Company Quick10K Filing
Quick10K
Tetra Tech
Closing Price ($) Shares Out (MM) Market Cap ($MM)
$59.79 55 $3,300
10-Q 2018-12-30 Quarter: 2018-12-30
10-K 2018-09-30 Annual: 2018-09-30
10-Q 2018-07-01 Quarter: 2018-07-01
10-Q 2018-04-01 Quarter: 2018-04-01
10-Q 2017-12-31 Quarter: 2017-12-31
10-K 2017-10-01 Annual: 2017-10-01
10-Q 2017-07-02 Quarter: 2017-07-02
10-Q 2017-04-02 Quarter: 2017-04-02
10-Q 2017-01-01 Quarter: 2017-01-01
10-K 2016-10-02 Annual: 2016-10-02
10-Q 2016-06-26 Quarter: 2016-06-26
10-Q 2016-03-27 Quarter: 2016-03-27
10-Q 2015-12-27 Quarter: 2015-12-27
8-K 2019-01-30 Earnings, Other Events, Exhibits
8-K 2018-11-07 Earnings, Officers, Other Events, Exhibits
8-K 2018-07-30 Enter Agreement, Earnings, Shareholder Rights, Officers, Other Events, Exhibits
8-K 2018-05-02 Earnings, Other Events, Exhibits
8-K 2018-03-08 Officers, Shareholder Vote, Exhibits
8-K 2018-01-31 Earnings, Other Events, Exhibits
8-K 2018-01-22 Officers, Other Events
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KTOS Kratos Defense & Security Solutions
ATRO Astronics
GLDD Great Lakes Dredge & Dock
MG Mistras Group
GRAM Grana & Montero
HIL Hill International
TTEK 2018-12-30
Part I. Financial Information
Item 1. Financial Statements
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Item 4. Controls and Procedures
Part II. Other Information
Item 1. Legal Proceedings
Item 1A. Risk Factors
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Item 4. Mine Safety Disclosure
Item 6. Exhibits
EX-31.1 ttekex311q12019.htm
EX-31.2 ttekex312q12019.htm
EX-32.1 ttekex321q12019.htm
EX-32.2 ttekex322q12019.htm
EX-95 ttekex95q12019.htm

Tetra Tech Earnings 2018-12-30

TTEK 10Q Quarterly Report

Balance SheetIncome StatementCash Flow

10-Q 1 tt10-qfy19q1document.htm 10-Q Document

 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C.  20549
  
FORM 10-Q
 
(Mark One)
ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 For the quarterly period ended December 30, 2018

OR
o

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 0-19655
  
TETRA TECH, INC.
(Exact name of registrant as specified in its charter)
Delaware
 
95-4148514
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification Number)
 
3475 East Foothill Boulevard, Pasadena, California  91107
(Address of principal executive offices)  (Zip Code)
 
(626) 351-4664
(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  ý   No  o
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes  ý   No  o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. 
Large accelerated filer  x
Accelerated filer  o
Non-accelerated filer  o
Smaller reporting company  o
Emerging growth company  o
 
 
 
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes  o   No  ý
 As of January 25, 2019, 55,212,700 shares of the registrant’s common stock were outstanding.

 



TETRA TECH, INC.
 
INDEX
 
PAGE NO.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

2



PART I.                                                  FINANCIAL INFORMATION

Item 1.                                 Financial Statements
 
Tetra Tech, Inc.
Consolidated Balance Sheets
(unaudited - in thousands, except par value)
ASSETS
December 30,
2018
 
September 30,
2018
Current assets:
 

 
 

Cash and cash equivalents
$
66,502

 
$
146,185

Accounts receivable – net
685,669

 
694,221

Contract assets
126,545

 
142,882

Prepaid expenses and other current assets
62,641

 
56,003

Income taxes receivable
10,185

 
11,089

Total current assets
951,542

 
1,050,380

 
 
 
 
Property and equipment – net
41,795

 
43,278

Investments in unconsolidated joint ventures
2,904

 
3,370

Goodwill
782,564

 
798,820

Intangible assets – net
11,984

 
16,123

Deferred tax assets
8,448

 
8,607

Other long-term assets
35,652

 
38,843

Total assets
$
1,834,889

 
$
1,959,421

 
 
 
 
LIABILITIES AND EQUITY
 

 
 

Current liabilities:
 

 
 

Accounts payable
$
119,363

 
$
160,222

Accrued compensation
111,196

 
180,153

Contract liabilities
155,585

 
143,270

Income taxes payable
17,349

 
8,272

Current portion of long-term debt
12,573

 
12,599

Current contingent earn-out liabilities
14,227

 
13,633

Other current liabilities
101,673

 
99,944

Total current liabilities
531,966

 
618,093

 
 
 
 
Deferred tax liabilities
27,331

 
30,166

Long-term debt
247,581

 
264,712

Long-term contingent earn-out liabilities
14,804

 
21,657

Other long-term liabilities
58,904

 
57,693

 
 
 
 
Commitments and contingencies (Note 16)


 


 
 
 
 
Equity:
 

 
 

Preferred stock - authorized, 2,000 shares of $0.01 par value; no shares issued and outstanding at December 30, 2018 and September 30, 2018

 

Common stock - authorized, 150,000 shares of $0.01 par value; issued and outstanding, 55,326 and 55,349 shares at December 30, 2018 and September 30, 2018, respectively
553

 
553

Additional paid-in capital
130,753

 
148,803

Accumulated other comprehensive loss
(154,693
)
 
(127,350
)
Retained earnings
977,543

 
944,965

Tetra Tech stockholders’ equity
954,156

 
966,971

Noncontrolling interests
147

 
129

Total stockholders' equity
954,303

 
967,100

Total liabilities and stockholders' equity
$
1,834,889

 
$
1,959,421

See Notes to Consolidated Financial Statements.

3



Tetra Tech, Inc.
Consolidated Statements of Income
(unaudited – in thousands, except per share data)
 
 
Three Months Ended
 
December 30,
2018
 
December 31,
2017
Revenue
$
717,431

 
$
759,749

Subcontractor costs
(164,067
)
 
(214,902
)
Other costs of revenue
(454,680
)
 
(450,702
)
Gross profit
98,684

 
94,145

Selling, general and administrative expenses
(42,973
)
 
(45,556
)
Income from operations
55,711

 
48,589

Interest expense
(2,897
)
 
(3,160
)
Income before income tax (expense) benefit
52,814

 
45,429

Income tax (expense) benefit
(10,782
)
 
623

Net income
42,032

 
46,052

Net income attributable to noncontrolling interests
(35
)
 
(18
)
Net income attributable to Tetra Tech
$
41,997

 
$
46,034

Earnings per share attributable to Tetra Tech:
 

 
 

Basic
$
0.76

 
$
0.82

Diluted
$
0.75

 
$
0.81

Weighted-average common shares outstanding:
 

 
 

Basic
55,390

 
55,855

Diluted
56,366

 
56,875

 
 
 
 
Cash dividends paid per share
$
0.12

 
$
0.10

 
See Notes to Consolidated Financial Statements.


4



Tetra Tech, Inc.
Consolidated Statements of Comprehensive Income
(unaudited – in thousands)
 
 
Three Months Ended
 
December 30,
2018
 
December 31,
2017
Net income
$
42,032

 
$
46,052

 
 
 
 
Other comprehensive income, net of tax
 
 
 
Foreign currency translation adjustments
(23,334
)
 
(3,467
)
(Loss) gain on cash flow hedge valuations
(4,009
)
 
66

Other comprehensive loss attributable to Tetra Tech
(27,343
)
 
(3,401
)
Other comprehensive income (loss) attributable to noncontrolling interests
237

 
(2
)
Comprehensive income
$
14,926

 
$
42,649

 
 
 
 
Comprehensive income attributable to Tetra Tech
$
14,654

 
$
42,633

Comprehensive income attributable to noncontrolling interests
272

 
16

Comprehensive income
$
14,926

 
$
42,649

 
See Notes to Consolidated Financial Statements.


5



Tetra Tech, Inc.
Consolidated Statements of Cash Flows
(unaudited – in thousands)
 
Three Months Ended
 
December 30,
2018
 
December 31,
2017
Cash flows from operating activities:
 

 
 

Net income
$
42,032

 
$
46,052

Adjustments to reconcile net income to net cash used in operating activities:
 

 
 

Depreciation and amortization
8,274

 
9,983

Equity in income of unconsolidated joint ventures, net of distributions
421

 
282

Amortization of stock-based awards
4,530

 
3,970

Deferred income taxes
(1,424
)
 
(10,100
)
Provision for doubtful accounts
3,073

 
2,524

Gain on sale of property and equipment
(104
)
 
(411
)
Changes in operating assets and liabilities, net of effects of business acquisitions:
 

 
 

Accounts receivable and contract assets
14,528

 
(36,011
)
Prepaid expenses and other assets
(3,936
)
 
(16,321
)
Accounts payable
(40,859
)
 
(35,169
)
Accrued compensation
(68,957
)
 
(42,575
)
Contract liabilities
6,090

 
12,330

Other liabilities
9,015

 
(162
)
Income taxes receivable/payable
12,015

 
7,926

Net cash used in operating activities
(15,302
)
 
(57,682
)
 
 
 
 
Cash flows from investing activities:
 

 
 

Payments for business acquisitions, net of cash acquired

 
(18,294
)
Capital expenditures
(3,853
)
 
(2,143
)
Proceeds from sale of property and equipment
115

 
710

Net cash used in investing activities
(3,738
)
 
(19,727
)
 
 
 
 
Cash flows from financing activities:
 

 
 

Proceeds from borrowings
45,727

 
120,026

Repayments on long-term debt
(62,668
)
 
(25,026
)
Repurchases of common stock
(25,000
)
 
(25,000
)
Taxes paid on vested restricted stock
(6,740
)
 
(8,812
)
Stock options exercised
2,314

 
5,584

Dividends paid
(6,654
)
 
(5,589
)
Payment of contingent earn-out liabilities
(6,000
)
 

Net cash (used in) provided by financing activities
(59,021
)
 
61,183

 
 
 
 
Effect of exchange rate changes on cash, cash equivalents and restricted cash
(1,626
)
 
(725
)
 
 
 
 
Net decrease in cash, cash equivalents and restricted cash
(79,687
)
 
(16,951
)
Cash, cash equivalents and restricted cash at beginning of period
148,884

 
192,690

Cash, cash equivalents and restricted cash at end of period
$
69,197

 
$
175,739

 
 
 
 
Supplemental information:
 

 
 

Cash paid during the period for:
 

 
 

Interest
$
2,229

 
$
2,913

Income taxes, net of refunds received of $0.6 million and $0.1 million
$
2,231

 
$
1,794

 
 
 
 
Reconciliation of cash, cash equivalents and restricted cash:
 
 
 
Cash and cash equivalents
$
66,502

 
$
173,025

Restricted cash
2,695

 
2,714

Total cash, cash equivalents and restricted cash
$
69,197

 
$
175,739

See Notes to Consolidated Financial Statements.

6



TETRA TECH, INC.
Notes to Consolidated Financial Statements
 
1.                                      Basis of Presentation
 
The accompanying unaudited interim consolidated financial statements and related notes of Tetra Tech, Inc. (“we,” “us” , “our” or "Tetra Tech") have been prepared in accordance with generally accepted accounting principles in the United States of America (“U.S. GAAP”) for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. They do not include all of the information and footnotes required by U.S. GAAP for complete financial statements and, therefore, should be read in conjunction with the audited consolidated financial statements and related notes contained in our Annual Report on Form 10-K for the fiscal year ended September 30, 2018.

These financial statements reflect all normal recurring adjustments that are considered necessary for a fair statement of our financial position, results of operations and cash flows for the interim periods presented. The results of operations and cash flows for any interim period are not necessarily indicative of results for the full year or for future years. Certain reclassifications were made to the prior year to conform to current year presentation.

In May 2014, the Financial Accounting Standards Board (“FASB”) issued ASU 2014-09 ("ASC 606"), "Revenue from Contracts with Customers", which outlines a single comprehensive model for entities to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry-specific guidance. The guidance and the related ASUs were effective for interim and annual reporting periods beginning after December 15, 2017 (first quarter of fiscal 2019 for us). On October 1, 2018, we adopted ASC 606 using the modified retrospective method in which the new guidance was applied retrospectively to contracts that were not substantially completed as of the date of adoption. Results for the reporting period beginning after October 1, 2018 have been presented under ASC 606, while prior period amounts have not been adjusted and continue to be reported in accordance with the previous guidance. See Note 3, "Revenue Recognition" for further discussion of the adoption and the impact on our consolidated financial statements.

2.                                   Recent Accounting Pronouncements

Recently Adopted Accounting Standards

In January 2016, the FASB issued guidance that generally requires companies to measure investments in other entities, except those accounted for under the equity method, at fair value and recognize any changes in fair value in net income. The guidance was effective for fiscal years and interim periods within those fiscal years, beginning after December 15, 2017 (first quarter of fiscal 2019 for us). The adoption of this guidance had no impact on our consolidated financial statements.

In March 2016, the FASB issued updated guidance which requires excess tax benefits and deficiencies on share-based payments to be recorded as income tax expense or benefit in the income statement rather than being recorded in additional paid-in capital. It also requires the presentation of employee taxes as financing activities on consolidated statements of cash flows, which was previously classified as operating activities. This guidance is effective for annual and interim periods beginning after December 15, 2016 (first quarter of fiscal 2018 for us), with early adoption permitted. In the first quarter of fiscal 2017, we adopted this guidance. In the first quarter of fiscal 2019, we revised the presentation of "Net cash used in operating activities" and "Net cash (used in) provided by financing activities" in the consolidated statement of cash flows for the period ended December 31, 2017 to correct the presentation of “Taxes paid on vested restricted stock” and appropriately reflect such amounts as financing activities. The correction resulted in a decrease of “Net cash used in operating activities” of $8.8 million and a decrease of “Net cash (used in) provided by financing activities” of $8.8 million. We assessed the materiality of these errors on our consolidated financial statements for prior periods and concluded that the amounts were not material to any prior interim or annual periods. We elected to revise the presentation for comparability purposes.

In August 2016, the FASB issued guidance to address eight specific cash flow issues to reduce the existing diversity in practice in how certain cash receipts and cash payments are presented and classified in the statement of cash flows. The guidance was effective for fiscal years and interim periods within those fiscal years, beginning after December 15, 2017 (first quarter of fiscal 2019 for us). The adoption of this guidance had no material impact on our consolidated financial statements.

In October 2016, the FASB issued updated guidance which requires entities to recognize the income tax consequences of an intra-entity transfer of an asset other than inventory when the transfer occurs. The guidance was effective for fiscal reporting periods and interim reporting periods within those fiscal reporting periods, beginning after December 15, 2017 (first quarter of fiscal 2019 for us). The adoption of this guidance had no material impact on our consolidated financial statements.

7




In November 2016, the FASB issued updated guidance which provides amendments to address the classification and presentation of changes in restricted cash in the statement of cash flows. The guidance was effective for fiscal years and interim periods within those fiscal years, beginning after December 15, 2017 (first quarter of fiscal 2019 for us). The adoption of this guidance had no material impact on our consolidated financial statements. In addition, captions in our consolidated statements of cash flows have been updated to include restricted cash, which is reported in our "Prepaid expenses and other current assets" on the consolidated balance sheets.

In January 2017, the FASB issued updated guidance to simplify the test for goodwill impairment. The guidance eliminates step two from the goodwill impairment test. Under the updated guidance, an entity should recognize an impairment charge for the amount by which the carrying amount of a reporting unit exceeds its fair value; however, the loss recognized should not exceed the total amount of goodwill allocated to the reporting unit. This guidance is effective for annual or any interim goodwill impairment tests in fiscal years beginning after December 15, 2019 (first quarter of fiscal 2021 for us), on a prospective basis. Earlier adoption is permitted for goodwill impairment tests performed on testing dates after January 1, 2017. We adopted this guidance in the first quarter of our fiscal 2018, and the adoption of this guidance had no impact on our consolidated financial statements.

In May 2017, the FASB issued updated guidance to clarify when changes to the terms or conditions of a share-based payment award must be accounted for as modifications. Under the updated guidance, modification accounting is required only if the fair value, the vesting conditions, or the classification of the award changes as a result of a change in terms or conditions. The guidance was effective for fiscal years and interim periods within those fiscal years, beginning after December 15, 2017 (first quarter of fiscal 2019 for us), on a prospective basis. The adoption of this guidance had no impact on our consolidated financial statements.
   
Recently Issued Accounting Standards Not Yet Adopted

In February 2016, the FASB issued guidance that requires the rights and obligations associated with leasing arrangements be reflected on the balance sheet in order to increase transparency and comparability among organizations. Under the guidance, lessees will be required to recognize a right-of-use asset and a liability to make lease payments and disclose key information about leasing arrangements. The guidance is effective for fiscal years and interim periods within those fiscal years, beginning after December 15, 2018 (first quarter of fiscal 2020 for us). Early adoption is permitted. While we are currently evaluating the impact that this guidance will have on our consolidated financial statements, we currently expect that the adoption of the new guidance will result in a significant increase in the assets and liabilities on our consolidated balance sheets and will likely have an immaterial impact on our consolidated statements of income and cash flows.

In June 2016, the FASB issued updated guidance which requires entities to estimate all expected credit losses for certain types of financial instruments, including trade receivables, held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. The updated guidance also expands the disclosure requirements to enable users of financial statements to understand the entity’s assumptions, models and methods for estimating expected credit losses. This guidance is effective for fiscal years and interim periods within those fiscal years, beginning after December 15, 2019 (first quarter of fiscal 2021 for us). Early adoption is permitted. We are currently evaluating the impact that this guidance will have on our consolidated financial statements.

In August 2017, the FASB issued accounting guidance on hedging activities. The amendment better aligns an entity’s risk management activities and financial reporting for hedging relationships through changes to both the designation and measurement guidance for qualifying hedging relationships and the presentation of hedge results. The guidance is effective for fiscal years and interim periods within those fiscal years, beginning after December 15, 2018 (first quarter of fiscal 2020 for us). Early adoption is permitted. We are currently evaluating the impact that this guidance will have on our consolidated financial statements.

In February 2018, the FASB issued guidance on reclassification of certain tax effects from accumulated comprehensive income, which allows for a reclassification of stranded tax effects from the Tax Cuts and Jobs Act ("TCJA") from accumulated other comprehensive income to retained earnings. The guidance is effective for fiscal years beginning after December 15, 2018 (first quarter of fiscal 2020 for us). We are currently evaluating the impact that this guidance will have on our consolidated financial statements.

3.                                   Revenue Recognition

On October 1, 2018, we adopted ASC 606, which supersedes most current revenue recognition guidance, including industry-specific guidance. We adopted the standard on a modified retrospective basis which results in no restatement of the

8



comparative periods presented and a cumulative effect adjustment to retained earnings as of the date of adoption. As part of our adoption, the new standard was applied only to those contracts that were not substantially completed as of the date of adoption.

To determine the proper revenue recognition method for contracts under ASC 606, we evaluate whether multiple contracts should be combined and accounted for as a single contract and whether the combined or single contract should be accounted for as having more than one performance obligation. The decision to combine a group of contracts or separate a combined or single contract into multiple performance obligations may impact the amount of revenue recorded in a given period. Contracts are considered to have a single performance obligation if the promises are not separately identifiable from other promises in the contracts.

At contract inception, we assess the goods or services promised in a contract and identify, as a separate performance obligation, each distinct promise to transfer goods or services to the customer. The identified performance obligations represent the “unit of account” for purposes of determining revenue recognition. In order to properly identify separate performance obligations, we apply judgment in determining whether each good or service provided is: (a) capable of being distinct, whereby the customer can benefit from the good or service either on its own or together with other resources that are readily available to the customer, and (b) distinct within the context of the contract, whereby the transfer of the good or service to the customer is separately identifiable from other promises in the contract.

Contracts are often modified to account for changes in contract specifications and requirements. We consider contract modifications to exist when the modification either creates new or changes the existing enforceable rights and obligations. Most of our contract modifications are for goods or services that are not distinct from existing contracts due to the significant integration provided or significant interdependencies in the context of the contract and are accounted for as if they were part of the original contract. The effect of a contract modification on the transaction price and our measure of progress for the performance obligation to which it relates, is recognized as an adjustment to revenue (either as an increase in or a reduction of revenue) on a cumulative catch-up basis.
 
We account for contract modifications as a separate contract when the modification results in the promise to deliver additional goods or services that are distinct and the increase in price of the contract is for the same amount as the stand-alone selling price of the additional goods or services included in the modification.

The transaction price represents the amount of consideration to which we expect to be entitled in exchange for transferring promised goods or services to our customers. The consideration promised within a contract may include fixed amounts, variable amounts, or both. The nature of our contracts gives rise to several types of variable consideration, including claims, award fee incentives, fiscal funding clauses, and liquidated damages. We recognize revenue for variable consideration when it is probable that a significant reversal in the amount of cumulative revenue recognized for the contract will not occur. We estimate the amount of revenue to be recognized on variable consideration using either the expected value or the most likely amount method, whichever is expected to better predict the amount of consideration to be received. Project mobilization costs are generally charged to project costs as incurred when they are an integrated part of the performance obligation being transferred to the client.

Claims are amounts in excess of agreed contract prices that we seek to collect from our clients or other third parties for delays, errors in specifications and designs, contract terminations, change orders in dispute or unapproved as to both scope and price, or other causes of unanticipated additional costs. Revenue on claims is recognized only to the extent that contract costs related to the claims have been incurred and when it is probable that any significant revenue recognized related to the claim will not be reversed. Factors considered in determining whether revenue associated with claims (including change orders in dispute and unapproved change orders in regard to both scope and price) should be recognized include the following: (a) the contract or other evidence provides a legal basis for the claim, (b) additional costs were caused by circumstances that were unforeseen at the contract date and not the result of deficiencies in our performance, (c) claim-related costs are identifiable and considered reasonable in view of the work performed, and (d) evidence supporting the claim is objective and verifiable. This can lead to a situation in which costs are recognized in one period and revenue is recognized in a subsequent period when a client agreement is obtained or a claims resolution occurs. In some cases, contract retentions are withheld by clients until certain conditions are met or the project is completed, which may be several months or years. In these cases, we have not identified a significant financing component under ASC 606 as the timing difference in payment compared to delivery of obligations under the contract is not for purposes of financing.

For contracts with multiple performance obligations, we allocate the transaction price to each performance obligation using a best estimate of the standalone selling price of each distinct good or service in the contract. The standalone selling price is typically determined using the estimated cost of the contract plus a margin approach. For contracts containing variable consideration, we allocate the variability to a specific performance obligation within the contract if such variability relates

9



specifically to our efforts to satisfy the performance obligation or transfer the distinct good or service, and the allocation depicts the amount of consideration to which we expect to be entitled.

We recognize revenue over time as the related performance obligation is satisfied by transferring control of a promised good or service to our customers. Progress toward complete satisfaction of the performance obligation is primarily measured using a cost-to-cost input percentage-of-completion method. The cost input is based primarily on contract cost incurred to date compared to total estimated contract cost. This measure includes forecasts based on the best information available and reflects our judgment to faithfully depict the value of the services transferred to the customer. For certain on-call engineering or consulting and similar contracts, we recognize revenue in the amount which we have the right to invoice the customer if that amount corresponds directly with the value of our performance completed to date.

Due to uncertainties inherent in the estimation process, it is possible that estimates of costs to complete a performance obligation will be revised in the near-term. For those performance obligations for which revenue is recognized using a cost-to-cost input method, changes in total estimated costs, and related progress towards complete satisfaction of the performance obligation, are recognized on a cumulative catch-up basis in the period in which the revisions to the estimates are made. When the current estimate of total costs for a performance obligation indicate a loss, a provision for the entire estimated loss on the unsatisfied performance obligation is made in the period in which the loss becomes evident.

Contract Types

Our services are performed under three principal types of contracts: fixed-price, time-and-materials and cost-plus. Customer payments on contracts are typically due within 60 days of billing, depending on the contract.

Fixed-Price. Under fixed-price contracts, clients pay us an agreed fixed-amount negotiated in advance for a specified scope of work.

Time-and-Materials. Under time-and-materials contracts, we negotiate hourly billing rates and charge our clients based on the actual time that we spend on a project. In addition, clients reimburse us for our actual out-of-pocket costs for materials and other direct incidental expenditures that we incur in connection with our performance under the contract. The majority of our time-and-material contracts are subject to maximum contract values, and also may include annual billing rate adjustment provisions.

Cost-Plus. Under cost-plus contracts, we are reimbursed for allowed or otherwise defined costs incurred plus a negotiated fee. The contracts may also include incentives for various performance criteria, including quality, timeliness, ingenuity, safety and cost-effectiveness. In addition, our costs are generally subject to review by our clients and regulatory audit agencies, and such reviews could result in costs being disputed as non-reimbursable under the terms of the contract.     

Adoption

Upon adoption on October 1, 2018, under the modified retrospective method, we recorded a cumulative effect adjustment to decrease retained earnings by $2.8 million on October 1, 2018, as well as the following cumulative effect adjustments:

An decrease to contract assets of $5.0 million
An decrease to contract liabilities of $1.1 million
An increase to deferred tax assets of $1.1 million

The decrease in retained earnings primarily resulted from a change in the manner in which we determine the unit of account for projects (i.e. performance obligations). Under previous guidance, we typically accounted for a contract as a single unit of revenue recognition. Upon adoption of ASC 606, we assess the nature of the promises in the contract and recognize revenue based on performance obligations within the respective contract or combined contract.


10



The following table presents how the adoption of ASC 606 affected certain line items in our consolidated statement of income for the three months ended December 30, 2018:
 
Recognition Under Previous Guidance
 
Impact of the Adoption of ASC 606
 
Recognition Under ASC 606
 
(in thousands)
Revenue
$
715,228

 
$
2,203

 
$
717,431

Income from operations
53,508

 
2,203

 
55,711

Income tax expense
10,257

 
525

 
10,782

Net income attributable to Tetra Tech
40,319

 
1,678

 
41,997


The following table presents how the adoption of ASC 606 affected certain line items in our consolidated balance sheet as of December 30, 2018:
 
Recognition Under Previous Guidance
 
Impact of the Adoption of ASC 606
 
Recognition Under ASC 606
 
(in thousands)
Assets
 
 
 
 
 
Contract assets (1)
$
131,885

 
$
(5,340
)
 
$
126,545

Deferred tax assets
7,328

 
1,120

 
8,448

 
 
 
 
 
 
Liabilities and equity
 
 
 
 
 
Contract liabilities (2)
$
158,519

 
$
(2,934
)
 
$
155,585

Income taxes payable
16,824

 
525

 
17,349

 
 
 
 
 
 
Equity (3)
 
 
 
 
 
Retained earnings
$
978,632

 
$
(1,089
)
 
$
977,543

 
 
 
 
 
 
(1) Previously included in "Account receivable - net".
(2) Previously presented as "Billings in excess of costs on uncompleted contracts".
(3) Includes $2.8 million of cumulative catch-up adjustment to retained earnings on October 1, 2018 upon adoption of ASC 606.

The following table presents how the adoption of ASC 606 affected certain line items in our consolidated statement of cash flows for the three months ended December 30, 2018:
 
Recognition Under Previous Guidance
 
Impact of the Adoption of ASC 606
 
Recognition Under ASC 606
 
(in thousands)
Cash flows from operating activities:
 
 
 
 
 
Net income
$
40,354

 
$
1,678

 
$
42,032

Accounts receivable and contract assets
7,574

 
6,954

 
14,528

Contract liabilities
15,248

 
(9,158
)
 
6,090

Income taxes receivable/payable
11,489

 
526

 
12,015

Net cash used in operating activities
(15,302
)
 

 
(15,302
)

Contract Assets and Contract Liabilities


11



We invoice customers based on the contractual terms of each contract. However, the timing of revenue recognition may differ from the timing of invoice issuance.

As part of the adoption of ASC 606, contract assets have been bifurcated from billed and unbilled receivables. Contract assets represent revenue recognized in excess of the amounts for which we have the contractual right to bill our customers. Such amounts are recoverable from customers based upon various measures of performance, including achievement of certain milestones or completion of a contract. In addition, many of our time and materials arrangements, are billed in arrears pursuant to contract terms that are standard within the industry, resulting in contract assets and/or unbilled receivables being recorded, as revenue is recognized in advance of billings.

Contract liabilities consist of billings in excess of revenue recognized. Contract liabilities decrease as we recognize revenue from the satisfaction of the related performance obligation and increase as billings in advance of revenue recognition occur. Contract assets and liabilities are reported in a net position on a contract-by-contract basis at the end of each reporting period. There were no substantial non-current contract assets or liabilities for the periods presented. Net contract liabilities/assets consisted of the following:
 
Balance at
 
December 30, 2018
 
September 30, 2018
 
(in thousands)
Contract assets
$
126,545

 
$
142,882

Contract liabilities
155,585

 
143,270

Net contract liabilities
29,040

 
388


We recognized $56.2 million of revenue during the first quarter of fiscal 2019 that was included in contract liabilities as of September 30, 2018. The amount of revenue recognized from changes in transaction price associated with performance obligations satisfied in prior periods during the first quarter of fiscal 2019 was not material. The change in transaction price primarily relates to reimbursement of costs incurred in prior periods.

We recognize revenue from contracts using the percentage-of-completion method, primarily utilizing the cost-to-cost approach, to estimate the progress towards completion in order to determine the amount of revenue and profit to recognize. Changes in those estimates could result in the recognition of cumulative catch-up adjustments to the contract’s inception-to-date revenue, costs and profit in the period in which such changes are made. As a result, we recognized net unfavorable operating income adjustments of $0.4 million for the first quarter of fiscal 2019 compared to net unfavorable operating income adjustments of $0.7 million during the first quarter of fiscal 2018 in the Commercial/International Services Group ("CIG") segment. Changes in revenue and cost estimates could also result in a projected loss, determined at the contract level, which would be recorded immediately in earnings. As of December 30, 2018 and September 30, 2018, our consolidated balance sheets included liabilities for anticipated losses of $13.3 million and $13.6 million, respectively. The estimated cost to complete the related contracts as of December 30, 2018 was $18.4 million.

Disaggregation of Revenue

We disaggregate revenue by client sector and contract type, as we believe it best depicts how the nature, timing, and uncertainty of revenue and cash flows are affected by economic factors. The following tables provide information about disaggregated revenue and a reconciliation of the disaggregated revenue:


12



 
Three Months Ended
 
December 30,
2018
 
December 31,
2017
 
(in thousands)
Client Sector
 

 
 

U.S. state and local government
$
123,280

 
$
151,754

U.S. federal government (1)
224,757

 
236,249

U.S. commercial
172,788

 
206,786

International (2)
196,606

 
164,960

Total
$
717,431

 
$
759,749

 
 
 
 
(1)     Includes revenue generated under U.S. federal government contracts performed outside the United States.
(2)     Includes revenue generated from foreign operations, primarily in Canada and Australia, and revenue generated from non-U.S. clients.

Other than the U.S. federal government, no single client accounted for more than 10% of our revenue for the three months ended December 30, 2018 and December 31, 2017.
 
Three Months Ended
 
December 30, 2018
 
December 31, 2017
 
 
 
Contract Type
 
 
 
 
Fixed-price
$
240,933

 
$
235,420

 
Time-and-materials
336,537

 
376,773

 
Cost-plus
139,961

 
147,556

 
Total revenue
$
717,431

 
$
759,749

 

Remaining Unsatisfied Performance Obligations (“RUPOs”)

Our RUPOs represent a measure of the total dollar value of work to be performed on contracts awarded and in progress. We had $2.77 billion of RUPOs as of December 30, 2018. RUPOs increase with awards from new contracts or additions on existing contracts and decrease as work is performed and revenue is recognized on existing contracts. RUPOs may also decrease when projects are cancelled or modified in scope. We include a contract within our RUPOs when the contract is awarded and an agreement on contract terms has been reached.

We expect to satisfy our RUPOs as of December 30, 2018 over the following periods:
 
Amount
 
(in thousands)
Within 12 months
$
1,670,929

Beyond
1,101,342

Total RUPOs
$
2,772,271


Although RUPOs reflect business that is considered to be firm, cancellations, deferrals or scope adjustments may occur. RUPOs are adjusted to reflect any known project cancellations, revisions to project scope and cost, foreign currency exchange fluctuations and project deferrals, as appropriate. Our operations and maintenance contracts can generally be terminated by the clients without a substantive financial penalty. Therefore, the remaining performance obligations on such contracts are limited to the notice period required for the termination (usually 30, 60, or 90 days).

4.            Accounts Receivable - Net
 
Net accounts receivable consisted of the following:

13



 
December 30,
2018
 
September 30,
2018
 
(in thousands)
Billed
$
463,159

 
$
464,062

Unbilled
265,974

 
267,739

Total accounts receivable – gross
729,133

 
731,801

Allowance for doubtful accounts
(43,464
)
 
(37,580
)
Total accounts receivable – net
$
685,669

 
$
694,221


Billed accounts receivable represent amounts billed to clients that have not been collected. Unbilled accounts receivable, which represent an unconditional right to payment subject only to the passage of time, include unbilled amounts typically resulting from revenue recognized but not yet billed pursuant to contract terms or billed after the period end date. Most of our unbilled receivables at December 30, 2018 are expected to be billed and collected within 12 months. The allowance for doubtful accounts represents amounts that are expected to become uncollectible or unrealizable in the future. We determine an estimated allowance for uncollectible accounts based on management's consideration of trends in the actual and forecasted credit quality of our clients, including delinquency and payment history; type of client, such as a government agency or a commercial sector client; and general economic and particular industry conditions that may affect a client's ability to pay.

Once contract performance is underway, we may experience changes in conditions, client requirements, specifications, designs, materials and expectations regarding the period of performance. Such changes result in change orders and may be initiated by us or by our clients. In many cases, agreement with the client as to the terms of change orders is reached prior to work commencing; however, sometimes circumstances require that work progress without a definitive client agreement. Revenue and any corresponding receivable in these cases is recognized based on the policy described in Note 3, "Revenue Recognition" above.

The total accounts receivable at both December 30, 2018 and September 30, 2018 included approximately $74 million related to claims, including requests for equitable adjustment, on contracts that provide for price redetermination. We regularly evaluate all unsettled claim amounts and record appropriate adjustments to operating earnings when it is probable that the claim will result in a different contract value than the amount previously estimated. We recorded no material gains or losses related to claims during the first quarters of fiscal 2019 and 2018.

Billed accounts receivable related to U.S. federal government contracts were $80.3 million and $81.5 million at December 30, 2018 and September 30, 2018, respectively. U.S. federal government contracts unbilled receivables were $99.6 million and $102.7 million at December 30, 2018 and September 30, 2018, respectively. Other than the U.S. federal government, no single client accounted for more than 10% of our accounts receivable at December 30, 2018 and September 30, 2018.

5.            Acquisitions and Divestitures

At the beginning of first quarter of fiscal 2018, we acquired Glumac, headquartered in Portland, Oregon. Glumac is a leader in sustainable infrastructure design with more than 300 employees and is part of our Government Services Group ("GSG") segment. The fair value of the purchase price for Glumac was $38.4 million. This amount was comprised of $20.0 million of initial cash payments made to the sellers and $18.4 million for the estimated fair value of contingent earn-out obligations, with a maximum of $20.0 million payable, based upon the achievement of specified operating income targets in each of the three years following the acquisition.

In the second quarter of fiscal 2018, we completed the acquisition of Norman Disney & Young (“NDY”), a leader in sustainable infrastructure engineering design. NDY is an Australian-based global engineering design firm with more than 700 professionals operating in offices throughout Australia, the Asia-Pacific region, the United Kingdom, and Canada and is part of our CIG segment. The fair value of the purchase price for NDY was $56.1 million. This amount was comprised of $46.9 million of initial cash payments made to the sellers, $1.6 million held in escrow, and $7.6 million for the estimated fair value of contingent earn-out obligations, with a maximum amount of $20.2 million, based upon the achievement of specified operating income targets in each of the three years following the acquisition.

In the third quarter of fiscal 2018, we divested our non-core utility field services operations in the CIG segment for net proceeds after transaction costs of $30.2 million. This operation generated approximately $70 million in annual revenue primarily from our U.S. commercial clients. These non-core divestitures resulted in a pre-tax loss of $1.7 million, which was included in "Selling, general and administrative expenses" ("SG&A") in the third quarter of fiscal 2018.

14




Goodwill additions resulting from the above business combinations are primarily attributable to the existing workforce of the acquired companies and the synergies expected to arise after the acquisitions. The goodwill addition related to our fiscal 2018 acquisitions primarily represent the value of a workforce with distinct expertise in the sustainable infrastructure design market. In addition, these acquired capabilities, when combined with our existing global consulting and engineering business, result in opportunities that allow us to provide services under contracts that could not have been pursued individually by either us or the acquired companies. The results of these acquisitions were included in our consolidated financial statements from their respective closing dates. These acquisitions were not considered material to our consolidated financial statements. As a result, no pro forma information has been provided.

Backlog, client relations and trade name intangible assets include the fair value of existing contracts and the underlying customer relationships with lives ranging from 1 to 10 years, and trade names with lives ranging from 3 to 5 years. For detailed information regarding our intangible assets, see Note 6, “Goodwill and Intangible Assets”.

Most of our acquisition agreements include contingent earn-out agreements, which are generally based on the achievement of future operating income thresholds. The contingent earn-out arrangements are based on our valuations of the acquired companies, and reduce the risk of overpaying for acquisitions if the projected financial results are not achieved. The fair values of any earn-out arrangements are included as part of the purchase price of the acquired companies on their respective acquisition dates. For each transaction, we estimate the fair value of contingent earn-out payments as part of the initial purchase price and record the estimated fair value of contingent consideration as a liability in “Current contingent earn-out liabilities” and “Long-term contingent earn-out liabilities” on the consolidated balance sheets. We consider several factors when determining that contingent earn-out liabilities are part of the purchase price, including the following: (1) the valuation of our acquisitions is not supported solely by the initial consideration paid, and the contingent earn-out formula is a critical and material component of the valuation approach to determining the purchase price; and (2) the former owners of acquired companies that remain as key employees receive compensation other than contingent earn-out payments at a reasonable level compared with the compensation of our other key employees. The contingent earn-out payments are not affected by employment termination.

We measure our contingent earn-out liabilities at fair value on a recurring basis using significant unobservable inputs classified within Level 3 of the fair value hierarchy. We use a probability-weighted discounted income approach as a valuation technique to convert future estimated cash flows to a single present value amount. The significant unobservable inputs used in the fair value measurements are operating income projections over the earn-out period (generally two or three years), and the probability outcome percentages we assign to each scenario. Significant increases or decreases to either of these inputs in isolation would result in a significantly higher or lower liability, with a higher liability capped by the contractual maximum of the contingent earn-out obligation. Ultimately, the liability will be equivalent to the amount paid, and the difference between the fair value estimate and amount paid will be recorded in earnings. The amount paid that is less than or equal to the contingent earn-out liability on the acquisition date is reflected as cash used in financing activities in our consolidated statements of cash flows. Any amount paid in excess of the contingent earn-out liability on the acquisition date is reflected as cash used in operating activities in our consolidated statement of cash flows.

We review and re-assess the estimated fair value of contingent consideration on a quarterly basis, and the updated fair value could differ materially from the initial estimates. Changes in the estimated fair value of our contingent earn-out liabilities related to the time component of the present value calculation are reported in interest expense. Adjustments to the estimated fair value related to changes in all other unobservable inputs are reported in operating income. We had no adjustments to our contingent earn-out liabilities in the first quarters of fiscal 2019 and 2018.

At December 30, 2018, there was a total potential maximum of $52.2 million of outstanding contingent consideration related to acquisitions.  Of this amount, $29.0 million was estimated as the fair value and accrued on our consolidated balance sheet.
 
6.            Goodwill and Intangible Assets

The following table summarizes the changes in the carrying value of goodwill:

15



 
 
GSG
 
CIG
 
Total
 
 
(in thousands)
Balance at September 30, 2018
 
$
389,741

 
$
409,079

 
$
798,820

Translation and other
 
(3,563
)
 
(12,693
)
 
(16,256
)
Balance at December 30 2018
 
$
386,178

 
$
396,386

 
$
782,564

 
Our goodwill was impacted by foreign currency translation related to our foreign subsidiaries with functional currencies that are different than our reporting currency. The gross amounts of goodwill for GSG were $403.9 million and $407.4 million at December 30, 2018 and September 30, 2018, respectively, excluding $17.7 million of accumulated impairment. The gross amounts of goodwill for CIG were $494.3 million and $507.0 million at December 30, 2018 and September 30, 2018, respectively, excluding $97.9 million of accumulated impairment.

We perform our annual goodwill impairment review at the beginning of our fiscal fourth quarter. Our most recent annual review at July 2, 2018 (i.e. the first day of our fourth quarter in fiscal 2018) indicated that we had no impairment of goodwill, and all of our reporting units had estimated fair values that exceeded their carrying values, including goodwill, by more than 30%.

We regularly evaluate whether events and circumstances have occurred that may indicate a potential change in the recoverability of goodwill. We perform interim goodwill impairment reviews between our annual reviews if certain events and circumstances have occurred, such as a deterioration in general economic conditions; an increase in the competitive environment; a change in management, key personnel, strategy, or customers; negative or declining cash flows; or a decline in actual or planned revenue or earnings compared with actual and projected results of relevant prior periods.

We estimate the fair value of all reporting units with a goodwill balance based on a comparison and weighting of the income approach (weighted 70%), specifically the discounted cash flow method, and the market approach (weighted 30%), which estimates the fair value of our reporting units based upon comparable market prices and recent transactions and also validates the reasonableness of the multiples from the income approach. The resulting fair value is most sensitive to the assumptions we use in our discounted cash flow analysis. The assumptions that have the most significant impact on the fair value calculation are the reporting unit’s revenue growth rate and operating profit margin, and the discount rate used to convert future estimated cash flows to a single present value amount.
 
The gross amount and accumulated amortization of our acquired identifiable intangible assets with finite useful lives included in “Intangible assets - net” on our consolidated balance sheets, were as follows:
 
December 30, 2018
 
September 30, 2018
 
Weighted-
Average
Remaining Life
(in Years)
 
Gross
Amount
 
Accumulated
Amortization
 
Gross
Amount
 
Accumulated
Amortization
 
($ in thousands)
Non-compete agreements
 
$

 
$

 
$
83

 
$
(83
)
Client relations
2.6
 
54,057

 
(47,534
)
 
54,639

 
(46,449
)
Backlog
0.4
 
22,991

 
(21,544
)
 
23,371

 
(20,007
)
Trade names
3.0
 
7,972

 
(3,958
)
 
8,144

 
(3,575
)
Total
 
 
$
85,020

 
$
(73,036
)
 
$
86,237

 
$
(70,114
)
 

16



Amortization expense for the three months ended December 30, 2018 was $4.0 million, compared to $4.6 million for the prior-year period. Estimated amortization expense for the remainder of fiscal 2019 and succeeding years is as follows:
 
Amount
 
(in thousands)
2019
$
4,954

2020
3,331

2021
2,249

2022
1,021

2023
429

Total
$
11,984

 
7.                                     Property and Equipment
 
Property and equipment consisted of the following:
 
December 30,
2018
 
September 30,
2018
 
(in thousands)
Equipment, furniture and fixtures
$
132,162

 
$
131,521

Leasehold improvements
31,327

 
31,430

Land and buildings
411

 
413

Total property and equipment
163,900

 
163,364

Accumulated depreciation
(122,105
)
 
(120,086
)
Property and equipment, net
$
41,795

 
$
43,278

 
The depreciation expense related to property and equipment was $4.3 million for the three months ended December 30, 2018, compared to $5.2 million for the prior-year period.
 
8.                                     Stock Repurchase and Dividends
 
On November 5, 2018, the Board of Directors authorized a new stock repurchase program under which we could repurchase up to $200 million of our common stock in addition to the $25 million remaining under the previous stock repurchase program. In the first quarter of fiscal 2019, we expended the remaining $25 million under the previous program by repurchasing 430,559 shares through open market purchases at an average price of $58.06. In fiscal 2018, we repurchased through open market purchases under the previous program total of 1,491,569 shares at an average price of $50.28 for a total cost of $75.0 million.

The following table summarizes dividend declared and paid in the first quarters of fiscal 2019 and 2018:
Declare Date
 
Dividend Paid Per Share
 
Record Date
 
Payment Date
 
Dividend Paid
(in thousands, except per share data)
November 5, 2018
 
$
0.12

 
November 30, 2018
 
December 14, 2018
 
$
6,654

 
 
 
 
 
 
 
 
 
November 6, 2017
 
$
0.10

 
November 30, 2017
 
December 15, 2017
 
$
5,589


Subsequent Event.  On January 28, 2019, the Board of Directors declared a quarterly cash dividend of $0.12 per share payable on February 28, 2019 to stockholders of record as of the close of business on February 13, 2019.
 
9.                                     Stockholders’ Equity and Stock Compensation Plans

We recognize the fair value of our stock-based awards as compensation expense on a straight-line basis over the requisite service period in which the award vests. Stock-based compensation expense for the first quarters of fiscal 2019 and 2018 was $4.5

17



million and $4.0 million, respectively. The majority of these amounts were included in SG&A in our consolidated statements of income. In the first quarter of fiscal 2019, we awarded 89,816 performance shares units (“PSUs”) to our non-employee directors and executive officers at a fair value of $66.45 per share on the award date. All of the PSUs are performance-based and vest, if at all, after the conclusion of the three-year performance period. The number of PSUs that ultimately vest is based 50% on the growth in our diluted earnings per share and 50% on our total shareholder return relative to a peer group of companies and a stock market index over the vesting period. Additionally, we awarded 176,491 restricted stock units (“RSUs”) to our non-employee directors, executive officers and employees at the fair value of $66.11 per share on the award date. All of the executive officer and employee RSUs have time-based vesting over a four-year period, and the non-employee director RSUs vest after one year.
 
10.                                Earnings per Share (“EPS”)

Basic EPS is computed by dividing net income available to common stockholders by the weighted-average number of common shares outstanding, less unvested restricted stock for the period. Diluted EPS is computed by dividing net income by the weighted-average number of common shares outstanding and dilutive potential common shares for the period. Potential common shares include the weighted-average dilutive effects of outstanding stock options and unvested restricted stock using the treasury stock method.

The following table sets forth the number of weighted-average shares used to compute basic and diluted EPS:

 
Three Months Ended
 
December 30,
2018
 
December 31,
2017
 
(in thousands, except per share data)
Net income attributable to Tetra Tech
$
41,997

 
$
46,034

 
 
 
 
Weighted-average common shares outstanding – basic
55,390

 
55,855

Effect of dilutive stock options and unvested restricted stock
976

 
1,020

Weighted-average common stock outstanding – diluted
56,366

 
56,875

 
 
 
 
Earnings per share attributable to Tetra Tech:
 

 
 

Basic
$
0.76

 
$
0.82

Diluted
$
0.75

 
$
0.81

 
For the first quarters of fiscal 2019 and 2018, 0.1 million and 0.3 million options and restricted stock units, respectively, were excluded from the calculation of dilutive potential common shares because the assumed proceeds per share exceeded the average market price per share during the periods. Therefore, their inclusion would have been anti-dilutive.

11.                                  Income Taxes
 
The effective tax rates for the first quarters of fiscal 2019 and 2018 were 20.4% and (1.4%), respectively. The tax rates for fiscal 2019 and 2018 reflect the impact of the comprehensive tax legislation enacted by the U.S. government on December 22, 2017, which is commonly referred to as the Tax Cuts and Jobs Act ("TCJA"). The TCJA significantly revised the U.S. corporate income tax regime by, among other things, lowering the U.S. corporate tax rate from 35% to 21% effective January 1, 2018, while also repealing the deduction for domestic production activities, limiting the deductibility of certain executive compensation, and implementing a modified territorial tax system with the introduction of the Global Intangible Low-Taxed Income (“GILTI”) tax rules. The TCJA also imposes a one-time transition tax on deemed repatriation of historical earnings of foreign subsidiaries. Based on our analysis of tax earnings and profits and tax deficits at the prescribed measurement dates, we have a cumulative net tax deficit and do not have any tax liability related to this tax. As we have a September 30 fiscal year-end, our U.S. federal corporate income tax rate was blended in fiscal 2018, resulting in a statutory federal rate of approximately 24.5% (3 months at 35% and 9 months at 21%), and will be 21% for fiscal 2019 and subsequent fiscal years.

U.S. GAAP requires that the impact of tax legislation be recognized in the period in which the tax law was enacted. As a result of the TCJA, we reduced our deferred tax liabilities and recorded a one-time deferred tax benefit of approximately $10.1 million in the first quarter of fiscal 2018 to reflect our estimate of temporary differences in the United States that would be recovered or settled in fiscal 2018 based on the 24.5% blended corporate tax rate or based on the 21% tax rate in fiscal 2019 and beyond

18



versus the previous enacted 35% corporate tax rate. We finalized this analysis in the first quarter of fiscal 2019, and recorded an additional deferred tax benefit of $2.6 million this quarter. Excluding these net deferred tax benefits, our effective tax rate in the first quarter of fiscal 2019 was 25.3% compared to 20.9% in last year's first quarter.

We have completed our measurement of the tax effects of the TCJA with respect to the one-time revaluation of our deferred tax liabilities and the one-time transition tax on foreign earnings pursuant to Staff Accounting Bulletin No. 118. The amounts recorded for these two items incorporate assumptions made based on our current interpretation of the TCJA and should not materially change.

With respect to the GILTI provisions of the TCJA, we have analyzed our structure and expected global results of operations and do not expect to have any adjustment related to potential GILTI tax in our consolidated financial statements. Because of the complexity of the new GILTI tax rules, we will continue to evaluate the impact of this provision and the application of Accounting Standards Codification 740, Income Taxes.

As of December 30, 2018, our deferred tax liabilities included a valuation allowance of $14.4 million related to foreign net operating loss carry-forwards in Australia, that we previously determined were not likely to be realized. The factors used to assess the likelihood of realization were the past performance of the related entities, our forecast of future taxable income, and available tax planning strategies that could be implemented to realize the deferred tax assets. The ability or failure to achieve the forecasted taxable income in the applicable Australian entities could affect the ultimate realization of deferred tax assets. Based on these future operating results, it is possible that the current valuation allowance could be recognized as a deferred tax benefit in the next 12 months.
 
As of December 30, 2018 and September 30, 2018, the liability for income taxes associated with uncertain tax positions was $11.6 million and $9.4 million, respectively. These uncertain tax positions substantially relate to ongoing examinations, which are reasonably likely to be resolved within the next 12 months. 
 
12.                               Reportable Segments
 
We manage our operations under two reportable segments. Our GSG reportable segment primarily includes activities with U.S. government clients (federal, state and local) and all activities with development agencies worldwide. Our CIG reportable segment primarily includes activities with U.S. commercial clients and all international activities other than work for development agencies. Additionally, we will continue to report the results of the wind-down of our non-core construction activities in the Remediation and Construction Management ("RCM") segment. The remaining backlog for RCM as of December 30, 2018 was immaterial as the related projects are substantially complete.

GSG provides consulting and engineering services primarily to U.S. government clients (federal, state and local) and development agencies worldwide. GSG supports U.S. government civilian and defense agencies with services in water, environment, infrastructure, information technology, and disaster management services. GSG also provides engineering design services for municipal and commercial clients, especially in water infrastructure, solid waste, and high-end sustainable infrastructure designs. GSG also leads our support for development agencies worldwide, especially in the United States, United Kingdom, and Australia.

CIG provides consulting and engineering services primarily to U.S. commercial clients and international clients, both commercial and government. CIG supports commercial clients across the Fortune 500, oil and gas, energy utilities, manufacturing, aerospace, and mining markets. CIG also provides infrastructure and related environmental and geotechnical services, testing, engineering and project management services to commercial and local government clients across Canada, in Asia Pacific (primarily Australia and New Zealand), as well as Brazil and Chile. CIG also provides field construction management activities in the United States and Western Canada.
 
Management evaluates the performance of these reportable segments based upon their respective segment operating income before the effect of amortization expense related to acquisitions, and other unallocated corporate expenses. We account for inter-segment revenues and transfers as if they were to third parties; that is, by applying a negotiated fee onto the costs of the services performed. All significant intercompany balances and transactions are eliminated in consolidation.
 

19



Reportable Segments

The following tables set forth summarize financial information regarding our reportable segments:
 
Three Months Ended
 
December 30,
2018
 
December 31,
2017
 
(in thousands)
Revenue
 

 
 

GSG
$
411,971

 
$
442,772

CIG
317,793

 
331,513

RCM
1,453

 
6,807

Elimination of inter-segment revenue
(13,786
)
 
(21,343
)
Total revenue
$
717,431

 
$
759,749

 
 
 
 
Income from operations
 

 
 

GSG
$
37,413

 
$
39,125

CIG
27,099

 
21,294

RCM
4

 
(1,158
)
Corporate (1)
(8,805
)
 
(10,672
)
Total income from operations
$
55,711

 
$
48,589

 
 
 
 
(1)     Includes amortization of intangibles, other costs and other income not allocable to our reportable segments.

 
December 30,
2018
 
September 30,
2018
 
(in thousands)
Total Assets
 

 
 

GSG
$
495,343

 
$
468,010

CIG
441,829

 
478,197

RCM
24,185

 
25,683

Corporate (1)
873,532

 
987,531

Total assets
$
1,834,889

 
$
1,959,421

 
 
 
 
(1) Corporate assets consist of intercompany eliminations and assets not allocated to our reportable segments including goodwill, intangible assets, deferred income taxes and certain other assets.
 

13.                               Fair Value Measurements

The fair value of long-term debt was determined using the present value of future cash flows based on the borrowing rates currently available for debt with similar terms and maturities (Level 2 measurement, as described in “Critical Accounting Policies and Estimates” in our Annual Report on Form 10-K for the fiscal year ended September 30, 2018). The carrying value of our long-term debt approximated fair value at December 30, 2018 and September 30, 2018. At December 30, 2018, we had borrowings of $260.0 million outstanding under our Amended Credit Agreement, which were used to fund our business acquisitions, working capital needs, stock repurchases, dividends, capital expenditures and contingent earn-outs.
 
14.                               Derivative Financial Instruments
 
We use certain interest rate derivative contracts to hedge interest rate exposures on our variable rate debt. We enter into foreign currency derivative contracts with financial institutions to reduce the risk that cash flows and earnings will be adversely affected by foreign currency exchange rate fluctuations. Our hedging program is not designated for trading or speculative purposes.
 

20



We recognize derivative instruments as either assets or liabilities on the accompanying consolidated balance sheets at fair value. We record changes in the fair value (i.e., gains or losses) of the derivatives that have been designated as cash flow hedges in our consolidated balance sheets as accumulated other comprehensive income (loss), and in our consolidated statements of income for those derivatives designated as fair value hedges.

In the fourth quarter of fiscal 2018, we entered into five interest rate swap agreements that we designated as cash flow hedges to fix the interest rate on the $250.0 million term loan facility under our Second Amended and Restated Credit Agreement. The interest rate swaps total $250.0 million and have a fixed interest rate of 2.79% and expire in July 2023. At December 30, 2018 and September 30, 2018, the effective portion of our interest rate swap agreements designated as cash flow hedges before tax effect was $2.8 million and $(1.3) million, respectively, all of which we expect to be reclassified from accumulated other comprehensive income (loss) to interest expense through July 2023 when the agreements expire.

The fair values of our outstanding derivatives designated as hedging instruments were as follows:

 
 
 
Fair Value of Derivative
Instruments as of
 
Balance Sheet Location
 
December 30, 2018
 
September 30, 2018
 
 
 
(in thousands)
Interest rate swap agreements
Other current (liabilities) assets
 
$
(2,849
)
 
$
1,244


The impact of the effective portions of derivative instruments in cash flow hedging relationships and fair value relationships on income and other comprehensive income was $(4.0) million and $0.8 million for the first three months of fiscal 2019 and the fiscal year ended September 30, 2018, respectively. Additionally, there were no ineffective portions of derivative instruments. Accordingly, no amounts were excluded from effectiveness testing for our interest rate swap agreements.


21



15.                               Reclassifications Out of Accumulated Other Comprehensive Income (Loss)
 
The accumulated balances and reporting period activities for the three months ended December 30, 2018 and December 31, 2017 related to reclassifications out of accumulated other comprehensive income (loss) are summarized as follows:

 
Three Months Ended
 
Foreign
Currency
Translation
Adjustments
 
Gain (Loss)
on Derivative
Instruments
 
Accumulated
Other
Comprehensive
Loss
 
(in thousands)
Balances at October 1, 2017
$
(98,946
)
 
$
446

 
$
(98,500
)
Other comprehensive (loss) income before reclassifications
(3,467
)
 
84

 
(3,383
)
Amounts reclassified from accumulated other comprehensive income
 
 
 
 
 
Interest rate contracts, net of tax (1)

 
(18
)
 
(18
)
Net current-period other comprehensive (loss) income
(3,467
)
 
66

 
(3,401
)
Balances at December 31, 2017
$
(102,413
)
 
$
512

 
$
(101,901
)
 
 
 
 
 
 
Balances at September 30, 2018
$
(128,602
)
 
$
1,252

 
$
(127,350
)
Other comprehensive loss before reclassifications
(23,334
)
 
(3,783
)
 
(27,117
)
Amounts reclassified from accumulated other comprehensive income
 
 
 
 
 
Interest rate contracts, net of tax (1)

 
(226
)
 
(226
)
Net current-period other comprehensive loss
(23,334
)
 
(4,009
)
 
(27,343
)
Balances at December 30, 2018
$
(151,936
)
 
$
(2,757
)
 
$
(154,693
)
 
 
 
 
 
 
(1) This accumulated other comprehensive component is reclassified to “Interest expense” in our consolidated statements of income. See Note 14, “Derivative Financial Instruments”, for more information.

16.                               Commitments and Contingencies
 
We are subject to certain claims and lawsuits typically filed against the consulting and engineering profession, alleging primarily professional errors or omissions. We carry professional liability insurance, subject to certain deductibles and policy limits, against such claims. However, in some actions, parties are seeking damages that exceed our insurance coverage or for which we are not insured. While management does not believe that the resolution of these claims will have a material adverse effect, individually or in aggregate, on our financial position, results of operations or cash flows, management acknowledges the uncertainty surrounding the ultimate resolution of these matters.

On January 14, 2019, following the October 15, 2018 filing of a notice of election to intervene, the Civil Division of the United States Attorney's Office ("USAO") filed complaints in intervention in three qui tam actions filed against our subsidiary, Tetra Tech EC, Inc. ("TtEC"), in the U.S. District Court for the Northern District of California. The complaints allege False Claims Act violations and breach of contract related to TtEC's contracts to perform environmental remediation services at the former Hunters Point Naval Shipyard in San Francisco, California. TtEC disputes the claims and will respond accordingly and defend this matter vigorously. We are currently unable to determine the probability of the outcome of this matter or the range of reasonably possible loss, if any.
 

22



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

 FORWARD-LOOKING STATEMENTS
 
This Quarterly Report on Form 10-Q, including the “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” contains forward-looking statements regarding future events and our future results that are subject to the safe harbor provisions created under the Securities Act of 1933 and the Securities Exchange Act of 1934. All statements other than statements of historical facts are statements that could be deemed forward-looking statements. These statements are based on current expectations, estimates, forecasts and projections about the industries in which we operate and the beliefs and assumptions of our management. Words such as “expects,” “anticipates,” “targets,” “goals,” “projects,” “intends,” “plans,” “believes,” “seeks,” “estimates,” “continues,” “may,” variations of such words, and similar expressions are intended to identify such forward-looking statements. In addition, any statements that refer to projections of our future financial performance, our anticipated growth and trends in our businesses, and other characterizations of future events or circumstances are forward-looking statements. Readers are cautioned that these forward-looking statements are only predictions and are subject to risks, uncertainties and assumptions that are difficult to predict, including those identified below under “Part II, Item 1A. Risk Factors” and elsewhere herein. Therefore, actual results may differ materially and adversely from those expressed in any forward-looking statements. We undertake no obligation to revise or update publicly any forward-looking statements for any reason.

GENERAL OVERVIEW
 
Tetra Tech, Inc. is a leading global provider of consulting and engineering services that focuses on water, environment, infrastructure, resource management, energy, and international development. We are a global company that leads with science and is renowned for our expertise in providing water-related solutions for public and private clients. We typically begin at the earliest stage of a project by identifying technical solutions and developing execution plans tailored to our clients’ needs and resources. Our solutions may span the entire life cycle of consulting and engineering projects and include applied science, data analysis, research, engineering, design, construction management, and operations and maintenance.
 
Our reputation for high-end consulting and engineering services and our ability to apply our skills to develop solutions for water and environmental management has supported our growth for over 50 years since the founding of our predecessor company. By combining ingenuity and practical experience, we have helped to advance sustainable solutions for managing water, protecting the environment, providing energy, and engineering the infrastructure for our cities and communities.
 
We derive income from fees for professional, technical, program management, and construction management services. As primarily a service-based company, we are labor-intensive rather than capital-intensive. Our revenue is driven by our ability to attract and retain qualified and productive employees, identify business opportunities, secure new and renew existing client contracts, provide outstanding services to our clients and execute projects successfully. We provide services to a diverse base of U.S. state and local government, U.S. federal government, U.S. commercial, and international clients.

The following table presents the percentage of our revenue by client sector:
 
 
Three Months Ended
December 30,
2018
 
December 31,
2017
Client Sector
 

 
 

U.S. state and local government
17.2
%
 
20.0
%
U.S. federal government (1)
31.3

 
31.1

U.S. commercial
24.1

 
27.2

International (2)
27.4

 
21.7

Total
100.0
%
 
100.0
%
 
 
 
 
(1)     Includes revenue generated under U.S. federal government contracts performed outside the United States.
(2)     Includes revenue generated from foreign operations, primarily in Canada and Australia, and revenue generated from non-U.S. clients.

We manage our operations under two reportable segments. Our Government Services Group ("GSG") reportable segment primarily includes activities with U.S. government clients (federal, state and local) and all activities with development agencies worldwide. Our Commercial/International Services Group ("CIG") reportable segment primarily includes activities with U.S. commercial clients and all international activities other than work for development agencies. Additionally, we will continue to report the results of the wind-down of our non-core construction activities in the Remediation and Construction Management

23



("RCM") segment. The remaining backlog for RCM as of December 30, 2018 was immaterial as the related projects are substantially complete.

Our reportable segments are as follows:
 
Government Services Group (GSG).  GSG provides consulting and engineering services primarily to U.S. government clients (federal, state and local) and development agencies worldwide. GSG supports U.S. government civilian and defense agencies with services in water, environment, infrastructure, information technology, and disaster management services. GSG also provides engineering design services for U.S. municipal and commercial clients, especially in water infrastructure, solid waste, and high-end sustainable infrastructure designs. GSG also leads our support for development agencies worldwide, especially in the United States, United Kingdom, and Australia.

Commercial/International Services Group (CIG).  CIG provides consulting and engineering services primarily to U.S. commercial clients and international clients, both commercial and government. CIG supports commercial clients across the Fortune 500, oil and gas, energy utilities, manufacturing, aerospace, and mining markets. CIG also provides infrastructure and related environmental and geotechnical services, testing, engineering and project management services to commercial and local government clients across Canada, in Asia Pacific (primarily Australia and New Zealand), as well as Brazil and Chile. CIG also provides field construction management activities in the United States and Western Canada.
 
The following table presents the percentage of our revenue by reportable segment:
 
 
Three Months Ended
 
December 30,
2018
 
December 31,
2017
Reportable Segment
 

 
 

GSG
57.4
 %
 
58.3
 %
CIG
44.3

 
43.6

RCM
0.2

 
0.9

Inter-segment elimination
(1.9
)
 
(2.8
)
Total
100.0
 %
 
100.0
 %

Our services are performed under three principal types of contracts with our clients: fixed-price, time-and-materials, and cost-plus. The following table presents the percentage of our revenue by contract type:
 
 
Three Months Ended
 
December 30,
2018
 
December 31,
2017
Contract Type
 

 
 

Fixed-price
33.6
%
 
31.0
%
Time-and-materials
46.9

 
49.6

Cost-plus
19.5

 
19.4

Total
100.0
%
 
100.0
%
 
Under fixed-price contracts, the client agrees to pay a specified price for our performance of the entire contract or a specified portion of the contract. Under time-and-materials contracts, we are paid for labor at negotiated hourly billing rates and also paid for other expenses. Under cost-plus contracts, some of which are subject to a contract ceiling amount, we are reimbursed for allowable costs and fees, which may be fixed or performance-based. Profitability on these contracts is driven by billable headcount and our control. We recognize revenue from contracts using the percentage-of-completion method, primarily utilizing the cost-to-cost approach, to estimate the progress towards completion in order to determine the amount of revenue and profit to recognize. Changes in those estimates could result in the recognition of cumulative catch-up adjustments to the contract’s inception-to-date revenue, costs and profit in the period in which such changes are made. On a quarterly basis, we review and assess our revenue and cost estimates for each significant contract. Changes in revenue and cost estimates could also result in a projected loss that would be recorded immediately in earnings.

Other contract costs include professional compensation and related benefits, together with certain direct and indirect overhead costs such as rents, utilities, and travel. Professional compensation represents a large portion of these costs. Our "Selling,

24



general and administrative expenses" ("SG&A") are comprised primarily of marketing and bid and proposal costs, and our corporate headquarters’ costs related to the executive offices, finance, accounting, administration, and information technology. Our SG&A expenses also include a portion of stock-based compensation and depreciation of property and equipment related to our corporate headquarters, and the amortization of identifiable intangible assets. Most of these costs are unrelated to specific clients or projects, and can vary as expenses are incurred to support company-wide activities and initiatives.
 
We experience seasonal trends in our business.  Our revenue and operating income are typically lower in the first half of our fiscal year, primarily due to the Thanksgiving (in the United States), Christmas, and New Year’s holidays. Many of our clients’ employees, as well as our own employees, take vacations during these holiday periods. Further, seasonal inclement weather conditions occasionally cause some of our offices to close temporarily or may hamper our project field work in the northern hemisphere's temperate and arctic regions. These occurrences result in fewer billable hours worked on projects and, correspondingly, less revenue recognized.

ACQUISITIONS AND DIVESTITURES
 
Acquisitions.  We continuously evaluate the marketplace for acquisition opportunities to further our strategic growth plans. Due to our reputation, size, financial resources, geographic presence and range of services, we have numerous opportunities to acquire privately and publicly held companies or selected portions of such companies. We evaluate an acquisition opportunity based on its ability to strengthen our leadership in the markets we serve, broaden our service offerings, add new geographies, and provide complementary skills. Also, during our evaluation, we examine an acquisition's ability to drive organic growth, its accretive effect on long-term earnings, and its ability to generate return on investment. Generally, we proceed with an acquisition if we believe that it will strategically expand our service offerings, improve our long-term financial performance, and increase shareholder returns.

We view acquisitions as a key component in the execution of our growth strategy, and we intend to use cash, debt or equity, as we deem appropriate, to fund acquisitions. We may acquire other businesses that we believe are synergistic and will ultimately increase our revenue and net income, strengthen our ability to achieve our strategic goals, provide critical mass with existing clients, and further expand our lines of service. We typically pay a purchase price that results in the recognition of goodwill, generally representing the intangible value of a successful business with an assembled workforce specialized in our areas of interest. Acquisitions are inherently risky, and no assurance can be given that our previous or future acquisitions will be successful or will not have a material adverse effect on our financial position, results of operations, or cash flows. All acquisitions require the approval of our Board of Directors.

 Divestitures.  We regularly review and evaluate our existing operations to determine whether our business model should change through the divestiture of certain businesses. Accordingly, from time to time, we may divest or wind-down certain non-core businesses and reallocate our resources to businesses that better align with our long-term strategic direction.

For detailed information regarding acquisitions and divestitures, see Note 5, “Acquisitions and Divestitures” of the “Notes to Consolidated Financial Statements”.

OVERVIEW OF RESULTS AND BUSINESS TRENDS
 
General.  In the first quarter of fiscal 2019, our revenue decreased 5.6% compared to the prior-year period. Our revenue includes $21.6 million of revenue from the acquisition of Norman Disney & Young ("NDY"), which was completed in the second quarter of fiscal 2018. In addition, in the third quarter of fiscal 2018, we divested our non-core utility field services operations in our CIG segment. Excluding the net contribution from these transactions, our revenue decreased 6.0% in the first quarter of fiscal 2019 compared to the prior-year quarter.

U.S. State and Local Government.  Our U.S. state and local government revenue decreased 18.8% in the first quarter of fiscal 2019 compared to the same quarter last year. Revenue decreased due to the decrease in disaster response work related to the hurricanes in Florida and Texas, and the fires in California that were experiencing a high level of activity in the first quarter of fiscal 2018. However, we experienced broad-based growth in our U.S. state and local government project-related infrastructure revenue, particularly with increased revenue from municipal water infrastructure work in the metropolitan areas of California, Texas, and Florida. We expect our U.S. state and local government business to grow in fiscal 2019.

U.S. Federal Government.  Our U.S. federal government revenue decreased 4.9% in the first quarter of fiscal 2019 compared to the prior-year quarter. This decline primarily reflects disrupted activity leading up to the partial U.S. government shutdown that commenced in late December 2018. During periods of economic volatility, our U.S. federal government clients have historically been the most stable and predictable. Despite the recent shutdown, we anticipate modest revenue growth in U.S.

25



federal government revenue in fiscal 2019; however, if there is another prolonged U.S. federal government shutdown, our U.S. federal government business could be adversely impacted.

U.S. Commercial.  Our U.S. commercial revenue decreased 16.4% in the first quarter of fiscal 2019 compared to the prior-year quarter. Excluding the reduction from the divestiture of our non-core utility field services operations, our U.S. commercial business decreased 7.9% in first quarter of fiscal 2019 compared to the same quarter last year. We expect our U.S. commercial revenue to grow in fiscal 2019, adjusted for the impact of the divestiture, primarily due to increased activities for industrial water treatment and environmental programs.

International.  Our international revenue increased 19.2% in the first quarter of fiscal 2019 compared to the prior-year quarter. Excluding the contribution from NDY, our revenue grew 6.1% in the first quarter of fiscal 2019 compared to last-year quarter. The revenue growth reflects increased activity in Canada, particularly in Western Canada. Additionally, we experienced an improvement in our infrastructure work in Australia, New Zealand, and Asia-Pacific. We anticipate our total international revenue to grow in fiscal 2019.

RESULTS OF OPERATIONS
 
Consolidated Results of Operations
 
 
Three Months Ended
 
December 30,
2018
 
December 31,
2017
 
Change
 
 
 
$
 
%
 
($ in thousands)
Revenue
$
717,431

 
$
759,749

 
$
(42,318
)
 
(5.6)%
Subcontractor costs
(164,067
)
 
(214,902
)
 
50,835

 
23.7
Revenue, net of subcontractor costs (1)
553,364

 
544,847

 
8,517

 
1.6
Other costs of revenue
(454,680
)
 
(450,702
)
 
(3,978
)
 
(0.9)
Gross profit
98,684

 
94,145

 
4,539

 
4.8
Selling, general and administrative expenses
(42,973
)
 
(45,556
)
 
2,583

 
5.7
Income from operations
55,711

 
48,589

 
7,122

 
14.7
Interest expense
(2,897
)
 
(3,160
)
 
263

 
8.3
Income before income tax (expense) benefit
52,814

 
45,429

 
7,385

 
16.3
Income tax (expense) benefit
(10,782
)
 
623

 
(11,405
)
 
(1,830.7)
Net income
42,032

 
46,052

 
(4,020
)
 
(8.7)
Net income attributable to noncontrolling interests
(35
)
 
(18
)
 
(17
)
 
(94.4)
Net income attributable to Tetra Tech
$
41,997

 
$
46,034

 
$
(4,037
)
 
(8.8)
Diluted earnings per share
$
0.75

 
$
0.81

 
$
(0.06
)
 
(7.4)
 
 
 
 
 
 
 
 
(1)     We believe that the presentation of “Revenue, net of subcontractor costs”, which is a non-U.S. GAAP financial measure, enhances investors’ ability to analyze our business trends and performance because it substantially measures the work performed by our employees. In the course of providing services, we routinely subcontract various services and, under certain U.S. Agency for International Development programs, issue grants. Generally, these subcontractor costs and grants are passed through to our clients and, in accordance with U.S. GAAP and industry practice, are included in our revenue when it is our contractual responsibility to procure or manage these activities. The grants are included as part of our subcontractor costs. Because subcontractor services can vary significantly from project to project and period to period, changes in revenue may not necessarily be indicative of our business trends. Accordingly, we segregate subcontractor costs from revenue to promote a better understanding of our business by evaluating revenue exclusive of costs associated with external service providers.
 
The following table reconciles our reported results to non-U.S. GAAP adjusted results, which exclude the RCM results and certain non-operating accounting-related adjustments. The effective tax rates applied to the adjustments to earnings per share ("EPS") to arrive at adjusted EPS averaged 23.9% and 29.0% in fiscal 2019 and 2018, respectively. We apply the relevant marginal statutory tax rate based on the nature of the adjustments and tax jurisdiction in which they occur. Both EPS and adjusted EPS were calculated using diluted weighted-average common shares outstanding for the respective periods as reflected in our consolidated statements of income.


26



 
Three Months Ended
 
December 30,
2018
 
December 31,
2017
 
Change
 
 
 
$
 
%
 
($ in thousands)
Revenue
$
717,431

 
$
759,749

 
$
(42,318
)
 
(5.6)%
RCM
(1,453
)
 
(6,807
)
 
5,354

 
NM
Adjusted revenue
$
715,978

 
$
752,942

 
$
(36,964
)
 
(4.9)
 
 
 
 
 
 
 
 
Revenue, net of subcontractor costs
$
553,364

 
$
544,847

 
$
8,517

 
1.6
RCM
(577
)
 
(1,152
)
 
575

 
NM
Adjusted revenue, net of subcontractors costs
$
552,787

 
$
543,695

 
$
9,092

 
1.7
 
 
 
 
 
 
 
 
Income from operations
$
55,711

 
$
48,589

 
$
7,122

 
14.7
RCM
(4
)
 
1,158

 
(1,162
)
 
NM
Adjusted income from operations
$
55,707

 
$
49,747

 
$
5,960

 
12.0
 
 
 
 
 
 
 
 
EPS
$
0.75

 
$
0.81

 
$
(0.06
)
 
(7.4)
RCM

 
0.01

 
(0.01
)
 
NM
Revaluation of deferred tax liabilities
(0.05
)
 
(0.17
)
 
0.12

 
NM
Adjusted EPS
$
0.70

 
$
0.65

 
$
0.05

 
7.7%
 
 
 
 
 
 
 
 
NM = not meaningful

In the first quarter of fiscal 2019, revenue decreased $42.3 million, or 5.6%, and revenue, net of subcontractor costs increased $8.5 million, or 1.6%, compared to the same period last year. Our adjusted revenue decreased $37.0 million, or 4.9%, and adjusted revenue, net of subcontractor costs increased $9.1 million, or 1.7%, compared to prior-year quarter. These comparisons include contributions from the second quarter fiscal 2018 acquisition of NDY; however, these contributions were substantially offset by the impact of the third quarter fiscal 2018 divestiture of our non-core utility field services operations. During the first quarter of fiscal 2019, we continued to experience broad-based growth in our U.S. state and local government project-related infrastructure revenue as well as our sustainable building design revenue. However, this growth was offset by a decline in revenue from disaster response projects in the first quarter of fiscal 2019 compared to last year's first quarter. The higher level of disaster response activity in the first quarter of fiscal 2018 was concentrated in Florida, Texas, and California due to the unprecedented natural disasters in the United States that occurred during 2017.

Our operating income increased $7.1 million in the first quarter of fiscal 2019 compared to the same period last year. The exited construction activities in our RCM segment broke-even in the first quarter of fiscal 2019 compared to a loss of $1.2 million in the first quarter of fiscal 2018. Our RCM results are described below under "Remediation and Construction Management." Excluding these items, adjusted operating income increased $6.0 million, or 12.0%, in the first quarter of fiscal 2019 compared to the same period last year. The increase in our adjusted operating income primarily reflects improved results in our CIG segment. CIG's operating income increased $5.8 million in the first quarter of fiscal 2019 compared to last year's first quarter. These results are described below under "Commercial/International Services Group."

Interest expense, net was $2.9 million in the first quarter of fiscal 2019 compared to $3.2 million in the first quarter of fiscal 2018. This decrease reflects reduced borrowings partially offset by higher interest rates (primarily LIBOR).

In the first quarter of fiscal 2019, we recorded income tax expense of $10.8 million, representing an effective tax rate of 20.4%. In the first quarter of fiscal 2018, we recorded an income tax benefit of $0.6 million, representing an effective tax rate of (1.4%). Both tax rates reflect the impact of the comprehensive tax legislation enacted by the U.S. government on December 22, 2017, which is commonly referred to as the Tax Cuts and Jobs Act ("TCJA"). The TCJA significantly revised the U.S. corporate income tax regime by, among other things, lowering the U.S. federal corporate income tax rate from 35% to 21% effective January 1, 2018. As we have a September 30 fiscal year-end, our U.S. federal corporate income tax rate was blended in fiscal 2018, resulting in a statutory federal rate of 24.5% (3 months at 35% and 9 months at 21%), and will be 21% for fiscal 2019 and subsequent fiscal years.


27



U.S. GAAP requires that the impact of tax legislation be recognized in the period in which the tax law was enacted. As a result of the TCJA, we reduced our deferred tax liabilities and recorded a deferred tax benefit of approximately $10.1 million in the first quarter of fiscal 2018 to reflect our estimate of temporary differences in the United States that were to be recovered or settled in fiscal 2018 based on the 24.5% blended corporate tax rate or based on the 21% tax rate in fiscal 2019 and beyond versus the previous enacted 35% corporate tax rate. We finalized this analysis in the first quarter of fiscal 2019, and recorded an additional deferred tax benefit of $2.6 million this quarter. Excluding these net deferred tax benefits, our effective tax rate in the first quarter of fiscal 2019 was 25.3% compared to 20.9% in last year's first quarter.

Our EPS was $0.75 in the first quarter of fiscal 2019, compared to $0.81 in last year's first quarter. On the same basis as our adjusted operating income, EPS was $0.70 in the first quarter of fiscal 2019, compared to $0.65 in the first quarter of fiscal 2018.

Segment Results of Operations
 
Government Services Group
 
 
Three Months Ended
 
December 30,
2018
 
December 31,
2017
 
Change
 
 
 
$
 
%
 
($ in thousands)
Revenue
$
411,971

 
$
442,772

 
$
(30,801
)
 
(7.0)%
Subcontractor costs
(108,690
)
 
(132,806
)
 
24,116

 
18.2
Revenue, net of subcontractor costs
$
303,281

 
$
309,966

 
$
(6,685
)
 
(2.2)
 
 
 
 
 
 
 
 
Income from operations
$
37,413

 
$
39,125

 
$
(1,712
)
 
(4.4)
 
Revenue and revenue, net of subcontractor costs, decreased $30.8 million, or 7.0%, and $6.7 million, or 2.2%, respectively, in the first quarter of fiscal 2019 compared to the year-ago quarter. This decline reflects lower revenue from disaster recovery activities in the first quarter of fiscal 2019 compared to the same period last year. Due to the unprecedented number of natural disasters in the United States during 2017, the level of our disaster response activities were significantly increased in the first quarter of fiscal 2018, particularly from the hurricanes in Florida and Texas, and the fires in California. This decrease was partially offset by continued broad-based revenue growth in our U.S. state and local government project-related infrastructure revenue, particularly the increased revenue from municipal water infrastructure work in the metropolitan areas of California, Texas, and Florida. Overall, our U.S. state and local government revenue and revenue, net of subcontractor costs, decreased $23.2 million and $5.9 million, respectively, in the first quarter of fiscal 2019 compared to last year's first quarter. Operating income decreased $1.7 million in the first quarter of fiscal 2019 compared to the first quarter of fiscal 2018, reflecting the lower revenue. In addition, our operating margin, based on revenue net of subcontractor costs, declined to 12.3% in the first quarter of fiscal 2019 from 12.6% in the same period last year.

Commercial/International Services Group
 
 
Three Months Ended
 
December 30,
2018
 
December 31,
2017
 
Change
 
 
 
$
 
%
 
($ in thousands)
Revenue
$
317,793

 
$
331,513

 
$
(13,720
)
 
(4.1)%
Subcontractor costs
(68,287
)
 
(97,784
)
 
29,497

 
30.2
Revenue, net of subcontractor costs
$
249,506

 
$
233,729

 
$
15,777

 
6.8
 
 
 
 
 
 
 
 
Income from operations
$
27,099

 
$
21,294

 
$
5,805

 
27.3
 
Revenue decreased $13.7 million, or 4.1%, and revenue, net of subcontractor costs increased $15.8 million, or 6.8% in the first quarter of fiscal 2019 compared to the year-ago quarter. These amounts include the aforementioned contribution from our

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NDY acquisition. In addition, these year-over-year comparisons were impacted by the divestiture of our non-core utility field services operations in the third quarter of fiscal 2018. Excluding the net impact of the acquisition/divestiture, revenue decreased 5.1% and revenue, net of subcontractor costs increased 3.7% in the first quarter of fiscal 2019 compared to the same period last year. The decrease in revenue reflects lower subcontractor activity. The increase in revenue, net of subcontractor costs, primarily reflects increased activity in Canada, particularly in Western Canada and infrastructure work in Australia. Operating income increased $5.8 million, or, 27.3%, in the first quarter of fiscal 2019 compared to the first quarter in fiscal 2018, reflecting the higher revenue, net of subcontractor costs. In addition, our operating margin, based on revenue net of subcontractor costs, improved to 10.9% in the first quarter of fiscal 2019 from 9.1% in the same period last year. This higher profitability reflects the improvement in our Western Canadian operations.
 
Remediation and Construction Management
 
 
Three Months Ended
 
December 30,
2018
 
December 31,
2017
 
Change
 
 
 
$
 
%
 
($ in thousands)
Revenue
$
1,453

 
$
6,807

 
$
(5,354
)
 
(78.7)%
Subcontractor costs
(876
)
 
(5,655
)
 
4,779

 
84.5
Revenue, net of subcontractor costs
$
577

 
$
1,152

 
$
(575
)
 
(49.9)
 
 
 
 
 
 
 
 
Income (loss) from operations
$
4

 
$
(1,158
)
 
$
1,162

 
100.3
 
Revenue decreased $5.4 million and revenue, net of subcontractor costs, decreased $0.6 million in the first quarter of fiscal 2019 compared to the prior-year quarter. This decline and the break-even income in the first quarter of fiscal 2019, reflect the substantial completion of all of RCM's remaining projects. The operating loss in the first quarter of fiscal 2018 primarily reflects costs related to resolving outstanding claims.

ASC 606

Prior to the adoption of Accounting Standards Codification Topic 606, "Revenue from Contracts with Customers" ("ASC 606") and the related disclosures of remaining unsatisfied performance obligations ("RUPOs"), we had reported backlog on a quarterly basis. Backlog is not a term recognized under United States generally accepted accounting principles; however, it is a common measurement used in our industry. Backlog generally represents the dollar amount of revenues we expect to realize in the future as a result of performing work on contracts. RUPOs differ from our backlog.

The following table provides a reconciliation between RUPOs and backlog as of December 30, 2018:

 
Amount
 
(in thousands)
RUPOs
$
2,772,271

Items impacting comparability:
 
Contract term
20,837

Backlog
$
2,793,108


The most significant difference between RUPOs and backlog relates to contract terms. Specifically, our backlog does not consider the impact of termination for convenience clauses within the contracts. The contract term and thus remaining performance obligation on certain of our operations and maintenance contracts, are limited to the notice period required for contract termination (usually 30, 60, or 90 days).

Financial Condition, Liquidity and Capital Resources
 
Capital Requirements.  Our primary sources of liquidity are cash flows from operations and borrowings under our credit facilities. Our primary uses of cash are to fund working capital, capital expenditures, stock repurchases, cash dividends and

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repayment of debt, as well as to fund acquisitions and earn-out obligations from prior acquisitions. We believe that our existing cash and cash equivalents, operating cash flows and borrowing capacity under our credit agreement, as described below, will be sufficient to meet our capital requirements for at least the next 12 months.  On November 5, 2018, the Board of Directors authorized a new stock repurchase program under which we could repurchase up to $200 million of our common stock in addition to the $25 million remaining under the previous stock repurchase program. On November 5, 2018, the Board of Directors declared a quarterly cash dividend of $0.12 per share payable on December 14, 2018 to stockholders of record as of the close of business on November 30, 2018.

Subsequent Event.  On January 28, 2019, the Board of Directors declared a quarterly cash dividend of $0.12 per share payable on February 28, 2019 to stockholders of record as of the close of business on February 13, 2019.

We use a variety of tax planning and financing strategies to manage our worldwide cash and deploy funds to locations where they are needed. Historically, we indefinitely reinvested our foreign earnings, and did not need to repatriate these earnings. However, in fiscal 2018, we evaluated our global tax planning and financing strategies impacted by the recent changes in U.S. tax law. As a result, we completed a one-time repatriation of a portion of our foreign earnings totaling approximately $117 million in fiscal 2018. We paid down debt in the United States with most of these funds during the fourth quarter of fiscal 2018. This transaction resulted in an immaterial net repatriation tax on a global basis. We have no need or plans to repatriate additional foreign earnings in the foreseeable future.

Cash and Cash Equivalents.  As of December 30, 2018, cash and cash equivalents were $66.5 million, a decrease of $79.7 million compared to the fiscal 2018 year-end. The decrease resulted from cash used in operating activities, share repurchases, dividends, net repayments on long-term debt, contingent earn-out, and capital expenditures.

Operating Activities.  For the first quarter of fiscal 2019, net cash used in operating activities was $15.3 million in the first quarter of fiscal 2019, an improvement of $42.4 million compared to the prior-year quarter. The lower amount of cash used in operating activities resulted from cash collections from accounts receivable including the settlement payment on a claim in the first quarter of fiscal 2019.

Investing Activities.  For the first quarter of fiscal 2019, net cash used in investing activities was $3.7 million, a decrease of $16.0 million compared to the prior-year quarter, due to the acquisition of Glumac.

Financing Activities.  For the first quarter of 2019, net cash used in financing activities was $59.0 million, compared to net cash provided by financing activities of $61.2 million in the prior-year quarter. The decrease in cash was primarily due to higher net repayments of long-term debt of $111.9 million in the first quarter of fiscal 2019, compared to the same quarter last year. Additionally, we paid $6.0 million of contingent earn-out in the first quarter of fiscal 2019.

Debt Financing. On July 30, 2018, we entered into a Second Amended and Restated Credit Agreement (“Amended Credit Agreement”) with a total borrowing capacity of $1 billion that will mature in July 2023. The Amended Credit Agreement is a $700 million senior secured, five-year facility that provides for a $250 million term loan facility (the “Amended Term Loan Facility”), a $450 million revolving credit facility (the “Amended Revolving Credit Facility”), and a $300 million accordion feature that allows us to increase the Amended Credit Agreement to $1 billion subject to lender approval. The Amended Credit Agreement allows us to, among other things, (i) refinance indebtedness under our Credit Agreement dated as of May 7, 2013; (ii) finance certain permitted open market repurchases of the our common stock, permitted acquisitions, and cash dividends and distributions; and (iii) utilize the proceeds for working capital, capital expenditures and other general corporate purposes. The Amended Revolving Credit Facility includes a $100 million sublimit for the issuance of standby letters of credit, a $20 million sublimit for swingline loans, and a $200 million sublimit for multicurrency borrowings and letters of credit.

The entire Amended Term Loan Facility was drawn on July 30, 2018. The Amended Term Loan Facility is subject to quarterly amortization of principal at 5% annually beginning December 31, 2018. We may borrow on the Amended Revolving Credit Facility, at our option, at either (a) a Eurocurrency rate plus a margin that ranges from 1.00% to 1.75% per annum, or (b) a base rate for loans in U.S. dollars (the highest of the U.S. federal funds rate plus 0.50% per annum, the bank’s prime rate or the Eurocurrency rate plus 1.00%) plus a margin that ranges from 0% to 0.75% per annum. In each case, the applicable margin is based on our Consolidated Leverage Ratio, calculated quarterly. The Amended Term Loan Facility is subject to the same interest rate provisions. The Amended Credit Agreement expires on July 30, 2023, or earlier at our discretion upon payment in full of loans and other obligations.

As of December 30, 2018, we had $260.0 million in outstanding borrowings under the Amended Credit Agreement, which was comprised of $250.0 million under the Term Loan Facility and $10.0 million under the Amended Revolving Credit Facility at a year-to-date weighted-average interest rate of 3.66% per annum. In addition, we had $0.9 million in standby letters of credit

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under the Amended Credit Agreement. Our average effective weighted-average interest rate on borrowings outstanding during the year-to-date period ending December 30, 2018 under the Amended Credit Agreement, including the effects of interest rate swap agreements described in Note 14, “Derivative Financial Instruments” of the “Notes to Consolidated Financial Statements”, was 4.12%. At December 30, 2018, we had $439.1 million of available credit under the Amended Revolving Credit Facility, all of which could be borrowed without a violation of our debt covenants.

The Amended Credit Agreement contains certain affirmative and restrictive covenants, and customary events of default. The financial covenants provide for a maximum Consolidated Leverage Ratio of 3.00 to 1.00 (total funded debt/EBITDA, as defined in the Amended Credit Agreement) and a minimum Consolidated Interest Coverage Ratio of 3.00 to 1.00 (EBITDA/Consolidated Interest Charges, as defined in the Amended Credit Agreement). Our obligations under the Amended Credit Agreement are guaranteed by certain of our domestic subsidiaries and are secured by first priority liens on (i) the equity interests of certain of our subsidiaries, including those subsidiaries that are guarantors or borrowers under the Amended Credit Agreement, and (ii) the accounts receivable, general intangibles and intercompany loans, and those of our subsidiaries that are guarantors or borrowers.

At December 30, 2018, we were in compliance with these covenants with a consolidated leverage ratio of 1.11x and a consolidated interest coverage ratio of 15.9x. Our obligations under the Amended Credit Agreement are guaranteed by certain of our subsidiaries and are secured by first priority liens on (i) the equity interests of certain of our subsidiaries, including those subsidiaries that are guarantors or borrowers under the Amended Credit Agreement, and (ii) our accounts receivable, general intangibles and intercompany loans, and those of our subsidiaries that are guarantors or borrowers.

In addition to the credit facility, we entered into agreements to issue standby letters of credit. The aggregate amount of standby letters of credit outstanding under these additional agreements and other bank guarantees was $26.4 million, of which $4.1 million was issued in currencies other than the U.S. dollar.

We maintain at our Australian subsidiary an AUD$30 million credit facility, which may be used for bank overdrafts, short-term cash advances and bank guarantees. This facility expires in March 2019 and is secured by a parent guarantee. At December 30, 2018, there were no borrowings outstanding under this facility and bank guarantees outstanding of USD$5.9 million, which were issued in currencies other than the U.S. dollar.

Inflation.  We believe our operations have not been, and, in the foreseeable future, are not expected to be, materially adversely affected by inflation or changing prices due to the average duration of our projects and our ability to negotiate prices as contracts end and new contracts begin.
 
Dividends.  Our Board of Directors has authorized the following dividends in fiscal 2019:
 
 
Dividend 
Per Share
 
Record Date
 
Total Maximum
Payment
 
Payment Date
 
(in thousands, except per share data)
November 5, 2018
$
0.12

 
November 30, 2018
 
$
6,654

 
December 14, 2018
January 28, 2019
$
0.12

 
February 13, 2019
 
N/A

 
February 28, 2019

Income Taxes
 
We evaluate the realizability of our deferred tax assets by assessing the valuation allowance and adjust the allowance, if necessary. The factors used to assess the likelihood of realization are our forecast of future taxable income and available tax planning strategies that could be implemented to realize the net deferred tax assets. The ability or failure to achieve the forecasted taxable income in the applicable taxing jurisdictions could affect the ultimate realization of deferred tax assets. Based on future operating results in certain jurisdictions, it is possible that the current valuation allowance positions of those jurisdictions could be adjusted in the next 12 months.

As of December 30, 2018 and September 30, 2018, the liability for income taxes associated with uncertain tax positions was $11.6 million and $9.4 million, respectively. 
 
It is reasonably possible that the amount of the unrecognized benefit with respect to certain of our unrecognized tax positions may significantly decrease within the next 12 months. These changes would be the result of ongoing examinations.


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Off-Balance Sheet Arrangements

In the ordinary course of business, we may use off-balance sheet arrangements if we believe that such arrangements would be an efficient way to lower our cost of capital or help us manage the overall risks of our business operations. We do not believe that such arrangements have had a material adverse effect on our financial position or our results of operations.

The following is a summary of our off-balance sheet arrangements:

Letters of credit and bank guarantees are used primarily to support project performance and insurance programs. We are required to reimburse the issuers of letters of credit and bank guarantees for any payments they make under the outstanding letters of credit or bank guarantees. Our Amended Credit Agreement and additional letter of credit facilities cover the issuance of our standby letters of credit and bank guarantees and are critical for our normal operations. If we default on the Amended Credit Agreement or additional credit facilities, our inability to issue or renew standby letters of credit and bank guarantees would impair our ability to maintain normal operations. At December 30, 2018, we had $0.9 million in standby letters of credit outstanding under our Amended Credit Agreement, $26.4 million in standby letters of credit outstanding under our additional letter of credit facilities and $5.9 million of bank guarantees under our Australian facility.

From time to time, we provide guarantees and indemnifications related to our services. If our services under a guaranteed or indemnified project are later determined to have resulted in a material defect or other material deficiency, then we may be responsible for monetary damages or other legal remedies. When sufficient information about claims on guaranteed or indemnified projects is available and monetary damages or other costs or losses are determined to be probable, we recognize such guaranteed losses.

In the ordinary course of business, we enter into various agreements as part of certain unconsolidated subsidiaries, joint ventures, and other jointly executed contracts where we are jointly and severally liable. We enter into these agreements primarily to support the project execution commitments of these entities. The potential payment amount of an outstanding performance guarantee is typically the remaining cost of work to be performed by or on behalf of third parties under engineering and construction contracts. However, we are not able to estimate other amounts that may be required to be paid in excess of estimated costs to complete contracts and, accordingly, the total potential payment amount under our outstanding performance guarantees cannot be estimated. For cost-plus contracts, amounts that may become payable pursuant to guarantee provisions are normally recoverable from the client for work performed under the contract. For lump sum or fixed-price contracts, this amount is the cost to complete the contracted work less amounts remaining to be billed to the client under the contract. Remaining billable amounts could be greater or less than the cost to complete. In those cases where costs exceed the remaining amounts payable under the contract, we may have recourse to third parties, such as owners, co-venturers, subcontractors or vendors, for claims.

In the ordinary course of business, our clients may request that we obtain surety bonds in connection with contract performance obligations that are not required to be recorded in our consolidated balance sheets. We are obligated to reimburse the issuer of our surety bonds for any payments made thereunder. Each of our commitments under performance bonds generally ends concurrently with the expiration of our related contractual obligation.

Critical Accounting Policies
 
On October 1, 2018, we adopted ASC 606, which supersedes most current revenue recognition guidance, including industry-specific guidance. We adopted the standard on a modified retrospective basis which results in no restatement of the comparative periods presented and a cumulative effect adjustment to retained earnings as of the date of adoption. As part of our adoption, the new standard was applied only to those contracts that were not substantially completed as of the date of adoption.

To determine the proper revenue recognition method for contracts under ASC 606, we evaluate whether multiple contracts should be combined and accounted for as a single contract and whether the combined or single contract should be accounted for as having more than one performance obligation. The decision to combine a group of contracts or separate a combined or single contract into multiple performance obligations may impact the amount of revenue recorded in a given period. Contracts are considered to have a single performance obligation if the promises are not separately identifiable from other promises in the contracts. For more information, see “Notes to Consolidated Financial Statements” included in Part I, Item 1 of this Quarterly Report.

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Our other critical accounting policies are disclosed in our Annual Report on Form 10-K for the fiscal year ended September 30, 2018. To date, there have been no other material changes in our critical accounting policies as reported in our 2018 Annual Report on Form 10-K.

New Accounting Pronouncements

For information regarding recent accounting pronouncements, see “Notes to Consolidated Financial Statements” included in Part I, Item 1 of this Quarterly Report.

Financial Market Risks

 We do not enter into derivative financial instruments for trading or speculation purposes. In the normal course of business, we have exposure to both interest rate risk and foreign currency transaction and translation risk, primarily related to the Canadian and Australian dollar.

We are exposed to interest rate risk under our Amended Credit Agreement. We can borrow, at our option, under both the Amended Term Loan Facility and Amended Revolving Credit Facility. We may borrow on the Amended Revolving Credit Facility, at our option, at either (a) a Eurocurrency rate plus a margin that ranges from 1.00% to 1.75% per annum, or (b) a base rate for loans in U.S. dollars (the highest of the U.S. federal funds rate plus 0.50% per annum, the bank’s prime rate or the Eurocurrency rate plus 1.00%) plus a margin that ranges from 0% to 0.75% per annum. Borrowings at the base rate have no designated term and may be repaid without penalty any time prior to the Facility’s maturity date. Borrowings at a Eurodollar rate have a term no less than 30 days and no greater than 90 days and may be prepaid without penalty. Typically, at the end of such term, such borrowings may be rolled over at our discretion into either a borrowing at the base rate or a borrowing at a Eurodollar rate with similar terms, not to exceed the maturity date of the Facility. The Facility matures on July 30, 2023. At December 30, 2018, we had borrowings outstanding under the Credit Agreement of $260.0 million at a year-to-date weighted-average interest rate of 3.66% per annum.

In August 2018, we entered into five interest rate swaps with five banks to fix the variable interest rate on $250 million of our Amended Term Loan Facility. The objective of these interest rate swaps was to eliminate the variability of our cash flows on the amount of interest expense we pay under our Credit Agreement. Our year-to-date average effective interest rate on borrowings outstanding under the Credit Agreement, including the effects of interest rate swap agreements, at December 30, 2018, was 4.12%. For more information, see Note 14, “Derivative Financial Instruments” of the “Notes to Consolidated Financial Statements”.

Most of our transactions are in U.S. dollars; however, some of our subsidiaries conduct business in foreign currencies, primarily the Canadian and Australian dollar. Therefore, we are subject to currency exposure and volatility because of currency fluctuations. We attempt to minimize our exposure to these fluctuations by matching revenue and expenses in the same currency for our contracts. Foreign currency gains and losses were immaterial for both first quarters of fiscal 2019 and 2018. Foreign currency gains and losses are reported as part of “Selling, general and administrative expenses” in our consolidated statements of income.

We have foreign currency exchange rate exposure in our results of operations and equity primarily as a result of the currency translation related to our foreign subsidiaries where the local currency is the functional currency. To the extent the U.S. dollar strengthens against foreign currencies, the translation of these foreign currency denominated transactions will result in reduced revenue, operating expenses, assets and liabilities. Similarly, our revenue, operating expenses, assets and liabilities will increase if the U.S. dollar weakens against foreign currencies. For the first quarters of fiscal 2019 and 2018, 27.4% and 21.7% of our consolidated revenue, respectively, was generated by our international business. For the three-month periods ended December 30, 2018 and December 31, 2017, the effect of foreign exchange rate translation on the consolidated balance sheets was a decrease in equity of $23.3 million and $3.5 million, respectively. These amounts were recognized as an adjustment to equity through other comprehensive income.

Item 3.           Quantitative and Qualitative Disclosures about Market Risk
 
Please refer to the information we have included under the heading “Financial Market Risks” in Item 2. “Management’s Discussion and Analysis of Financial Condition and Results of Operations”, which is incorporated herein by reference.


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Item 4.           Controls and Procedures
 
Evaluation of disclosure controls and procedures and changes in internal control over financial reporting.  As of December 30, 2018, we carried out an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures. Based on our management’s evaluation (with the participation of our principal executive officer and principal financial officer), our principal executive officer and principal financial officer have concluded that, as of the end of the period covered by this report, our disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) under the Exchange Act), were effective.
 
Changes in internal control over financial reporting.  There were no changes in our internal control over financial reporting that occurred during the quarter ended December 30, 2018 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 
PART II.               OTHER INFORMATION
 
Item 1.           Legal Proceedings
 
We are subject to certain claims and lawsuits typically filed against the consulting and engineering profession, alleging primarily professional errors or omissions. We carry professional liability insurance, subject to certain deductibles and policy limits, against such claims. However, in some actions, parties are seeking damages that exceed our insurance coverage or for which we are not insured. While management does not believe that the resolution of these claims will have a material adverse effect, individually or in aggregate, on our financial position, results of operations or cash flows, management acknowledges the uncertainty surrounding the ultimate resolution of these matters.

On January 14, 2019, following the October 15, 2018 filing of a notice of election to intervene, the Civil Division of the United States Attorney's Office ("USAO") filed complaints in intervention in three qui tam actions filed against our subsidiary, Tetra Tech EC, Inc. ("TtEC"), in the U.S. District Court for the Northern District of California. The complaints allege False Claims Act violations and breach of contract related to TtEC's contracts to perform environmental remediation services at the former Hunters Point Naval Shipyard in San Francisco, California. TtEC disputes the claims and will respond accordingly and defend this matter vigorously. We are currently unable to determine the probability of the outcome of this matter or the range of reasonably possible loss, if any.
 


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Item 1A.                Risk Factors

     We operate in a changing environment that involves numerous known and unknown risks and uncertainties that could materially adversely affect our operations. Set forth below and elsewhere in this report and in other documents we file with the United States Securities and Exchange Commission ("SEC") are descriptions of the risks and uncertainties that could cause our actual results to differ materially from the results contemplated by the forward-looking statements contained in this report. Additional risks we do not yet know of or that we currently think are immaterial may also affect our business operations. If any of the events or circumstances described in the following risks actually occurs, our business, financial condition or results of operations could be materially adversely affected.

Continuing worldwide political and economic uncertainties may adversely affect our revenue and profitability.

The last several years have been periodically marked by political and economic concerns, including decreased consumer confidence, the lingering effects of international conflicts, energy costs and inflation. Although certain indices and economic data have shown signs of stabilization in the United States and certain global markets, there can be no assurance that these improvements will be broad-based or sustainable. This instability can make it extremely difficult for our clients, our vendors and us to accurately forecast and plan future business activities, and could cause constrained spending on our services, delays and a lengthening of our business development efforts, the demand for more favorable pricing or other terms, and/or difficulty in collection of our accounts receivable. Our government clients may face budget deficits that prohibit them from funding proposed and existing projects. Further, ongoing economic instability in the global markets could limit our ability to access the capital markets at a time when we would like, or need, to raise capital, which could have an impact on our ability to react to changing business conditions or new opportunities. If economic conditions remain uncertain or weaken, or government spending is reduced, our revenue and profitability could be adversely affected.

Changes in applicable tax regulations could negatively affect our financial results.

We are subject to taxation in the United States and numerous foreign jurisdictions. On December 22, 2017, the U.S. government enacted comprehensive tax legislation commonly referred to as the TCJA. The changes to U.S. tax law implemented by the TCJA are broad and complex. The final impacts of the TCJA may differ from the estimates provided elsewhere in this report, possibly materially, due to, among other things, changes in interpretations of the TCJA, any legislative action to address questions that arise because of the TCJA, any changes in accounting standards for income taxes or related interpretations in response to the TCJA, or any updates or changes in estimates we have utilized to calculate the impacts, including impacts from changes to current year earnings estimates and foreign exchange rates.

Demand for our services is cyclical and vulnerable to economic downturns. If economic growth slows, government fiscal conditions worsen, or client spending declines further, then our revenue, profits and financial condition may deteriorate.

Demand for our services is cyclical, and vulnerable to economic downturns and reductions in government and private industry spending. Such downturns or reductions may result in clients delaying, curtailing or canceling proposed and existing projects. Our business traditionally lags the overall recovery in the economy; therefore, our business may not recover immediately when the economy improves. If economic growth slows, government fiscal conditions worsen, or client spending declines, then our revenue, profits and overall financial condition may deteriorate. Our government clients may face budget deficits that prohibit them from funding new or existing projects. In addition, our existing and potential clients may either postpone entering into new contracts or request price concessions. Difficult financing and economic conditions may cause some of our clients to demand better pricing terms or delay payments for services we perform, thereby increasing the average number of days our receivables are outstanding, and the potential of increased credit losses of uncollectible invoices. Further, these conditions may result in the inability of some of our clients to pay us for services that we have already performed. If we are not able to reduce our costs quickly enough to respond to the revenue decline from these clients, our operating results may be adversely affected. Accordingly, these factors affect our ability to forecast our future revenue and earnings from business areas that may be adversely impacted by market conditions.


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Demand for our oil and gas, and mining services fluctuates and a decline in demand could adversely affect our revenue, profits and financial condition.

Demand for our oil and gas services fluctuates, and we depend on our customers’ willingness to make future expenditures to explore for, develop, produce and transport oil and natural gas in the United States and Canada. Our customers’ willingness to undertake these activities depends largely upon prevailing industry conditions that are influenced by numerous factors over which we have no control, including:

prices, and expectations about future prices, of oil and natural gas;
domestic and foreign supply of and demand for oil and natural gas;
the cost of exploring for, developing, producing and delivering oil and natural gas;
transportation capacity, including but not limited to train transportation capacity and its future regulation;
available pipeline, storage and other transportation capacity;
availability of qualified personnel and lead times associated with acquiring equipment and products;
federal, state, provincial and local regulation of oilfield activities;
environmental concerns regarding the methods our customers use to produce hydrocarbons;
the availability of water resources and the cost of disposal and recycling services; and
seasonal limitations on access to work locations.

Anticipated future prices for natural gas and crude oil are a primary factor affecting spending by our customers. Lower prices or volatility in prices for oil and natural gas typically decrease spending, which can cause rapid and material declines in demand for our services and in the prices we are able to charge for our services. Worldwide political, economic, military and terrorist events, as well as natural disasters and other factors beyond our control, contribute to oil and natural gas price levels and volatility and are likely to continue to do so in the future.

Further, the businesses of our global mining clients are, to varying degrees, cyclical and have experienced declines over the last three years due to lower global growth expectations and the associated decline in market prices. For example, depending on the market prices of uranium, precious metals, aluminum, copper, iron ore, and potash, our mining company clients may cancel or curtail their mining projects, which could result in a corresponding decline in the demand for our services among these clients. Accordingly, the cyclical nature of the mining industry could adversely affect our business, operating results or financial condition.

Our international operations expose us to legal, political, and economic risks in different countries as well as currency exchange rate fluctuations that could harm our business and financial results.

In the first quarter of fiscal 2019, we generated 27.4% of our revenue from our international operations, primarily in Canada and Australia, and from international clients for work that is performed by our domestic operations. International business is subject to a variety of risks, including:

imposition of governmental controls and changes in laws, regulations, or policies;
lack of developed legal systems to enforce contractual rights;
greater risk of uncollectible accounts and longer collection cycles;
currency exchange rate fluctuations, devaluations, and other conversion restrictions;
uncertain and changing tax rules, regulations, and rates;
the potential for civil unrest, acts of terrorism, force majeure, war or other armed conflict, and greater physical security risks, which may cause us to have to leave a country quickly;
logistical and communication challenges;
changes in regulatory practices, including tariffs and taxes;
changes in labor conditions;
general economic, political, and financial conditions in foreign markets; and
exposure to civil or criminal liability under the U.S. Foreign Corrupt Practices Act (“FCPA”), the U.K. Bribery Act, the Canadian Corruption of Foreign Public Officials Act, the Brazilian Clean Companies Act, the anti-boycott rules, trade and export control regulations, as well as other international regulations.

For example, an ongoing government investigation into political corruption in Quebec contributed to the slow-down in procurements and business activity in that province, which adversely affected our business. The Province of Quebec has adopted legislation that requires businesses and individuals seeking contracts with governmental bodies be certified by a Quebec regulatory authority for contracts over a specified size. Our failure to maintain certification could adversely affect our business.


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International risks and violations of international regulations may significantly reduce our revenue and profits, and subject us to criminal or civil enforcement actions, including fines, suspensions, or disqualification from future U.S. federal procurement contracting. Although we have policies and procedures to monitor legal and regulatory compliance, our employees, subcontractors, and agents could take actions that violate these requirements. As a result, our international risk exposure may be more or less than the percentage of revenue attributed to our international operations.

We derive a substantial amount of our revenue from U.S. federal, state and local government agencies, and any disruption in government funding or in our relationship with those agencies could adversely affect our business.

In the first quarter of fiscal 2019, we generated 48.5% of our revenue from contracts with U.S. federal, and state and local government agencies. A significant amount of this revenue is derived under multi-year contracts, many of which are appropriated on an annual basis. As a result, at the beginning of a project, the related contract may be only partially funded, and additional funding is normally committed only as appropriations are made in each subsequent year. These appropriations, and the timing of payment of appropriated amounts, may be influenced by numerous factors as noted below. Our backlog includes only the projects that have funding appropriated.

The demand for our U.S. government-related services is generally driven by the level of government program funding. Accordingly, the success and further development of our business depends, in large part, upon the continued funding of these U.S. government programs, and upon our ability to obtain contracts and perform well under these programs. Under the Budget Control Act of 2011, an automatic sequestration process, or across-the-board budget cuts (a large portion of which was defense-related), was triggered. The sequestration began on March 1, 2013. Although the Bipartisan Budget Act of 2013 provided some sequester relief through the end of fiscal year 2015, the sequestration requires reduced U.S. federal government spending through fiscal year 2021. A significant reduction in federal government spending, the absence of a bipartisan agreement on the federal government budget, a partial or full federal government shutdown, or a change in budgetary priorities could reduce demand for our services, cancel or delay federal projects, result in the closure of federal facilities and significant personnel reductions, and have a material and adverse impact on our business, financial condition, results of operations and cash flows.

There are several additional factors that could materially affect our U.S. government contracting business, which could cause U.S. government agencies to delay or cancel programs, to reduce their orders under existing contracts, to exercise their rights to terminate contracts or not to exercise contract options for renewals or extensions. Such factors, which include the following, could have a material adverse effect on our revenue or the timing of contract payments from U.S. government agencies:

the failure of the U.S. government to complete its budget and appropriations process before its fiscal year-end, which would result in the funding of government operations by means of a continuing resolution that authorizes agencies to continue to operate but does not authorize new spending initiatives. As a result, U.S. government agencies may delay the procurement of services;
changes in and delays or cancellations of government programs, requirements or appropriations;
budget constraints or policy changes resulting in delay or curtailment of expenditures related to the services we provide;
re-competes of government contracts;
the timing and amount of tax revenue received by federal, and state and local governments, and the overall level of government expenditures;
curtailment in the use of government contracting firms;
delays associated with insufficient numbers of government staff to oversee contracts;
the increasing preference by government agencies for contracting with small and disadvantaged businesses;
competing political priorities and changes in the political climate with regard to the funding or operation of the services we provide;
the adoption of new laws or regulations affecting our contracting relationships with the federal, state or local governments;
unsatisfactory performance on government contracts by us or one of our subcontractors, negative government audits or other events that may impair our relationship with federal, state or local governments;
a dispute with or improper activity by any of our subcontractors; and
general economic or political conditions.

Our inability to win or renew U.S. government contracts during regulated procurement processes could harm our operations and significantly reduce or eliminate our profits.

U.S. government contracts are awarded through a regulated procurement process. The U.S. federal government has increasingly relied upon multi-year contracts with pre-established terms and conditions, such as indefinite delivery/indefinite

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quantity (“IDIQ”) contracts, which generally require those contractors who have previously been awarded the IDIQ to engage in an additional competitive bidding process before a task order is issued. As a result, new work awards tend to be smaller and of shorter duration, since the orders represent individual tasks rather than large, programmatic assignments. In addition, we believe that there has been an increase in the award of federal contracts based on a low-price, technically acceptable criteria emphasizing price over qualitative factors, such as past performance. As a result, pricing pressure may reduce our profit margins on future federal contracts. The increased competition and pricing pressure, in turn, may require us to make sustained efforts to reduce costs in order to realize revenue, and profits under government contracts. If we are not successful in reducing the amount of costs we incur, our profitability on government contracts will be negatively impacted. In addition, the U.S. federal government has scaled back outsourcing of services in favor of “insourcing” jobs to its employees, which could reduce our revenue. Moreover, even if we are qualified to work on a government contract, we may not be awarded the contract because of existing government policies designed to protect small businesses and under-represented minority contractors. Our inability to win or renew government contracts during regulated procurement processes could harm our operations and significantly reduce or eliminate our profits.

Each year, client funding for some of our U.S. government contracts may rely on government appropriations or public-supported financing. If adequate public funding is delayed or is not available, then our profits and revenue could decline.

Each year, client funding for some of our U.S. government contracts may directly or indirectly rely on government appropriations or public-supported financing. Legislatures may appropriate funds for a given project on a year-by-year basis, even though the project may take more than one year to perform. In addition, public-supported financing such as U.S. state and local municipal bonds may be only partially raised to support existing projects. Similarly, an economic downturn may make it more difficult for U.S. state and local governments to fund projects. In addition to the state of the economy and competing political priorities, public funds and the timing of payment of these funds may be influenced by, among other things, curtailments in the use of government contracting firms, increases in raw material costs, delays associated with insufficient numbers of government staff to oversee contracts, budget constraints, the timing and amount of tax receipts, and the overall level of government expenditures. If adequate public funding is not available or is delayed, then our profits and revenue could decline.

Our U.S. federal government contracts may give government agencies the right to modify, delay, curtail, renegotiate, or terminate existing contracts at their convenience at any time prior to their completion, which may result in a decline in our profits and revenue.

U.S. federal government projects in which we participate as a contractor or subcontractor may extend for several years. Generally, government contracts include the right to modify, delay, curtail, renegotiate, or terminate contracts and subcontracts at the government’s convenience any time prior to their completion. Any decision by a U.S. federal government client to modify, delay, curtail, renegotiate, or terminate our contracts at their convenience may result in a decline in our profits and revenue.

As a U.S. government contractor, we must comply with various procurement laws and regulations and are subject to regular government audits; a violation of any of these laws and regulations or the failure to pass a government audit could result in sanctions, contract termination, forfeiture of profit, harm to our reputation or loss of our status as an eligible government contractor and could reduce our profits and revenue.

We must comply with and are affected by U.S. federal, state, local, and foreign laws and regulations relating to the formation, administration and performance of government contracts. For example, we must comply with Federal Acquisition Regulation ('FAR"), the Truth in Negotiations Act, Cost Accounting Standards ("CAS"), the American Recovery and Reinvestment Act of 2009, the Services Contract Act, and the DoD security regulations, as well as many other rules and regulations. In addition, we must also comply with other government regulations related to employment practices, environmental protection, health and safety, tax, accounting, and anti-fraud measures, as well as many other regulations in order to maintain our government contractor status. These laws and regulations affect how we do business with our clients and, in some instances, impose additional costs on our business operations. Although we take precautions to prevent and deter fraud, misconduct, and non-compliance, we face the risk that our employees or outside partners may engage in misconduct, fraud, or other improper activities. U.S. government agencies, such as the Defense Contract Audit Agency ("DCAA"), routinely audit and investigate government contractors. These government agencies review and audit a government contractor’s performance under its contracts and cost structure, and evaluate compliance with applicable laws, regulations, and standards. In addition, during the course of its audits, the DCAA may question our incurred project costs. If the DCAA believes we have accounted for such costs in a manner inconsistent with the requirements for FAR or CAS, the DCAA auditor may recommend to our U.S. government corporate administrative contracting officer that such costs be disallowed. Historically, we have not experienced significant disallowed costs as a result of government audits. However, we can provide no assurance that the DCAA or other government audits will not result in material disallowances for incurred costs in the future. In addition, U.S. government contracts are subject to various other requirements relating to the formation, administration, performance, and accounting for these contracts. We may also be subject to qui tam litigation brought by private individuals on behalf of the U.S. government under the Federal Civil False Claims Act, which could include claims for

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treble damages. For example, as discussed elsewhere in this report, on January 14, 2019, following the October 15, 2018 filing of a notice of election to intervene, the Civil Division of the United States Attorney's Office ("USAO") filed complaints in intervention in three qui tam actions filed against our subsidiary, Tetra Tech EC, Inc. ("TtEC"), in the U.S. District Court for the Northern District of California. The complaints allege False Claims Act violations and breach of contract related to TtEC's contracts to perform environmental remediation services at the former Hunters Point Naval Shipyard in San Francisco, California. TtEC disputes the claims and will respond accordingly and defend this matter vigorously. U.S. government contract violations could result in the imposition of civil and criminal penalties or sanctions, contract termination, forfeiture of profit, and/or suspension of payment, any of which could make us lose our status as an eligible government contractor. We could also suffer serious harm to our reputation. Any interruption or termination of our U.S. government contractor status could reduce our profits and revenue significantly.

If we extend a significant portion of our credit to clients in a specific geographic area or industry, we may experience disproportionately high levels of collection risk and nonpayment if those clients are adversely affected by factors particular to their geographic area or industry.

Our clients include public and private entities that have been, and may continue to be, negatively impacted by the changing landscape in the global economy. While outside of the U.S. federal government no one client accounted for over 10% of our revenue for the first quarter of fiscal 2019, we face collection risk as a normal part of our business where we perform services and subsequently bill our clients for such services. In the event that we have concentrated credit risk from clients in a specific geographic area or industry, continuing negative trends or a worsening in the financial condition of that specific geographic area or industry could make us susceptible to disproportionately high levels of default by those clients. Such defaults could materially adversely impact our revenues and our results of operations.

We have made and expect to continue to make acquisitions. Acquisitions could disrupt our operations and adversely impact our business and operating results. Our failure to conduct due diligence effectively, or our inability to successfully integrate acquisitions, could impede us from realizing all of the benefits of the acquisitions, which could weaken our results of operations.

A key part of our growth strategy is to acquire other companies that complement our lines of business or that broaden our technical capabilities and geographic presence. We expect to continue to acquire companies as an element of our growth strategy; however, our ability to make acquisitions is restricted under our credit agreement. Acquisitions involve certain known and unknown risks that could cause our actual growth or operating results to differ from our expectations or the expectations of securities analysts. For example:

we may not be able to identify suitable acquisition candidates or to acquire additional companies on acceptable terms;
we are pursuing international acquisitions, which inherently pose more risk than domestic acquisitions;
we compete with others to acquire companies, which may result in decreased availability of, or increased price for, suitable acquisition candidates;
we may not be able to obtain the necessary financing, on favorable terms or at all, to finance any of our potential acquisitions;
we may ultimately fail to consummate an acquisition even if we announce that we plan to acquire a company; and
acquired companies may not perform as we expect, and we may fail to realize anticipated revenue and profits.

In addition, our acquisition strategy may divert management’s attention away from our existing businesses, resulting in the loss of key clients or key employees, and expose us to unanticipated problems or legal liabilities, including responsibility as a successor-in-interest for undisclosed or contingent liabilities of acquired businesses or assets.

If we fail to conduct due diligence on our potential targets effectively, we may, for example, not identify problems at target companies, or fail to recognize incompatibilities or other obstacles to successful integration. Our inability to successfully integrate future acquisitions could impede us from realizing all of the benefits of those acquisitions and could severely weaken our business operations. The integration process may disrupt our business and, if implemented ineffectively, may preclude realization of the full benefits expected by us and could harm our results of operations. In addition, the overall integration of the combining companies may result in unanticipated problems, expenses, liabilities, and competitive responses, and may cause our stock price to decline. The difficulties of integrating an acquisition include, among others:

issues in integrating information, communications, and other systems;
incompatibility of logistics, marketing, and administration methods;
maintaining employee morale and retaining key employees;
integrating the business cultures of both companies;

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preserving important strategic client relationships;
consolidating corporate and administrative infrastructures, and eliminating duplicative operations; and
coordinating and integrating geographically separate organizations.

In addition, even if the operations of an acquisition are integrated successfully, we may not realize the full benefits of the acquisition, including the synergies, cost savings or growth opportunities that we expect. These benefits may not be achieved within the anticipated time frame, or at all.

Further, acquisitions may cause us to:

issue common stock that would dilute our current stockholders’ ownership percentage;
use a substantial portion of our cash resources;
increase our interest expense, leverage, and debt service requirements (if we incur additional debt to fund an acquisition);
assume liabilities, including environmental liabilities, for which we do not have indemnification from the former owners. Further, indemnification obligations may be subject to dispute or concerns regarding the creditworthiness of the former owners;
record goodwill and non-amortizable intangible assets that are subject to impairment testing and potential impairment charges;
experience volatility in earnings due to changes in contingent consideration related to acquisition earn-out liability estimates;
incur amortization expenses related to certain intangible assets;
lose existing or potential contracts as a result of conflict of interest issues;
incur large and immediate write-offs; or
become subject to litigation.

Finally, acquired companies that derive a significant portion of their revenue from the U.S. federal government and do not follow the same cost accounting policies and billing practices that we follow may be subject to larger cost disallowances for greater periods than we typically encounter. If we fail to determine the existence of unallowable costs and do not establish appropriate reserves at acquisition, we may be exposed to material unanticipated liabilities, which could have a material adverse effect on our business.

If our goodwill or intangible assets become impaired, then our profits may be significantly reduced.

Because we have historically acquired a significant number of companies, goodwill and intangible assets represent a substantial portion of our assets. As of December 30, 2018, our goodwill was $782.6 million and other intangible assets were $12.0 million. We are required to perform a goodwill impairment test for potential impairment at least on an annual basis. We also assess the recoverability of the unamortized balance of our intangible assets when indications of impairment are present based on expected future profitability and undiscounted expected cash flows and their contribution to our overall operations. The goodwill impairment test requires us to determine the fair value of our reporting units, which are the components one level below our reportable segments. In determining fair value, we make significant judgments and estimates, including assumptions about our strategic plans with regard to our operations. We also analyze current economic indicators and market valuations to help determine fair value. To the extent economic conditions that would impact the future operations of our reporting units change, our goodwill may be deemed to be impaired, and we would be required to record a non-cash charge that could result in a material adverse effect on our financial position or results of operations. We had no goodwill impairment in fiscal 2017, fiscal 2018, or the first three months of fiscal 2019.

We could be adversely affected by violations of the FCPA and similar worldwide anti-bribery laws.

The FCPA and similar anti-bribery laws generally prohibit companies and their intermediaries from making improper payments to foreign government officials for the purpose of obtaining or retaining business. The U.K. Bribery Act of 2010 prohibits both domestic and international bribery, as well as bribery across both private and public sectors. In addition, an organization that “fails to prevent bribery” by anyone associated with the organization can be charged under the U.K. Bribery Act unless the organization can establish the defense of having implemented “adequate procedures” to prevent bribery. Improper payments are also prohibited under the Canadian Corruption of Foreign Public Officials Act and the Brazilian Clean Companies Act. Local business practices in many countries outside the United States create a greater risk of government corruption than that found in the United States and other more developed countries. Our policies mandate compliance with anti-bribery laws, and we have established policies and procedures designed to monitor compliance with anti-bribery law requirements; however, we cannot ensure that our policies and procedures will protect us from potential reckless or criminal acts committed by individual employees

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or agents. If we are found to be liable for anti-bribery law violations, we could suffer from criminal or civil penalties or other sanctions that could have a material adverse effect on our business.

We could be adversely impacted if we fail to comply with domestic and international export laws.

To the extent we export technical services, data and products outside of the United States, we are subject to U.S. and international laws and regulations governing international trade and exports, including but not limited to the International Traffic in Arms Regulations, the Export Administration Regulations, and trade sanctions against embargoed countries. A failure to comply with these laws and regulations could result in civil or criminal sanctions, including the imposition of fines, the denial of export privileges, and suspension or debarment from participation in U.S. government contracts, which could have a material adverse effect on our business.

If we fail to complete a project in a timely manner, miss a required performance standard, or otherwise fail to adequately perform on a project, then we may incur a loss on that project, which may reduce or eliminate our overall profitability.

Our engagements often involve large-scale, complex projects. The quality of our performance on such projects depends in large part upon our ability to manage the relationship with our clients and our ability to effectively manage the project and deploy appropriate resources, including third-party contractors and our own personnel, in a timely manner. We may commit to a client that we will complete a project by a scheduled date. We may also commit that a project, when completed, will achieve specified performance standards. If the project is not completed by the scheduled date or fails to meet required performance standards, we may either incur significant additional costs or be held responsible for the costs incurred by the client to rectify damages due to late completion or failure to achieve the required performance standards. The uncertainty of the timing of a project can present difficulties in planning the amount of personnel needed for the project. If the project is delayed or canceled, we may bear the cost of an underutilized workforce that was dedicated to fulfilling the project. In addition, performance of projects can be affected by a number of factors beyond our control, including unavoidable delays from government inaction, public opposition, inability to obtain financing, weather conditions, unavailability of vendor materials, changes in the project scope of services requested by our clients, industrial accidents, environmental hazards, and labor disruptions. To the extent these events occur, the total costs of the project could exceed our estimates, and we could experience reduced profits or, in some cases, incur a loss on a project, which may reduce or eliminate our overall profitability. Further, any defects or errors, or failures to meet our clients’ expectations, could result in claims for damages against us. Failure to meet performance standards or complete performance on a timely basis could also adversely affect our reputation.

The loss of key personnel or our inability to attract and retain qualified personnel could impair our ability to provide services to our clients and otherwise conduct our business effectively.

As primarily a professional and technical services company, we are labor-intensive and, therefore, our ability to attract, retain, and expand our senior management and our professional and technical staff is an important factor in determining our future success. The market for qualified scientists and engineers is competitive and, from time to time, it may be difficult to attract and retain qualified individuals with the required expertise within the timeframe demanded by our clients. For example, some of our U.S. government contracts may require us to employ only individuals who have particular government security clearance levels. In addition, we rely heavily upon the expertise and leadership of our senior management. If we are unable to retain executives and other key personnel, the roles and responsibilities of those employees will need to be filled, which may require that we devote time and resources to identify, hire, and integrate new employees. With limited exceptions, we do not have employment agreements with any of our key personnel. The loss of the services of any of these key personnel could adversely affect our business. Although we have obtained non-compete agreements from certain principals and stockholders of companies we have acquired, we generally do not have non-compete or employment agreements with key employees who were once equity holders of these companies. Further, many of our non-compete agreements have expired. We do not maintain key-man life insurance policies on any of our executive officers or senior managers. Our failure to attract and retain key individuals could impair our ability to provide services to our clients and conduct our business effectively.


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Our revenue and growth prospects may be harmed if we or our employees are unable to obtain government granted eligibility or other qualifications we and they need to perform services for our customers.

A number of government programs require contractors to have certain kinds of government granted eligibility, such as security clearance credentials. Depending on the project, eligibility can be difficult and time-consuming to obtain. If we or our employees are unable to obtain or retain the necessary eligibility, 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 or profit anticipated from such contract.

Our actual business and financial results could differ from the estimates and assumptions that we use to prepare our consolidated financial statements, which may significantly reduce or eliminate our profits.

To prepare consolidated financial statements in conformity with U.S. GAAP, management is required to make estimates and assumptions as of the date of the consolidated financial statements. These estimates and assumptions affect the reported values of assets, liabilities, revenue and expenses, as well as disclosures of contingent assets and liabilities. For example, we typically recognize revenue over the life of a contract based on the proportion of costs incurred to date compared to the total costs estimated to be incurred for the entire project. Areas requiring significant estimates by our management include:

the application of the percentage-of-completion method of accounting and revenue recognition on contracts, change orders, and contract claims, including related unbilled accounts receivable;
unbilled accounts receivable, including amounts related to requests for equitable adjustment to contracts that provide for price redetermination, primarily with the U.S. federal government. These amounts are recorded only when they can be reliably estimated and realization is probable;
provisions for uncollectible receivables, client claims, and recoveries of costs from subcontractors, vendors, and others;
provisions for income taxes, research and development tax credits, valuation allowances, and unrecognized tax benefits;
value of goodwill and recoverability of intangible assets;
valuations of assets acquired and liabilities assumed in connection with business combinations;
valuation of contingent earn-out liabilities recorded in connection with business combinations;
valuation of employee benefit plans;
valuation of stock-based compensation expense; and
accruals for estimated liabilities, including litigation and insurance reserves.

Our actual business and financial results could differ from those estimates, which may significantly reduce or eliminate our profits.

Our profitability could suffer if we are not able to maintain adequate utilization of our workforce.

The cost of providing our services, including the extent to which we utilize our workforce, affects our profitability. The rate at which we utilize our workforce is affected by a number of factors, including:

our ability to transition employees from completed projects to new assignments and to hire and assimilate new employees;
our ability to forecast demand for our services and thereby maintain an appropriate headcount in each of our geographies and operating units;
our ability to manage attrition;
our need to devote time and resources to training, business development, professional development, and other non-chargeable activities; and
our ability to match the skill sets of our employees to the needs of the marketplace.

If we over-utilize our workforce, our employees may become disengaged, which could impact employee attrition. If we under-utilize our workforce, our profit margin and profitability could suffer.

Our use of the percentage-of-completion method of revenue recognition could result in a reduction or reversal of previously recorded revenue and profits.


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We account for most of our contracts on the percentage-of-completion method of revenue recognition. Generally, our use of this method results in recognition of revenue and profit ratably over the life of the contract, based on the proportion of costs incurred to date to total costs expected to be incurred for the entire project. The effects of revisions to estimated revenue and costs, including the achievement of award fees and the impact of change orders and claims, are recorded when the amounts are known and can be reasonably estimated. Such revisions could occur in any period and their effects could be material. Although we have historically made reasonably reliable estimates of the progress towards completion of long-term contracts, the uncertainties inherent in the estimating process make it possible for actual costs to vary materially from estimates, including reductions or reversals of previously recorded revenue and profit.

If we are unable to accurately estimate and control our contract costs, then we may incur losses on our contracts, which could decrease our operating margins and reduce our profits. In particular, our fixed-price contracts could increase the unpredictability of our earnings.

It is important for us to accurately estimate and control our contract costs so that we can maintain positive operating margins and profitability. We generally enter into three principal types of contracts with our clients: fixed-price, time-and-materials and cost-plus.

The U.S. federal government and certain other clients have increased the use of fixed-priced contracts. Under fixed-price contracts, we receive a fixed price irrespective of the actual costs we incur and, consequently, we are exposed to a number of risks. We realize a profit on fixed-price contracts only if we can control our costs and prevent cost over-runs on our contracts. Fixed-price contracts require cost and scheduling estimates that are based on a number of assumptions, including those about future economic conditions, costs, and availability of labor, equipment and materials, and other exigencies. We could experience cost over-runs if these estimates are originally inaccurate as a result of errors or ambiguities in the contract specifications, or become inaccurate as a result of a change in circumstances following the submission of the estimate due to, among other things, unanticipated technical problems, difficulties in obtaining permits or approvals, changes in local laws or labor conditions, weather delays, changes in the costs of raw materials, or the inability of our vendors or subcontractors to perform. If cost overruns occur, we could experience reduced profits or, in some cases, a loss for that project. If a project is significant, or if there are one or more common issues that impact multiple projects, costs overruns could increase the unpredictability of our earnings, as well as have a material adverse impact on our business and earnings.

Under our time-and-materials contracts, we are paid for labor at negotiated hourly billing rates and also paid for other expenses. Profitability on these