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CEB > SEC Filings for CEB > Form 10-Q on 12-Nov-2013All Recent SEC Filings

Show all filings for CORPORATE EXECUTIVE BOARD CO | Request a Trial to NEW EDGAR Online Pro

Form 10-Q for CORPORATE EXECUTIVE BOARD CO


12-Nov-2013

Quarterly Report


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

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements and related notes thereto included elsewhere in this Quarterly Report on Form 10-Q. The following discussion includes forward-looking statements that involve certain risks and uncertainties. For additional information regarding forward-looking statements and risk factors, see "Forward-looking statements" and Part II, Item IA. "Risk Factors."

Executive Overview

We deliver member-based advisory services, talent measurement assessments, and management solutions. We equip senior executives and their teams with essential information, actionable insights, analytical tools, and advisory support. Through our acquisition of SHL, we also provide cloud-based talent measurement and management solutions.


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Our acquisition of SHL, headquartered in the UK, significantly increased the breadth and geographic scope of our operations. As a result of the incurrence of substantial new indebtedness and the use of a significant amount of our cash on hand for the SHL acquisition in 2012, our financial condition differs significantly. Our operating results in 2013 will likely not be comparable to our operating results for prior periods and we are more exposed to foreign currency exchange rate fluctuations. Our business now consists of two reportable segments: CEB and SHL Talent Measurement Solutions.

CEB Segment

The CEB segment helps senior executives and their teams drive corporate performance by identifying and building on the proven best practices of the world's best companies. We primarily deliver our products and services to a global client base through annual, fixed-fee membership subscriptions. Billings attributable to memberships for our CEB products and services initially are recorded as deferred revenue and then are generally recognized on a pro-rata basis over the membership contract term, which typically is 12 months. Generally, a member may request a refund of its membership fee during the membership term under our service guarantee. Refunds are provided from the date of the refund request on a pro-rata basis relative to the remaining term of the membership.

We offer comprehensive data analysis, research, and advisory services that align to executive leadership roles and key recurring decisions. To fully support our members, our products and services are offered across a wide range of industries and focus on several key corporate functions including: Finance, Corporate Services, and Corporate Strategy; Human Resources; Information Technology; Legal, Risk, and Compliance; and Sales, Marketing, and Communications.

In addition to these corporate functions, the CEB segment serves operational business leaders in the financial services industry and government agencies through insights, tools, and peer collaboration designed to drive effective executive decision making. The CEB segment also includes the results of operations of PDRI, a service provider of customized personnel assessment tools and services to various agencies of the US government and, beginning in 2013, the commercial sector.

SHL Talent Measurement Solutions Segment

The SHL Talent Measurement Solutions segment represents the acquired SHL business, excluding PDRI, and is a global provider of cloud-based solutions for talent assessment and decision support, enabling client access to data, analytics and insights for assessing and managing employees and applicants. SHL Talent Measurement Solutions primarily delivers assessments, consulting and training services. Assessment services are available online through metered and subscription arrangements. Consulting services are generally provided to customize assessment services and face to face assessments, delivered for a fixed fee. Training services consist of either bespoke or public courses related to use of assessments.

Non-GAAP Financial Measures

This Quarterly Report on Form 10-Q includes a discussion of Adjusted revenue, Adjusted EBITDA, Adjusted EBITDA margin, Adjusted net income, and Non-GAAP diluted earnings per share, all of which are non-GAAP financial measures provided as a complement to the results provided in accordance with accounting principles generally accepted in the United States of America ("GAAP").

The term "Adjusted revenue" refers to revenue before the impact of the reduction of SHL revenue recognized in the post-acquisition period to reflect the adjustment of deferred revenue at the SHL acquisition date to fair value (the "deferred revenue fair value adjustment").

The term "Adjusted EBITDA" refers to net income before loss from discontinued operations, net of provision for income taxes; interest expense, net; depreciation and amortization; provision for income taxes; the impact of the deferred revenue fair value adjustment; acquisition related costs; impairment loss; debt extinguishment costs; share-based compensation; costs associated with exit activities; restructuring costs; and gain on acquisition.

The term "Adjusted EBITDA margin" refers to Adjusted EBITDA as a percentage of Adjusted revenue.

The term "Adjusted net income" refers to net income before loss from discontinued operations, net of provision for income taxes and excludes the after tax effects of the impact of the deferred revenue fair value adjustment; acquisition related costs; share-based compensation; impairment loss; debt extinguishment costs; amortization of acquisition related intangibles; costs associated with exit activities; restructuring costs; and gain on acquisition.

"Non-GAAP diluted earnings per share" refers to diluted earnings per share before the per share effect of loss from discontinued operations, net of provision for income taxes and excludes the after tax per share effects of the impact of the deferred revenue fair value adjustment; acquisition related costs; share-based compensation; impairment loss; debt extinguishment costs; amortization of acquisition related intangibles; costs associated with exit activities; restructuring costs; and gain on acquisition.

We believe that these non-GAAP financial measures are relevant and useful supplemental information for evaluating our results of operations as compared from period to period and as compared to our competitors. We use these non-GAAP financial measures for internal budgeting and other managerial purposes, including comparison against our competitors, when publicly providing our business outlook, and as a measurement for potential acquisitions. These non-GAAP financial measures are not defined in the same manner by all companies and therefore may not be comparable to other similarly titled measures used by other companies.

In connection with the SHL acquisition, we changed the definitions of our non-GAAP measures to adjust for the impact of the deferred revenue fair value adjustment to the opening balance sheet resulting from purchase accounting, amortization of related intangibles, acquisition related costs, and share-based compensation. This change was made to provide a more comprehensive understanding of our core operating results by eliminating the effect of acquisition related items from our GAAP operating results. The SHL acquisition was the first acquisition of sufficient size to cause these items to be significant. We believe that excluding these items is important in illustrating what our core operating results would have been had we not incurred these acquisition related items since the nature, size, and number of acquisitions can vary from period to period.

Our non-GAAP financial measures reflect adjustments based on the following items, as well as the related income tax effects:

Certain business combination accounting entries and expenses related to acquisitions: We have adjusted for the impact of the deferred revenue fair value adjustment, amortization of acquisition related intangibles, and acquisition related costs. We incurred significant expenses primarily in connection with our SHL acquisition and also incurred certain other operating expenses, which we generally would not have otherwise incurred in the periods presented as a part of our continuing operations. We believe that excluding these acquisition related items from our non-GAAP financial measures provides useful supplemental information to our investors and is important in illustrating what our core operating results would have been had we not incurred these acquisition related items since the nature, size, and number of acquisitions can vary from period to period.


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Share-based compensation: Although share-based compensation is a key incentive offered to our employees, we evaluate our operating results excluding such expense. Accordingly, we exclude share-based compensation from our non-GAAP financial measures because we believe it provides valuable supplemental information that helps investors have a more complete understanding of our operating results. In addition, we believe the exclusion of this expense facilitates the ability of our investors to compare our operating results with those of other peer companies, many of which also exclude such expense in determining their non-GAAP measures, given varying valuation methodologies, subjective assumptions, and the variety and amount of award types that may be utilized.

Impairment loss and debt extinguishment costs: We believe that excluding these items from our non-GAAP financial measures provides useful supplemental information to our investors and is important in illustrating what our core operating results would have been had we not incurred these items. We exclude these items because management does not believe they correlate to the ongoing operating results of the business.

These non-GAAP measures may be considered in addition to results prepared in accordance with GAAP, but they should not be considered a substitute for, or superior to, GAAP results. We intend to continue to provide these non-GAAP financial measures as part of our future earnings discussions and, therefore, the inclusion of these non-GAAP financial measures will provide consistency in our financial reporting.

A reconciliation of each of the non-GAAP measures to the most directly comparable GAAP measure is provided below (in thousands).

The table below reconciles Revenue to Adjusted revenue (in thousands):

                                        Three Months Ended September 30,             Nine Months Ended September 30,
                                           2013                   2012                 2013                   2012
Revenue                              $        201,735       $        164,749     $        596,617       $        428,934
Impact of deferred revenue fair
value adjustment                                1,367                  8,386                8,826                  8,386

Adjusted revenue                     $        203,102       $        173,135     $        605,443       $        437,320

The table below reconciles Net (loss) income to Adjusted EBITDA (in thousands):

                                           Three Months Ended September 30,                Nine Months Ended September 30,
                                            2013                     2012                   2013                     2012
Net (loss) income                      $        (5,383 )        $          (456 )      $        19,393          $        29,869
Interest expense, net                            4,901                    4,423                 17,424                    4,288
Depreciation and amortization                   15,287                   11,296                 44,776                   22,261
Provision for income taxes                      (2,612 )                  5,759                 12,485                   26,746
Impact of the deferred revenue
fair value adjustment                            1,367                    8,386                  8,826                    8,386
Acquisition related costs                        4,022                   18,557                  7,044                   21,286
Impairment loss                                 22,600                       -                  22,600                       -
Debt extinguishment costs                        6,691                       -                   6,691                       -
Share-based compensation                         3,266                    2,481                  9,123                    6,717

Adjusted EBITDA                        $        50,139          $        50,446        $       148,362          $       119,553

Adjusted EBITDA margin                            24.7 %                   29.1 %                 24.5 %                   27.3 %

The table below reconciles Net (loss) income to Adjusted net income (in thousands):

                                          Three Months Ended September 30,              Nine Months Ended September 30,
                                            2013                    2012                  2013                  2012
Net (loss) income                      $        (5,383 )       $          (456 )     $        19,393       $        29,869
Impact of the deferred revenue fair
value adjustment (1)                             1,088                   6,105                 6,398                 6,105
Acquisition related costs (1)                    2,624                  14,604                 4,582                16,227
Impairment loss (2)                             18,401                      -                 18,401                    -
Debt extinguishment costs (1)                    4,001                      -                  4,001                    -
Share-based compensation (1)                     2,015                   1,521                 5,620                 4,064
Amortization of acquisition related
intangibles (1)                                  6,393                   4,588                18,192                 6,326

Adjusted net income                    $        29,139         $        26,362       $        76,587       $        62,591

The table below reconciles Diluted (loss) earnings per share to Non-GAAP diluted earnings per share:

                                            Three Months Ended September 30,                 Nine Months Ended September 30,
                                             2013                      2012                   2013                    2012
Diluted (loss) earnings per share       $         (0.16 )         $         (0.01 )      $          0.57         $          0.88
Impact of the deferred revenue fair
value adjustment (1)                               0.03                      0.18                   0.19                    0.18
Acquisition related costs (1)                      0.08                      0.43                   0.13                    0.48
Impairment loss (2)                                0.54                        -                    0.54                      -
Debt extinguishment loss (1)                       0.12                        -                    0.12                      -
Share-based compensation (1)                       0.06                      0.04                   0.17                    0.12
Amortization of acquisition related
intangibles (1)                                    0.19                      0.14                   0.54                    0.19

Non-GAAP diluted earnings per share     $          0.86           $          0.78        $          2.26         $          1.85

(1) Adjustments are net of the annual estimated income tax effect using statutory rates based on the relative amounts allocated to each jurisdiction. The following income tax rates were used: 28% in 2013 and 27% in 2012 for the deferred revenue fair value adjustment; 35% in 2013 and 25% in 2012 for acquisition related costs; 38% in 2013 and 39% in 2012 for share-based compensation; 40% in 2013 for debt extinguishment costs; and 32% in 2013 and 30% in 2012 for amortization of acquisition related intangibles.


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(2) The $22.6 million impairment loss of non-deductible goodwill related to PDRI recognized in the three months ended September 30, 2013 was not treated as a discrete event in the provision for income taxes; rather, it was considered to be a component of the estimated annual effective tax rate. As such, $4.8 million of the income tax effect associated with the non-deductible goodwill impairment loss was reflected in the income tax provision in the three and nine months ended September 30, 2013. The remaining tax effect of $4.2 million will be added back in the fourth quarter of 2013 to bring the full year adjustment to $22.6 million.

Critical Accounting Policies

Our accounting policies require us to apply methodologies, estimates and judgments that have a significant impact on the results we report in our consolidated financial statements. In our 2012 Annual Report on Form 10-K, we discussed those material policies that we believe are critical and require the use of complex judgment in their application. There has been no significant changes to our critical accounting policies; however, the following is an update to our existing goodwill and intangible assets discussion included in our critical accounting policies:

Goodwill and Intangible Assets

Goodwill represents the purchase price of acquired businesses in excess of the fair market value of net assets acquired. Intangible assets include customer relationships, trade names, and software. We have a significant amount of goodwill and intangible assets on our balance sheet. We recognized approximately $412 million of goodwill and approximately $323 million of intangible assets from the SHL acquisition.

The potential for goodwill impairment is increased during a period of economic uncertainty. To the extent we acquire a company at a negotiated price that reflects, at least in part, anticipated future performance, subsequent market conditions may result in the acquired business performing at a lower level than was anticipated at the time of the acquisition. Any of these changes would reduce our operating results and could cause the market price of our common stock to decline. A slowing recovery or new recession in the United States, a slow recovery or further recession in Europe, and slowing growth in the global economy may result in declining performance that would require us to examine our goodwill for potential impairment.

We assess our goodwill for impairment at the reporting unit level. On a quarterly basis, we assess qualitative factors to determine whether the existence of events or circumstances leads to the determination that an indicator of impairment exists. These qualitative factors have been identified by management as the key performance indicators of each reporting unit. If, based on the assessment of the qualitative factors, an entity determines it is more-likely-than-not that the fair value of a reporting unit is does not exceed its carrying value, the entity would be required to perform the two-step impairment test. We test our goodwill for impairment annually on October 1st.

Factors we consider important that could trigger an interim impairment review include, but are not limited to, the following:

significant underperformance relative to expected historical or projected future operating results;

significant change in the manner of our use of the acquired asset or the strategy for our overall business;

significant change in prevailing interest rates;

significant negative industry or economic trend; and/or

market capitalization relative to net book value.

If we determine, based on our quarterly assessment, that an impairment indicator exists, we complete the first step of the goodwill impairment process ("Step 1"). Step 1 is also completed during the annual goodwill impairment tests for each reporting unit, unless a reporting unit has significantly exceeded financial expectations and we believe it will continue to do so. Step 1 involves determining whether the estimated fair value of the reporting unit exceeds the respective book value. If the fair value exceeds the book value, goodwill of that reporting unit is not impaired. However, if the fair value does not exceed the book value of the reporting unit, goodwill may be impaired and additional analysis is required ("Step 2"). Step 2 of the goodwill impairment test compares the implied fair value of a reporting unit's goodwill to its carrying value. The implied fair value of goodwill is derived by performing a hypothetical purchase price allocation for the reporting unit as of the measurement date, allocating the reporting unit's estimated fair value to its assets and liabilities. The residual amount from performing this allocation represents the implied fair value of goodwill. To the extent this amount is below the carrying value of goodwill, an impairment loss is recorded.

In performing Step 1 of the goodwill impairment test, we compare the carrying amount of the reporting units to their estimated fair values. The estimated fair value of each reporting unit is calculated using one or both of the following:
the income approach (discounted cash flows) and using market multiples derived from a set of competitors with comparable market characteristics (a market approach). The appropriate methodology is determined by management based on available information at the time of the test. In general, when both approaches are used, the estimated fair values are weighted. In general, the market approach is not weighted more than 50%.

The process of evaluating the potential impairment of goodwill is highly subjective and requires significant judgment and estimates, as our businesses operate in a number of markets and geographical regions. The assumptions utilized in the evaluation of the impairment of goodwill under the market approach include the selection of comparable companies, which are subject to change based on the economic characteristics of our reporting units. The assumptions utilized in the evaluation of the impairment of goodwill under the income approach include revenue growth rates, cash flows, EBITDA, tax rates, capital expenditures, the weighted average cost of capital ("WACC") and related discount rate, and expected long-term growth rates (residual growth rate). The assumptions which have the most significant effect on our valuations derived using a discounted cash flows methodology are: (1) revenue growth rate, (2) cash flow assumptions and (3) the discount rate. The assumptions utilized in the market approach include the selection of comparable companies, which are subject to change based on the economic characteristics of our reporting units. Revenue and EBITDA multiples for market comparable companies for the current and future fiscal periods are used to estimate the fair value of the reporting unit by applying those multiples to the projected financial information prepared by management.

The cash flows employed in the income approach are based on our most recent budgets, forecasts, and business plans as well as various growth rate assumptions for years beyond the current business plan period. Long-term growth rates represent the expected long-term growth rate for the Company, considering the industry in which we operate and the global economy. Discount rate assumptions are based on an assessment of the risk inherent in the future revenue streams and cash flows and our WACC. The risk adjusted discount rate used represents the estimated WACC for our reporting units. The discount rate is comprised of (1) a risk free rate of return, (2) an equity risk premium that is based on the rate of return on equity of publicly traded companies with business characteristics comparable to our reporting units, (3) the current after-tax market rate of return on debt of companies with business characteristics similar to our reporting units, each weighted by the relative market value percentages of our equity and debt, and (4) an appropriate Company specific risk premium.

2013 PDRI Interim Impairment Test

In the quarter ended June 30, 2013, we were beginning to see the impacts of the US Federal government budget constraints in the financial results of PDRI, which is a reporting unit included in the CEB reportable segment. Based on insights gained from business activities that align with the US Federal government's September 30th fiscal year-end and PDRI's results of operations for the quarter ended September 30, 2013, we now believe that near to mid-term revenues of the PDRI reporting unit are likely to be constrained leading to lower revenues and cash flows. Based on these indicators of impairment, which also include rising interest rates, we concluded it was not more likely than not that the fair value of the PDRI reporting unit exceeded its carrying value at September 30, 2013. Accordingly, we completed an interim Step 1 impairment analysis which indicated that the estimated fair value of the reporting unit determined did not exceed the carrying value. Consequently, we completed Step 2 of the interim impairment which resulted in a $22.6 million after-tax goodwill impairment loss. This loss did not impact our liquidity position or cash flows for 2013. Following the impairment, the PDRI reporting unit has $17.6 million of goodwill.


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We used the income approach (discounted cash flow model) to estimate the fair value of the reporting unit. The assumptions used in the income approach include revenue projections, EBITDA projections, estimated income tax rates, estimated capital expenditures, and an assumed discount rate based on various inputs. The assumptions which have the most significant effect on the determination of fair value are: 1) the projected revenues, which include estimates for growth in future periods from expansion into other markets, 2) the projected cash flows, which are driven by the revenue estimates and estimates of improved EBITDA margins in the future forecast period, and 3) the discount rate. In conjunction with our valuation advisors, we determined that due to the small size and specialized nature of the PDRI reporting unit, there was not sufficient comparable market data upon which to rely for purposes of establishing fair value of the reporting unit; however, we did consider comparable companies as a test of reasonableness for the estimate of fair value.

Under the income approach, we used a internally generated projected financial information which included revenue growth rates consider our plan for the expansion of PDRI into the commercial market. The near to mid-term EBITDA margins are also estimated to increase each year over the forecast period. The assumed discount rate utilized was 15.5%. The assumed discount rate includes consideration for the risks associated with the revenue growth and EBITDA margin improvement assumptions in the forecast period.

If all assumptions are held constant, a one percentage point increase in the discount rate would result in an approximately $4 million decrease in the estimated fair value of the reporting unit, primarily impacting goodwill. Assessing fair value includes, among other things, making key assumptions for estimating future cash flows and revenues. These assumptions are subject to a high degree of judgment and complexity. We make every effort to estimate operating results as accurately as possible with the information available at the time the forecast is developed. However, changes in assumptions and estimates may affect the estimated fair value of the reporting unit and could . . .

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