-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, QhdN6L1e/yy301duw5oQ3ijyeE2StVhxrQWONMEdJOvBsb4XQz6acR57fr9DIYYf vyXkijZ3TPw+wjyURomWOQ== 0000950124-06-002593.txt : 20060509 0000950124-06-002593.hdr.sgml : 20060509 20060509093544 ACCESSION NUMBER: 0000950124-06-002593 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 20060331 FILED AS OF DATE: 20060509 DATE AS OF CHANGE: 20060509 FILER: COMPANY DATA: COMPANY CONFORMED NAME: SYNTEL INC CENTRAL INDEX KEY: 0001040426 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-COMPUTER PROGRAMMING SERVICES [7371] IRS NUMBER: 382312018 STATE OF INCORPORATION: MI FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-22903 FILM NUMBER: 06818912 BUSINESS ADDRESS: STREET 1: 525 EAST BIG BEAVER ROAD STREET 2: SUITE 300 CITY: TROY STATE: MI ZIP: 48083 BUSINESS PHONE: 2486193524 MAIL ADDRESS: STREET 1: 525 EAST BIG BEAVER ROAD STREET 2: SUITE 300 CITY: TROY STATE: MI ZIP: 48083 10-Q 1 k05050e10vq.txt QUARTERLY REPORT FOR PERIOD ENDED MARCH 31, 2006 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) [X] Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended March 31, 2006 or [ ] Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from ____________ to _____________ Commission file number 0-22903 SYNTEL, INC. (Exact Name of Registrant as Specified in Its Charter) Michigan 38-2312018 (State or Other Jurisdiction of (IRS Employer Incorporation or Organization) Identification No.)
525 E. Big Beaver Road, Suite 300, Troy, Michigan 48083 (Address of Principal Executive Offices) (Zip Code)
(248) 619-2800 (Registrant's Telephone Number, Including Area Code) Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No ----- ----- Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of "accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. (Check one): Large Accelerated Filer Accelerated Filer X Non-Accelerated Filer --- --- --- Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act.) Yes No X ----- ----- Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Common Stock, no par value : 41,006,874 shares issued and outstanding as of April 26, 2006. 1 SYNTEL, INC. INDEX
Page ---- Part I Financial Information Item 1 Financial Statements Condensed Consolidated Statements of Income 3 Condensed Consolidated Balance Sheets 4 Condensed Consolidated Statements of Cash Flows 5 Notes to the Condensed Consolidated Financial Statements 6 Item 2 Management's Discussion and Analysis of Financial Condition and Results of Operations 17 Item 3 Quantitative and Qualitative Disclosures about Market Risk 22 Item 4 Controls and Procedures 23 Part II Other Information 24 Signatures 25 Exhibit - Certificate of Chief Executive Officer 27 Exhibit - Certificate of Chief Financial Officer 28 Exhibit - Certification of Chief Executive Officer and Chief Financial Officer 29
2 SYNTEL, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF INCOME (IN THOUSANDS, EXCEPT PER SHARE DATA)
THREE MONTHS ENDED MARCH 31, ------------------ 2006 2005 ------- ------- Net revenues $63,496 $50,732 Cost of revenues 39,162 29,704 ------- ------- GROSS PROFIT 24,334 21,028 Selling, general and administrative expenses 10,598 11,165 ------- ------- Income from operations 13,736 9,863 Other income, principally interest 889 1,136 ------- ------- Income before income taxes 14,625 10,999 Provision for income taxes 2,570 2,005 ------- ------- NET INCOME $12,055 $ 8,994 ======= ======= Dividend per share $ 0.06 $ 1.56 EARNINGS PER SHARE: Basic $ 0.30 $ 0.22 Diluted $ 0.29 $ 0.22 WEIGHTED AVERAGE COMMON SHARES OUTSTANDING: Basic 40,696 40,366 Diluted 40,948 40,526
The accompanying notes are an integral part of the condensed consolidated financial statements. 3 SYNTEL, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS (IN THOUSANDS)
MARCH 31, DECEMBER 31, 2006 2005 --------- ------------ ASSETS Current assets: Cash and cash equivalents $ 85,880 $ 99,390 Short term investments 27,303 21,083 Accounts receivable, net of allowances for doubtful accounts of $2,575 and $2,575 at March 31, 2006 and December 31, 2005, respectively 30,680 27,907 Revenue earned in excess of billings 12,818 8,366 Deferred income taxes and other current assets 11,252 10,003 -------- -------- Total current assets 167,933 166,749 Property and equipment 57,119 54,690 Less accumulated depreciation and amortization 26,530 25,504 -------- -------- Property and equipment, net 30,589 29,186 Goodwill 906 906 Deferred income taxes and other non current assets 3,415 1,320 -------- -------- TOTAL ASSETS $202,843 $198,161 ======== ======== LIABILITIES AND SHAREHOLDERS' EQUITY LIABILITIES Current liabilities: Accounts payable $ 5,706 $ 6,890 Accrued payroll and related costs 14,544 15,906 Income taxes payable 6,910 9,809 Accrued liabilities 7,605 7,446 Deferred revenue 2,531 3,356 Dividends payable 2,480 2,476 -------- -------- Total current liabilities 39,776 45,883 SHAREHOLDERS' EQUITY Total shareholders' equity 163,067 152,278 -------- -------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $202,843 $198,161 ======== ========
The accompanying notes are an integral part of the condensed consolidated financial statements. 4 SYNTEL, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS)
THREE MONTHS ENDED MARCH 31, ------------------- 2006 2005 -------- -------- CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 12,055 $ 8,994 Adjustments to reconcile net income to net cash provided by operating activities Depreciation and amortization 1,174 1,036 Realized gains on sales of short term investments (53) (319) Deferred income taxes 143 (1) Compensation expense related to restricted stock 239 685 Share based compensation expense 206 -- Changes in assets and liabilities: Accounts receivable and revenue earned in excess of billings, net (7,245) (3,330) Other current assets (3,340) (2,048) Accrued payroll and other liabilities (4,581) 2,328 Deferred revenues (828) (592) -------- -------- Net cash (used in) / provided by operating activities (2,230) 6,753 -------- -------- CASH FLOWS FROM INVESTING ACTIVITIES: Property and equipment expenditures (3,169) (2,448) Purchase of short term investments : Investments in mutual funds (14) (2,985) Investments in term deposits with banks (14,953) (4,266) Proceeds from sales of short term investments : Proceeds from sales of mutual funds 6,754 12,320 Maturities of term deposits with banks 2,274 17,543 -------- -------- Net cash (used in) / provided by investing activities (9,108) 20,164 -------- -------- CASH FLOWS FROM FINANCING ACTIVITIES: Net proceeds from issuance of common stock 253 2,133 Common stock repurchases -- (676) Dividends paid (2,443) (63,546) -------- -------- Net cash used in financing activities (2,190) (62,089) -------- -------- Effect of foreign currency exchange rate changes on cash 18 (78) Change in cash and cash equivalents (13,510) (35,250) Cash and cash equivalents, beginning of period 99,390 109,142 -------- -------- Cash and cash equivalents, end of period $ 85,880 $ 73,892 ======== ======== Non cash investing and financing activities: Cash dividends declared but unpaid $ 2,480 $ 2,446 ======== ======== Cash paid for income taxes $ 6,379 $ 4,044 ======== =========
The accompanying notes are an integral part of the condensed consolidated financial statements. 5 SYNTEL, INC. AND SUBSIDIARIES NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS 1. BASIS OF PRESENTATION: The accompanying condensed consolidated financial statements of Syntel, Inc. (the "Company" or "Syntel") have been prepared by management, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments, consisting of normal recurring adjustments, necessary to present fairly the financial position of Syntel and its subsidiaries as of March 31, 2006, the results of their operations for the three month periods ended March 31, 2006 and 2005, and cash flows for the three months ended March 31, 2006 and March 31, 2005. The year end condensed balance sheet as of December 31, 2005 was derived from audited financial statements but does not include all disclosures required by accounting principles generally accepted in the United States. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company's annual report on Form 10-K for the year ended December 31, 2005. Operating results for the three months ended March 31, 2006 are not necessarily indicative of the results that may be expected for the year ending December 31, 2006. 2. PRINCIPLES OF CONSOLIDATION AND ORGANIZATION The consolidated financial statements include the accounts of Syntel, Inc. ("Syntel"), a Michigan corporation, its wholly owned subsidiaries, and a joint venture. All significant inter-company balances and transactions have been eliminated. The wholly owned subsidiaries of Syntel, Inc. are: - - Syntel Limited ("Syntel India"), an Indian limited liability company formerly known as Syntel (India) Ltd.; - - Syntel Singapore PTE. Ltd. ("Syntel Singapore"), a Singapore limited liability company; - - Syntel Europe, Ltd. ("Syntel U.K."), a United Kingdom limited liability company; - - Syntel Canada Inc. ("Syntel Canada"), an Ontario limited liability company; - - Syntel Deutschland GmbH ("Syntel Germany"), a German limited liability company; - - Syntel Hong Kong Ltd. ("Syntel Hong Kong"), a Hong Kong limited liability company; - - Syntel (Australia) Pty. Limited ("Syntel Australia"), an Australian limited liability company; - - Syntel Delaware LLC ("Syntel Delaware"), a Delaware limited liability company; - - SkillBay LLC ("SkillBay"), a Michigan limited liability company; - - Syntel (Mauritius) Limited ("Syntel Mauritius"), a Mauritius limited liability company; - - Syntel Consulting Inc ("Syntel Consulting"), a Michigan corporation; - - Syntel Sterling BestShores (Mauritius) Limited ("SSBML"), a Mauritius limited liability company; and - - Syntel Worldwide (Mauritius) Limited ("Syntel Worldwide"), a Mauritius limited liability company. The formerly wholly owned subsidiary of Syntel Delaware (as of December 31, 2004) that became a partially owned joint venture of Syntel Delaware LLC on February 1, 2005 is: - - Syntel Solutions (Mauritius) Ltd. ("Syntel Solutions"), a Mauritius limited liability company. The wholly owned subsidiary of Syntel Solutions is: - - Syntel Sourcing Pvt. Ltd. ("Syntel Sourcing"), an Indian limited liability company. The wholly owned subsidiaries of Syntel Mauritius are: - - Syntel International Pvt. Ltd. ("Syntel International"), an Indian limited liability company; and - - Syntel Global Pvt. Ltd. ("Syntel Global"), an Indian limited liability company. The wholly owned subsidiary of SSBML is: - - Syntel Sterling BestShores Solutions Private Limited" ("SSBSPL"), an Indian limited liability company. 6 3. USE OF ESTIMATES The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Such estimates include, but are not limited to allowance for doubtful accounts, impairment of long-lived assets and goodwill, contingencies and litigation, the recognition of revenues and profits based on the proportional performance method and potential tax liabilities. Actual results could differ from those estimates and assumptions used in the preparation of the accompanying financial statements. 4. REVENUE RECOGNITION The Company recognizes revenues from time and material contracts as the services are performed. Revenue from fixed-price applications management, maintenance and support engagements is recognized as earned which generally results in straight-line revenue recognition as services are performed continuously over the term of the engagement. Revenue on fixed-price, applications development and integration projects in the Company's application outsourcing and e-Business segments are measured using the proportional performance method of accounting. Performance is generally measured based upon the efforts incurred to date in relation to the total estimated efforts to the completion of the contract. The Company monitors estimates of total contract revenues and cost on a routine basis throughout the delivery period. The cumulative impact of any change in estimates of the contract revenues or costs is reflected in the period in which the changes become known. In the event that a loss is anticipated on a particular contract, provision is made for the estimated loss. The Company issues invoices related to fixed price contracts based on either the achievement of milestones during a project or other contractual terms. Differences between the timing of billings and the recognition of revenue based upon the proportional performance method of accounting are recorded as revenue earned in excess of billings or deferred revenue in the accompanying consolidated balance sheets. Revenues are reported net of sales incentives. Reimbursements of out-of-pocket expenses are included in revenue in accordance with Emerging Issues Task Force Consensus ("EITF") 01-14, "Income Statement Characterization of Reimbursement Received for 'Out of Pocket' Expenses Incurred". 5. CASH AND CASH EQUIVALENTS For the purpose of reporting Cash and Cash Equivalents, the Company considers all liquid investments purchased with an original maturity of three months or less to be cash equivalents. At March 31, 2006 and December 31, 2005, approximately $9.0 million and $60.8 million, respectively, represent corporate bonds and treasury notes held by Bank One, for which "AAA" rated letters of credit have been provided by the bank. The remaining amounts of cash and cash equivalents are invested in money market accounts with various banking and financial institutions. 6. STOCK WARRANTS SALES INCENTIVE In 2000, the Company agreed to grant to a significant customer performance warrants entitling the customer to purchase shares of Company stock. The issuance of the performance warrants is dependent upon the customer meeting performance milestones by purchasing specified minimum levels of services from the Company over a specified period. The Company has estimated that such performance milestones will not be met during the year. Accordingly, the Company has not accounted for these performance warrants. If and when the Company estimates that such performance milestones will be met, the sales incentive associated with the performance warrants will be recorded as a reduction of revenue. 7 7. COMPREHENSIVE INCOME Total Comprehensive Income for the three months ended March 31, 2006 and 2005 was as follows:
THREE MONTHS ENDED MARCH 31, ------------------ 2006 2005 ------- ------ (in thousands) Net income $12,055 $8,994 Other comprehensive income - Unrealized gain (loss) 528 30 - Foreign currency translation adjustments (96) (405) ------- ------ Total comprehensive income $12,487 $8,619 ======= ======
8. EARNINGS PER SHARE Basic and diluted earnings per share are computed in accordance with Statement of Financial Accounting Standards ("SFAS") No, 128 "Earnings Per Share". Basic earnings per share are calculated by dividing net income by the weighted average number of shares outstanding during the applicable period. The Company has stock options, which are considered to be potentially dilutive to the basic earnings per share. Diluted earnings per share is calculated using the treasury stock method for the dilutive effect of shares which have been granted pursuant to the stock option plan, by dividing the net income by the weighted average number of shares outstanding during the period adjusted for these potentially dilutive options, except when the results would be anti-dilutive. The potential tax benefits on exercise of stock options is considered as additional proceeds while computing dilutive earnings per share using the treasury stock method. The following table summarizes the movement in the Capital Structure from December 31, 2005
PARTICULARS NO. OF SHARES - ----------- -------------- (IN THOUSANDS) Balance as on December 31, 2005 40,679 ADD: Shares issued on exercise of stock options and restricted stock 33 ------ Balance as on March 31, 2006 40,712 ------
The following table sets forth the computation of earnings per share.
THREE MONTHS ENDED MARCH 31, ---------------------------------------------- 2006 2005 ----------------------- -------------------- Weighted Weighted Average Earnings per Average Earnings Shares Shares Shares per Share -------- ------------ -------- --------- (in thousands, except per share earnings) Basic earnings per share 40,696 $ 0.30 40,366 $0.22 Potential dilutive effect of stock options outstanding 252 (0.01) 160 -- ------ ------ ------ ----- DILUTED EARNINGS PER SHARE 40,948 $ 0.29 40,526 $0.22 ====== ====== ====== =====
8 9. SEGMENT REPORTING The Company is organized geographically and by business segment. For management purposes, the Company is primarily organized on a worldwide basis into four business segments: - Applications Outsourcing - e-Business - TeamSourcing; and - Business Process Outsourcing (BPO) These segments are the basis on which the Company reports its primary segment information to management. Management allocates all corporate expenses among the segments. No balance sheet/identifiable assets data is presented since the Company does not segregate its assets by segment. Financial data for each segment for the three month periods ended March 31, 2006 and 2005 is as follows:
THREE MONTHS ENDED MARCH 31, ------------------ 2006 2005 ------- ------- (in thousands) REVENUES: Applications Outsourcing $46,310 $39,109 e-Business 9,168 6,868 TeamSourcing 4,776 3,694 BPO 3,242 1,061 ------- ------- $63,496 $50,732 ------- ------- GROSS PROFIT: Applications Outsourcing $18,512 $17,087 e-Business 2,401 2,161 TeamSourcing 1,567 1,003 BPO 1,854 777 ------- ------- 24,334 21,028 Selling, general and administrative expenses 10,598 11,165 ------- ------- Income from operations $13,736 $ 9,863 ------- -------
9 During the three months ended March 31, 2006 and 2005, American Express Corp. contributed revenues in excess of 10% of total consolidated revenues. Revenue from this customer was $11.81 million during the three months ended March 31, 2006, contributing approximately 18.6% of total consolidated revenues, as compared to $7.44 million during the three months ended March 31, 2005, contributing approximately 14.7% of total consolidated revenues. At March 31, 2006 and December 31, 2005 accounts receivable, from this customer were $1.8 million and $1.1 respectively. 10. GEOGRAPHIC INFORMATION Customers of the Company are primarily located in the United States. Net revenues and net income (loss) were attributed to each geographic location as follows:
THREE MONTHS ENDED MARCH 31, ------------------- 2006 2005 -------- -------- (in thousands) NET REVENUES North America, primarily United States $ 61,226 $ 45,287 India 32,156 26,161 UK 2,333 3,319 Far East, primarily Singapore, Mauritius 674 303 Germany 230 402 Inter-company revenue elimination (primarily India) (33,123) (24,740) -------- -------- TOTAL REVENUE $ 63,496 $ 50,732 -------- -------- NET INCOME/(LOSS) North America, primarily United States $ 2,714 $ 2,122 India 9,242 6,350 UK 218 661 Far East, primarily Singapore, Mauritius (33) (3) Germany (86) (136) -------- -------- INCOME AFTER INCOME TAXES $ 12,055 $ 8,994 -------- --------
10 11. INCOME TAXES The following table accounts for the differences between the federal statutory tax rate of 35% and the Company's overall effective tax rate :
THREE MONTHS ENDED MARCH 31, ------------------ 2006 2005 ------- ------- (in thousands) Income before income taxes $14,625 $10,999 ------- ------- Statutory provision 35.0% 35.0% State taxes, net of federal benefit 1.0% 1.0% Tax-free investment income (0.4%) (0.8%) Foreign effective tax rates different from US statutory rate (18.0%) (17.0%) ------- ------- EFFECTIVE INCOME TAX RATE 17.6% 18.2% ------- -------
The Company records provisions for income taxes based on enacted tax laws and rates in the various taxing jurisdictions in which it operates. In determining the tax provisions, the Company also provides for tax contingencies based on the Company's assessment of future regulatory reviews of filed tax returns. Such reserves, which are recorded in income taxes payable, are based on management's estimates and accordingly are subject to revision based on additional information. The provision no longer required for any particular tax year, is credited to the current period's income tax expenses. Syntel India has not provided for disputed Indian income tax liabilities amounting to $2.53 million for the financial years 1995-96 to 2001-02. Syntel India has obtained an opinion from one independent legal counsel (a former Chief Justice of the Supreme Court of India) for the financial year 1998-99 and two opinions from another independent legal counsel (also a former Chief Justice of the Supreme Court of India) for the financial years 1995-96 to 1997-98 and 1999-2000 to 2001-02, which support Syntel India's position in this matter. Syntel India had filed an appeal with the Commissioner of Income Tax (Appeals) for the financial year 1998-99 and received a favorable decision. A similar appeal filed by Syntel India with the Commissioner of Income Tax (Appeals) for the financial year 1999-2000 was however dismissed in March 2004. Syntel India has appealed this decision with the Income Tax Appellate Tribunal. Syntel India has since also received orders for appeals filed with the Commissioner of Income Tax (Appeals) against the demands raised in March 2004 by the Income Tax Officer for similar matters relating to the financial years 1995-96 to 1997-98 and 2000-01 to 2001-02 and has received a favorable decision for 1995-96 and the contention of Syntel India was partially upheld for the other years. Syntel India has gone into further appeal with the Income Tax Appellate Tribunal for the amounts not allowed by the Commissioner of Income Tax (Appeals). The Income Tax Department has appealed the favorable decisions for 1995-96 and 1998-99 and the partially favorable decisions for the other years with the Income Tax Appellate Tribunal. Syntel India has also not provided for other disputed Indian income tax liabilities aggregating $4.45 million for the financial years 2001-02 and 2002-03, against which Syntel India has filed an appeal with the Commissioner of Income Tax (Appeals). The contention of Syntel India was partially upheld by the Commissioner of Income Tax (Appeals) for the financial year 2001-02. Syntel India is in the process of filing further appeal with the Income Tax Appellate Tribunal for the amounts not allowed by the Commissioner of Income Tax (Appeals). The appeal for the financial year 2002-03 is not yet decided. Syntel India has obtained opinions from independent legal counsels, which support Syntel India's position in this matter. Further, Syntel India has not provided for disputed income tax liabilities aggregating to $0.10 million, for which Syntel India has filed or is in the process of filing appeals or petitions. All the above tax exposures involve complex issues and may need an extended period to resolve the issues with the Indian income tax authorities. Management, after consultation with legal counsel, believes that the resolution of the above matters will not have a material adverse effect on the Company's financial position. 11 UNDISTRIBUTED EARNINGS OF FOREIGN SUBSIDIARIES The Company intends to use accumulated and future earnings of foreign subsidiaries to expand operations outside the United States and accordingly undistributed earnings of foreign subsidiaries are considered to be indefinitely reinvested outside the United States and no provision for U. S. federal and state income tax or applicable dividend distribution tax has been provided thereon. The American Jobs Creation Act of 2004 provided a special one-time favorable effective federal tax rate for U.S.-based organizations. The Company repatriated cash dividends of $61.0 million during 2005 out of the retained earnings of its controlled foreign subsidiary, Syntel India, to the U.S. in accordance with the Act. The Company recorded a tax charge of approximately $12.3 million, including U.S. Federal and state taxes and the Indian dividend distribution tax under the Indian Income Tax laws, during the fourth quarter of 2005. Proceeds from these extraordinary dividends are required to be invested in the United States for specific purposes permitted under Act pursuant to an approved written domestic reinvestment plan. As of March 31, 2006, the Company has fully invested proceeds from these cash dividends as required towards permitted investments under the Act. If the Company determines to repatriate all undistributed repatriable earnings of controlled foreign corporations as of March 31, 2006 (without considering the Jobs Act provisions), the Company would have accrued taxes of approximately $38.3 million. 12 12. STOCK BASED COMPENSATION SHARE BASED COMPENSATION: The Company established a stock option plan in 1997 under which 3 million shares of Common Stock were reserved for issuance. The dates on which granted options are first exercisable are determined by the Compensation Committee of the Board of Directors, but generally vest over a four-year period from the date of grant. The term of any option may not exceed ten years from the date of grant. For certain options granted during 1997, the exercise price was less than the fair value of the Company's stock on the date of grant and, accordingly, compensation expense is being recognized over the vesting period for such difference. For the options granted thereafter, the Company grants the options at the fair market value on the date of grant of the options. For the options exercised the shares are generally issued out of new share issues. In some instances the shares are issued out of Treasury Stock purchased from the market. On January 1, 2006, the Company adopted Statement of Financial Accounting Standards No. 123 (revised 2004), "Share-Based Payment," ("SFAS 123(R)") which requires the measurement and recognition of compensation expense for all share-based payment awards made to employees and directors including employee stock options and employee stock purchases related to the Employee Stock Purchase Plan ("employee stock purchases") based on estimated fair values. SFAS 123(R) supersedes the Company's previous accounting under Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25") for periods beginning in fiscal 2006. The Company adopted SFAS 123(R) using the modified prospective transition method, which requires the application of the accounting standard as of January 1, 2006, the first day of the Company's fiscal year 2006. The Company's financial statements as of and for the three months ended March 31, 2006 reflect the impact of SFAS 123(R). In accordance with the modified prospective transition method, the Company's financial statements for prior periods have not been restated to reflect, and do not include, the impact of SFAS 123(R). Share-based compensation expense recognized under SFAS 123(R) for the three months ended March 31, 2006 was $0.45 million including charge for restricted stock. SFAS 123(R) requires companies to estimate the fair value of share-based payment awards on the date of grant using an option-pricing model. The value of the portion of the award that is ultimately expected to vest is recognized as expense over the requisite service periods in the Company's Statement of Income. Prior to the adoption of SFAS 123(R), the Company accounted for stock-based awards to employees [and directors] using the intrinsic value method in accordance with APB 25 as allowed under Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123"). RESTRICTED STOCK: On different dates during the quarter ended June 30, 2004 the Company issued 319,300 shares of incentive restricted stock to its non-employee directors and some employees as well as to some employees of its subsidiaries. The shares were granted to employees for their future services as a retention tool at a zero exercise price, with the restrictions on transferability lapsing with regard to 10%, 20%, 30%, and 40% of the shares issued on or after the first, second, third and fourth anniversary of the grant dates, respectively. On different dates during the year ended December 31, 2005 and three months ended March 31, 2006 the Company issued additional 54,806 and 732 shares respectively, of incentive restricted stock to its non-employee directors and some employees as well as to some employees of its subsidiaries. The shares were granted to employees for their future services as a retention tool at a zero exercise price, with the restrictions on transferability lapsing with regard to 25% of the shares issued on or after the first, second, third and fourth anniversary of the grant dates. Based upon the market value on the grant dates, the Company recorded $5.84 million during the three months ended June 30, 2004, $0.89 million during the year ended December 31, 2005 and $0.01 million during the three months ended March 31, 2006 of unearned compensation included as a separate component of shareholders' equity to be 13 expensed over the four - year service period on a straight line basis. During the three months ended March 31, 2006 and 2005, the Company reversed $0.14 million and $0.54 million, respectively, of unearned compensation towards forfeiture of restricted stock on account of termination of employees and expensed $0.22 million and $0.25 million, respectively, as compensation cost on account of these stock grants. The recipients are also eligible for dividends declared on their restricted stock. The dividends paid on shares of unvested restricted stock are charged to compensation cost. For the three months ended March 31, 2006 and 2005, the Company recorded $0.01 million and $0.43 million, respectively, as compensation cost for dividends paid on shares of unvested restricted stock. For the restricted stock issued during the year ended December 31, 2005 and three months ended March 31, 2006, the dividend will be accrued and paid subject to the same restriction as the restriction on transferability. IMPACT OF THE ADOPTION OF FAS 123(R) We adopted FAS 123(R) using the modified prospective transition method beginning January 1, 2006. Accordingly, during the three-month period ended March 31, 2006, we recorded stock-based compensation expense for awards granted prior to, but not yet vested, as of January 1, 2006, as if the fair value method required for pro forma disclosure under FAS 123 were in effect for expense recognition purposes, adjusted for estimated forfeitures. As FAS 123(R) requires that stock-based compensation expense be based on awards that are ultimately expected to vest, stock-based compensation for the three-month period ended March 31, 2006 has been reduced for estimated forfeitures. When estimating forfeitures, we consider trends of actual option forfeitures. The impact on our results of operations of recording stock-based compensation (including impact of restricted stock) for the three month period ended March 31, 2006 was as follows (in thousands): Cost of revenues $232 Selling, general and administrative expenses 213 ---- $445 ----
Cash received from option exercises under all share-based payment arrangements for the three-month periods ended March 31, 2005 and 2006, was $ 1.61 million and $ 0.25 million, respectively. New shares were issued for all options exercised during the three months ended March 31, 2006. The total income tax benefit recognized in the income statement for stock-based compensation costs was $0 and $ 0.01 million for the three-month periods ended March 31, 2005 and 2006, respectively. Prior to the adoption of FAS 123(R), the intrinsic value of restricted stock were recorded as unearned stock-based compensation as of December 31, 2005. Upon the adoption of FAS 123(R) in January 2006, the unearned stock-based compensation balance of approximately $3.17 million was reclassified to additional-paid-in-capital. As of March 31, 2006, the estimated compensation cost of non-vested options (excluding restricted stock) is $ 0.85 million to be vested mainly over the next two years. VALUATION ASSUMPTIONS We calculated the fair value of each option award on the date of grant using the Black-Scholes option pricing model. The following assumptions were used for each respective period:
THREE MONTHS ENDED MARCH 31, ------------------ 2006 2005 ----- ----- Assumptions Risk free interest rate 4.78% 4.12% Expected life 5.00 5.00 Expected volatility 67.56% 71.07% Expected dividend yield 1.27% 9.83%
14 Our computation of expected volatility for the first quarter of 2006 is based on a combination of historical volatility from traded options on our stock. Prior to 2006 also, our computation of expected volatility was based on historical volatility. Our computation of expected life in 2006, was determined based on historical experience of similar awards, giving consideration to the contractual terms of the stock-based awards, vesting schedules and expectations of future employee behavior. The interest rate for periods within the contractual life of the award is based on the U.S. Treasury yield curve in effect at the time of grant. SHARE-BASED PAYMENT AWARD ACTIVITY The following table summarizes activity under our equity incentive plans for the three months ended March 31, 2006 (in thousands, except per share amounts):
WEIGHTED AVERAGE WEIGHTED REMAINING AVERAGE CONTRACTUAL TERM AGGREGATE SHARES EXERCISE PRICE (IN YEARS) INTRINSIC VALUE ------- -------------- ---------------- --------------- Outstanding at January 1, 2006 438,251 $12.28 Granted 0 0 Exercised 32,116 7.90 Forfeited 29,900 23.94 Expired / Cancelled 11,353 6.40 ------- ------ ---- ---------- OUTSTANDING AT MARCH 31, 2006 364,882 11.89 5.40 $ 2,344,655 ------- ------ ---- ---------- OPTIONS EXERCISABLE AT MARCH 31, 2006 272,982 10.24 4.90 $ 2,204,345 ------- ------ ---- ----------
The weighted average grant-date fair value of options granted for three-month period ended March 31, 2005 and 2006 was $ 2.51 and $ 5.32, respectively. The agregate intrinsic value of options exercised as of March 31, 2006 was $ 7.12 and fair value of shares vested and outstanding as on March 31, 2006 $ 5.68. PRO FORMA INFORMATION FOR PERIODS PRIOR TO THE ADOPTION OF FAS 123(R) Prior to the adoption of FAS No. 123(R), we provided the disclosures required under FAS No. 123, as amended by FAS No. 148, "Accounting for Stock-Based Compensation -- Transition and Disclosures." Employee stock-based compensation expense recognized under FAS 123(R) was not reflected in our results of operations for the three-month period ended March 31, 2005 for employee stock option awards as all options were granted with an exercise price equal to the market value of the underlying common stock on the date of grant. Our ESPP was deemed non-compensatory under the provisions of APB No. 25. Forfeitures of awards were recognized as they occurred. Previously reported amounts have not been restated. The pro forma information for the three months ended March 31, 2005 was as follows (in thousands, except per share amounts): 15
THREE MONTHS ENDED MARCH 31, 2005 ------------ NET INCOME As reported $ 8,994 Stock based Compensation expense recognized in statement of income, net of tax $ 598 Stock based compensation expense determined under the fair value method, net of tax ($895) ------- PRO FORMA NET INCOME $ 8,697 ------- EARNINGS PER SHARE, PRO FORMA Basic earnings per share $ 0.22 Diluted earnings per share $ 0.21 EARNINGS PER SHARE AS REPORTED Basic earnings per share $ 0.22 Diluted earnings per share $ 0.22 WEIGHTED AVERAGE SHARES OUTSTANDING Basic 40,366 Diluted 40,526
13. PROVISION FOR UNUTILIZED LEAVE During the year ended December 31, 2005 Syntel India had changed its leave policy, resulting in a reduction of the maximum permissible accumulation of unutilized leave from 150 days to 60 days. The balance exceeding maximum permissible accumulation is compulsorily encashed at basic salary. Accordingly an amount of $0.51 million was paid at basic salary and $1.14 million was reversed being the difference between the basic salary and gross compensation rates. The gross charge for unutilized earned leave was $0.42 million and $0.06 million for the three months ended March 31, 2006 and March 31, 2005 respectively. The amounts accrued for unutilized earned leave are $3.99 million and $3.70 million as of March 31, 2006 and December 31, 2005, respectively, and are included within `Accrued payroll and related costs'. 14. RECLASSIFICATION Certain prior period amounts have been reclassified to conform with the current period presentation. 16 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS SYNTEL INC. AND SUBSIDIARIES RESULTS OF OPERATIONS REVENUES. The Company's revenues consist of fees derived from its Applications Outsourcing, e-Business, TeamSourcing and Business Process Outsourcing business segments. Net revenues in the three months ended March 31, 2006 increased to $63.5 million from $50.7 million in the three months ended March 31, 2005, representing a 25.2% increase. Revenues have increased primarily consequent to our increased workforce. Information technology offshoring is a growing trend with increasing numbers of multi-national corporations aggressively outsourcing their applications development or business processes to vendors with an offshore presence. Syntel has benefited from this trend. Also the Company's Client Partner Program has enabled better relationships with key customers leading to continued growth in business. Worldwide billable headcount, including personnel employed by Syntel India, Syntel Singapore, Syntel U.K., and Syntel Germany as of March 31, 2006 increased by 36% to 4,429 employees as compared to 3,267 employees as of March 31, 2005. However, the growth in revenues was not commensurate with the growth in the billable headcount. This is primarily because a significant growth in the billable headcount was in India, where our revenues per offshore billable resource are generally lower as compared to an on-site based resource. As of March 31, 2006, the Company had approximately 67.5% of its billable workforce in India as compared to 60.3% as of March 31, 2005. The Company's top five customers accounted for 50.2% of the total revenues in the three months ended March 31, 2006, up from 41.5% of its total revenues in the three months ended March 31, 2005. Moreover, the Company's top 10 customers accounted for 69.6% of the total revenues in the three months ended March 31, 2006 as compared to 62% in the three months ended March 31, 2005. APPLICATIONS OUTSOURCING REVENUES. Applications Outsourcing revenues increased to $46.3 million for the three months ended March 31, 2006, or 72.9% of total revenues, from $39.1 million, or 77.1% of total revenues for the three months ended March 31, 2005. The $7.2 million increase was attributable primarily to revenues from new engagements contributing $23.4 million largely offset by $16.2 million in lost revenues as a result of project completion and net reduction in revenues from existing projects. APPLICATIONS OUTSOURCING COST OF REVENUES. Cost of revenues consists of costs directly associated with billable consultants in the US and offshore, including salaries, payroll taxes, benefits, relocation costs, immigration costs, finder's fees, trainee compensation and travel. Applications Outsourcing costs of revenues increased to 60.0% of total Applications Outsourcing revenues for the three months ended March 31, 2006, from 56.3% for the three months ended March 31, 2005. The 3.7 percentage point increase in cost of revenues, as a percent of revenues for the three months ended March 31, 2006 was attributable primarily, due to onsite wage increase, cost related to FAS 123(R) and increased offshore headcount. E-BUSINESS REVENUES. e-Business revenues increased to $9.2 million for the three months ended March 31, 2006, or 14.4% of total revenues, from $6.9 million, or 13.5% of revenues for the three months ended March 31, 2005. The $2.3 million increase was attributable primarily to revenues from new engagements and net increase in revenues from existing projects contributing $3.8 million largely offset by $1.5 million in lost revenues as a result of project completion. E-BUSINESS COST OF REVENUES. e-Business cost of revenues consists of costs directly associated with billable consultants in the US and offshore, including salaries, payroll taxes, benefits, relocation costs, immigration costs, finder's fees, trainee compensation, and travel. e-Business cost of revenues increased to 73.8% of total e-Business revenues for the three months ended March 31, 2006, from 68.5% for the three months ended March 31, 2005. The 5.3 percentage point increase in cost of revenues as a percent of revenues for the three months ended March 31, 2006 is principally attributable to onsite wage increase, cost related to FAS 123(R) and lower utilization of the resources caused by increased hiring and training at offshore locations. TEAMSOURCING REVENUES. TeamSourcing revenues increased to $4.8 million for the three months ended March 31, 2006, or 7.5% of total revenues, from $3.7 million, or 7.3% of total revenues for the three months ended March 31, 2005. The $1.1 million increase was attributable primarily to revenues from new engagements and revenue from the SkillBay web portal which helps clients of Syntel with their supplemental staffing requirements contributing $2.6 million largely offset by $1.5 million in lost revenues as a result of project completion and net reduction in revenues from existing projects. 17 TEAMSOURCING COST OF REVENUES. TeamSourcing cost of revenues consists of costs directly associated with billable consultants in the US, including salaries, payroll taxes, benefits, relocation costs, immigration costs, finder's fees, trainee compensation, and travel. TeamSourcing cost of revenues decreased to 67.2% of TeamSourcing revenues for the three months ended March 31, 2006, from 72.8% for the three months ended March 31, 2005. This decrease in cost of revenues, as a percent of total TeamSourcing revenues was attributable primarily to the better utilization of TeamSourcing resources and by net revenues from Skillbay web portal placements. BPO REVENUES. This segment started contributing revenues during the first quarter of 2004. Revenues from this segment were $3.2 million or 5.1% of total revenues for the three months ended March 31, 2006 as against $1.1 million or 2.1% for the three months ended March 31, 2005. The $2.1 million increase in the three months period ended March 31, 2006 were primarily due to the increased billable headcount. BPO COST OF REVENUES. BPO cost of revenues consists of costs directly associated with billable consultants, including salaries, payroll taxes, benefits, finder's fees, trainee compensation, and travel. Cost of revenues for the three months ended March 31, 2006 increased to 42.8% of BPO revenues from 26.8% for the three months ended March 31, 2005. The 16.0% increase in cost of revenues, as a percent of total BPO revenues was attributable primarily to increased billable headcount. SELLING, GENERAL, AND ADMINISTRATIVE EXPENSES. Selling, general, and administrative expenses consist primarily of salaries, payroll taxes and benefits for sales, solutions, finance, administrative, and corporate staff; travel; telecommunications; business promotions; and marketing and various facility costs for the Company's global development centers and other offices. Selling, general, and administrative costs for the three months ended March 31, 2006 were $10.6 million or 16.7% of total revenues, compared to $11.2 million or 22.0% of total revenues for the three months ended March 31, 2005. Selling, general and administrative costs for the three months ended March 31, 2005 include an one time special performance based incentive program for sales teams of $0.4 million and compensation expense related to a special dividend of $1.50 per share on restricted stock held by employees of $0.1 million. Combined, these two items account for 1.0 of the 5.3 percentage point decrease in selling, general, and administrative expenses as a percentage of revenue. The remaining 4.3 percentage point decreases is primarily due to increases in revenue and decreases in certain costs in the three months ended March 31, 2006 as against the three months ended March 31, 2005. The increase in revenue has resulted in an approximately 4.2 percentage point decrease. Cost decreases include decreases in compensation cost of $1.1 million, legal expenses of $0.1 million, consultancy fees of $0.3 million and other fees of $0.2 million partially offset by an increase in depreciation of $0.2 million, rent of $0.3 million towards the BPO offices at the Hiranandani, Mumbai and the Pune facilities in India, an increase in travel expenses of $0.1 million, telecommunication expenses of $0.2 million and office expenses of $0.3 million, which has resulted in an approximately 0.1 percentage point decrease. INCOME TAXES The Company records provisions for income taxes based on enacted tax laws and rates in the various taxing jurisdictions in which it operates. In determining the tax provisions, the Company also provides for tax contingencies based on the Company's assessment of future regulatory reviews of filed tax returns. Such reserves, which are recorded in income taxes payable, are based on management's estimates and accordingly are subject to revision based on additional information. The provision for income tax contingencies no longer required for any particular tax year is credited to the current period's income tax expenses. During the three months ended March 31, 2006 and March 31, 2005, the effective income tax rate was 17.6% and 18.2% respectively. 18 LIQUIDITY AND CAPITAL RESOURCES The Company generally has financed its working capital needs through operations. The Company's cash and cash equivalents consist primarily of certificates of deposit, corporate bonds and treasury notes. These amounts are held by various banking institutions including US-based and India-based banks. Net cash used in operating activities was $2.2 million for the three months ended March 31, 2006. The net cash provided by operating activities was $6.7 million for the three months ended March 31, 2005. The number of days sales outstanding in net accounts receivable was approximately 62 days and 64 days as of March 31, 2006 and March 31, 2005, respectively. The decrease in the number of day's sales outstanding in net accounts receivable was due to relatively higher collections during the three months ended March 31, 2006. Net cash used in investing activities was $9.1 million for the three months ended March 31, 2006, consisting principally of $14.9 million for the purchase of short term investments and $3.2 million of capital expenditures consisting principally of capital work in progress, including capital advances towards construction of a Global Development Center at Pune, India, PCs and communications equipment, partially offset by the sale of short term investments of $9.0 million. Net cash provided by investing activities was $20.2 million for the three months ended March 31, 2005, consisting principally of $29.9 million for the sale of short term investments partially offset by $2.4 million for capital expenditures and the purchase of short term investments of $7.3 million. Net cash used in financing activities was $2.2 million for the three months ended March 31, 2006, consisting principally of $2.4 million in dividends paid out partially offset by $0.2 million of proceeds from the issuance of shares under the Company's employee stock option plan and employee stock purchase plan. Net cash used in financing activities was $62.1 million for the three months ended March 31, 2005, consisting principally of $63.5 million in dividends paid out and $0.7 million in common stock repurchases, partially offset by $2.1 million of proceeds from the issuance of shares under the Company's employee stock option plan and employee stock purchase plan. The Company has a line of credit with JP Morgan Chase Bank NA, which provides for borrowings up to $15.0 million. The line of credit has been renewed and amended and now expires on August 31, 2006. The line of credit has a sub-limit of $5.0 million for letters of credit, which bear a fee of 1% per annum of the face value of each standby letter of credit issued. Borrowings under the line of credit bear interest at (i) a formula approximating the Eurodollar rate plus the applicable margin of 1.25%, (ii) the bank's prime rate minus 1.0% or (iii) negotiated rate plus 1.25%. There were no outstanding borrowings at March 31, 2006 and 2005. The Company believes that the combination of present cash balances and future operating cash flows will be sufficient to meet the Company's currently anticipated cash requirements for at least the next 12 months. CRITICAL ACCOUNTING POLICIES We believe the following critical accounting policy, among others, affects the more significant judgments and estimates used in the preparation of our consolidated financial statements. The Company has discussed this critical accounting policy and the estimates with the Audit Committee of the Board of Directors. REVENUE RECOGNITION. Revenue recognition is the most significant accounting policy for the Company. The Company recognizes revenue from time and material contracts as services are performed. During the three months ended March 31, 2006 and 2005, revenues from time and material contracts constituted 56% and 45% of total revenues, respectively. Revenue from fixed-price, application management, maintenance and support engagements is recognized as earned, which generally results in straight-line revenue recognition as services are performed continuously over the term of the engagement. During the three months ended March 31, 2006 and 2005, revenues from fixed price application management and support engagements constituted 25% and 34% of total revenues, respectively. Revenue on fixed price development projects is measured using the proportional performance method of accounting. Performance is generally measured based upon the efforts incurred to date in relation to the total estimated efforts required through the completion of the contract. The Company monitors estimates of total contract revenues and cost on a routine basis throughout the delivery period. The cumulative impact of any change in estimates of the contract 19 revenues or costs is reflected in the period in which the changes become known. In the event that a loss is anticipated on a particular contract, provision is made for the estimated loss. The Company issues invoices related to fixed price contracts based on either the achievement of milestones during a project or other contractual terms. Differences between the timing of billings and the recognition of revenue based upon the proportional performance method of accounting are recorded as revenue earned in excess of billings or deferred revenue in the accompanying financial statements. During the three months ended March 31, 2006 and 2005, revenues from fixed price development contracts constituted 19% and 21% of total revenues, respectively. SIGNIFICANT ACCOUNTING ESTIMATES The preparation of the consolidated financial statements in conformity with generally accepted accounting principles in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the consolidated financial statements, and the reported amounts of revenues and expenses for the reporting period. By their nature, these estimates and judgments are subject to an inherent degree of uncertainty. The Company bases its estimates and judgments on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. Actual results could differ from those estimates. REVENUE RECOGNITION. The use of the proportional performance method of accounting requires that the Company makes estimates about its future efforts and costs relative to its fixed price contracts. While the Company has procedures in place to monitor the estimates throughout the performance period, such estimates are subject to change as each contract progresses. The cumulative impact of any such changes is reflected in the period in which the changes become known. ALLOWANCE FOR DOUBTFUL ACCOUNTS. The Company records an allowance for doubtful accounts based on a specific review of aged receivables. The provision for the allowance for doubtful accounts is recorded in selling, general and administrative expenses. These estimates are based on our assessment of the probable collection from specific customer accounts, the aging of the accounts receivable, analysis of credit data, bad debt write-offs, and other known factors. INCOME TAXES--ESTIMATES OF EFFECTIVE TAX RATES AND RESERVES FOR TAX CONTINGENCIES. The Company records provisions for income taxes based on enacted tax laws and rates in the various taxing jurisdictions in which it operates. In determining the tax provisions, the Company also provides for tax contingencies based on the Company's assessment of future regulatory reviews of filed tax returns. Such reserves, which are recorded in income taxes payable, are based on management's estimates and accordingly are subject to revision based on additional information. The provision no longer required for any particular tax year is credited to the current period's income tax expense. During the three months ended March 31, 2006 and March 31, 2005, the effective income tax rate was 17.6% and 18.2%, respectively. ACCRUALS FOR LEGAL EXPENSES AND EXPOSURES. The Company estimates the costs associated with known legal exposures and their related legal expenses and accrues reserves for either the probable liability, if that amount can be reasonably estimated, or otherwise the lower end of an estimated range of potential liability. FORWARD LOOKING STATEMENTS / RISK FACTORS Certain information and statements contained in Management's Discussion and Analysis of Financial Condition and Results of Operations and other sections of this report, including the allowance for doubtful accounts, contingencies and litigation, potential tax liabilities, interest rate or foreign currency risks, and projections regarding our liquidity and capital resources, could be construed as forward looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Forward-looking statements include statements containing words such as "could", "expects", "may", "anticipates", "believes", "estimates", "plans", and similar expressions. In addition, the Company or persons acting on its behalf may, from time to time, publish other forward looking statements. Such forward looking statements are based on management's estimates, assumptions and projections and are subject to risks and uncertainties that could cause actual results to differ materially from those discussed in the forward looking statements. Some of the factors that could cause future results to materially differ from the recent results or those projected in the forward looking statements include the 20 following, which factors are more fully discussed in the Company's most recently filed Annual Report on Form 10-K and other SEC filings, in each case under the section entitled "Risk Factors": - Recruitment and Retention of IT Professionals - Government Regulation of Immigration - Variability of Quarterly Operating Results - Customer Concentration; Risk of Termination - Exposure to Regulatory and General Economic Conditions in India - Intense Competition - Ability to Manage Growth - Fixed-Price Engagements - Potential Liability to Customers - Dependence on Key Personnel - Risks Related to Possible Acquisitions - Limited Intellectual Property Protection - Potential Anti-Outsourcing Legislation - Adverse Economic Conditions - Failure to Successfully Develop and Market New Products and Services - Benchmarking Provisions - Corporate Governance Issues - Telecom/Infrastructure Issues - Confidentiality Issues - New Facilities - Stock Option Accounting - Terrorist Activity, War or Natural Disasters - Instability and Currency Fluctuations The Company does not intend to update the forward looking statements or risk factors to reflect future events or circumstances. RECENT ACCOUNTING PRONOUNCEMENTS In May 2005, the FASB issued SFAS No. 154, "Accounting Changes and Error Corrections" ("SFAS No. 154"), which replaces APB Opinion No. 120, "Accounting Changes," and SFAS No. 3, "Reporting Accounting Changes in Interim Financial Statements." SFAS No. 154 changes the requirements for accounting and reporting a change in accounting principle, and applies to all voluntary changes in accounting principles, as well as changes required by an accounting pronouncement in the unusual instance it does not include specific transition provisions. Specifically, SFAS No. 154 requires retrospective application to prior periods' financial statements, unless it is impracticable to determine the period-specific effects or the cumulative effect of the change. When it is impracticable to determine the effects of the change, the new accounting principle must be applied to the balances of assets and liabilities as of the beginning of the earliest period for which retrospective application is practicable and a corresponding adjustment must be made to the opening balance of retained earnings for that period rather than being reported in an income statement. When it is impracticable to determine the cumulative effect of the change, the new principle must be applied as if it were adopted prospectively from the earliest date practicable. SFAS No. 154 is effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. SFAS No. 154 does not change the transition provisions of any existing pronouncements. The Company has evaluated the impact of SFAS No. 154 and does not expect the adoption of this statement to have a significant impact on its consolidated statement of income or financial condition. The Company will apply SFAS No. 154 in future periods, when applicable. 21 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. The Company is exposed to the impact of interest rate changes and foreign currency fluctuations. INTEREST RATE RISK The Company considers investments purchased with an original or remaining maturity of less than three months at date of purchase to be cash equivalents. The following table summarizes Company's cash and cash equivalents and short term investments:
MARCH 31, DECEMBER 31, ASSETS 2006 2005 - ------ --------- ------------ (in thousands) Cash and cash equivalents $ 85,880 $ 99,390 Short term Investments 27,303 21,083 -------- -------- TOTAL $113,183 $120,473 -------- --------
The Company's exposure to market rate risk for changes in interest rates relates primarily to its investment portfolio. The Company does not use derivative financial instruments in its investment portfolio. The Company's investments are in high-quality Indian Mutual Funds and, by policy, limit the amount of credit exposure to any one issuer. At any time, changes in interest rates could have an impact on interest earnings for its investment portfolio. The Company protects and preserves its invested funds by limiting default, market and reinvestment risk. Investments in interest earning instruments carry a degree of interest rate risk. Floating rate securities may produce less income than expected if there is a decline in interest rates. Due in part to these factors, the Company's future investment income may fall short of expectations, or the Company may suffer a loss in principal if the Company is forced to sell securities, which have declined in market value due to changes in interest rates as stated above. FOREIGN CURRENCY RISK The Company's sales are primarily sourced in the United States and its subsidiary in the United Kingdom and are mostly denominated in U.S. dollars or UK pounds respectively. Its foreign subsidiaries incur most of their expenses in the local currency. Accordingly, all foreign subsidiaries use the local currency as their functional currency. The Company's business is subject to risks typical of an international business, including, but not limited to differing economic conditions, changes in political climate, differing tax structures, other regulations and restrictions, and foreign exchange rate volatility. Accordingly, the Company's future results could be materially adversely impacted by changes in these or other factors. The risk is partially mitigated as the Company has sufficient resources in the respective local currencies to meet immediate requirements. The Company is also exposed to foreign exchange rate fluctuations as the financial results of foreign subsidiaries are translated into U.S. dollars in consolidation. As exchange rates vary, these results, when translated, may vary from expectations. During the three months ended March 31, 2006, the Indian rupee has appreciated, against U.S. dollar, by 2.2% as compared to the year ended December 31, 2005. The impact of this rupee appreciation adversely impacted the Company's gross margin by 41 basis points, operating income by 53 basis points and net income by 53 basis points, each as a percentage of revenue. The Indian rupee denominated cost of revenues and selling, general and administrative expense was 29.4% and 32.7%, respectively, which did not have a material impact on the operating results of the company. Although the Company cannot predict future movement in interest rates or fluctuations in foreign currency rates, the Company does not currently anticipate that interest rate risk or foreign currency risk will have a significant impact. 22 ITEM 4. CONTROLS AND PROCEDURES EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES. Based on their evaluation of the Company's disclosure controls and procedures as of March 31, 2006 as well as mirror certifications from senior management, the Company's Chairman, President and Chief Executive Officer and Chief Financial Officer have concluded that the Company's disclosure controls and procedures are designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Securities Exchange Act of 1934 (the Exchange Act) is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission's rules and forms and are operating in an effective manner. There have been no changes in the Company's internal controls over financial reporting (as defined in Rule 13a-15(f) under the Exchange Act) during the last quarter that materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting. DISCLOSURE CONTROLS AND INTERNAL CONTROLS. Disclosure Controls are procedures designed to ensure that information required to be disclosed in our reports filed under the Exchange Act, such as this Report, is recorded, processed, summarized and reported within the time periods specified in the U.S. Securities and Exchange Commission's (the SEC) rules and forms. Disclosure Controls are also designed to ensure that such information is accumulated and communicated to our management, including the CEO and CFO, as appropriate to allow timely decisions regarding required disclosure. Internal Controls are procedures designed to provide reasonable assurance that (1) our transactions are properly authorized; (2) our assets are safeguarded against unauthorized or improper use; and (3) our transactions are properly recorded and reported, all to permit the preparation of our financial statements in conformity with generally accepted accounting principles. LIMITATIONS ON THE EFFECTIVENESS OF CONTROLS. The Company's management, including the CEO and CFO, does not expect that our Disclosure Controls or our Internal Controls will prevent all error and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the control system's objectives will be met. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the company have been detected. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. The design of any system of controls is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Over time, controls may become inadequate because of changes in conditions or deterioration in the degree of compliance with its policies or procedures. SCOPE OF THE CONTROLS EVALUATION. In the course of the Controls Evaluation, we sought to identify data errors, control problems or acts of fraud and confirm that appropriate corrective actions, including process improvements, were being undertaken. Our Internal Controls are also evaluated on an ongoing basis by our Internal Audit Department and by other personnel in our organization. The overall goals of these various evaluation activities are to monitor our Disclosure Controls and our Internal Controls, and to modify them as necessary; our intent is to maintain the Disclosure Controls and the Internal Controls as dynamic systems that change as conditions warrant. Among other matters, we sought in our evaluation to determine whether there were any "significant deficiencies" or "material weaknesses" in the Company's Internal Controls, and whether the company had identified any acts of fraud involving personnel with a significant role in the Company's Internal Controls. This information was important both for the Controls Evaluation generally, and because the Rule 13a-14 Certifications of the CEO and CFO require that the CEO and CFO disclose that information to our Board's Audit Committee and our independent auditors. We also sought to deal with other controls matters in the Controls Evaluation, and in each case if a problem was identified, we considered what revision, improvement and/or correction to make in accordance with our ongoing procedures. CONCLUSIONS. Based upon the Controls Evaluation, our CEO and CFO have concluded that as of March 31, 2006 our disclosure controls and procedures are effective to ensure that material information relating to Syntel and its consolidated subsidiaries is made known to management, including the CEO and CFO, particularly during the period when our periodic reports are being prepared, and that our Internal Controls are effective to provide reasonable assurance that our financial statements are fairly presented in conformity with generally accepted accounting principles in the United States of America. 23 PART II OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS. While the Company is a party to ordinary routine litigation incidental to its business, the Company is not a party to any material pending legal proceedings. ITEM 1A. RISK FACTORS. There have been no material changes in the Company's risk factors as disclosed in the Company's annual report in Form 10-K for the year ended December 31, 2005. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS. None. ITEM 3. DEFAULTS UPON SENIOR SECURITIES. None. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. None. ITEM 5. OTHER INFORMATION. None. ITEM 6. EXHIBITS. Exhibits
Exhibit No. Description - ----------- ----------- 31.1 Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer. 31.2 Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer. 32 Section 1350 Certification of Chief Executive Officer and Chief Financial Officer.
24 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. SYNTEL, INC. Date May 9, 2006 /s/ Bharat Desai ---------------------------------------- Bharat Desai, Chairman, President and Chief Executive Officer Date May 9, 2006 /s/ Revathy Ashok --------------------------------------- Revathy Ashok, Chief Financial Officer 25 EXHIBIT INDEX
Exhibit No. Description - ----------- ----------- 31.1 Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer. 31.2 Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer. 32 Section 1350 Certification of Chief Executive Officer and Chief Financial Officer.
26 EX-31.1 2 k05050exv31w1.txt RULE 13A-14(A)/15D-14(A) CERTIFICATION OF CHIEF EXECUTIVE OFFICER EXHIBIT 31.1 CERTIFICATIONS I, Bharat Desai, Chairman, President, and Chief Executive Officer of Syntel, Inc., certify that: 1. I have reviewed this quarterly report on Form 10-Q of Syntel, Inc.; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and d) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date May 9, 2006 /s/ Bharat Desai - ---------------------------------- Bharat Desai, Chairman, President, and Chief Executive Officer 27 EX-31.2 3 k05050exv31w2.txt RULE 13A-14(A)/15D-14(A) CERTIFICATION OF CHIEF FINANCIAL OFFICER EXHIBIT 31.2 CERTIFICATIONS I, Revathy Ashok, Chief Financial Officer of Syntel, Inc., certify that: 1. I have reviewed this quarterly report on Form 10-Q of Syntel, Inc.; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; b) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and d) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date May 9, 2006 /s/ Revathy Ashok - -------------------------------------- Revathy Ashok, Chief Financial Officer 28 EX-32 4 k05050exv32.txt SECTION 1350 CERTIFICATION OF CEO AND CFO EXHIBIT 32 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the Quarterly Report of Syntel, Inc. (the "Company") on Form 10-Q for the period ending March 31, 2006 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), we, Bharat Desai, Chairman, President, and Chief Executive Officer of the Company and Revathy Ashok, Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: (1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) The information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Company. /s/ Bharat Desai - ------------------------------------- Bharat Desai Syntel, Inc. Chairman, President, and Chief Executive Officer May 9, 2006 /s/ Revathy Ashok - ------------------------------------- Revathy Ashok Syntel, Inc. Chief Financial Officer May 9, 2006 29 -----END PRIVACY-ENHANCED MESSAGE-----