CSG Systems International Reports Results for Second Quarter 2011

Tuesday, August 2, 2011 4:00 pm EDT

Dateline:

ENGLEWOOD, Colo.

Public Company Information:

NASDAQ:
CSGS
"We are undergoing a significant transformation of our company – going from a North American-based provider of outsourced services, to a global provider with a wide variety of delivery models"

ENGLEWOOD, Colo.--(BUSINESS WIRE)--CSG Systems International, Inc. (Nasdaq: CSGS), a leading provider of customer interaction management and billing solutions, today reported results for the quarter ended June 30, 2011.

Key Financial Highlights:

  • Second quarter 2011 results:
  • Total revenues were $181.3 million.
  • Non-GAAP operating income was $32.7 million, or 18.0% of total revenues and GAAP operating income was $22.4 million, or 12.3% of total revenues.
  • Non-GAAP earnings per diluted share (EPS) was $0.49, which includes a negative $0.03 per share impact as a result of a higher than expected income tax rate. GAAP EPS was $0.27.
  • Cash flows from operations for the quarter were $0.7 million, and were negatively impacted by unexpected changes in working capital, primarily as a result of the timing of payments from a significant client which were received after quarter end.
  • As anticipated, in June, holders of CSG’s 2004 convertible debt securities exercised their put option, and CSG paid $24.1 million for the par value of this debt. The remaining $1 million of this debt was called by CSG in June, retiring this issuance of bonds in their entirety in July.

“We are undergoing a significant transformation of our company – going from a North American-based provider of outsourced services, to a global provider with a wide variety of delivery models,” said Peter Kalan, President and Chief Executive Officer of CSG International. “We expected the transformation would require us to execute at a level and pace we knew would be challenging. We set our goals high – however, we got off to a slower than expected start to the year. Based on what we see today, we are not progressing at the pace we previously expected.

“Although we now believe it will take longer to achieve some of our near-term goals, we still believe that the decisions we have made, in particular the Intec Telecom acquisition, are the right long-term decisions for the company,” Kalan added. “We have enhanced our product offerings, expanded our geographic reach, improved the diversity of our client base and increased the number of ways we can help our clients be successful.”

Financial Overview (unaudited)

(in thousands, except per share amounts and percentages):

  Quarter Ended June 30,     Six Months Ended June 30,

 

2011

 

 

2010

 

Percent
Change

 

2011

 

 

2010

 

Percent
Change

Revenues

$ 181,312 $ 131,346 38% $ 364,404 $ 261,609 39%
Non-GAAP Results:
Operating Income $ 32,711 $ 29,695 10% $ 65,729 $ 57,987 13%
Operating Income Margin 18.0% 22.6% - 18.0% 22.2% -
EPS $ 0.49 $ 0.53 (8)% $ 1.03 $ 1.02 1%
GAAP Results:
Operating Income $ 22,371 $ 14,757 52% $ 46,475 $ 31,159 49%
Operating Income Margin 12.3% 11.2% - 12.8% 11.9% -
EPS $ 0.27 $ 0.35 (23)% $ 0.62 $ 0.37 68%

For additional information and reconciliations regarding CSG’s use of non-GAAP financial measures, please refer to the attached Exhibit 2 and the Investor Relations section of CSG’s website at www.csgi.com.

Results of Operations

Revenues: Total revenues for the second quarter of 2011 were $181.3 million, a 38% increase when compared to revenues of $131.3 million for the second quarter of 2010, with the increase attributed to the inclusion of the financial results from Intec Telecom in 2011, which was acquired on November 30, 2010. Revenues for the first quarter of 2011 were $183.1 million. The sequential quarterly decrease can be primarily attributed to a full quarter’s impact of the discount provided to DISH for their seven-year contract extension and lower client discretionary spending for ancillary services.

Non-GAAP Results: Non-GAAP operating income for the second quarter of 2011 was $32.7 million, or 18.0% of total revenues, which compares to $29.7 million, or 22.6%, for the same period in 2010. The 18% non-GAAP operating margin is consistent with the company’s expectations as it reflects the lower margin profile of Intec’s global software and services business. Non-GAAP operating income for the first quarter of 2011 was $33.0 million, or 18.0%.

Non-GAAP EPS for the second quarter of 2011 was $0.49, compared to non-GAAP EPS of $0.53 for the second quarter of 2010, with the decrease primarily the result of a higher effective income tax rate for the quarter, caused by unanticipated losses in certain foreign entities for which a tax benefit for those losses cannot be taken at this time. The negative impact of this higher than expected effective income tax rate for the second quarter of 2011 was $0.03 per diluted share. Non-GAAP EPS for the first quarter of 2011 was $0.54.

GAAP Results: GAAP operating income for the second quarter of 2011 was $22.4 million, or 12.3% of total revenues, compared to $14.8 million, or 11.2%, for the same period in 2010. The data center migration expenses reduced operating income by $10.6 million for the second quarter 2010, with no such comparable expenses in 2011.

GAAP EPS for the second quarter of 2011 was $0.27, compared to $0.35 for the second quarter of 2010. GAAP EPS for the second quarter of 2011, when compared to GAAP EPS for the second quarter of 2010 was impacted by the following items:

  • the $4.80 million of amortization of acquired intangible assets related to the Intec acquisition, which negatively impacted GAAP EPS by $0.09 per diluted share; and
  • restructuring charges of $1.3 million, which negatively impacted GAAP EPS by $0.02 per diluted share.

Additionally, GAAP EPS for the second quarter of 2010 was impacted by the following items, for which there were no comparable amounts in the second quarter of 2011:

  • the data center transition expenses of $10.6 million, which negatively impacted the second quarter of 2010 GAAP EPS by $0.20 per diluted share; and
  • favorable adjustments to our income tax reserves of approximately $4 million as a result of the completion of an IRS examination during the second quarter of 2010, which provided a positive GAAP EPS impact of $0.13 per diluted share.

Balance Sheet and Cash Flows

Balance Sheet: Certain key balance sheet items as of the end of the indicated quarters are as follows (in thousands):

  June 30,

2011

    March 31,

2011

    December 31,

2010

Cash, cash equivalents, and short-term investments (1) $ 134,350 $ 167,370 $ 215,550
Net trade accounts receivable (2) 166,436 148,634 155,005
Total long-term debt (1):
Par value $ 346,000 $ 372,649 $ 410,149
Unamortized OID   (32,593)   (34,013)   (35,462)
Net debt carrying amount $ 313,407 $ 338,636 $ 374,687
(1)   The sequential decrease in cash and investments and long-term debt during the second quarter of 2011 reflects CSG’s $24 million payment of its 2004 convertible debt securities, which, as anticipated, were put back to the company in June 2011.
(2) The sequential increase in net trade accounts receivable of approximately $18 million during the second quarter of 2011 is primarily due to the timing of payments from a significant client, which were received after quarter end.
 

Cash Flows: Certain key operating cash flow items for the indicated periods then ended are as follows (in thousands):

  June 30,

2011

    March 31,

2011

    June 30,

2010

Cash Flows from Operating Activities:
Operations (3) $ 21,753 $ 39,687 $ 25,052
Changes in operating assets and liabilities (4)   (21,040)   (41,576)   (641)
Net cash provided by (used in) operating activities $ 713 $ (1,889) $ 24,411
Cash Flows from Investing Activities:
Purchases of property and equipment $ (6,811) $ (4,250) $ (3,471)
(3)   As a result of CSG’s payment of its convertible debt securities, discussed in Note 1 above, $6 million of deferred income tax liabilities associated with the debt became payable, thus negatively impacting the operations portion of CSG’s cash flows from operating activities.
(4) The changes in operating assets and liabilities for the second quarter of 2011 were negatively impacted by the increase in accounts receivable, discussed in Note 2 above, in addition to decreases in deferred revenue and accrued liabilities. These unfavorable changes were partially offset by the increase in income taxes payable, discussed in Note 3 above. Thus, the tax impact related to the convertible debt securities on CSG’s overall cash flows from operating activities for the second quarter of 2011 was neutral.
 

2011 Financial Guidance

The company is reducing its financial guidance downward for the full year as a result of the slower than anticipated start for the first half of 2011, and lower expectations for the second half of the year. CSG’s updated financial guidance for the full year 2011 is as follows:

 

Revised Guidance

     

Previous Guidance

Revenues $730 - $750 million $757 - $765 million
Non-GAAP EPS $2.08 - $2.18 $2.24 - $2.32
GAAP EPS from continuing operations $1.18 - $1.30 $1.47 - $1.55
Adjusted EBITDA $172 - $176 million $177 - $181 million
 

For additional information and reconciliations regarding CSG’s use of non-GAAP financial measures, please refer to the attached Exhibit 2 and the Investor Relations section of CSG’s website at www.csgi.com.

Conference Call

CSG will host a one-hour conference call on August 2, 2011, at 5:00 p.m. ET, to discuss CSG's second quarter results. The call will be carried live and archived on the Internet. A link to the conference call is available at www.csgi.com. In addition, to reach the conference by phone, dial (877) 941-8609 and ask the operator for the CSG International conference call and Liz Bauer, chairperson.

Additional Information

For information about CSG, please visit CSG’s web site at www.csgi.com. Additional information can be found in the Investor Relations section of the web site.

About CSG International

CSG Systems International, Inc. (NASDAQ: CSGS) is a market-leading business support solutions and services company serving the majority of the top 100 global communications service providers, including leaders in fixed, mobile and next-generation networks such as AT&T, Comcast, DISH Network, France Telecom, MasterCard, Orange, T-Mobile, Telefonica, Time Warner Cable, Vodafone, Vivo and Verizon. With over 25 years of experience and expertise in voice, video, data and content services, CSG International offers a broad portfolio of licensed and Software-as-a-Service (SaaS)-based products and solutions that help clients compete more effectively, improve business operations and deliver a more impactful customer experience across a variety of touch points. For more information, visit our website at www.csgi.com.

Forward-Looking Statements

This news release contains forward-looking statements as defined under the Securities Act of 1933, as amended, that are based on assumptions about a number of important factors and involve risks and uncertainties that could cause actual results to differ materially from what appears in this news release. Some of these key factors include, but are not limited to the following items:

  • CSG derives approximately forty percent of its revenues from its three largest clients;
  • Continued market acceptance of CSG’s products and services;
  • CSG's ability to continuously develop and enhance products in a timely, cost-effective, technically advanced and competitive manner;
  • CSG's ability to deliver its solutions in a timely fashion within budget, particularly large and complex software implementations;
  • CSG’s dependency on the global telecommunications industry, and in particular, the North American telecommunications industry;
  • CSG’s ability to meet its financial expectations as a result of increased dependency on software sales, which are subject to greater volatility;
  • Increasing competition in CSG’s market from companies of greater size and with broader presence in the communications sector;
  • CSG’s ability to successfully integrate and manage acquired businesses or assets to achieve expected strategic, operating and financial goals;
  • CSG’s continued ability to protect its intellectual property rights;
  • CSG’s ability to maintain a reliable, secure computing environment;
  • CSG’s conducting business in the international marketplace; and
  • Fluctuations in credit market conditions, general global economic and political conditions, and foreign currency exchange rates.

This list is not exhaustive and readers are encouraged to review the additional risks and important factors described in CSG's reports on Forms 10-K and 10-Q and other filings made with the SEC.

     

CSG SYSTEMS INTERNATIONAL, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS-UNAUDITED

(in thousands, except share and per share amounts)

 

June 30,
2011

December 31,
2010

ASSETS

Current assets:
Cash and cash equivalents $ 114,355 $ 197,858
Short-term investments   19,995   17,692

Total cash, cash equivalents, and short-term investments

134,350 215,550
Trade accounts receivable-
Billed, net of allowance of $2,541 and $1,837 166,436 155,005
Unbilled and other 37,617 30,803
Deferred income taxes 18,224 13,852
Income taxes receivable 1,637 9,043
Other current assets   21,515   17,241
Total current assets 379,779 441,494
Property and equipment, net of depreciation of $104,856 and $94,236 51,046 52,257
Software, net of amortization of $51,106 and $45,579 34,570 31,118
Goodwill 200,443 209,164
Client contracts, net of amortization of $146,175 and $133,218 108,310 116,328
Deferred income taxes 9,446 9,677
Other assets   16,427   19,660

Total assets

$ 800,021 $ 879,698

LIABILITIES AND STOCKHOLDERS’ EQUITY

Current liabilities:

Current maturities of long-term debt, net of unamortized original issue discount of
  zero and $621

$

16,000

$

69,528

Client deposits 29,899 31,897
Trade accounts payable 28,206 25,381
Accrued employee compensation 35,097 53,372
Income taxes payable 2,433 2,028
Deferred revenue 45,451 56,184
Other current liabilities   25,904   32,019
Total current liabilities   182,990   270,409
Non-current liabilities:
Long-term debt, net of unamortized original issue discount of $32,593 and $34,841 297,407 305,159
Deferred revenue 8,062 16,103
Income taxes payable 1,168 954
Deferred income taxes 23,709 33,247
Other non-current liabilities   19,353   16,748
Total non-current liabilities   349,699   372,211
Total liabilities   532,689   642,620
Stockholders’ equity:

Preferred stock, par value $.01 per share; 10,000,000 shares authorized;
  zero shares issued and outstanding

-

-

Common stock, par value $.01 per share; 100,000,000 shares authorized;
  34,607,509 shares and 34,120,789 shares outstanding

646

641

Additional paid-in capital 443,549 439,712
Treasury stock, at cost, 29,956,808 shares (6 (704,963) (704,963)
Accumulated other comprehensive income (loss):
Unrealized gain on short-term investments, net of tax 5 4
Unrecognized pension plan losses and prior service costs, net of tax (893) (897)
Unrealized loss on change in fair value of interest rate swap, net of tax (420) -
Cumulative translation adjustments 7,186 868
Accumulated earnings   522,222   501,713
Total stockholders’ equity   267,332   237,078
Total liabilities and stockholders’ equity $ 800,021 $ 879,698
 
     

CSG SYSTEMS INTERNATIONAL, INC.

CONDENSED CONSOLIDATED STATEMENTS OF INCOME-UNAUDITED

(in thousands, except per share amounts)

 
Quarter Ended Six Months Ended
June 30,

2011

  June 30,

2010

June 30,

2011

  June 30,

2010

Revenues:
Processing and related services $ 129,113 $ 121,363 $ 260,491 $ 243,409
Software, maintenance and services   52,199   9,983   103,913   18,200
Total revenues   181,312   131,346   364,404   261,609
 
Cost of revenues (exclusive of depreciation, shown separately below):
Processing and related services 60,802 68,925 122,061 135,929
Software, maintenance and services   30,074   5,912   59,579   11,880
Total cost of revenues 90,876 74,837 181,640 147,809
Other operating expenses:
Research and development 27,920 18,990 56,558 37,502
Selling, general and administrative 32,526 16,678 65,865 33,212
Depreciation 6,273 6,091 12,520 11,713
Restructuring charges   1,346   (7)   1,346   214
Total operating expenses   158,941   116,589   317,929   230,450
Operating income   22,371   14,757   46,475   31,159
Other income (expense):
Interest expense (4,325) (1,629) (8,666) (3,177)
Amortization of original issue discount (1,420) (1,685) (2,869) (3,985)
Gain (loss) on repurchase of convertible debt securities - - - (10,952)
Interest and investment income, net 175 251 409 367
Other, net   (985)   6   (1,288)   4
Total other   (6,555)   (3,057)   (12,414)   (17,743)
Income before income taxes 15,816 11,700 34,061 13,416
Income tax provision   (6,801)   (234)   (13,552)   (886)
Net income $ 9,015 $ 11,466 $ 20,509 $ 12,530
 
Weighted-average shares outstanding – Basic:

Common stock 33,070 33,084

32,866 32,303 32,738 32,677
Participating restricted stock   161   531   244   637
Total   33,027   32,834   32,982   33,314
 
Weighted-average shares outstanding – Diluted:
Common stock 33,072 32,562 32,962 32,938
Participating restricted stock   161   531   244   637
Total   33,233   33,093   33,206   33,575
 
Earnings per common share:
Basic $ 0.27 $ 0.35 $ 0.62 $ 0.38
Diluted 0.27 0.35 0.62 0.37
 
 

CSG SYSTEMS INTERNATIONAL, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS-UNAUDITED

(in thousands)

 
Six Months Ended
June 30,

2011

    June 30,

2010

Cash flows from operating activities:

Net income $ 20,509 $ 12,530
Adjustments to reconcile net income to net cash provided by (used in) operating

activities -

Depreciation 12,520 11,713
Amortization 21,215 8,285
Amortization of original issue discount 2,869 3,985
Gain on short-term investments and other (34) (79)
Loss on repurchase of convertible debt securities - 10,952
Deferred income taxes (1,344) (44)
Excess tax benefit of stock-based compensation awards (824) (1,098)
Stock-based employee compensation   6,529   6,184

Subtotal

61,440 52,428
Changes in operating assets and liabilities:
Trade accounts and other receivables, net (17,769) 7,360
Other current and non-current assets (2,175) (3,911)
Income taxes payable/receivable 8,398 (6,423)
Trade accounts payable and accrued liabilities (28,987) 3,637
Deferred revenue   (22,083)   2,644
Net cash provided by (used in) operating activities   (1,176)   55,735
Cash flows from investing activities:
Purchases of property and equipment (11,061) (7,519)
Purchases of short-term investments (19,968) (46,922)
Proceeds from sale/maturity of short-term investments 17,700 34,900
Acquisition of businesses, net of cash acquired - (2,764)
Acquisition of and investments in client contracts   (4,479)   (2,623)
Net cash used in investing activities   (17,808)   (24,928)
Cash flows from financing activities:
Proceeds from issuance of common stock 753 772
Repurchase of common stock (4,049) (33,643)
Payments on acquired equipment financing (834) (571)
Proceeds from long-term debt - 150,000
Payments of deferred financing costs (205) (4,268)
Payments on long-term debt (64,149) (124,992)
Excess tax benefit of stock-based compensation awards   824   1,098
Net cash used in financing activities   (67,660)   (11,604)
Effect of exchange rate fluctuations on cash   3,141   -
Net increase (decrease) in cash and cash equivalents (83,503) 19,203
Cash and cash equivalents, beginning of period   197,858   163,489
Cash and cash equivalents, end of period $ 114,355 $ 182,692
 
 
Supplemental disclosures of cash flow information:
Net cash paid during the period for -
Interest $ 7,233 $ 1,499
Income taxes 6,213 7,365
 

EXHIBIT 1
CSG SYSTEMS INTERNATIONAL, INC.
SUPPLEMENTAL REVENUE ANALYSIS

CSG International completed its acquisition of Intec Telecom Systems on November 30, 2010. Therefore, CSG included Intec’s financial results for one month in its fourth quarter and full year results ended December 31, 2010, and for a full three months in its first and second quarters ended March 31, 2011 and June 30, 2011.

By integrating Intec’s significantly higher global revenue base, CSG increased its geographic revenue diversification and decreased its customer concentration, as noted in the tables below:

Revenues by Geography

         
Quarter Ended

June 30, 2011

Quarter Ended

March 31, 2011

Year Ended

December 31, 2010

Americas 86% 86% 98%
Europe, Middle East and Africa 10% 10% 2%
Asia Pacific 4% 4% <1%
Total Revenues 100% 100% 100%
 

 

Revenues by Significant Customers: 10% or more of Revenues

 
Quarter Ended

June 30, 2011

Quarter Ended

March 31, 2011

Year Ended

December 31, 2010

Comcast 18% 19% 24%
DISH 12% 13% 18%
Time Warner 11% <10% 12%
Charter <10% <10% 10%
 

Customer Accounts (in 000’s at end of period)

  June 30, 2011     March 31, 2011     December 31, 2010
Cable and Satellite Customer Accounts 48,860 49,081 48,913
 

EXHIBIT 2
CSG SYSTEMS INTERNATIONAL, INC.
DISCLOSURES FOR NON-GAAP FINANCIAL MEASURES

Use of Non-GAAP Financial Measures and Limitations

To supplement its condensed consolidated financial statements presented in accordance with generally accepted accounting principles (GAAP), CSG uses non-GAAP operating income, non-GAAP EPS, non-GAAP adjusted EBITDA, and non-GAAP free cash flow. CSG believes that these non-GAAP financial measures, when reviewed in conjunction with its GAAP financial measures, provide investors with greater transparency to the information used by CSG’s management in its financial and operational decision making. CSG uses these non-GAAP financial measures for the following purposes:

  • Certain internal financial planning, reporting, and analysis;
  • Forecasting and budgeting purposes;
  • Certain management compensation incentives; and
  • Communications with CSG’s Board of Directors, stockholders, financial analysts, and investors.

These non-GAAP financial measures are provided with the intent of providing investors with the following information:

  • A more complete understanding of CSG’s underlying operational results, trends, and cash generating capabilities;
  • Consistency and comparability with CSG’s historical financial results; and
  • Comparability to similar companies, many of which present similar non-GAAP financial measures to investors.

Non-GAAP financial measures are not measures of performance under GAAP, and therefore should not be considered in isolation or as a substitute for GAAP financial information. Limitations with the use of non-GAAP financial measures include the following items:

  • Non-GAAP financial measures are not based on any comprehensive set of accounting rules or principles;
  • The way in which CSG calculates non-GAAP financial measures may differ from the way in which other companies calculate similar non-GAAP financial measures;
  • Non-GAAP financial measures do not include all items of income and expense that affect CSG’s operations and that are required by GAAP to be included in financial statements;
  • Certain adjustments to CSG’s non-GAAP financial measures result in the exclusion of items that are recurring and will be reflected in CSG’s financial statements in future periods; and
  • Certain charges excluded from CSG’s non-GAAP financial measures are cash expenses, and therefore do impact CSG’s cash position.

CSG compensates for these limitations by relying primarily on its GAAP results and using non-GAAP financial measures as a supplement only. Additionally, CSG provides specific information regarding the treatment of GAAP amounts considered in preparing the non-GAAP financial measures and reconciles each non-GAAP financial measure to the most directly comparable GAAP measure.

Non-GAAP Financial Measures: Basis of Presentation

The table below outlines the exclusions from CSG’s non-GAAP financial measures:

     

Non-GAAP Exclusions

Operating
Income

EPS

Data center transition expenses (1) X X
Intec acquisition-related charges (1) X X
Restructuring charges X X
Stock-based compensation X X
Amortization of acquired intangible assets X X
Amortization of original issue discount (“OID”) - X
Gain/loss on repurchase of convertible debt securities - X
Unusual income tax matters - X
 
    (1)   The data center transition project and the Intec acquisition were completed in 2010, and thus, there are no anticipated costs for either of these items in 2011.
 

CSG believes that excluding certain items in calculating its non-GAAP financial measures provides meaningful supplemental information regarding CSG’s performance and these items are excluded for the following reasons:

  • The data center transition expenses are not considered reflective of CSG’s recurring core business operating results. The exclusion of these items in calculating CSG’s non-GAAP financial measures allows management and investors an additional means to compare CSG’s current operating results with historical and future periods.
  • The Intec acquisition-related charges relate to certain direct and incremental expenses related to the acquisition of Intec, and thus, are not considered reflective of CSG’s recurring core business operating results. These charges include expenses related to the following: (i) restructuring; (ii) investment banking, legal, accounting, and other professional services; and (iii) costs primarily related to the settlement of foreign currency hedging instruments associated with the funding of the Intec acquisition. The exclusion of these charges in calculating CSG’s non-GAAP financial measures allows management and investors an additional means to compare CSG’s current financial results with historical and future periods.
  • Restructuring charges are infrequent expenses that result from cost reduction initiatives and/or significant changes to CSG’s business, to include such things as involuntary employee terminations, and facility consolidations and abandonments. These charges are not considered reflective of CSG’s recurring core business operating results. The exclusion of these items in calculating CSG’s non-GAAP financial measures allows management and investors an additional means to compare CSG’s current operating results with historical and future periods.
  • Stock-based compensation results from CSG’s issuance of its common stock to its employees under incentive compensation programs. The amount of this incentive compensation in any period is not generally linked to the level of performance by employees or CSG, but instead is more dependent on CSG’s stock price at the stock grant date, and the employee service period over which the equity awards vest. The exclusion of these expenses in calculating CSG’s non-GAAP financial measures allows management and investors an additional means to evaluate the non-cash expense related to compensation included in CSG’s results of operations. In addition, the stock-based compensation expense is a non-cash expense, and therefore the exclusion of this item allows investors to further evaluate the cash generating capabilities of CSG’s business.
  • Amortization of acquired intangible assets is the result of business acquisitions. A portion of the purchase price in an acquisition is allocated to the intangible assets (e.g., software, client relationships, etc.) acquired, which are then amortized to expense over their estimated useful lives. This annual amortization expense is generally unchanged from the initial estimates, regardless of performance of the acquired business in any one period. Also, the value assigned to acquired intangible assets in a business combination is based on various estimates and valuation techniques, and does not necessarily represent the costs CSG would incur to develop such capabilities internally. Additionally, amortization of acquired intangible assets can be inconsistent in amount and frequency, and can be significantly affected by the timing and size of an acquisition. The exclusion of these expenses in calculating CSG’s non-GAAP financial measures allows management and investors an additional means to evaluate the non-cash expense related to acquisitions included in CSG’s subsequent results of operations. In addition, the amortization of acquired intangible assets is a non-cash expense, and therefore the exclusion of this item allows investors to further evaluate the cash generating capabilities of CSG’s business.
  • The convertible debt securities OID is the result of allocating a portion of the principal balance of the debt at issuance to the equity component of the instrument, as required under current accounting rules. This OID is then amortized to interest expense over the life of the respective convertible debt instrument. The interest expense related to the amortization of the OID is a non-cash expense, and therefore the exclusion of this item allows investors to further evaluate the cash interest costs of CSG‘s convertible debt securities for cash flow, liquidity, and debt service purposes.
  • Gains and losses related to the repurchase of CSG’s convertible debt securities are not considered reflective of CSG’s recurring core business operating results. The exclusion of these gains and losses in calculating CSG’s non-GAAP financial measures allows management and investors an additional means to compare CSG’s current operating results with historical and future periods.
  • Unusual items within CSG’s quarterly and/or annual income tax expense can occur from such things as income tax accounting timing matters, income taxes related to unusual events, or as a result of different treatment of certain items for book accounting and income tax purposes. Consideration of such items in calculating CSG’s non-GAAP financial measures allows management and investors an additional means to compare CSG’s current financial results with historical and future periods.

CSG also reports non-GAAP adjusted EBITDA and non-GAAP free cash flow. Management believes non-GAAP adjusted EBITDA is a useful measure to investors in evaluating CSG’s operating performance, liquidity, debt servicing capabilities, and enterprise valuation. CSG defines adjusted EBITDA as income before interest, taxes, depreciation, amortization, stock-based compensation, foreign currency transaction adjustments, and unusual items, such as the data center transition expenses, restructuring charges, and Intec acquisition-related charges, as discussed above. Additionally, management uses non-GAAP free cash flow, among other measures, to assess its financial performance and cash generating capabilities, and believes that it is useful to investors because it shows CSG’s cash available to service debt, make strategic acquisitions and investments, repurchase its common stock, and fund ongoing operations. CSG defines non-GAAP free cash flow as net cash flows from operating activities less the purchases of property and equipment.

Non-GAAP Financial Measures

Non-GAAP Operating Income:

The reconciliations of GAAP operating income to non-GAAP operating income for the indicated periods are as follows (in thousands, except percentages):

  Quarter Ended

June 30, 2011

    Quarter Ended

June 30, 2010

Amounts

 

% of
Revenues

Amounts

 

% of
Revenues

GAAP operating income $ 22,371 12.3% $ 14,757 11.2%
Data center transition expenses - - 10,600 8.1%
Restructuring charges 1,346 0.7% - -
Stock-based compensation 3,255 1.8% 3,175 2.4%
Amortization of acquired intangible assets   5,739 3.2%   1,163 0.9%
Non-GAAP operating income $ 32,711 18.0% $ 29,695 22.6%
  Six Months Ended

June 30, 2011

    Six Months Ended

June 30, 2010

Amounts

 

% of
Revenues

Amounts

 

% of
Revenues

GAAP operating income $ 46,475 12.8% $ 31,159 11.9%
Data center transition expenses - - 18,317 7.0%
Restructuring charges 1,346 0.3% - -
Stock-based compensation 6,529 1.8% 6,184 2.4%
Amortization of acquired intangible assets   11,379 3.1%   2,327 0.9%
Non-GAAP operating income $ 65,729 18.0% $ 57,987 22.2%

Non-GAAP EPS:

The reconciliations of GAAP EPS to non-GAAP EPS for the indicated periods are as follows (in thousands, except per share amounts):

     

 

Quarter Ended

June 30, 2011

Quarter Ended

June 30, 2010

Pretax
Amount (2)

 

Per Diluted
Share
Impact (3)

Pretax
Amount (2)

 

Per Diluted
Share
Impact (4)

GAAP income before income taxes $ 15,816 $ 0.27 $ 11,700 $ 0.35
One-time adjustments to income tax reserves (5) - - - (0.13)
Data center transition expenses - - 10,600 0.20
Restructuring charges 1,346 0.02 - -
Stock-based compensation 3,255 0.06 3,175 0.06
Amortization of acquired intangible assets 5,739 0.11 1,163 0.02
Amortization of OID   1,420   0.03   1,685   0.03
Non-GAAP income before income taxes $ 27,576 $ 0.49 $ 28,323 $ 0.53
 

 

Six Months Ended

June 30, 2011

Six Months Ended

June 30, 2010

Pretax

Amount (2)

Per Diluted
Share
Impact (3)

Pretax

Amount (2)

Per Diluted
Share
Impact (4)

GAAP income before income taxes $ 34,061 $ 0.62 $ 13,416 $ 0.37
One-time adjustments to income tax reserves (5) - - - (0.12)
Data center transition expenses - - 18,317 0.34
Restructuring charges 1,346 0.03 - -
Stock-based compensation 6,529 0.12 6,184 0.12
Amortization of acquired intangible assets 11,379 0.21 2,327 0.04
Amortization of OID 2,869 0.05 3,985 0.07
Loss on repurchase of convertible debt securities   -   -   10,952   0.20
Non-GAAP income before income taxes $ 56,184 $ 1.03 $ 55,181 $ 1.02
 
(2)   These items (on a pretax basis) are calculated in accordance with GAAP, and are reflected as part of the results of operations in the accompanying Unaudited Condensed Consolidated Statements of Income.
 
(3) These items represent the estimated after-tax impact to net income on a per diluted share basis using: (i) the estimated income taxes related to these items, which includes the impact of the difference between GAAP and non-GAAP pretax income. This resulted in estimated effective income rates for non-GAAP purposes of 41% and 39% for the quarter and six months ended June 30, 2011, respectively; and (ii) the weighted-average diluted shares outstanding of 33.2 million for the quarter and six months ended June 30, 2011.
 
(4) These items (excluding the one-time adjustments to income tax reserves discussed in Note 5 below) represent the estimated after-tax impact to net income on a per diluted share basis using the following: (i) the estimated income taxes related to these items, which resulted in an overall estimated effective income tax rate of approximately 38% for the quarter and six months ended June 30, 2010; and (ii) the weighted-average diluted shares outstanding of 33.1 million and 33.6 million, respectively, for the quarter and six months ended June 30, 2010.
 
(5) For the quarter and six months ended June 30, 2010, CSG’s GAAP income tax expense included an approximate $4 million income tax benefit related to the completion of the IRS examination of CSG’s Federal income tax returns for fiscal years 2006, 2007, and 2008. Under current accounting rules, CSG was required to establish income tax reserves related to the uncertainty in the realization of certain tax credits and incentives over the last several years. Upon successful completion of the IRS examination which validated CSG’s filing position, favorable adjustments to these income tax reserves were necessary. The impact of the one-time tax benefit related to the adjustments to these income tax reserves is not considered reflective of CSG’s normal income tax expense. As a result, for purposes of calculating its non-GAAP EPS for the quarter and six months ended June 30, 2010, CSG has excluded the income tax benefit related to the one-time adjustments to income tax reserves.
 

Non-GAAP Adjusted EBITDA:

CSG’s calculation of non-GAAP adjusted EBITDA and the reconciliation of CSG’s non-GAAP adjusted EBITDA measure to net income and cash flows from operating activities are provided below for the indicated periods (in thousands):

 

  Quarter Ended

June 30,

    Six Months Ended

June 30,

  2011     2010   2011     2010
GAAP operating income $ 22,371 $ 14,757 $ 46,475 $ 31,159
Data center transition expenses - 10,600 - 18,317

Restructuring charges

1,346 - 1,346 -
Depreciation (excluding data center transition expenses) 6,273 5,399 12,520 9,699
Amortization of acquired intangible assets (7) 5,739 1,163 11,379 2,327
Amortization of other intangible assets (7) 4,565 2,851 8,297 5,612
Stock-based compensation   3,255   3,175   6,529   6,184
Adjusted EBITDA $ 43,549 $ 37,945 $ 86,546 $ 73,298
Adjusted EBITDA as a percentage of revenues   24%   29%   24%   28%

 

  Quarter Ended

June 30,

    Six Months Ended

June 30,

  2011     2010   2011     2010
Net income $ 9,015 $ 11,466 $ 20,509 $ 12,530
Interest expense (6) 4,325 1,629 8,666 3,177
Amortization of OID 1,420 1,685 2,869 3,985
Interest and investment income and other, net 810 (257) 879 (371)
Income tax provision 6,801 234 13,552 886
Depreciation (excluding data center transition expenses) 6,273 5,399 12,520 9,699
Amortization of acquired intangible assets (7) 5,739 1,163 11,379 2,327
Amortization of other intangible assets (7) 4,565 2,851 8,297 5,612
Stock-based compensation 3,255 3,175 6,529 6,184
Data center transition expenses - 10,600 - 18,317
Restructuring charges 1,346 - 1,346 -
Loss on repurchase of convertible debt securities   -   -   -   10,952
Adjusted EBITDA $ 43,549 $ 37,945 $ 86,546 $ 73,298

 

  Quarter Ended

June 30,

    Six Months Ended

June 30,

  2011     2010   2011     2010
Cash flows from operating activities $ 713 $ 24,411 $ (1,176) $ 55,735
Income tax provision 6,801 234 13,552 886

Changes in operating assets and liabilities and deferred taxes

30,288

2,118

63,960

(3,263)

Data center transition expenses, net of depreciation - 9,908 - 16,303
Interest expense (6) 4,325 1,629 8,666 3,177
Interest and investment income and other, net 810 (257) 879 (371)
Other   612   (98)   665   831
Adjusted EBITDA $ 43,549 $ 37,945 $ 86,546 $ 73,298

(6) Interest expense includes amortization of deferred financing costs as provided in Note 7 below.

(7) Amortization on the cash flows statement is made up of the following items for the indicated periods (in thousands):

 

  Quarter Ended

June 30,

    Six Months Ended

June 30,

  2011     2010   2011     2010
Amortization of acquired intangible assets $ 5,739 $ 1,163 $ 11,379 $ 2,327
Amortization of other intangible assets 4,565 2,851 8,297 5,612
Amortization of deferred financing costs   765   160   1,539   346
Total amortization $ 11,069 $ 4,174 $ 21,215 $ 8,285

Free Cash Flow:

CSG’s calculation of non-GAAP free cash flow and the reconciliation of CSG’s non-GAAP free cash flow measure to cash flows from operating activities are provided below for the indicated periods (in thousands):

 

  Quarter Ended

June 30,

    Six Months Ended

June 30,

  2011     2010   2011     2010
Cash flows from operating activities $ 713 $ 24,411 $ (1,176) $ 55,735
Purchases of property and equipment   (6,811)   (3,471)   (11,061)   (7,519)
Non-GAAP free cash flow $ (6,098) $ 20,940 $ (12,237) $ 48,216

Non-GAAP Financial Measures – 2011 Financial Guidance

Non-GAAP Operating Income:

The reconciliation of GAAP operating income margin to non-GAAP operating income margin, as included in CSG’s 2011 full year financial guidance, is as follows:

  2011

Guidance

GAAP operating income margin 13%
Restructuring charges (8) -
Stock-based compensation (9) 2%
Amortization of acquired intangible assets (10) 3%
Non-GAAP operating income margin (“approximately 18%”) 18%
(8)   This represents the pretax impact of restructuring charges of an estimated $3 million on CSG’s operating income margin as a percentage of the midpoint of 2011 revenue guidance.
 
(9) This represents the pretax impact of stock-based compensation expense of an estimated $13 million on CSG’s operating income margin as a percentage of the midpoint of 2011 revenue guidance.
 
(10)

This represents the pretax impact of amortization of acquired intangible assets expenses of an estimated $23 million on CSG’s operating income margin as a percentage of the midpoint of 2011 revenue guidance.

 

Non-GAAP EPS:

The reconciliation of GAAP EPS to non-GAAP EPS as included in CSG’s 2011 full year financial guidance is as follows:

  2011 Guidance Range (11)
Low Range     High Range
GAAP EPS $1.18 $1.30
Restructuring (12) 0.07 0.07
Stock-based compensation (13) 0.27 0.26
Amortization of acquired intangible assets (14) 0.46 0.45
Amortization of OID (15) 0.10 0.10

Non-GAAP EPS

$2.08 $2.18
(11)   The estimated after-tax impact of these items is calculated using: (i) the estimated income taxes related to these items, which includes the impact of the difference between GAAP and non-GAAP pretax income, resulting in an estimated effective income rate for non-GAAP purposes of approximately 39%; and (ii) the estimated weighted-average diluted shares outstanding of 33.2 million.
 
(12) This represents the estimated after-tax impact on a per diluted share basis of the full year restructuring charges of approximately $3 million.
 
(13) This represents the estimated after-tax impact on a per diluted share basis of the full year stock-based compensation expense of approximately $13 million.
 
(14) This represents the estimated after-tax impact on a per diluted share basis of the full year amortization of acquired intangible assets expense of approximately $23 million.
 
(15) This represents the estimated after-tax impact on a per diluted share basis of the full year expense related to the amortization of the OID expense for CSG’s convertible debt securities of approximately $5 million.
 

Non-GAAP Adjusted EBITDA:

CSG’s calculation of non-GAAP adjusted EBITDA and the reconciliation of CSG’s non-GAAP adjusted EBITDA measure to net income and cash flows from operations are provided below for CSG’s 2011 full year financial guidance at the mid-point (in thousands):

 

2011

GAAP operating income $ 93,000
Restructuring charges 3,000
Depreciation 26,000
Amortization of acquired intangible assets 23,000
Amortization of other intangible assets 16,000
Stock-based compensation   13,000
Adjusted EBITDA $ 174,000
Adjusted EBITDA as a percentage of revenues   24%
 
 
  2011
Net income $ 40,000
Interest expense 17,000
Amortization of OID 5,000
Interest and investment income and other, net -
Income tax provision 31,000
Restructuring charges 3,000
Depreciation 26,000
Amortization acquired of intangible assets 23,000
Amortization of other intangible assets 16,000
Stock-based compensation   13,000
Adjusted EBITDA $ 174,000
 
 
  2011
Cash flows from operating activities $ 65,000
Income tax provision 31,000
Changes in operating assets and liabilities and deferred taxes 58,000
Restructuring charges 3,000
Interest expense 17,000
Interest and investment income and other, net   -
Adjusted EBITDA $ 174,000

Contact:

CSG Systems International, Inc.
Liz Bauer, 303-804-4065
Vice President of Investor Relations & Strategic Communications
liz.bauer@csgi.com