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SAPE > SEC Filings for SAPE > Form 10-Q on 15-May-2013All Recent SEC Filings

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Form 10-Q for SAPIENT CORP


15-May-2013

Quarterly Report


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

Overview

We help clients leverage marketing and technology to transform their businesses, enabling them to anticipate, navigate and leverage change to gain a competitive advantage and succeed in an increasingly connected, customer-centric environment. We market our services through three primary business units - SapientNitro, Sapient Global Markets, and Sapient Government Services - positioned at the intersection of marketing, business and technology. SapientNitro is a new breed of agency which helps clients tell their stories through seamless experiences across brand communications, digital engagement, and omni-channel commerce. SapientNitro offers services including integrated marketing and creative services, web and interactive development, traditional advertising, media planning and buying, strategic planning and marketing analytics, multi-channel commerce strategy and solutions including a significant focus on mobile, and content and asset management strategies and solutions. For simplicity of operations, SapientNitro also includes our traditional IT consulting services, which are currently, and are expected to remain, less than 10% of our total revenues. Sapient Global Markets provides business and technology services including integrated advisory, program management, analytics, technology and operations services to leaders in banking, investment management, energy and commodity industries, as well as to governments. A core focus area within Sapient Global Markets is trading and risk management, to which we bring more than 15 years of experience and a globally integrated service in derivatives processing. Sapient Government Services provides consulting, technology, and marketing services to U.S. governmental agencies, nonprofit organizations ("NPOs"), and non-governmental organizations ("NGOs"). Focused on driving long-term change and transforming the citizen experience, we use technology, marketing services and communications to help our clients become more accessible, transparent, and effective.

Founded in 1990 and incorporated in Delaware in 1991, we maintain a strong global presence with offices around the world. We utilize our proprietary Global Distributed Delivery ("GDD") model in support of our SapientNitro and Sapient Global Markets segments. Our GDD model enables us to perform services on a continuous basis through global client teams and provide high-quality, cost-effective solutions under accelerated assignment schedules. By engaging highly skilled technology specialists in India, we can provide services at lower total costs as well as offer a continuous delivery capability resulting from time differences between India and the countries we serve. We also employ our GDD model to provide application management services.

Summary of Results of Operations

The following table presents a summary of our results of operations for the
three months ended March 31, 2013 and 2012 (in thousands, except percentages):



                                          Three Months Ended March 31,                 Increase / (Decrease)
                                           2013                  2012              Dollars             Percentage
Service revenues                      $      292,638        $      260,379       $     32,259                    12 %
Income from operations                $       12,034        $       15,530       $     (3,496 )                 (23 )%
Net income attributable to
stockholders of Sapient
Corporation                           $        6,576        $        8,885       $     (2,309 )                 (26 )%

The increase in service revenues for the three months ended March 31, 2013 compared to the three months ended March 31, 2012 was due primarily to higher demand for our services from existing customers and, to a lesser extent, revenues generated from acquisitions completed during the quarter ended December 31, 2012 ((m)Phasize, LLC and Second Story Inc.) and the quarter ended March 31, 2013 (iThink Comunicação e Publicidade Ltda., or "iThink"). The decreases in income from operations and net income were primarily due to increases in project personnel expenses, general and administrative expenses, and restructuring charges, and an intangible asset impairment charge of $1.5 million recorded during the three months ended March 31, 2013 (no impairment charges were recorded in the three months ended March 31, 2012).

Non-GAAP Financial Measures

In our quarterly earnings press releases and conference calls, we discuss two key measures that are not calculated according to generally accepted accounting principles ("GAAP"). The first non-GAAP measure is operating income, as reported on our consolidated and condensed statements of operations, excluding certain expenses and benefits, which we refer to as "non-GAAP income from operations". The second measure calculates non-GAAP income from operations as a percentage of reported services revenues, which we refer to as "non-GAAP operating margin". Management believes that these non-GAAP measures help illustrate underlying trends in our business. We use these measures to establish budgets and operational goals (communicated internally and externally), manage our business, and evaluate our performance. We exclude certain expenses and benefits from non-GAAP income from operations that we believe are not reflective of the underlying business trends and are not useful measures in determining our operational performance and overall business strategy. Because our reported non-GAAP financial measures are not calculated according to GAAP, these measures may


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not necessarily be comparable to GAAP or similarly described non-GAAP measures reported by other companies within our industry. Consequently, our non-GAAP financial measures should not be evaluated in isolation or supplant comparable GAAP measures, but, rather, should be considered together with our consolidated and condensed financial statements, which are prepared in accordance with GAAP and are included in Part I, Item 1, Unaudited Consolidated and Condensed Financial Statements, of this Quarterly Report on Form 10-Q. The following table reconciles income from operations as reported on our consolidated and condensed statements of operations to non-GAAP income from operations and GAAP operating margin to non-GAAP operating margin for the three months ended March 31, 2013 and 2012 (in thousands, except percentages):

                                                            Three Months Ended
                                                                March 31,
                                                           2013           2012
    Service revenues                                     $ 292,638      $ 260,379

    GAAP income from operations                          $  12,034      $  15,530
    Stock-based compensation expense                         7,156          5,148
    Restructuring and other related charges (benefits)       2,014            (76 )
    Amortization of purchased intangible assets              3,657          2,622
    Acquisition costs and other related charges                900          1,125
    Impairment of intangible asset                           1,494             -

    Non-GAAP income from operations                      $  27,255      $  24,349

    GAAP operating margin                                      4.1 %          6.0 %
    Effect of adjustments detailed above                       5.2 %          3.4 %

    Non-GAAP operating margin                                  9.3 %          9.4 %

Please see the Results of Operations section of this Management's Discussion and Analysis for a more detailed discussion and analysis of restructuring and other related charges (benefits), amortization of purchased intangible assets, acquisition costs and other related charges, and impairment of intangible asset.

When important to management's analysis, operating results are compared in "constant currency terms", a non-GAAP financial measure that excludes the effect of foreign currency exchange rate fluctuations. The effect of exchange rate fluctuations is excluded by translating the current period's local currency service revenues and expenses into U.S. dollars at the average exchange rates of the prior period of comparison. For a discussion of our exposure to exchange rates, see Part I, Item 3, Quantitative and Qualitative Disclosures About Market Risk, of this Quarterly Report on Form 10-Q.

Summary of Critical Accounting Policies; Significant Judgments and Estimates

We have identified the accounting policies which are critical to understanding our business and our results of operations. Management believes that there have been no significant changes during the three months ended March 31, 2013 to the items disclosed in our summary of critical accounting policies, significant judgments and estimates in Management's Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K for the year ended December 31, 2012.


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Results of Operations

Three months ended March 31, 2013 compared to three months ended March 31, 2012

The following table presents the components of our consolidated and condensed
statements of operations as percentages of service revenues:



                                                                Three Months Ended
                                                                     March 31,
                                                               2013             2012
Revenues:
Service revenues                                                 100.0 %         100.0 %
Reimbursable expenses                                              3.5 %           3.4 %

Total gross revenues                                             103.5 %         103.4 %

Operating expenses:
Project personnel expenses                                        70.7 %          70.6 %
Reimbursable expenses                                              3.5 %           3.4 %

Total project personnel expenses and reimbursable
expenses                                                          74.2 %          74.0 %
Selling and marketing expenses                                     4.0 %           4.1 %
General and administrative expenses                               18.4 %          17.9 %
Restructuring and other related charges (benefits)                 0.7 %          (0.0 )%
Amortization of purchased intangible assets                        1.3 %           1.0 %
Acquisition costs and other related charges                        0.3 %           0.4 %
Impairment of intangible asset                                     0.5 %           0.0 %

Total operating expenses                                          99.4 %          97.4 %

Income from operations                                             4.1 %           6.0 %
Interest and other income, net                                     0.3 %           0.7 %

Income before income taxes                                         4.4 %           6.7 %
Provision for income taxes                                         2.2 %           3.3 %

Net income                                                         2.2 %           3.4 %
Less: Net loss attributable to noncontrolling interest            (0.0 )%           -

Net income attributable to stockholders of Sapient
Corporation                                                        2.2 %           3.4 %

Service Revenues

The following table presents service revenues by industry sector for the three
months ended March 31, 2013 and 2012 (in millions, except percentages):



                                            Three Months Ended March 31,               Increase / (Decrease)
Industry Sector                              2013                 2012             Dollars             Percentage
Consumer, Travel & Automotive            $       121.9        $       116.3       $      5.6                     5 %
Financial Services                                93.7                 71.9             21.8                    30 %
Government, Health & Education                    30.9                 27.8              3.1                    11 %
Energy Services                                   26.7                 22.0              4.7                    21 %
Technology & Communications                       19.4                 22.4             (3.0 )                 (13 )%

Total service revenues                   $       292.6        $       260.4       $     32.2                    12 %

See Service Revenues by Operating Segment below for discussion of service revenues by reportable segment and industry sector. Service revenues in the United States increased 12%, while international service revenues increased 13%. In constant currency terms, total service revenues increased 13% in the three months ended March 31, 2013 compared to the same period in 2012.

Utilization, which represents the percentage of our delivery personnel's time spent on billable client work, was 71% for the three months ended March 31, 2013, compared to 70% for the same period in 2012. Our average delivery personnel peoplecount for the three months ended March 31, 2013 increased 9% compared to the same period in 2012, which was in line with service revenue growth. Contractor and consultant usage, measured by expense, increased by 13% for the three months ended March 31, 2013 compared to the same period in 2012, based on our needs in specialized areas for certain client contracts.

Our five largest clients, in the aggregate, accounted for 21% of our service revenues for the three months ended March 31, 2013, compared to 20% for the same period in 2012. For the three months ended March 31, 2013 and 2012, no individual client accounted for more than 10% of our service revenues. Long-Term and Retainer Revenues represented 55% of our total service revenues for the three months ended March 31, 2013, compared to 50% for the same period in 2012. Long-Term and Retainer Revenues are revenues from contracts with durations of at least twelve months, and from applications management and long-term support assignments, which are cancelable.

Project Personnel Expenses

Project personnel expenses consist primarily of compensation and employee benefits for personnel dedicated to client assignments, contractors and consultants and other direct expenses incurred to complete assignments that were not reimbursed by the client. These expenses represent the most significant costs we incur in providing our services. The following table presents project personnel expenses for the three months ended March 31, 2013 and 2012 (in thousands, except percentages):

                                           Three Months Ended March 31,                               Percentage
                                            2013                   2012              Increase          Increase
Project personnel expenses             $      206,745         $      183,770        $   22,975                 13 %
Project personnel expenses as a
percentage of service revenues                     71 %                   71 %        0 points


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The increase in project personnel expenses for the three months ended March 31, 2013 was a direct result of our service revenue growth, as we increased delivery personnel peoplecount, use of contractors and consultants and certain other direct expenses in order to fulfill the increase in demand for our services. To a lesser extent, project personnel expenses increased due to the three acquisitions we completed during the quarters ended December 31, 2012 and March 31, 2013. Compensation and benefit expenses increased $18.6 million, due to the 9% increase in average peoplecount and the aforementioned acquisitions. Contractor and consultant expense increased $2.4 million as our need for contractors and consultants in specialized areas for certain client contracts increased. Travel expense increased $1.1 million based on client project needs. Other project personnel expenses increased, in the aggregate, by $0.9 million.

Selling and Marketing Expenses

Selling and marketing expenses consist primarily of compensation, employee
benefits and travel expenses of selling and marketing personnel, and promotional
expenses. The following table presents selling and marketing expenses for the
three months ended March 31, 2013 and 2012 (in thousands, except percentages):



                                            Three Months Ended March 31,                              Percentage
                                            2013                   2012              Increase          Increase
Selling and marketing expenses          $      11,792          $      10,695        $    1,097                 10 %
Selling and marketing expenses as a
percentage of service revenues                      4 %                    4 %        0 points

The increase in selling and marketing expenses for the three months ended March 31, 2013 was primarily due to an increase of $0.7 million in compensation and benefit expenses, relating to an increase in average peoplecount. Other selling and marketing expenses increased, in the aggregate, by $0.4 million.

General and Administrative Expenses

General and administrative expenses consist primarily of compensation and employee benefits associated with our management, legal, finance, information technology, hiring, training and administrative functions, and depreciation and occupancy expenses. The following table presents general and administrative expenses for the three months ended March 31, 2013 and 2012 (in thousands, except percentages):

                                            Three Months Ended March 31,                              Percentage
                                            2013                   2012              Increase          Increase
General and administrative expenses     $      54,002          $      46,713        $    7,289                 16 %
General and administrative expenses
as a percentage of service revenues                18 %                   18 %        0 points

The increase in general and administrative expenses for the three months ended March 31, 2013 was due to the following factors:

• compensation and benefit expenses increased by $2.4 million, due to an increase in average general and administrative peoplecount;

• the net impact of currency gains and losses resulted in an increase in general and administrative expenses of $2.0 million, as net losses of $1.8 million were recorded in the three months ended March 31, 2013, compared to net gains of $0.2 million in the three months ended March 31, 2012;

• depreciation expense increased by $1.4 million, primarily due to the acceleration of depreciation of leasehold improvement and leased building assets as part of office moves and expansions during 2012 and the three months ended March 31, 2013;

• losses on disposals of property and equipment increased by $0.8 million, primarily due to write-offs of leasehold improvement assets at certain office locations due to expansions and renovations of those offices; and

• other general and administrative expenses increased, in the aggregate, by $0.7 million.

Restructuring and Other Related Charges (Benefits)

Restructuring and other related charges (benefits) were $2.0 million and $(0.1) million for the three months ended March 31, 2013 and 2012, respectively. The net charges recorded in the three months ended March 31, 2013 included $2.0 million of cash and other termination benefits for 80 employees whose positions were made redundant. This action was taken in order to improve efficiency based on our revenue mix, skills mix and leverage model. Also included was a benefit of


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$(5,000) related to changes in the estimated costs to be incurred in connection with a previously restructured office lease. The benefits recorded in the three months ended March 31, 2012 were related to changes in estimated future costs to be incurred on two previously restructured leases.

Amortization of Purchased Intangible Assets

Purchased intangible assets consist of customer lists and customer relationships, non-compete and non-solicitation agreements, intellectual property and tradenames acquired in business combinations. Amortization of purchased intangible assets was $3.7 million and $2.6 million for the three months ended March 31, 2013 and 2012, respectively. The increase in amortization expense was primarily due to additional amortization expense related to the new intangible assets acquired in connection with the three acquisitions which occurred during the quarters ended March 31, 2013 and December 31, 2012.

Acquisition Costs and Other Related Charges

Acquisition costs and other related charges include expenses associated with third-party professional services we utilize related to the evaluation of potential targets and the execution of successful acquisitions. Although we may incur costs to evaluate targets, the related potential transaction(s) may never be consummated. Acquisition costs and other related charges also include changes in the fair value of contingent consideration liabilities recorded as the result of acquisitions. These liabilities must be measured at fair value on the acquisition date, and until these liabilities are settled, they must be remeasured at fair value each reporting period, with the changes included in earnings. Acquisition costs and other related charges were $0.9 million and $1.1 million for the three months ended March 31, 2013 and 2012, respectively. Third-party costs increased, while remeasurements of the fair values of contingent consideration liabilities decreased, in the three months ended March 31, 2013 as compared to the same period in the prior year.

We recorded contingent consideration liabilities as the result of our acquisitions of D&D Holdings Limited ("DAD") in 2011, (m)Phasize, LLC in 2012, and iThink in 2013. We expect to record quarterly remeasurements of the fair values of these liabilities until they are settled at various points in time through 2015. Acquisition costs and other related charges recorded in the three months ended March 31, 2013 and 2012 included (benefits) expenses of $(0.3) million and $0.8 million, respectively, relating to the remeasurement of the fair values of these contingent consideration liabilities. We may also continue to incur additional acquisition costs and other related charges in future periods resulting from the evaluation of potential acquisition targets.

Impairment of Intangible Asset

As of March 31, 2013, we performed an impairment review of the customer list intangible asset obtained in our acquisition of Nitro in 2009. The impairment review was triggered by certain legacy Nitro customers having notified us during the three months ended March 31, 2013 of their intentions to cease or reduce purchases of our services. In the first step of the impairment review, the undiscounted net cash flows expected to be generated by the asset were compared to the carrying value of the asset. The carrying value of the asset exceeded the undiscounted net cash flows expected to be generated by the asset, indicating that the carrying value was not recoverable. In the second step, the impairment amount of $1.5 million was determined as the amount by which the asset's carrying amount exceeded its fair value, which was estimated using a discounted cash flow approach. In estimating the undiscounted future net cash flows expected to be generated by this intangible asset, management considered the following factors: actual customer attrition rates since the acquisition date; expected future attrition rates; estimated undiscounted net cash flows generated by the intangible asset since the acquisition date; estimated undiscounted net cash flows expected to be generated by the intangible asset over its remaining expected useful life; and the expected remaining useful life of the intangible asset. In the course of this impairment review, management considered multiple future scenarios and the expected likelihood of those scenarios occurring, based on the information which was known to management at the time the review was performed. This impairment review involved the use of significant judgment by management, and different judgments could yield different results. The net book value of the Nitro customer list intangible asset was $1.5 million and $3.5 million as of March 31, 2013 and December 31, 2012, respectively.

Interest and Other Income, Net

Interest and other income, net, consists primarily of interest income, which is derived from investments in U.S. government securities, bank time deposits and money market funds, and interest expense, consisting primarily of imputed interest on rent payments for leased properties of which we are considered the owner for accounting purposes. The following table presents interest and other income, net, for the three months ended March 31, 2013 and 2012 (in thousands, except percentages):

Three Months Ended March 31, Percentage 2013 2012 Decrease Decrease Interest and other income, net $ 872 $ 1,822 $ (950 ) (52 )%


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The decrease for the three months ended March 31, 2013 as compared to the same period in 2012 was due to higher interest expense relating to the two "build-to-suit" office properties in India which we occupied during the three months ended June 30, 2012.

Provision for Income Taxes

During the quarter ended March 31, 2013, we identified certain prior period errors which affected the income tax provisions and related tax balance sheet accounts for the interim and annual periods in the years ended December 31, 2006 through 2012. We have reflected the correction of all identified prior period errors in the periods in which they originated. For additional details, see Note 1, Basis of Presentation - Revision of Prior Period Financial Statements.

The provision for income taxes was $6.4 million and $8.5 million for the three months ended March 31, 2013 and 2012, respectively. Income tax is related to federal, state and foreign tax obligations. The decrease in tax expense was primarily related to a decrease in profit before taxes, changes in the mix of jurisdictional profits, and the discrete items relating to each period.

Our effective tax rate may vary from period to period based on changes in estimated taxable income or loss by jurisdiction, changes to the valuation allowance, changes to federal, state or foreign tax laws, future expansion into areas with varying country, state, and local income tax rates, deductibility of certain costs and expenses by jurisdiction and as a result of acquisitions. For the three months ended March 31, 2013, our effective tax rate varied from the statutory tax rate primarily due to state income taxes, the tax rate differential attributable to income earned by our foreign subsidiaries and the related mix of jurisdictional profits, and changes in uncertain tax positions.

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