees and subcontractors as a result of the expiration of Army, Department of Defense, Department of Homeland Security, and
HUD contracts.
Gross profit for the three months ended March 31, 2017 was lower by $1million, or 8% compared to the three
months ended March 31, 2016. This decrease in gross profit is due to the decrease in revenue. Gross profit margins for the first
quarter of 2017 were 34% compared to 32% for the first quarter of 2016.
Indirect and Selling Expenses
Indirect and selling expenses increased
$2.2 million or 17% for the three months ended March 31, 2017 compared to the same period a year ago. The net increase in the
indirect and selling expenses were due primarily to increases in: business development staffing, proposal development expenses,
severance payments to former employees, the payment of term loan waiver fees and acquisition related professional services which
were partially offset by decreases in employee benefit expenses. Additionally, expenses for the three months ended March 31, 2016
reflected a $402,000 non-recurring reduction to indirect and selling expenses attributable to the accounting treatment for executive
deferred compensation.
Operating Income
First quarter of 2017 operating income
was a loss of ($2.9) million compared to a profit of $0.4 million in the first quarter of 2016, a decrease of ($3.3) million. The
reduced operating income was due to lower revenue and gross profit from contracts as well as higher indirect and selling expenses
as discussed under the heading “Indirect and Selling Expenses” above.
Other Income (Expense)
There were no material other income (expense)
for the quarter ended March 31, 2017 compared to ($0.4) million for the quarter ended March 31, 2016. The difference of $0.4 million
is principally comprised of investment losses from the Rabbi Trust. Market fluctuations recorded during the first quarter 2016.
Interest Expense
Interest expense was $2.4 million and $2.2
million for the quarters ended March 31, 2017 and 2016, respectively. Interest expense for 2016 and 2017 reflects the Company’s
new level of debt following the consummation of the Business Combination. See “Secured Credit Facilities” in the Liquidity
and Capital Resources section of this MD&A for further discussion.
Tax Benefit
The tax benefit was $1.9 million for the
quarter ended March 31, 2017 compared to $0.6 million for the first quarter of 2016. The post-acquisition deferred tax benefit
was primarily due to the future benefit related to the capitalization and amortization (for tax purposes) of start-up costs.
STG Group, Inc.
|
|
Management’s Discussion and Analysis
|
Net Loss
Net loss was ($3.3) million for the quarter
ended March 31, 2017 compared to net loss of ($1.6) million for the quarter ended March 31, 2016. The increase in net loss of $1.7
million is due to lower profit on lower recorded revenue and an increase in indirect expenses as the Company expands business development
capabilities.
The Company defines EBITDA as net income
(loss) before interest expense, provision (benefit) for income taxes, depreciation and amortization and (gain)/loss on disposal
of property, plant and equipment.
The Company defines Adjusted EBITDA as EBITDA,
excluding the impact of operational restructuring charges and non-cash or non-operational losses or gains, including long-lived
asset impairment charges, formal cost reduction plans, excess and unutilized accruals, transactional legal fees, other professional
fees and retention employee bonuses.
Management believes that Adjusted EBITDA provides a clear picture
of our operating results by eliminating expenses and income that are not reflective of the underlying business performance. We
use this metric to facilitate a comparison of operating performance on a consistent basis from period to period and to analyze
the factors and trends affecting its core business areas. Our internal plans, budgets and forecasts use Adjusted EBITDA as a key
metric and the Company uses this measure to evaluate its operating performance and core business operating performance and to determine
the level of incentive compensation paid to its employees. Adjusted EBITDA is not an item recognized by the generally accepted
accounting principles in the United States of America, or U.S. GAAP, and should not be considered as an alternative to net income,
operating income, or any other indicator of a company’s operating performance required by U.S. GAAP. Our definition of Adjusted
EBITDA used here may not be comparable to the definition of Adjusted EBITDA used by other companies. A reconciliation of net loss
to Adjusted EBITDA is as follows:
Set forth below is a reconciliation of
Adjusted EBITDA to net loss (unaudited)
|
|
Three
Months
Ended
March 31,
|
|
|
Three
Months
Ended
March 31,
|
|
|
|
2017
|
|
|
2016
|
|
|
|
|
|
|
|
|
Net loss
|
|
$
|
(3.4
|
)
|
|
$
|
(1.5
|
)
|
Income tax benefit
|
|
|
(1.9
|
)
|
|
|
(0.7
|
)
|
Interest expense
|
|
|
2.1
|
|
|
|
1.8
|
|
Amortization of loan issuance cost
|
|
|
0.3
|
|
|
|
0.4
|
|
Depreciation and amortization
|
|
|
0.1
|
|
|
|
0.1
|
|
Amortization of intangibles
|
|
|
1.6
|
|
|
|
1.8
|
|
EBITDA
|
|
$
|
(1.1
|
)
|
|
$
|
1.9
|
|
Adjustments to EBITDA
|
|
|
|
|
|
|
|
|
Integration and other restructuring costs (1)
|
|
$
|
0.7
|
|
|
$
|
0.6
|
|
Nonrecurring expenses- advisory, legal, and professional fees (2)
|
|
|
1.0
|
|
|
|
0.5
|
|
Transaction related expenses (3)
|
|
|
1.2
|
|
|
|
0.3
|
|
Share-based compensation (4)
|
|
|
0.4
|
|
|
|
0.0
|
|
|
|
|
|
|
|
|
|
|
Adjusted EBITDA
|
|
$
|
2.2
|
|
|
$
|
3.3
|
|
|
(1)
|
Integration and other restructuring
costs include development of incentive compensation plans, executive recruiting fees, branding, communication plans, and
severance related to reductions in force.
|
|
(2)
|
Expenses incurred by the
Company as a result of transitioning from a privately owned entity to a public company. These expenses include increased legal
and accounting costs, investor relations, and marketing expenses.
|
|
(3)
|
Transaction-related expenses primarily consist of professional service fees related to the PSS Acquisition
and the Business Combination.
|
|
(4)
|
Represents non-cash share
based compensation expense for awards under the Company’s 2015 Omnibus Incentive Plan.
|
STG Group, Inc.
|
|
Management’s Discussion and Analysis
|
Liquidity and Capital Resources
Background
For quarter ended March 2016 and in prior years, the Company had not been leveraged other than its revolving
credit facility which in the past had been used to provide working capital, mobilize new project wins, and cover abnormal fluctuations
in the timing of cash receipts and payments.
On November 23, 2015, the Company, together
with STG Group, STG, Inc., and Access Systems entered into a Credit Agreement (the “Credit Agreement”) with the lenders
party thereto from time to time, MC Admin Co LLC (the "Lender"), as administrative agent, PNC Bank, National Association,
as collateral agent (the “Collateral Agent”), and MC Admin Co LLC, as lead arranger. The Company served as the initial
borrower of the term loans under the Credit Agreement, and STG, Inc. and Access Systems (collectively, the “Borrowers”)
each immediately assumed all obligations of the Company under the Credit Agreement as if they had originally incurred them as borrowers.
The Company and STG Group have each guaranteed Borrowers’ obligations under the Credit Agreement.
The Revolving Loan and the Term Loan both
mature on November 23, 2020.
As of March 31, 2017, the Company had $4
million of available cash. Because the Company did not meet the required consolidated senior secured leverage ratio and minimum
consolidated EBITDA required in the Credit Agreement as of March 31, 2017, the $15 million of borrowings under the revolving credit
facility are only available subject to lender consent, and the $90 million uncommitted accordion facility is not available.
In addition, on February 18, 2017, we entered into the Merger Agreement to acquire PSS for approximately
$119.5 million in cash, subject to certain adjustments based upon closing working capital, plus a portion of the value of
certain tax benefits as they are realized after the closing. On May 8, 2017, the Company entered into an Amendment and Waiver (the
“Amendment”) to the Agreement and Plan of Merger (the “Original Agreement”), dated as of February 18, 2017,
by and among the Company, Ripcord Acquisition Corp., PSS and the other Seller Parties thereto, and Peter M. Schulte, as the “Stockholders’
Representative.” Prior to the entry into the Amendment, PSS rescinded a notice of termination of the Original Agreement that
had been received by the Company on May 3, 2017. The Amendment includes the following changes to the Original Agreement:
|
·
|
The outside date for closing the acquisition was extended to June 30, 2017 (the “Outside Date”);
|
|
·
|
The purchase price under the merger agreement was increased to $119.8 million, subject to certain adjustments based upon closing
working capital;
|
|
·
|
The Company’s obligations to close were made subject to the Company obtaining debt and equity financing for closing the
acquisition; and
|
|
·
|
The Company agreed to make an advance payment of $925,000 of the merger consideration on the date of the Amendment, which will
be credited against the purchase price at closing (the “Advance Payment”).
|
STG Group, Inc.
|
|
Management’s Discussion and Analysis
|
In the event the merger agreement is terminated, and depending
on the reasons for such termination, PSS may be entitled to retain or obligated to return all, or a portion, of the Advance Payment.
The Company intends to fund the merger consideration through
a combination of equity and debt financing. We do not presently have commitments for such financing. To the extent the merger is
not completed for any reason with respect to our ability to obtain financing for the merger, PSS may be entitled to retain the
Advance Payment.
Going Concern Consideration:
The condensed
consolidated financial statements included in this Form 10-Q have been prepared using the going concern basis of accounting,
which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business.
The Company was not in compliance with its financial covenants
related to the consolidated EBITDA, and the senior secured leverage ratio under the Credit Agreement at September 30, 2016 or at
December 31, 2016. At September 30, 2016, the non-compliance was cured by raising equity from stockholders’ (“Equity
Cure”) as was allowed by the Credit Agreement. At December 31, 2016 the Company received a forbearance which expired on March
31, 2017. The Company then entered into a Limited Waiver (“the Waiver”) from MC Admin Co LLC and other lenders under
the Credit Agreement as of March 31, 2017, pursuant to which the lenders waived the Company’s noncompliance with the covenants
related to the consolidated EBITDA and the senior secured leverage ratio as of December 31, 2016. Pursuant to the Waiver:
|
·
|
Loans under the Credit Agreement are subject to additional
interest at a rate of 2% per annum until the earliest of (x) the date on which all loans are repaid and all commitments
under the Credit Agreement are terminated, (y) the date the Company delivers the financial statements and certificates for the
quarter ending March 31, 2017 showing that they are not in default under the Credit Agreement or (z) the date on which default
interest is otherwise due under the Credit Agreement;
|
|
·
|
The Company must obtain lender consent prior to use of its revolving credit facility; and
|
|
·
|
The Company cannot effect
a Cure Right with respect to the quarter ending March 31, 2017.
|
The Company was not in compliance with the covenants related
to the consolidated EBITDA and the senior secured leverage ratio as of March 31, 2017. The Lender has not granted a waiver for
the covenant violations as of March 31, 2017. Without a waiver or other relief under the Credit Agreement, one of the remedies
the Lender has available to it, amongst others, is the ability to accelerate repayment of the debt, which the Company would not
be able to immediately repay.
The Credit Agreement also provides that the minimum consolidated
EBITDA requirement will be increased on June 30, 2017. If the business continues to perform at the current level through that period,
the Company does not expect to satisfy that covenant or the senior secured leverage ratio at that time, and it is likely that the
Company will be in non-compliance at June 30, 2017. The Company’s inability to meet the required covenant levels could have
a material adverse impact to the Company, including the need for the Company to effect an additional Cure Right or obtain additional
forbearance or an amendment, waiver, or other changes in the Credit Agreement. The Credit Agreement does not allow the Company
to exercise the Cure Right in consecutive fiscal quarters, more than three fiscal quarters in the aggregate, in more than two of
any four fiscal quarters or for the quarter ending March 31, 2017. The amount allowed under the Cure Right may not exceed the lesser
of $2.5 million and 20% of consolidated EBITDA. The aggregate of Cure Rights may not exceed $5 million.
The Lender’s not having granted a waiver or other relief
from the Lender and the potential acceleration of the debt by the Lender resulted in the reclassification of debt from a long-term
liability to a current liability as of March 31, 2017.
Even if the Lender does grant forbearance or an amendment to
or waiver under the Credit Agreement, any future covenant non-compliance could give rise to an event of default thereunder.
In addition, on May 18, 2017, the Company received a notice
of default (the “Default Notice”) from MC Admin Co LLC (“MC Admin”) that states the Company was in default
under the Credit Agreement for failing to deliver an annual budget to the lenders on January 15, 2017 as required by the Credit
Agreement (the “Budget Delivery Default”). The Company believes this notice is incorrect, as the Company previously
provided the required information to the lenders on February 7, 2017. The Default Notice stated that MC Admin was not taking action
to enforce the lenders’ rights under the Credit Agreement at this time, although it also provided that, as a result of the
default, the lenders had no obligations under the Credit Agreement to provide any additional loans or letters of credit. The Lender
has not granted a waiver or other relief from the Budget Delivery Default.
The potential acceleration of the loan repayment due to the
Lender not providing a waiver required the Company to evaluate whether there is substantial doubt regarding the Company’s
ability to continue as a going concern.
Management’s Plan to alleviate this condition is as follows:
|
1.
|
Complete the PSS Holdings, Inc. (“PSS”) transaction including the raising of equity and refinancing of the current Credit Agreement;
|
|
2.
|
Identify, qualify, and win new business to increase revenue and profits, or
|
|
3.
|
Renegotiate the current Credit Agreement to obtain relief from the existing financial covenants and other terms.
|
The Company considered the likelihood of completing the PSS
acquisition financing which contemplates the negotiation of a new financial agreement with both new and existing lenders and investors,
including new financial covenants for the combined business. The Company also considered the likelihood of renegotiation of the
financial covenants with existing lenders in the event the acquisition of PSS is not completed. Based upon an executed term sheet
for financing of the planned acquisition of the PSS which contemplated new loans and financial covenants and discussions with
the Lender regarding the need to renegotiate the existing financial covenants in the Credit Agreement in the event the acquisition
is not completed, management determined that it was probable that the condition giving rise to the going concern evaluation had
been sufficiently alleviated as of December 31, 2016. However, the Lender has not currently granted a waiver or other relief for
the Budget Delivery Default or the financial covenant violations as of March 31, 2017. Consequently, management has changed our
assessment regarding the potential acceleration of the loan repayment made as of December 31, 2016. As the Lender has not currently
granted a waiver or other form of relief for the financial covenant violations as of March 31, 2017, and as disclosed above, sent
us a default letter on May 18, 2017, there exists substantial doubt about our ability to complete the PSS acquisition, or to continue
as a going concern, in the event the Lender exercises its rights to accelerate the repayment of the loan.
STG Group, Inc.
|
|
Management’s Discussion and Analysis
|
Indebtedness
In connection with the consummation of the
Business Combination, all indebtedness under STG Group’s prior credit facility was repaid in full and the agreement was terminated.
The Company replaced the prior credit facility and entered into a new facility (the Credit Agreement) with the Lender.
The Credit Agreement provides for:
(a) a term loan in an aggregate principal
amount of $81.75 million
(b) a $15 million asset-based revolving
line-of-credit
(c) an uncommitted accordion facility to
be used to fund acquisitions of up to $90 million.
Concurrent with the consummation of the
Business Combination, the full amount of the term loan was drawn and there were no amounts drawn on the other two facilities. Each
facility matures on November 23, 2020. The Company recorded $6.2 million of debt issuance costs in connection with the new facility
as a reduction to the carrying amount of the new term loan. These costs will be amortized using the effective interest method over
the life of the term loan.
The principal amount of the term loan amortizes
in quarterly installments which increase after each annual period. The quarterly installments range from 0.625% to 2.500% of the
original principal amount and are paid through the quarter ending September 30, 2019. The remaining unpaid principal is due on
the maturity date of November 23, 2020.
At the Company’s election, the interest
rate per annum applicable to all the facilities is based on a fluctuating rate of interest. The interest rate in effect as of March
31, 2017 was 8.8%. The Borrowers may elect to use either a Base Rate or a Eurodollar Rate. The interest rate per annum for electing
the Base Rate will be equal to the sum of 6.80% plus the Base Rate, which is equal to the highest of: (a) the base commercial lending
rate of the Collateral Agent as publicly announced to be in effect from time to time, as adjusted by the Collateral Agent; (b)
the sum of 0.50% per annum and the Federal Funds Rate (as defined in the Credit Agreement); (c) the daily one month LIBOR rate
as published each business day in the Wall Street Journal for a one month period divided by a number equal to 1.00 minus the Reserve
Percentage (as defined in the Credit Agreement) plus 100 basis points, as of such day and; (d) 2.00%.
The interest rate per annum for electing
the Eurodollar Rate will be equal to the sum of 7.80% plus the Eurodollar Rate, which is equal to the highest of: (a) the amount
calculated by dividing (x) the rate which appears on the Bloomberg Page BBAM1, or the rate which is quoted by another authorized
source, two business days prior to the commencement of any interest period as the LIBOR for such an amount by (y) a number equal
to 1.00 minus the Reserve Percentage (as defined in the Credit Agreement) and; (b) 1.00%.
Advances under the revolving line-of-credit
are limited by a borrowing base which may not exceed the lesser of (x) the difference between $15,000,000 and amounts outstanding
under letters of credit issued pursuant to the Credit Agreement; and (y) an amount equal to the sum of: (i) up to 85% of certain
accounts receivable of the Company plus (ii) up to 100% of unrestricted cash on deposit in the Company’s accounts with the
Collateral Agent, minus (iii) amounts outstanding under letters of credit issued pursuant to the Credit Agreement, minus (iv) reserves
established by the Collateral Agent from time to time in its reasonable credit judgment exercised in good faith.
The Company is also subject to certain provisions
which will require mandatory prepayments of its term loan and has agreed to certain minimums for its fixed charge coverage ratio
and consolidated EBITDA and certain maximums for its senior secured leverage ratio, as defined in the Credit Agreement.
STG Group, Inc.
|
|
Management’s Discussion and Analysis
|
Debt and Covenant Compliance
As of September 30, 2016, the Company did not meet the required
consolidated senior secured leverage ratio and minimum consolidated EBITDA under the Credit Agreement. The Company remained in
compliance with the Credit Agreement using a provision of the Credit Agreement that allowed us to cure (the "Cure Right")
certain covenant non-compliance by issuances of Common Stock for cash and use of the proceeds to reduce the principal balance of
the term loan.
On November 14, 2016, we entered into Common Stock Purchase
Agreements with Simon S. Lee Management Trust, for which Simon Lee, our Chairman, is Trustee, and Phillip E. Lacombe, our President
and Chief Operating Officer (collectively, the “Investors”) that provided for the sale to the Investors of 462,778
shares of Common Stock at a purchase price of $3.60 per share, an aggregate of approximately $1.7 million. We used the proceeds
to reduce the principal balance of the term loan as required to effect the Cure Right.
The Credit Agreement does not allow the Company to exercise
the Cure Right in consecutive fiscal quarters, more than three fiscal quarters in the aggregate, or in no more than two of any
four fiscal quarters. The amount allowed under the Cure Right may not exceed $2.5 million and 20% of consolidated EBITDA. The aggregate
Cure Rights may not exceed $5 million.
As of December 31, 2016, the Company did not meet the required
consolidated senior secured leverage ratio and minimum consolidated EBITDA required in the Credit Agreement. The Company was in
compliance with all other financial covenants.
On
February 24, 2017, we entered into a Limited Forbearance to Credit Agreement (the “February Forbearance Agreement”)
with MC Admin Co LLC and other lenders relating to the Credit Agreement.
The Company then entered into a Limited Waiver (“the Waiver”) from MC Admin Co LLC and other
lenders under the Credit Agreement as of March 31, 2017, pursuant to which the lenders waived the Company’s noncompliance
with the Specified Financial Covenants as of December 31, 2016. Pursuant to the Waiver:
|
·
|
Loans under the Credit Agreement are subject to additional interest
at a rate of 2% per annum until the earliest of (x) the date on which all loans are repaid and all commitments under the Credit
Agreement are terminated, (y) the date we deliver the financial statements and certificates for the quarter ending March 31, 2017
showing that we are not in default under the Credit Agreement or (z) the date on which default interest is otherwise due under
the Credit Agreement;
|
|
·
|
We must obtain lender consent prior to use of our revolving credit
facility; and
|
|
·
|
We cannot effect a Cure Right in respect of the quarter ending March
31, 2017.
|
The Waiver does not apply to covenant non-compliance after December
31, 2016 or to covenants other than the Specified Financial Covenants.
As of March 31, 2017 the Company was not in compliance with
the covenants related to the consolidated EBITDA and the senior secured leverage ratio. In addition, on May 18, 2017, the Company
received the Default Notice from MC Admin that states the Company was in default under the Credit Agreement for the Budget Delivery
Default. The Company believes this notice is incorrect, as the Company previously provided the required information to the lenders
on February 7, 2017. The Default Notice stated that MC Admin was not taking action to enforce the lenders’ rights under
the Credit Agreement at this time, although it also provided that, as a result of the default, the lenders had no obligations
under the Credit Agreement to provide any additional loans or letters of credit.
STG Group, Inc.
|
|
Management’s Discussion and Analysis
|
The Lender has not granted a waiver or forbearance for the
Budget Delivery Default or the covenant violations as of March 31, 2017. One of the remedies the Lender has available to it, amongst
others, is the ability to accelerate repayment of the debt, which the Company would not be able to immediately repay.
The Lender’s not having granted a waiver or other relief
from the Lender and the potential acceleration of the debt by the Lender resulted in the reclassification of the debt from a long-term
liability to a current liability as of March 31, 2017.
The Credit Agreement also provides that the minimum consolidated
EBITDA requirement will be increased on June 30, 2017. If our business continues to perform at the current level through that
period, we do not expect to satisfy that covenant or the senior secured leverage ratio at that time, and it is likely that we
will be in non-compliance at June 30, 2017. Our inability to meet the required covenant levels could have a material adverse impact
on us, including the need for us to effect an additional Cure Right or obtain additional forbearance or an amendment, waiver,
or other changes in the Credit Agreement. The Credit Agreement does not allow the Company to exercise the Cure Right in consecutive
fiscal quarters, more than three fiscal quarters in the aggregate, in more than two of any four fiscal quarters or for the quarter
ending March 31, 2017. The amount allowed under the Cure Right may not exceed the lesser of $2.5 million and 20% of consolidated
EBITDA. The aggregate of Cure Rights may not exceed $5 million.
Any additional forbearance, amendment or waiver under the Credit
Agreement may result in increased interest rates or premiums and more restrictive covenants and other terms less advantageous
to us, and may require the payment of a fee for such forbearance, amendment or waiver. If the Company is unable to renegotiate
the financial covenants either through a new credit agreement in connection with the anticipated financing of our planned acquisition
of PSS or in the event the acquisition of PSS is not completed, through an amendment of the existing financial covenants under
our current Credit Agreement, we may not be able to obtain a forbearance, waiver or effect a cure, on terms acceptable to us.
Even if the Lender does grant forbearance or an amendment to
or waiver under the Credit Agreement, any future covenant non-compliance could give rise to an event of default thereunder.
If the Lender does not grant forbearance or a waiver of our
covenant non-compliance as of March 31, 2017, the Budget Delivery Default, or any future covenant non-compliance, the indebtedness
under the Credit Agreement could be declared immediately due and payable, which could have a material adverse effect on the Company.
STG Group, Inc.
|
|
Management’s Discussion and Analysis
|
Consolidated Condensed Statements of Cash Flows for the Three
Months Ended March 31, 2017 and the Three Months Ended March 31, 2016
|
|
Three
Months Ended
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
March
31,
|
|
|
|
|
|
|
|
March
31,
|
|
(in
millions)
|
|
|
2017
|
|
|
|
Variance
|
|
|
|
2016
|
|
Cash used in operating activities
|
|
$
|
(2.6
|
)
|
|
$
|
(1.7
|
)
|
|
$
|
(0.9
|
)
|
Cash (used in) provided by investing activities
|
|
|
(0.2
|
)
|
|
|
(4.2
|
)
|
|
|
4.0
|
|
Cash used in financing
activities
|
|
|
(1.0
|
)
|
|
|
(0.5
|
)
|
|
|
(0.5
|
)
|
Net (decrease) increase in cash and cash equivalents
|
|
|
(3.8
|
)
|
|
|
6.4
|
|
|
|
2.6
|
|
Cash and cash equivalents
at beginning of period
|
|
|
7.8
|
|
|
|
(0.7
|
)
|
|
|
8.5
|
|
Cash and cash
equivalents at end of period
|
|
$
|
4.0
|
|
|
$
|
(7.1
|
)
|
|
$
|
11.1
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation and amortization
|
|
|
0.1
|
|
|
|
0.0
|
|
|
|
0.1
|
|
Capital expenditures
|
|
|
0.1
|
|
|
|
0.1
|
|
|
|
0.0
|
|
Cash paid for interest
|
|
|
2.3
|
|
|
|
0.5
|
|
|
|
1.8
|
|
Cash paid for taxes
|
|
|
0.0
|
|
|
|
(0.6
|
)
|
|
|
0.6
|
|
Change in investments held in Rabbi Trust
|
|
|
0.0
|
|
|
|
0.4
|
|
|
|
(0.4
|
)
|
Change in deferred compensation plan
|
|
|
0.0
|
|
|
|
(0.4
|
)
|
|
|
0.4
|
|
Cash used in operating activities
Operating cash flows are primarily affected
by the Company’s ability to invoice and collect from its clients in a timely manner, its ability to manage its vendor payments,
the overall profitability of its contracts and its cash interest expense. Customers are mostly billed monthly after services are
rendered.
For the quarter ended March 31, 2017 cash
used in operating activities was ($2.7) million. The cash used in operating activities was significantly impacted by a net loss
of ($3.4) million offset by non-cash charges including share-based compensation, depreciation and amortization of intangible assets
totaling $2.2 million.
For the quarter ended March 31, 2016 cash
used in operating activities was ($0.9) million. The cash used in operating activities was significantly impacted by a net loss
of ($1.5) million and a distribution of ($4.0) million from the Rabbi Trust triggered by the Business Combination. These were offset
by increases of (i) $1.7 million of adjustments for non-cash changes in deferred taxes, deferred rent, amortization of deferred
financing fees, depreciation and amortization of property and equipment, amortization of intangible assets, and stock-based compensation
and (ii) a net increase in cash of $5 million due to changes in contract receivables, prepaid expenses, and billings in excess
of revenue. The foregoing were offset by $6.2 million of payments for accounts payable and accrued expenses along with accrued
payroll and payroll related liabilities.
For the quarter ended March 31, 2017 the
Company had cash collections of $37 million, or 103% of revenue recognized in the quarter. For the quarter ended March 31, 2016,
the Company had cash collections of $21.3 million, or 53% of revenue recognized in the quarter. The higher percentage of collections
for the quarter ended March 31, 2017 was due to lagging receivables from 2016 which were collected during this period.
The Company computes accounts receivable
days sales outstanding ("DSO") based on trailing three-month revenue. Days sales outstanding increased by 7 days from
64 days as of March 31, 2016, to 71 days as of March 31, 2017. Total receivables for purposes of the DSO calculation includes both
billed and unbilled receivables as well as billings in excess of revenue recognized.
Cash (used in) provided by investing activities
For the quarter ended March 31, 2017 cash
used in investing activities of $0.2 million is primarily purchases of property and equipment.
For the quarter ended March 31, 2016 cash
provided by investing activities of $4 million is proceeds from the sale of the investments held in the Rabbi Trust for distribution
to the plan participants.
STG Group, Inc.
|
|
Management’s Discussion and Analysis
|
Cash used in financing activities
For the quarter ended March 31, 2017 and
2016 cash used in financing activities is due to payments due on the Company’s long-term debt of $1 million and $0.5 million,
respectively.
Depreciation and Amortization
Depreciation and amortization totaled $0.1 million for each of the quarters ended March 31, 2017 and 2016.
Capital Expenditures
Capital expenditures for property, plant,
and equipment totaled $0.1 million and $0 million for the quarters ended March 31, 2017 and 2016, respectively.
Cash Paid for Income Taxes
There were only immaterial cash paid for income taxes for the quarter ended March 31, 2017 and $0.6 million
for the quarter ended March 31, 2016.
Off-Balance Sheet Arrangements
There are no material changes to the disclosures
regarding off-balance sheet arrangements made in Part II, Item 7 of our Annual Report on Form 10-K for the year ended December
31, 2016.
Related Party Transactions
A company owned by a party related to the majority stockholder of the Company is both a subcontractor
to and customer of the Company on various contracts. As of March 31, 2017 and December 31, 2016, amounts due from this entity totaled
$0.01 million. The Company recorded revenue of $0.01 million and $0.3 million, respectively, for the three months ended March
31, 2017 and 2016.
No amount was due to this entity as of March
31, 2017 and December 31, 2016 for work performed under subcontracts. The Company also recorded no direct costs for both of the
three months ended March 31, 2017 and 2016, relating to such work performed.
On November 23, 2015, Global Strategies Group (North America) Inc., an affiliate of Holdings, and the
Company entered into a services agreement, pursuant to which the Company may retain Global Strategies Group (North America) Inc.
from time to time to perform certain services: corporate development services such as assisting the Company in post-integration
matters, regulatory compliance support services, financial services and financial reporting, business development and strategic
services, marketing and public relations services, and human resources services. Global Strategies Group (North America) Inc. is
an affiliate of both the Company and a Board member. Amounts paid and expensed under this agreement during the three months ended
March 31, 2017 and 2016 totaled $0.2 million and 0.1 million, respectively.
Critical Accounting Policies and Estimates
There have been no significant changes to
our Critical Accounting Policies and Estimates during the first quarter of 2017. Refer to our Critical Accounting Policies and
Estimates section in our Annual Report on Form 10-K for the year ended December 31, 2016 filed with the SEC.
STG Group, Inc.
|
|
10Q Part I – Items 3 and 4
|
|
ITEM 3.
|
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
MARKET RISK
|
Not applicable
|
ITEM 4.
|
CONTROLS
AND PROCEDURES
|
Evaluation of Disclosure Controls and Procedures
The Company maintains disclosure controls
and procedures that are designed to ensure that information required to be disclosed in the reports the period covered by Company
files or submits under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within
the time periods specified in the SEC’s rules and forms and that such information is accumulated and communicated to the
Company’s management, including its principal executive officer and principal financial officer, as appropriate, to allow
timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management
recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of
achieving the desired control objectives.
As of the end of the period covered by this Quarterly Report on Form 10-Q, we, including our principal
executive officer and our principal financial officer, conducted an evaluation of our disclosure controls and procedures (as defined
in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934). Based upon this evaluation, our principal executive officer
and principal financial officer concluded that our disclosure controls and procedures are not effective in timely alerting management
of any material information relating to us that is required to be disclosed by us in the reports we file or submit under the Securities
Exchange Act of 1934 due to the material weakness in internal control over financial reporting described in “Management’s
Report on Internal Control Over Financial Reporting” in Item 9A of our Annual Report on Form 10-K for the year ended December,
31, 2016.
STG Group, Inc.
|
|
10Q Part I – Items 3 and 4
|
Remediation of Material Weaknesses in Internal Control over
Financial Reporting
Management is committed to improving our overall system of internal
control over financial reporting, including taking necessary steps to fully remediate the identified material weakness identified
as of December 31, 2015. Management determined that the Company’s review and monitoring controls over the consolidated income
tax provision failed to prevent or detect material errors in the calculation of the income tax provision for the year ended December
31, 2015, and that this was a material weakness in the Company’s internal control over financial reporting. To assist with
remediation of the material weakness in internal controls over Financial Reporting the Company identified at December 31, 2015,
management has engaged a third party vendor to provide a comprehensive assessment of the Company’s internal controls over
financial reporting.
The comprehensive assessment of the Company’s internal
controls over financial reporting is currently in process. Although the activity completed to date has not yet identified any material
weaknesses, including the review and monitoring controls over the consolidated income tax provision which resulted in the material
weakness at December 31, 2015. We cannot conclude that no material weakness exists until the comprehensive assessment is complete
and any identified findings have been remediated and tested.
Management
believes that upon completion of the comprehensive assessment, such measures should be sufficient to remediate the identified material
weaknesses and strengthen our internal control over financial reporting. We cannot assure you that these steps will remediate such
weaknesses, nor can we be certain of whether additional actions will be required or the costs of any such actions.
Changes in Internal Control Over Financial Reporting
Other than in connection with the foregoing
and the remedial action outlined above, there have been no changes in our internal control over financial reporting that occurred
during the first fiscal quarter ended March 31, 2017 that have materially affected, or are reasonably likely to materially affect,
our internal control over financial reporting.
STG Group, Inc.
|
|
10Q – Part II
|
PART II
ITEM 1. LEGAL PROCEEDINGS.
We are not currently subject to any material
legal proceedings, nor, to our knowledge, is any material legal proceeding threatened against us or any of our officers and directors
in their corporate capacity.
ITEM 1A. RISK FACTORS
There are no material changes to the disclosures
regarding risk factors made in Part I, Item 1A of our Annual Report on Form 10-K for the year ended December, 31, 2016, except
as follows:
If we are unable to complete our proposed acquisition
of PSS Holdings, Inc., our expected financial results and the market value of our common stock could be adversely affected, and
PSS may be entitled to retain our Advance Payment of $925,000.
On February 18, 2017, we entered into the
Merger Agreement, amended on May 8, 2017, to acquire PSS for approximately $119.5 million in cash. Consummation of the merger
is subject to customary conditions to closing. As a result of the extension of the Merger Agreement, the purchase price was increased
to $119.8 million.
If any condition to the merger is not satisfied
or waived, the merger may not be completed. In addition, the Company intends to fund the merger consideration through a combination
of equity and debt financing. We do not presently have commitments for such financing. To the extent the merger is not completed
for any reason with respect to our ability to obtain financing for the merger, PSS may be entitled to retain the Advance Payment
of $925,000.
Additional risks and uncertainties associated
with the merger include:
|
•
|
various conditions to the closing of the merger may not be satisfied or waived;
|
|
•
|
the failure to consummate the merger may result in negative publicity and a negative impression of us in the investment community and among our customers, lenders and other creditors; and
|
|
•
|
the attention of our employees and management may be diverted due to activities related to the merger, which may harm our relationships with our employees, customers, distributors, suppliers, and other business partners.
|
Any or all of the preceding could jeopardize
our ability to consummate the merger on the negotiated terms. To the extent the merger is not completed for any reason, we would
have devoted substantial resources and management attention to the transaction without realizing the accompanying benefits expected
by our management and will have incurred substantial costs for which we will be solely responsible. Under certain circumstances,
including with respect to our ability to obtain financing for the merger, PSS may also be entitled to retain the Advance Payment
of $925,000. As a result of the foregoing, our financial condition and results of operations and the market value of our stock
may be adversely affected.
The agreements governing our indebtedness require us
to comply with financial maintenance covenants. We were not in compliance with certain of these covenants as of March 31, 2017,
which could result in the lenders declaring an event of default under the Credit Agreement, causing our indebtedness under the
Credit Agreement to become immediately due and payable. In the event the Lender exercises its rights to accelerate the repayment
of the loan, our inability to repay the debt obligation in that scenario would cause substantial doubt about the Company’s
ability to continue as a going concern.
Under our Credit Agreement, the Company is required to meet certain minimums for its fixed charge coverage
ratio and consolidated EBITDA and certain maximums for its senior secured leverage ratio, as defined in the Credit Agreement (the
“Specified Financial Covenants”). As of September 30, 2016, December 31, 2016, and March 31, 2017, the Company was
not in compliance with the covenants related to the consolidated EBITDA and the senior secured leverage ratio. The Company remained
in compliance with the Credit Agreement as of September 30, 2016 by using a provision of the Credit Agreement that allowed us to
cure (the “Cure Right”) certain covenant non-compliance by issuance of Common Stock for cash and use of proceeds to
reduce the principal balance of the term loan. As a result, pursuant to the Credit Agreement, the financial covenants were recalculated
giving effect to the pay down of the debt, and we remained in compliance under the Credit Agreement.
As of December 31, 2016, we again did not
satisfy the covenants relating to our required consolidated senior secured leverage ratio and minimum consolidated EBITDA. On February
24, 2017, we entered into a Limited Forbearance to Credit Agreement (the “February Forbearance Agreement”) with MC
Admin Co LLC and the other lenders under the Credit Agreement.
The Company then entered into a Limited
Waiver (“the Waiver”) from MC Admin Co LLC and other lenders under the Credit Agreement as of March 31, 2017, pursuant
to which the lenders waived the Company’s noncompliance with the Specified Financial Covenants as of December 31, 2016. Pursuant
to the Waiver:
|
•
|
Loans under the Credit Agreement are subject to additional interest at a rate of 2% per annum until the earliest of (x) the date on which all loans are repaid and all commitments under the Credit Agreement are terminated, (y) the date we deliver the financial statements and certificates for the quarter ending March 31, 2017 showing that we are not in default under the Credit Agreement or (z) the date on which default interest is otherwise due under the Credit Agreement;
|
|
•
|
We must obtain lender consent prior to using our revolving credit facility; and
|
|
•
|
We cannot effect a Cure Right in respect of the quarter ending March 31, 2017.
|
The Waiver does not apply to covenant non-compliance
after December 31, 2016 or to covenants other than the Specified Financial Covenants.
As of March 31, 2017 the Company was not
in compliance with the covenants related to the consolidated EBITDA and the senior secured leverage ratio, and the Lender has
not granted a waiver or forbearance.
The Credit Agreement also provides that
the minimum consolidated EBITDA requirement will be increased on June 30, 2017. If our business continues to perform at the current
level through that period, we do not expect to satisfy that covenant or the senior secured leverage ratio at that time, and it
is likely that we will be in non-compliance at March 31, 2017. An inability to meet the required covenant levels could have a material
adverse impact on us, including the need for us to effect an additional Cure Right or obtain additional forbearance or an amendment,
waiver, or other changes in the Credit Agreement. The Credit Agreement does not allow the Company to exercise the Cure Right in
consecutive fiscal quarters, more than three fiscal quarters in the aggregate, in more than two of any four fiscal quarters or
for the quarter ending March 31, 2017. The amount allowed under the Cure Right may not exceed the lesser of $2.5 million and 20%
of consolidated EBITDA. The aggregate of Cure Rights may not exceed $5 million.
Any additional forbearance, amendment or
waiver under the Credit Agreement may result in increased interest rates or premiums and more restrictive covenants and other terms
less advantageous to us, and may require the payment of a fee for such forbearance, amendment or waiver. There can be no assurance
that we would be able to obtain forbearance, a waiver or amendment, or effect a cure, on terms acceptable to us.
Even if the Lender does grant forbearance
or an amendment to or waiver under the Credit Agreement, any future covenant non-compliance could give rise to an event of default
thereunder.
If the Lender does not grant forbearance
or an amendment to or waiver of our covenant non-compliance as of March 31, 2017, the Budget Delivery Default, or any future covenant
non-compliance, the indebtedness under the Credit Agreement could be declared immediately due and payable, which could have a material
adverse effect on the Company.
We received a notice of default from our lenders related
to certain information we are required to provide, and the indebtedness under the Credit Agreement could be declared immediately
due and payable, which could have a material adverse effect on the Company.
On May 18, 2017, the Company received a
notice of default (the “Default Notice”) from MC Admin Co LLC (“MC Admin”) that states the Company was
in default under the Credit Agreement for failing to deliver an annual budget to the lenders on January 15, 2017 as required by
the Credit Agreement (the “Budget Delivery Default”). The Company believes this notice is incorrect, as the Company
previously provided the required information to the lenders on February 7, 2017. The Default Notice stated that MC Admin was not
taking action to enforce the lenders’ rights under the Credit Agreement at this time, although it also provided that, as
a result of the default, the lenders had no obligations under the Credit Agreement to provide any additional loans or letters
of credit. The Lender has not granted a waiver or other relief from the Budget Delivery Default.
If our lenders do not agree that we have
remedied the event of default, we may be required to seek additional forbearance, amendment or waiver under the Credit Agreement.
As described above under the risk factor entitled “
The agreements governing our indebtedness require us to comply with
financial maintenance covenants. We were not in compliance with certain of these covenants as of March 31, 2017, which could result
in the lenders declaring an event of default under the Credit Agreement, causing our indebtedness under the Credit Agreement to
become immediately due and payable. In the event the Lender exercises its rights to accelerate the repayment of the loan, our inability
to repay the debt obligation in that scenario would cause substantial doubt about the Company’s ability to continue as a
going concern.
,” this could have a material adverse effect on the Company.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF
PROCEEDS
None
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
As further described above under “
Management’s
Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Debt and Covenant
Compliance
,” on May 18, 2017, the Company received the Default Notice from MC Admin that states the Company was in default
under the Credit Agreement for failing to deliver an annual budget to the lenders on January 15, 2017 as required by the Credit
Agreement (the “Budget Delivery Default”). The Company believes this notice is incorrect, as the Company previously
provided the required information to the lenders on February 7, 2017. The Default Notice stated that MC Admin was not taking action
to enforce the lenders’ rights under the Credit Agreement at this time, although it also provided that, as a result of the
default, the lenders had no obligations under the Credit Agreement to provide any additional loans or letters of credit. The Lender
has not granted a waiver or other relief from the Budget Delivery Default.
ITEM 4. MINE SAFETY DISCLOSURES
Not applicable.
ITEM 5. OTHER INFORMATION
As further described above under “
Management’s
Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Debt and
Covenant Compliance
,” on May 18, 2017, the Company received the Default Notice from MC Admin that states the Company
was in default under the Credit Agreement for failing to deliver an annual budget to the lenders on January 15, 2017 as required
by the Credit Agreement (the “Budget Delivery Default”). The Company believes this notice is incorrect, as the Company
previously provided the required information to the lenders on February 7, 2017. The Default Notice stated that MC Admin was not
taking action to enforce the lenders’ rights under the Credit Agreement at this time, although it also provided that, as
a result of the default, the lenders had no obligations under the Credit Agreement to provide any additional loans or letters
of credit. The Lender has not granted a waiver or other relief from the Budget Delivery Default.
ITEM 6. EXHIBITS
The following exhibits are filed as part of,
or incorporated by reference into, this Quarterly Report on Form 10-Q.
Exhibit
|
|
|
|
Incorporated by Reference
|
|
Filed or
Furnished
|
Number
|
|
Description
|
|
Form
|
|
Exhibit
|
|
Filing Date
|
|
Herewith
|
3.1
|
|
Amended and Restated Certificate of Incorporation
|
|
8-K
|
|
3.1
|
|
11/30/2015
|
|
|
3.2
|
|
Amended and Restated Bylaws
|
|
8-K
|
|
3.2
|
|
11/30/2015
|
|
|
2.1
|
|
Agreement and Plan of Merger, dated as of February 18, 2017, by and among the Company, Ripcord Acquisition Corp., PSS Holdings, Inc., PSS PE I, L.P., PSS Co-Investors, L.P., WWC Capital Fund II, L.P., Spring Capital Partners II, L.P., Scott Goss and Peter M. Schulte*
|
|
|
|
|
|
|
|
X
|
2.2
|
|
Amendment and Waiver to Agreement and Plan of Merger, dated as of May 8, 2017, by and among the Company, Ripcord Acquisition Corp., PSS Holdings, Inc., PSS PE I, L.P., PSS Co-Investors, L.P., WWC Capital Fund II, L.P., Spring Capital Partners II, L.P., Scott Goss and Peter M. Schulte*
|
|
|
|
|
|
|
|
X
|
10.1
|
|
Limited Forbearance to Credit Agreement, dated as of February 24, 2017, by and among the Company, STG, Inc., Access Systems, Incorporated, STG Group Holdings, Inc., MC Admin Co LLC, and the requisite lenders party thereto
|
|
10-K
|
|
10.41
|
|
4/17/2017
|
|
|
10.2
|
|
Separation Agreement, dated as of March 20, 2017, by and among the Company and Dale R. Davis
|
|
|
|
|
|
|
|
X
|
10.3
|
|
Limited Waiver to Credit Agreement, dated as of March 31, 2017, by and among the Company, Access Systems, Incorporated, STG Group Holdings, Inc., MC Admin Co LLC, and the lenders party thereto
|
|
|
|
|
|
|
|
X
|
31.1
|
|
Certification of Principal Executive Officer Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
|
|
|
|
|
|
|
|
X
|
31.2
|
|
Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
|
|
|
|
|
|
|
|
X
|
32.1
|
|
Certification of Principal Executive Officer Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
|
|
|
|
|
|
|
|
X
|
32.2
|
|
Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
|
|
|
|
|
|
|
|
X
|
101.INS
|
|
XBRL Instance Document
|
|
|
|
|
|
|
|
(1)
|
101.SCH
|
|
XBRL Taxonomy Schema
|
|
|
|
|
|
|
|
(1)
|
101.CAL
|
|
XBRL Taxonomy Calculation Linkbase
|
|
|
|
|
|
|
|
(1)
|
101.DEF
|
|
XBRL Taxonomy Definition Linkbase
|
|
|
|
|
|
|
|
(1)
|
101.LAB
|
|
XBRL Taxonomy Label Linkbase
|
|
|
|
|
|
|
|
(1)
|
101.PRE
|
|
XBRL Taxonomy Presentation Linkbase
|
|
|
|
|
|
|
|
(1)
|
(1) filed
herewith electronically.
* All schedules to this agreement have been omitted
pursuant to Item 601(b)(2) of Regulation S-K. The Company hereby agrees to furnish supplementally a copy of any omitted schedule
to the SEC upon request.
STG Group, Inc.
|
|
10Q – Part II
|
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Company has duly caused this Quarterly Report on Form 10-Q to be signed on its behalf by the undersigned,
thereunto duly authorized.
|
STG Group, Inc.
|
|
|
|
Date: May 22, 2017
|
|
|
|
/s/
Phillip
E. Lacombe
|
|
Name: Phillip E. Lacombe
|
|
Title: President (principal executive officer)
|
|
|
|
/s/ Charles
L. Cosgrove
|
|
Name: Charles L. Cosgrove
|
|
Title: Chief Financial Officer (principal financial officer)
|
STG Group, Inc.
|
|
10Q – Part II
|
EXHIBIT INDEX
Exhibit
|
|
|
|
Incorporated by Reference
|
|
Filed or
Furnished
|
Number
|
|
Description
|
|
Form
|
|
Exhibit
|
|
Filing Date
|
|
Herewith
|
3.1
|
|
Amended and Restated Certificate of Incorporation
|
|
8-K
|
|
3.1
|
|
11/30/2015
|
|
|
3.2
|
|
Amended and Restated Bylaws
|
|
8-K
|
|
3.2
|
|
11/30/2015
|
|
|
2.1
|
|
Agreement and Plan of Merger, dated as of February 18, 2017, by and among the Company, Ripcord Acquisition Corp., PSS Holdings, Inc., PSS PE I, L.P., PSS Co-Investors, L.P., WWC Capital Fund II, L.P., Spring Capital Partners II, L.P., Scott Goss and Peter M. Schulte*
|
|
|
|
|
|
|
|
X
|
2.2
|
|
Amendment and Waiver to Agreement and Plan of Merger, dated as of May 8, 2017, by and among the Company, Ripcord Acquisition Corp., PSS Holdings, Inc., PSS PE I, L.P., PSS Co-Investors, L.P., WWC Capital Fund II, L.P., Spring Capital Partners II, L.P., Scott Goss and Peter M. Schulte*
|
|
|
|
|
|
|
|
X
|
10.1
|
|
Limited Forbearance to Credit Agreement, dated as of February 24, 2017, by and among the Company, STG, Inc., Access Systems, Incorporated, STG Group Holdings, Inc., MC Admin Co LLC, and the requisite lenders party thereto
|
|
10-K
|
|
10.41
|
|
4/17/2017
|
|
|
10.2
|
|
Separation Agreement, dated as of March 20, 2017, by and among the Company and Dale R. Davis
|
|
|
|
|
|
|
|
X
|
10.3
|
|
Limited Waiver to Credit Agreement, dated as of March 31, 2017, by and among the Company, Access Systems, Incorporated, STG Group Holdings, Inc., MC Admin Co LLC, and the lenders party thereto
|
|
|
|
|
|
|
|
X
|
31.1
|
|
Certification of Principal Executive Officer Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
|
|
|
|
|
|
|
|
X
|
31.2
|
|
Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
|
|
|
|
|
|
|
|
X
|
32.1
|
|
Certification of Principal Executive Officer Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
|
|
|
|
|
|
|
|
X
|
32.2
|
|
Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
|
|
|
|
|
|
|
|
X
|
101.INS
|
|
XBRL Instance Document
|
|
|
|
|
|
|
|
(1)
|
101.SCH
|
|
XBRL Taxonomy Schema
|
|
|
|
|
|
|
|
(1)
|
101.CAL
|
|
XBRL Taxonomy Calculation Linkbase
|
|
|
|
|
|
|
|
(1)
|
101.DEF
|
|
XBRL Taxonomy Definition Linkbase
|
|
|
|
|
|
|
|
(1)
|
101.LAB
|
|
XBRL Taxonomy Label Linkbase
|
|
|
|
|
|
|
|
(1)
|
101.PRE
|
|
XBRL Taxonomy Presentation Linkbase
|
|
|
|
|
|
|
|
(1)
|
(1) filed
herewith electronically.
* All schedules to this agreement have been omitted
pursuant to Item 601(b)(2) of Regulation S-K. The Company hereby agrees to furnish supplementally a copy of any omitted schedule
to the SEC upon request.
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