10-Q 1 doc1.txt UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q (Mark One) (X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended July 5, 2003 OR ( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 0-20022 POMEROY IT SOLUTIONS, INC. -------------------------- (Exact name of registrant as specified in its charter) DELAWARE 31-1227808 -------- ---------- (State or jurisdiction of incorporation (IRS Employer or organization) Identification No.) 1020 Petersburg Road, Hebron, KY 41048 -------------------------------------- (Address of principal executive offices) (859) 586-0600 -------------- (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 requirements for the past 90 days. YES X NO --- --- Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). YES X NO --- --- The number of shares of common stock outstanding as of August 6, 2003 was 12,907,346. 1 POMEROY IT SOLUTIONS, INC. TABLE OF CONTENTS Part I. Financial Information Item 1. Financial Statements: Page ---- Consolidated Balance Sheets as of July 5, 2003 and January 5, 2003 3 Consolidated Statements of Income for the Three Months Ended July 5, 2003 and 2002 5 Consolidated Statements of Income for the Six Months Ended July 5, 2003 and 2002 6 Consolidated Statements of Cash Flows for the Six Months Ended July 5, 2003 and 2002 7 Notes to Consolidated Financial Statements 8 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 16 Item 3. Quantitative and Qualitative Disclosure about Market Risk 21 Item 4. Controls and Procedures 21 Part II. Other Information 22 SIGNATURE 23 2

POMEROY IT SOLUTIONS, INC. CONSOLIDATED BALANCE SHEETS (in thousands) July 5, January 5, 2003 2003 -------- ----------- Unaudited ASSETS Current Assets: Cash . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 57,900 $ 32,505 Accounts receivable: Trade, less allowance of $1,935 and $1,553 at July 5, 2003 and January 5, 2003, respectively . . . . . . . . 86,840 95,859 Vendor receivables, less allowance of $3,334 at July 5, 2003 and January 5, 2003 . . . . . . . . . . . 5,421 10,297 Net investment in leases . . . . . . . . . . . . . . . . 2,432 1,966 Other. . . . . . . . . . . . . . . . . . . . . . . . . . 2,796 2,775 -------- ----------- Total receivables. . . . . . . . . . . . . . . . . . 97,489 110,897 -------- ----------- Inventories. . . . . . . . . . . . . . . . . . . . . . . . 11,710 11,238 Other. . . . . . . . . . . . . . . . . . . . . . . . . . . 8,507 10,198 -------- ----------- Total current assets . . . . . . . . . . . . . . . . 175,606 164,838 -------- ----------- Equipment and leasehold improvements: Furniture, fixtures and equipment. . . . . . . . . . . . 29,439 28,741 Leasehold Improvements . . . . . . . . . . . . . . . . . 6,400 5,951 -------- ----------- Total. . . . . . . . . . . . . . . . . . . . . . . . 35,839 34,692 Less accumulated depreciation. . . . . . . . . . . . . . 17,599 15,393 -------- ----------- Net equipment and leasehold improvements . . . . . . 18,240 19,299 -------- ----------- Net investment in leases . . . . . . . . . . . . . . . . . 2,579 1,889 Goodwill . . . . . . . . . . . . . . . . . . . . . . . . . 64,895 60,635 Intangible assets. . . . . . . . . . . . . . . . . . . . . 544 540 Other assets . . . . . . . . . . . . . . . . . . . . . . . 1,195 1,295 -------- ----------- Total assets . . . . . . . . . . . . . . . . . . . . $263,059 $ 248,496 ======== ===========

See notes to consolidated financial statements. 3

POMEROY IT SOLUTIONS, INC. CONSOLIDATED BALANCE SHEETS (in thousands) July 5, January 5, 2003 2003 -------- ----------- (unaudited) LIABILITIES AND EQUITY Current Liabilities: Accounts payable . . . . . . . . . . . . . . . . . . . . . . . $ 41,382 $ 31,165 Current portion of notes payable . . . . . . . . . . . . . . . 1,204 541 Deferred revenue . . . . . . . . . . . . . . . . . . . . . . . 1,866 1,490 Other current liabilities. . . . . . . . . . . . . . . . . . . 9,075 8,308 -------- ----------- Total current liabilities. . . . . . . . . . . . . . . . 53,527 41,504 -------- ----------- Notes payable. . . . . . . . . . . . . . . . . . . . . . . . . 663 - Deferred taxes . . . . . . . . . . . . . . . . . . . . . . . . 4,161 3,318 Commitments and contingencies Equity: Preferred stock, $.01 par value; authorized 2,000 shares, (no shares issued or outstanding). . . . . . . . . . . . . - - Common stock, $.01 par value; authorized 20,000 shares, (12,892 and 12,869 shares issued at July 5, 2003 and January 5, 2003, respectively) . . . . . . . . . . . . . . 129 129 Paid in capital. . . . . . . . . . . . . . . . . . . . . . . 81,940 81,740 Retained earnings. . . . . . . . . . . . . . . . . . . . . . 129,508 125,988 -------- ----------- 211,577 207,857 Less treasury stock, at cost (642 and 355 shares at July 5, 2003 and January 5, 2003, respectively) . . . . 6,869 4,183 -------- ----------- Total equity. . . . . . . . . . . . . . . . . . . . . 204,708 203,674 -------- ----------- Total liabilities and equity. . . . . . . . . . . . . $263,059 $ 248,496 ======== ===========

See notes to consolidated financial statements. 4

POMEROY IT SOLUTIONS, INC. CONSOLIDATED STATEMENTS OF INCOME (in thousands, except per share data) Three Months Ended ----------------------- July 5, July 5, 2003 2002 ------------ --------- (unaudited) (unaudited) Net sales and revenues: Sales-equipment, supplies and leasing . . $ 116,195 $162,923 Service . . . . . . . . . . . . . . . . . 31,157 33,657 ------------ --------- Total net sales and revenues. . . . . . 147,352 196,580 ------------ --------- Cost of sales and service: Sales-equipment, supplies and leasing . . 107,291 149,342 Service . . . . . . . . . . . . . . . . . 22,744 23,136 ------------ --------- Total cost of sales and service . . . . 130,035 172,478 ------------ --------- Gross profit. . . . . . . . . . . . . 17,317 24,102 ------------ --------- Operating expenses: Selling, general and administrative . . . 11,808 13,111 Rent expense. . . . . . . . . . . . . . . 809 849 Depreciation. . . . . . . . . . . . . . . 1,250 1,151 Amortization. . . . . . . . . . . . . . . 73 225 Provision for doubtful accounts . . . . . - 500 Restructuring charge. . . . . . . . . . . - 487 Litigation settlement . . . . . . . . . . 150 - ------------ --------- Total operating expenses. . . . . . . 14,090 16,323 ------------ --------- Income from operations. . . . . . . . . . . 3,227 7,779 ------------ --------- Other expense (income): Interest. . . . . . . . . . . . . . . . . (81) 199 Miscellaneous . . . . . . . . . . . . . . 8 (6) ------------ --------- Net other expense (income). . . . . . (73) 193 ------------ --------- Income before income tax . . . . . . . . 3,300 7,586 Income tax expense. . . . . . . . . . . . 1,287 2,959 ------------ --------- Net income. . . . . . . . . . . . . . . . $ 2,013 $ 4,627 ============ ========= Weighted average shares outstanding: Basic . . . . . . . . . . . . . . . . . . 12,346 12,743 ============ ========= Diluted . . . . . . . . . . . . . . . . . 12,379 12,872 ============ ========= Earnings per common share: Basic . . . . . . . . . . . . . . . . . . $ 0.16 $ 0.36 ============ ========= Diluted . . . . . . . . . . . . . . . . . $ 0.16 $ 0.36 ============ =========

See notes to consolidated financial statements. 5

POMEROY IT SOLUTIONS, INC. CONSOLIDATED STATEMENTS OF INCOME (in thousands, except per share data) Six Months Ended ----------------------- July 5, July 5, 2003 2002 ------------ --------- (unaudited) (unaudited) Net sales and revenues: Sales-equipment, supplies and leasing. . . . $ 216,181 $316,376 Service. . . . . . . . . . . . . . . . . . . 61,149 66,552 ------------ --------- Total net sales and revenues . . . . . . . 277,330 382,928 ------------ --------- Cost of sales and service: Sales-equipment, supplies and leasing. . . . 199,361 289,178 Service. . . . . . . . . . . . . . . . . . . 44,275 45,828 ------------ --------- Total cost of sales and service. . . . . . 243,636 335,006 ------------ --------- Gross profit . . . . . . . . . . . . . . 33,694 47,922 ------------ --------- Operating expenses: Selling, general and administrative. . . . . 23,298 26,924 Rent expense . . . . . . . . . . . . . . . . 1,595 1,764 Depreciation . . . . . . . . . . . . . . . . 2,414 2,327 Amortization . . . . . . . . . . . . . . . . 296 496 Provision for doubtful accounts. . . . . . . 200 500 Restructuring charge . . . . . . . . . . . . - 487 Litigation settlement. . . . . . . . . . . . 150 - ------------ --------- Total operating expenses . . . . . . . . 27,953 32,498 ------------ --------- Income from operations . . . . . . . . . . . . 5,741 15,424 ------------ --------- Other expense (income): Interest . . . . . . . . . . . . . . . . . . (15) 325 Miscellaneous. . . . . . . . . . . . . . . . (14) (8) ------------ --------- Net other expense (income) . . . . . . . (29) 317 ------------ --------- Income before income tax. . . . . . . . . . 5,770 15,107 Income tax expense . . . . . . . . . . . . . 2,250 5,817 ------------ --------- Net income . . . . . . . . . . . . . . . . . $ 3,520 $ 9,290 ============ ========= Weighted average shares outstanding: Basic. . . . . . . . . . . . . . . . . . . . 12,399 12,720 ============ ========= Diluted. . . . . . . . . . . . . . . . . . . 12,422 12,832 ============ ========= Earnings per common share: Basic. . . . . . . . . . . . . . . . . . . . $ 0.28 $ 0.73 ============ ========= Diluted. . . . . . . . . . . . . . . . . . . $ 0.28 $ 0.72 ============ =========

See notes to consolidated financial statements. 6

POMEROY IT SOLUTIONS, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands) Six Months Ended ----------------------- July 5, July 5, 2003 2002 ------------ --------- (unaudited) (unaudited) Cash flows from operating activities: Net income. . . . . . . . . . . . . . . . . . . . $ 3,520 $ 9,290 Adjustments to reconcile net income to net cash flows from operating activities: Depreciation. . . . . . . . . . . . . . . . . . . 2,414 2,841 Amortization. . . . . . . . . . . . . . . . . . . 296 496 Deferred income taxes . . . . . . . . . . . . . . 1,617 (1,251) Loss on sale of fixed assets. . . . . . . . . . . 19 597 Changes in working capital accounts, net of effects of acquisitions: Receivables . . . . . . . . . . . . . . . . . . 17,736 25,307 Inventories . . . . . . . . . . . . . . . . . . (339) (391) Prepaids. . . . . . . . . . . . . . . . . . . . 1,834 (1,686) Net investment in leases. . . . . . . . . . . . (1,156) 790 Accounts payable. . . . . . . . . . . . . . . . 6,205 (36,150) Deferred revenue. . . . . . . . . . . . . . . . 376 (336) Income tax payable. . . . . . . . . . . . . . . - (3,269) Other, net. . . . . . . . . . . . . . . . . . . 23 1,425 ------------ --------- Net operating activities. . . . . . . . . . . . . 32,545 (2,337) ------------ --------- Cash flows from investing activities: Capital expenditures. . . . . . . . . . . . . . . (1,166) (6,130) Proceeds from sale of fixed assets. . . . . . . . 1 434 Proceeds from sale of leasing segment . . . . . . - 21,716 Acquisition of subsidiary companies, net of cash acquired . . . . . . . . . . . . . . . . . (3,499) (848) ------------ --------- Net investing activities. . . . . . . . . . . . . (4,664) 15,172 ------------ --------- Cash flows from financing activities: Payments under notes payable. . . . . . . . . . . - (8,385) Proceeds under notes payable. . . . . . . . . . . - 4,900 Net payments under bank notes payable . . . . . . - (11,883) Proceeds from exercise of stock options . . . . . 34 810 Payment for treasury stock purchase . . . . . . . (2,686) - Proceeds from employee stock purchase plan. . . . 166 238 ------------ --------- Net financing activities. . . . . . . . . . . . . (2,486) (14,320) ------------ --------- Increase (decrease) in cash . . . . . . . . . . . . 25,395 (1,485) Cash: Beginning of period . . . . . . . . . . . . . . . 32,505 2,875 ------------ --------- End of period . . . . . . . . . . . . . . . . . . $ 57,900 $ 1,390 ============ =========

See notes to consolidated financial statements. 7 POMEROY IT SOLUTIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. Basis of Presentation The consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America ("US GAAP") for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by US GAAP for complete financial statements. Except as disclosed herein, there has been no material change in the information disclosed in the notes to consolidated financial statements included in the Company's Annual Report on Form 10-K for the year ended January 5, 2003. In the opinion of management, all adjustments (consisting of normal recurring accruals) necessary for a fair presentation of the interim period have been made. The results of operations for the six month period ended July 5, 2003 are not necessarily indicative of the results that may be expected for future interim periods or for the year ending January 5, 2004. 2. Recent Accounting Pronouncements In April 2003, the FASB issued SFAS 149, "Amendment of Statement Derivative Instruments and Hedging Activities" ("SFAS 149"). SFAS 149 amends and clarifies accounting for derivative instruments, including certain derivatives instruments embedded in other contracts, and for hedging activities under SFAS 133. The Company does not expect the provisions of SFAS 149 to have a material impact on the financial position or results of operations. In May 2003, the FASB issued Statement No. 150, "Accounting for Certain Financial Instruments with Characteristics of Both Liabilities and Equity" ("SFAS 150"). SFAS 150 improves the accounting for certain financial instruments that, under previous guidance, issuers could account for as equity. The new Statement requires that those instruments be classified as liabilities in statements of financial position. The Company does not expect the provisions of SFAS 150 to have a material impact on the financial position or results of operations. 3. Cash and Bank Notes Payable The Company maintains a sweep account with its bank whereby daily cash receipts are automatically transferred as payment towards the Company's credit facility. As of July 5, 2003 and January 5, 2003, the Company did not have a balance outstanding under the Company's credit facility. This credit facility expires June 28, 2004. 4. Treasury Stock During the first six months of fiscal 2003, the Board of Directors authorized a program to repurchase up to 1.1 million shares of the Company's outstanding common stock at market price. During the first six months of fiscal 2003, the Company repurchased 286,687 shares of stock at a cost of $2.7 million. 8 5. Stock-Based Compensation The Financial Accounting Standards Board issued SFAS No. 123, "Accounting for Stock-Based Compensation", in the fall of 1995. The statement encourages, but does not require, companies to record compensation cost for stock-based employee compensation plans at fair value beginning in fiscal 1996. The Company elected to account for stock-based compensation using the intrinsic value method prescribed in Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees". Accordingly, compensation cost for stock options is measured as the excess, if any, of the quoted market price of the Company's common stock at the date of grant over the amount an employee must pay to acquire the stock. The Company adopted SFAS No. 123 for disclosure purposes and for non-employee stock options. Had compensation cost for the Company's stock option plans been determined based on the fair value at the grant date for awards in the first six months of fiscal 2003 and 2002 consistent with the provisions of SFAS No. 123, the Company's net income and earnings per share would have been reduced to the pro forma amounts indicated below:

(in thousands, except per Three Months Ended July 5, share amounts) 2003 2002 ------------ ------------ Net income - as reported $ 2,013 $ 4,627 Stock-based compensation expense-net of tax 253 91 ------------ ------------ Net income - pro forma $ 1,760 $ 4,536 ============ ============ Net income per common share - as reported Basic $ 0.16 $ 0.36 ============ ============ Diluted $ 0.16 $ 0.36 ============ ============ Net income per common share - pro forma Basic $ 0.14 $ 0.36 ============ ============ Diluted $ 0.14 $ 0.35 ============ ============

9

(in thousands, except per Six Months Ended July 5, share amounts) 2003 2002 ----------- -------------- Net income - as reported $ 3,520 $ 9,290 Stock-based compensation expense-net of tax 805 593 ----------- -------------- Net income - pro forma $ 2,715 $ 8,697 =========== ============== Net income per common share - as reported Basic $ 0.28 $ 0.73 =========== ============== Diluted $ 0.28 $ 0.72 =========== ============== Net income per common share - pro forma Basic $ 0.22 $ 0.68 =========== ============== Diluted $ 0.22 $ 0.68 =========== ==============

6. Earnings per Common Share The following is a reconciliation of the number of shares used in the basic EPS and diluted EPS computations: (in thousands, except per share data)

Three Months Ended July 5, ------------------------------------------- 2003 2002 --------------------- -------------------- Per Share Per Share Shares Amount Shares Amount --------- -------- -------- -------- Basic EPS 12,346 $ 0.16 12,743 $ 0.36 Effect of dilutive Stock options 33 - 129 - --------- -------- -------- -------- Diluted EPS 12,379 $ 0.16 12,872 $ 0.36 ========= ======== ======== ======== Six Months Ended July 5, ------------------------------------------- 2003 2002 --------------------- -------------------- Per Share Per Share Shares Amount Shares Amount --------- -------- -------- -------- Basic EPS 12,399 $ 0.28 12,720 $ 0.73 Effect of dilutive Stock options 23 - 112 (0.01) --------- -------- -------- -------- Diluted EPS 12,422 $ 0.28 12,832 $ 0.72 ========= ======== ======== ========

10 7. Goodwill and Long Lived Assets On July 20, 2001, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards ("SFAS") 141, Business Combinations, and SFAS 142, Goodwill and Intangible Assets. SFAS 141 is effective for all business combinations completed after June 30, 2001. SFAS 142 is effective for fiscal years beginning after December 15, 2001; however, certain provisions of this Statement apply to goodwill and other intangible assets acquired between July 1, 2001 and the effective date of SFAS 142. Major provisions of these Statements and their effective dates for the Company are as follows: - All business combinations initiated after June 30, 2001 must use the purchase method of accounting. The pooling of interest method of accounting is prohibited except for transactions initiated before July 1, 2001, of which there were none. - Intangible assets acquired in a business combination must be recorded separately from goodwill if they arise from contractual or other legal rights or are separable from the acquired entity and can be sold, transferred, licensed, rented or exchanged, either individually or as part of a related contract, asset or liability. - Goodwill, as well as intangible assets with indefinite lives, acquired after June 30, 2001, will not be amortized. Effective January 6, 2002, all previously recognized goodwill and intangible assets with indefinite lives will no longer be subject to amortization. - Effective January 6, 2002, goodwill and intangible assets with indefinite lives will be tested for impairment annually and whenever there is an impairment indicator. - All acquired goodwill must be assigned to reporting units for purposes of impairment testing. The Company adopted SFAS 142 in the first quarter of fiscal 2002. The Company has determined that all its intangible assets other than goodwill have definite lives and will continue to amortize these assets over their estimated useful lives. During fiscal 2002, the Company no longer amortized goodwill in accordance with SFAS 142. The Company has completed a transitional fair value based impairment test of goodwill as of January 6, 2002 and has determined no impairment loss in the carrying amount of its goodwill. The Company reviews its intangible assets with finite lives for impairment in accordance with SFAS 144, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of". Long-lived assets, including property and equipment, goodwill and other intangible assets are reviewed for impairment when events or changes in facts and circumstances indicate that their carrying amount may not be recoverable. Events or changes in facts and circumstances that the Company consider as impairment indicators include the following: - Significant underperformance of the Company's operating results relative to expected operating results; - Net book value compared to its market capitalization; - Significant adverse economic and industry trends; - Significant decrease in the market value of the asset; - Significant changes to the asset since the Company acquired it; and - The extent that the Company may use an asset or changes in the manner that the Company may use it. When the Company determines that one or more impairment indicators are present for its long-lived assets, excluding goodwill, the Company compares the carrying amount of the asset to the net future undiscounted cash flows that the asset is expected to generate. The Company would recognize an impairment loss to the extent of the excess of the carrying amount of the asset over its fair value. 11 When the Company determines that one or more impairment indicators are present for its goodwill, the Company compares its reporting unit's carrying value to its fair value. The Company has two reporting units for goodwill testing which are a products reporting unit and a services reporting unit. The Company has adopted January 6 as the valuation date for the annual testing. For goodwill, a two-step impairment test is performed. The first step compares the fair value of a reporting unit with its carrying amount, including goodwill. If the carrying value of a reporting unit exceeds its fair value, then the second step of the impairment test is performed to measure the amount of impairment loss. The second step compares the implied fair value of the reporting unit goodwill with the carrying amount of that goodwill. The implied fair value is determined by allocating the fair value of a reporting unit to all the assets and liabilities of that unit as if the reporting unit been acquired in a business combination. The excess of the fair value of a reporting unit over the amounts assigned to its assets and liabilities is the implied fair value of goodwill. If the carrying amount of the reporting unit goodwill is in excess of the implied fair value of that goodwill, then an impairment loss is recognized equal to that excess. An impairment loss, if any, would be reported in the Company's future results of operations. In April 2003, the Company engaged a third-party valuation specialist to perform the annual goodwill impairment testing as of January 6, 2003. As a result of the annual goodwill impairment test, no impairment losses were indicated. Intangible assets consist of the following:

(in thousands) Gross Net Gross Net Carrying Accumulated Carrying Carrying Accumulated Carrying Amount Amortization Amount Amount Amortization Amount 7/5/2003 7/5/2003 7/5/2003 1/5/2003 1/5/2003 1/5/2003 --------- ------------- --------- --------- ------------- --------- Amortized intangible assets: Covenants not to compete $ 1,844 $ 1,583 $ 261 $ 1,694 $ 1,324 $ 370 Customer lists 627 344 283 477 307 170 --------- ------------- --------- --------- ------------- --------- Total amortized intangibles $ 2,471 $ 1,927 $ 544 $ 2,171 $ 1,631 $ 540 ========= ============= ========= ========= ============= =========

Projected future amortization expense related to intangible assets with definite lives are as follows:

(in thousands) Fiscal Years: 2003 $ 108 July 6, 2003 - January 5, 2004 2004 138 2005 53 2006 20 2007 20 2008 and thereafter 205 --------- Total $ 544 =========

12 For the six months ended July 5, 2003, there was no amortization expense related to goodwill. Amortization expense related to intangible assets was $73 thousand for the quarter ended July 5, 2003 and $296 thousand for the six months ended July 5, 2003. For the six months ended July 5, 2002, there was no amortization expense related to goodwill. For the quarter ended July 5, 2002, amortization expense related to intangible assets was $225 thousand. For the six months ended July 5, 2002, amortization expense related to intangible assets was $413 thousand of which $71 thousand was reported under the caption "cost of sales" or "selling, general and administrative" expenses. Amortization expense associated with assets reported under the caption "other current assets" was $154 thousand. During the first quarter of fiscal 2003, the Company changed the allocation of goodwill by reporting unit. As a result of this evaluation process, the Company reallocated approximately $10.3 million of goodwill to the services reporting unit from the products reporting unit. This reallocation had no effect on the result of any previous period's impairment testing. The reallocation is also reflected in the segment information on Note 10. The reallocation of the net carrying amount of goodwill for the six months ended July 5, 2003 by segment are as follows:

(in thousands) Products Services Consolidated ---------- --------- ------------- Net carrying amount as of 1/5/03 $ 42,357 $ 18,278 $ 60,635 Reallocation of goodwill (10,284) 10,284 - Goodwill recorded during first six months 2,262 1,998 4,260 ---------- --------- ------------- Net carrying amount as of 7/5/03 $ 34,335 $ 30,560 $ 64,895 ========== ========= =============

8. Supplemental Cash Flow Disclosures Supplemental disclosures with respect to cash flow information and non-cash investing and financing activities are as follows: (in thousands)

Six Months Ended July 5, ---------------------------- 2003 2002 ------------ -------------- Interest paid $ 211 $ 297 ============ ============== Income taxes paid $ 684 $ 10,336 ============ ============== Post Acquisition adjustments to purchase price of acquisition assets and intangibles $ 1,624 $ 1,861 ============ ============== Business combinations accounted for as purchases: Assets acquired $ 7,573 $ - Liabilities assumed (4,074) ------------ -------------- Net cash paid $ 3,499 $ - ============ ==============

13 9. Litigation The Company recorded a litigation settlement of $0.2 million. The litigation settlement is related to a single bankruptcy preference claim. There are various other legal actions arising in the normal course of business that have been brought against the Company. Management believes these matters will not have a material adverse effect on the Company's financial position or results of operations. 10. Segment Information During the first quarter of fiscal 2003, the Company revised its segment methodologies for allocating operating expenses between segments to reflect ongoing changes in the operating activities giving rise to such expenses. This change resulted in a decrease of approximately $1.5 million in the second quarter and $3.1 million year to date of allocated operating expenses to the product segment and a corresponding increase by the same amount to the services segment. In addition, the Company revised its allocation of assets between segments to reflect the use of assets in those segments. The assets affected were principally goodwill, tax-related assets and equipment and leasehold improvements. Summarized financial information concerning the Company's reportable segments is shown in the following table. (in thousands)

Three Months Ended July 5, 2003 --------------------------------------------- Products Services Leasing Consolidated --------- --------- -------- ------------- Revenues $ 116,150 $ 31,157 $ 45 $ 147,352 Income from operations 2,008 1,180 39 3,227 Total assets 168,966 87,677 6,416 263,059 Capital expenditures 195 183 - 378 Depreciation and amortization 671 652 1,323

Three Months Ended July 5, 2002 --------------------------------------------- Products Services Leasing Consolidated --------- --------- -------- ------------- Revenues $ 162,389 $ 33,657 $ 534 $ 196,580 Income from operations 3,041 4,407 331 7,779 Total assets 199,069 57,278 7,523 263,870 Capital expenditures 3,297 1,998 - 5,295 Depreciation and amortization 1,322 170 28 1,520

14

Six Months Ended July 5, 2003 --------------------------------------------- Products Services Leasing Consolidated --------- --------- -------- ------------- Revenues $ 216,030 $ 61,149 $ 151 $ 277,330 Income from operations 3,278 2,323 140 5,741 Total assets 168,966 87,677 6,416 263,059 Capital expenditures 577 589 - 1,166 Depreciation and amortization 1,427 1,283 - 2,710

Six Months Ended July 5, 2002 --------------------------------------------- Products Services Leasing Consolidated --------- --------- -------- ------------- Revenues $ 313,142 $ 66,552 $ 3,234 $ 382,928 Income from operations 5,734 8,375 1,315 15,424 Total assets 199,069 57,278 7,523 263,870 Capital expenditures 3,947 2,099 84 6,130 Depreciation and amortization 2,694 437 206 3,337

11. Restructuring Charge During fiscal 2002, the Company approved a plan to consolidate and relocate operations in various geographical locations and to abandon certain assets associated with modification to strategic initiatives. The execution of the plan began and was completed during fiscal 2002. As of July 5, 2003, the Company had $8.0 thousand in accrued and unpaid restructuring costs. The Company expects to pay substantially all of the remaining accrued and unpaid costs by the end of fiscal 2003. 12. Acquisitions On February 21, 2003, the Company announced the completion of the acquisition of Micrologic Business Systems of K.C., INC. ("Micrologic"), a Kansas City based IT solutions and professional services provider. For the twelve months ended December 31, 2002, Micrologic has recorded revenues of $32.0 million. Their primary services include systems network integration, project management, and telephony integration. The Company recorded $3.3 million of goodwill related to the acquisition. 13. Subsequent Events On July 18, 2003, the Company announced that it will pay a one time dividend of approximately $10 million or $.80 per share to shareholders of record as of July 28, 2003. The dividend was paid on August 7, 2003. 15 Item 2-Management's Discussion and Analysis of Financial Condition and Results of Operations Special Cautionary Notice Regarding Forward-Looking Statements -------------------------------------------------------------- Certain of the matters discussed under the caption "Management's Discussion and Analysis of Financial Condition and Results of Operations" contain certain forward looking statements regarding future financial results of the Company. The words "expect," "estimate," "anticipate," "predict," and similar expressions are intended to identify forward-looking statements. Such statements are forward-looking statements for purposes of the Securities Act of 1933 and the Securities Exchange Act of 1934, as amended, and as such may involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of the Company to be materially different from future results, performance or achievements expressed or implied by such forward-looking statements. Important factors that could cause the actual results, performance or achievements of the Company to differ materially from the Company's expectations are disclosed in this document including, without limitation, those statements made in conjunction with the forward-looking statements under "Management's Discussion and Analysis of Financial Condition and Results of Operations". All written or oral forward-looking statements attributable to the Company are expressly qualified in their entirety by such factors. POMEROY IT SOLUTIONS, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS TOTAL NET SALES AND REVENUES. Total net sales and revenues decreased $49.2 million, or 25.0%, to $147.4 million in the second quarter of fiscal 2003 from $196.6 million in the second quarter of fiscal 2002. This decrease was a result primarily of a continued industry-wide slowdown in technology spending due to the general weakness in the U.S. economy. Further, the Company sometimes elects to take a commission from the manufacturers for arranging sales transactions where it judges the gross profit to be inadequate for its participation in the sales transaction. During the second quarter of fiscal 2003, the Company elected to take such commissions on transactions whose sales would otherwise have been $2.8 million. Excluding acquisitions completed in fiscal year 2003, total net sales and revenues decreased 28.8%. Products and leasing sales decreased $46.7 million, or 28.7% to $116.2 million in the second quarter of fiscal 2003 from $162.9 million in the second quarter of fiscal 2002. Excluding acquisitions completed in fiscal year 2003, products and leasing sales decreased 32.8%. Service revenues decreased $2.5 million, or 7.4%, to $31.2 million in the second quarter of fiscal 2003 from $33.7 million in the second quarter of fiscal year 2002. Excluding acquisitions completed in fiscal year 2003, service revenues decreased 9.4%. Total net sales and revenues decreased $105.6 million, or 27.6%, to $277.3 million in the first six months of fiscal 2003 from $382.9 million in the first six months of fiscal 2002. This decrease was a result primarily of a continued industry-wide slowdown in technology spending due to the general weakness in the U.S. economy and the decrease in leasing revenue due to the sale of substantially all the assets of Technology Integration Financial Services, Inc. ("TIFS"). Further, the Company sometimes elects to take a commission from the manufacturers for arranging sales transactions where it judges the gross profit to be inadequate for its participation in the sales transaction. During the first six months of fiscal 2003, the Company elected to take such commissions on transactions whose sales would otherwise have been $5.3 million. Excluding acquisitions completed in fiscal year 2003, total net sales and revenues decreased 30.7%. Products and leasing sales decreased $100.2 million, or 31.7% to $216.2 million in the first six months of fiscal 2003 from $316.4 million in the first six months of fiscal 2002. Excluding acquisitions completed in fiscal year 2003, products and leasing sales decreased 35.1%. Service revenues decreased $5.4 million, or 8.1%, to $61.1 million in the first six months of fiscal 2003 from $66.5 million in the first six months of fiscal year 2002. Excluding acquisitions completed in fiscal year 2003, service revenues decreased 9.7%. 16 GROSS PROFIT. Gross profit decreased to 11.8% in the second quarter of fiscal 2003 as compared to 12.3% in the second quarter of fiscal 2002. This decrease in gross margin resulted primarily from the decrease in hardware and service margins and offset by the higher proportion of service gross margin to total gross margin. The decrease in hardware gross margin is primarily associated with the Company's strategic decision to aggressively price its hardware business in order to maintain and capture market share and to the weakened economic conditions of the IT industry. On a forward looking basis, the Company expects to continue its aggressive product pricing in order to gain existing market share which will have a continued impact on product gross margin. The competitive environment as well as less than maximum technical employee utilization rate has also resulted in downward pressure on service margins. Additionally, the Company expects to continue increasing the breadth and depth of its service offerings, which will have a continued impact on service gross margin. Service revenues increased to 21.1% of total net sales and revenues in the second quarter of fiscal 2003 compared to 17.1% of total net sales and revenues in the second quarter of fiscal 2002. Service gross margin increased to 48.6% of total gross margin in the second quarter of fiscal 2003 from 43.7% in the second quarter of fiscal 2002. Factors that may have an impact on gross margin in the future include the continued changes in hardware margins, change in personnel utilization rates, the mix of products sold and services provided, a change in unit prices, the percentage of equipment or service sales with lower-margin customers, the ratio of service revenues to total net sales and revenues, and the Company's decision to aggressively price certain products and services. Gross profit decreased to 12.2% in the first six months of fiscal 2003 as compared to 12.5% in the first six months of fiscal 2002. This decrease in gross margin resulted primarily from the decrease in hardware and service margins and offset by the higher proportion of service gross margin to total gross margin associated with the improved utilization of service personnel. The decrease in hardware gross margin is primarily associated with the Company's strategic decision to aggressively price its hardware business in order to maintain and capture market share and to the weakened economic conditions of the IT industry. On a forward looking basis, the Company expects to continue its aggressive product pricing in order to gain existing market share which will have a continued impact on product gross margin. The competitive environment as well as less than maximum technical employee utilization rate has also resulted in downward pressure on service margins. Additionally, the Company expects to continue increasing the breadth and depth of its service offerings, which will have a continued impact on service gross margin. Service revenues increased to 22.0% of total net sales and revenues in the first six months of fiscal 2003 compared to 17.4% of total net sales and revenues in the first six months of fiscal 2002. Service gross margin increased to 50.1% of total gross margin in the first six months of fiscal 2003 from 43.2% in the first six months of fiscal 2002. Factors that may have an impact on gross margin in the future include the continued changes in hardware margins, change in personnel utilization rates, the mix of products sold and services provided, a change in unit prices, the percentage of equipment or service sales with lower-margin customers, the ratio of service revenues to total net sales and revenues, and the Company's decision to aggressively price certain products and services. OPERATING EXPENSES. Selling, general and administrative expenses (including rent expense and provision for doubtful accounts) expressed as a percentage of total net sales and revenues increased to 8.7% in the second quarter of fiscal 2003 from 7.4% in the second quarter of fiscal 2002. This increase is primarily a result of lower than expected total net sales and revenues. Total operating expenses expressed as a percentage of total net sales and revenues increased to 9.6% in the second quarter of fiscal 2003 from 8.3% in the second quarter of fiscal 2002. This increase is primarily the result of lower than expected total net sales and revenues and litigation settlement. Selling, general and administrative expenses (including rent expense and provision for doubtful accounts) expressed as a percentage of total net sales and revenues increased to 9.1% in the first six months of fiscal 2003 from 7.6% in the first six months of fiscal 2002. This increase is primarily a result of lower than expected total net sales and revenues. Total operating expenses expressed as a percentage of total net sales and revenues increased to 10.1% in the first six months of fiscal 2003 from 8.5% in the first six months of fiscal 2002. This increase is primarily the result of lower than expected total net sales and revenues and the litigation settlement. 17 RESTRUCTURING CHARGE. During the second quarter of 2002, the Company recorded a restructuring charge of $0.5 million. The restructuring charge was related to the consolidation of business operations. LITIGATION SETTLEMENT. During the second quarter of 2003, the Company recorded a litigation settlement of $0.2 million. The litigation settlement is related to a single bankruptcy preference claim. INCOME FROM OPERATIONS. Income from operations decreased $4.6 million, or 59.0%, to $3.2 million in the second quarter of fiscal 2003 from $7.8 million in the second quarter of fiscal 2002. The Company's operating margin decreased to 2.2% in the second quarter of fiscal 2003 as compared to 4.0% in the second quarter of fiscal 2002. This decrease is primarily due to the increase in operating expenses as a percentage of total net sales and revenues and the decrease in the Company's gross margin. Income from operations decreased $9.7 million, or 63.0%, to $5.7 million in the first six months of fiscal 2003 from $15.4 million in the first six months of fiscal 2002. The Company's operating margin decreased to 2.1% in the first six months of fiscal 2003 as compared to 4.0% in the first six months of fiscal 2002. This decrease is primarily due to the increase in operating expenses as a percentage of total net sales and revenues and the decrease in the Company's gross margin. INTEREST EXPENSE. Interest Income was $.08 million in the second quarter of fiscal 2003 compared to interest expense of $0.2 million in the second quarter of fiscal 2002. This decrease was due to reduced borrowings as a result of improved cash flow and a reduced interest rate charged by the Company's lender. Interest income was $.02 million in the first six months of fiscal 2003 compared to interest expense of $0.3 million in the first six months of fiscal 2002. This decrease was due to reduced borrowings as a result of improved cash flow, the sale of certain T.I.F.S. assets and a reduced interest rate charged by the Company's lender. INCOME TAXES. The Company's effective tax rate was 39.0% in the second quarter of fiscal 2003 compared to 39.0% in the second quarter of fiscal 2002. The Company's effective tax rate was 39.0% in the first six months of fiscal 2003 compared to 38.5% in the first six months of fiscal 2002. This increase relates to an expected increase in state tax liabilities. NET INCOME. Net income decreased $2.6 million, or 56.5%, to $2.0 million in the second quarter of fiscal 2003 from $4.6 million in the second quarter of fiscal 2002 due to the factors described above. Net income decreased $5.8 million, or 62.4%, to $3.5 million in the first six months of fiscal 2003 from $9.3 million in the first six months of fiscal 2002 due to the factors described above. 18 LIQUIDITY AND CAPITAL RESOURCES Cash provided by operating activities was $32.5 million in the first six months of fiscal 2003. Cash used in investing activities was $4.7 million, which included $3.5 million for an acquisition made in 2003 and prior year acquisitions and $1.2 million for capital expenditures. Cash used in financing activities was $2.5 million, which included $2.7 million for the purchase of treasury stock, and offset by $0.2 million in proceeds from the employee stock purchase plan and exercise of stock options. A significant part of the Company's inventories is financed by floor plan arrangements with third parties. At July 5, 2003, these lines of credit totaled $84.0 million, including $72.0 million with GE Commercial Distribution Finance ("GECDF") and $12.0 million with IBM Credit Corporation ("ICC"). Borrowings under the GECDF floor plan arrangements are made on thirty-day notes. Borrowings under the ICC floor plan arrangements are made on either thirty-day or sixty-day notes. All such borrowings are secured by the related inventory. Financing on substantially all of the arrangements is interest free due to subsidies by manufacturers. Overall, the average rate on these arrangements is less than 1.0% per annum. The Company classifies amounts outstanding under the floor plan arrangements as accounts payable. The Company's financing of receivables is provided through a portion of its credit facility with GECDF. The Company's $240.0 million credit facility with GECDF has a three year term and includes $72.0 million for inventory financing as described above, $144.0 million for working capital which is based upon accounts receivable financing, and a cash-flow component in the form of a $24.0 million term loan, which is not restricted to a borrowing base. The accounts receivable and term loan portion of the credit facility carry a variable interest rate based on the London InterBank Offering Rate ("LIBOR") and a pricing grid. This credit facility expires June 28, 2004. At July 5, 2003, the Company did not have a balance outstanding under this facility. The credit facility is collateralized by substantially all of the assets of the Company, except those assets that collateralize certain other financing arrangements. Under the terms of the credit facility, the Company is subject to various financial covenants. Currently, the Company is in compliance with all financial covenants. The Company believes that the anticipated cash flow from operations and current financing arrangements will be sufficient to satisfy the Company's capital requirements for the next twelve months. Historically, the Company has financed acquisitions using a combination of cash, earn outs, shares of its Common Stock and seller financing. The Company anticipates that future acquisitions will be financed in a similar manner.

AGGREGATED INFORMATION ABOUT CONTRACTUAL OBLIGATIONS AND OTHER COMMITMENTS MORE THAN TOTAL YEAR 1 YEAR 2 YEAR 3 YEAR 4 YEAR 5 5 YEARS ------- ------- ------- ------- ------- ------- --------- Acquisition note $ 1,204 $ 1,204 $ - $ - $ - $ - $ - Operating leases 15,365 2,344 3,298 2,853 1,786 1,513 3,571 Long term notes payable 663 - 663 - - - - ------- ------- ------- ------- ------- ------- --------- Total contractual cash obligations $17,232 $ 3,548 $ 3,961 $ 2,853 $ 1,786 $ 1,513 $ 3,571 ======= ======= ======= ======= ======= ======= =========

19 On January 29, 2003, the Company's Board of Directors authorized a program to repurchase up to an additional 100,000 shares of the Company's outstanding common stock, which represents less than 1.0% of its outstanding common stock, in open market purchases made from time to time at the discretion of the Company's management. On May 13, 2003, the Company announced that its Board of Directors authorized the repurchase of an additional 1,000,000 shares through its stock repurchase program. The additional shares to be repurchased represent approximately 8.0% of the Company's outstanding common stock and will be purchased in open market purchases made from time to time at the discretion of the Company's management. The time and extent of the repurchases will depend on market conditions. The acquired shares will be held in treasury or cancelled. The Company anticipates financing the stock redemption program out of working capital and the redemption program will be effectuated over the next 12 months. On February 21, 2003, the Company announced the completion of the acquisition of Micrologic Business Systems of K.C., INC. ("Micrologic"), a Kansas City based IT solutions and professional services provider. For the twelve months ended December 31, 2002, Micrologic has recorded revenues of $32.0 million. Their primary services include systems network integration, project management, and telephony integration. On July 18, 2003, the Company announced that it will pay a one time dividend of approximately $10 million or $.80 per share to shareholders of record as of July 28, 2003. The dividend was paid on August 7, 2003. 20 Item 3-Quantitative and Qualitative Disclosures about Market Risk. The Company is exposed to interest rate risk primarily through its credit facility with GECDF. Due to the Company's current cash position, the Company did not experience a material impact from interest rate risk for the first six months of fiscal 2003. Currently, the Company does not have any significant financial investments for trading or other speculative purposes or to manage interest rate exposure. Item 4-Controls and Procedures The Company's chief executive officer and chief financial officer evaluated the Company's disclosure controls and procedures within the 90-day period prior to the date of this report pursuant to Rule 13a-14(c) and 15d-14(c) of the Securities Exchange Act of 1934. Their evaluation concluded that the disclosure controls and procedures are effective in connection with the filing of this quarterly report on Form 10-Q for the three months and six months ended July 5, 2003. There have been no significant changes in the Company's internal controls or in other factors that could significantly affect these controls subsequent to the date of their evaluation, including any significant deficiencies or material weaknesses of internal controls that would require corrective action. 21 PART II - OTHER INFORMATION Item 1-Legal Proceedings There are various legal actions arising in the normal course of business that have been brought against the Company. Management believes these matters will not have a material adverse effect on the Company's financial position or results of operations. Item 2-Changes in Securities and Use of Proceeds . . . . . . . None Item 3-Defaults Upon Senior Securities . . . . . . . . . . . . None Item 4-Submission of Matters to a Vote of Security Holders . . On June 19, 2003, the Company held its annual meeting of stockholders for the following purposes: 1. To elect eight directors; and 2. To approve the amendment of the Company's Certificate of Incorporation and grant the Company full authority to change its name from Pomeroy Computer Resources, Inc. to Pomeroy IT Solutions, Inc. The voting on the above matters by the stockholders was as follows: Matter ------ Election of Directors: For Withheld ---------------------- --- -------- David B. Pomeroy, II 10,305,898 1,682,682 James H. Smith III 11,791,100 197,480 Michael E. Rohrkemper 10,197,930 1,790,650 Stephen E. Pomeroy 10,317,251 1,671,329 William H. Lomicka 11,782,372 206,208 Vincent D. Rinaldi 10,247,274 1,741,306 Debra E. Tibey 11,668,572 320,008 Edward E. Faber 11,692,365 296,215 Approve the Company's Name Change ------------------------------------- 11,975,827 shareholders voted in favor of the forgoing proposal and 10,525 shareholders voted against the forgoing proposal. 2,228 shareholders abstained from voting and there were 0 shares of Broker Non-Votes on the forgoing proposal. The number of shares voted in favor of the proposal was sufficient for its passage. Item 5-Other Information . . . . . . . . . . . . . . . . . . . None 22 Item 6-Exhibits and Reports on Form 8-K (a) Reports on Form 8-K . . . . . . . . . . . . . . . On May 23, 2003, the Company reported the announcement that the Company's Board of Directors had authorized the addition of $1 million shares to its stock repurchase program. On June 30, 2003, the Company reported the announcement of its name change to Pomeroy IT Solutions, Inc. effective July 1, 2003. On July 18, 2003, the Company reported the announcement of a one time dividend of approximately $10 million or $.80 per share to shareholders of record as of July 28, 2003. The dividend was paid on August 7, 2003. (b) Exhibits 3 3(i)(a)5 Certificate of Amendment to Certificate of Incorporation for Pomeroy Computer Resources, Inc., dated June 19, 2003. 3(i)(a)6 Certificate of Amendment to Certificate of Incorporation for Pomeroy Computer Resources Sales Company, Inc., dated June 19, 2003. (mm)(13) Fourth amendment to credit facilities agreement (mm)(14) Fifth amendment and consent to credit facilities agreement 11 Computation of earnings per share 31(a) Section 302 CEO Certification 31(b) Section 302 CF0 Certification 32(a) Section 906 CEO Certification 32(b) Section 906 CFO Certification SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. POMEROY IT SOLUTIONS, INC. -------------------------- (Registrant) Date: August 19, 2003 By: /s/ Michael E. Rohrkemper -------------------------------- Michael E. Rohrkemper Chief Financial Officer and Chief Accounting Officer 23