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EEI > SEC Filings for EEI > Form 10-Q on 13-Dec-2011All Recent SEC Filings

Show all filings for ECOLOGY & ENVIRONMENT INC

Form 10-Q for ECOLOGY & ENVIRONMENT INC


13-Dec-2011

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Liquidity and Capital Resources

Operating activities consumed $1.3 million of cash during the first three months of fiscal year 2012. This was mainly attributable to a decrease in accounts payable, a decrease in other accrued liabilities, a decrease in accrued payroll costs and an increase in other current assets. Accounts payable decreased $1.1 million during the first three months of fiscal year 2012. Other accrued liabilities decreased $.6 million during the first three months of fiscal year 2012. Accrued payroll costs decreased $.8 million during the first three months of fiscal year 2012 due to the payment of accrued corporate bonuses offset by an additional week of payroll accrued at Ecology and Environment, Inc. (Parent Company) at October 29, 2011. Other current assets increased $.6 million during the first three months of fiscal year 2012. Offsetting these was the reported $1.4 million in net income and an increase in billings in excess of revenue. Billings in excess of revenue increased $.6 million during the first three months of fiscal year 2012 mainly attributable to balances on contracts with organizations in Kuwait and contracts at the majority owned subsidiaries E&E do Brasil and Walsh.

Investment activities consumed $1.0 million of cash during the first three months of fiscal year 2012 mainly attributable to the Company's purchases of property, building and equipment of $1.0 million during the first three months of fiscal year 2012.

Financing activities provided $1.2 million of cash during the first three months of fiscal year 2012. The Company paid dividends in the amount of $1.0 million which was accrued as of July 31, 2011. The Company purchased treasury stock in the amount $.4 million during the first three months of fiscal year 2012. Net cash inflow on long-term debt and capital lease obligations was $.2 million. The Company recorded a demand loan payable at the Parent Company for $2.5 million for borrowings against the line of credit.

The Company maintains an unsecured line of credit available for working capital and letters of credit of $20.5 million at interest rates ranging from 3% to 5% at October 29, 2011. Other lines are available solely for letters of credit in the amount of $13.5 million. The Company guarantees the line of credit of Walsh. Its lenders have reaffirmed the Company's lines of credit within the past twelve months. At October 29, 2011 and July 31, 2011 the Company had letters of credit and loans outstanding totaling approximately $6.6 million and $4.1 million, respectively. After letters of credit and loans, there was $27.5 million of availability under the lines of credit at October 29, 2011. The Company maintained a cash balance of $7.6 million at October 29, 2011, however borrowings of $2.5 million against the Company's line of credit were necessary during the quarter due to the cash requirements at the Company's subsidiaries and the overall access of certain cash balances within the Company's international subsidiaries. The Company believes that cash flows from operations and borrowings against the lines of credit will be sufficient to cover all working capital requirements for at least the next twelve months and the foreseeable future.


Results of Operations

Revenue

First Quarter 2012 vs 2011

Revenue for the first quarter of fiscal year 2012 was $42.3 million, up slightly from the $42.0 million reported for the first quarter of fiscal year 2011. The Company's Chilean subsidiary Gestion Ambiental Consultores (GAC) reported revenue of $2.4 million during the first quarter of fiscal year 2012, an increase of $.9 million or 60% from the $1.5 million reported in the first quarter of fiscal year 2011 due to increased work in mining and extractive industries. The Company's subsidiary E&E do Brasil reported revenue of $3.3 million during the first quarter of fiscal year 2012, an increase of $.6 million from the $2.7 million reported in the first quarter of fiscal year 2011 due to increased work on contracts in the energy market. Revenue at the Parent Company was $22.7 million during the first quarter of fiscal year 2012, an decrease of $1.5 million attributable to work performed on contracts in the Parent Company's energy and international sectors offset by increases in work in the federal government sector. First quarter revenues included $.5 million for contract modifications received and collected for costs that were recognized in prior periods and a favorable settlement of government contract rates covering the years 2002 through 2005 of approximately $.3 million. The Company is currently in discussion with a client regarding modifications covering costs incurred during the current quarter on certain contracts in the Middle East. Reserves of $.4 million were recorded in the current period on such revenue until these modifications are received.

Income Before Income Taxes

First Quarter 2012 vs 2011

The Company's income before income taxes was $2.1 million for the first quarter of fiscal year 2012, a decrease of $1.8 million from the $3.9 million reported in the first quarter of 2011. Revenue less subcontract costs were $33.2 million, a decrease of $1.8 million from the $35.0 million reported in the first quarter of the prior year. Gross profits (revenue less cost of professional services, other direct operating expenses and subcontract costs) decreased $1.1 million during the first quarter of fiscal year 2012 due mainly to increased subcontract costs during the quarter, while revenue levels remained consistent with the prior year. Income from operations for the first quarter of fiscal year 2012 was $2.0 million, down 50% from the $4.0 million reported in first quarter of fiscal year 2011. These reductions were mainly attributable to the decreased energy market work in the Parent Company, and excess staffing levels in the Parent Company, Brazil and Walsh which have increased indirect operating expenses.

Income Taxes

The estimated effective tax rate for fiscal year 2012 is 32.6%, as compared to the estimated tax rate of 37.2% reported for the three months ended October 30, 2010. The reduction in rate is mainly attributable to reduced income from foreign operations.

Critical Accounting Policies and Use of Estimates

Management's discussion and analysis of financial condition and results of operations discuss the Company's consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an ongoing basis, management evaluates its estimates and judgments, including those related to revenue recognition, allowance for doubtful accounts, income taxes, impairment of long-lived assets and contingencies. Management bases its estimates and judgments on historical experience and on various other factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

Revenue Recognition

The Company's revenues are derived primarily from the professional and technical services performed by its employees or, in certain cases, by subcontractors engaged to perform on under contracts entered into with our clients. The revenues recognized, therefore, are derived from our ability to charge clients for those services under the contracts. Sales and cost of sales at the Company's South American subsidiaries exclude tax assessments by governmental authorities, which are collected by the Company from its customers and then remitted to governmental authorities.


The Company employs three major types of contracts: "cost-plus contracts," "fixed-price contracts" and "time-and-materials contracts." Within each of the major contract types are variations on the basic contract mechanism. Fixed-price contracts generally present the highest level of financial and performance risk, but often also provide the highest potential financial returns. Cost-plus contracts present a lower risk, but generally provide lower returns and often include more onerous terms and conditions. Time-and-materials contracts generally represent the time spent by our professional staff at stated or negotiated billing rates.

Fixed price contracts are accounted for on the "percentage-of-completion" method, wherein revenue is recognized as project progress occurs. Time and material contracts are accounted for over the period of performance, in proportion to the costs of performance, predominately based on labor hours incurred. If an estimate of costs at completion on any contract indicates that a loss will be incurred, the entire estimated loss is charged to operations in the period the loss becomes evident.

The use of the percentage of completion revenue recognition method requires the use of estimates and judgment regarding the project's expected revenues, costs and the extent of progress towards completion. The Company has a history of making reasonably dependable estimates of the extent of progress towards completion, contract revenue and contract completion costs. However, due to uncertainties inherent in the estimation process, it is possible that completion costs may vary from estimates.

Most of our percentage-of-completion projects follow a method which approximates the "cost-to-cost" method of determining the percentage of completion. Under the cost-to-cost method, we make periodic estimates of our progress towards project completion by analyzing costs incurred to date, plus an estimate of the amount of costs that we expect to incur until the completion of the project. Revenue is then calculated on a cumulative basis (project-to-date) as the total contract value multiplied by the current percentage-of-completion. The revenue for the current period is calculated as cumulative revenues less project revenues already recognized. The recognition of revenues and profit is dependent upon the accuracy of a variety of estimates. Such estimates are based on various judgments we make with respect to those factors and are difficult to accurately determine until the project is significantly underway.

For some contracts, using the cost-to-cost method in estimating percentage-of-completion may overstate the progress on the project. For projects where the cost-to-cost method does not appropriately reflect the progress on the projects, we use alternative methods such as actual labor hours, for measuring progress on the project and recognize revenue accordingly. For instance, in a project where a large amount of equipment is purchased or an extensive amount of mobilization is involved, including these costs in calculating the percentage-of-completion may overstate the actual progress on the project. For these types of projects, actual labor hours spent on the project may be a more appropriate measure of the progress on the project.

The Company's contracts with the U.S. government contain provisions requiring compliance with the Federal Acquisition Regulation (FAR), and the Cost Accounting Standards (CAS). These regulations are generally applicable to all of the Company's federal government contracts and are partially or fully incorporated in many local and state agency contracts. They limit the recovery of certain specified indirect costs on contracts subject to the FAR. Cost-plus contracts covered by the FAR provide for upward or downward adjustments if actual recoverable costs differ from the estimate billed. Most of our federal government contracts are subject to termination at the convenience of the client. Contracts typically provide for reimbursement of costs incurred and payment of fees earned through the date of such termination.

Federal government contracts are subject to the FAR and some state and local governmental agencies require audits, which are performed for the most part by the Defense Contract Audit Agency (DCAA). The DCAA audits overhead rates, cost proposals, incurred government contract costs, and internal control systems. During the course of its audits, the DCAA may question incurred costs if it believes we have accounted for such costs in a manner inconsistent with the requirements of the FAR or CAS and recommend that our U.S. government financial administrative contracting officer disallow such costs. Historically, we have not experienced significant disallowed costs as a result of such audits. However, we can provide no assurance that such audits will not result in material disallowances of incurred costs in the future.

The Company maintains reserves for cost disallowances on its cost based contracts as a result of government audits. Government audits have been completed and final rates have been negotiated through fiscal year 2005. The Company has estimated its exposure based on completed audits, historical experience and discussions with the government auditors. If these estimates or their related assumptions change, the Company may be required to record additional charges for disallowed costs on its government contracts.

Allowance for Doubtful Accounts and Contract Adjustments

We reduce our contract receivables and costs and estimated earnings in excess of billings on contracts in process by establishing an allowance for amounts that, in the future, may become uncollectible or unrealizable, respectively. We determine our estimated allowance for uncollectible amounts and allowance for contract adjustments based on management's judgments regarding our


operating performance related to the adequacy of the services performed, the status of change orders and claims, our experience settling change orders and claims and the financial condition of our clients, which may be dependent on the type of client and current economic conditions.

Deferred Income Taxes

We use the asset and liability approach for financial accounting and reporting for income taxes. Deferred income tax assets and liabilities are computed annually for differences between the financial statement and tax bases of assets and liabilities that will result in taxable or deductible amounts in the future based on enacted tax laws and rates applicable to the periods in which the differences are expected to affect taxable income. Valuation allowances based on our judgments and estimates are established when necessary to reduce deferred tax assets to the amount expected to be realized in future operating results. Management believes that realization of deferred tax assets in excess of the valuation allowance is more likely than not. Our estimates are based on facts and circumstances in existence as well as interpretations of existing tax regulations and laws applied to the facts and circumstances, with the help of professional tax advisors. Therefore, we estimate and provide for amounts of additional income taxes that may be assessed by the various taxing authorities.

Uncertain Tax Positions

A tax position is a position in a previously filed tax return or a position expected to be taken in a future tax filing that is reflected in measuring current or deferred income tax assets and liabilities. Tax positions shall be recognized only when it is more likely than not (likelihood of greater than 50%), based on technical merits, that the position will be sustained. Tax positions that meet the more likely than not threshold should be measured using a probability weighted approach as the largest amount of tax benefit that is greater than 50% likely of being realized upon settlement. Whether the more-likely-than-not recognition threshold is met for a tax position, is a matter of judgment based on the individual facts and circumstances of that position evaluated in light of all available evidence. The Company recognizes interest accrued related to unrecognized tax benefits in interest expense and penalties in administrative and indirect operating expenses.

Changes in Corporate Entities

On June 6, 2011, the Company purchased an additional 1.1% of Walsh from noncontrolling shareholders for approximately $219,000. Two thirds of the purchase price was paid in cash while the remaining one third was paid for with E&E stock. With this purchase E&E's ownership share in Walsh increased to approximately 85% of that company.

On March 18, 2011 the Company purchased 5.5% of Walsh from noncontrolling shareholders for approximately $1,156,000. The Company paid one third in cash, one third in a two-year note, and issued E&E stock for the remaining one third of the sale price.

On December 27, 2010, the Company purchased an additional 1.2% of Walsh from noncontrolling shareholders for approximately $257,000. Two thirds of the purchase price was paid in cash while the remaining one third was paid for with E&E stock.

On August 23, 2010 the Company purchased a 60% ownership interest in ECSI, LLC, a Lexington, Kentucky based engineering and environmental consulting company that specializes in mining work. The Company paid $1.0 million for this ownership interest and contributed the assets into a newly formed company. The company was consolidated into the Company's financial reporting beginning in the first quarter of fiscal year 2011.

Inflation

Inflation has not had a material impact on the Company's business because a significant amount of the Company's contracts are either cost based or contain commercial rates for services that are adjusted annually.

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