Form S-1
Table of Contents

As filed with the Securities and Exchange Commission on September 1, 2005

Registration No. 333-                


SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549


FORM S-1

REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933

 

SAIC, INC.

(Exact name of Registrant as specified in its charter)

 

Delaware    8700    Application Filed

(State or other jurisdiction of

incorporation or organization)

   (Primary Standard Industrial
Classification Code Number)

 

10260 Campus Point Drive
San Diego, California 92121
(858) 826-6000

   (I.R.S. Employer
Identification No.)

(Address, including zip code and telephone number, including area code, of Registrant’s principal executive offices)

 

Douglas E. Scott, Esq.

Senior Vice President, General Counsel and Secretary

SAIC, Inc.

10260 Campus Point Drive

San Diego, California 92121

(858) 826-6000

(Name, address, including zip code and telephone number, including area code, of agent for service)

 

Copies to:

Sarah A. O’Dowd

Stephen C. Ferruolo

Ryan A. Murr

Heller Ehrman LLP

4350 La Jolla Village Drive

San Diego, California 92122

Phone: (858) 450-8400

Fax: (858) 450-8499

   Bruce K. Dallas
Nigel D. J. Wilson
Davis Polk & Wardwell
1600 El Camino Real
Menlo Park, California 94025
Phone: (650) 752-2000
Fax: (650) 752-2111

 

Approximate date of commencement of proposed sale to public:    As soon as practicable after this Registration Statement becomes effective.

 

If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, check the following box:  ¨

 

If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering:  ¨

 

If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering:  ¨

 

If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering:  ¨

 

If delivery of the prospectus is expected to be made pursuant to Rule 434, please check the following box:  ¨

 

CALCULATION OF REGISTRATION FEE


Title of Each Class of Securities to be Registered

  

Proposed Maximum
Aggregate

Offering Price (1)(2)

  

Amount of

Registration Fee

Common Stock, $.0001 par value per share

   $ 1,725,000,000    $ 203,033

(1)   Estimated solely for the purpose of calculating the registration fee pursuant to Rule 457(o) of the Securities Act of 1933, as amended.
(2)   Includes shares of common stock that underwriters have an option to purchase solely to cover over-allotments, if any.

The Registrant hereby amends this Registration Statement on such date or dates as may be necessary to delay its effective date until the Registrant shall file a further amendment which specifically states that this Registration Statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933 or until the Registration Statement shall become effective on such date as the Commission, acting pursuant to said Section 8(a), may determine.



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The information in this prospectus is not complete and may be changed. We may not sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This prospectus is not an offer to sell these securities, and we are not soliciting an offer to buy these securities in any state where the offer or sale is not permitted.

 

PROSPECTUS (Subject to Completion)

Issued September 1, 2005

 

                     Shares

 

LOGO

 

COMMON STOCK

 


 

SAIC, Inc. is offering          shares of its common stock. Although our principal operating subsidiary has previously sponsored a limited market in its common stock, no public market currently exists for our common stock. We anticipate that the initial public offering price will be between $             and $             per share.

 


 

We intend to apply for listing of our common stock on the New York Stock Exchange under the symbol “SAI.”

 


 

Investing in our common stock involves risks. See “Risk Factors” beginning on page 10.

 


 

PRICE $                 A SHARE

 


 

       Price to
Public


     Underwriting
Discounts and
Commissions


     Proceeds to
SAIC


Per Share

     $                $                $            

Total

     $                        $                        $                  

 

We have granted the underwriters the right to purchase up to an additional                      shares of common stock to cover over-allotments.

 

The Securities and Exchange Commission and state securities regulators have not approved or disapproved these securities or determined if this prospectus is truthful or complete. Any representation to the contrary is a criminal offense.

 

The underwriters expect to deliver the shares to purchasers on                     , 2006.

 


 

MORGAN STANLEY   BEAR, STEARNS & CO. INC.

 

                    , 2006


Table of Contents

TABLE OF CONTENTS

 

     Page

Prospectus Summary

   1

Risk Factors

   10

Forward-Looking Statements

   22

Use of Proceeds

   23

Dividend Policy

   23

Capitalization

   24

Selected Consolidated Financial Data

   25
Management’s Discussion and Analysis of Financial Condition and Results of Operations    27

Business

   55

Management

   74

Executive Compensation

   80
     Page

Certain Relationships and Related Party Transactions    95

Principal Stockholders

   97

The Merger and the Special Dividend

   99

Description of Capital Stock

   100

Market for Old SAIC Common Stock

   105
U.S. Federal Income Tax Considerations for Non-U.S. Holders    107

Shares Eligible for Future Sale

   110

Underwriters

   112

Legal Matters

   115

Experts

   115

Where You Can Find More Information

   115

Index to Consolidated Financial Statements

   F-1

 


 

In this prospectus, we use the terms “SAIC,” “we,” “us” and “our” to refer to Science Applications International Corporation or SAIC, Inc. when the distinction between the two companies is not important. When the distinction is important to the discussion, we use the term “Old SAIC” to refer to Science Applications International Corporation and “New SAIC” to refer to SAIC, Inc. Prior to completion of this offering, we will ask the stockholders of Old SAIC to adopt and approve a merger agreement providing for the merger of Old SAIC with New SAIC’s wholly-owned subsidiary, SAIC Merger Sub, Inc. We refer to this merger in this prospectus as the “reorganization merger.” After the reorganization merger, Old SAIC will be a wholly-owned subsidiary of New SAIC. We expect to complete the reorganization merger before the completion of this offering, and the completion of the reorganization merger is a condition to the completion of this offering. Unless we indicate otherwise, the information in this prospectus assumes that we complete the reorganization merger.

 

Old SAIC files reports and other information with the Securities and Exchange Commission, or SEC, but its common stock, which is subject to various restrictions, is not publicly traded. You should rely only on the information contained in this prospectus. We have not authorized anyone to provide you with information different from the information contained in this prospectus. We are offering to sell, and seeking offers to buy, the common stock of New SAIC only in jurisdictions where offers and sales are permitted. The information contained in this prospectus is accurate only as of the date of this prospectus, regardless of when this prospectus is delivered or when any sale of our common stock occurs. Unless otherwise noted, references to years are to fiscal years ended January 31, not calendar years. For example, we refer to the fiscal year ended January 31, 2005 as “fiscal 2005.” We are currently in fiscal 2006. References to government fiscal year are to fiscal years ending September 30.

 

You should rely only on the information contained in this prospectus. We have not authorized anyone to provide you with information different from that contained in this prospectus. We are offering to sell, and seeking offers to buy, shares of our common stock only in jurisdictions where offers and sales are permitted. The information contained in this prospectus is accurate only as of the date of this prospectus, regardless of the time of delivery of this prospectus or of any sale of our common stock.

 

No action is being taken in any jurisdiction outside the United States to permit a public offering of the common stock or possession or distribution of this prospectus in that jurisdiction. Persons who come into possession of this prospectus in jurisdictions outside the United States are required to inform themselves about and to observe any restrictions as to this offering and the distribution of this prospectus applicable to that jurisdiction.

 

Until             , 2006, all dealers that buy, sell or trade in our common stock, whether or not participating in this offering, may be required to deliver a prospectus. This is in addition to the dealers’ obligation to deliver a prospectus when acting as underwriters and with respect to their unsold allotments or subscriptions.

 

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PROSPECTUS SUMMARY

 

You should read the following summary together with the entire prospectus, including the more detailed information in our financial statements and related notes appearing in the back of this prospectus. You should also carefully consider, among other things, the matters discussed in “Risk Factors.”

 

SAIC, INC.

 

Overview

 

We are a leading provider of scientific, engineering, systems integration and technical services and solutions to all branches of the U.S. military, agencies of the U.S. Department of Defense, the intelligence community, the U.S. Department of Homeland Security and other U.S. Government civil agencies, as well as to selected commercial markets. Our customers seek our domain expertise to solve complex technical challenges requiring innovative solutions for mission-critical functions in such areas as national security, intelligence and homeland defense. Increasing demand for our services and solutions is driven by priorities including the ongoing global war on terror and the transformation of the U.S. military.

 

From fiscal 2001 to fiscal 2005, our consolidated revenues increased at a compound annual growth rate of 15.5% to a company record of $7.2 billion, inclusive of acquisitions and exclusive of Telcordia Technologies, Inc., our commercial telecommunications subsidiary, which we divested in March 2005. As of April 30, 2005, we had a portfolio of more than 10,000 contracts and total consolidated negotiated backlog of approximately $10.3 billion, which included funded backlog of approximately $3.7 billion, compared to approximately $9.5 billion and $3.7 billion, respectively, as of April 30, 2004. In May 2005, Washington Technology, a leading industry publication, ranked us number three in its list of Top Federal Prime Contractors in the United States based on information technology (IT), telecommunications and systems integration revenues.

 

The U.S. Government is our largest customer, in aggregate representing 86% of our total consolidated revenues in fiscal 2005. According to the Congressional Budget Office, U.S. Government total discretionary spending in government fiscal 2005 is approximately $960 billion and we estimate that more than $125 billion of this amount will be spent in areas in which we compete. We believe that U.S. Government spending in these areas will continue to grow as a result of homeland security and intelligence needs arising from the global war on terror, the ongoing transformation of the U.S. military and the increased reliance on outsourcing by the U.S. Government.

 

Competitive Strengths

 

To maximize our ability to consistently deliver innovative solutions to help meet our customers’ most challenging needs, and to grow our business and increase stockholder value, we rely on the following key strengths:

 

Skilled Personnel and Experienced Management.    Our people are our most valuable asset. Our professional staff is highly educated, with approximately 9,600, or 44%, holding advanced degrees, including more than 1,400 holding doctoral degrees. As of April 30, 2005, we had 42,500 employees, approximately 20,000 of whom had national security clearances. In addition, our President and Chief Executive Officer, our four Corporate Executive Vice Presidents and our six Group Presidents have industry experience averaging 30 years and tenure with our company averaging 13 years.

 

Employee Ownership and Core Values.    We believe that a cornerstone of our success has been our culture of employee ownership supported by our long-standing core values, including our commitment to ethical conduct, spirit of entrepreneurship and innovation, pursuit of technical excellence and focus on customer satisfaction. Approximately 31,700 of our 42,500 employees own our stock and we intend to continue to provide our employees with equity participation opportunities after the completion of this offering.

 

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Knowledge of Customers’ Needs.    Over the past 35 years, we have developed a deep and sophisticated knowledge of our customers, enabling us to design effective solutions that address their mission-critical needs and integrate these solutions with existing systems.

 

Technical Expertise.    We have deep technical expertise stemming from our work on our customers’ most challenging and complex problems. This expertise allows us to stay at the forefront of technology and innovation and address the evolving issues facing our customers.

 

Trusted Services and Solutions Provider.    We have provided platform-independent systems engineering and IT services and solutions to the U.S. Government and other customers since 1969. Over this time, we believe we have earned a reputation as a trusted provider of services and solutions for complex problems including those with significant national security implications, which is evidenced by our ability to win prime contractor roles on key U.S. Government programs.

 

Proven Marketing and Business Development Organization.    Our highly effective marketing and business development organization has helped us to achieve high contract win rates as evidenced by our contract win rate of 65% for fiscal 2005.

 

Ability to Complete and Integrate Acquisitions.    To complement our organic growth, we have completed and integrated approximately 70 acquisitions of small- and medium-sized companies over the past 10 years with an aggregate purchase price of approximately $1.6 billion.

 

Growth Strategy

 

We are focused on continuing to grow our business as a leading scientific, engineering, systems integration and technical services and solutions company. In our Government segment, we seek to become the leading provider of systems engineering, systems integration and technical services and solutions by focusing on the U.S. Government’s increased emphasis on defense transformation, intelligence and homeland defense. In addition, we plan to continue to pursue strategic acquisitions in areas such as these where we anticipate high growth. In our Commercial segment, we seek to grow our business in our existing targeted markets, in addition to becoming a leader in new selected vertical markets in which we can leverage our specialized experience and skill sets.

 

Our Services and Solutions

 

We offer a broad range of services and solutions to address our customers’ most complex and critical technology-related needs. These services include the following:

 

Defense Transformation.    We develop leading-edge concepts, technologies and systems to solve complex challenges facing the U.S. military and its allies, helping them transform the way they fight.

 

Intelligence.    We develop solutions to help the U.S. defense, intelligence and homeland security communities build an integrated intelligence picture, allowing them to be more agile and dynamic in chaotic environments and produce actionable intelligence.

 

Homeland Security.    We develop technical solutions and provide systems integration and mission-critical support services to help federal, state, local and foreign governments and private-sector customers protect the United States and allied homelands.

 

Logistics and Product Support.    We provide logistics and product support solutions to enhance the readiness and operational capability of U.S. military personnel and weapon and support systems.

 

Systems Engineering and Integration.    We provide systems engineering and integration solutions to help our customers design, manage and protect complex IT networks and infrastructure.

 

Research and Development.    As one of the largest science and technology contractors to the U.S. Government, we conduct leading-edge research and development of new technologies with applications in areas such as national security, intelligence and life sciences.

 

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Commercial Services.    We help our customers become more competitive, offering technology-driven consulting, systems integration and outsourcing services and solutions in selected commercial markets, currently IT support for oil and gas exploration and production, applications and IT infrastructure management for utilities and data lifecycle management for pharmaceuticals.

 


 

We are headquartered in San Diego, California. Our address is 10260 Campus Point Drive, San Diego, California 92121, and our telephone number is (858) 826-6000. Our website can be found on the Internet at www.saic.com. The website contains information about us and our operations. The contents of our website are not incorporated by reference into this prospectus.

 

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THE OFFERING

 

Common stock offered by us

   shares     

Stock to be outstanding immediately after completion of this offering:

         

Common stock

   shares

Class A preferred stock, divided into four series:

         

Series A-1 preferred stock

   35,820,570 shares     

Series A-2 preferred stock

   107,461,709 shares     

Series A-3 preferred stock

   107,461,709 shares     

Series A-4 preferred stock

   107,461,709 shares     

Total class A preferred stock

   358,205,697 shares
         

Total capital stock

   shares
         

Voting rights:

         

Common stock

   One vote per share     

Class A preferred stock

   10 votes per share     

Proposed NYSE symbol

   SAI     

 

Net proceeds from this offering will be approximately $             , or $             if the underwriters fully exercise their over-allotment option. We will use all or substantially all of the net proceeds from this offering to pay a special dividend to holders of our class A preferred stock. See “Use of Proceeds” and “The Merger and the Special Dividend.”

 

The principal purpose of this offering is to better enable us to use our cash and cash flows from operations to fund organic growth and growth through acquisitions, as well as to provide us with publicly traded stock that can be used for future acquisitions. Creating a public market for our common stock eliminates the need to use our cash to provide liquidity for our stockholders in the limited market that we have historically sponsored.

 

The payment of the special dividend is conditioned upon the completion of this offering. We do not expect to pay any other dividends on our capital stock in the foreseeable future and intend to retain any future earnings to finance our operations and growth. Any future determination to pay dividends will be at the discretion of our board of directors in light of earnings, financial condition, operating results, capital requirements, applicable contractual restrictions and other factors our board of directors deems relevant. See “Use of proceeds,” “Dividend Policy” and “The Merger and the Special Dividend.”

 

Shares of our class A preferred stock are convertible on a one-for-one basis into our common stock, subject to certain restrictions on the timing of conversion. The four series of this stock will be identical, except for the restrictions on the timing of the conversion applicable to each series. See “Description of Capital Stock.”

 

The number of shares of class A preferred stock that will be outstanding immediately after the completion of this offering is based on 174,770,988 of Old SAIC class A common stock and 216,593 shares of Old SAIC

 

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class B common stock outstanding as of April 30, 2005 (which will convert into shares of New SAIC class A preferred stock pursuant to the reorganization merger described below), and excludes the following:

 

  ·   65,773,846 shares of New SAIC class A preferred stock issuable upon exercise of 32,886,923 options to purchase shares of Old SAIC class A common stock, which will be assumed by New SAIC in the reorganization merger, with a weighted-average exercise price of $16.68 per share (adjusted for the reorganization merger, but not including the anticipated adjustments for the special dividend); and

 

  ·                shares of New SAIC class A preferred stock reserved for future grants under our 2006 Equity Incentive Plan and 2006 Employee Stock Purchase Plan.

 

Except as otherwise indicated, all information in this prospectus relating to New SAIC (1) assumes that the underwriters’ over-allotment option will not be exercised and (2) gives effect to the reorganization merger of Old SAIC with a wholly-owned subsidiary of New SAIC, pursuant to which:

 

  ·   each share of Old SAIC class A common stock will convert into two shares of New SAIC class A preferred stock, which will be allocated among four series, A-1, A-2, A-3 and A-4, as described under “The Merger and the Special Dividend;” and

 

  ·   each share of Old SAIC class B common stock will convert into 40 shares of New SAIC class A preferred stock, which will be allocated among four series, A-1, A-2, A-3 and A-4, as described under “The Merger and the Special Dividend.”

 

Old SAIC financial statements and share and per share data have not been adjusted to give effect to the planned reorganization merger.

 

Please read “Risk Factors” and other information included in this prospectus for a discussion of the factors you should consider carefully before deciding to invest in our common stock.

 

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SUMMARY CONSOLIDATED FINANCIAL DATA

 

You should read the summary consolidated financial data presented below in conjunction with “Selected Consolidated Financial Data,” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and the related notes included elsewhere in this prospectus. The summary consolidated financial data presented below under “Consolidated Statement of Income Data” for the years ended January 31, 2005, 2004 and 2003 have been derived from our audited consolidated financial statements included elsewhere in this prospectus. The summary consolidated financial data presented below under “Consolidated Statement of Income Data” for the three months ended April 30, 2005 and 2004 and “Consolidated Balance Sheet Data” as of April 30, 2005 have been derived from unaudited condensed consolidated financial statements that are included elsewhere in this prospectus and have been prepared on the same basis as our audited consolidated financial statements. In the opinion of management, the unaudited condensed consolidated financial statements reflect all adjustments, consisting only of normal and recurring adjustments, necessary to state fairly our results of operations for and as of the periods presented. Historical results are not necessarily indicative of the results of operations to be expected for future periods.

 

The pro forma consolidated balance sheet data reflect the balance sheet data as of April 30, 2005, after giving effect to the payment of the special dividend we intend to pay to our class A preferred stockholders after the completion of this offering. The pro forma as adjusted consolidated balance sheet data reflect the balance sheet data as of April 30, 2005, after giving effect to the payment of the special dividend, the completion of the reorganization merger and the completion of the sale of common stock by us in this offering at an assumed initial public offering price of $     per share and after deducting estimated underwriting discounts and offering expenses. The special dividend is expected to range from $4 to $5 per share of New SAIC class A preferred stock, which is the equivalent of a range from $8 to $10 per share of Old SAIC class A common stock and from $160 to $200 per share of Old SAIC class B common stock. The unaudited pro forma earnings per share and the unaudited pro forma common equivalent share data contained in the summary consolidated financial data presented below reflect the payment of the special dividend.

 

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     Year Ended January 31

    Three Months
Ended April 30


 
     2005

    2004

    2003

    2005

    2004

 
     (in millions, except per share data)  

Consolidated Statement of Income Data:

                                        

Revenues

   $ 7,187     $ 5,833     $ 4,835     $ 1,846     $ 1,706  

Cost of revenues

     6,337       5,100       4,211       1,627       1,499  

Selling, general and administrative expenses

     364       331       305       107       87  

Goodwill impairment

           7       13              

Gain on sale of business units, net

     (2 )           (5 )            
    


 


 


 


 


Operating income

     488       395       311       112       120  

Net (loss) gain on marketable securities and other investments, including impairment losses (1)

     (16 )     5       (134 )     (2 )     3  

Interest income

     45       49       37       19       8  

Interest expense

     (88 )     (80 )     (45 )     (22 )     (22 )

Other (expense) income, net

     (12 )     5       6       1       (2 )

Minority interest in income of consolidated subsidiaries

     (14 )     (10 )     (7 )     (3 )     (3 )
    


 


 


 


 


Income from continuing operations before income taxes

     403       364       168       105       104  

Provision for income taxes

     131       140       61       50       37  
    


 


 


 


 


Income from continuing operations

     272       224       107       55       67  

Income from discontinued operations, net of tax

     137       127       152       530       22  
    


 


 


 


 


Net income

   $ 409     $ 351     $ 259     $ 585     $ 89  
    


 


 


 


 


Earnings per share:

                                        

Basic:

                                        

Income from continuing operations

   $ 1.49     $ 1.22     $ .55     $ .31     $ .36  

Discontinued operations, net of tax

     .74       .68       .77       2.96       .12  
    


 


 


 


 


     $ 2.23     $ 1.90     $ 1.32     $ 3.27     $ .48  
    


 


 


 


 


Diluted:

                                        

Income from continuing operations

   $ 1.45     $ 1.19     $ .53     $ .30     $ .35  

Discontinued operations, net of tax

     .73       .67       .75       2.88       .12  
    


 


 


 


 


     $ 2.18     $ 1.86     $ 1.28     $ 3.18     $ .47  
    


 


 


 


 


Common equivalent shares:

                                        

Basic

     183       185       196       179       184  
    


 


 


 


 


Diluted

     188       189       203       184       190  
    


 


 


 


 


Unaudited pro forma earnings per share:

                                        

Basic: (2)(3)

                                        

Income from continuing operations

   $                                  $                       

Discontinued operations, net of tax

                                        
    


                 


       
     $                                  $                       
    


                 


       

Diluted: (2)(3)

                                        

Income from continuing operations

   $                                  $                       

Discontinued operations, net of tax

                                        
    


                 


       
     $                                  $                       
    


                 


       

Unaudited pro forma common equivalent shares:

                                        

Basic (2)(3)

                                        
    


                 


       

Diluted (2)(3)

                                        
    


                 


       

 

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     As of April 30, 2005

     Actual

   Pro Forma

   Pro Forma
as Adjusted


     (in millions)

Consolidated Balance Sheet Data:

                

Cash, cash equivalents and short-term investments

   $ 3,186          

Working capital

     3,134          

Total assets

     5,942          

Long-term debt, net of current portion

     1,211          

Stockholders’ equity

     2,800          

 

     Year Ended January 31

  

Three Months Ended

April 30


     2005

   2004

   2003

   2005

   2004

     (dollars in millions)

Other Data:

                                  

EBITDA (4)

   $ 687    $ 622    $ 461    $ 989    $ 173

Adjusted EBITDA (5)

     519      438      354      126      127

Number of contracts generating more than
$10 million in annual revenues (6)

     91      66      44      N/A      N/A
     As of January 31

   As of April 30

     2005

   2004

   2003

   2005

   2004

     (dollars in millions)

Total consolidated negotiated backlog (7)

   $ 8,977    $ 7,575    $ 5,619    $ 10,271    $ 9,459

Total consolidated funded backlog (7)

     3,646      3,355      2,729      3,702      3,719

Total number of employees (8)

     42,400      39,300      34,700      42,500      40,200

(1)   Includes impairment losses of $108 million on marketable equity securities and other private investments in 2003.
(2)   The unaudited pro forma earnings per share and common equivalent share data reflect the payment of the special dividend we intend to pay to our class A preferred stockholders following completion of this offering. See “Use of Proceeds,” “Capitalization” and “The Merger and the Special Dividend.”
(3)   Unaudited pro forma earnings per share and common equivalent share data for both basic and diluted computations assume that                shares of our common stock during each of the periods indicated had been sold by us with assumed net proceeds of $                per share. Such shares represent the assumed number of shares of our common stock necessary to be sold in this offering to fund the $                special dividend.
(4)   EBITDA is defined as net income plus income tax expense, net interest expense, and depreciation and amortization expense. EBITDA is considered a non-GAAP financial measure. We believe that EBITDA is an important measure of our performance and is a useful supplement to net income and other income statement data. We believe EBITDA is useful to management and investors in comparing our performance to that of other companies in our industry, since it removes the impacts of (a) differences in capital structure, including the effects of interest income and expense, (b) differences among the tax regimes to which we and comparable companies are subject and (c) differences in the age, method of acquisition and approach to depreciation and amortization of productive assets. However, because other companies may calculate EBITDA differently than we do, it may be of limited usefulness as a comparative measure. EBITDA has limitations as an analytical tool, and you should not consider it in isolation or as a substitute for analysis of our results as reported under GAAP. Some of these limitations are: (a) EBITDA does not reflect our cash expenditures, or future requirements, for capital expenditures or contractual commitments, (b) EBITDA does not reflect changes in, or cash requirements for, our working capital needs, (c) EBITDA does not reflect the interest expense, or the cash requirements necessary to service our principal payments, on our debt, (d) EBITDA does not reflect income taxes or the cash requirements for any tax payments, and (e) although depreciation and amortization are non-cash charges, the assets being depreciated and amortized will often have to be replaced in the future, and EBITDA does not reflect any cash requirements for such replacements.

 

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       The following is a reconciliation of EBITDA to net income.

 

     Year Ended January 31

    Three Months
Ended April 30


 
     2005

    2004

    2003

    2005

    2004

 
     (in millions)  

Net income

   $ 409     $ 351     $ 259     $ 585     $ 89  

Interest income

     (45 )     (49 )     (37 )     (19 )     (8 )

Interest expense

     88       80       45       22       22  

Provision for income taxes

     149       159       101       385       50  

Depreciation and amortization

     86       81       96       16       20  
    


 


 


 


 


EBITDA

   $ 687     $ 622     $ 464     $ 989     $ 173  
    


 


 


 


 


 

(5)   Adjusted EBITDA equals EBITDA minus income from discontinued operations, net of tax and gain on sale of business units and subsidiary common stock, plus goodwill impairment, net gain or (loss) on marketable securities and other investments including impairment losses and investment activities by our venture capital subsidiary. We utilize and present Adjusted EBITDA as a further supplemental measure of our performance. We prepare Adjusted EBITDA to eliminate the impact of items we do not consider indicative of ongoing operating performance. You are encouraged to evaluate each adjustment and the reasons we consider them appropriate for supplemental analysis. As an analytical tool, Adjusted EBITDA is subject to all of the limitations applicable to EBITDA.

 

       The following is a reconciliation of Adjusted EBITDA to EBITDA.

 

     Year Ended January 31

    Three Months
Ended April 30


 
     2005

    2004

    2003

    2005

    2004

 
     (in millions)  

EBITDA

   $ 687     $ 622     $ 464     $ 989     $ 173  

Income from discontinued operations, net of tax

     (137 )     (127 )     (152 )     (530 )     (22 )

Depreciation and amortization of discontinued operations

     (30 )     (44 )     (65 )           (8 )

Provision for income taxes of discontinued operations

     (18 )     (19 )     (40 )     (335 )     (13 )

Gain on sale of business units and subsidiary common stock

     (2 )           (5 )            

Goodwill impairment

           7       13              

Net loss (gain) on marketable securities and other investments, including impairment losses

     16       (5 )     134       2       (3 )

Investment activities by venture capital subsidiary

     3       4       5              
    


 


 


 


 


Adjusted EBITDA

   $ 519     $ 438     $ 354     $ 126     $ 127  
    


 


 


 


 


 

(6)   Number of contracts from which we recognized more than $10 million in annual revenues in the period presented.
(7)   Total consolidated negotiated backlog consists of funded backlog and negotiated unfunded backlog. Funded backlog represents the portion of backlog for which funding currently is appropriated or otherwise authorized and is payable to us upon completion of a specified portion of work, less revenues previously recognized. Our funded backlog does not include the full potential value of our contracts because the U.S. Government and our other customers often appropriate or authorize funds for a particular program or contract on a yearly or quarterly basis, even though the contract may call for performance over a number of years. Negotiated unfunded backlog represents (a) firm orders for which funding has not been appropriated or otherwise authorized and (b) unexercised contract options. When a definitive contract or contract amendment is executed and funding has been appropriated or otherwise authorized, funded backlog is increased by the difference between the funded dollar value of the contract or contract amendment and the revenue recognized to date. Negotiated unfunded backlog does not include any estimate of future potential task orders that might be awarded under (a) indefinite delivery / indefinite quantity contract vehicles, (b) government-wide acquisition contract vehicles or (c) U.S. General Services Administration Schedule contract vehicles. See “Risk Factors—Risks Relating to Our Business—We may not realize as revenues the full amounts reflected in our backlog, which could adversely affect our operating results,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Sources of Revenues—Backlog” and “Business—Contracts—Backlog.”
(8)   Includes full-time and part-time employees and excludes employees of our former Telcordia Technologies, Inc. subsidiary.

 

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RISK FACTORS

 

Investing in our common stock involves a high degree of risk. You should carefully consider the risks described below together with all of the other information contained in this prospectus before deciding whether to purchase our common stock. If any of the following risks occurs, the trading price of our common stock could decline and you may lose all or part of your investment.

 

Risks Relating to Our Business

 

We depend on our contracts with U.S. Government agencies for a significant portion of our revenues and, if our reputation or relationships with these agencies were harmed, our business, financial condition and operating results would be adversely affected.

 

We are heavily dependent upon the U.S. Government as our primary customer and we believe that the success and development of our business will continue to depend on our successful participation in U.S. Government contract programs. We generated 86%, 85% and 84% of our total consolidated revenues from the U.S. Government (including all branches of the U.S. military) in fiscal 2005, 2004 and 2003, respectively. Revenues from the U.S. Army represented 13% of our total consolidated revenues in each of fiscal 2005, 2004 and 2003. Revenues from the U.S. Navy represented 13% of our total consolidated revenues in fiscal 2005 and 12% of our total consolidated revenues in fiscal 2004 and 2003. Revenues from the U.S. Air Force represented 11% of our total consolidated revenues in fiscal 2005 and 2004 and 12% of our total consolidated revenues in fiscal 2003.

 

For the foreseeable future, we expect to continue to derive a substantial portion of our revenues from work performed under U.S. Government contracts. If our reputation or relationship with the U.S. Government, and in particular agencies of the Department of Defense (DoD) or the U.S. intelligence community, were negatively affected, if we were suspended or debarred from contracting with government agencies or if the U.S. Government decreased the amount of business that it does with us, our business, financial condition and operating results would be adversely affected.

 

The U.S. Government may modify, curtail or terminate our contracts at any time prior to their completion and, if we do not replace them, our operating results may be adversely affected.

 

Many of the U.S. Government programs in which we participate as a contractor or subcontractor may extend for several years. These programs are normally funded on an annual basis. Under our contracts, the U.S. Government generally has the right not to exercise options to extend or expand our contracts and may modify, curtail or terminate the contracts and subcontracts at its convenience. Any decision by the U.S. Government not to exercise contract options or to modify, curtail or terminate our major programs or contracts would adversely affect our results of operations and financial condition.

 

We may not realize as revenues the full amounts reflected in our backlog, which could adversely affect our operating results.

 

Backlog is our estimate of the amount of revenue we expect to realize over the remaining life of definitive contracts and task orders in effect as of the measurement date. The U.S. Government’s ability not to exercise contract options or to modify, curtail or terminate our major programs or contracts makes the calculation of backlog subject to numerous uncertainties. Our total consolidated negotiated backlog consists of funded backlog plus negotiated unfunded backlog. Funded backlog represents the portion of backlog for which funding currently is appropriated or otherwise authorized and is payable to us upon completion of a specified portion of work, less revenues previously recognized. Negotiated unfunded backlog represents (1) firm orders for which funding has not been appropriated or otherwise authorized and (2) unexercised contract options. Negotiated unfunded backlog does not include any estimate of future potential task orders that might be awarded under indefinite delivery / indefinite quantity (IDIQ), government-wide acquisition contracts (GWAC) or U.S. General Services

 

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Administration (GSA) Schedule contract vehicles. Due to the uncertain nature of our contracts with the U.S. Government, we may never realize revenues from some of the engagements that are included in our backlog. Our unfunded backlog, in particular, contains amounts that we may never realize as revenues because the maximum contract value specified under a U.S. Government contract or task order awarded to us is not necessarily indicative of the revenues that we will realize under that contract. If we fail to realize as revenues amounts included in our backlog, our operating results may be adversely affected.

 

We derive significant revenue from IDIQ and other contracts that are subject to a competitive bidding process. If we are unable to consistently win new awards under these contracts, our business and operating results will be adversely affected.

 

The U.S. Government has increasingly been using the IDIQ contracting process to obtain commitments from contractors to provide various products or services on pre-established terms and conditions. Under these IDIQ contracts, the U.S. Government issues task orders for specific services or products it needs and the contractor supplies these products or services in accordance with the previously agreed terms. IDIQ contracts often have multi-year terms and unfunded ceiling amounts, therefore enabling but not committing the U.S. Government to purchase substantial amounts of products and services from one or more contractors. The use of these contracts makes it difficult for us to estimate the actual value of products or services that we may ultimately sell or perform under a given IDIQ contract, and a failure to estimate these amounts accurately could have an adverse effect on our results of operations and financial condition. The competitive bidding process also presents a number of more general risks, including the risk of unforeseen technological difficulties and cost overruns that may result from our bidding on programs before completion of their design and the risk that we may encounter expense, delay or modifications to previously awarded contracts as a result of our competitors protesting or challenging contracts awarded to us in competitive bidding.

 

IDIQ and other contracts that are subject to a competitive bidding process, such as GWACs and GSA Schedule contracts, have also resulted in greater competition and increased pricing pressure. Accordingly, we may not be able to realize revenues and/or maintain our historical profit margins under these contracts. We may not continue to realize revenues under our existing IDIQ contracts or otherwise successfully sell our services and solutions under the IDIQ process. Our failure to compete effectively in this procurement environment would adversely affect our business and operating results.

 

Our overall profit margins on our contracts may decrease and our results of operations could be adversely affected if material and subcontract revenues continue to grow at a faster rate than labor-related revenues.

 

Our revenues are generated from either the efforts of our technical staff, which we refer to as labor-related revenues, or the receipt of payments for the costs of materials and subcontracts used in a project, which we refer to as material and subcontract (M&S) revenues. Generally, our material and subcontract revenues have lower margins than our labor-related revenues. Our labor-related revenues increased by 15.6% from fiscal 2004 to 2005 and by 15.8% from fiscal 2003 to 2004, while our material and subcontract revenues increased by 39% from fiscal 2004 to 2005 and by 32.1% from fiscal 2003 to 2004. If material and subcontract revenues continue to grow at a faster rate than labor-related revenues, our overall profit margins on our contracts may decrease and our results of operations could be adversely affected.

 

A decline in the U.S. defense budget or changes in budgetary priorities may adversely affect our operating results and limit our growth prospects.

 

Sales under contracts with the DoD, including subcontracts under which the DoD is the ultimate purchaser, represented 65% of our total consolidated revenues in fiscal 2005. Changes in the budgetary priorities of the U.S. Government or the DoD could directly affect our operating results. For example, the U.S. defense budget declined in the late 1980s and the early 1990s, resulting in a slowing of new program starts, program delays and program cancellations. These reductions caused most defense-related government contractors to experience

 

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declining revenues, increased pressure on operating margins and, in some cases, net losses. While spending authorizations for defense-related programs by the U.S. Government have increased in recent years, and in particular after the September 11, 2001 terrorist attacks, these spending levels may not be sustainable, and future levels of spending and authorizations for these programs may decrease, remain constant or shift to programs in areas where we do not currently provide services. A significant decline in U.S. Government spending, including in areas of national security, defense transformation, intelligence and homeland security, would adversely affect our operating results and limit our growth prospects.

 

A delay in the completion of the U.S. Government’s budget process could have an adverse effect on our operating results.

 

In years when the U.S. Government does not complete its budget process before the end of its fiscal year on September 30, government operations are typically funded pursuant to a “continuing resolution” that authorizes agencies of the U.S. Government to continue to operate, but does not authorize new spending initiatives. When the U.S. Government operates under a continuing resolution, delays can occur in the procurement of our products and services. We have from time to time experienced a decline in revenues in our quarter ending January 31 as a result of this annual budget cycle, and we could experience similar declines in revenues if the budget process is delayed significantly in future periods. These delays could have an adverse affect on our operating results.

 

Our financial results may vary significantly from period to period.

 

Our financial results may fluctuate as a result of a number of factors, many of which are outside of our control. For these reasons, comparing our operating results on a period-to-period basis may not be meaningful, and you should not rely on our past results as an indication of our future performance. Our financial results may be negatively affected by any of the risk factors listed in this “Risk Factors” section and, in particular, the following risks:

 

  ·   a reduction of government funding or delay in the completion of the U.S. Government’s budget process;

 

  ·   decisions by the U.S. Government not to exercise contract options or to modify, curtail or terminate our major programs or contracts;

 

  ·   the potential decline in our overall profit margins if our material and subcontract revenues grow at a faster rate than labor-related revenues;

 

  ·   failure to estimate costs or control costs under firm fixed price (FFP) contracts;

 

  ·   adverse judgments or settlements in legal disputes;

 

  ·   expenses related to acquisitions, mergers or joint ventures; and

 

  ·   other one-time financial charges.

 

Our failure to attract, train and retain skilled employees, including our management team, would adversely affect our business and operating results.

 

The availability of highly trained and skilled technical, professional and management personnel is critical to our future growth and profitability. Competition for scientists, engineers, technicians and professional and management personnel is intense and competitors aggressively recruit key employees. Because of our growth and increased competition for experienced personnel, particularly in highly specialized areas, it has become more difficult to meet all of our needs for these employees in a timely manner. Although we intend to continue to devote significant resources to recruit, train and retain qualified employees, we may not be able to attract and retain these employees. Any failure to do so would have an adverse effect on our business.

 

In addition to attracting and retaining qualified engineering, technical and professional personnel, we believe that our success will also depend on the continued employment of a highly qualified and experienced senior management team and its ability to generate new business. Our inability to retain appropriately qualified

 

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and experienced senior executives could cause us to lose customer relationships or new business opportunities, which would adversely affect our operating results.

 

Our business and results of operations may be adversely affected if we or our employees are unable to obtain the security clearances or other qualifications we and they need to perform services for our customers.

 

Many U.S. Government programs require contractors to have security clearances. Depending on the level of required clearance, security clearances can be difficult and time-consuming to obtain. If we or our employees are unable to obtain or retain necessary security clearances, we may not be able to win new business, and our existing customers could terminate their contracts with us or decide not to renew them. To the extent we cannot obtain or maintain the required security clearances for our employees working on a particular contract, we may not derive the revenue anticipated from the contract, which could adversely affect our business and results of operations.

 

Employee misconduct, including security breaches, or our failure to comply with laws or regulations applicable to our business could cause us to lose customers or our ability to contract with the U.S. Government.

 

Because we are a U.S. Government contractor, misconduct, fraud or other improper activities by our employees or our failure to comply with laws or regulations could have a significant negative impact on our business and reputation. Such misconduct could include the failure to comply with U.S. Government procurement regulations, regulations regarding the protection of classified information, legislation regarding the pricing of labor and other costs in U.S. Government contracts, environmental laws and any other applicable laws or regulations. Many of the systems we develop involve managing and protecting information relating to national security and other sensitive government functions. A security breach in one of these systems could prevent us from having access to such critically sensitive systems. Other examples of potential employee misconduct include time card fraud and violations of the Anti-Kickback Act. The precautions we take to prevent and detect these activities may not be effective, and we could face unknown risks or losses. Our failure to comply with applicable laws or regulations or misconduct by any of our employees could subject us to fines and penalties, loss of security clearance and suspension or debarment from contracting with the U.S. Government, any of which would adversely affect our business.

 

We may be liable for penalties under a variety of procurement rules and regulations and changes in government regulations or practices could adversely affect our business, prospects, financial condition or operating results.

 

We must comply with laws and regulations relating to the formation, administration and performance of U.S. Government contracts, which affect how we do business with our customers. Such laws and regulations may potentially impose added costs on our business and our failure to comply with them may lead to penalties and the termination of our U.S. Government contracts. Some significant regulations that affect us include:

 

  ·   the Federal Acquisition Regulations and their supplements, which regulate the formation, administration and performance of U.S. Government contracts;

 

  ·   the Truth in Negotiations Act, which requires certification and disclosure of cost and pricing data in connection with contract negotiations; and

 

  ·   the Cost Accounting Standards, which impose accounting requirements that govern our right to reimbursement under certain cost-based government contracts.

 

The U.S. Government may revise its procurement practices or adopt new contract rules and regulations, such as cost accounting standards, at any time. In addition, the U.S. Government may face restrictions or pressure from government employees and their unions regarding the amount of services the U.S. Government may obtain from private contractors. Any of these changes could impair our ability to obtain new contracts or contracts under which we currently perform when those contracts are put up for recompetition bids. Any new contracting

 

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methods could be costly or administratively difficult for us to implement and could adversely affect our operating results.

 

Additionally, our contracts with the U.S. Government are subject to periodic review and investigation. If such a review or investigation identifies improper or illegal activities, we may be subject to civil or criminal penalties or administrative sanctions, including the termination of contracts, forfeiture of profits, the triggering of price reduction clauses, suspension of payments, fines and suspension or debarment from doing business with U.S. Government agencies. We could also suffer harm to our reputation, which would impair our ability to win awards of contracts in the future or receive renewals of existing contracts. If we are subject to penalties or administrative sanctions or suffer harm to our reputation, our business, prospects, financial condition or operating results could be adversely affected.

 

Our business is subject to routine audits and cost adjustments by the U.S. Government, which, if resolved unfavorably to us, could adversely affect our operating results.

 

U.S. Government agencies routinely audit and review their contractors’ performance on contracts, cost structure and compliance with applicable laws, regulations and standards. They also review the adequacy of, and a contractor’s compliance with, its internal control systems and policies, including the contractor’s purchasing, property, estimating, compensation and management information systems. Such audits may result in adjustments to our contract costs, and any costs found to be improperly allocated will not be reimbursed. Substantially all of our indirect contract costs have been agreed upon through fiscal 2003 and are not subject to further adjustment. We have recorded contract revenues in fiscal 2004 and 2005 based upon costs we expect to realize upon final audit. However, we do not know the outcome of any future audits and adjustments. If we are required to reduce our revenues or profits upon completion and final negotiation of these audits, our operating results could be adversely affected.

 

If we are unable to accurately estimate the costs associated with various contractual commitments, our operating results may be adversely affected.

 

Over the last three fiscal years, an average of 18% of our total consolidated revenues were derived from FFP and target cost and fee with risk sharing contracts, in which we bear risk that our actual costs may exceed a target amount. Under FFP contracts, we agree to fulfill our obligations at a set price. Under target cost and fee with risk sharing contracts, customers reimburse our costs plus a specified or target fee or profit, if our actual costs equal a negotiated target cost. Under such contracts, if our actual costs exceed the target costs, our target fee and cost reimbursement are reduced by a portion of the cost overrun. When making proposals for engagements on these types of contracts, we rely heavily on our estimates of costs and timing for completing the associated projects. In each case, our failure to estimate costs accurately or to control costs during performance of our work could result, and in some instances has resulted, in reduced profits or in losses. More generally, any increased or unexpected costs or unanticipated delays in connection with the performance of these contracts, including costs and delays caused by factors outside of our control, could make these contracts less profitable or unprofitable and could adversely affect our operating results.

 

We incur significant pre-contract costs that if not reimbursed would adversely affect our financial condition or our operating results.

 

We often incur costs on projects outside of a formal contract when customers ask us to begin work under a new contract that has yet to be executed, or when they ask us to extend work we are currently doing beyond the scope of the initial contract. We incur such costs at our risk, and it is possible that the customers will not reimburse us for these costs if we are ultimately unable to agree on a formal contract. At April 30, 2005, we had pre-contract costs of $34 million in our Government segment and $9 million in our Commercial segment. Although we have historically recovered substantially all of our pre-contract costs, we may never execute formal contracts or contract amendments and may never be able to recover the related costs. Any failure to recover these pre-contract costs would adversely affect our financial condition and operating results.

 

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The failure to successfully resolve issues related to our Greek Olympic contract could further adversely affect our financial condition and operating results.

 

We entered into an FFP contract with the Greek Government to provide the security infrastructure that was used to support the 2004 Athens Summer Olympic Games. The Greek Government has not made various payments under this contract and has not yet formally accepted the security infrastructure, and a Greek Government audit agency has recently made a finding that the contract was not awarded in accordance with applicable Greek procurement regulations and may be unenforceable. This and various other financial, technical, contractual and legal issues have not been resolved. Standby letters of credit relating to payment, performance and offset bonding arrangements under the contract totaling $233 million have been issued. Under the terms of these bonding arrangements, the Greek Government could call these standby letters of credit at any time.

 

Although we have been in discussions with the Greek Government and our principal subcontractor to attempt to resolve these issues, we may not be able to reach mutually acceptable agreements, and we cannot predict the financial impact the resolution of those issues will have on us. The situation is extremely complex and dynamic, involving multiple government agencies, customer elements, subcontractors and government representatives having different roles and, at times, expressing inconsistent positions. We have recorded losses on this contract and unfavorable resolution of this matter could further adversely affect our financial condition and operating results. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Commitments and Contingencies—Greek Government FFP Contract.”

 

Adverse judgments or settlements in legal disputes could adversely affect our financial condition and operating results.

 

We are also subject to, and may become a party to, a variety of litigation or other claims and suits that arise from time to time in the ordinary course of our business. Adverse judgments or settlements in some or all of these legal disputes may result in significant monetary damages or injunctive relief against us. The litigation and other claims described in this prospectus are subject to inherent uncertainties and management’s view of these matters may change in the future. For example, an unfavorable final settlement or judgment of our dispute with the Greek Government, Telcordia Technologies, Inc.’s dispute with Telkom South Africa, or our disputes relating to our joint venture, INTESA, could adversely affect our financial condition and operating results. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Commitments and Contingencies.”

 

Our services and operations sometimes involve using, handling or disposing of hazardous materials, which could expose us to potentially significant liabilities.

 

Our services sometimes involve the investigation or remediation of environmental hazards, as well as the use, handling or disposal of hazardous materials. These activities and our operations generally subject us to extensive foreign, federal, state and local environmental protection and health and safety laws and regulations, which, among other things, require us to incur costs to comply with these regulations and could impose liability on us for contamination. Furthermore, failure to comply with these environmental protection and health and safety laws could result in civil or criminal sanctions, including fines, penalties or suspension or debarment from contracting with the U.S. Government. Additionally, our ownership and operation of real property also subjects us to environmental protection laws, some of which hold current or previous owners or operators of businesses and real property liable for contamination, even if they did not know of and were not responsible for the contamination. Accordingly, any violations of, or liabilities pursuant to, these laws or regulations could adversely affect our financial condition and operating results.

 

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Acquisitions, investments and joint ventures could result in operating difficulties, dilution and other adverse consequences to our business.

 

We have historically supplemented our internal growth through acquisitions, investments and joint ventures and expect that a significant portion of our planned growth will continue to come from these transactions. We evaluate potential acquisitions, investments and joint ventures on an ongoing basis. Our acquisitions, investments and joint ventures pose many risks, including:

 

  ·   we may not be able to compete successfully for available acquisition candidates, complete future acquisitions and investments or accurately estimate the financial effect of acquisitions and investments on our business;

 

  ·   future acquisitions, investments and joint ventures may require us to issue capital stock or spend significant cash or may result in a decrease in our operating income or operating margins;

 

  ·   we may have trouble integrating acquired businesses or retaining their personnel or customers;

 

  ·   acquisitions, investments or joint ventures may disrupt our business and distract our management from other responsibilities; and

 

  ·   we may not be able to exercise control over joint ventures, and this lack of operational control could adversely affect our operations.

 

We may not be able to continue to identify attractive acquisitions or joint ventures. Acquired entities or joint ventures may not operate profitably. Additionally, we may not realize anticipated synergies and acquisitions may not result in improved operating performance. If our acquisitions, investments or joint ventures fail or perform poorly, our business could be adversely affected.

 

In conducting our business, we depend on other contractors and subcontractors. If these parties fail to satisfy their obligations to us or the U.S. Government, or if we are unable to maintain these relationships, our operating results and business prospects could be adversely affected.

 

A significant amount of our total revenues is generated by work performed by subcontractors who perform a portion of the work we are obligated to deliver to our customers. There is a risk that we may have disputes with our subcontractors arising from, among other things, the quality and timeliness of work performed by the subcontractor, customer concerns about the subcontractor, our failure to extend existing task orders or issue new task orders under a subcontract, or our hiring of a subcontractor’s personnel. In addition, if any of our subcontractors fails to deliver on a timely basis the agreed-upon supplies and/or perform the agreed-upon services, our ability to fulfill our obligations as a prime contractor may be jeopardized. Subcontractor performance deficiencies could result in a customer terminating our contract for default. A termination for default could expose us to liability and have an adverse effect on our ability to compete for future contracts and orders, especially if the customer is an agency of the U.S. Government.

 

We also rely on relationships with other contractors as their subcontractor or joint venture partner for a significant portion of our revenues and our business, financial condition or operating results could be adversely affected if other contractors eliminate or reduce their subcontracts or joint venture relationships with us, or if the U.S. Government terminates or reduces these other contractors’ programs, does not award them new contracts or refuses to pay under a contract. Additionally, companies that do not initially have access to U.S. Government contracts may perform services as our subcontractor for a U.S. Government customer, and through that exposure secure future positions as prime U.S. Government contractors. If any of our current subcontractors were awarded prime contractor status in the future, not only would we have to compete with them for future U.S. Government contracts, but our ability to perform our current and future contracts might also be impaired and our operating results and business prospects could be adversely affected.

 

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Systems failures could disrupt our business and impair our ability to effectively provide our products and services to our customers, which could damage our reputation and adversely affect our operating results.

 

We are subject to systems failures, including network, software or hardware failures, whether caused by us, third-party service providers, intruders or hackers, computer viruses, natural disasters, power shortages or terrorist attacks. Any such failures could cause loss of data and interruptions or delays in our or our customers’ businesses and could damage our reputation. In addition, the failure or disruption of our communications or utilities could cause us to interrupt or suspend our operations or otherwise adversely affect our business. Our property and business interruption insurance may be inadequate to compensate us for all losses that may occur as a result of any system or operational failure or disruption and, as a result, our actual results could differ materially from those anticipated.

 

The systems and networks that we maintain for our customers could also fail. If a system or network we maintain were to fail or experience service interruptions, we might experience loss of revenue or face claims for damages or contract termination. Our errors and omissions liability insurance may be inadequate to compensate us for all the damages that we might incur and, as a result, our actual results could differ materially from those anticipated.

 

We have only a limited ability to protect our intellectual property rights, which are important to our success. Our failure to adequately protect our intellectual property rights could adversely affect our competitive position and our business prospects.

 

Our success depends, in part, upon our ability to protect our proprietary information and other intellectual property. We rely principally on trade secrets to protect much of our intellectual property especially where we do not believe that patent or copyright protection is appropriate or obtainable. However, trade secrets are difficult to protect. Although our employees are subject to confidentiality obligations, this protection may be inadequate to deter or prevent misappropriation of our confidential information. In addition, we may be unable to detect unauthorized use of our intellectual property or otherwise take appropriate steps to enforce our rights. Failure to obtain or maintain trade secret protection would adversely affect our competitive business position. In addition, if we are unable to prevent third parties from infringing or misappropriating our copyrights, trademarks or other proprietary information, our competitive position and our business prospects could be adversely affected.

 

We face risks associated with our international business.

 

Our international business operations are subject to a variety of the risks associated with conducting business internationally, including:

 

  ·   changes in or interpretations of foreign regulations that may adversely affect our ability to sell our products, perform services or repatriate profits to the United States;

 

  ·   the imposition of tariffs;

 

  ·   hyperinflation or economic or political instability in foreign countries;

 

  ·   imposition of limitations on or increase of withholding and other taxes on remittances and other payments by foreign subsidiaries or joint ventures;

 

  ·   conducting business in places where business practices and customs are unfamiliar and unknown;

 

  ·   the imposition of restrictive trade policies;

 

  ·   the imposition of inconsistent laws or regulations;

 

  ·   the imposition or increase of investment and other restrictions or requirements by foreign governments;

 

  ·   uncertainties relating to foreign laws and legal proceedings;

 

  ·   having to comply with a variety of U.S. laws, including the Foreign Corrupt Practices Act;

 

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  ·   having to comply with U.S. export control regulations and policies that restrict our ability to communicate with non-U.S. employees and supply foreign affiliates and customers; and

 

  ·   having to comply with licensing requirements.

 

We do not know the impact that these regulatory, geopolitical and other factors may have on our international business in the future.

 

We have transactions denominated in foreign currencies because some of our business is conducted outside of the United States. In addition, our foreign subsidiaries generally conduct business in foreign currencies. We are exposed to fluctuations in exchange rates, which could result in losses and have a significant adverse impact on our results of operations. Our risks include the possibility of significant changes in exchange rates and the imposition or modification of foreign exchange controls by either the U.S. Government or applicable foreign governments. We have no control over the factors that generally affect these risks, such as economic, financial and political events and the supply and demand for the applicable currencies. From time to time, we may use foreign currency forward-exchange contracts to hedge against movements in exchange rates for contracts denominated in foreign currencies. We cannot be certain that a significant fluctuation in exchange rates will not have a significant adverse impact on our operating results.

 

We face aggressive competition.

 

Our business is highly competitive in both the Government and Commercial segments, particularly in the area of IT outsourcing. We compete with larger companies that have greater name recognition, financial resources and larger technical staffs. We also compete with smaller, more specialized entities that are able to concentrate their resources on particular areas. In the Government segment, we also compete with the U.S. Government’s own capabilities and federal non-profit contract research centers. To remain competitive, we must provide superior service and performance on a cost-effective basis to our customers. In February 2004 and 2005, we modified our organizational structure to help improve our competitiveness by better aligning the business groups within our Government segment with our major customers and key markets. We cannot be certain that we will remain competitive or that these realignment efforts will produce the desired results.

 

Risks Relating to Our Stock

 

The concentration of our capital stock ownership with our employee benefit plans, executive officers, employees and directors and their respective affiliates will limit your ability to influence corporate matters.

 

After this offering, our class A preferred stock will have 10 votes per share and our common stock, which is the stock we are selling in this offering, will have one vote per share. We anticipate that after the completion of this offering, our employee benefit plans, founders, executive officers, employees and directors and their respective affiliates will together own approximately             % of our capital stock, representing approximately             % of the voting power of our outstanding capital stock. They will therefore have significant influence over our management and affairs and over all matters requiring stockholder approval, including the election of directors and significant corporate transactions, such as a merger or other sale of our company or our assets, for the foreseeable future. As a result of this dual-class structure, our employee benefit plans, founders, executive officers, employees and directors and their respective affiliates will also be able to control all matters submitted to our stockholders for approval, even if they come to own less than 50% of the outstanding shares of our capital stock. This concentrated control will limit your ability to influence corporate matters and, as a result, we may take actions that our common stockholders do not view as beneficial. As a result, the market price of our common stock could be adversely affected.

 

Our common stock has not been publicly traded, and the price of our common stock may fluctuate substantially.

 

Although Old SAIC has sponsored a limited market in its common stock, there has been no public market for New SAIC common stock prior to this offering. We cannot predict the extent to which a trading market will

 

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develop or how liquid that market might become. If you purchase shares of our common stock in this offering, you will pay a price that was not established in the public trading markets. The initial public offering price will be determined by negotiations between the underwriters and us. You may not be able to resell your shares above the initial public offering price and may suffer a loss on your investment.

 

Broad market and industry factors may adversely affect the market price of our common stock, regardless of our actual operating performance. Factors that could cause fluctuations in our stock price include, among other things:

 

  ·   actual or anticipated variations in quarterly operating results;

 

  ·   changes in financial estimates by us, by investors or by any financial analysts who might cover our stock;

 

  ·   our ability to meet the performance expectations of financial analysts or investors;

 

  ·   changes in market valuations of other companies in our industry;

 

  ·   the expiration of the applicable restriction periods to which the class A preferred stock is subject, which could result in additional shares of our common stock being sold in the market;

 

  ·   general market and economic conditions;

 

  ·   announcements by us or our competitors of significant acquisitions, strategic partnerships or divestitures;

 

  ·   additions or departures of key personnel;

 

  ·   sales of our common stock, including sales by our directors and officers or our principal stockholders; and

 

  ·   the relatively small percentage of our stock that will be held by non-employees following this offering.

 

Fluctuations caused by factors such as these may negatively affect the market price of our common stock. In addition, the other risks described elsewhere in this prospectus could adversely affect our stock price.

 

We will distribute all or substantially all of the net proceeds of this offering to our existing stockholders.

 

Within 25 days after completion of this offering, we will distribute all or substantially all of the net proceeds of the offering to pay a special dividend to the holders of record of New SAIC class A preferred stock. Although we will have substantial cash resources available immediately after the payment of this dividend, little or none of the offering proceeds will be available to fund our operations or future growth. See “Use of Proceeds” and “The Merger and the Special Dividend.”

 

Except for the special dividend that we intend to pay to holders of our class A preferred stock, we do not intend to pay dividends on our capital stock.

 

We have never declared or paid any cash dividend on our capital stock. Other than the special dividend that we intend to pay to holders of our class A preferred stock, we do not expect to pay any other dividends on our capital stock in the foreseeable future and intend to retain any future earnings to finance our operations and growth. See “Dividend Policy.”

 

The Sarbanes-Oxley Act of 2002 requires us to document and test our internal controls over financial reporting as of fiscal 2007 and requires our independent registered public accounting firm to report on our assessment as to the effectiveness of these controls. Any delays or difficulty in satisfying these requirements could adversely affect our future results of operations and our stock price.

 

Section 404 of the Sarbanes-Oxley Act of 2002 requires us to document and test the effectiveness of our internal controls over financial reporting in accordance with an established internal control framework and to report on our conclusion as to the effectiveness of our internal controls. It also requires our independent

 

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registered public accounting firm to test our internal controls over financial reporting and report on the effectiveness of such controls as of January 31, 2007. Our independent registered public accounting firm is also required to test, evaluate and report on the completeness of our assessment.

 

In the second quarter of fiscal 2005, we reported the existence of a “material weakness” in our internal controls relating to income tax accounting. During a review and reconciliation of our worldwide income tax liabilities, we identified an overstatement of income tax expense of $13 million related to fiscal 2003. Although we have taken steps to remediate this weakness, similar or other weaknesses may be identified. If we conclude that our controls are not effective or if our independent registered public accounting firm concludes that either our controls are not effective or that we did not appropriately document and test our controls, investors could lose confidence in our reported financial information, which could adversely affect the trading price of our common stock.

 

Future sales of substantial amounts of our common stock, or the perception in the public markets that these sales may occur, could depress our stock price.

 

We cannot predict the effect, if any, that market sales of our common stock or the availability of shares for sale will have on the market price prevailing from time to time. Although the shares of class A preferred stock are subject to restrictions on conversion, the possibility of the conversion and sale, as well as the actual sales of this stock, may adversely affect the market price of our common stock. These sales may also make it more difficult for us to raise capital through the issuance of equity securities at a time and at a price we deem appropriate.

 

Upon the completion of this offering, there will be              shares of our common and class A preferred stock outstanding. Of these shares,              shares of common stock sold in this offering will be freely transferable without restriction or further registration under the Securities Act of 1933 (Securities Act). The remaining              shares are shares of class A preferred stock, all of which are held by current and former employees or by their heirs or assigns. Many of these holders have owned their shares for many years and have not had access to a public market in which to sell their shares. After the restriction periods described in “Shares eligible for future sale,” shares of class A preferred stock will be convertible on a one-for-one basis into shares of common stock. A significant number of holders of our class A preferred stock may convert their shares to take advantage of the public market in common stock. Subject to certain limitations, those shares of common stock will be freely tradable without restriction following the expiration of the transfer restriction periods described in “Description of Capital Stock” and “Shares Eligible for Future Sale.” In addition to outstanding shares eligible for sale, additional shares of our class A preferred stock will be issuable upon completion of this offering under currently outstanding stock options. Substantial sales of these shares could adversely affect the market value of the common stock and the value of your shares.

 

Provisions in our charter documents and under Delaware law could delay or prevent transactions that many stockholders may favor.

 

Some provisions of our certificate of incorporation and bylaws may have the effect of delaying, discouraging or preventing a merger or acquisition that our stockholders may consider favorable, including transactions in which stockholders might receive a premium for their shares. These restrictions, which may also make it more difficult for our stockholders to elect directors not endorsed by our current directors and management, include the following:

 

  ·   Our certificate of incorporation provides for class A preferred stock, which initially will give our founders, executive officers, employees and directors and their respective affiliates voting control over all matters requiring stockholder approval, including the election of directors and significant corporate transactions such as a merger or other sale of our company or its assets. This concentrated control could discourage others from initiating any potential merger, takeover or other business combination that other stockholders may view as beneficial.

 

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  ·   Our certificate of incorporation provides that our bylaws and certain provisions of our certificate of incorporation may be amended only by two-thirds or more voting power of all of the outstanding shares entitled to vote. These supermajority voting requirements could impede our stockholders’ ability to make changes to our certificate of incorporation and bylaws, which could delay, discourage or prevent a merger, acquisition or business combination that our stockholders may consider favorable.

 

  ·   Our certificate of incorporation generally provides that mergers and certain other business combinations between us and a related person be approved by the holders of securities having at least 80% of our outstanding voting power, as well as by the holders of a majority of the voting power of such securities that are not owned by the related person. This supermajority voting requirement could prevent a merger, acquisition or business combination that our stockholders may consider favorable.

 

  ·   Our stockholders may not act by written consent. As a result, a holder, or holders, controlling a majority of our capital stock would not be able to take certain actions without holding a stockholders’ meeting.

 

  ·   Our board of directors may issue, without stockholder approval, shares of undesignated preferred stock. The ability to authorize undesignated preferred stock makes it possible for our board of directors to issue preferred stock with voting or other rights or preferences that could impede the success of any attempt to acquire us.

 

  ·   Our board of directors is classified and members of our board of directors serve staggered terms. Our classified board structure may discourage unsolicited takeover proposals that stockholders may consider favorable.

 

As a Delaware corporation, we are also subject to certain restrictions on business combinations. Under Delaware law, a corporation may not engage in a business combination with any holder of 15% or more of its capital stock unless the holder has held the stock for three years, or among other things, the board of directors has approved the business combination or the transaction pursuant to which such person became a 15% holder prior to the time the person became a 15% holder. Our board of directors could rely on Delaware law to prevent or delay an acquisition of us. See “Description of Capital Stock—Anti-takeover Effects of Various Provisions of Delaware Law and Our Certificate of Incorporation and Bylaws.”

 

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FORWARD-LOOKING STATEMENTS

 

This prospectus, including the sections entitled “Prospectus Summary,” “Risk Factors,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Business,” contains forward-looking statements that are based on our management’s belief and assumptions about the future in light of information currently available to our management. As these statements relate to future events or our future financial performance, they are subject to known and unknown risks, uncertainties and other factors that may cause our actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by these forward-looking statements. These factors include, but are not limited to, the following:

 

  ·   changes in the U.S. Government defense budget or budgetary priorities or delays in the U.S. budget process;

 

  ·   changes in U.S. Government procurement rules and regulations;

 

  ·   our compliance with various U.S. Government and other government procurement rules and regulations;

 

  ·   the outcome of U.S. Government audits of our company;

 

  ·   our ability to win contracts with the U.S. Government and others;

 

  ·   our ability to attract, train and retain skilled employees;

 

  ·   our ability to maintain relationships with prime contractors, subcontractors and joint venture partners;

 

  ·   our ability to obtain required security clearances for our employees;

 

  ·   our ability to accurately estimate costs associated with our firm fixed price and other contracts;

 

  ·   resolution of legal and other disputes with our customers and others;

 

  ·   our ability to acquire businesses and make investments;

 

  ·   our ability to manage risks associated with our international business;

 

  ·   our ability to compete with others in the markets which we operate; and

 

  ·   our ability to execute our business plan effectively and to overcome these and other known and unknown risks that we face.

 

In some cases, you can identify forward-looking statements by terminology such as “may,” “will,” “should,” “expects,” “intends,” “plans,” “anticipates,” “believes,” “estimates,” “predicts,” “potential,” “continue” or the negative of these terms or other comparable terminology. Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. There are a number of important factors that could cause our actual results to differ materially from those results anticipated by our forward-looking statements. These factors are discussed elsewhere in this prospectus, including under “Risk Factors.” We do not intend to update any of the forward-looking statements after the date of this prospectus or to conform these statements to actual results.

 

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USE OF PROCEEDS

 

We estimate that we will receive net proceeds from the sale of our shares of common stock in this offering of approximately $            , or $             if the underwriters fully exercise their over-allotment option, based upon an assumed initial public offering price of $             per share and after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us.

 

Within 25 days after the completion of this offering, we will use all or substantially all of the net proceeds of this offering to pay a special dividend to holders of record of our class A preferred stock. See “The Merger and the Special Dividend.” Pending payment of the special dividend, we intend to invest the net proceeds of the offering in investment-grade, short-term fixed-income instruments that may include corporate, financial institution, federal agency or U.S. Government obligations. If the aggregate amount of the special dividend is greater than our net offering proceeds, then we intend to pay the difference from our available cash, cash equivalents and short-term investments, which were approximately $3.2 billion as of April 30, 2005. If the aggregate amount of the special dividend is less than our net offering proceeds, then we intend to use the remaining offering proceeds for general corporate purposes, including working capital, capital spending and possible investments in, or acquisitions of, complementary businesses, services or technologies.

 

The principal purpose of this offering is to better enable us to use our cash and cash flows from operations to fund organic growth and growth through acquisitions, as well as to provide us with publicly traded stock that can be used for future acquisitions. Creating a public market for our common stock eliminates the need to use our cash to provide liquidity for our stockholders in the limited market.

 

DIVIDEND POLICY

 

Old SAIC has never declared or paid dividends on its capital stock. We intend to pay to our holders of class A preferred stock a special dividend after the completion of this offering. The special dividend is expected to range from $4 to $5 per share of New SAIC class A preferred stock, which is the equivalent of a range from $8 to $10 per share of Old SAIC class A common stock and from $160 to $200 per share of Old SAIC class B common stock. Other than the special dividend, we do not expect to pay any dividends on our capital stock in the foreseeable future and we currently intend to retain any future earnings to finance our operations and growth. Any future determination to pay cash dividends will be at the discretion of our board of directors and will depend on earnings, financial condition, operating results, capital requirements, applicable contractual restrictions and other factors our board of directors deems relevant.

 

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CAPITALIZATION

 

The following table sets forth our liquid assets and capitalization as of April 30, 2005:

 

  ·   on an actual basis

 

  ·   on a pro forma basis to reflect the special dividend of $                     per share that we intend to pay to our class A preferred stockholders after the completion of this offering

 

  ·   on a pro forma as adjusted basis to reflect the payment of the special dividend, the completion of the reorganization merger and the completion of this offering at an assumed initial public offering price of $                     per share and after deducting estimated underwriting discounts and offering expenses

 

You should read this table in conjunction with the sections of this prospectus entitled “Selected Consolidated Financial Data,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our financial statements and related notes included elsewhere in this prospectus.

 

     As of April 30, 2005

     Actual

    Pro Forma

   Pro Forma
as Adjusted


     (in millions, except share data)

Cash and cash equivalents and short-term investments

   $ 3,186     $             $         
    


 

  

Debt:

                     

Notes payable and current portion of long-term debt

     49               

Long-term debt, net of current portion

     1,211               
    


 

  

Total debt

     1,260               
    


 

  

Stockholders’ equity:

                     
Preferred stock of Old SAIC: $.05 par value; 3,000,000 shares authorized; 0, 0     and 0 shares issued                
Class A common stock of Old SAIC: $.01 par value; 1,000,000,000 shares     authorized; 174,770,988, 0 and 0 shares issued      2           
Class B common stock of Old SAIC: $.05 par value; 5,000,000 shares     authorized; 216,593, 0 and 0 shares issued                  
Series A-1 preferred stock of New SAIC: $.0001 par value; 50,000,000 shares     authorized; 0,      and      shares issued                      
Series A-2 preferred stock of New SAIC: $.0001 par value; 150,000,000 shares     authorized; 0,      and      shares issued                      
Series A-3 preferred stock of New SAIC: $.0001 par value; 150,000,000 shares     authorized; 0,      and      shares issued                      
Series A-4 preferred stock of New SAIC: $.0001 par value; 1,150,000,000     shares authorized; 0,      and      shares issued                      
Common stock of New SAIC: $.0001 par value; 2,000,000,000 shares     authorized; 0,      and      shares issued                      

Additional paid-in capital

     2,428               

Retained earnings

     511               

Other stockholders’ equity

     (107 )             

Accumulated other comprehensive loss

     (34 )             
    


 

  

Total stockholders’ equity      2,800               
    


 

  

Total capitalization

   $ 4,060     $      $  
    


 

  

 

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SELECTED CONSOLIDATED FINANCIAL DATA

 

You should read the selected consolidated financial data presented below in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and the related notes included elsewhere in this prospectus. The selected consolidated financial data presented below under “Consolidated Statement of Income Data” for the years ended January 31, 2005, 2004 and 2003 and the selected consolidated financial data presented below under “Consolidated Balance Sheet Data” as of January 31, 2005 and 2004 have been derived from our audited consolidated financial statements included elsewhere in this prospectus. The selected consolidated financial data presented below under “Consolidated Statement of Income Data” for the years ended January 31, 2002 and 2001 and under “Consolidated Balance Sheet Data” as of January 31, 2003, 2002 and 2001, have been derived from our audited consolidated financial statements not included in this prospectus. The selected consolidated financial data presented below under “Consolidated Statement of Income Data” for the three months ended April 30, 2005 and 2004 and “Consolidated Balance Sheet Data” as of April 30, 2005 have been derived from unaudited condensed consolidated financial statements that are included elsewhere in this prospectus and have been prepared on the same basis as our audited consolidated financial statements. In the opinion of management, the unaudited condensed consolidated financial statements reflect all adjustments, consisting only of normal and recurring adjustments, necessary to state fairly our results of operations for and as of the periods presented. Historical results are not necessarily indicative of the results of operations to be expected for future periods.

 

The unaudited pro forma earnings per share and unaudited pro forma common equivalent share data contained in the selected consolidated financial data presented below reflect the payment of the special dividend we intend to pay to our class A preferred stockholders following completion of this offering. See “Use of Proceeds,” “Capitalization” and “The Merger and the Special Dividend.”

 

    Year Ended January 31

   

Three Months
Ended

April 30


 
    2005

    2004

    2003

    2002

    2001

    2005

    2004

 
    (in millions, except per share data)  

Consolidated Statement of Income Data:

                                                       

Revenues

  $ 7,187     $ 5,833     $ 4,835     $ 4,374     $ 4,037     $ 1,846     $ 1,706  

Cost of revenues

    6,337       5,100       4,211       3,826       3,488       1,627       1,499  

Selling, general and administrative expenses

    364       331       305       312       354       107       87  

Goodwill impairment

          7       13             5              

Gain on sale of business units, net

    (2 )           (5 )     (10 )     (73 )            
   


 


 


 


 


 


 


Operating income

    488       395       311       246       263       112       120  

Net (loss) gain on marketable securities and other investments, including impairment losses (1)

    (16 )     5       (134 )     (456 )     2,656       (2 )     3  

Interest income

    45       49       37       50       108       19       8  

Interest expense

    (88 )     (80 )     (45 )     (14 )     (14 )     (22 )     (22 )

Other (expense) income, net

    (12 )     5       6       10       25       1       (2 )

Minority interest in income of consolidated subsidiaries

    (14 )     (10 )     (7 )     (5 )     (6 )     (3 )     (3 )
   


 


 


 


 


 


 


Income (loss) from continuing operations before income taxes

    403       364       168       (169 )     3,032       105       104  

Provision for (benefit from) income taxes

    131       140       61       (80 )     1,129       50       37  
   


 


 


 


 


 


 


Income (loss) from continuing operations

    272       224       107       (89 )     1,903       55       67  

Income from discontinued operations, net of tax

    137       127       152       107       156       530       22  

Cumulative effect of accounting change, net of tax (2)

                      1                    
   


 


 


 


 


 


 


Net income

  $ 409     $ 351     $ 259     $ 19     $ 2,059     $ 585     $ 89  
   


 


 


 


 


 


 


Earnings per share: (2)

                                                       

Basic:

                                                       

Income from continuing operations

  $ 1.49     $ 1.22     $ .55     $ (.41 )   $ 8.10     $ .31     $ .36  

Discontinued operations, net of tax

    .74       .68       .77       .50       .66       2.96       .12  
   


 


 


 


 


 


 


    $ 2.23     $ 1.90     $ 1.32     $ .09     $ 8.76     $ 3.27     $ .48  
   


 


 


 


 


 


 


Diluted:

                                                       

Income from continuing operations

  $ 1.45     $ 1.19     $ .53     $ (.41 )   $ 7.50     $ .30     $ .35  

Discontinued operations, net of tax

    .73       .67       .75       .50       .61       2.88       .12  
   


 


 


 


 


 


 


    $ 2.18     $ 1.86     $ 1.28     $ .09     $ 8.11     $ 3.18     $ .47  
   


 


 


 


 


 


 


 

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    Year Ended January 31

 

Three Months
Ended

April 30


    2005

   2004

   2003

   2002

   2001

  2005

   2004

    (in millions, except per share data)

Common equivalent shares:

                                    

Basic

    183    185    196    215    235     179    184
   

  
  
  
  
 

  

Diluted

    188    189    203    215    254     184    190
   

  
  
  
  
 

  

Unaudited pro forma earnings per share:

                                    

Basic: (3)(4)

                                    

Income from continuing operations

  $                         $       

Discontinued operations, net of tax

                                    
   

                     

    
    $                         $       
   

                     

    

Diluted: (3)(4)

                                    

Income from continuing operations

  $                         $       

Discontinued operations, net of tax

                                    
   

                     

    
    $                         $       
   

                     

    

Unaudited pro forma common equivalent shares:

                                    

Basic (3)(4)

                                    
   

                     

    

Diluted (3)(4)

                                    
   

                     

    

 

     As of January 31

   As of
April 30
2005


     2005

   2004(1)

   2003(1)

   2002(1)

   2001(1)

  
     (in millions)

Consolidated Balance Sheet Data:

                                         

Total assets

   $ 6,010    $ 5,540    $ 4,876    $ 4,678    $ 5,871    $ 5,942

Working capital (5)

     2,687      2,230      1,967      875      1,117      3,134

Long-term debt

     1,215      1,232      897      100      101      1,211

Other long-term liabilities

     99      86      75      48      44      101

Stockholders’ equity

     2,351      2,203      2,020      2,524      3,344      2,800

  (1)   Includes impairment losses of $108 million, $467 million and $1.4 billion on marketable equity securities and other private investments in 2003, 2002 and 2001, respectively, and gains of $4.1 billion from sales or exchanges of marketable equity securities and other investments in 2001.
  (2)   The 2002 amount includes the cumulative effect of an accounting change for the adoption of SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” as amended.
  (3)   Share and per share data give effect to our planned reorganization merger, pursuant to which each outstanding share of Old SAIC class A common stock will be converted into the right to receive two shares of New SAIC class A preferred stock and each outstanding share of Old SAIC class B common stock will be converted into the right to receive 40 shares of New SAIC class A preferred stock. See “The Merger and the Special Dividend.”
  (4)   Unaudited pro forma earnings per share and common equivalent share data for both basic and diluted computations assume that              shares of our common stock during each of the periods indicated had been sold by us with an assumed net proceeds of $             per share. Such shares represent the assumed number of shares of our common stock necessary to be sold in this offering to fund the $             special dividend.
  (5)   Working capital for fiscal 2004, 2002 and 2001 excludes the effect of reclassifications for discontinued operations that were made in fiscal 2005 and 2003 in order to conform the fiscal 2004, 2002 and 2001 consolidated balance sheets to reflect discontinued operations that occurred in fiscal 2005 and 2003.

 

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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 audited consolidated financial statements, our unaudited condensed consolidated financial statements and related notes that appear elsewhere in this prospectus. In addition to historical consolidated financial information, the following discussion contains forward-looking statements that reflect our plans, estimates and beliefs. Our actual results could differ materially from those discussed in the forward-looking statements. See “Forward-Looking Statements.” Factors that could cause or contribute to these differences include those discussed below and elsewhere in this prospectus, particularly in “Risk Factors.”

 

Unless otherwise noted, references to years are for fiscal years ended January 31, not calendar years. For example, we refer to the fiscal year ended January 31, 2005 as “fiscal 2005.” We are currently in fiscal 2006.

 

Overview

 

We are a leading provider of scientific, engineering, systems integration and technical services and solutions to all branches of the U.S. military, agencies of the U.S. Department of Defense, the intelligence community, the U.S. Department of Homeland Security and other U.S. Government civil agencies, as well as to selected commercial markets. Our customers seek our domain expertise to solve complex technical challenges requiring innovative solutions for mission-critical functions in such areas as national security, intelligence and homeland defense. Increasing demand for our services and solutions is driven by priorities including the ongoing global war on terror and the transformation of the U.S. military. We have three reportable segments: Government, Commercial and Corporate and Other. Except in “—Discontinued Operations,” all amounts are presented only for our continuing operations.

 

Government Segment.    Through the Government segment we provide systems engineering, systems integration and advanced technical services and solutions primarily to U.S. federal, state and local government agencies and foreign governments. Revenues from our Government segment accounted for 94%, 93% and 91% of our total consolidated revenues in fiscal 2005, 2004 and 2003, respectively. Within the Government segment, substantially all of our revenues were derived from contracts with the U.S. Government. In fiscal 2005, 2004 and 2003, we derived 86%, 85% and 84%, respectively, of our total consolidated revenues from contracts with the U.S. Government. These revenues include contracts where we serve as the prime, or lead, contractor, as well as contracts where we serve as a subcontractor to other parties who are engaged directly with various U.S. Government agencies as the prime contractor.

 

In the period since the September 11, 2001 terrorist attacks, U.S. Government spending has increased in response to the global war on terror and efforts to transform the U.S. military. This increased spending has had a favorable impact on our business. Our results have also been favorably impacted by increased outsourcing of IT and other technical services by the U.S. Government. Although we expect that these trends will continue, our revenues would be adversely affected by a reduction in overall U.S. Government spending or a shift in spending priorities.

 

Competition for contracts with the U.S. Government is intense. In addition, in recent years, the U.S. Government has increasingly used contracting processes that give it the ability to select multiple winners or pre-qualify certain contractors to provide various products or services at established general terms and conditions. Such processes include purchasing services and solutions using indefinite delivery / indefinite quantity (IDIQ), government-wide acquisition contract (GWAC), and U.S. General Services Administration (GSA) award contract vehicles. This trend has served to increase competition for U.S. Government contracts and increase pressure on the prices we charge for our services. See “Risk Factors—Risks Related to Our Business” and “Business—Contracts.”

 

Commercial Segment.    Through our Commercial segment, we primarily target commercial customers worldwide in selected commercial markets, currently IT support for oil and gas exploration and production,

 

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applications and IT infrastructure management for utilities and data lifecycle management for pharmaceuticals. We provide our Commercial segment customers with systems integration and advanced technical services and solutions we have developed for the commercial marketplace, often based on expertise developed in serving our Government segment customers. Revenues from our Commercial segment accounted for 7%, 7% and 9% of our total consolidated revenues in fiscal 2005, 2004 and 2003, respectively, and are driven primarily by our customers’ desire to reduce their costs related to management of IT and other complex technical functions through outsourcing to third-party contractors.

 

Corporate and Other Segment.    Our Corporate and Other segment includes the operations of our broker-dealer subsidiary, Bull, Inc., our internal real estate management subsidiary, Campus Point Realty Corporation, and various corporate activities, including elimination of intersegment revenues. We expect that the operations of Bull, Inc. will cease following the completion of this offering. Our Corporate and Other segment does not contract with third parties for the purpose of generating revenues. However, for internal management reporting purposes, we record certain revenue and expense items incurred by the Government and Commercial segments in the Corporate and Other segment in certain circumstances as determined by our chief operating decision-maker (who currently is our Chief Executive Officer).

 

Key Financial Metrics

 

Sources of Revenues

 

Contracts.    We generate revenues under the following types of contracts: (1) cost-reimbursement, (2) time-and-materials (T&M), (3) fixed price level-of-effort, (4) firm fixed-price (FFP) and (5) target cost and fee with risk sharing. Cost-reimbursement contracts provide for reimbursement of our direct costs and allocable indirect costs, plus a fee or profit component. T&M contracts typically provide for the payment of negotiated fixed hourly rates for labor hours plus reimbursement of our other direct costs and allocable indirect costs. Fixed price level-of-effort contracts are substantially similar to T&M contracts except that the deliverable is the labor hours provided to the customer. FFP contracts provide for payment to us of a fixed price for specified products, systems and/or services. If actual costs vary from the FFP target costs, we can generate more or less than the targeted amount of profit or even incur a loss. Target cost and fee with risk sharing contracts provide for reimbursement of costs, plus a specified or target fee or profit, if our actual costs equal a negotiated target cost. Under these contracts, if our actual costs are less than the target costs, we receive a portion of the cost underrun as an additional fee or profit. If our actual costs exceed the target costs, our target fee and cost reimbursement are reduced by a portion of the cost overrun. We do not use target cost and fee with risk sharing contracts in our Government segment.

 

The following table summarizes revenues by contract type for the periods noted:

 

     Year Ended January 31

    Three Months
Ended
April 30


 
     2005

    2004

    2003

    2005

    2004

 

Cost-reimbursement

   44 %   45 %   48 %   45 %   43 %

T&M and fixed price level-of-effort

   38     38     33     37     39  

FFP

   16     15     14     16     16  

Target cost and fee with risk sharing

   2     2     5     2     2  
    

 

 

 

 

Total

   100 %   100 %   100 %   100 %   100 %
    

 

 

 

 

 

We generate revenues under our contracts from (1) the efforts of our technical staff, which we refer to as labor-related revenues and (2) receipt of payments based on the costs of materials and subcontractors used in a project, which we refer to as M&S revenues. M&S revenues are generated primarily from large, multi-year systems integration contracts. If M&S revenues grow at a faster rate than our labor-related revenues, our overall profit margins on our contracts could be impacted negatively because our M&S revenues generally have lower margins than our labor-related revenues.

 

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The growth of our business is directly related to the receipt of contract awards and contract performance. In fiscal 2005, we derived more than $10 million in annual revenues from each of 91 contracts, compared to 66 and 44 in fiscal 2004 and 2003, respectively. These larger contracts represented 35%, 31% and 22% of our total consolidated revenues in fiscal 2005, 2004 and 2003, respectively. We recognized more than $50 million in annual revenues from 9 contracts in fiscal 2005, compared to 8 and 4 in fiscal 2004 and 2003, respectively. The remainder of our revenues is derived from a large number of smaller contracts with annual revenues of less than $10 million.

 

We recognize revenues under our contracts primarily using the percentage-of-completion method. Under the percentage-of-completion method, revenues are recognized based on progress towards completion, with performance measured by the cost-to-cost method, efforts-expended method or units-of-delivery method, all of which require estimating total costs at completion. The contracting process used for procurement, including IDIQ, GWAC and GSA Schedule, does not determine revenue recognition. See “—Critical Accounting Policies.”

 

Backlog.    The approximate value of our total negotiated backlog as of January 31, 2005, 2004, 2003 and April 30, 2005 and 2004 was as follows:

 

     As of January 31

   As of April 30

     2005

   2004

   2003

   2005

   2004

     (in millions)

Government Segment:

                                  

Funded backlog

   $ 3,333    $ 3,127    $ 2,499    $ 3,354    $ 3,430

Negotiated unfunded backlog

     5,217      4,033      2,733      6,465      5,459
    

  

  

  

  

Total negotiated backlog

   $ 8,550    $ 7,160    $ 5,232    $ 9,819    $ 8,889
    

  

  

  

  

Commercial Segment:

                                  

Funded backlog

   $ 313    $ 228    $ 230    $ 348    $ 289

Negotiated unfunded backlog

     114      187      157      104      281
    

  

  

  

  

Total negotiated backlog

   $ 427    $ 415    $ 387    $ 452    $ 570
    

  

  

  

  

Total Consolidated:

                                  

Funded backlog

   $ 3,646    $ 3,355    $ 2,729    $ 3,702    $ 3,719

Negotiated unfunded backlog

     5,331      4,220      2,890      6,569      5,740
    

  

  

  

  

Total consolidated negotiated backlog

   $ 8,977    $ 7,575    $ 5,619    $ 10,271    $ 9,459
    

  

  

  

  

 

Total consolidated negotiated backlog consists of funded backlog and negotiated unfunded backlog. Funded backlog represents the portion of backlog for which funding currently is appropriated or otherwise authorized and is payable to us upon completion of a specified portion of work, less revenues previously recognized. Our funded backlog does not include the full potential value of our contracts because the U.S. Government and our other customers often appropriate or authorize funds for a particular program or contract on a yearly or quarterly basis, even though the contract may call for performance over a number of years. Negotiated unfunded backlog represents (1) firm orders for which funding has not been appropriated or otherwise authorized and (2) unexercised contract options. When a definitive contract or contract amendment is executed and funding has been appropriated or otherwise authorized, funded backlog is increased by the difference between the funded dollar value of the contract or contract amendment and the revenue recognized to date. Negotiated unfunded backlog does not include any estimate of future potential task orders that might be awarded under IDIQ, GWAC or GSA Schedule contract vehicles.

 

We expect to recognize as revenues a substantial portion of our funded backlog within 12 months. However, the U.S. Government may cancel any contract or purchase order at any time. Most of our contracts have cancellation terms that would permit us to recover all or a portion of our incurred costs and potential fees in such cases. See “Risk Factors—Risks Relating to Our Business—We may not realize as revenues the full amounts reflected in our backlog, which could adversely affect our operating results.”

 

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Cost of Revenues and Operating Expenses

 

Cost of Revenues.    Cost of revenues includes direct labor and related fringe benefits and direct expenses incurred to complete contracts and task orders. Cost of revenues also includes subcontract work, consultant fees, materials, depreciation and overhead. Overhead consists of indirect costs relating to operations, rent/facilities, administration, travel and other expenses.

 

Selling, General and Administrative Expenses.    Selling, general and administrative (SG&A) expenses are primarily for corporate administrative functions, such as management, legal, finance and accounting, contracts and administration, human resources and management information systems. SG&A also includes bid-and-proposal and independent research and development expenses.

 

Factors Affecting Our Results of Operations

 

We acquire businesses in our key markets when opportunities arise. We did not make any acquisitions in the three months ended April 30, 2005. Subsequently, we acquired one business for a total purchase price of $34 million. In fiscal 2005, we acquired four businesses for an aggregate purchase price of $221 million, which accounted for four percentage points of the growth in revenues for the Government segment and six percentage points of the growth in the Commercial segment revenues in fiscal 2005. In fiscal 2004, we acquired 10 businesses for an aggregate purchase price of $278 million, which accounted for six percentage points of the growth in the Government segment revenues in fiscal 2004. In the future, we expect the use of cash to make business acquisitions will increase. In addition, since our common stock will be publicly traded following this offering, we may use our shares of common stock for acquisitions.

 

As part of our ongoing strategic planning, we have exited, and may in the future exit, certain businesses from time to time. For example, in March 2005, we sold Telcordia Technologies, Inc., our commercial telecommunications subsidiary, and recognized a gain before income taxes of $865 million. The initial sale price of $1.35 billion was subject to a working capital adjustment, a reduction for the net proceeds from a sale-leaseback transaction between Telcordia and an unrelated third party relating to certain Telcordia-owned real property, and certain other adjustments contemplated by the agreement with the purchaser. The final adjustments to the sale price have been made and the final adjustments to the gain will be reflected in the three months ended July 31, 2005. The Telcordia sale transaction is reflected in the unaudited condensed consolidated balance sheet as of April 30, 2005 and as discontinued operations for all periods presented. Prior to the sale, Telcordia’s revenues were 11%, 13% and 18% of our total consolidated revenues in fiscal 2005, 2004 and 2003, respectively.

 

Changes When We are a Public Company

 

Prior to this offering, there has been no public trading market for our common stock. However, Old SAIC has maintained a limited secondary market for its common stock, which we call the limited market, and our broker-dealer subsidiary, Bull, Inc., has facilitated trades by Old SAIC stockholders on predetermined quarterly trade dates. Although we were not contractually required to do so, on all trade dates in the periods presented, we repurchased the excess of the number of shares offered for sale over the number of shares sought to be purchased to improve the liquidity of the shares held by Old SAIC stockholders. In fiscal 2005, 2004 and 2003, we repurchased $552 million, $406 million and $911 million of Old SAIC common stock, respectively, and in the three months ended April 30, 2005 and 2004, we repurchased $232 million and $162 million of Old SAIC common stock, respectively, through the limited market. Because shares of New SAIC common stock will be publicly traded following the completion of this offering and New SAIC class A preferred stock will be convertible into New SAIC common stock as the applicable restriction periods lapse, we expect that we will discontinue the limited market, cease repurchasing stock from our stockholders and wind up the operations of Bull, Inc. However, we intend to repurchase shares of class A preferred stock on a quarterly basis from our 401(k) and other retirement plans during the restriction periods in order to provide participants in those plans with liquidity to the extent permitted under the plans. See “—Liquidity and Capital Resources—Cash Used in Financing Activities.”

 

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Results of operations

 

Comparison of the Three Months Ended April 30, 2005 and 2004

 

Total Consolidated Revenues.    The following table summarizes changes in total consolidated and segment revenues on an absolute basis and segment revenues as a percentage of total consolidated revenues for the three months ended April 30, 2005 and 2004:

 

     Three Months Ended April 30

 
                       Segment Revenues as a
Percentage of Total
Consolidated
Revenues


 
     2005

    Percent Change

    2004

    2005

    2004

 
     (dollars in millions)  

Total consolidated revenues

   $ 1,846     8 %   $ 1,706          

Government segment revenues

     1,717     8       1,594     93 %   93 %

Commercial segment revenues

     131     8       121     7     7  

Corporate and Other segment revenues

     (2 )         (9 )        

 

Our total consolidated revenues for the three months ended April 30, 2005 grew 8% over the same period of the prior year, with most of the growth coming from our U.S. Government customers.

 

The growth in our Government segment revenues for the three months ended April 30, 2005 was the result of growth in our traditional business areas with departments and agencies of the U.S. Government. Approximately five percentage points of the growth in total consolidated revenues for the three months ended April 30, 2005 was a result of acquisitions made after April 30, 2004, while the remaining three percentage points represented internal growth. Our internal growth reflects an increase in the number of contract awards from the U.S. Government and increased budgets of our customers in the national security business area.

 

The increase in our Commercial segment revenues for the three months ended April 30, 2005 was attributable primarily to higher revenues from the sale of security systems used to protect ports, cargo terminals and containers. In addition, three percentage points of the increase in our Commercial segment revenues was attributable to exchange rate changes between the U.S. dollar and the British pound, which caused the growth in local U.K. revenues to be translated to a higher amount of U.S. dollars.

 

The Corporate and Other segment includes the elimination of intersegment revenues of $2 million and $10 million for the three months ended April 30, 2005 and 2004, respectively. For the three months ended April 30, 2004, the remaining balance represents the net effect of certain revenue items related to operating business units that are excluded from the evaluation of a business unit’s operating performance in the Government or Commercial segment and instead are reflected in the Corporate and Other segment.

 

Our labor-related total consolidated revenues were $1.2 billion and $1.1 billion for the three months ended April 20, 3005 and 2004, respectively. The increase was attributable to an increase in our technical staff. At April 30, 2005, we had 42,500 full-time and part-time employees compared to 40,200 at April 30, 2004. M&S revenues were $657 million and $617 million for the three months ended April 30, 2005 and 2004, respectively. M&S revenues as a percentage of total consolidated revenues remained constant at 36% for the three months ended April 30, 2005 and 2004.

 

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Cost of Revenues.    The following table summarizes cost of revenues as a percentage of revenues for the three months ended April 30, 2005 and 2004:

 

     Three Months
Ended April 30


 
     2005

    2004

 

Total consolidated cost of revenues as a percentage of total consolidated revenues

   88.2 %   87.9 %

Segment cost of revenues as a percentage of segment revenues:

            

Government segment

   88.4     87.7  

Commercial segment

   75.9     75.9  

 

Government segment cost of revenues as a percentage of segment revenues increased for the three months ended April 30, 2005 due primarily to an additional FFP contract loss of $7 million on our contract with the Greek Government as described in “—Commitments and Contingencies.” In addition, during the three months ended April 30, 2005, the Government segment experienced lower direct labor utilization, which increased cost of revenues as a percentage of revenues.

 

Commercial segment cost of revenues as a percentage of segment revenues did not change significantly.

 

Selling, General and Administrative Expenses.    The following table summarizes SG&A as a percentage of revenues for the three months ended April 30, 2005 and 2004:

 

     Three Months
Ended April 30


 
     2005

    2004

 

Total consolidated SG&A as a percentage of total consolidated revenues

   5.8 %   5.1 %

Segment SG&A as a percentage of segment revenues:

            

Government segment

   4.9     4.2  

Commercial segment

   18.2     18.7  

 

Government segment SG&A increased $17 million or 25% on an absolute basis and as a percentage of its revenues for the three months ended April 30, 2005 as we increased G&A spending by $11 million or 26% relating to our IT and other infrastructure areas to support current and future growth. G&A costs represented 3.2% and 2.7% of the Government segment revenues for the three months ended April 30, 2005 and 2004, respectively. We expect to maintain a higher level of spending for the remainder of fiscal 2006. In addition, bid-and-proposal costs increased $4 million or 23% on an absolute basis for the three months ended April 30, 2005 and represented 1.2% and 1% of Government segment revenues for the three months ended April 30, 2005 and 2004, respectively. The level of bid-and-proposal activities fluctuates depending upon the timing of bidding opportunities. Independent research and development costs have remained relatively consistent as a percentage of Government segment revenues at .2%.

 

Commercial segment SG&A decreased as a percentage of segment revenues for the three months ended April 30, 2005 primarily due to the overall increase in segment revenues. Absolute spending increased by $1 million for the three months ended April 30, 2005 compared to the same period of the prior year.

 

Segment Operating Income.    We use segment operating income (SOI) as our internal measure of operating performance. It is calculated as operating income before income taxes less losses on impaired intangible and goodwill assets, less non-recurring gains or losses on sales of business units, subsidiary stock and similar items, plus equity in the income or loss of unconsolidated affiliates, plus minority interest in income or loss of consolidated subsidiaries. We use SOI as our internal performance measure because we believe it provides a comprehensive view of our ongoing business operations and is therefore useful in understanding our operating results. Unlike operating income, SOI includes only our ownership interest in income or loss from our majority-owned subsidiaries and our partially-owned unconsolidated affiliates. In addition, SOI excludes the effects of transactions that are not part of on-going operations such as gains or losses from the sale of business units or

 

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other operating assets as well as investment activities of our subsidiary, SAIC Venture Capital Corporation. In accordance with SFAS No. 131, for the three months ended April 30, 2005 and 2004, the reconciliation of total consolidated SOI of $110 million and $115 million, respectively, to consolidated operating income of $112 million and $120 million, respectively, is shown in Note 2 of the notes to unaudited condensed consolidated financial statements for the three months ended April 30, 2005.

 

The following table summarizes changes in SOI on an absolute basis and as a percentage of related revenues for the three months ended April 30, 2005 and 2004:

 

     Three Months Ended April 30

 
          

Percent
Change


          SOI as a
Percentage of
Related
Revenues


 
     2005

      2004

    2005

    2004

 
     (dollars in millions)  

Total consolidated SOI

   $ 110     (4 )%   $ 115     6.0 %   6.7 %

Government SOI

     114     (8 )     124     6.6     7.8  

Commercial SOI

     7     17       6     5.3     5.0  

Corporate and Other segment operating loss

     (11 )         (15 )        

 

The decrease in Government SOI for the three months ended April 30, 2005, on an absolute basis and as a percentage of segment revenues, primarily reflects the increase in cost of revenues, which includes an additional loss under our FFP contract with the Greek Government, lower labor utilization, and increases in SG&A because of higher spending on our IT and other infrastructure areas to support current and future growth, and because of higher bid-and-proposal costs.

 

The increase in our Commercial SOI for the three months ended April 30, 2005, on an absolute basis and as a percentage of segment revenues, was primarily attributable to an increase in segment revenues and a decrease in SG&A expenses as a percentage of revenues.

 

The decrease in our Corporate and Other segment operating loss for the three months ended April 30, 2005 was due to lower employee incentive compensation related to employees in all segments.

 

Other Income Statement Items

 

Interest Income and Interest Expense.    Interest income increased by 138% for the three months ended April 30, 2005 as average interest rates increased significantly and our average cash balances increased over the same period of fiscal 2005.

 

Interest expense reflects interest on (1) our outstanding debt securities, (2) a building mortgage, (3) deferred compensation arrangements and (4) notes payable. For the three months ended April 30, 2005, interest expense remained consistent with the same period of fiscal 2005.

 

Net (Loss) Gain on Marketable Securities and Other Investments, Including Impairment Losses.    Net (loss) gain on marketable securities and other investments, including impairment losses, reflects gains or losses related to transactions from our investments that are accounted for as marketable equity or debt securities or as cost method investments and are part of non-operating income or expense. Impairment losses on marketable equity securities and private equity investments from declines in fair market values that are deemed to be other-than-temporary are also recorded in this financial statement line item.

 

We recorded impairment losses of $2 million for the three months ended April 30, 2005 related to two of our private equity investments. The carrying value of our private equity securities as of April 30, 2005 was $46 million.

 

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As more fully described in “—Quantitative and Qualitative Disclosures About Market Risk” and Note 8 of the notes to the consolidated financial statements for fiscal 2005, we are currently exposed to interest rate risks, foreign currency risks and equity price risks that are inherent in the financial instruments arising from transactions entered into in the normal course of business. We will from time to time use derivative instruments to manage this risk.

 

Provision for Income Taxes.    The provision for income taxes as a percentage of income from continuing operations before income taxes was 47.4% for the three months ended April 30, 2005 compared to 35.5% for the same period of the prior year. The higher tax rate for the three months ended April 30, 2005 was primarily the result of an increase in expense related to a change in a state tax law that went into effect during the three months ended April 30, 2005.

 

As a result of the sale of Telcordia Technologies, Inc. and presentation of Telcordia as discontinued operations, the provision for income taxes as a percentage of income from continuing operations before income taxes was higher than it would have been with Telcordia included in continuing operations. Telcordia has contributed to most of the incremental research spending that provided qualification for federal research credits and it had significant charitable contributions of appreciated property, both of which reduced our overall effective tax rate.

 

We are subject to routine compliance reviews by the IRS and other taxing jurisdictions on various tax matters, which may include challenges to various tax positions we have taken. We have recorded liabilities for tax contingencies for open years based upon our best estimate of the taxes ultimately expected to be paid. As of April 30, 2005, the income taxes payable balance included $317 million of income taxes payable related to the sale of Telcordia. Of the remaining income taxes payable balance, a significant portion is comprised of tax accruals that have been recorded for tax contingencies. We are currently undergoing several routine examinations. While we believe we have adequate accruals for tax contingencies, tax authorities may assert that we owe taxes in excess of our accruals.

 

Income from Continuing Operations.    Income from continuing operations of $55 million for the three months ended April 30, 2005 decreased 18% from $67 million for the same period of the prior year primarily due to the higher cost of revenues, the increase in SG&A expenses and the higher income tax rate, all of which are described above. Offsetting the full impact of these higher costs was an increase in interest income also described above.

 

Net Income.    Net income for the three months ended April 30, 2005 increased $496 million over the same period of the prior year primarily due to income from discontinued operations that reflects a $531 million after-tax gain on the sale of Telcordia.

 

Discontinued Operations.    The following table summarizes the operating results from Telcordia’s discontinued operations for the period February 1, 2005 through March 14, 2005 and for the three months ended April 30, 2004:

 

     Period from
February 1 –
March 14, 2005


    Three Months Ended
April 30, 2004


     (in millions)

Revenues

   $ 88     $ 205

Costs and expenses:

              

Cost of revenues

     56       118

Selling, general and administrative expenses

     32       58
    


 

Income before income taxes

           29

Provision for income taxes

     1       11
    


 

(Loss) income from discontinued operations

   $ (1 )   $ 18
    


 

 

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Comparison of Years Ended January 31, 2005, 2004 and 2003

 

Revenues.    The following table summarizes changes in total consolidated and segment revenues on an absolute basis and segment revenues as a percentage of total consolidated revenues for the last three fiscal years:

 

     Year Ended January 31

 
     2005

    Percent
Change


    2004

    Percent
Change


    2003

   Segment Revenues as
a Percentage of Total
Consolidated
Revenues


 
                2005

    2004

    2003

 
     (dollars in millions)  

Total consolidated revenues

   $ 7,187     23 %   $ 5,833     21 %   $ 4,835             

Government segment revenues

     6,738     24       5,426     24       4,382    94 %   93 %   91 %

Commercial segment revenues

     521     24       419     (7 )     449    7     7     9  

Corporate and Other revenues

     (72 )         (12 )         4    (1 )        

 

Total consolidated revenues increased in fiscal 2005 primarily due to growth in revenues from our U.S. Government customers in our Government segment. The growth in our Government segment in 2004 more than offset the decline in revenues from our customers in the Commercial segment.

 

Approximately four percentage points of the fiscal 2005 growth in the Government segment revenues was a result of acquisitions made in fiscal 2005, while the remaining 20 percentage points represented organic growth. The organic growth in our Government segment revenues in fiscal 2005 and 2004 reflects an increase in contract awards from the U.S. Government and increased budgets of our customers in the national security business area.

 

Revenues from U.S. Government customers with greater than 10% of our total consolidated revenues were as follows:

 

     Year Ended January 31

 
     2005

    2004

    2003

 

U.S. Army

   13 %   13 %   13 %

U.S. Navy

   13     12     12  

U.S. Air Force

   11     11     12  

 

The increase in our Commercial segment revenues in fiscal 2005 was attributable principally to higher revenues from the sale of security systems used to protect ports, cargo terminals and containers, including revenues from a Canadian security system business acquired late in fiscal 2004. In addition, four percentage points of the increase in revenues was attributable to exchange rate changes between the U.S. dollar and the British pound, which caused a relatively constant level of local U.K. revenues to be translated into a higher level of U.S. dollars. Revenues from our U.K. subsidiary represented 31% of the Commercial segment revenues in fiscal 2005. The decrease in fiscal 2004 revenues was attributable to our commercial IT outsourcing customers, primarily in the oil and gas and utilities industries, who reduced their IT spending and placed pressure on us to reduce prices as a result of a challenging economic environment.

 

The Corporate and Other segment includes the elimination of intersegment revenues of $45 million, $25 million and $21 million in fiscal 2005, 2004 and 2003, respectively. The remaining balance for each of the years represents the net effect of various revenue items related to operating business units that are excluded from the evaluation of a business unit’s operating performance in the Government or Commercial segment and instead are reflected in the Corporate and Other segment.

 

Our labor-related total consolidated revenues were $4.6 billion, $3.9 billion and $3.4 billion for fiscal 2005, 2004 and 2003, respectively. The increase was attributable to an increase in our technical staff. At the end of fiscal 2005, we had approximately 42,400 full-time and part-time employees compared to 39,300 and 34,700 at the end of fiscal 2004 and 2003, respectively. M&S revenues were $2.6 billion in fiscal 2005, $1.9 billion in fiscal 2004 and $1.4 billion in fiscal 2003. M&S revenues as a percentage of total consolidated revenues

 

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increased to 37% in 2005 from 33% in fiscal 2004 and 30% in fiscal 2003. M&S revenues as a percentage of total consolidated revenues increased in 2005 as certain systems engineering and integration contracts in the Government segment had significant quantities of materials delivered and integrated during fiscal 2005.

 

Cost of Revenues.    The following table summarizes cost of revenues as a percentage of revenues for fiscal 2005, 2004 and 2003:

 

     Year Ended January 31

 
     2005

    2004

    2003

 

Total consolidated cost of revenues as a percentage of total consolidated revenues

   88.2 %   87.4 %   87.1 %

Segment cost of revenues as a percentage of segment revenues:

                  

Government segment

   87.9     87.1     87.3  

Commercial segment

   75.5     75.3     76.0  

 

Government segment cost of revenues as a percentage of segment revenues increased in fiscal 2005 primarily due to lower margins realized on the high level of M&S revenues described earlier and FFP contract overruns, primarily related to a $34 million loss on our FFP contract with the Greek Government as described in “—Commitments and Contingencies.” Total consolidated cost of revenues as a percentage of total consolidated revenues includes the effect of the Corporate and Other segment operating loss as described in “—Segment Operating Income.”

 

Commercial segment cost of revenues as a percentage of segment revenues did not change significantly.

 

Selling, General and Administrative Expenses.    The following table summarizes SG&A as a percentage of revenues for fiscal 2005, 2004 and 2003:

 

     Year Ended January 31

 
     2005

    2004

    2003

 

Total consolidated SG&A as a percentage of total consolidated revenues

   5.1 %   5.7 %   6.3 %

Segment SG&A as a percentage of segment revenues:

                  

Government segment

   4.2     4.7     5.2  

Commercial segment

   16.1     18.1     16.3  

 

Total consolidated SG&A increased $33 million or 10% in fiscal 2005 and $26 million or 9% in fiscal 2004 on an absolute basis and decreased as a percentage of total consolidated revenues in fiscal 2005 and 2004. The decrease as a percentage of total consolidated revenues in fiscal 2005 and 2004 was attributable to the factors below for our Government and Commercial segments and, in fiscal 2005, to an $18 million gain on the sale of land and buildings in our Corporate and Other segment.

 

Government segment SG&A increased $34 million or 14% in fiscal 2005 and $23 million or 10% in fiscal 2004 on an absolute basis and decreased as a percentage of segment revenues in fiscal 2005 and 2004 primarily because revenues have grown more quickly than our SG&A expenses. In January 2004, we reorganized and streamlined our operations to better align our operations with our major customers and key markets. As a result, in fiscal 2004, we had involuntary workforce reductions of 260 employees and recorded total realignment charges of $8 million in SG&A, primarily in the Government segment. These charges consisted of an aggregate of $7 million in one-time termination benefits that consisted of severance payments, extension of medical benefits and outplacement services, and accelerated vesting of stock-based compensation of $1 million. As of January 31, 2004, we had $7 million in accrued liabilities related to the realignment, all of which has subsequently been paid. The levels of bid-and-proposal and independent research and development activities and costs have not significantly fluctuated and have remained relatively consistent with the revenue growth.

 

Commercial segment SG&A increased $8 million or 11% in fiscal 2005 and $3 million or 4% in fiscal 2004 on an absolute basis and decreased as a percentage of segment revenues in fiscal 2005 primarily because revenue grew more quickly than our SG&A expenses. In fiscal 2004, Commercial segment SG&A as a percentage of

 

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segment revenues increased over the same period of the prior fiscal year primarily due to a decrease in Commercial segment revenues in fiscal 2004. On an absolute basis, SG&A in fiscal 2004 increased primarily due to increased marketing efforts.

 

Segment Operating Income.    In accordance with SFAS No. 131, for fiscal 2005, 2004 and 2003, the reconciliation of total consolidated SOI of $470 million, $401 million and $319 million, respectively, to consolidated operating income of $488 million, $395 million and $311 million, respectively, is shown in Note 2 of the notes to consolidated financial statements for the three years ended January 31, 2005, 2004 and 2003. The following table summarizes changes in SOI:

 

     Year Ended January 31

 
                                  

SOI as a

Percentage of
Related Revenues


 
     2005

    Percent
Change


    2004

    Percent
Change


    2003

    2005

    2004

    2003

 
     (dollars in millions)  

Total consolidated SOI

   $ 470     17 %   $ 401     26 %   $ 319     6.5 %   6.9 %   6.6 %

Government SOI

     538     18       457     39       329     8.0     8.4     7.5  

Commercial SOI

     42     40       30     (17 )     36     8.1     7.2     8.0  

Corporate and Other segment operating loss

     (110 )         (86 )         (46 )            

 

The fiscal 2005 increase in Government SOI, on an absolute basis, reflects the increase in segment revenues and lower SG&A expenses as a percentage of revenues. However, the decrease as a percentage of segment revenues reflects lower margins earned on the high level of M&S revenues and a $34 million FFP contract overrun on a contract with the Greek Government as described in “—Commitments and Contingencies.” The fiscal 2004 increase in Government SOI, on an absolute basis and as a percentage of its revenues, reflects higher segment revenues, increased overall negotiated contract margins, lower FFP contract losses and lower SG&A expenses as a percentage of segment revenues.

 

The fiscal 2005 increase in our Commercial SOI, on an absolute basis and as percentage of revenues, was primarily attributable to growth in revenues and lower SG&A expenses. The decrease in fiscal 2004, on an absolute basis and as a percentage of segment revenues, was primarily attributable to a decline in segment revenues without a proportional decrease in SG&A expenses.

 

The increase in our fiscal 2005 Corporate and Other segment operating loss was primarily related to a higher internal interest charge related to our Government segment, which earned a corresponding higher interest credit due to improved management of its capital resources, higher unallocated accrued incentive compensation costs as a result of improved SOI in our Government segment and an increase in certain revenue and expense items recorded within Corporate and Other and excluded from other segments’ operating performance. Partially offsetting the fiscal 2005 increase in Corporate and Other segment operating loss is an $18 million gain on the sale of land and buildings at two different locations. The increase in fiscal 2004 was also primarily due to a higher internal interest charge primarily related to our Government segment, which earned a corresponding higher interest credit due to improved management of its capital resources and higher unallocated accrued incentive compensation costs as a result of improved SOI in our Government segment.

 

Goodwill Impairment.    During fiscal 2005, we did not record any impairment of goodwill. During fiscal 2004, as a result of the loss of certain significant contracts and proposals related to a reporting unit, we determined that goodwill assigned to that reporting unit had become impaired. Accordingly, we recorded goodwill impairment charges of $7 million in fiscal 2004 compared to $13 million in fiscal 2003. Impairment losses on intangible assets were not material in fiscal 2005 and we did not record any impairment charges on intangible assets in fiscal 2004 and 2003 because there were no circumstances or events that occurred that would have indicated a possible impairment.

 

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Interest Income and Interest Expense.    During fiscal 2005, average interest rates increased slightly while our average cash balances remained relatively consistent with fiscal 2004 and 2003. In fiscal 2004, interest income increased primarily as a result of interest received from a favorable audit settlement with the IRS for a refund of research tax credits.

 

Interest expense increased in fiscal 2005 primarily as a result of interest on $300 million aggregate amount of our 5.5% notes due in 2033 that were issued in the second quarter of fiscal 2004 and outstanding for a full year in fiscal 2005. Interest expense increased in fiscal 2004 as a result of recognizing a full year of interest on $550 million aggregate amount of our 6.25% notes due in 2012 and $250 million aggregate amount of our 7.125% notes due in 2032, which were issued in the second quarter of fiscal 2003.

 

Net (Loss) Gain on Marketable Securities and Other Investments, Including Impairment Losses.    Due to the non-routine nature of the transactions that are recorded in this financial statement line item, significant fluctuations from year to year are not unusual.

 

We recorded impairment losses totaling $20 million in fiscal 2005 compared to $19 million in fiscal 2004 and $108 million in fiscal 2003. Substantially all of the impairment losses in fiscal 2005 and 2004 and $87 million in fiscal 2003 were related to our private equity securities. In fiscal 2003, impairment losses also included impairments on our publicly traded equity securities of $21 million. Taking into account these impairments in fiscal 2005, as of January 31, 2005, we held private equity securities with a carrying value of $47 million.

 

During fiscal 2004, we recognized a net gain before income taxes of $24 million from the sale of certain investments, primarily from the sale of our investment in publicly-traded equity securities of Tellium, Inc., which resulted in a gain before income taxes of $17 million. In fiscal 2003, we recognized a net gain before income taxes of $22 million from the sale of certain investments. The largest component of the net gain in fiscal 2003 was the liquidation of all our remaining shares of VeriSign, Inc. and Amdocs Limited, and related equity collars that resulted in a gain before income taxes of $14 million.

 

As more fully described in “—Quantitative and Qualitative Disclosures About Market Risk” and Note 8 of the notes to the consolidated financial statements for fiscal 2005, we are currently exposed to interest rate risks, foreign currency risks and equity price risks that are inherent in the financial instruments arising from transactions entered into in the normal course of business. We will from time to time use derivative instruments to manage this risk. As a result of the liquidation in fiscal 2003 of all of our remaining VeriSign and Amdocs shares and the equity collars that hedged those shares, the remaining derivative instruments we currently hold have not had a material impact on our consolidated financial position or results of operations. Net losses from derivative instruments in fiscal 2005 and 2004 were not material. As described in Note 19 of the notes to the consolidated financial statements for fiscal 2005, a net loss before income taxes of $48 million in fiscal 2003 was related to the equity collars previously held.

 

Other (Expense) Income.    In fiscal 2005, other expense included an impairment loss of $9 million on our investment in Data Systems & Solutions, LLC (DS&S), a 50-50 joint venture with Rolls Royce plc. The impairment loss was primarily due to a significant business downturn at DS&S caused by a loss of business and an ongoing government investigation. In addition, we also recognized equity losses in DS&S of $5 million in fiscal 2005 and maintain financial commitments related to DS&S as described in “—Commitments and Contingencies.” Our total equity losses of all our equity investments were $6 million in fiscal 2005 compared to equity income of $5 million and $2 million in fiscal 2004 and 2003, respectively. For fiscal 2005, 2004 and 2003, there were no other significant items in Other (expense) income.

 

Provision for Income Taxes.    The provision for income taxes as a percentage of income before income taxes was 32.5% in fiscal 2005, 38.4% in fiscal 2004 and 36.4% in fiscal 2003. The effective tax rate in fiscal 2005 was lower than in fiscal 2004 primarily as a result of the favorable closure of state tax audit matters. The effective tax rate in fiscal 2004 reflects higher state taxes and lower charitable contributions of appreciated property than in fiscal 2003, offset by a favorable federal audit settlement for 1997 to 2000 and a favorable federal audit settlement for 1988 to 1993 involving a claim for refund of research tax credits. The effective tax

 

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rate in fiscal 2003 was the result of charitable contributions of appreciated property and the favorable resolution of certain tax positions with state and federal tax authorities, as well as a lower effective state tax rate.

 

As a result of the sale of Telcordia Technologies, Inc. and presentation of Telcordia as discontinued operations, the provision for income taxes as a percentage of income before income taxes for continuing operations was higher than it would have been with Telcordia included in continuing operations. Telcordia had contributed to most of the incremental research spending that provided qualification for federal research credits and it had significant charitable contributions of appreciated property, both of which had the impact of reducing our overall tax rate.

 

The Working Families Tax Relief Act of 2004 was signed into law in the third quarter of fiscal 2005. As a result, the U.S. federal research and experimentation tax credit was retroactively reinstated to June 30, 2004 and extended through December 31, 2005. The American Jobs Creation Act of 2004 was also signed into law in the third quarter of fiscal 2005. As a result, limitations on charitable contributions were enacted effective after June 3, 2004, which make it unlikely for us to obtain future benefits from such contributions. Therefore, the effective tax rate for fiscal 2006 and subsequent years will be higher than it would have been if future contributions were made and the law had not changed. Other elements of these laws are not expected to have a material impact on our future effective tax rate.

 

Income from Continuing Operations.    Income from continuing operations of $272 million in fiscal 2005 and $224 million in fiscal 2004 increased 21% and 109%, respectively, over the same period of the prior fiscal year. The increase in fiscal 2005 was primarily due to the growth in total consolidated revenues with lower SG&A expenses as a percentage of total consolidated revenues and the lower income tax rate as described above. Offsetting some of the favorable increase in income was an increase in cost of revenues and in net interest expense, which is interest income less interest expense, an impairment loss on our DS&S equity investment, and lower gains from the sale of investments in marketable securities or our private equity securities, all of which have been described above.

 

The increase in fiscal 2004 was primarily due to higher total consolidated revenues with lower SG&A expenses as a percentage of total consolidated revenues, increased overall negotiated contract margins, lower FFP contract losses and significantly lower impairment losses on our marketable and private equity securities. Offsetting some of the favorable increase in income is an increase in net interest expense and a higher income tax rate.

 

Net Income.    Net income for fiscal 2005 increased $58 million over fiscal 2004, reflecting increased income from continuing operations and an increase in income from discontinued operations of Telcordia. Net income increased $92 million in fiscal 2004 over fiscal 2003, reflecting increased income from continuing operations offset somewhat by a decrease in income from discontinued operations of Telcordia.

 

Discontinued Operations.    The following summarizes operating results from Telcordia’s discontinued operations for the years ended January 31, 2005, 2004 and 2003:

 

     Year Ended January 31

     2005

   2004

    2003

     (in millions)

Revenues

   $ 874    $ 887     $ 1,068

Costs and expenses:

                     

Cost of revenues

     489      484       604

Selling, general and administrative expenses

     235      258       275

Other expense (income), net

     1      (1 )    
    

  


 

Income before income taxes

     149      146       189

Provision for income taxes

     16      19       37
    

  


 

Income from discontinued operations

   $ 133    $ 127     $ 152
    

  


 

 

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Selected Quarterly Financial Data

 

The following tables set forth our selected unaudited quarterly consolidated statements of income data for the nine most recent quarters. The information for each of these quarters has been derived from our unaudited consolidated financial statements, which have been prepared on the same basis as the audited consolidated financial statements included in this prospectus and, in the opinion of management, reflect all adjustments, consisting only of normal and recurring adjustments, necessary to fairly state our results of operations for and as of the periods presented. These quarterly operating results are not necessarily indicative of our operating results for any future period.

 

     Three Months Ended (1)

     April 30

   July 31

   October 31

   January 31

     (in millions, except per share amounts)

Fiscal 2006

                           

Revenues

   $ 1,846               

Operating income

     112               

Income from continuing operations

     55               
Income from discontinued operations      530               

Net income

     585               

Basic earnings per share (2)

   $ 3.27               

Diluted earnings per share (2)

   $ 3.18               

Fiscal 2005 (1)

                           

Revenues

   $ 1,706    $ 1,768    $ 1,837    $ 1,876

Operating income

     120      114      130      124

Income from continuing operations

     67      52      68      85

Income from discontinued operations

     22      29      27      59

Net income

     89      81      95      144

Basic earnings per share (2)

   $ .48    $ .44    $ .52    $ .80

Diluted earnings per share (2)

   $ .47    $ .43    $ .51    $ .78

Fiscal 2004 (1)

                           

Revenues

   $ 1,271    $ 1,445    $ 1,529    $ 1,588

Operating income

     89      98      115      93

Income from continuing operations

     51      60      78      35

Income from discontinued operations

     18      31      38      40

Net income

     69      91      116      75

Basic earnings per share (2)

   $ .37    $ .49    $ .63    $ .41

Diluted earnings per share (2)

   $ .37    $ .48    $ .61    $ .40

(1)   Amounts for the first, second and third fiscal quarters of 2005 and all quarters in fiscal 2004 have been reclassified to conform to the presentation of Telcordia as discontinued operations at January 31, 2005.
(2)   Earnings per share are calculated independently for each quarter presented and therefore may not sum to the total for the year.

 

Liquidity and Capital Resources

 

We financed our operations from our inception in 1969 primarily through cash flow from operations, sales of debt securities and our credit facilities. Following this offering and the payment of the special dividend, our principal sources of liquidity will be cash flow from operations and borrowings under our revolving credit facilities, and our principal uses of cash will be for operating expenses, capital expenditures, working capital

 

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requirements, possible acquisitions, equity investments, debt service requirements and repurchases of class A preferred stock from our 401(k) and other retirement plans during the restriction periods. We anticipate that our operating cash flow, existing cash, cash equivalents, short-term investments in marketable securities and borrowing capacity under our revolving credit facilities will be sufficient to meet our anticipated cash requirements for at least the next twelve months.

 

Historical Trends

 

Cash and cash equivalents and short-term investments in marketable securities totaled $3.2 billion and $2.4 billion at April 30, 2005 and January 31, 2005, respectively. During the three months ended April 30, 2005, we generated cash of $1.1 billion from our Telcordia discontinued operations, which represents the net cash proceeds from the sale of Telcordia.

 

Cash Used in or Generated by Operating Activities.    We used cash of $7 million and $75 million in operating activities for the three months ended April 30, 2005 and 2004, respectively. Use of cash decreased for the three months ended April 30, 2005 because net cash of $139 million was used for working capital needs compared to $248 million for the same period of the prior year. The decrease in net cash used in working capital for the three months ended April 30, 2005 was primarily a result of improvements in our receivables management processes and lower working capital needs due to the lower revenue growth for the three months ended April 30, 2005 compared to the same period of the prior year. We continue to place emphasis and management focus on contract billing and collection processes.

 

In fiscal 2005, 2004 and 2003, we generated cash flows from operating activities of $592 million, $367 million and $371 million, respectively. Net cash provided by operating activities in fiscal 2005 consisted primarily of net income of $409 million reduced for income from discontinued operations of $137 million, increased for non-cash charges to income of $224 million and $47 million from working capital. The increase in fiscal 2005 was primarily generated by an increase in net income and non-cash charges and by lower tax payments.

 

Cash Used in Investing Activities.    We used cash of $32 million and $116 million in investing activities for the three months ended April 30, 2005 and 2004, respectively. The lower use of cash for the three months ended April 30, 2005, was primarily due to a decrease in purchases of debt securities, which are managed as investment portfolios by outside investment managers. This is mainly a timing issue as the proceeds from the sale of Telcordia at April 30, 2005 had not been fully invested in our investment portfolios. We did not acquire any businesses during the three months ended April 30, 2005 while we used $14 million of cash to acquire businesses for the same period in the prior year.

 

We used cash of $349 million and $461 million for investing activities in fiscal 2005 and 2004, respectively. In fiscal 2005, we used less cash for investing activities because we did not purchase any land or buildings as we did in fiscal 2004, and our purchases of debt and equity securities, net of proceeds from sales of investments, decreased compared to fiscal 2004. In fiscal 2004, we used cash to purchase land and buildings in McLean, Virginia that had previously been leased. In fiscal 2005 and 2004, we used cash of $212 million and $193 million, respectively, for acquisitions of businesses, which was part of our overall growth strategy. In fiscal 2003, we generated net cash of $213 million from investing activities. This net cash was generated primarily from the liquidation of all our remaining shares in VeriSign and Amdocs and the related equity collars, which resulted in $631 million of proceeds.

 

Cash Used in Financing Activities.    We used cash of $238 million and $136 million in financing activities for the three months ended April 30, 2005 and 2004, respectively, and used $478 million, $26 million and $104 million in fiscal 2005, 2004 and 2003, respectively, primarily for repurchases of our common stock. We used more cash in fiscal 2005 than in 2004 for financing activities because we did not generate cash proceeds from any debt offerings in fiscal 2005. In fiscal 2004 and 2003, our primary sources of cash from financing activities

 

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that helped to offset the impact of the repurchases of our common stock were the net proceeds from the debt offerings in June 2003 and June 2002, respectively. Our common stock repurchase activities for the three months ended April 30, 2005 and 2004, respectively, and for the years ended January 31, 2005, 2004 and 2003, respectively are as follows:

 

         Year Ended January 31    

       Three Months Ended    
April 30


     2005

   2004

   2003

   2005

   2004

     (in millions)

Repurchases of common stock:

                                  

Limited market stock trades

   $ 358    $ 220    $ 482    $ 137    $ 103

401(k) and other retirement plans

     75      74      188      48      21

Upon employee terminations

     68      56      143      28      15

Other stock transactions

     51      56      98      19      23
    

  

  

  

  

Total

   $ 552    $ 406    $ 911    $ 232    $ 162
    

  

  

  

  

 

The increase in repurchases in the limited market stock trade for the three months ended April 30, 2005 compared to the three months ended April 30, 2004 is primarily attributable to an increase in the average number of shares per stockholder offered for sale. Old SAIC has the right, but not the obligation, to repurchase stock in the limited market, to the extent that total shares offered for sale exceed total shares sought to be purchased. The increase in repurchases for the year ended January 31, 2005 was primarily attributable to an increase in the number of shares offered for sale relative to the number of shares sought to be purchased. Included in the fiscal 2005 shares offered for sale were approximately 1.5 million shares sold by our founder and former chairman. The increase in repurchases from 401(k) and other retirement plans for the three months ended April 30, 2005 is primarily due to repurchases of $19 million from the Telcordia 401(k) Plan. As a result of the sale of Telcordia, our common stock will no longer be an investment choice for future contributions in the Telcordia 401(k) Plan. As of April 30, 2005, the Telcordia 401(k) Plan held approximately 5.5 million shares of Old SAIC class A common stock, which had a fair value of $253 million. In accordance with the terms of the definitive stock purchase agreement between the buyer and us, the participants in the Telcordia 401(k) Plan must offer for sale their shares of Old SAIC class A common stock held in the Telcordia 401(k) plan no later than the date of the scheduled April 2006 limited market trade, or any such later trade date as may be agreed by the buyer and us. Repurchases of our shares reduce the amount of retained earnings in the stockholders’ equity section of our consolidated balance sheet. Because the New SAIC common stock will be publicly traded following the completion of this offering and the New SAIC class A preferred stock will be convertible into New SAIC common stock as the applicable restriction periods lapse, we will discontinue the limited market, wind up the operations of Bull, Inc. and terminate our share repurchase program. However, we intend to repurchase shares of class A preferred stock on a quarterly basis from our 401(k) and other retirement plans during the restriction periods at fair value, as determined by the board of directors, in order to provide participants in those plans with liquidity to the extent permitted under the plans.

 

Outstanding Indebtedness

 

Notes payable and long-term debt totaled $1.3 billion at April 30, 2005 and January 31, 2005, with long-term debt maturities primarily between calendar 2012 and 2033. In addition to our long-term debt, we have two revolving five-year credit facilities totaling $750 million. One of the credit facilities is for an aggregate principal amount of up to $500 million and expires in July 2007. The other credit facility is for an aggregate principal amount of up to $250 million and expires in July 2009.

 

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Notes Payable and Long-Term Debt.    Our outstanding notes payable and long-term debt consisted of the following as of April 30, 2005 and January 31, 2005:

 

     As of April 30,
2005


   As of January 31,
2005


     (in millions)

5.5% notes due 2033

   $ 296    $ 296

6.25% notes due 2012

     548      548

7.125% notes due 2032

     248      248

6.75% notes due 2008

     94      95

3-year note due 2006

     32      30

Other notes payable

     42      68
    

  

       1,260      1,285

Less current portion

     49      70
    

  

Total

   $ 1,211    $ 1,215
    

  

 

All of the long-term notes described above contain customary restrictive covenants, including, among other things, restrictions on our ability to create liens, dispose of assets, merge or consolidate with other entities and enter into sale and leaseback transactions. As of April 30, 2005, we were in compliance with such covenants. Our other notes payable have interest rates from 2.5% to 6% and are due on various dates through 2016. For additional information on our notes payable and long-term debt, see Note 13 of the notes to the consolidated financial statements for fiscal 2005.

 

Revolving Credit Facilities.    Borrowings under our two revolving five-year credit facilities are unsecured and bear interest at a rate determined, at our option, based on either LIBOR plus a margin or a defined base rate. As of April 30, 2005, no loans were outstanding under either of our credit facilities and the entire $250 million under our $250 million credit facility was available for borrowing. However, only $384 million of the $500 million credit facility was available for borrowing as of April 30, 2005 as standby letters of credit of approximately $116 million were issued under this credit facility due to bonding requirements that we have under our FFP contract with the Greek Government. The terms of the standby letters of credit require them to remain outstanding until the customer has formally accepted the system pursuant to the contract. See “—Commitments and Contingencies—Greek Government FFP Contract.”

 

Our two revolving credit facilities contain customary restrictive covenants. The financial covenants contained in the credit facilities require us to maintain a trailing four-quarter interest coverage ratio of not less than 3.5 to 1.0 and a ratio of consolidated funded debt to a trailing four-quarter earnings before interest, taxes, depreciation and amortization of not more than 3.0 to 1.0. These covenants also restrict certain of our activities, including, among other things, our ability to create liens, dispose of assets, merge or consolidate with other entities and create guaranty obligations. The credit facilities also contain customary provisions on events of default. As of April 30, 2005, we were in compliance with all covenants under the two credit facilities. We will need to obtain consents under our revolving credit facilities prior to the payment of the proposed special dividend described elsewhere in this prospectus.

 

Off-Balance Sheet Arrangements

 

We are party to various off-balance sheet arrangements including various guarantees, indemnifications and lease obligations. We have outstanding performance guarantees and cross-indemnity agreements in conjunction with our joint venture investments. See Note 16 of the notes to the consolidated financial statements for fiscal 2005 for detailed information about our lease commitments and “—Commitments and Contingencies” for detailed information about our guarantees associated with our joint ventures.

 

In connection with the sale of Telcordia, as described in Note 12 of the notes to the unaudited condensed consolidated financial statements for the three months ended April 30, 2005, we retained the outcome of litigation associated with Telkom South Africa and certain patent rights as well as income tax obligations on and

 

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through the closing date, which was March 15, 2005. We also have customary indemnification obligations and intend to repurchase our common stock from the Telcordia 401(k) Plan as previously discussed.

 

Contractual Obligations

 

The following table summarizes our obligations to make future payments pursuant to certain contracts or arrangements as of January 31, 2005, as well as an estimate of the timing in which these obligations are expected to be satisfied:

 

    

Total


   Payments Due by Fiscal Year

        2006

  

2007-

2008


   2009-
2010


   2011
and
After


     (in millions)

Contractual obligations:

                                  

Long-term debt (1)

   $ 2,536    $ 143    $ 172    $ 242    $ 1,979

Operating lease obligations (2)

     361      107      128      65      61

Capital lease obligations

     6      3      3          

Purchase obligations (3)

     3      2      1          

Other long-term liabilities (4)

     99      15      48      25      11
    

  

  

  

  

Total contractual obligations

   $ 3,005    $ 270    $ 352    $ 332    $ 2,051
    

  

  

  

  


(1)   Includes total interest payments on our outstanding debt of $77 million in fiscal 2006, $151 million in fiscal 2007-2008, $141 million in fiscal 2009-2010 and $875 million in fiscal 2011 and after.
(2)   Includes $98 million related to an operating lease on a contract with the Greek Government, whereby we are not obligated to make the lease payments to the lessee if our customer defaults on payments to us, as described in “—Commitments and Contingencies—Greek Government FFP Contract,” “Business—Legal Proceedings,” and Note 16 of the notes to the consolidated financial statements for fiscal 2005.
(3)   Includes obligations to transfer funds under legally enforceable agreements for fixed or minimum amounts or quantities of goods or services at fixed or minimum prices. Excludes purchase orders for products or services to be delivered under U.S. Government contracts under which we have full recourse under normal contract termination clauses.
(4)   Includes estimated payments to settle the fiscal 2002 and 2003 swap agreements (as described in Note 8 of the notes to the consolidated financial statements for fiscal 2005), contractually required payments to the foreign defined benefit pension plan and deferred compensation arrangements. Because payments under the deferred compensation arrangements are based upon the participant’s termination, we are unable to determine when such amounts will become due. Therefore, for purpose of this table we assumed equal payments over the next six years.

 

Commitments and Contingencies

 

Telkom South Africa

 

As described in Note 11 of the notes to the unaudited condensed consolidated financial statements for the three months ended April 30, 2005 included elsewhere in this prospectus, Telcordia Technologies, Inc., our former subsidiary, instituted arbitration proceedings before the International Chamber of Commerce (ICC), against Telkom South Africa in March 2001 as a result of a contract dispute. Telkom South Africa successfully challenged the arbitrator’s partial award in our favor in the South African trial court and we have appealed this decision to the South African Supreme Court. In a separate proceeding, we unsuccessfully attempted to have our partial arbitration award confirmed by the U.S. District Court. Telcordia has appealed this ruling to the U.S. Court of Appeals for the Third Circuit.

 

On March 15, 2005, we sold Telcordia to an affiliate of Warburg Pincus LLC and Providence Equity Partners Inc. Pursuant to the definitive stock purchase agreement relating to the sale, we are entitled to receive all of the net proceeds from any judgment or settlement with Telkom South Africa, and, if this dispute is settled or

 

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decided adversely against Telcordia, we are obligated to indemnify the buyer of Telcordia against any loss that may result from such an outcome.

 

Due to the complex nature of the legal and factual issues involved in the dispute and the uncertainty of litigation in general, the outcome of the arbitration and the related court actions are not presently determinable; however, an adverse resolution could materially harm our business, consolidated financial position, results of operations and cash flows. Protracted litigation, regardless of outcome, could result in substantial costs and divert management’s attention and resources. We do not have any assets or liabilities recorded related to this contract and the related legal proceedings as of April 30, 2005 and January 31, 2005.

 

Greek Government FFP Contract

 

Overview.    We have an FFP contract with the Greek Government, as represented by the Ministry of Defense, to provide a C4I (Command, Control, Communications, Coordination and Integration) System (System), that was used to support the 2004 Athens Summer Olympic Games (Greek contract). The Greek Government has received delivery of the System for its use and operation, but, to date, has not formally accepted the System under the terms of the Greek contract and has not made certain milestone payments. The parties have had numerous disagreements concerning various technical, legal and contractual issues. We have been in discussions with the customer and our principal subcontractor to attempt to resolve these issues through appropriate contract and subcontract modifications. However, no agreement has been reached to date. In addition, the Greek Government has advised us that it will not be able to sign a contract modification until an issue concerning the legality of its award of the contract is resolved. Additional information concerning the Greek contract and its status is set forth below.

 

Original Contract.    The Greek contract requires us to provide the System and related services. The System is comprised of 29 subsystems, organized into three major functional areas: the Command Decision Support System (CDSS), the Communication and Information System (CIS) and the Command Center Systems (CCS). Under the Euro-denominated Greek contract, final acceptance of the System was to take place by September 1, 2004, at a price of approximately $191 million. To date, we have been paid approximately $143 million. The Greek contract also requires us to provide five years of System support and maintenance for approximately $12 million and ten years of TETRA (radio) network services for approximately $102 million. The Greek contract contains an unpriced option for an additional five years of TETRA network services.

 

Memorandum of Understanding.    On July 7, 2004, shortly before the start of the Olympic Games, we entered into an agreement (MOU) with the Greek Government, as represented by the Committee for Planning and Monitoring the Olympic Security Command Centers, pursuant to which the parties recognized and agreed that (1) delivery and acceptance of the System had not been completed by the scheduled date, (2) the System would be delivered for use at the Olympic Games in its then-current state, which included certain omissions and deviations attributable to both parties, (3) a new process for testing and acceptance of the System would be instituted, with final acceptance to occur no later than October 1, 2004, (4) the Greek Government would proceed with the necessary actions for the completion of a contract modification as soon as possible, and (5) we would receive a milestone payment of approximately $24 million immediately upon the execution of the contract modification. To date, the contract modification contemplated by the MOU has not been signed, and the $24 million milestone payment has not been received. Subsequent to execution of the MOU, the customer asserted that the MOU is non-binding, and disputes have arisen concerning its meaning and effect.

 

Delivery of System, Testing and Negotiations.    The dispute between the parties relates primarily to the functionality of the CDSS portion of the System delivered in November 2004, and more specifically to the operational effectiveness and contractual compliance of CDSS. The customer has performed subsystem acceptance tests on each of the 29 subsystems. The parties are presently unable to proceed to the overall System acceptance tests until the disputes concerning the contractual compliance of CDSS and the other subsystems (supplied by both us and our subcontractors) are resolved. We and our principal subcontractor are attempting to address the “omissions and deviations” identified by the customer in Subsystems 1 - 7. With respect to Subsystems 8 - 30, we are in the process of addressing the “omissions and deviations” through negotiations and,

 

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in some instances, the submission of applications for deviation. While discussions with the customer to attempt to resolve the contractual issues through an appropriate contract modification have been unsuccessful to date, the parties have continued to meet in an effort to resolve the disputed issues. Given the inherent uncertainties in this process, however, we are unable to predict if and when the negotiations will lead to acceptable modifications of the Greek contract or to our subcontract with our principal subcontractor as described below.

 

Memorandum of Agreement (MOA) with Our Principal Subcontractor.    On June 10, 2005, we entered into an MOA with our Greek-based principal subcontractor. The MOA contemplates that this subcontractor will perform certain of our responsibilities under the Greek contract, including delivering a modified version of Subsystems 1 - 7 (CDSS) and will resolve deviations and omissions asserted by the customer with respect to the Subsystems the subcontractor was responsible for under the terms of its subcontract. In order for the solution contemplated by the MOA to be implemented, appropriate modifications to the Greek contract signed by our Greek customer and the subcontract with our principal subcontractor must be negotiated and signed. Upon the modification of the Greek contract and the subcontract, the subcontractor would assume responsibility for achieving final acceptance of the System. The MOA is subject to a number of conditions and does not currently represent a binding obligation of the subcontractor to assume the enlarged scope of work noted above. We believe, however, that the MOA obligates the subcontractor to make good faith efforts to give effect to the purpose and intent of the MOA.

 

Performance and Payment Bonds.    In connection with the Greek contract, we entered into payment, performance and offset bonding requirements, which currently total $233 million. The bonding requirements have been met through the issuance of standby letters of credit of which $109 million was issued under our $500 million credit facility and $124 million was issued by certain banks. Under the terms of these bonding arrangements, the customer could call these standby letters of credit at any time. Certain of our subcontractors have provided us with performance bonds in the aggregate amount of approximately $98 million, guaranteeing their performance under their subcontracts.

 

Subcontracts.    We have subcontracted a significant portion of the customer requirements under the Greek contract, and payments to the subcontractors are generally required only if we receive payment from the customer. In addition, the Greek contract requires us to lease certain equipment under an operating lease from our principal subcontractor for ten years as further described in Note 16 of the notes to consolidated financial statements for fiscal 2005. On March 29, 2005, we received written notice from our principal subcontractor that the subcontractor intended to stop providing TETRA network services unless payment were made to the subcontractor in the amount of approximately $9 million within 15 days of the letter. We provided the customer with a copy of the subcontractor’s written notice. To date, the customer has taken no action on this matter, and the subcontractor continues to provide the services. We have not recorded any revenue from the customer or accrued any subcontract lease obligation related to the TETRA services or System maintenance.

 

Dispute Resolution, Binding Arbitration and Damages Provisions.    If the parties are unable to resolve their disputes through negotiation or contract modification, the dispute could be resolved in binding arbitration. Under the Greek contract, any disputes are subject to ultimate resolution by binding arbitration before three Greek arbitrators in Greece. If the customer prevails in any such arbitration and we are found to have materially breached the Greek contract, the customer may be entitled to recover damages, which could include: (1) penalties for delayed delivery in an amount up to $15 million, (2) damages in the form of excess reprocurement costs, (3) repayment of amounts paid under the Greek contract and (4) forfeiture of a good performance bond in the amount of $31 million.

 

Legality of the Greek Contract.    On August 25, 2005, we received a copy of a decision issued by the Court of Auditors of the Hellenic Republic (Greek Audit Court). The Greek Audit Court is a government agency that has authority to review and audit procurements, including payments to contractors. We understand that one of its auditors challenged on several grounds a payment order or invoice submitted by the Greek Ministry of Defense for a payment of approximately $78 million (€63,109,140) relating to our Greek contract. As this payment is in excess of amounts which have not yet been paid to us under the contract, it is unknown at this time whether the

 

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payment order related to work for which (1) we have already been paid, (2) we have not been paid or (3) we have been paid on some but not all work. The Greek Audit Court decided that the payment was not authorized under Greek law or applicable procurement regulations.

 

In denying payment, the Greek Audit Court made the following two findings:

 

  ·   the Greek contract was null and void due to lack of review by the Greek Audit Court prior to award; and

 

  ·   the Greek contract properly should have been awarded by the Greek Ministry of Public Order and not the Greek Ministry of Defense which awarded the Greek contract to us.

 

We are continuing our discussions with appropriate officials within the Greek Government, and evaluating our options with respect to the legality of the Greek contract. We understand that the Greek Audit Court’s decision relates to the Greek procurement process, is not binding upon us, and may not relieve us of our contractual obligations to the Greek Government under the Greek contract without further action by us, the Greek Audit Court or other agencies of the Greek Government.

 

The issue of the legality of the Greek contract award could be arbitrated under the binding arbitration provisions of the Greek contract or determined by the appropriate Greek court. We have no current intention to arbitrate or litigate the issue of legality of the Greek contract and we currently plan to resolve all disputes through negotiation and contract modification as outlined above.

 

If, however, there is a finding by arbitrators or the appropriate court in the future that the contract was null and void, we believe the following would result, irrespective of the terms of the Greek contract: we would have no contractual obligations to complete any additional work under the Greek contract; penalties for delayed performance could not be enforced; damages for excess reprocurement costs could not be assessed; the good performance bonds could not be called; and we may be entitled to equitable remedies. Under these equitable remedies, if the arbitrators or court found that the value conferred upon the Greek Government by our work was greater than the payments already received by us, the Greek Government would owe us for the amount of such excess. Likewise, if the arbitrators or court found the value conferred upon the Greek Government by our work was less than the payments already received by us, we would owe the Greek Government for the amount of such deficiency.

 

While we continue to evaluate the implications of the legality issue and other recent developments, we believe we performed services and received payments under a binding agreement with the Greek Government.

 

Financial Status of the Contract.    We have recorded the financial position of the Greek contract based on our best estimate of the loss to be realized. The situation remains extremely complex and dynamic, involving multiple government agencies, subcontractors, and customer elements and government representatives having different roles and at times, expressing inconsistent positions.

 

The Company has not filed its Form 10-Q report for the quarter ended July 31, 2005. To date, we have recognized revenues of $151 million and recorded losses of $54 million under the contract through July 31, 2005. We have accounts receivable of $9 million under the contract and a $4 million accounts receivable related to a contract addendum as of July 31, 2005. Our recorded losses exclude potential subcontractor liabilities of $10 million that management believes will not be paid under the subcontract terms. In addition, we have $13 million of accounts receivable relating to Value Added Taxes (VAT) that we have paid and are entitled to recover from the customer under the contract upon final billing.

 

Of the $54 million in contract losses recorded as of July 31, 2005, $7 million was recorded in the quarter ended April 30, 2005, reflecting changes in management’s estimate of the loss as a result of the failure by the parties to reach agreement on a contract modification, the unfavorable results of the customer’s testing of the system, their unwillingness to accept the system, and other recent developments; and $9 million was recorded in our second quarter ended July 31, 2005, reflecting changes in management’s estimate of the loss as a result of continuing negotiations with the Greek Government and our principal subcontractor.

 

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While we believe we are working towards an acceptable solution with the Greek Government, if we are ultimately unable to resolve the various disputes under the contract, then we may not be able to collect our receivables and we may incur additional losses. We could also potentially incur additional losses if it is determined that we have breached the Greek contract, or our subcontracts, and owe the Greek customer or our subcontractors damages, as described above. The Greek Government could call some or all of the payment, performance and offset bonds of $233 million. Failure to collect our receivables, or the successful imposition of damages, could have a material adverse affect on the company’s consolidated financial position, results of operations and cash flows.

 

DS&S Joint Venture

 

DS&S, our 50-50 joint venture with Rolls Royce plc, maintains a $25 million credit facility, under which about $23 million in principal amount is outstanding at April 30, 2005. We have guaranteed approximately $12.5 million of the obligations of DS&S under this facility, but we have not been required to perform under this guarantee. At January 31, 2005, we provided a loan of $1 million to DS&S. We and the other joint venture member have guaranteed the payment of 50% of legal and accounting fees incurred by DS&S in conjunction with an ongoing government investigation. As of April 30, 2005, the fair value of the guarantee for legal and accounting fees is not material to us, and we have not been required to perform on this guarantee.

 

INTESA Joint Venture

 

INTESA.    INTESA, a Venezuelan joint venture we formed in fiscal 1997 with Venezuela’s national oil company, PDVSA, to provide information technology services in Latin America, is involved in various legal proceedings. We had previously consolidated our 60% interest in the joint venture, but the operations of INTESA were classified as discontinued operations as of January 31, 2003 and INTESA is currently insolvent. PDVSA has refused to take action to dissolve the joint venture or have it declared bankrupt.

 

Outsourcing Services Agreement and Guarantee.    INTESA had derived substantially all its revenues from an outsourcing services agreement with PDVSA that it entered into at the time the joint venture was formed. The services agreement expired on June 30, 2002 and the parties were not able to reach agreement on a renewal. We guaranteed INTESA’s obligations under the services agreement to PDVSA. Under the terms of the services agreement, INTESA’s liability for damages to PDVSA in any calendar year is capped at $50 million. As a result, our maximum potential liability to PDVSA under the guarantee in any calendar year, based on our guarantee of their ownership interest in INTESA, is $20 million. To date, PDVSA has not asserted any claims.

 

Expropriation of Our Interest in INTESA.    In fiscal 2003 and 2004, PDVSA and the Venezuelan government took certain actions, including denying INTESA access to certain of its facilities and assets, that prevented INTESA from continuing operations. In fiscal 2005, the Overseas Protection Insurance Company (OPIC), a U.S. governmental entity that provides insurance coverage against expropriation of U.S. business interests by foreign governments, determined that the Venezuelan government had expropriated our interest in INTESA without compensation and paid us approximately $6 million in settlement of our claim.

 

Employment Claims of Former INTESA Employees.    INTESA is a defendant in a number of lawsuits brought by former employees seeking unpaid severance and pension benefits. PDVSA and SAIC Bermuda, our wholly-owned subsidiary and the entity that held our interest in INTESA, were added as defendants in a number of these suits. We believe that we do not have any legal obligation for these claims, but given the unsettled political and economic environment in Venezuela, their outcome is uncertain.

 

Other Legal Proceedings Involving INTESA.    The Attorney General of Venezuela initiated a criminal investigation of INTESA in fiscal 2003 alleging unspecified sabotage by INTESA employees. We believe this investigation is inactive. In connection with our expropriation claim, OPIC determined that INTESA did not sabotage PDVSA’s infrastructure as alleged by PDVSA and the Venezuelan government. In addition, the SENIAT, the Venezuelan tax authority, filed a claim against INTESA in fiscal 2004 for approximately $30 million for alleged non-payment of VAT taxes in fiscal 1998.

 

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Potential Financial Impact.    Many issues relating to INTESA, including the termination of the services agreement and the employment litigation brought by former INTESA employees, remain unresolved. Due to the complex nature of the legal and factual issues involved in these matters and the uncertain economic and political environment in Venezuela, the outcome is not presently determinable; however, adverse resolutions could materially harm our business, consolidated financial position, results of operations and cash flows.

 

Other Joint Ventures

 

In one of our investments in affiliates accounted for under the equity method, we are an investor in Danet Partnership GBR (GBR), a German partnership. GBR has an internal equity market similar to our limited market. We are required to provide liquidity rights to the other GBR investors in certain circumstances. These rights allow only the withdrawing investors in the absence of a change in control, and all GBR investors in the event of a change of control, to put their GBR shares to us in exchange for the current fair value of those shares. We may pay the put price in shares of our common stock or cash. We do not currently record a liability for these rights because their exercise is contingent upon the occurrence of future events which we cannot determine will occur with any certainty. The maximum potential obligation, if we assume all the current GBR investors are withdrawing from GBR, would be $13 million as of April 30, 2005. If we were to incur the maximum obligation and buy all the shares outstanding from the other investors, we would then own 100% of GBR.

 

We have a guarantee that relates only to claims brought by the sole customer of another of our joint ventures, Bechtel SAIC Company, LLC, for specific contractual nonperformance of the joint venture. We also have a cross-indemnity agreement with the joint venture partner, pursuant to which we will only be ultimately responsible for the portion of any losses incurred under the guarantee equal to our ownership interest of 30%. Due to the nature of the guarantee, as of April 30, 2005, we are not able to project the maximum potential amount of future payments we could be required to make under the guarantee but, based on current conditions, we believe the likelihood of having to make any payment is remote. No liability relating to this guarantee is currently recorded.

 

On September 15, 2004, we entered into an agreement with EG&G Technical Services, Inc. (EG&G), and Parsons Infrastructure & Technology Group, Inc. (Parsons), to form Research and Development Solutions, LLC (RDS), a Delaware limited liability company that will pursue contracts offered by the Department of Energy’s National Energy Technical Laboratory. We, EG&G and Parsons, each have a one-third equal joint venture interest. In conjunction with a contract award to RDS, each joint venture partner was required to sign a performance guarantee agreement with the U.S. Government. Under this agreement, we unconditionally guarantee all of RDS’s obligations to the U.S. Government under the contract award, which has an estimated total value of $218 million. We also have a cross-indemnity agreement with each of the other two joint venture partners to protect us from liabilities for any U.S. Government claims resulting from the actions of the other two joint venture partners and to limit our liability to our share of the contract work. As of April 30, 2005, the fair value of the guarantee is not material to us.

 

Gracian v. SAIC Class Action Lawsuit

 

On March 4, 2005, we were served with a class action lawsuit filed in California Superior Court for the County of San Diego brought by a former employee on behalf of herself and others similarly situated that alleged, that we improperly failed to pay overtime to exempt salaried and professional employees in the State of California and required them to utilize their paid leave balances for partial day absences. The plaintiffs contend that our policy violates California law and seek, among other things, the unpaid vacation balance allegedly owed to plaintiffs, overtime compensation, penalties, interest, punitive damages and attorney fees. We are analyzing the lawsuit and the underlying issues. On May 31, 2005, the California Labor Commissioner issued a memorandum to the California Division of Labor Standards Enforcement Staff that interprets California law in a way that supports our legal positions in this case. The May 31, 2005 memorandum removes a prior California Labor Commissioner opinion letter that interpreted California law in a way that had supported the plaintiffs’ legal position. A California Court of Appeals, in another matter, published an opinion on July 21, 2005, which supports our position regarding charging comprehensive leave balances for partial day absences, although this

 

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opinion will not become final until 60 days after initial publication. If the decision does not become final, it would have no precedential force. Plaintiffs’ counsel may argue that the Court of Appeals decision is wrongly decided and continue to pursue the case. We do not expect the ultimate resolution of this matter to have a material adverse effect on our consolidated financial position, results of operations or cash flows.

 

Other

 

In the normal conduct of our business, we seek to monetize our patent portfolio through licensing agreements. We also have and will continue to defend our patent positions when we believe our patents have been infringed and are involved in such litigation from time to time. As described in Note 12 of the notes to the unaudited condensed consolidated financial statements for the three months ended April 30, 2005, in accordance with the terms of the sale of Telcordia that was effective on March 15, 2005, we will receive 50% of any net proceeds Telcordia receives in the future in connection with the enforcement of certain patent rights.

 

As part of the terms of the sale of Telcordia, in addition to the indemnification related to the Telkom South Africa litigation, we also have indemnified the buyer for all income tax obligations on and through the date of close. While we believe we have adequate accruals for these tax contingencies, the ultimate resolution of these matters could differ from the amounts accrued. All of these future contingent payments or contingent purchase price proceeds will continue to be reflected as discontinued operations in the period in which they arise.

 

We are also involved in various investigations, claims and lawsuits arising in the normal conduct of our business, none of which, in the opinion of our management, will likely have a material adverse effect on our consolidated financial position, results of operations, or cash flows or ability to conduct business.

 

Accounting Change

 

Effective February 1, 2002, we implemented SFAS No. 142, “Goodwill and Other Intangible Assets,” which changed the accounting for goodwill from an amortization approach to an impairment-only approach. Upon adoption, we did not have a transitional goodwill impairment charge and, therefore, we did not have a cumulative effect of an accounting change.

 

Critical Accounting Policies

 

Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which are prepared in accordance with accounting principles generally accepted in the United States of America (GAAP). The preparation of these financial statements in accordance with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingencies at the date of the financial statements as well as the reported amounts of revenues and expenses during the reporting period. Management evaluates these estimates and assumptions on an on-going basis, including those relating to allowances for doubtful accounts, inventories, fair value and impairment of investments, fair value and impairment of intangible assets and goodwill, income taxes, warranty obligations, estimated profitability of long-term contracts, pension benefits, contingencies and litigation. Our estimates and assumptions have been prepared on the basis of the most current reasonably available information. The results of these estimates form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results could differ from these estimates under different assumptions and conditions.

 

We have several critical accounting policies that are both important to the portrayal of our financial condition and results of operations and require management’s most difficult, subjective and complex judgments. Typically, the circumstances that make these judgments complex and difficult have to do with making estimates about the effect of matters that are inherently uncertain. Our critical accounting policies are as follows:

 

Revenue Recognition.    As described under “Revenue Recognition” in Note 1 of the notes to the consolidated financial statements for fiscal 2005 included elsewhere in this prospectus, our revenues are

 

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primarily recognized using the percentage-of-completion method as discussed in Statement of Position 81-1, “Accounting for Performance of Construction-Type and Certain Production-Type Contracts.” Under the percentage-of-completion method, revenues are recognized based on progress towards completion, with performance measured by the cost-to-cost method, efforts-expended method or units-of-delivery method, all of which require estimating total costs at completion. Estimating costs at completion on these long-term contracts is complex and involves significant judgments about uncertain matters due to the long-term nature of the contracts and the technical nature of our services. We have procedures and processes in place to monitor the actual progress of a project against estimates. Should the estimates indicate that we will experience a loss on the contract, we recognize the estimated loss at the time it is determined. Additional information may subsequently indicate that the loss is more or less than initially recognized, which would require further adjustment in our financial statements. Any adjustment as a result of a change in estimate, whether it is a loss or an adjustment to revenue, is made on a prospective basis when events or estimates warrant an adjustment. Estimates are updated quarterly or more frequently if circumstances warrant it. Although our primary revenue recognition policy is the percentage-of-completion method, we do have contracts under which we use alternative methods to record revenue. Selecting the appropriate revenue recognition method involves judgment based on the contract and can be complex depending upon the structure and terms and conditions of the contract.

 

Income Taxes.    As described under “Income Taxes” in Note 1 of the notes to the consolidated financial statements for fiscal 2005 included elsewhere in this prospectus, income taxes are provided utilizing the liability method, which requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of temporary differences between the carrying amounts and the tax basis of assets and liabilities. In addition, the provisions for federal, state, foreign and local income taxes are calculated on reported financial statement income before income taxes based on current tax law and also include the cumulative effect of any changes in tax rates from those used previously in determining deferred tax assets and liabilities. Such provisions differ from the amounts currently payable because certain items of income and expense are recognized in different time periods for financial reporting purposes than for income tax purposes. We also have recorded liabilities for tax contingencies for open years based upon our best estimate of the taxes ultimately expected to be paid. A significant portion of our income taxes payable balance is comprised of tax accruals that have been recorded for tax contingencies.

 

Recording our provision for income taxes requires management to make significant judgments and estimates for matters whose ultimate resolution may not become known until final resolution of an examination by the Internal Revenue Service (IRS) or State agencies. Additionally, recording liabilities for tax contingencies involves significant judgment in evaluating our tax positions and developing our best estimate of the taxes ultimately expected to be paid.

 

Investments in Marketable and Private Equity Securities.    As described under “Investments In Marketable and Private Equity Securities” in Note 1 of the notes to the consolidated financial statements for fiscal 2005 included elsewhere in this prospectus, our marketable debt and equity securities are carried on the balance sheet at fair value, with changes in fair value recorded through equity. When the fair value of a security falls below its cost basis and the decline is deemed to be other-than-temporary, we record the difference between cost and fair value as an unrealized loss. Investments accounted for on the cost method or equity method must be marked down to estimated fair value if an other-than-temporary decline occurs. In determining whether a decline is other-than-temporary, management considers a wide range of factors that may vary depending upon whether the investment is a marketable debt or equity security or a private investment. These factors include the duration and extent to which the fair value of the security or investment has been below its cost, recent financing rounds at a value that is below our carrying value, the operating performance of the entity, its liquidity and our investment intent. The private equity investments involve more judgment than the marketable equity securities because there is no readily available fair market value of a private equity security. Therefore, management, in addition to considering a wide range of other factors, must also use valuation methods to estimate the fair value of a private equity investment. Management judgments about these factors may impact the timing of when an other-than-temporary loss is recognized, and management’s use of valuation methods to estimate fair value may also impact the amount of the impairment loss.

 

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Goodwill Impairment.    As described under “Goodwill and Intangible Assets” in Note 1 of the notes to the consolidated financial statements for fiscal 2005 included elsewhere in this prospectus, we account for our goodwill, which represents 46% of our consolidated long-term assets and 8% of consolidated total assets at January 31, 2005, under Statement of Financial Accounting Standards (SFAS, No. 142), “Goodwill and Other Intangible Assets.” SFAS No. 142 changed the accounting for goodwill from an amortization approach to an impairment-only approach. Goodwill is tested annually in our fourth fiscal quarter and whenever an event occurs or circumstances change such that it is reasonably possible that an impairment may exist. The goodwill impairment test is a two-step process that requires management to make judgments in determining what assumptions to use in the calculation. The first step of the process consists of estimating the fair value of each of the reporting units based on a discounted cash flow model using revenue and profit forecasts and comparing those estimated fair values with the carrying values, which includes the allocated goodwill. If the fair value is less than the carrying value, a second step is performed to compute the amount of the impairment by determining an implied fair value of goodwill. The implied fair value of goodwill is the residual fair value derived by deducting the fair value of a reporting unit’s assets and liabilities from its estimated fair value calculated in step one. The impairment charge represents the excess of the carrying amount of the reporting unit’s goodwill over the implied fair value of their goodwill. The revenue and profit forecasts used in step one are based on management’s best estimate of future revenues and operating costs. Changes in these forecasts could cause a particular reporting unit to either pass or fail the first step in the impairment test, which could significantly change the amount of the impairment recorded from step two. In addition, the estimated future cash flows are adjusted to present value by applying a discount rate. Changes in the discount rate impact the impairment by affecting the calculation of the fair value of the reporting unit in step one.

 

Recently Issued Accounting Pronouncements

 

In December 2004, the Financial Accounting Standards Board (FASB), issued SFAS No. 123(R), “Share-Based Payment,” which is a revision of SFAS No. 123, “Accounting for Stock-Based Compensation,” and supercedes APB Opinion No. 25, “Accounting for Stock Issued to Employees,” and its related implementation guidance. SFAS No. 123(R) focuses primarily on accounting for transactions in which share-based awards are granted to employees in exchange for services and requires recognition of compensation expense over the vesting period in an amount equal to the fair value of share-based payments, including stock options, granted to employees. SFAS No. 123(R) retained the guidance from SFAS No. 123 for share-based payment transactions to non-employees. We meet the definition of a non-public entity per SFAS No. 123(R) and have used the minimum value method in our pro forma disclosures. Therefore, we are required to adopt the provisions of the standard prospectively for any newly issued, modified or settled award after the date of our initial adoption, which is February 1, 2006. Upon adoption, restatement of earlier periods is not permitted. We are currently evaluating the effect that adoption of this statement will have on our consolidated financial position and results of operations.

 

In December 2004, the FASB issued SFAS No. 151, “Inventory Costs, an amendment of ARB No. 43, Chapter 4,” to clarify the accounting for abnormal amounts of idle facility expense, freight, handling costs, and wasted material (spoilage). SFAS No. 151 requires that those items be recognized as current-period charges regardless of whether they meet the criterion of “so abnormal,” as defined in the statement. In addition, this statement requires that allocation of fixed production overheads to the costs of conversion be based on the normal capacity of the production facilities. SFAS No. 151 is effective for inventory costs incurred during fiscal years beginning after June 15, 2005, which is February 1, 2006. We are currently evaluating the effect that adoption of this statement will have on our consolidated financial position and results of operations.

 

In December 2004, the FASB issued FASB Staff Position (FSP), FAS 109-1, “Application of FASB Statement No. 109, Accounting for Income Taxes, to the Tax Deduction on Qualified Production Activities Provided by the American Jobs Creation Act of 2004” (the Act). The FSP provides guidance on the application of SFAS No. 109 to the provisions of the tax deduction on qualified production activities contained within the Act. FSP 109-1 states that the manufacturers’ deduction should be accounted for as a special deduction in accordance with SFAS No. 109 and not as a tax rate reduction. We are currently evaluating the effect that adoption of this statement will have on our taxes in fiscal 2006 as the tax deduction is not effective for us until fiscal 2006.

 

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Effects of Inflation

 

Our cost-reimbursement type contracts are generally completed within one year. As a result, we have generally been able to anticipate increases in costs when pricing our contracts. Bids for longer-term FFP and T&M contracts typically include sufficient provisions for labor and other cost escalations to cover cost increases over the period of performance. Consequently, revenues and costs have generally both increased commensurate with the general economy. As a result, net income as a percentage of total consolidated revenues has not been significantly impacted by inflation.

 

Quantitative and Qualitative Disclosures About Market Risk

 

We are exposed to market risks in the normal course of business. Our current market risk exposures are primarily to interest rates and foreign currency fluctuations. The following information about our market sensitive financial instruments contains forward-looking statements.

 

Interest Rate Risk.    Our exposure to market risk for changes in interest rates relates primarily to our cash equivalents, investments in marketable securities and long-term debt obligations.

 

We have established an investment policy to protect the safety, liquidity and after-tax yield of invested funds. This policy establishes guidelines regarding acceptability of instruments and maximum maturity dates and requires diversification in the investment portfolios by establishing maximum amounts that may be invested in designated instruments. We do not authorize the use of derivative financial instruments in our managed short-term investment portfolios, although our policy authorizes the limited use of derivative instruments to hedge interest rate risks.

 

The table below provides information about our financial instruments at January 31, 2005 that are sensitive to changes in interest rates. For debt obligations and short-term investments, the table presents principal cash flows in U.S. dollars and related weighted average interest rates by expected maturity dates. As described in Note 8 of the notes to the consolidated financial statements for fiscal, 2005 included elsewhere in this prospectus, the swap agreements we entered into in May 2003 are expected to substantially offset interest rate exposures related to the swap agreements previously entered into in January 2002. As a result, on a combined basis, these swaps are no longer exposed to changing interest rates and we have excluded these swap agreements from the table below.

 

    2006

    2007

    2008

    2009

    2010

    There-
after


    Total

   Estimated
Fair Value as of
January 31, 2005


    (dollars in millions)

Assets:

                                                            

Cash equivalents (1)

  $ 968                                   $ 968    $ 968

Average interest rate

    2.37 %                                       

Investment in marketable securities:

                                                            

Fixed rate

  $ 399     $ 217     $ 113     $ 52                 $ 781    $ 781

Average interest rate

    2.48 %     3.04 %     3.56 %     3.34 %                     

Variable rate

  $ 438     $ 102     $ 45     $ 1                 $ 586    $ 586

Average interest rate

    2.71 %     2.66 %     2.74 %     2.34 %                     

Liabilities:

                                                            

Short-term and long-term debt:

                                                            

Variable interest rate (2)

  $ 66     $ 20                 $ 1     $ 4     $ 91    $ 91

Average interest rate

    2.90 %     3.24 %                   3.24 %     3.24 %             

Fixed rate

                    $ 101           $ 1,100     $ 1,201    $ 1,308

Average interest rate

                      6.75 %           6.24 %           

(1)   Includes $24 million denominated in British pounds.
(2)   The fiscal 2006 amount includes $38 million denominated in Euros and $18 million denominated in Canadian dollars.

 

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Interest rates related to these financial instruments as of April 30, 2005 were higher than January 31, 2005. Many of our current investment were made in periods when interest rates were below current levels. If rates stay at current levels or increase, as investments in our fixed income portfolios mature, they will be replaced with instruments bearing higher interest rates.

 

Foreign Currency Risk.    Although the majority of our transactions are denominated in U.S. dollars, some transactions are denominated in various foreign currencies. Our objective in managing our exposure to foreign currency exchange rate fluctuations is to mitigate adverse fluctuations in earnings and cash flows associated with foreign currency exchange rate fluctuations. Our policy allows us to actively manage cash flows, anticipated transactions and firm commitments through the use of natural hedges and forward foreign exchange contracts. As of April 30, 2005, we had five open forward foreign exchange contracts, none of which is significant in size. The only currency hedged as of April 30, 2005 is the U.S. dollar. We do not use foreign currency derivative instruments for trading purposes.

 

We assess the risk of loss in fair values from the impact of hypothetical changes in foreign currency exchange rates on market sensitive instruments by performing sensitivity analysis. The fair values for foreign exchange forward contracts are estimated using spot rates in effect on April 30, 2005. The differences that result from comparing hypothetical foreign exchange rates and actual spot rates as of April 30, 2005 are the hypothetical gains and losses associated with foreign currency risk. As of April 30, 2005, holding all other variables constant, a 10% weakening of the U.S. dollar against each hedged currency would decrease the fair values of the forward foreign exchange contracts by an immaterial amount.

 

Equity Price Risk.    We are exposed to equity price risks on our strategic investments in publicly-traded equity securities, which are primarily in the high technology market. As of April 30, 2005, the quoted fair value of our publicly-traded equity securities and the associated risk of loss were not significant.

 

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BUSINESS

 

Overview

 

We are a leading provider of scientific, engineering, systems integration and technical services and solutions to all branches of the U.S. military, agencies of the U.S. Department of Defense, the intelligence community, the U.S. Department of Homeland Security and other U.S. Government civil agencies, as well as to selected commercial markets. Our customers seek our domain expertise to solve complex technical challenges requiring innovative solutions for mission-critical functions in such areas as national security, intelligence and homeland defense. Increasing demand for our services and solutions is driven by priorities including the ongoing global war on terror and the transformation of the U.S. military.

 

From fiscal 2001 to fiscal 2005, our consolidated revenues increased at a compound annual growth rate of 15.5% to a company record of $7.2 billion, inclusive of acquisitions and exclusive of Telcordia Technologies, Inc., our commercial telecommunications subsidiary, which we divested in March 2005. As of April 30, 2005, we had a portfolio of more than 10,000 contracts and total consolidated negotiated backlog of approximately $10.3 billion, which included funded backlog of approximately $3.7 billion, compared to $9.5 billion and $3.7 billion, respectively, as of April 30, 2004.

 

Currently, we serve more than 500 U.S. federal, state and local government agencies through more than 10,000 contracts, including active task orders under IDIQ contract vehicles. We believe we have a diversified portfolio of contracts, with revenues recognized in fiscal 2005 under our largest contract representing less than 3% of our total consolidated revenues. In addition to our national security customers, we provide services to various other U.S. federal civil agencies, including the U.S. National Aeronautics and Space Administration (NASA), the U.S. Department of Energy, the National Institutes of Health (NIH) and the National Cancer Institute (NCI). In May 2005, Washington Technology, a leading industry publication, ranked us number three in its list of Top Federal Prime Contractors in the United States based on IT, telecommunications and systems integration revenues. We expect to continue to derive the vast majority of our revenues and cash flows from our installed base of U.S. Government customers.

 

We view our 42,500 employees as our most valuable asset. We have historically attracted and retained our employees by providing challenging and important work, an entrepreneurial culture and broad employee stock ownership opportunities. Approximately 20,000 of our employees have national security clearances provided by the U.S. Government. Many U.S. Government programs require contractors to have high-level security clearances. Depending on the required level of clearance, security clearances can be difficult and time-consuming to obtain, and our large pool of cleared employees allows us to allocate the appropriate human resources to sensitive projects, facilitating our ability to win and execute contracts with the DoD, DHS and U.S. intelligence community. Our President and Chief Executive Officer, our four Corporate Executive Vice Presidents and our six Group Presidents have industry experience averaging 30 years and tenure with our company averaging 13 years.

 

Our Government segment provides a broad range of technical services and solutions in the following areas, which are described under “—Services and solutions:”

 

  ·   Defense Transformation.    We develop leading-edge concepts, technologies and systems to solve complex challenges facing the U.S. military and its allies, helping them transform the way they fight.

 

  ·   Intelligence.    We develop solutions to help the U.S. defense, intelligence and homeland security communities build an integrated intelligence picture, allowing them to be more agile and dynamic in chaotic environments and produce actionable intelligence.

 

  ·   Homeland Security and Defense.    We develop technical solutions and provide systems integration and mission-critical support services to help federal, state, local and foreign governments and private-sector customers protect the United States and allied homelands.

 

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  ·   Logistics and Product Support.    We provide logistics and product support solutions to enhance the readiness and operational capability of U.S. military personnel and weapon and support systems.

 

  ·   Systems Engineering and Integration.    We provide systems engineering and integration solutions to help our customers design, manage and protect complex IT networks and infrastructure.

 

  ·   Research and Development.    As one of the largest science and technology contractors to the U.S. Government, we conduct leading-edge research and development of new technologies with applications in areas such as national security, intelligence and life sciences.

 

The percentage of our total consolidated revenues generated by our Government segment for fiscal 2005, 2004 and 2003 was 94%, 93% and 91%, respectively. For the three months ended April 30, 2005 and 2004, the percentage of our total consolidated revenues generated by this segment was 93% in each period.

 

Our Commercial segment provides technology-driven consulting, systems integration and outsourcing services and solutions in selected commercial markets, currently IT support for oil and gas exploration and production, applications and IT infrastructure management for utilities and data lifecycle management for pharmaceuticals, in the United States and abroad. We apply domain-specific expertise, and adapt consulting and technology services and solutions developed for our Government segment customers, to fulfill the needs of our Commercial segment customers. These needs include enterprise IT optimization, data lifecycle management, asset management and business process analysis and transformation. The percentage of our total consolidated revenues generated by our Commercial segment for fiscal 2005, 2004 and 2003 was 7%, 7% and 9%, respectively. For each of the three months ended April 30, 2005 and 2004, the percentage of our total consolidated revenues generated by this segment was 7%.

 

Industry Background

 

Historically, we have derived approximately 85% of our revenues from various departments and agencies of the U.S. Government. According to the Congressional Budget Office, U.S. Government total discretionary spending in government fiscal 2005 will be approximately $960 billion and we estimate that more than $125 billion of this amount will be spent in areas in which we compete.

 

U.S. Government National Security Spending

 

Spending on national security accounts for the largest portion of the discretionary U.S. Government budget. The Office of Management and Budget (OMB) estimates that in government fiscal 2005 aggregate DoD and DHS spending, excluding supplemental budget requests, will be $431 billion and is expected to increase to $531 billion in government fiscal 2010, representing a compound annual growth rate of 4.3%.

 

Military

 

Global War on Terror.    National security spending is driven primarily by the DoD. After substantial contraction in the DoD budget during the early 1990s with the end of the Cold War, spending on national security began to rebound significantly in 1999. This trend was accelerated by the U.S. Government’s response to the September 11, 2001 terrorist attacks. According to the OMB, the DoD budget authority grew at a compound annual growth rate of 7.2% from government fiscal 2001 to 2005. As a result of the ongoing global war on terror and the U.S. military’s continued deployment to Iraq and Afghanistan, we expect the U.S. Government to continue investing heavily in national security. According to the OMB, the DoD budget, excluding supplemental budget requests, is projected to increase at a 4.2% compound annual growth rate from $400 billion in government fiscal 2005 to $492 billion in government fiscal 2010.

 

Defense Transformation.    Another key driver of recent U.S. Government national security spending has been defense transformation with a focus on command, control, communications, computers, intelligence, surveillance and reconnaissance (C4ISR). Although it predated the September 11, 2001 terrorist attacks, the effort to transform the military has accelerated as a result of the global war on terror. We believe that U.S. Government spending on defense transformation will be driven by several interrelated goals, including

 

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(1) improved threat assessment, dissemination of actionable intelligence and advance warning of threats, (2) a more mobile, versatile and effective military and (3) the development of network-centric warfighting capabilities. We believe the DoD’s annual investment in defense transformation will average more than $75 billion in each of the next five government fiscal years. Of this amount, we expect approximately $60 billion will be spent each year to acquire transformational systems and capabilities and $15 billion each year to improve and outsource business, logistics and product support functions. Of the spending on the acquisition of systems and capabilities, we estimate that approximately $30 billion will be spent each year on defense transformation-related research and development, testing and evaluation (RDT&E), a large portion of which will be spent on contractors like us. In addition, we estimate that annual spending on defense transformation-related business, logistics and product support functions will be $15 billion, of which $5 billion will be spent on contractors like us.

 

Intelligence

 

Budget data for government fiscal 1998, the most recent period for which intelligence-related budget data has been declassified, indicated an annual intelligence budget in excess of $26 billion. We believe that the U.S. Government’s response to the global war on terror has resulted in increased spending by U.S. intelligence agencies and expect it to continue to grow in the foreseeable future. The Intelligence Reform and Terrorism Prevention Act of 2004 mandated better integration and timeliness of global and domestic threat assessment and dissemination of actionable information and created the office of Director of National Intelligence with budgetary authority over 15 intelligence agencies. We expect that the increased focus on coordination and interoperability among these intelligence agencies will require significant support by outside contractors like us.

 

Homeland Defense

 

In addition to spending on the global war on terror overseas, the U.S. Government has intensified its efforts to protect the United States against terrorism at home. The OMB baseline budget estimates for homeland defense spending reflect an increase from $31.3 billion in government fiscal 2005 to $39.0 billion in government fiscal 2010, representing a compound annual growth rate of 4.5%. We believe that a significant portion of future homeland defense spending will focus on protecting U.S. citizens from chemical, biological, radiological and nuclear (CBRN) attacks, protecting and fortifying critical infrastructure, enhancing information security, upgrading enterprise systems to better facilitate communications and facilitating coordination and communication within and among government agencies.

 

U.S. Government IT Spending

 

The U.S. Government is the largest single consumer of IT solutions, systems and services in the world. According to INPUT, an independent market research firm, the U.S. Government IT market is expected to grow from $71 billion in government fiscal 2005 to $92 billion in government fiscal 2010, representing a compound annual growth rate of 5.3%. INPUT estimates that the portion of total U.S. Government IT spending that is contracted to private sector providers like us will be $59 billion in government fiscal 2005 and will grow at a compound annual growth rate of 5.9% to $79 billion in government fiscal 2010. We believe that the U.S. Government’s demand for IT systems and services is driven by the national security concerns stemming from the global war on terror, the ongoing transformation of the military and the increased reliance on IT outsourcing by the U.S. Government.

 

Commercial Services

 

We compete in targeted areas of the commercial business services market, which is driven largely by corporate investment in technology to enhance productivity, reduce costs and increase profitability. Competitive factors, including emerging technologies and globalization, are highlighting critical areas of corporate IT spending such as enterprise information technology optimization, data lifecyle management, asset management and business analysis and transformation. The ability of businesses to capture, access, analyze and transmit data rapidly throughout an organization and between remote geographic locations is becoming more critical. In addition, increased merger and acquisition activity is also generating higher corporate IT spending. With IT

 

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projects becoming more complex in scale and scope, businesses are increasingly turning to IT services providers for access to specialized expertise and systems engineering and integration capabilities that are either not readily available from internal resources or not in their core competency. As a result, we have focused our efforts in selected commercial markets in which we can leverage our specialized experience and skill sets, currently oil and gas, utilities and pharmaceuticals.

 

Oil and Gas.    The oil and gas industry is experiencing a period of historically high levels of cash flow and profitability. At the same time, diminishing reserves at proven sites and disappointing trends in greenfield exploration are placing an increased premium on data integration and exploitation at all phases of the upstream exploration and development process. Also, the oil and gas industry is relying more heavily on data management and integration to match its upstream production capabilities with downstream distribution to its end-user customers more effectively and efficiently. According to IDC, total IT spending in the North American resource industries, which includes oil and gas, was approximately $5.7 billion in 2004.

 

Utilities.    With the consolidation and deregulation of utilities in the United States and United Kingdom, utility companies are facing increased profitability and financial performance expectations from their stakeholders. Utilities’ resulting focus on more efficient power generation, distribution and asset management is driving investment in IT infrastructure and business processes. According to IDC, total IT spending in North America for the utilities market was approximately $16.9 billion in 2004.

 

Pharmaceuticals.    Advances in medical knowledge and research tools have dramatically increased the sources and amount of information available to scientists in the fields of drug discovery and development. Simultaneously, the high costs of clinical trials, increased pressure on drug pricing and prescription reimbursement and product liability risks have increased the importance of systems to manage drug development data. We believe that these trends are driving spending on data integration and lifecycle management in every phase of the drug discovery and development process. Industry consolidation in the pharmaceuticals and life sciences sectors is also driving the necessity for data management and IT optimization. According to Life Science Insights, an IDC company, worldwide total IT spending for the life sciences sector, which includes pharmaceutical companies, was approximately $30.0 billion in 2004.

 

Competitive Strengths

 

To maximize our ability to consistently deliver innovative solutions to help meet our customers’ most challenging needs, and to grow our business and increase stockholder value, we rely on the following key strengths:

 

Skilled Personnel and Experienced Management.    Our people are our most valuable asset. Our professional staff is highly educated, with approximately 9,600, or 44%, holding advanced degrees, including more than 1,400 holding doctoral degrees. As of April 30, 2005, we had 42,500 employees, approximately 20,000 of whom had national security clearances. Many U.S. Government programs require contractors to have high-level security clearances. Depending on the required level of clearance, security clearances can be difficult and time consuming to obtain, and our large pool of cleared employees allows us to allocate the appropriate human resources to sensitive projects, facilitating our ability to win and execute contracts with the DoD, DHS and U.S. intelligence community. In addition, our President and Chief Executive Officer, our four Corporate Executive Vice Presidents and our six Group Presidents have industry experience averaging 30 years and tenure with our company averaging 13 years.

 

Employee Ownership and Core Values.    We believe that a cornerstone of our success has been our culture of employee ownership supported by our long-standing core values. Approximately 31,700 of our 42,500 employees own our stock. We believe that we have a high level of employee ownership relative to our competitors, and this better aligns our employees’ interests with those of our company, our other non-employee stockholders and our customers. Following this offering, we intend to continue to provide our employees with opportunities to own our stock through bonuses in stock or stock options, stock contributions to our employee

 

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benefit plans and participation in our employee stock purchase plan. We believe that our employee ownership culture, in addition to our core values, differentiate us from our competition. These core values include:

 

  ·   commitment to ethical conduct;

 

  ·   fostering entrepreneurship and innovation;

 

  ·   pursuit of technical excellence; and

 

  ·   focus on high level of customer satisfaction.

 

Knowledge of Customers’ Needs.    Over the past 35 years, we have developed a deep and sophisticated knowledge of our customers, enabling us to design effective solutions that address their mission-critical needs and integrate these solutions with existing systems. We have also made strategic hires of managerial-level employees with significant government experience who have supplemented our knowledge of our customers’ business processes and who have extended our expertise into new areas.

 

Technical Expertise.    We have deep technical expertise stemming from our work on our customers’ most challenging and complex problems. This technical expertise allows us to stay at the forefront of technology and innovation in key technical areas, such as:

 

  ·   computer network technologies and infrastructure;

 

  ·   data mining and management;

 

  ·   high performance computing and storage;

 

  ·   modeling and simulation;

 

  ·   sensors, surveillance, and signal processing;

 

  ·   supply chain management; and

 

  ·   unmanned vehicles and robotics.

 

Trusted Services and Solutions Provider.    We have provided platform-independent systems engineering and IT services and solutions to the U.S. Government and other customers since 1969. Over this time, we believe we have earned a reputation as a trusted provider of services and solutions for complex problems, including those with significant national security implications. We believe our position as a prime contractor on several key U.S. Government programs reflects the U.S. Government’s confidence in our abilities to address its mission-critical needs. As a result of our strong record of performance, we have become one of the top three IT and systems integrators for the U.S. Government, as evidenced by industry publications:

 

  ·   #2 Top Federal Prime IT Contractors – INPUT (May 2005)

 

  ·   #3 Top Federal Prime Contractors – Washington Technology (May 2005)

 

  ·   #3 Top Technology Contractors – Government Executive (September 2004)

 

  ·   #3 Top Systems Integrators – Federal Computer Week (September 2004)

 

  ·   #3 GSA Contractor – Federal Computer Week (September 2004)

 

  ·   #3 Top U.S. Government IT Vendors – IDC (October 2004)

 

Proven Marketing and Business Development Organization.    Our highly effective marketing and business development organization has helped us achieve high contract win rates and grow our business with existing and new customers. Our non-IDIQ contract win rates, based on award values, were 65%, 64% and 54% in fiscal 2005, 2004 and 2003, respectively.

 

Ability to Complete and Integrate Acquisitions.    To complement our organic growth, we have completed and integrated approximately 70 acquisitions of small- and medium-sized companies over the past 10 years with

 

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an aggregate purchase price of approximately $1.6 billion. These acquisitions have provided us with highly skilled personnel including many with security clearances and specialized technical expertise, as well as valuable customer relationships, thereby enhancing our internally-developed capabilities. We believe that our ability to identify, acquire and integrate complementary businesses is a core strength that will continue to play a significant role in our growth and success.

 

Strong Relationships with Small Businesses.    The U.S. Government is focused on supporting small and disadvantaged businesses through formal procurement regulations and set-asides. We have strong relationships with a large number of small and disadvantaged businesses that possess a wide range of skills and significant customer contacts. These relationships provide us access to specialized capabilities, allow us to participate with these businesses in programs with set-aside requirements and improve our competitive positioning in programs for which small and disadvantaged business participation is important.

 

Growth Strategy

 

We are focused on continuing to grow our business as a leading scientific, engineering, systems integration and technical services and solutions company. In our Government segment, we seek to become the leading provider of systems engineering, systems integration and technical services and solutions. In our Commercial segment, we seek to become a leading supplier of scientific, engineering and business solutions to our customers in additional targeted vertical markets. Elements of our growth strategy include:

 

Leverage our Existing Customer Relationships.    We plan to continue expanding the scope of the services we provide to our existing customers. We are adept at penetrating, cross-selling to and building-out existing customer accounts through our successful performance and comprehensive knowledge of our customers’ needs, which has led to many long-term contract relationships. We believe our high level of customer satisfaction and deep knowledge of our customers’ business processes enhances our ability to cross-sell additional services.

 

Increase our U.S. Government Customer Base.    We believe that the U.S. Government’s increased emphasis on national security, intelligence and homeland security has significantly increased our market opportunity. We have extensive experience supporting the U.S. Government in the areas of contingency and emergency response and recovery planning, information assurance, critical infrastructure protection and command, control, communications and intelligence. We intend to leverage this broad experience to expand our customer base to include organizations in the U.S. Government for which we have not historically worked. We believe our ability to win new customers is enhanced by our position as a prime contractor on four of the five largest IT services GWACs, which are task-order or delivery-order contracts for IT services established by one agency for government-wide use. These contracts enable us to sell our services and solutions to virtually any U.S. Government agency. In addition we have used and intend to continue to use strategic hires as a cost-effective way to build out customer accounts, to establish new competencies and to penetrate new markets.

 

Pursue Strategic Acquisitions.    In order to complement our organic growth, we plan to continue to pursue strategic acquisitions in areas that we expect to experience high growth. Our acquisition strategy is focused on companies that will enable us to cost-effectively add new customers, specific agency knowledge and/or technical expertise. We have acquired more than 70 companies over the past 10 years and we intend to continue to selectively acquire high quality companies that accelerate our access to existing or new markets that we believe have strong growth dynamics. Following the completion of this offering, we will have greater flexibility to make acquisitions through the issuance of publicly traded shares of our common stock.

 

Grow High Value-added Business in Selected Commercial Markets.    We intend to grow in our current selected commercial markets and identify other markets in which we can leverage our specialized experience and skill sets.

 

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Services and Solutions

 

We offer a broad range of services and solutions to address our customers’ most complex and critical needs. Below is a summary of our principal services and some representative projects that illustrate the breadth of our capabilities. References below to “total contract value” mean the aggregate potential value of a given contract, assuming that all options are exercised under that contract. See “Risk Factors—Risks Relating to our Business.”

 

Defense Transformation

 

We develop leading-edge concepts, technologies and systems to solve complex challenges facing the U.S. military and its allies, helping them transform the way they fight. To help ensure that U.S. military personnel are better equipped, protected and trained, we assist the DoD in developing and implementing advanced technologies into the current armed forces. As a leader in the emerging area of network-centric operations, we are helping the U.S. military to develop next-generation C4ISR capabilities, including advanced communications networks, shared situational awareness, improved collaborative planning and enhanced mobility and logistics. We received the 2004 Frost & Sullivan Competitive Strategy Leadership Award, which recognized us as one of the most trusted and influential high-level C4ISR systems integrators. Some examples of our defense transformation projects are described below.

 

U.S. Army’s Future Combat Systems Program (FCS).    The U.S. Army is undertaking a major program to design, prototype and build combat technologies and systems to serve as the centerpiece of the U.S. Army’s transformation into a more mobile, versatile and effective force. We and The Boeing Company were selected in June 2003 by the U.S. Army as the lead systems integrator team for FCS. When completed, FCS will consist of 19 individual battlefield systems interconnected and commanded through an advanced network. The FCS network will be capable of monitoring and directing military equipment and personnel in all kinds of terrain and weather conditions and providing an integrated picture of the battlefield wherever located. This program highlights our ability to conceive and design a large “system of systems” employing leading-edge technology to address the military’s future needs in new and innovative ways. The FCS Program is scheduled to run through December 31, 2014 and has a total contract value to us of approximately $3 billion. FCS currently is our largest non-IDIQ contract.

 

Global Information Grid-Bandwidth Expansion (GIG-BE).    Providing military personnel with the right information at the right place and time requires a worldwide network with substantial bandwidth. We have provided significant contributions to the architecture of a new DoD global information network. Currently, we are the prime contractor supporting the Defense Information Systems Agency (DISA) in the development of the network’s backbone, known as the GIG-BE program. GIG-BE is bringing an optical mesh network with 10-gigabyte-per-second connectivity to approximately 100 U.S. military bases, posts and stations worldwide. GIG-BE achieved initial operating capability in only 20 months, meeting the compressed schedule set forth by DISA and demonstrating our ability to rapidly develop and deploy highly complex network technology solutions. Under multiple task orders, the GIG-BE program has a total contract value to us of $450 million.

 

Net-Centric Enterprise Services.    We are supporting the DoD’s efforts to migrate from the current Global Command and Control System (GCCS) to the next generation of Joint Command and Control (JC2) based on a new services-based approach called Net-Centric Enterprise Service (NCES). We are helping define how a services-oriented architecture and web services technology should be integrated on an enterprise scale in support of warfighter operations. We are providing architecture, design, systems engineering, integration of commercial and government software, performance testing, security and information assurance engineering and deployment support to this migration effort. We believe our experience and capabilities developed in connection with the GIG-BE program, the GCCS-Joint program and the NCES initiatives have positioned us well for future major C4ISR programs.

 

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Intelligence

 

We develop solutions to help the U.S. defense, intelligence and homeland security communities build an integrated intelligence picture, allowing them to be more agile and dynamic in chaotic environments and produce actionable intelligence.

 

We provide operations, engineering and technical support for the development and improvement of technologies relating to intelligence collection, processing, dissemination, collaboration and implementation. Our intelligence services include activities related to (1) the support of intelligence and operations centers, (2) surveillance and reconnaissance through satellite technologies and unmanned aerial vehicle operations centers and (3) enhanced radar and sensors on weapon systems. We also support human intelligence and counterintelligence activities. Much of the information regarding our intelligence programs is classified. Some unclassified examples of our intelligence projects are provided below.

 

Geospatial Intelligence.    Imagery, mapping and geospatial reference data are essential elements of all military activity. Our services include activities related to the acquisition, management, interpretation, integration, analysis and display of imagery and related mapping and intelligence data, referred to as geospatial intelligence. For example, we help U.S. Northern Command (NORTHCOM), the U.S. military command responsible for, among other things, U.S. homeland defense, and other government agencies provide timely, relevant, and actionable intelligence to homeland defenders. As part of this work, we developed, and now maintain, the geospatial component of NORTHCOM’s intelligence operations. We are one of the largest contract producers of geospatial information for the National Geospatial-Intelligence Agency, having provided new imagery exploitation capabilities to 15 sites worldwide last year.

 

Surveillance and Reconnaissance.    Unmanned vehicles have become an increasingly important intelligence-gathering tool. Our technologies are used in some of the most sophisticated unmanned aerial vehicles (UAV) ever developed. We previously integrated and recently upgraded the operations center and ground stations for the Predator UAV, which was widely used in Iraq, and our technical staff supports operational crews during all Predator missions. We have also played a key role in the design and integration of the high-altitude, long-range Global Hawk UAV, and, at the other end of the spectrum, we helped test and evaluate a hand-launched UAV called Dragon Eye, which provided U.S. Marines in Iraq with infrared surveillance videos of their operating area. Our wide-ranging system, software and engineering services are at the forefront of developing and fielding emerging UAV surveillance and reconnaissance technologies.

 

Homeland Security

 

We develop technical solutions and provide systems integration and mission-critical support services to help federal, state, local and foreign governments and private-sector customers protect the United States and allied homelands. Our innovation and breadth of solutions in homeland security was recently recognized when Frost & Sullivan named us as the 2005 Homeland Security Company of the Year.

 

We provide services and solutions including vulnerability analysis, infrastructure protection and emergency response and recovery. We contribute to critical counterintelligence plans and programs to assess vulnerabilities and help safeguard important events and infrastructure, including the 2004 national political conventions, the U.S. Capitol, House and Senate office buildings and the Library of Congress. We are also developing countermeasures to address a range of threats from “dirty bombs” to improvised nuclear devices to full-scale nuclear weapons. We are also working on multiple fronts to attack the toughest problems in bioagent detection. Following a disaster, managing critical infrastructure information is crucial for ensuring continuity of operations. We have designed more than a dozen emergency operations centers, primarily for state and local agencies, to manage the interoperability between new equipment and legacy responder systems. Some examples of our projects in homeland security are described below.

 

Protecting Against Chemical, Biological, Radiological, and Nuclear (CBRN) threats.    We have an extensive understanding of the design and employment of weapons of mass destruction, which is critical to detection of,

 

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protection from and response to these threats. Our expertise spans the range of CBRN threats, as evidenced by the DoD’s recent selection of us as the prime contractor under the Guardian Installation Protection Program to provide CBRN protection for up to 200 DoD installations. Commanders at these installations are facing the full range of CBRN threats and a confusing array of CBRN detection, protection and response choices. As the prime contractor for the Guardian project, we will help choose and field the appropriate integrated detection, protection and response capabilities. The Guardian program has a total contract value to us of $390 million.

 

Protecting Ports, Borders and Transportation.    Only a small portion of the millions of cargo containers moving by ship, road and rail are screened for weapons of mass destruction or other hazards. To help address this threat, we developed the Integrated Container Inspection System (ICIS), which scans sealed containers for hazardous materials at cargo terminals and border crossings without disrupting normal traffic flow. ICIS employs several of our technologies, including (1) EXPLORANIUM™ detectors for low-level radiation scanning, (2) optical character recognition technology for automated container identification and (3) VACIS® inspection systems for identification of a wide range of substances, including weapons, hazardous materials and drugs. Nearly 300 VACIS systems are deployed globally, and the ICIS has been deployed in two pilot programs in Hong Kong. Our products and services are now deployed in 20 major ports in multiple countries, demonstrating international adoption of this solution.

 

Enterprise Systems Integration for Homeland Defense.    Following the consolidation of 22 U.S. Government agencies into the Department of Homeland Security (DHS), we were selected under the STARS System Management and Integration program as the prime contractor to provide enterprise-wide integration services for the Immigration and Customs Enforcement element of the DHS. Some of the services included implementation of a data network backbone connecting the formerly separate agencies and the development of the first enterprise architecture in DHS. By laying this foundation, we helped the DHS map its IT systems to specific business functions, identify overlapping systems and more effectively identify needed IT programs. In fiscal 2006, we were selected as prime contractor under the follow-on Information Technology Engineering Support Services (ITESS) program to continue to provide integration services. The follow-on ITESS program has a total contract value to us of $446 million.

 

Logistics and Product Support

 

Maintaining and delivering a ready supply of fuel, parts, munitions, food and other supplies is a constant challenge for the U.S. military. Our logistics and product support solutions enhance the readiness and operational capability of U.S. military personnel and weapon and support systems.

 

To keep up with the pace of military operations, logisticians need intelligence sensors, communications networks and analytics, as well as the same best-in-class supply chain solutions that are used in the commercial sector, such as demand forecasting, total asset visibility and just-in-time inventory. To address these needs for the U.S. Air Force, we developed a supply chain management solution that we use to supply more than 127,000 items, cutting the cycle time to get aircraft back in the air. Our supply chain management system incorporates intelligent agent technology, which automatically tracks inventory levels in hundreds of thousands of bins as parts are consumed and forecasts when items should be reordered, cutting average supply delivery times from 21 to five days. This program has a total contract value to us of $431 million.

 

As a result of our success with the U.S. Air Force, we won a similar contract with the U.S. Navy, called Navy Aviation Depot Industrial Prime Vendor Generation II, which has a total contract value to us of $602 million.

 

Systems Engineering and Integration

 

Large government organizations face increasingly tough challenges to integrate and share massive amounts of data from geographically remote and disparate databases and legacy systems. We provide systems engineering and integration solutions to help our customers design, manage and protect complex IT networks and infrastructure. We support customers across the domains and mission areas of the U.S. Government, providing a range of services from full-scale systems deployment to systems engineering support services.

 

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With the increasing complexity of weapons systems and military tactics, the U.S. military has an increasing need for more sophisticated training tools and solutions. Through our software and systems-engineering organizations, we have pioneered innovative modeling and simulation technologies, including distributed simulation for training and distributed test and evaluation. Today, our expertise ranges from traditional areas, such as training and analysis simulation, to emerging areas, such as simulation-based acquisition. Currently, we lead the development of the DoD’s architecture and middleware for seamlessly integrating live-virtual-constructive simulation for experimentation, training, test and evaluation and acquisition. As a leader in modeling and simulation, we support the U.S.’s three premier military simulation training programs: the Army Warfighter Simulation (WARSIM), the Joint Simulation System (JSIMS), and the Air Force National Air and Space Model (NASM). Additionally, our expertise in semi-automated forces technology in the United States resulted in our selection to lead the software implementation of British doctrine and tactics for the U.K. Combined Arms Tactical Trainer. These four programs have an aggregate total contract value to us of $126 million. Our success with these programs demonstrates our ability to leverage our experience and capabilities to obtain new projects.

 

Research and Development

 

As one of the largest science and technology contractors to the U.S. Government, we conduct leading-edge research and development of new technologies with applications in areas such as national security, intelligence and life sciences. We believe that being at the forefront of science and technology provides us with a competitive advantage and positions us as a solution provider for our customers’ next-generation challenges. Some examples of our research and development projects are described below.

 

Advanced Robotics.    We develop and test advanced robotic systems, including prototype unmanned robotic vehicles. An advanced autonomous robotic vehicle that we developed in collaboration with Carnegie Mellon University recently competed in a Defense Advanced Research and Projects Agency (DARPA) sponsored test, designed to prove the concept of integration of advanced robotic vehicles into unmanned military systems. The mapping and route planning software we developed for this project has provided valuable insights that could be used for geospatial intelligence requirements for future military robotic systems. For DARPA, we developed a networked system of 100 small robots that are able to intelligently collaborate on missions. In the future, these robots may be used to search and map terrorist-occupied or earthquake-damaged buildings, as well as track intruders.

 

Wireless Sensors.    For DARPA, we are also exploring innovative ways to deploy tiny wireless sensors, known as Smart Dust, that can self-configure into a network and gather and fuse information into actionable intelligence information. For example, we are researching how these sensors could help the U.S. military improve situational awareness, reconnaissance, surveillance and target acquisition capabilities in urban areas.

 

Biopharmaceutical and Medical Research.    We operate the National Cancer Institute (NCI) at Frederick, Maryland, one of the world’s premier cancer and AIDS research facilities. We support a wide range of research areas for NCI, the National Institute of Allergy and Infectious Diseases, and the U.S. Army, including the development of nanotechnology applications for the prevention and treatment of cancer, as well as vaccines for HIV, anthrax and malaria. The NCI’s new cancer Biomedical Informatics Grid will enable cross-disciplinary sharing of research between more than 600 cancer researchers from over 50 different cancer centers. We are developing important grid-based middleware, applications and security for this groundbreaking initiative.

 

Commercial Services

 

We help our Commercial segment customers become more competitive, offering technology-driven consulting, systems integration and outsourcing services and solutions primarily to customers in selected commercial markets, currently IT support for oil and gas exploration and production, applications and IT infrastructure management for utilities and data lifecycle management for pharmaceuticals, in the United States and abroad. We apply domain-specific expertise, as well as consulting and technology services and solutions

 

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adapted from our experience with our Government segment customers, to fulfill the needs of our Commercial segment customers. These needs include enterprise IT optimization, data lifecycle management, asset management and business process analysis and transformation. Some examples of our commercial projects are described below.

 

The Digital Oilfield.    The oil and gas industry faces significant challenges to maximize exploration and production while minimizing capital risk and requirements. The industry employs highly specialized systems and solutions to meet these challenges. To help the largest global oil and gas company design its next generation oilfield and refinery called the Field of the Future, we are working with the company to implement and manage mission-critical geophysical data collection and decision support systems. Our solutions provide the architecture for more complete asset awareness, enabling improved decision making. We have similar projects with two other major oil and gas companies.

 

Asset Management for Utility Companies.    Asset management has become increasingly important to utility companies as they look to streamline costs and create other efficiencies related to their extensive assets, many of which have useful lives spanning decades. A leading U.K. utility company sought to create more efficient methods to provide maintenance and emergency repairs of its physical assets used in electricity delivery, such as power substations, pole-mounted transformers, overhead lines and underground cables. We helped design and implement an asset management system for this utility company. This system provides field personnel with up-to-date, easy-to-access mapping information which is used to readily locate electricity substations, transformers and power cables, as well as to facilitate the use of fault diagnosis tools to enable technicians to efficiently and effectively address power loss problems across the utility’s power grid.

 

Contracts

 

As of April 30, 2005, we had a portfolio of more than 10,000 active contracts, including active task orders under IDIQ contract vehicles. We have a diversified portfolio of contracts, with revenues recognized in fiscal 2005 under our largest contract representing less than 3% of our total consolidated revenues. Listed below are the 10 contracts which generated the most revenues in fiscal 2005 and which in the aggregate represented 14% of our total consolidated revenues.

 

Contract Title


  

Customer


Future Combat Systems (FCS)

   U.S. Army

Trailblazer Technical Development Program

   Confidential

Unified NASA Information Technology Services (UNITeS)

   NASA

Global Information Grid-Bandwidth Expansion (GIG-BE)

  

U.S. Defense Information Systems Agency (DISA)

Data Services Installation & Maintenance

   DISA

Information Technology Services Agreement

   Entergy

Athens Olympics C4I System

   Greek Ministry of Defense

Air Force Industrial Prime Vendor

   U.S. Air Force

Safety, Reliability & Quality Assurance (SR&QA)

   NASA

Omnibus 2000 Systems & Computer Resources Support

   U.S. Army

 

Contract Procurement.    The U.S. Government technology services procurement environment has evolved in recent years due to statutory and regulatory procurement reform initiatives. U.S. Government agencies traditionally have procured technology services and solutions through agency-specific contracts awarded to a single contractor. However, in recent years the number of procurement contracting methods available to U.S. Government customers for services procurements has increased substantially. Today, there are three predominant contracting methods through which U.S. Government agencies procure technology services: traditional single award contracts, GSA Schedule contracts, and single and multiple award IDIQ contracts. Each of these is described below:

 

  ·  

Traditionally, U.S. Government agencies have procured services and solutions through single award contracts which specify the scope of services that will be delivered and identify the contractor that will

 

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provide the specified services. When an agency has a requirement, interested contractors are solicited, qualified and then provided with a request for a proposal. The process of qualification, request for proposals and evaluation of bids requires the agency to maintain a large, professional procurement staff and can take a year or more to complete.

 

  ·   GSA Schedule contracts are listings of services, products and prices of contractors maintained by the GSA for use throughout the U.S. Government. In order for a company to provide services under a GSA Schedule contract, the company must be pre-qualified and awarded a contract by GSA. When an agency uses a GSA Schedule contract to meet its requirements, the agency, or the GSA on behalf of the agency, conducts the procurement. The user agency, or the GSA on its behalf, evaluates the user agency’s services requirements and initiates a competition limited to GSA Schedule qualified contractors. GSA Schedule contracts are designed to provide the user agency with reduced procurement time and lower procurement costs.

 

  ·   Single and multiple award IDIQ contracts are contract forms used to obtain commitments from contractors to provide certain products or services on pre-established terms and conditions. Under these IDIQ contracts, the U.S. Government issues task orders for specific services or products it needs and the contractor supplies products or services in accordance with the previously agreed terms. The competitive process to obtain task orders is limited to the pre-selected contractor(s). If the IDIQ contract has a single prime contractor, the award of task orders is limited to that party. If the contract has multiple prime contractors, the award of the task order is competitively determined. Multiple-contractor IDIQ contracts that are open for any government agency to use for the procurement of services are commonly referred to as government-wide acquisition contracts, or GWACs. Due to the lower cost, reduced procurement time, and increased flexibility of GWACs, there has been greater use of GWACs among many agencies for large-scale procurements of technology services. IDIQ contracts often have multi-year terms and unfunded ceiling amounts, therefore enabling but not committing the U.S. Government to purchase substantial amounts of products and services from one or more contractors.

 

Below is a list of our 10 largest non-IDIQ contracts based on total contract value to us, including funded backlog and negotiated unfunded backlog. For information regarding our backlog, see “—Backlog.”

 

Top 10 Non-IDIQ Contracts by Total Contract Value

 

Contract Title


 

Customer


   Total SAIC
Contract
Value


   Contract
Expiration Date


         (in millions)     

Future Combat Systems (FCS)

 

U.S. Army

   $ 2,955    Dec 31, 2011

Navy Aviation Industrial Prime Vendor Generation II

 

U.S. Navy

     602    Sep 30, 2014

Information Technology Services Agreement

 

Entergy

     487    Dec 31, 2006

Information Technology Engineering & Support Services (ITESS)

 

DHS

     446    Dec 31, 2010

Safety, Reliability & Quality Assurance (SR&QA)

 

NASA

     439    Mar 31, 2006

Air Force Industrial Prime Vendor

 

U.S. Air Force

     431    Jan 23, 2006

Guardian Installation Protection Program

 

U.S. Army

     390    Apr 27, 2010

Trailblazer Technical Development Program

 

Confidential

     348    Apr 4, 2006

Information Technology & Telecommunications Services Outsourcing

 

San Diego County

     314    Dec 13, 2006

Systems Engineering & Integration Contract (SEIC)

 

U.S. Air Force

     196    Sep 30, 2017
        

    
         $ 6,608     
        

    

 

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Below is a list of our 10 largest GSA Schedule or IDIQ contract vehicles based on total contract vehicle ceiling value that could be awarded to all contractors, including us.

 

Top 10 GSA Schedule or IDIQ Contract Vehicles by Total Contract Vehicle Ceiling Value (1)

 

Contract Title


  

Customer


   Total Contract
Vehicle Ceiling
Value to All
Contractors


  

Contract Vehicle
Expiration

Date


          (in millions)     

SeaPort Enhanced (2)

  

U.S. Navy

   $ 45,409    Apr 4, 2019

Millennia

  

GSA Federal Technology Service

     25,000    Apr 27, 2009

Millennia Lite

  

GSA Federal Technology Service

     20,000    Apr 21, 2009

Defense Medical Information Systems (D/SIDDOMS III)

  

Defense Contracting Command

     8,320    Dec 14, 2013

Flexible Acquisition Sustainment Tool (FAST)

  

U.S. Air Force

     7,441    Feb 23, 2008

Simulation, Training & Instrumentation Command (STRICOM) Omnibus

  

U.S. Army

     4,000    Sep 20, 2008

DISN Global Solutions

  

DISA

     3,000    Sep 30, 2008

Weapons of Mass Destruction Defeat Technology

  

Defense Threat Reduction Agency

     1,260    Apr 30, 2008

Next Generation Engineering

  

DISA

     1,000    Jan 11, 2009

Gateway Communications Systems/Defense Messaging Systems

  

U.S. Department of the Interior

     1,000    Oct 22, 2006
         

    
          $ 116,430     
         

    

(1)   Total contract ceiling value represents the maximum amount of contract awards that could be awarded to all contractors, including us, eligible to compete for task orders under the contract vehicle.
(2)   Contract with AMSEC, LLC, our 55% owned joint venture.

 

Backlog

 

The approximate value of our total negotiated backlog as of January 31, 2005, 2004, 2003 and April 30, 2005 and 2004 was as follows:

 

     As of January 31

   As of April 30

     2005

   2004

   2003

   2005

   2004

     (in millions)

Government Segment:

                                  

Funded backlog

   $ 3,333    $ 3,127    $ 2,499    $ 3,354    $ 3,430

Negotiated unfunded backlog

     5,217      4,033      2,733      6,465      5,459
    

  

  

  

  

Total negotiated backlog

   $ 8,550    $ 7,160    $ 5,232    $ 9,819    $ 8,889
    

  

  

  

  

Commercial Segment:

                                  

Funded backlog

   $ 313    $ 228    $ 230    $ 348    $ 289

Negotiated unfunded backlog

     114      187      157      104      281
    

  

  

  

  

Total negotiated backlog

   $ 427    $ 415    $ 387    $ 452    $ 570
    

  

  

  

  

Total Consolidated:

                                  

Funded backlog

   $ 3,646    $ 3,355    $ 2,729    $ 3,702    $ 3,719

Negotiated unfunded backlog

     5,331      4,220      2,890      6,569      5,740
    

  

  

  

  

Total consolidated negotiated backlog

   $ 8,977    $ 7,575    $ 5,619    $ 10,271    $ 9,459
    

  

  

  

  

 

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Funded backlog represents the portion of backlog for which funding currently is appropriated or otherwise authorized and is payable to us upon completion of a specified portion of work, less revenues previously recognized. Our funded backlog does not include the full potential value of our contracts because the U.S. Government and our other customers often appropriate or authorize funds for a particular program or contract on a yearly or quarterly basis, even though the contract may call for performance over a number of years. Negotiated unfunded backlog represents (1) firm orders for which funding has not been appropriated or otherwise authorized and (2) unexercised contract options. When a definitive contract or contract amendment is executed and funding has been appropriated or otherwise authorized, funded backlog is increased by the difference between the funded dollar value of the contract or contract amendment and the revenue recognized to date. Negotiated unfunded backlog does not include any estimate of future potential task orders that might be awarded under IDIQ, GWAC or GSA Schedule contract vehicles.

 

We expect to recognize as revenues a substantial portion of our funded backlog within 12 months. However, the U.S. Government may cancel any contract or purchase order at any time. Most of our contracts have cancellation terms that would permit us to recover all or a portion of our incurred costs and potential fees in such cases. See “Risk Factors—Risks Relating to Our Business—We may not realize as revenues the full amounts reflected in our backlog, which could adversely affect our operating results.”

 

Key Customers

 

Our largest customer is the U.S. Government, in the aggregate accounting for 86%, 85% and 84% of our total consolidated revenues in fiscal 2005, 2004 and 2003, respectively. Within the U.S. Government, our largest customers for each of the last three fiscal years were the U.S. Army, U.S. Navy and U.S. Air Force.

 

The percentage of total consolidated revenues attributable to each of these three major customers for the last three fiscal years was as follows:

 

     Year Ended January 31

 
     2005

    2004

    2003

 

U.S. Army

   13 %   13 %   13 %

U.S. Navy

   13     12     12  

U.S. Air Force

   11     11     12