**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

**FORM 10-K**

**(Mark One)**

**o**                                 ANNUALREPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACTOF 1934

**For the fiscal year ended December 25, 2004**

**o**                                 TRANSITIONREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACTOF 1934

**For the transition period from            to           **

**Commission File Number**

**000-50080**

**SI International, Inc.**

(Exact Name of Registrantas Specified in Its Charter)

| **Delaware**                                                                | **52-2127278**                        |
|-----------------------------------------------------------------------------|---------------------------------------|
| (State of Other  Jurisdiction of  Incorporation or Organization)            | (I.R.S. Employer  Identification No.) |
| **12012 Sunset Hills Road, Reston, Virginia**                               | **20190-5869**                        |
| (Address of  Principal Executive Offices)                                   | (Zip Code)                            |
| Registrant’s Telephone Number, Including Area Code: **(703) 234-7000** |

 

Securities to beregistered pursuant to Section 12(b) of the Act:

|        | **Title of Each Class** | ** ** | ** ** | **Name of Each Exchange on Which Registered** | ** ** |
|--------|-------------------------|------------|------------|-----------------------------------------------|------------|
|   | None                    |       |       | None                                          |       |

 

Securitiesto be registered pursuant to Section 12(g) of the Act:

**Common Stock, $0.01 parvalue per share**

(Title of Class)

Indicate by check markwhether the registrant (1) has filed all reports required to be filed by Section 13or 15 (d) of the Securities Exchange Act of 1934 during the preceding12 months (or for such shorter period that the registrant was required tofile such reports), and (2) has been subject to such filing requirementsfor the past 90 days. Yes o No o

Indicate by check mark ifdisclosure of delinquent filers pursuant to Item 405 of Regulation S-K isnot contained herein, and will not be contained, to the best of registrant’sknowledge, in definitive proxy or information statements incorporated byreference in Part III of this Form 10-K or any amendment tothis Form 10-K. o

Indicate by check markwhether the registrant is an accelerated filer (as defined in Rule 12b-2of the Act). Yes x No o

The aggregate market valueof SI International, Inc. Common Stock held by non-affiliates of theregistrant as of June 25, 2004 was $119.793,743.

As of March 4, 2005,there were 11,062,075 shares of SI International, Inc. Common Stock, $0.01par value per share, outstanding.

**DOCUMENTSINCORPORATED BY REFERENCE**

Certainportions of the registrant’s annual report to stockholders for the fiscal yearended December 25, 2004 will be incorporated by reference into Part IIand III of this Form 10-K. Certain portions of the definitive proxystatement to be used in connection with SI International, Inc.’s annualmeeting of stockholders, which is expected to be filed not later than120 days after the registrant’s fiscal year ended December 25, 2004,will be incorporated by reference into Part III of this Form 10-K.

 

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**SIINTERNATIONAL, INC.**

**FORM 10-K**

**INDEX**
|            | ** ** | ** **                                                                                                             | ** ** | ** ** | **Page** | ** ** |
|------------|------------|------------------------------------------------------------------------------------------------------------------------|------------|------------|----------|------------|
| ITEM 1     |       | Business                                                                                                               |       |       | 3        |       |
| ITEM 2     |       | Properties                                                                                                             |       |       | 30       |       |
| ITEM 3     |       | Legal  Proceedings                                                                                                     |       |       | 31       |       |
| ITEM  4    |       | Submission  Of Matters To a Vote of Security Holders                                                                   |       |       | 31       |       |
| ** ** |       | **PART II**                                                                                                       |       |       |     |       |
| ITEM 5     |       | Market for the Company’s  Common Equity and Related Stockholder Matters and Issuer Purchase of Equity  Securities |       |       | 32       |       |
| ITEM 6     |       | Selected Financials Data                                                                                               |       |       | 33       |       |
| ITEM 7     |       | Management’s Discussion and  Analysis of Financial Condition and Results of Operations                            |       |       | 35       |       |
| ITEM  7A   |       | Quantitative  and Qualitative Disclosures about Market Risk                                                            |       |       | 45       |       |
| ITEM  8    |       | Financial  Statements and Supplementary Data                                                                           |       |       | 46       |       |
| ITEM  9    |       | Changes  in and Disagreements With Accountants on Accounting and Financial Disclosure                                  |       |       | 46       |       |
| ITEM  9A   |       | Controls  and Procedures                                                                                               |       |       | 46       |       |
| ITEM 9B    |       | Other Information                                                                                                      |       |       | 48       |       |
| ** ** |       | **PART III**                                                                                                      |       |       |     |       |
| ITEM 10    |       | Directors and Executive Officers of the Company                                                                        |       |       |     |       |
| ITEM 11    |       | Executive Compensation                                                                                                 |       |       |     |       |
| ITEM 12    |       | Security Ownership of Certain Beneficial Owners and  Management and Related Stockholder Matters                        |       |       |     |       |
| ITEM 13    |       | Certain Relationships and Related Transactions                                                                         |       |       |     |       |
| ITEM 14    |       | Principal Accountant Fees and Services                                                                                 |       |       |     |       |
| ** ** |       | **PART IV**                                                                                                       |       |       |     |       |
| ITEM  15   |       | Exhibits  and Financial Statement Schedules                                                                            |       |       | 49       |       |
|       |       | Signatures                                                                                                             |       |       | 50       |       |

 

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**BUSINESS INFORMATION**

Throughout this document,we occasionally distinguish between SI International, Inc., as a companyseparate from its subsidiaries, and SI International, Inc., as a companycombined with its subsidiaries. In order to clarify which entity we arereferring to in various discussions, we use the terms “SI International, Inc.”and “SI International” to refer to SI International, Inc. without itssubsidiaries. All other references, including “SI,” “the Company,” “we” and “us”refer to SI International and its subsidiaries.

**PART I**

**Item 1. Business**   SIInternational, Inc. was organized as a Delaware corporation under the nameof “SI International Incorporated” on October 14, 1998. SI conductsoperations both in its own name and through subsidiaries, each of which islocated in the U.S. but some of which have international operations.

Some of the statements under “Business,” “Management’sDiscussion and Analysis of Financial Condition and Results of Operations,” andelsewhere in this Form 10-K constitute forward-lookingstatements. These statements involve known and unknown risks, uncertainties,and other factors that may cause our actual results, levels of activity,performance or achievements to be materially different from any future results,levels of activity, performance or achievements expressed or implied by suchforward-looking statements. In some cases, you can identify thesestatements by forward-looking words such as “anticipate,” “believe,” “could,”“estimate,” “expect,” “intend,” “may,” “plan,” “potential,” “should,” “will,”and “would” or similar words. You should read statements that contain thesewords carefully because they discuss our future expectations, containprojections of our future results of operations or of our financial position,or state other forward-looking information. We believe that it isimportant to communicate our future expectations to our investors. However,there may be events in the future that we are not able to predict accurately orcontrol. The factors listed in the section captioned “Risk Factors Related toOur Business,” as well as any cautionary language in this Form 10-K,provide examples of risks, uncertainties, and events that may cause our actualresults to differ materially from the expectations we describe in our forward-lookingstatements.

Although we believe thatthe expectations reflected in the forward-looking statements arereasonable, we cannot guarantee future results, levels of activity, performanceor achievements. You should not place undue reliance on these forward-lookingstatements, which apply only as of the date of this Form 10-K.Subsequent events and developments may cause our views to change. However,while we may elect to update these forward-looking statements at somepoint in the future, we specifically disclaim any obligation to do so.

**Recent Events**

On February 9, 2005, we completed the purchase ofShenandoah Electronic Intelligence, Inc., or SEI. SEI is a provider ofcritical business process outsourcing primarily for the Department of HomelandSecurity, or DHS. SEI’s services include: data and records management;applications processing; file and mail management; analytical support services;and secure optical card processing at one of the largest facilities of itskind.

Under the terms of the definitive stock purchaseagreement, we acquired SEI for $75 million in cash, subject to certainadjustments. The transaction was funded through cash-on-hand and borrowingsfrom a new $160 million credit facility. The purchase price is subject toadjustment as a result of certain tax elections. The definitive stock purchaseagreement also provides that the SEI stockholders will retain certainnon-operating assets and contingent accounts receivable. We expect theacquisition to be accretive to earnings. SEI’s trailing twelve months revenueended September 30, 2004 was approximately $73.9 million.

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As a result of our acquisition of SEI, we gainedapproximately 1,700 employees, over 99% of which hold security clearances.

On January 14, 2005, Dr. Culver retired fromour management. He continues to serve as a non-management member of our Boardof Directors. In addition, Dr. Culver currently serves as a consultant tous under the terms of a Consulting Services Agreement between Dr. Culverand the Company.

On December 20, 2004, we completed the purchaseof Bridge Technology Corporation, a provider of information technology andinformation management. The acquisition supports our strategic growth plan tobroaden our customer base and further develop our service offerings to theintelligence agencies, and strengthen our portfolio of mission-criticalsolutions.

Under the terms of the agreement, we acquired BridgeTechnology for $30 million in cash. The transaction was funded throughcash-on-hand and borrowings under the Company’s credit facility. We expect theacquisition to be accretive to earnings. Bridge Technology’s trailing twelvemonths revenue ended September 30, 2004 was approximately $22.2 million,and, as of September 30, 2004, operating income was approximately $3.5million.

As a result of ouracquisition of Bridge Technology, we gained approximately 140 additionalemployees, about 90% of which hold security clearances.

**Overview**

We are a provider of mission critical informationtechnology and network solutions primarily to the Federal Government. Ourbusiness is guided by our experienced team of five executive officers and overtwenty-five other corporate officers who manage and are responsible forsuccessfully growing our business. As of the end of fiscal year 2004, weemployed over 2,000 employees, and, following the acquisitions of SEI on February 9,2005, we have over 3,700 employees. Approximately 83% of our employees,including those of SEI and Bridge Technology, hold Federal Government security clearancesor have passed National Agency Checks. Over 17% of our employees, includingthose of SEI and Bridge Technology, hold Top Secret security clearances. Asignificant portion of our employees who hold Top Secret security clearancesalso hold Sensitive Compartmental Information clearances, which permit us tobid on highly classified projects.

Our broad set of contractvehicles gives us extensive reach and enables us to deliver a full range of ourservices and solutions to the Federal Government. The strength of our serviceofferings and information technology expertise allows us to maintainsubstantial relationships with clients, some of whom have been clients of ours,or of one of our acquired businesses, for over 20 years. In fiscal 2004and fiscal 2003, we derived approximately 81% and 84%, respectively, of ourrevenue from contracts on which we acted as prime contractor. Acting as a primecontractor provides us with stronger client relationships, as well as thevisibility and access to new work that are not available when acting as asubcontractor. Our total backlog as of December 25, 2004 was approximately$711 million, of which approximately $125 million was funded. See “—Backlog”for a discussion of how we calculate backlog.

**TheFederal Government Technology Services Market**

The ongoing transformation of the Federal Government’sinformation systems and communication networks is creating an increase in itsdemand for information technology, or IT, services. According to INPUT, federalgovernment information technology spending that is contracted out by thefederal government is projected to increase by $22.1 billion from $58.6 billionin government fiscal 2004 to $80.7 billion in government fiscal 2009, acompound annual growth rate of approximately 6.6%. In addition, the U.S. AirForce addressable spending, which is the amount that is contracted out, isprojected by INPUT to 

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grow from $4.3 billion ingovernment fiscal 2004 to $6.8 billion in government fiscal 2009, representinga compounded annual growth rate of 9.6%.

We expect that the federal government’s need for thetypes of information technology services that we provide will continue to growin the foreseeable future, as a result of the high priority placed by thefederal government on the transformation of its information technologyprograms. INPUT forecasts that the percentage of information technologyspending that is contracted out by the federal government will reach a high of86% of total information technology spending in government fiscal 2009.

We believe thefollowing industry trends will also continue to drive the Federal Governmenttechnology services market:

·       *Continued focus on mission-critical initiatives.*   Since the events of September 11,2001, the federal government has made the transformation of its informationtechnology infrastructure a major priority. According to INPUT, the federalgovernment information technology services “commercial” segment, which iscomprised of outsourcing, professional services, consulting, training, systemsintegration and processing services, is projected to grow from $25.1 billion ingovernment fiscal 2004 to $35.3 billion in government fiscal 2009, representinga projected compounded annual growth rate of 7.1%. According to INPUT, growthin the commercial segment for the U.S. Air Force, our single largest client interms of revenue for each of the last three completed fiscal years, isprojected to rise from $1.5 billion in government fiscal 2004 to $2.6 billionin government fiscal year 2009, a compounded annual growth rate of 11.7%.

·       *Increased Federal Government reliance on outsourcing.*   According to INPUT, outsourcingthrough the use of outside providers to provide federal government services isprojected to grow from $12.1 billion in government fiscal 2004 to $18.0 billionin government fiscal 2009, representing a projected compounded annual growthrate of 8.4%.

We believe that the federal government is increasinglyturning to the information technology industry to execute support processes andfunctions that were traditionally performed by federal government employees.INPUT expects that Department of Defense budgets will grow over the nextseveral governmental fiscal years and anticipates that each of the defenseagencies will move toward outsourcing more of the information technologyfunctions that are not core to the war-fighting mission. Business processoutsourcing, or BPO, is a relationship in which a contractor is responsible forperforming an entire business operations function, including the informationsystems outsourcing that supports it. INPUT projects that federal government BPOspending will grow from $530.0 million in government fiscal 2004 to $900.0million in government fiscal in 2009, which represents a compounded annualgrowth rate of 11.1%. In addition, during this same period, INPUT projects acompounded annual growth rate for BPO spending by defense agencies of 12.6%. Accordingto INPUT, the size of the federal government workforce, which includes onlycivilian employees and non-uniform military personnel in federal civilianagencies and the Department of Defense, decreased by 1.1 million workers duringthe period 1990 through 2000, representing a 22% decline. The GAO has warned offurther attrition due to retirement of federal government workers during theperiod 2003 through 2006.

We believe thathomeland security will have the greatest impact on three specific segments ofthe federal government information technology market: information security,communications and knowledge management. We believe that the rapid pace oftechnological innovations and the federal government’s increasing reliance oncomplex information technology infrastructure, combined with a decline in thesize of the federal government workforce, as described above, make itincreasingly difficult for many governmental agencies to operate and upgrade theirinformation technology systems. We expect that several trends will contributeto the federal government’s increased use of service providers to fulfill alarger portion of its information technology responsibilities, and we believethat we will continue to gain 

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newengagements to the extent that the federal government increases its reliance onoutsourcing for its information technology needs. These trends include:

·       *The aging of the Federal Government’s workforce.*   According to INPUT, the federalgovernment has estimated that more than 30% of current members of the federalgovernment workforce, as described above, in supervisory positions will beeligible for retirement by 2007, and the average age of federal governmentemployees increased from 42 years of age in 1990 to 46 years of age in 2004. InApril 2001, the GAO concluded in a report that the federal government’shuman capital challenges are adversely affecting the ability of many agenciesto carry out their missions.

·       *IncreasedFederal Government emphasis on competitive sourcing.*   The current administration has madecompetitive sourcing a major initiative of its management agenda. According tothe President’s Management Agenda, which was issued in 2001 and for whichprogress reports continue to be issued, including most recently during 2003,nearly half of all U.S. government employees perform tasks that are availablein the commercial marketplace. To the extent that the size of the federalgovernment workforce decreases, we believe that the federal government willhave an increased need for entities that offer the technical skills,familiarity with government processes and procedures and skilled personnel thatare necessary to meet the diverse information technology requirements of thevarious federal government agencies.

**Increasedspending on homeland security and intelligence.**

In the wake of the terrorist attacks on September 11,2001, there has been an increased emphasis on homeland security, intelligenceand national defense, including protecting critical infrastructure. Accordingto INPUT, the total addressable information technology budget for theDepartment of Homeland Security is projected to grow from $3.8 billion ingovernment fiscal 2004 to $5.9 billion in government fiscal 2009, representinga compound annual growth rate of 9.9%.

As part of this additional proposed spending, on April 18,2002 the government announced a new Unified Command, the U.S. Northern Command,which is headquartered in Colorado Springs, Colorado. The U.S. Northern Command’smission, as stated on its web site, “is homeland defense and civil support,specifically: conduct operations to deter, prevent, and defeat threats andaggression aimed at the United States, its territories, and interests withinthe assigned area of responsibility; and as directed by the President orSecretary of Defense, provide military assistance to civil authoritiesincluding consequence management operations.”

Although the total amountto be spent for intelligence applications is classified, based on availableinformation, INPUT has forecasted that the addressable federal governmentinformation technology spending in the intelligence community may be as much as$7.7 billion in government fiscal 2004. We believe that there will continue tobe increases in spending on federal intelligence activities, which are expectedto represent significant additional opportunities for us.

**Increasedsimplicity of procurement.**

Through changes that beganwith the Federal Acquisition Streamlining Act of 1994, or FASA 94, the federalgovernment has developed a variety of accelerated contracting methods. Federalgovernmental agencies have increasingly been able to rely on multiplecontracting vehicles to procure needed services in an expedient manner.According to INPUT, the average time to procure products and services wasapproximately 111 days in government fiscal 2003 as compared to 278 days ingovernment fiscal 1995.

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***Our Core Strengths***

We strategically built ourbusiness to respond specifically to the federal information technologymarketplace. We believe that our core strengths position us to respond to thelong-term trends and changing demands of our market.

***Our Experienced Management Team***

Our business is guided byour experienced team of five executive officers and over twenty-five othercorporate officers who manage and are responsible for successfully growing ourbusiness. Our principal founder, Ray Oleson, has more than 35 years ofmanagerial experience in our industry. Our executive officers have served aspresidents, chief operating officers, and chief financial officers at Fortune500 and industry-leading public companies. Our executive officers also havestrong backgrounds in identifying, acquiring and integrating businesses.Members of our management team have substantial experience acquiring andsuccessfully integrating acquired entities. Since our founding, we haveacquired and integrated five businesses, and we are in the process ofintegrating our most recent acquisitions, Bridge Technology and SEI, which weacquired in December 2004 and February 2005, respectively.

***Our Corporate Culture***

Our corporate culture isbased on respect for clients, personnel, business partners and management. Weview our commitment to this culture of respect as a cornerstone of our company.We believe that our culture helps us build the relationships necessary to gainan in-depth understanding of our clients’ needs, business practices andinformation technology and network systems. In addition, we believe our cultureis a factor in helping our employee turnover rate remain low compared to othercompanies in our industry, helping us to maintain client domain knowledge andprovide consistent service to our clients. Further, we believe that ourcommitment to respect, combined with quality of performance, is an importantfactor in retaining clients and winning new referrals.

***Focus on Information Technology Services***

We deliver a fullspectrum of information technology services and solutions that addresschallenges common to many Federal Government agencies and commercial companies.Our capabilities position us to capitalize on the Federal Government’sincreasing demand for information technology services. We integrate ourtechnical areas of expertise into comprehensive solutions covering informationtechnology applications, systems engineering, network and telecommunicationsengineering and outsourcing. Our focus on end-to-end information technologysolutions allows us to leverage our knowledge and experience to provide bestpractices across many Federal Government agencies and industries. Our key focusareas are:

·       *Federal IT Modernization*.   Wedefine federal IT modernization to include designing, building anddeploying solutions that enable our clients to replace legacy applications anddatabases and allow effective information sharing across agencies. We believewe have a proven track record of delivering true end-to-end solutions in thisfocus area that encompass application and software development, systemsengineering, network solutions, and information security and performancesupport.

·       *Defense Transformation*.   We define defense transformation toinclude development of solutions intended to enable the U.S. military tosuccessfully adapt to the requirements of net-centric warfare through our deepcapabilities in space systems engineering, enterprise and operationalarchitecture, command and control, logistics, and military satellitecommunications. In the area of space systems modernization, we are supportingclients such as Air Force Space Command, NORAD, Northern Command and U.S.Strategic Command in this key focus area.

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·       *Homeland Defense*.   We define homeland defense as defense ofthe U.S. homeland, and includes the development of large scalereplicated databases, secure optical calls processing and identificationsystems, managing records, and processing visas. We are working in this focusarea to provide advanced information technology to assist in meeting thischallenge for clients that include Department of Homeland Security, Departmentof State, Northern Command, Department of Energy, and Department ofAgriculture.

·       *Mission-Critical Outsourcing*.   We definemission-critical outsourcing as assisting the federal government with shortagesof personnel, including for the purpose of permitting re-assignment to higherpriority government assignments, increasing operational efficiency, andimproving the overall quality of service. We provide services in this focusarea to both civilian agencies and the Department of Defense.

Our skilled employees usetheir advanced technological training and extensive experience to implement ourstate-of-the-practice solutions. As of the end of fiscal year 2004, we employedover 2,000 employees, many of whom possess security clearances and NationalAgency Checks that allow us to bid on and perform classified work for theFederal Government. Subsequent to the acquisition of SEI, we addedapproximately 1,700 employees, 99% of which possess security clearances.

***Knowledge of Federal Government Contracting andFederal Agencies***

We believe that ourin-depth knowledge of Federal Government contracting and the governmentalagencies we serve and their procurement processes allows us to provide bettersolutions for our clients’ needs. Our experienced team of executive officersand senior managers brings to us their many years of experience and extensivecontacts in the industry. They provide us with an understanding of our clients’needs and procedures, as well as valuable mission-specific information.We believe that the insight provided by our officers and managers allows us todesign solutions that are responsive to our clients’ mission-criticalneeds.

***Successful Integration of Acquired Businesses***

We believe that a critical component of our success isour ability to identify, acquire and integrate companies that build or expandour suite of services to serve our clients’ needs more effectively. Members ofour management team have substantial experience acquiring and successfullyintegrating acquired entities. We believe that this experience provides a basisfor our disciplined approach to identifying acquisition candidates andintegrating acquired companies. By integrating corporate infrastructures suchas marketing and sales, accounting, human resources and internal networks, wecan save the expense of redundant functions. In addition, by integratingoperations, we establish a corporate-wide mission which can reduce internalcompetition and promote the cross-selling of newly augmented skill setsto increase our client base.

Within the 15-monthperiod from January 1999 through March 2000, we identified, acquiredand integrated four Federal Government information technology servicescompanies with aggregate revenues of approximately $105 million, measuredfor the 12 months prior to their respective acquisition dates. In January,2004, we acquired Matcom International Corporation, or Matcom, and havesuccessfully integrated Matcom into our organization. Through each of theseacquisitions, we built and expanded our services and solutions capabilities andour client relationships. We applied our disciplined acquisition processes tointegrate the acquired companies and successfully grew these businesses. We areapplying similar processes to integrate Bridge Technology and SEI, which weacquired in December 2004 and February 2005, respectively.

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**Our Growth Strategy**

We have implementedthe following strategies in order to reach our goal of becoming a leadingprovider of information technology and network solutions to our clients:

·       *Maintain and expand our existing client relationships.*   Wemaintain relationships with our existing clients by adhering to our culture ofrespect and providing quality performance. We believe this helps us winrenewals of our engagements. In addition, we use our knowledge of our clients’needs to identify additional opportunities and cross-sell new services to them.

·       *Leverage our existing client base to win new clients.*   Webelieve satisfied clients are one of our most effective marketing tools. SinceFASA 94 went into effect, client referrals have become a crucial component ofexpedited procurement processes and are key to our winning new contracts. Sincewe focus on technology infrastructure improvement, we are able to transfer ourskills readily from client to client. We plan to continue building a network ofclients and leveraging these relationships to gain access to new clients. Wehave launched a Major Programs initiative through which we intend to competefor large contracts over longer procurement periods. We believe that favorableclient referrals are strategically important to our winning theseopportunities.

·       *Pursuestrategic acquisitions.*   We plan to continue utilizing ourdisciplined methodology to identify, evaluate and integrate strategicacquisitions. We have acquired and successfully integrated five businessessince 1999 and we are in the process of integrating our sixth and seventhacquisitions, Bridge Technology and SEI, which we acquired in December 2004and February 2005, respectively. These acquisitions have positioned uswith strategically important technical skills in important client areas.

**Our Areas of Practice**

We provide information technology and networksolutions in the following eight practice areas to supplement our clients needsin Defense Transformation, Homeland Defense, Mission Critical Outsourcing andFederal IT Modernization.

***Software Development.  ***Oursoftware development practice delivers custom software integrated withcommercial off-the-shelf products to meet our clients’ software requirements.We bring an understanding of complex software development and integrationtechniques for detailed design, implementation, testing, configuration controland documentation. We also provide enterprise-wide data management as well astesting and independent verification and validation services. Our technicalstaff is skilled in state-of-the-practice technologies such as C++, J2EE, PowerBuilder and Oracle Tools. Our software development process had been externallyassessed at the Software Engineering Institute Capability Maturity Model forSoftware—Level 2 indicating standardized, repeatable processes are utilized.

***Systems Consulting.  ***Oursystems consulting practice supports the modeling, simulation and prototypingof solutions. Our work includes feasibility studies, strategic planning,systems development consulting, quality assurance, project management,organizational assessment, system and transition planning and acquisitionsupport. To aid us in our work, we utilize state-of-the-practice technologiessuch as enterprise architecture modeling tools and StarSafe, a software toolsuite we developed for use in designing secure system solutions.

***eSolutions.  ***OureSolutions practice delivers software implementation services that web-enablelegacy applications intended to leverage an organization’s utilization of theworldwide web (internet, intranet or extranet) to facilitate its businessstrategies and processes. We provide our clients with feasibility studies,system planning, systems development, migration planning, quality assurance,systems integration and user training. Our technical staff utilizes tools suchas Microsoft.Net, Oracle Tools and Microsoft Visual Basic and Front Page, tohelp them deliver software integration services.

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***Information Security.  ***Ourinformation security practice delivers analyses, methods and technologies thatenable our clients to secure their information against unauthorized access andservice disruption. Our solutions are designed to protect and defend informationsystems against malicious actions, reduce the threat to system security andproactively manage risk. We provide security policy and procedure development,threat determination and risk assessment, vulnerability analysis, systemsecurity engineering, network defense, secure document processing, applicationsand web security, security evaluation and accreditation and training.

***Learning Solutions.  ***Ourlearning solutions practice designs, develops and delivers training andperformance support to meet our clients’ individual and organizational learningand performance needs. We provide distance learning, web-based training,computer-based training, instructor-led training, electronic performancesupport, performance-centered interface design, knowledge management,help desk staffing and management and local area network operations. Ourtechnical staff is skilled in instructional systems design, usabilityengineering, software engineering, multimedia and graphic design and onlinedocumentation.

***Systems Engineering.  ***Oursystems engineering practice delivers mission and requirements analysis,operational architecture modeling and development, system design, validationand verification, integrated logistics support, life cycle engineering andcomplex simulation and modeling. Our technical staff is skilled in command,control, communications, computer and intelligence, engineering, objectoriented analysis and design, system testing, requirements traceability andspecialty disciplines, including electro-magnetic pulse engineering,reliability/maintainability/availability engineering and safety andenvironmental engineering. Many of these skills are focused on spaceapplications.

***Network Solutions.  ***Ournetwork solutions practice designs, develops and deploys a full range oftelecommunications network and infrastructure solutions for our government andcommercial clients. These solutions span voice, narrowband, broadband andwireless technologies. Applications include large scale enterprise networks forgovernment, highly secure networks and central office build-outs for commercialcarriers.

***Mission-CriticalOutsourcing.  ***Our mission-critical outsourcingpractice uses our domain expertise to operate our systems and processes thatare vital to our clients’ businesses. We offer professional services to performnetwork operations, sustaining engineering, administrative processing andoverall program management.

**Clients**

We provide our services primarily to FederalGovernment clients such as the U.S. Air Force Space Command, the U.S. Army, theDepartment of State, the Department of Homeland Security, and the defenseintelligence community. In fiscal 2004, we derived approximately 97% of ourtotal revenue from Federal Governmental agencies and approximately 3% of ourtotal revenue from commercial clients.

Our largest client is the Department of Defense. Wederived approximately 53% of our total revenue in fiscal 2004 and approximately55% of our total revenue in fiscal 2003 from the Department of Defense and theintelligence community. In fiscal 2004 and fiscal 2003, services we provided tothe U.S. Air Force Space Command represented 26% and 38% of our total revenue,respectively, and consisted of approximately 220 separate engagements. We alsoderived approximately 12% and 20% of our fiscal 2004 and 2003 revenue,respectively, from the Department of State. Each of these entities consists ofa substantial number of separate offices, each of which typically exercisesindependent decision making and funding authority. We believe our contract baseamong these separate offices is well diversified. As of December 25, 2004,we had approximately 450 active engagements. In fiscal 2004 and fiscal 2003, wederived approximately 81% and 84%, respectively, of our revenue from contractson which we acted as 

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prime contractor andderived approximately 19% and 16%, respectively, of our revenue from contractson which we acted as a subcontractor.

We often subcontractportions of work to be performed under a contract or task order under which weare the prime contractor. Approximately 16% and 13%, respectively, of our totalrevenue in fiscal 2004 and fiscal 2003, respectively, was generated by workperformed by subcontractors. The subcontractors are sometimes responsible forcritical portions of the contracted services. Our subcontracting arrangementstypically specify that all terms of the primary contract pass down to thesubcontractor. We are not dependent upon any one subcontractor or group ofsubcontractors to provide a substantial degree of work for us. In addition, itis typical that a subcontractor on one engagement may be a competitor or aclient in other situations. We believe that cultivating good relationships withour subcontractors is necessary to maintain our competitive position as well asto facilitate meeting performance obligations under our contracts.

**Backlog**

Backlog is our estimate of the amount of revenue weexpect to realize over the remaining life of awarded contracts and task orderswe have in hand as of the measurement date. Our total backlog consists offunded and unfunded backlog. We define funded backlog as estimated futurerevenue under government contracts and task orders for which funding has beenappropriated by Congress and authorized for expenditure by the applicableagency, plus our estimate of the future revenue we expect to realize from ourcommercial contracts. Unfunded backlog is the difference between total backlogand funded backlog. Unfunded backlog reflects our estimate of future revenueunder awarded government contracts and task orders for which either funding hasnot yet been appropriated or expenditure has not yet been authorized. Our totalbacklog does not include estimates of revenue from government-wide acquisitioncontracts, or GWAC contracts, or General Services Administration, or GSA,schedules beyond awarded or funded task orders, but our unfunded backlog doesinclude estimates of revenue beyond awarded or funded task orders for othertypes of indefinite delivery, indefinite quantity, or ID/IQ, contracts, such asour contract with the U.S. Air Force Space Command.

Our total backlog as of December 25, 2004 wasapproximately $711 million, of which approximately $125 million wasfunded. However, there can be no assurance that we will receive the amounts wehave included in our backlog or that we will ultimately recognize the fullamount of our funded backlog as of December 25, 2004 that we estimate willbe recognized as revenue during fiscal 2005 or thereafter.

Had the acquisition of SEI occurred prior to fiscalyear end 2004, our backlog would be approximately $834 million, of which $165.1million would be funded.

We believe that backlog isnot necessarily indicative of the future revenue that we will actually receivefrom contract awards that are included in calculating our backlog. We assessthe potential value of contracts for purposes of backlog based upon severalsubjective factors. These subjective factors include our judgments regardinghistorical trends (i.e., how much revenue we have received from similarcontracts in the past), competition (i.e., how likely are we to successfullykeep all parts of the work to be performed under the contract) and budgetavailability (i.e., how likely is it that the entire contract will receive thenecessary funding). If we do not accurately assess each of these factors, or ifwe do not include all of the variables that affect the revenue that werecognize from our contracts, the potential value of our contracts, andaccordingly, our backlog, will not reflect the actual revenue received fromcontracts and task orders. As a result, there can be no assurance that we willreceive amounts included in our backlog or that monies will be appropriated byCongress or otherwise made available to finance contracts and task ordersincluded in our backlog. Many factors that affect the scheduling of projectscould alter the actual timing of revenue on projects included in backlog. Thereis always the possibility that the contracts could be adjusted or cancelled. Weadjust our backlog on a quarterly basis to reflect modifications to or renewalsof existing 

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contracts,awards of new contracts or approvals of expenditures. See “Risk Factors—Thecalculation of our backlog is subject to numerous uncertainties, and we may notreceive the full amounts of revenue estimated under the contracts included inour backlog, which could reduce our revenue in future periods.”

**Competition**

We operate in markets that are highly competitive andinclude a large number of participants. We compete with many companies, bothlarge and small, for our contracts. We do not have a consistent number ofcompetitors against whom we repeatedly compete. If we anticipate that ourcombined resources may create a competitive advantage, we may team with othercompanies to perform work under contracts. These and other companies in ourmarket may compete more effectively than we can because they are larger, havegreater financial and other resources, have better or more extensiverelationships with governmental officials involved in the procurement processand have greater brand or name recognition.

As a result of the diverse requirements of the FederalGovernment and our commercial clients, we frequently form teams with thecompanies in our markets in order to compete for large procurements, whilebidding against them in other situations.

In each of our practiceareas, we generally bid against companies of varying sizes and specialties,from small businesses to multi-billion dollar corporations. Becauseof the current industry trend toward consolidation, some of these companies mayemerge better able to compete with us. Therefore, it is essential that wedifferentiate ourselves from these companies. We believe that our technicalabilities, client relationships, past performance, cost containment, reputationand ability to provide quality personnel give us a strong presence in themarkets we serve. In addition, we believe that our culture of respect for andcommitment to our clients and business partners greatly aids our business.While we believe these factors help to set us apart from other companies in ourmarkets, we may not be able to continue to maintain our competitive position,as new companies enter the marketplace and alliances and consolidations amongcompetitors emerge. Some companies in our markets have longer operatinghistories, greater financial and technological capabilities, greater brand orname recognition and/or larger client bases than we have.

**GovernmentContracting and Regulatory Processes**

For fiscal 2004, approximately 97% of our revenue wasderived from work performed under Federal Government contracts. The governmentcontracting process differs in many ways from commercial contracting, andinvolves a high degree of Federal Government regulation and oversight.

Historically, agencies of the Federal Governmentwishing to procure services from contractors have been required to prepare arequest for proposal, known as an RFP, or some similar form of solicitation.The RFP is typically an extensive document describing the services desired andthe terms and conditions that form the final agreement, including the criteriathe soliciting agency will use to select the service provider. Interestedparties submit proposals in response to the RFP, which the agency evaluate,often requesting additional information and multiple discussions with offerorsprior to final award of the contract.

In recent years, the Federal Government has takensteps to streamline the procurement process. For example, in 1994, theenactment of the Federal Acquisition Streamlining Act of 1994 (FASA 94) madethe procurement process substantially faster and less burdensome for companiesthat secure certain contracts. FASA 94 was the first of several statutory andregulatory changes in recent years that significantly altered governmentprocurement practices by increasing the number and types of procurementcontract “vehicles” available to Federal Government clients to satisfy theirrequirements. Federal Governmental agencies are now more likely to use flexiblecontract vehicles that permit a number of firms to compete for specific orders.The General Services Administration Multiple Award Schedule Program, or GSA MASProgram, 

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is an example of aflexible contract vehicle employed by the Federal Government. Under the GSA MASProgram, GSA contracts with multiple vendors to provide goods and services, atpredetermined prices, to specified authorized buyers. GSA schedules arelistings of services and products, along with their respective prices, offeredby approved contractors. The schedules are maintained by the GSA for use by anyfederal agency or other authorized entity. A contractor must successfully completea pre-qualification process in order to be selected by the GSA for inclusion ofthe contractor’s goods or services on a GSA Schedule. When an agency selectsservices under a GSA schedule contract, the soliciting agency, or the GSA onits behalf, conducts a bidding process, limited to qualified GSA schedulecontractors. The process typically involves substantially less time and costthan the historical, non-GSA bidding process.

In addition to the GSA MAS Program, we also hold otherID/IQ contracts with other individual agencies, which are generally known astask order contracts. These are essentially umbrella contracts that set forththe basic terms and conditions under which the agency may order goods andservices from one, and in some cases, more than one, contractor. Contractorsundergo a competitive pre-selection process to become eligible to perform workunder ID/IQ contracts. A procuring agency then issues task orders for goods orservices to be performed or provided under a contract. When task orders areissued under multiple award ID/IQ contracts, each awardee typically has anopportunity to be considered for the task order. The agency desiring contractservices may conduct a competition among the interested awardees, resulting inthe issuance of a task order to a single contractor. These contracts haveincreased competition and pricing pressure by concentrating work under fewercontracts, and requiring competition both prior to the initial award of thecontract and throughout the term of the contract in order to obtain task ordersfor the services we provide, requiring that we make sustained post-awardmarketing efforts to realize revenue under each such contract. Moreover, evenif we are qualified to work on a particular new contract or a contract subjectto renewal, we might not be awarded business because of the Federal Government’spolicy and practice of procuring goods and services from multiple contractorsin order to maintain a diverse base of contractors. In addition, ID/IQcontracts do not obligate the Federal Government to purchase goods or servicesabove the minimum levels set forth in the contract.

A task order calls for a specific set of services tobe delivered by the contractor to a particular client agency. In ourexperience, the key factors in competing successfully for these task orders aretechnical merit, cost, relevant past performance considerations and clienttrust. From time to time we are also party to GWACs, which are ID/IQ contractsthat permit the aggregation of multiple agencies’ requirements in a singlecontract, in order to encourage contractors to offer the best possible pricesand to reduce the costs associated with multiple acquisitions.

For single-award large scale contracts, such asthose targeted by our Major Program initiative, interested contractors submitinformation indicating their desire to perform the required services. Theagency then solicits competitive proposals or bids from qualified contractorsby providing them with a formal RFP or similar solicitation. The RFP typicallydescribes the desired services, terms and conditions, and evaluation criteriathe agency will use. Offerors then submit proposals in response to the RFP, andthe agency evaluates the proposals and makes the award determination. Agenciesare encouraged to award contracts on a “best value” basis. This means that thecontractor selected for the award should, in the agency’s judgment, provide thegreatest overall benefit in response to the requirement, including technicalmerit, cost and relevant past performance considerations. The entireacquisition process can sometimes take a year or more.

The competitiveprocess presents a number of risks, including the following:

·       weexpend substantial funds, managerial time and effort to prepare bids and proposalsfor contracts that we may not win;

·       wemay be unable to estimate accurately the resources and cost that will berequired to service any contract we win, which could result in substantial costoverruns; and

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·       wemay encounter expense and delay if our competitors protest or challenge awardsof contracts to us in competitive bidding, and any such protest or challengecould result in a requirement to resubmit proposals on modified specificationsor in the termination, reduction or modification of the awarded contract.

The government contractsfor which we compete typically have multiple year terms, and if we are unableto win a particular contract, we generally will be foreclosed from competingagain for that contract until its expiration several years later. In addition,upon the expiration of a contract, if the client requires further services ofthe type provided by the contract, there is frequently a competitive rebiddingprocess.

**Lawsand Regulations Affecting Our Business**

Federal Government contracts are subject to a numberof federal laws and regulations, including the Federal Acquisition Regulation,or FAR, and Cost Accounting Standards. These statutes and regulations containseveral rules that may affect us significantly.

The Anti-Deficiency Act prohibits Federal Governmentemployees from committing government funds, by contract or otherwise, in excessor in advance of appropriations, unless authorized by a specific statute. SinceCongress usually appropriates funds on a fiscal year basis, many of ourcontracts are funded by the applicable agency annually as Congress makesappropriations for future fiscal years. In addition, since funds are oftenallocated to agencies by the Office of Management and Budget, many of ourcontracts are incrementally funded.

Disappointed bidders and contractors excluded fromcompeting for government contracts and task orders may submit a protest to acontracting officer or the GAO within time limits specified under FAR and GAObid protest rules. The U.S. Court of Federal Claims also has bid protestjurisdiction. Performance under a contract being protested may be suspendedwhile the protest is pending, and in cases where the contract is found to havebeen improperly awarded, the contract may be terminated.

Certain FAR clauses, such as the Limitation of Costand Limitation of Funds clauses, limit the Federal Government’s liability forexpenditures or obligations beyond those authorized by the applicable contract.In many cases, contracts are awarded for only one year with a number ofsuccessive option years (in many cases, four). Agencies are not obligated toexercise these option years, but in our experience most renewal options underour contracts have been exercised. In addition, certain FAR clauses allow theFederal Government to terminate contracts for convenience (i.e., at will),although the Federal Government is obligated to pay for costs incurred.

Larger contracts may also be subject to the Truth inNegotiations Act and Cost Accounting Standards. The Truth in Negotiations Actrequires us to provide current, accurate and complete cost or pricing data inconnection with the negotiation of a contract, modification or task order thatis not subject to full and open competition or other exceptions to the Act.Cost Accounting Standards are applicable to certain contracts and require thecontractor to apply consistent accounting practices and comply with specificcost accounting criteria. The FAR “Contract Cost Principles and Procedures”sets forth the rules regarding the allocability and allowability of costsincurred in connection with Federal Government contracts.

The FAR restricts government contractors fromparticipating in procurements when there is an Organizational Conflict ofInterest, or OCI, and establishes rules for avoiding, mitigating andneutralizing conflicts of interest in the issuance of contracts by the FederalGovernment. Virtually all government contracts, including ours, are subject tothe OCI rules. An OCI may arise because the nature of the work to be performedby a contractor has the potential, absent some restriction on futureactivities, to result in an unfair competitive advantage to the contractor orimpair the contractor’s objectivity in performing the contract or providingassistance or advice to the Federal Government. The government contractingofficer is responsible for resolving any significant potential OCIs before acontract award is made. Federal 

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Government contractorshave an obligation to manage and, if necessary, report an OCI to the contractingofficer. We have a company-wide policy regarding care in the acceptance of andcompliance with contractual OCI provisions, which includes awareness trainingprograms and coordination and reporting systems. We review new contracts andtask orders at the time we receive them for potential OCI issues. Accordingly,we believe that as a result of the systems we have in place, our backlog willnot be affected by OCI issues.

Our books and records are subject to audit by theDefense Contract Audit Agency, or DCAA, and other governmental audit agenciesto ensure that the costs and hourly rates for which we invoice the FederalGovernment under cost reimbursable and time and materials contracts are incompliance with the Cost Principles, Cost Accounting Standards and FARinvoicing regulations. Each fiscal year, we must submit final cost data to theFederal Government indicating our actual costs incurred for the prior year,exclusive of certain costs that are not recoverable by Federal Governmentcontractors. This data is audited, and subject to adjustments by the auditingagency based upon established guidance, which may affect our recovery on costreimbursable contracts for prior fiscal years. These audits may also result inassessment of penalties, interest costs and, in extreme cases, debarment. TheFederal Government retains a portion of the fee earned by us under costreimbursable contracts until contract completion and audit by the DCAA. Auditsof our business units by the DCAA have been completed for all fiscal yearsthrough 2001 without material adjustments. In the opinion of management, theaudits for other fiscal years through fiscal year 2004 will not result inadjustments that would have a material adverse effect on our financial positionor results of operations; however, future material adjustments are possible.

Our conduct and performance is also subject to theFalse Claims Act. The False Claims Act prohibits contractors from knowinglysubmitting false or fraudulent claims to the Federal Government. We haveestablished standards of conduct for our employees and a reporting mechanismthat any of our employees can use to report inappropriate or illegalactivities.

Copies of our Annual Report on Form 10-K,Quarterly Reports on Form 10-Q, Current Reports on Form 8-K,and amendments to those reports filed or furnished pursuant to Section 13(a) or15(d) of the Exchange Act of 1934, as amended, are available free ofcharge on the Investor Relations section of our website at *www.si-intl.com*as soon as reasonably practicable after we electronically file the materialwith, or furnish the material to, the Securities and Exchange Commission, or SEC.

You may obtain a printed copy of any of the foregoingmaterials from us by writing to us at SI International, Inc., 12012 SunsetHills Road, Suite 800, Reston, Virginia 20190, Attention: InvestorRelations.

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**RiskFactors**

**Risks Related to Our Industry**

**We depend oncontracts with the Federal Government for most of our revenue, and our businesswould be seriously harmed if the government ceased doing business with us orsignificantly decreased the amount of business it does with us.**

We derived 96.6% and 93.7% of our total revenue infiscal 2004 and in fiscal 2003, respectively, from Federal Governmentcontracts, either as a prime contractor or a subcontractor. This includes 52.8%and 54.5% of our total revenue in fiscal 2004 and in fiscal 2003, respectively,that we derived, either as a prime contractor or a subcontractor, fromcontracts with agencies of the Department of Defense and intelligencecommunity. We expect that we will continue to derive most of our revenue forthe foreseeable future from work performed under Federal Government contracts.If we were suspended or otherwise prohibited from contracting with the FederalGovernment generally, or with any significant agency of the Department ofDefense or the intelligence community, or if our reputation or relationshipwith the Federal Government or any significant agency of the Department ofDefense or the intelligence community were impaired, or if any of the foregoingotherwise ceased doing business with us or significantly decreased the amountof business it does with us, our business, prospects, financial condition andoperating results would be materially adversely affected.

Our two largest contracts for fiscal year 2004, interms of revenues, were the contract with the U.S. Air Force Space Command forcommunications and computer infrastructure for command and control, informationmanagement and intelligence and for surveillance and reconnaissance, or C4I,and the National Visa Center, or NVC, contract with the Department of State.The C4I contract includes the C4I2SR contract that expired in March 2004,and the successor contract known as the C4I2TSR contract that was awarded to usin March 2004. The C4I contract generated 17.3% of our total revenues infiscal 2004 and 22.1% of our total revenues in fiscal 2003. The NVC contractgenerated 9.2% of our total revenues in fiscal 2004 and 13.9% of our totalrevenues in fiscal 2003. The NVC contract is set to expire in March 2005and aggregate expenditures under this contract are currently capped at$103.7 million. We received a solicitation from the government for therecompetition of the NVC contract during fiscal year 2004, submitted an initialoffer and recently a best-and-final offer, and are currently awaiting theaward.

As a result of the acquisition of SEI, our secondlargest contract is with the Department of Homeland Security under a contractknown as the Service Center Operations Team, or SCOT, contract. On a pro formabasis, if SEI had been acquired in January 2004, this contract would haverepresented 11.1% of our total revenues in fiscal 2004. This contract iscurrently in its fourth year, with a term that, with the Government’s exerciseof the final option year, would extend through June 2006.

If we fail to win the NVCor SCOT contract recompetes, or any of our other major contracts, our businesswould be materially and adversely affected.

**Our business couldbe adversely affected by changes in budgetary priorities of the FederalGovernment.**

Because we derive asignificant portion of our revenue from contracts with the Federal Government,we believe that the success and development of our business will continue todepend on our successful participation in Federal Government contract programs.Changes in Federal Government budgetary priorities could directly affect ourfinancial performance. A significant decline in government expenditures, ashift of expenditures away from programs that call for the types of servicesthat we provide, or a change in Federal Government contracting policies couldcause Federal Governmental agencies to reduce their expenditures undercontracts, to exercise their right to terminate contracts at any time withoutpenalty, not to exercise options to extend contracts, or to delay or not enterinto new contracts. Any of those actions could seriously harm our business,prospects, financial condition or operating results. Moreover, although 

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ourcontracts with governmental agencies often contemplate that our services willbe performed over a period of several years, Congress usually must approvefunds for a given program each government fiscal year and may significantlyreduce or eliminate funding for a program. Significant reductions in theseappropriations by Congress could have a material adverse effect on ourbusiness. Additional factors that could have a serious adverse effect on ourFederal Government contracting business include:

·       changesin Federal Government programs or requirements;

·       budgetarypriorities limiting or delaying Federal Government spending generally, or byspecific departments or agencies in particular, and changes in fiscal policiesor available funding, including potential governmental shutdowns;

·       reductionin the Federal Government’s use of technology solutions firms; and

·       an increase in the numberof contracts reserved for small businesses which could result in our inabilityto compete directly for these prime contracts.

**Our contracts withthe Federal Government may be terminated or adversely modified prior tocompletion, which could adversely affect our business.**

Federal Governmentcontracts generally contain provisions, and are subject to laws andregulations, that give the Federal Government rights and remedies not typicallyfound in commercial contracts, including provisions permitting the FederalGovernment to:

·       terminateour existing contracts;

·       reducepotential future income from our existing contracts;

·       modifysome of the terms and conditions in our existing contracts;

·       suspendor permanently prohibit us from doing business with the Federal Government orwith any specific government agency;

·       imposefines and penalties;

·       subjectus to criminal prosecution;

·       subjectthe award of some contracts to protest or challenge by competitors, which mayrequire the contracting federal agency or department to suspend our performancepending the outcome of the protest or challenge and which may also require thegovernment to solicit new proposals for the contract or result in thetermination, reduction or modification of the awarded contract;

·       suspendwork under existing multiple year contracts and related task orders if thenecessary funds are not appropriated by Congress;

·       declineto exercise an option to extend an existing multiple year contract; and

·       claimrights in technologies and systems invented, developed or produced by us.

The Federal Government may terminate a contract withus either “for convenience” (for instance, due to a change in its perceivedneeds or its desire to consolidate work under another contract) or if wedefault by failing to perform under the contract. If the Federal Governmentterminates a contract with us for convenience, we generally would be entitledto recover only our incurred or committed costs, settlement expenses and profiton the work completed prior to termination. If the Federal Governmentterminates a contract with us based upon our default, we generally would bedenied any recovery for undelivered work, and instead may be liable for excesscosts incurred by the Federal Government in procuring undelivered items from analternative source and other damages as authorized by law. As is common withgovernment 

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contractors, we haveexperienced and continue to experience occasional performance issues under someof our contracts. We may in the future receive show-cause or cure notices undercontracts that, if not addressed to the Federal Government’s satisfaction,could give the government the right to terminate those contracts for default orto cease procuring our services under those contracts.

Our Federal Government contracts typically have termsof one or more base years and one or more option years. Many of the optionperiods cover more than half of the contract’s potential term. Federalgovernmental agencies generally have the right not to exercise options toextend a contract. A decision to terminate or not to exercise options to extendour existing contracts could have a material adverse effect on our business,prospects, financial condition and results of operations.

Certain of our FederalGovernment contracts also contain “organizational conflict of interest” clausesthat could limit our ability to compete for certain related follow-oncontracts. For example, when we work on the design of a particular solution, wemay be precluded from competing for the contract to install that solution.While we actively monitor our contracts to avoid these conflicts, we cannotguarantee that we will be able to avoid all organizational conflict of interestissues.

**If we fail toestablish and maintain important relationships with government entities andagencies, our ability to successfully bid for new business may be adverselyaffected.**

To develop new businessopportunities, we primarily rely on establishing and maintaining relationshipswith various government entities and agencies. We may be unable to successfullymaintain our relationships with government entities and agencies, and anyfailure to do so could materially adversely affect our ability to competesuccessfully for new business.

**We derivesignificant revenue from contracts and task orders awarded through acompetitive acquisition process. If we are unable to win new awards orsuccessfully compete for renewal contracts, our business and prospects may beadversely affected.**

A significant number of our contracts and task orderswith the Federal Government are awarded through a competitive process. Weexpect that much of the business that we will seek in the foreseeable futurewill continue to be awarded through competitive bidding of new contracts andtask orders and contracts subject to renewal. Recently, members of Congress andadministration officials have authorized changes to the procurement processintended to increase competition among suppliers to the Federal Government.Budgetary pressures and reforms in the procurement process have caused manyFederal Government clients to increasingly purchase goods and services throughID/IQ, contracts, including GSA contracts, and other GWACs. These contractshave increased competition and pricing pressure by concentrating work underfewer contracts, and requiring competition both prior to the initial award ofthe contract and throughout the term of the contract in order to obtain taskorders for the services we provide, requiring that we make sustained post-awardmarketing efforts to realize revenue under each such contract. These contractsgenerally approve particular contractors to provide specified goods andservices to the applicable governmental agency but generally do not obligate theagency to purchase any particular amount of goods or services. To procure goodsor services under the contract, the agency generally awards task orders toperform specified services or to supply specified goods pursuant to competitionamong approved contractors. Thus, the existence of a contract does not ensurefuture revenue; rather, the contract merely provides us the opportunity tocompete for additional work. An agency may administer an ID/IQ contract inwhich it procures goods and services for itself. Under the same contract, otherfederal agencies may also procure goods and services. These contracts are knownas GWACs. When multiple prime contractors hold GWACs for the same goods andservices, all of them are eligible to supply goods and services under thecontract. As a result, qualified contractors often compete with each other toobtain task orders under a GWAC. Similarly, GSA contracts, including contractscommonly known as GSA Schedule contracts, are procurement contractsadministered by the GSA on behalf of the entire Federal 

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Government. Like manyother ID/IQ contracts, multiple contractors may be awarded GSA contracts forthe same goods and services. As a result, an agency may procure goods andservices from any contractor awarded the GSA contract at the prices and on theterms stated in the contract. Moreover, even if we are highly qualified to workon a particular new contract or a contract subject to renewal, we might not beawarded business because of the Federal Government’s policy and practice ofprocuring goods and services from multiple contractors in order to maintain adiverse base of contractors.

The competitiveprocess presents a number of risks, including the following:

·       weexpend substantial funds, managerial time and effort to prepare bids andproposals for contracts that we may not win;

·       wemay be unable to estimate accurately the resources and cost that will berequired to service any contract we win, which could result in substantial costoverruns; and

·       wemay encounter expense and delay if our competitors protest or challenge awardsof contracts to us in competitive bidding, and any such protest or challengecould result in a requirement to resubmit proposals on modified specificationsor in the termination, reduction or modification of the awarded contract.

The government contractsfor which we compete typically have multiple year terms, and if we are unableto win a particular contract, we generally will be foreclosed from competingagain for that contract until its expiration several years later. If we areunable to win new contract awards, our business and prospects will be adverselyaffected. In addition, upon the expiration of a contract, if the clientrequires further services of the type provided by the contract, there is frequentlya competitive rebidding process. Approximately 19% of our revenue recognizedduring fiscal 2004 was derived from contracts that we expected to becomesubject to recompetition bids prior to the end of government fiscal 2005(ending September 30, 2005). There can be no assurance that we will winany particular bid or recompetition bid, or that we will be able to replacebusiness lost upon expiration or completion of a contract, and the terminationor nonrenewal of any of our significant contracts or a substantial portion ofour other contracts could materially adversely affect our operating results.

**Our business maysuffer if our facilities or our employees are unable to obtain or retain thesecurity clearances or other qualifications needed to perform services for ourclients.**

Many of our FederalGovernment contracts require employees and facilities used in specificengagements to hold security clearances and to clear agency checks and DefenseSecurity Service checks. Many of our contracts require us to employ personnelwith specified levels of education, work experience and security clearances.Depending on the level of clearance, security clearances can be difficult andtime-consuming to obtain. If our employees or our facilities lose or are unableto obtain necessary security clearances or successfully clear necessary agencyor Defense Security Service checks, we may not be able to win new business andour existing clients could terminate their contracts with us or decide not torenew them. To the extent we cannot obtain or maintain the security clearancesnecessary for our facilities or our employees working on a particular contractor to the extent our facilities or our employees do not successfully clearnecessary agency checks or Defense Security Service checks, we may not derivethe revenue anticipated from the contract, and our operating results could bematerially adversely affected.

**We must comply witha variety of laws, regulations and procedures and our failure to comply couldharm our operating results.**

We must observelaws and regulations relating to the formation, administration and performanceof Federal Government contracts which affect how we do business with ourclients and impose added costs on 

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ourbusiness. For example, the Federal Acquisition Regulation and the industrialsecurity regulations of the Department of Defense and related laws includeprovisions that:

·       allowour Federal Government clients to terminate or not renew our contracts if wecome under foreign ownership, control or influence;

·       requireus to disclose and certify cost and pricing data in connection with contractnegotiations;

·       requireus to prevent unauthorized access to classified information; and

·       requireus to comply with laws and regulations intended to promote various social oreconomic goals.

We are subject to industrial security regulations ofthe Department of Defense and other federal agencies that are designed tosafeguard against foreigners’ access to classified information. If we were tocome under foreign ownership, control or influence, we could lose our facilitysecurity clearances, which could result in our Federal Government customersterminating or deciding not to renew our contracts, and could impair ourability to obtain new contracts.

In addition, our employees often must comply withprocedures required by the specific agency for which work is being performed,such as time recordation or prohibition on removal of materials from alocation.

Our failure to comply withapplicable laws, regulations or procedures, including federal procurementregulations and regulations regarding the protection of classified information,could result in contract termination, loss of security clearances, suspensionor prohibition from contracting with the Federal Government, civil fines anddamages and criminal prosecution and penalties, any of which could materiallyadversely affect our business.

**The FederalGovernment may revise its procurement or other practices in a manner adverse tous.**

The Federal Government mayrevise its procurement practices or adopt new contracting rules andregulations, such as cost accounting standards. It could also adopt newcontracting methods relating to GSA contracts, GWACs or other government-widecontracts, or adopt new standards for contract awards intended to achievecertain social or other policy objectives, such as establishing new set-asideprograms for small or minority-owned businesses. In addition, the FederalGovernment may face restrictions from new legislation or regulations, as wellas pressure from government employees and their unions, on the nature andamount of services the Federal Government may obtain from private contractors.These changes could impair our ability to obtain new contracts or contractsunder which we currently perform when those contracts are put up forrecompetition bids. Any new contracting methods could be costly oradministratively difficult for us to implement, and, as a result, could harmour operating results. For example, the Truthfulness, Responsibility andAccountability in Contracting Act, proposed in 2001, would have limited andseverely delayed the Federal Government’s ability to use private servicecontractors. Although this proposal was not enacted, it or similar legislationcould be proposed at any time. Any reduction in the Federal Government’s use ofprivate contractors to provide federal information technology services couldmaterially adversely impact our business.

**Our contracts andadministrative processes and systems are subject to audits and cost adjustmentsby the Federal Government, which could reduce our revenue, disrupt our businessor otherwise adversely affect our results of operations.**

Federal governmental agencies, including the DCAA,routinely audit and investigate government contracts and government contractors’administrative processes and systems. These agencies review our performance oncontracts, pricing practices and cost structure. They also review ourcompliance with 

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applicablelaws, government regulations, policies and standards and the adequacy of ourinternal control systems and policies, including our purchasing, property,estimating, compensation and management information systems. Any costs found tobe improperly allocated to a specific contract will not be reimbursed, and anysuch costs already reimbursed must be refunded. Moreover, if any of ouradministrative processes and systems are found not to comply with theapplicable requirements, we may be subjected to increased government scrutinyor required to obtain additional governmental approvals that could delay orotherwise adversely affect our ability to compete for or perform contracts.Therefore, an unfavorable outcome to an audit by the DCAA or another governmentagency, such as the Defense Security Service, or DSS, which verifies securitycompliance, could materially adversely affect our competitive position andresult in a substantial reduction of our revenues. If a governmentinvestigation uncovers improper or illegal activities, we may be subject tocivil and criminal penalties and administrative sanctions, includingtermination of contracts, forfeitures of profits, suspension of payments, finesand suspension or debarment from doing business with the Federal Government. Inaddition, we could suffer serious reputational harm if allegations ofimpropriety were made against us.

**Failure to maintainstrong relationships with other government contractors could result in adecline in our revenue.**

We derived 19.4% of ourtotal revenue in fiscal 2004 and 15.7% of our total revenue in fiscal 2003 fromcontracts under which we acted as a subcontractor or from “teaming”arrangements in which we and other contractors bid together on particularcontracts or programs. As a subcontractor or team member, we often lack controlover fulfillment of a contract, and poor performance on the contract couldtarnish our reputation, even when we perform as required. We expect to continueto depend on relationships with other contractors for a portion of our revenuein the foreseeable future. Moreover, our revenue and operating results could bematerially adversely affected if any prime contractor or teammate chooses tooffer a client services of the type that we provide or if any prime contractoror teammate teams with other companies to independently provide those services.

**The calculation ofour backlog is subject to numerous uncertainties, and we may not receive thefull amounts of revenue estimated under the contracts included in our backlog,which could reduce our revenue in future periods.**

Backlog is our estimate of the amount of revenue weexpect to realize over the remaining life of the awarded contracts and taskorders we have in hand as of the measurement date. Our total backlog consistsof funded and unfunded backlog. We define funded backlog as estimated futurerevenues under government contracts and task orders for which funding has beenappropriated by Congress and authorized for expenditure by the applicableagency under our contracts, plus estimated future revenues we expect to receiveunder signed purchase orders with commercial clients. Unfunded backlog is thedifference between total backlog and funded backlog. Unfunded backlog reflectsour estimate of future revenues under awarded government contracts and taskorders for which either funding has not been appropriated or expenditures havenot been authorized. Our total backlog does not include estimates of revenuefrom GWAC or GSA schedules beyond contract or task order awards, but ourunfunded backlog does include estimates of revenue beyond contract or taskorder awards for other types of ID/IQ contracts, including our C4I2SR contractwith the U.S. Air Force Space Command.

The calculation of backlogis highly subjective and is subject to numerous uncertainties and estimates,and there can be no assurance that we will in fact receive the amounts we haveincluded in our backlog. Our assessment of a contract’s potential value isbased upon factors such as historical trends, competition and budgetavailability. In the case of contracts which may be renewed at the option ofthe applicable agency, we generally calculate backlog by assuming that theagency will exercise all of its renewal options; however, the applicable agencymay elect not to exercise its renewal options. In addition, federal contracts 

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typicallyare only partially funded at any point during their term, and all or some ofthe work to be performed under a contract may remain unfunded unless and untilCongress makes subsequent appropriations and the procuring agency allocatesfunding to the contract. Our estimate of the portion of backlog from which weexpect to recognize revenues in fiscal 2005 or any future period is likely tobe inaccurate because the receipt and timing of any of these revenues isdependent upon subsequent appropriation and allocation of funding and issubject to various contingencies, such as timing of task orders, many of whichare beyond our control. In addition, we may never receive revenues from some ofthe engagements that are included in our backlog and this risk is greater withrespect to unfunded backlog. The actual receipt of revenues on engagementsincluded in backlog may never occur or may change because a program schedulecould change, the program could be canceled, the governmental agency couldelect not to exercise renewal options under a contract or could select othercontractors to perform services, or a contract could be reduced, modified orterminated. We adjust our backlog on a quarterly basis to reflect modificationsto or renewals of existing contracts or task orders, awards of new contracts ortask orders, or approvals of expenditures. Additionally, the maximum contractvalue specified under a government contract or task order awarded to us is notnecessarily indicative of the revenues that we will realize under thatcontract. We also derive revenues from ID/IQ contracts, which typically do notrequire the government to purchase a specific amount of goods or services underthe contract other than a minimum quantity which is generally very small. If wefail to realize revenue included in our backlog, our revenues and operatingresults for the then current fiscal year as well as future reporting periodscould be materially adversely affected.

**Lossof our GSA contracts or GWACs would impair our ability to attract new business.**

We are a prime contractorunder several GSA contracts and GWAC schedule contracts. We believe that ourability to continue to provide services under these contracts will continue tobe important to our business because of the multiple opportunities for newengagements each contract provides. If we were to lose our position as primecontractor on one or more of these contracts, we could lose substantialrevenues and our operating results could suffer. GSA contracts and other GWACstypically have a one or two-year initial term with multiple options exercisableat the government client’s discretion to extend the contract for one or moreyears. We cannot be assured that our government clients will continue toexercise the options remaining on our current contracts, nor can we be assuredthat our future clients will exercise options on any contracts we may receivein the future.

**Risks Associated with International Operations.**

Our international business exposes us to additionalrisks including exchange rate fluctuations, foreign tax and legal regulationsand political or economic instability that could materially adversely affectour operating results.

In connection withour international operations (including international operations under U.S.government contracts), we are subject to risks associated with operating in andselling to foreign countries, including:

·       devaluationsand fluctuations in currency exchange rates;

·       changesin or interpretations of foreign regulations that may adversely affect ourability to sell all of our products or repatriate profits to the United States;

·       impositionof limitations on conversions of foreign currencies into dollars;

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

·       compliancewith the local labor laws of the countries in which we operate;

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·       hyperinflationor political instability in foreign countries;

·       potentialpersonal injury to our personnel who may be exposed to military conflictsituations in foreign countries;

·       impositionor increase of investment and other restrictions or requirements by foreigngovernments; and

·       U.S.arms export control regulations and policies, which govern our ability tosupply foreign affiliates and customers.

Although our internationaloperations are not currently substantial, to the extent we expand our internationaloperations, these and other risks associated with international operations arelikely to increase. Although such risks have not harmed our operating resultsin the past, no assurance can be given that such risks will not materiallyadversely affect our operating results in the future.

**Ifsubcontractors on our prime contracts are able to secure positions as primecontractors, we may lose revenue.**

For each of the pastseveral years, as the GSA schedule contracts and GWACs have increasingly beenused as contract vehicles, we have received substantial revenue from governmentclients relating to work performed by other information technology providersacting as subcontractors to us. In some cases, companies that have not held GSAschedule contracts or secured positions as prime contractors on GWACs haveapproached us in our capacity as a prime contractor, seeking to performservices as our subcontractor for a government client. Some of these providersthat are currently acting as subcontractors to us may in the future securepositions as prime contractors. If one or more of our current subcontractorsare awarded prime contractor status in the future, it could reduce or eliminateour revenue for the work they were performing as subcontractors to us. Revenuederived from work performed by our subcontractors represented approximately 16%and 13%, respectively of our revenue for each of fiscal 2004 and 2003.

**Risks Related to Our Business**

**Wemay lose money or generate less than anticipated profits if we do not accuratelyestimate the cost of our performance under fixed price or time and materialscontracts.**

Some of our contracts require that we perform on afixed price basis. We derived 22.9% of our total revenue in fiscal 2004 and26.6% of our total revenue in fiscal 2003 from fixed price contracts. A fixedprice contract generally provides that we will receive a specified price forour performance under the contract, regardless of the cost to us of suchperformance. This requires that we accurately estimate the cost that we willincur to perform our obligations under any contract at the time that we submitour proposal to the applicable government agency. When making proposals forengagements on a fixed price basis, we rely on our estimates of costs andtiming for completing the projects. These estimates are subject to numerousvariables and uncertainties, and there can be no assurance that the costs ofperforming under any fixed price contract will not exceed, perhapssubstantially, our estimates. Any increased or unexpected costs orunanticipated delays in connection with the performance of fixed pricecontracts, including costs and delays caused by factors outside our control,could make these contracts less profitable than anticipated or could cause usto incur losses, which could be substantial, on these contracts. In the past,we have from time to time incurred losses on some fixed price contracts and ourprofits on some fixed price contracts have been less than anticipated. Ouroperating results could be materially adversely affected if the actual costs ofperforming under these contracts exceed our estimates.

Many of our contracts areperformed on a time and materials basis. A time and materials contracttypically provides that we are paid a fixed hourly rate for direct labor costsexpended and reimbursed for 

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allowablematerials, costs and expenses. We derived 46.5% of our total revenues in fiscal2004 and 35.1% of our total revenues for fiscal 2003 from time and materialscontracts. While time and materials contracts are generally subject to lessuncertainty than fixed price contracts, to the extent that our actual laborcosts are higher than the contract rates, we may lose money on the contract.

**Ourmargins and operating results may suffer if cost reimbursable contractsincrease as a percentage of our total government contracts.**

In general, costreimbursable contracts are the least profitable of our government contracts.Our cost reimbursable contracts generally provide for reimbursement of costs,which are determined to be reasonable, allowable and allocable to the contract,as well as payment of a fee representing the profit margin negotiated betweenus and the contracting agency, which may be fixed or performance based. Ourtime and materials contracts generally are more profitable than our costreimbursable contracts. Cost reimbursable contracts contributed 30.6% and 38.3%of our total revenues in fiscal 2004 and fiscal 2003, respectively. To theextent that cost reimbursable contracts represent an increased proportion ofour total government contracts, our operating results could be materiallyadversely affected.

**Ourmarkets are highly competitive, and many of the companies we compete againsthave substantially greater resources.**

We operate in highlycompetitive markets that include a large number of participants and involveintense competition to win contracts. Many of our competitors may compete moreeffectively than we can because they are larger, have greater financial andother resources, have better or more extensive relationships with governmentofficials involved in the procurement process and have greater brand or namerecognition. In order to stay competitive in our industry, we must attract andretain the highly skilled employees necessary to provide our services and keeppace with changing technologies and client preferences. In addition, some ofour competitors have established alliances or strategic relationships amongthemselves or with third parties in order to increase their ability to address clientneeds. As a result, new competitors or alliances among competitors may emergeand compete more effectively than we can. There is also a significant industrytrend towards consolidation which may result in the emergence of largercompanies that may be better able to compete with us. If we are unable tocompete effectively, our business could be materially adversely affected.

**Ourfailure to attract and retain qualified employees, including our executive andsenior management team, may adversely affect our business.**

Our continued success depends to a substantial degreeon our ability to recruit and retain the technically skilled personnel we needto serve our clients effectively. Our business involves the development oftailored technology solutions for our clients, a process that relies heavilyupon the expertise and services of our employees. Competition for skilledpersonnel in the information technology services industry is intense, andtechnology service companies often experience high attrition among theirskilled employees. Recruiting and training these employees require substantialresources. Our failure to attract and retain technical personnel could increaseour costs of performing our contracts, reduce our ability to meet our clients’needs, limit our ability to win new business and constrain our ability to grow.

Certain types of servicesare subject to the Service Contract Act and the Davis-Bacon Act. TheseActs require that the contractor pay to all personnel assigned to the contractat least the prevailing wage and fringe benefits, as established by and inaccordance with the regulations promulgated by the U.S. Department of Labor. Wehave an established policy pursuant to which we evaluate RFP’s that includeService Contract Act and Davis-Bacon Act requirements and, in the eventof an award to us, ensure our compliance with these requirements.

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**TheCompany may be affected by intellectual property infringement claims.**

The Company’sbusiness operations may rely on intellectual property. The Company’s employeesdevelop some of the software solutions and other forms of intellectual propertythat the Company uses to provide information technology solutions to itscustomers, but it also may license technology from other entities. Typically,under federal government contracts, the Company’s government customers mayclaim rights in the intellectual property the Company develops, making itimpossible for the Company to prevent their future use of the Company’sintellectual property. The Company is and may in the future be subject toclaims from its employees or third parties who assert that software solutionsand other forms of intellectual property that the Company used in deliveringservices and solutions to the Company’s customers infringe upon intellectualproperty rights of such employees or third parties. If the Company’s vendors,the Company’s employees or third parties assert claims that the Company or theCompany’s customers are infringing on their intellectual property, the Companycould incur substantial costs to defend these claims. In addition, if any ofthese infringement claims are ultimately successful, the Company could berequired to:

·       ceaseselling or using products or services that incorporate the challenged softwareor technology;

·       obtaina license or additional licenses; or

·       redesign the Company’sproducts and services that rely on the challenged software or technology.

**Employees**

As of December 25, 2004, we had approximately2,000 employees. With the closing of the SEI acquisition on February 9,2005, we have over 3,700 employees. We have no unionized employees and do nothave any collective bargaining agreements. However, current contracts orcontracts that we may pursue contracts may require us to have unionizedemployees. We believe we have a good relationship with our employees.

In addition to attractingand retaining qualified technical personnel, we believe that our success willdepend on the continued employment of our executive and senior management teamand its ability to generate new business and execute projects successfully. Webelieve that the personal reputations of our management team members and thebusiness relationships between individual members of our management team andgovernmental officials involved in the procurement process and related areasare critical elements of obtaining and maintaining client engagements in ourindustry, particularly with agencies performing classified operations. Tocreate and maintain these client relationships, identify potential business opportunitiesand establish our reputation among our current and potential clients, we dependon our senior management team. The loss of any of our senior executives couldcause us to lose client relationships or new business opportunities, whichcould materially adversely affect our business.

**Asubstantial majority of our historical growth has been due to acquisitions andwe may have difficulty identifying and executing future acquisitions onfavorable terms, which may adversely affect our results of operations and stockprice.**

A substantial majority of our historical growth wasthe result of acquisitions, and the selective pursuit of acquisitions remainsone of our key growth strategies. We cannot assure you that we will be able toidentify and execute suitable acquisitions in the future on terms that arefavorable to us, or at all.

We may encounterother risks in executing our acquisition strategy, including:

·       increasedcompetition for acquisitions which may increase the price of our acquisitions;and

·       ourfailure to discover material liabilities during the due diligence process,including the failure of prior owners of any acquired businesses or theiremployees to comply with applicable laws or 

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regulations such as theFederal Acquisition Regulation and health, safety, employment and environmentallaws, or their failure to fulfill their contractual obligations to the FederalGovernment or other clients.

In connection with any future acquisitions, we maydecide to consolidate the operations of any acquired business with our existingoperations or to make other changes with respect to the acquired business,which could result in special charges or other expenses. Our results ofoperations also may be adversely affected by expenses we incur in makingacquisitions and, in the event that any goodwill resulting from present orfuture acquisitions is found to be impaired, by goodwill impairment charges. Asof December 25, 2004, we had approximately $120.7 million of goodwillresulting from acquisitions on our balance sheet and, to the extent we makefuture acquisitions, the amount of goodwill could increase, perhapssubstantially. Any of the businesses we acquire may also have liabilities oradverse operating issues.

In addition, our abilityto make future acquisitions may require us to obtain additional financing andwe may be materially adversely affected if we cannot obtain additionalfinancing for any future acquisitions. To the extent that we seek to acquireother businesses in exchange for our common stock, fluctuations in our stockprice could have a material adverse effect on our ability to completeacquisitions and the issuance of common stock to acquire other businesses couldbe dilutive to our stockholders. To the extent that we use borrowings to acquireother businesses, our debt service obligations could increase substantially andrelevant debt instruments may, among other things, impose additionalrestrictions on our operations, require us to comply with additional financialcovenants or require us to pledge additional assets to secure our borrowings.

**Wemay have difficulty integrating the operations of any companies we acquire,which may adversely affect our results of operations.**

The success of ouracquisition strategy will depend upon our ability to successfully integrate anybusinesses we may acquire in the future. The integration of these businessesinto our operations may result in unforeseen events or operating difficulties,absorb significant management attention and require significant financialresources that would otherwise be available for the ongoing development of ourbusiness. These integration difficulties could include the integration ofpersonnel with disparate business backgrounds, the transition to newinformation systems, coordination of geographically dispersed organizations,loss of key employees of acquired companies and reconciliation of differentcorporate cultures. For these or other reasons, we may be unable to retain keyclients or to retain or renew contracts of acquired companies. Moreover, anyacquired business may fail to generate the revenue or net income we expected orproduce the efficiencies or cost-savings that we anticipated. Any of theseoutcomes could materially adversely affect our operating results.

**If weare unable to manage our growth, our business may be adversely affected.**

Sustaining our growth hasplaced significant demands on our management, as well as on our administrative,operational and financial resources. If we continue to grow, we must improveour operational, financial and management information systems and expand,motivate and manage our workforce. If we are unable to do so, or if new systemsthat we implement to assist in managing any future growth do not produce theexpected benefits, our business, prospects, financial condition or operatingresults could be materially adversely affected.

**Systemsfailures may disrupt our business and have an adverse effect on our results ofoperations.**

Any systems failures, including failure of network,software or hardware systems, whether caused by us, a third-party serviceprovider, unauthorized intruders and hackers, computer viruses, naturaldisasters, 

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power shortages orterrorist attacks, could cause loss of data and interruptions or delays in ourbusiness or that of our clients. In addition, the failure or disruption ofmail, communications or utilities could cause us to interrupt or suspend ouroperations or otherwise harm our business. Our property and businessinterruption insurance may be inadequate to compensate us for losses that mayoccur as a result of any system or operational failure or disruption, andinsurance to cover these types of risks may not be available in the future onterms that we consider acceptable, if at all.

The systems and networksthat we maintain for our clients, although redundant in their design, couldalso fail. If a system or network we maintain were to fail or experienceservice interruptions, we might experience loss of revenue or face claims fordamages or contract termination. Our liability insurance may be inadequate tocompensate us for damages that we might incur and liability insurance to coverthese types of risks may not be available in the future on terms that weconsider acceptable, or at all.

**Ifour subcontractors fail to perform their contractual obligations, ourperformance as a prime contractor and our ability to obtain future businesscould be materially and adversely impacted.**

Approximately 19% and 16%,respectively, of our total revenue in each of fiscal 2004 and fiscal 2003 wasgenerated by work performed by subcontractors who perform a portion of the workwe are obligated to deliver to our clients. A failure by one or more of oursubcontractors to satisfactorily deliver on a timely basis the agreed-uponsupplies and/or perform the agreed-upon services may materially and adverselyaffect our ability to perform our obligations as a prime contractor. In extremecases, a subcontractor’s performance deficiency could result in the FederalGovernment terminating our contract for default. A default termination couldexpose us to liability for excess costs of reprocurement by the government andhave a material adverse effect on our ability to compete for future contractsand task orders.

**Ourindebtedness and debt service obligations may increase substantially and wewill be subject to restriction under debt instruments.**

As of December 25, 2004, we had $29 million ofdebt outstanding under our credit facility that was restructuredcontemporaneously with the closing of our acquisition of Matcom on January 21,2004. Contemporaneously with the closing of our acquisition of SEI on February 9,2005, we amended and restructured our prior credit facility and increased ourborrowing capacity to $160 million, which is comprised of a $60 millionfive-year revolving credit facility and a $100 million six-year term loanfacility. Borrowings available under our amended credit facility were used aspart of the acquisitions of Bridge Technology and SEI. In addition, the amendedand restructured credit facility provides that up to an additional $75 millionin uncommitted incremental term loan funds are available to us upon our requestat any time for up to two years from one or more of the lenders under thecredit facility. We had approximately $100 million of debt outstanding debtunder our credit facility at February 9, 2005 and following the closing ofour acquisition of SEI. Following the acquisition of SEI, our outstanding debtincreased to $100 million. Our leverage may increase as a result of any futureacquisitions and, accordingly, the amount of our indebtedness will likelyincrease, perhaps substantially.

Our indebtednesscould have significant negative consequences, including:

·       increasingour vulnerability to general adverse economic and industry conditions;

·       limitingour ability to obtain additional financing;

·       requiringthat a substantial portion of our cash flow from operations be applied to payour debt service obligations, thus reducing cash available for other purposes;

·       limitingour flexibility in planning for or reacting to changes in our business or inthe industry in which we compete; and

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·       placingus at a possible disadvantage compared to our competitors with less leverage orbetter access to capital.

Our credit facility bears interest at variable ratesbased upon prevailing market interest rates, which exposes us to the risk ofincreased interest rates. Also, our credit facility requires that we complywith various financial covenants and impose restrictions on us, includingrestrictions on, among other things, our ability to incur additionalindebtedness or liens, make acquisitions and pay dividends on our capitalstock.

Our ability to make scheduled payments of theprincipal of, to pay interest on, or to refinance, our debt will dependprimarily on our future performance, which to a certain extent is subject tothe economic, financial, competitive and other factors beyond our control.There can be no assurance that our business will continue to generatesufficient cash flow from operations in the future to service our debt or meetour other cash needs. If we are unable to generate this cash flow from ourbusiness, we may be required to refinance all or a portion of our existingdebt, sell assets or obtain additional financing to meet our debt obligationsand other cash needs. We cannot assure you that any such refinancing, sale ofassets or additional financing would be possible on terms that we would findacceptable.

If we fail tocomply with the financial covenants in our new credit facility, our lenders mayexercise remedies, including requiring immediate repayment of all outstandingamounts. The financial covenants in our new credit facility following theacquisition of SEI include the following:

·       aleverage ratio that requires us to maintain a ratio of funded debt toconsolidated EBITDA for such period, on a consolidated basis for the twelvemonth period ending on the last day of any fiscal quarter, of no more than 3.50to 1.00 through June 30, 2006, 3.25 to 1.00 from July 1, 2006 throughJune 29, 2007, 3.00 to 1.00 from June 30, 2007 through June 27,2008, and 2.75 to 1.00 from June 28, 2008 and thereafter;

·       afixed charge coverage ratio that requires us to maintain a ratio, on aconsolidated basis for the twelve month period ending on the last day of anyfiscal quarter, of (i) consolidated EBITDA less consolidated capitalexpenditures for such period, to (ii) the sum of consolidated interestexpense plus scheduled funded debt payments plus cash taxes for such period, ofgreater than or equal to 1.25 to 1.00; and

·       theamount of consolidated capital expenditures made in cash during any fiscal yearis limited to 2.00% of consolidated gross revenues plus the unused portion onconsolidated capital expenditures that would have been permitted in theprevious fiscal year in an amount not to exceed $1,000,000.

The borrowings and other amounts due under our newcredit facility are secured by substantially all of our current and futuretangible and intangible assets, including accounts receivable, inventory andcapital stock of our existing or future subsidiaries. Our ability to obtainother debt financing may therefore be adversely affected because the lendersunder our new credit facility will have a prior lien on our assets to secureamounts we owe to them. In addition, upon the occurrence of specified events ofdefault under the new credit facility, the lenders would be entitled to demandimmediate repayment of all borrowings and other amounts outstanding under thefacility and to realize upon the collateral pledged under the facility tosatisfy our obligations to them.

The credit facilityalso requires us to comply with certain covenants, including, among others,provisions:

·       relatingto the maintenance of our assets securing the debt;

·       restrictingour ability to pledge assets or create other liens;

·       restrictingour ability to incur additional debt beyond certain levels and in certaincircumstances;

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·       restrictingour ability to make certain distributions, investments and restricted payments,including dividend payments on our equity securities;

·       restrictingour ability to alter the conduct of our business or corporate existence;

·       restrictingour ability to amend, modify, cancel, terminate or fail to renew materialcontracts;

·       restrictingour ability to enter into transactions with affiliates;

·       restrictingour ability to consolidate, merge, or sell our assets;

·       restrictingour ability to purchase property or assets other than in the ordinary course ofbusiness; and

·       restricting our ability toamend, modify or change our organizational documents, including our charter andbylaws.

**Risks Related to Our Common Stock and anyOffering Made Pursuant to a Registration Statement**

**Ownershipof our stock is concentrated and this small group of stockholders may exercisesubstantial control over our actions.**

Based on sharesoutstanding as of December 24, 2004, investment partnerships and a limitedliability company managed by Frontenac Company beneficially own approximately 11.9%of our outstanding common stock, and our officers and directors beneficiallyown, in the aggregate, approximately 16.6% of our outstanding stock. Subsequentto the close of our fiscal year 2004, Frontenac distributed shares held by itsfund to its limited partners. As a result of and immediately following thisdistribution, Frontenac beneficially owned approximately 6.0% of ouroutstanding stock, and our officers and directors beneficially owned, in theaggregate, approximately 10.7%. The percentage of our shares owned by ourdirectors and officers as set forth in the preceding sentence includes theshares owned by partnerships and a limited liability company managed byFrontenac Company because two of our directors are affiliates of FrontenacCompany and are therefore deemed to beneficially own those shares. Thesestockholders, if acting together, have the ability to substantially influencethe election of directors and other corporate actions. In addition, thesepartnerships and this limited liability company, if acting together, also havethe ability to substantially influence the election of directors and othercorporate actions. This concentration of ownership may also have the effect ofdelaying or preventing a change in our control.

**Ourmanagement could apply the proceeds of any offering made pursuant to aregistration statement to uses that do not increase our market value or improveour operating results.**

We intend to apply the netproceeds from any offering made pursuant to a registration statement to repaydebt, to acquire other business and technologies and for working capital andother general corporate purposes. We have not reserved or allocated the netproceeds for any specific purpose, and we cannot state with certainty how ourmanagement will use the net proceeds. Accordingly, our management will haveconsiderable discretion in applying the net proceeds. We may use the netproceeds for purposes that do not result in any increase in our market value orimprove our results of operations.

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**Provisionsof our charter and bylaws and Delaware law make a takeover of our company moredifficult.**

Our basic corporatedocuments and Delaware law contain provisions that might enable our managementto resist an attempt to take over our company. For example, our board ofdirectors can issue shares of common stock and preferred stock withoutstockholder approval, and the board could issue stock to dilute and adverselyaffect various rights of a potential acquiror. Other provisions of our charterand bylaws that could deter or prevent a third party from acquiring us include:

·       thedivision of our board of directors into three separate classes servingstaggered three-year terms;

·       theabsence of cumulative voting in the election of our directors, which means thatthe holders of a majority of the voting power of our outstanding capital stockhave the power to elect all of our directors;

·       limitationson the ability of our stockholders to remove directors and the provisionsrequiring that vacancies in our board of directors must be filled by theremaining directors;

·       prohibitionson our stockholders from acting by written consent or calling special meetings;and

·       proceduresfor advance notification of stockholder nominations.

We are subject to Section 203 of the DelawareGeneral Corporation Law that, subject to exceptions, would prohibit us fromengaging in any business combination with any interested stockholder, asdefined in that section, for a period of three years following the date onwhich that stockholder became an interested stockholder.

The board could use theseand other provisions to discourage, delay or prevent a change in the control ofour company or a change in our management. These provisions might alsodiscourage, delay or prevent an acquisition of our company at a price that youmay find attractive. These provisions could also make it more difficult for youand our other stockholders to elect directors and take other corporate actionsand could limit the price that investors might be willing to pay for shares ofour common stock.

**Futuresales of shares of our common stock and the resulting dilution that would occurwith such sales could cause the market price of our common stock to decline.**

Sales of a substantial number of shares of commonstock in the public market in the course of any offering made pursuant to aregistration statement, including any subsequent registration statement, or theperception that such sales could occur, could materially adversely affect themarket price of our common stock and make it more difficult for us to sellequity securities in the future at a time and price we deem appropriate. As of March 4,2005, we had 11,062,075 shares of common stock outstanding.

**Item 2. Properties:****  **As of December 25, 2004, we leased 25 officesand 2 warehouse at various U.S. locations for an aggregate of approximately381,823 square feet in 15 states and the District of Columbia, of which wesublease approximately 27,090 square feet to third parties. Following theacquisition of SEI on February 9, 2005, our leased space consists of 28offices and 3 warehouses at various U.S. locations for an aggregate ofapproximately 536,263 square feet in 15 states and the District of Columbia, ofwhich we sublease approximately 27,090 square feet to third parties.

Our corporate offices are located at 12012 SunsetHills Road, Reston, Virginia in approximately 68,000 square feet of leasedspace. Our other major offices are located in Colorado Springs, Colorado andRockville, Maryland. Our Colorado Springs properties consist of approximately68,000 square feet under a lease that expires in November 2005 andapproximately 35,000 square feet under a lease that expires in April 2006.Our Rockville office consists of approximately 24,000 square feet under a leaseexpiring in November 2011. Our Arlington office consists of approximately14,100 square feet under a lease that expires in December 2012. Inaddition, we have employees who work on engagements at other smaller 

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operating locations aroundthe United States. We have entered into agreements with a real estate developerfor the development of a build-to-suit facility in Colorado Springs, Coloradoto replace our two existing leased facilities, which we expect to open in 2006and which we anticipate will provide approximately 90,000 square feet of officeand warehouse space to support our operations and the operations of ourcustomers. These agreements afford us the option to exercise rights to developadditional space at the same location.

All of our offices are in new, or reasonably modern,well-maintained buildings. The facilities are substantially utilized and areadequate for present operations. We do not own any real estate or improvements.

**Item 3. Legal Proceedings:****  **From time totime, the Company is involved in litigation, claims and disputes that arise inthe ordinary course of its business. In addition, the Company is subject toaudit, review, and investigation by various agencies of the Federal governmentto determine compliance with applicable federal statutes and regulations. As aFederal government contractor, the Company is subject to audit by certainfederal agencies to determine if the Company’s performance and administrationof its government contracts are compliant with contractual requirements andapplicable federal statutes and regulations. While the Company cannot predictthe ultimate outcome of legal proceedings, government audits, investigations,claims and disputes to which it is or may be subject, the Company currentlybelieves, based upon information available to us as of the date of this filing,that any ultimate liability arising out of these matters will not have amaterial adverse effect on our financial position, results of operations, orcash flows.

**Item 4. Submission of Matters Toa Vote of Security Holders:**   The Company had nomatters submitted to stockholders for their consideration during the fourthquarter ended December 25, 2004.

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**PART II**

**Item 5.****Market for the Company’s Common Equity and Related Stockholder Mattersand Issuer Purchases of Equity Securities:  **Since November 12,2002, SI International’s common stock has been publicly traded on the NasdaqNational Market under the symbol “SINT.” Prior to November 12, 2002, SIInternational’s common stock was not publicly traded. The high and low salesprices of SI International’s common stock for the time period indicated below,as reported by the Nasdaq National Market, were:
| ** **                          | ** ** | **High** | ** ** | **Low** | ** ** |
|-------------------------------------|------------|----------|------------|---------|------------|
| Year ended  December 27, 2003: |       |     |       |    |       |
| First Quarter                       |       | $        | 12.38      |    | $          | 6.75 |   |
| Second Quarter                      |       | $        | 13.23      |    | $          | 7.47 |   |
| Third Quarter                       |       | $        | 19.89      |    | $          | 12.45 |   |
| Fourth Quarter                      |       | $        | 20.90      |    | $          | 14.25 |   |
| Year ended  December 25, 2004: |       |     |       |    |       |
| First Quarter                       |       | $        | 24.70      |    | $          | 16.25 |   |
| Second Quarter                      |       | $        | 28.77      |    | $          | 20.90 |   |
| Third Quarter                       |       | $        | 24.70      |    | $          | 16.93 |   |
| Fourth Quarter                      |       | $        | 32.64      |    | $          | 20.68 |   |

 

As of March 4, 2005, there were approximately 85holders of record of SI International’s common stock. As of March 4, 2005,the closing price of SI International’s common stock was $25.29.

We have never declared or paid any cash dividends onour common stock. We currently intend to retain earnings, if any, to supportour growth strategy and do not anticipate paying cash dividends in theforeseeable future.

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**Item 6.****Selected Financial Data:  **The selected financial datapresented below for our 2004, 2003, and 2002 fiscal years are derived from ouraudited consolidated financial statements included in this Form 10-K.The selected financial data presented below for our 2001 and 2000 fiscal yearsare derived from our audited consolidated financial statements not included inthis Form 10-K. You should read the selected financial data presentedbelow in conjunction with the consolidated financial statements, the notes tothe consolidated financial statements and with “Management’s Discussion andAnalysis of Financial Condition and Results of Operations” included elsewherein this Form 10-K. Our fiscal year is based on the calendar year and ends eachyear on the Saturday closest to December 31 of that year. All fiscal yearsshown below include 52 weeks.
| ** **                                               | ** ** | **Fiscal Year  SI International, Inc.**                          | ** ** |
|----------------------------------------------------------|------------|---------------------------------------------------------------------------------|------------|
| ** **                                               | ** ** | **2004**                                                                        | ** ** | **2003** | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
| ** **                                               | ** ** | **(dollars in thousands, except per share data)** | ** ** |
| **Statement of Operations Data:**                        |       |                                                                            |       |   |   |   |   |   |   |   |   |
| Revenue                                                  |       | $                                                                               | 262,306    |   | $ | 168,287 |   | $ | 149,351 |   | $ | 146,583 |   | $ | 120,580 |   |
| Costs and expenses:                                      |       |                                                                            |       |   |   |   |   |   |   |   |   |
| Direct costs                                             |       | 166,774                                                                         |       | 101,940 |   | 91,240 |   | 87,071 |   | 71,868 |   |
| Indirect costs                                           |       | 71,917                                                                          |       | 51,569 |   | 49,404 |   | 49,495 |   | 40,509 |   |
| Depreciation                                             |       | 2,231                                                                           |       | 2,009 |   | 1,988 |   | 1,653 |   | 992 |   |
| Amortization                                             |       | 648                                                                             |       | — |   | — |   | 3,586 |   | 3,088 |   |
| Total operating expenses                                 |       | 241,570                                                                         |       | 155,518 |   | 142,632 |   | 141,805 |   | 116,457 |   |
| Income from operations                                   |       | 20,736                                                                          |       | 12,769 |   | 6,719 |   | 4,778 |   | 4,123 |   |
| Other income (expense)                                   |       | (1                                                                              | )          | — |   | — |   | — |   | (157 | ) |
| Interest expense                                         |       | (2,760                                                                          | )          | (606 | ) | (3,319 | ) | (3,451 | ) | (4,023 | ) |
| Minority interests                                       |       | —                                                                          |       | — |   | (118 | ) | (144 | ) | — |   |
| Change in fair value of  put warrants                    |       | —                                                                          |       | — |   | 640 |   | (1,255 | ) | (265 | ) |
| Income (loss) before  provision for income taxes         |       | 17,975                                                                          |       | 12,163 |   | 3,922 |   | (72 | ) | (322 | ) |
| Provision for income  taxes                              |       | 7,098                                                                           |       | 4,784 |   | 1,439 |   | 657 |   | 424 |   |
| Net income                                               |       | 10,877                                                                          |       | 7,379 |   | 2,483 |   | (729 | ) | (746 | ) |
| Dividends on redeemable  cumulative preferred stock |       | —                                                                          |       | — |   | 1,954 |   | 2,052 |   | 1,505 |   |
| Net income (loss)  attributable to common stockholders   |       | $                                                                               | 10,877     |   | $ | 7,379 |   | $ | 529 |   | $ | (2,781 | ) | $ | (2,251 | ) |
| Earnings (loss) per  common share:                       |       |                                                                            |       |   |   |   |   |   |   |   |   |
| Basic earnings (loss)  per share                         |       | $                                                                               | 1.20       |   | $ | 0.87 |   | $ | 0.16 |   | $ | (1.06 | ) | $ | (0.86 | ) |
| Diluted earnings (loss)  per share                       |       | 1.14                                                                            |       | 0.87 |   | (0.03 | ) | (1.06 | ) | (0.86 | ) |
| **Balance Sheet Data (at period  end):**                 |       |                                                                            |       |   |   |   |   |   |   |   |   |
| Cash and cash  equivalents                               |       | $                                                                               | 5,754      |   | $ | 23,252 |   | $ | 10,856 |   | $ | 470 |   | $ | 198 |   |
| Working capital                                          |       | 21,927                                                                          |       | 39,708 |   | 29,937 |   | 16,103 |   | 9,599 |   |
| Total assets                                             |       | 212,107                                                                         |       | 106,627 |   | 92,315 |   | 80,461 |   | 82,970 |   |
| Total debt, including  capital lease obligations         |       | 29,291                                                                          |       | 530 |   | 658 |   | 40,082 |   | 39,595 |   |
| Total stockholders’  equity (deficit)               |       | 145,070                                                                         |       | 81,547 |   | 73,977 |   | (2,431 | ) | 350 |   |
| **Other Financial Data:**                                |       |                                                                            |       |   |   |   |   |   |   |   |   |
| EBITDA(1)                                                |       | $                                                                               | 23,615     |   | $ | 14,778 |   | $ | 8,707 |   | $ | 10,017 |   | $ | 8,046 |   |
| Capital expenditures                                     |       | 1,225                                                                           |       | 1,291 |   | 1,653 |   | 2,577 |   | 1,884 |   |
| Net cash provided by  (used in) operations               |       | (515                                                                            | )          | 16,079 |   | 5,680 |   | 1,697 |   | (874 | ) |
| Net cash used in  investing activities                   |       | (96,755                                                                         | )          | (1,291 | ) | (1,653 | ) | (2,577 | ) | (36,215 | ) |
| Net cash provided by (used in) financing activities      |       | 79,772                                                                          |       | (2,392 | ) | 6,359 |   | 1,152 |   | 37,069 |   |

----

(1)          EBITDAis defined as GAAP net income (loss) plus other expense (income), interestexpense, income taxes, depreciation and amortization, change in the value ofput warrants and minority interest.

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(2)          EBITDAas calculated by us may be calculated differently than EBITDA for othercompanies. We have provided EBITDA because we believe it is a commonly usedmeasure of financial performance in comparable companies and is provided tohelp investors evaluate companies on a consistent basis, as well as to enhancean understanding of our operating results. EBITDA should not be construed aseither:

·       analternative to net income (loss), as an indicator of our operating performance;or

·       asan alternative to cash flows as a measure of liquidity.

Reconciliationof Net Income to EBITDA is as follows:
| ** **                            | ** ** | **2004** | ** ** | **2003** | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
|---------------------------------------|------------|----------|------------|----------|------------|----------|------------|----------|------------|----------|------------|
| Net income                            |       | $        | 10,877     |     | $          | 7,379    |       | $        | 2,483      |     | $          | (729 | ) | $ | (746 | ) |
| Other expense  (income)               |       | 1        |       | —   |       | —   |       | —   |       | —   |       |
| Interest expense                      |       | 2,760    |       | 606      |       | 3,319    |       | 3,451    |       | 4,023    |       |
| Minority interest                     |       | —   |       | —   |       | 118      |       | 144      |       | —   |       |
| Change in fair  value of put warrants |       | —   |       | —   |       | (640     | )          | 1,255    |       | 265      |       |
| Provision for  income taxes           |       | 7,098    |       | 4,784    |       | 1,439    |       | 657      |       | 424      |       |
| Depreciation                          |       | 2,231    |       | 2,009    |       | 1,988    |       | 1,653    |       | 992      |       |
| Amortization                          |       | 648      |       | —   |       | —   |       | 3,586    |       | 3,088    |       |
| EBITDA                                |       | $        | 23,615     |     | $          | 14,778   |       | $        | 8,707      |     | $          | 10,017 |   | $ | 8,046 |   |

 

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***Item 7.******Management’s Discussion and Analysis of FinancialCondition and Results of Operations:  ****Thefollowing discussion and analysis should be read in conjunction with the “SelectedConsolidated Financial Data” and the consolidated financial statements andrelated notes included elsewhere in this Form 10-K. This discussion andanalysis contains forward-looking statements that involve known andunknown risks, uncertainties, and other factors that may cause our actualresults, level of activity, performance or achievements to be materiallydifferent from any future results, levels of activity, performance orachievements expressed or implied by such forward-looking statements. Insome cases, you can identify these statements by forward-looking wordssuch as “anticipate,” “believe,” “could,” “estimate,” “expect,” “intend,” “may,”“plan,” “potential,” “should,” “will,” and “would” or similar words. You shouldread statements that contain these words carefully because they discuss ourfuture expectations, contain projections of our future results of operations orof our financial position, or state other forward-looking information. Webelieve that it is important to communicate our future expectations to ourinvestors. However, there may be events in the future that we are not able topredict accurately or control. In particular, statements that we make in thissection relating to the sufficiency of anticipated sources of capital to meetour cash requirements are forward-looking statements. Our actual resultscould differ materially from those anticipated in these forward-lookingstatements for many reasons, including as a result of some of the factorsdescribed below, in “Item 1-Business-Risk Factors” and elsewhere in this Form 10-K.You should not place undue reliance on these forward-looking statements,which apply only as of the date of the filing of this Form 10-K.*

*Backlog is ourestimate of the amount of future revenue we expect to realize over theremaining life of awarded contracts and task orders as of the measurement date.Accordingly, all statements regarding the amount of our backlog are forward-lookingstatements and are subject to the risks and uncertainties referred to above andelsewhere in this Form 10-K.*

*Our fiscal year is based on a calendar year and endseach year on the Saturday closest to December 31 of that year. As aresult, our fiscal year may be comprised of 52 or 53 weeks. Our 2004, 2003 and2002 fiscal years each had 52 weeks. Our 2005 fiscal year will have 53 weeks.*

**Overview**

During the past year, SI International experiencedgrowth in our four key focus areas: Defense Transformation, Homeland Defense,Federal IT Modernization, and Mission-Critical Outsourcing. In terms ofcustomer concentration, the Department of Defense has continued to grow morerapidly than other customers. This can be attributed to two primary factorsthat have yielded an overall increase in spending by the Department of Defense duringfiscal year 2004: the DoD budget was approved well before its civilian budgetcounterparts, and the push for defense transformation has resulted in missioncritical work, the completion of which is considered imperative by the FederalGovernment. The early approval of the DoD budget was a catalyst for earlyadoption of defense appropriation legislation and a smooth allocation of theassociated funding. This process has allowed our customers to effectivelyexecute their IT and network solution plans. This pattern has occurred in eachof the past two years and appears to be a trend that will continue for the nextthree to five years.

Virtually all of the DoD efforts in which SIInternational is engaged either directly support or are closely related to DoDTransformation goals. However, we will continue to segment our focus areas interms of Homeland Defense, Federal IT Modernization, Mission-CriticalOutsourcing, and Defense Transformation. It is important that we reflect ourcustomer’s evolving priorities through our characterization of the programs ineach focus area.

We are, first and foremost, a provider of informationtechnology and network solutions to the Federal Government. Our clients includethe U.S. Air Force Space Command, U.S. Army, the Department of State, theDepartment of Homeland Security, and the defense intelligence community. Theaddition of Matcom has allowed us to continue to support our existing customerbase, while strengthening our position with the US Army, US Navy, US Air ForceElectronic Systems Center, and US Department of Agriculture, 

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and opening new clientrelationships with the Federal Retirement Thrift Investment Board, and NationalInstitutes of Health. We combine our technology and industry expertise toprovide a full spectrum of state-of-the-practice solutions and services, fromdesign and development to implementation and operations, which assist ourclients in achieving mission success.

Because we acquired Bridge Technology on December 20,2004, the acquisition had a negligible effect on the Company’s fiscal 2004results. Going forward, we expect that the addition of Bridge Technology, andthe more recent acquisition of SEI, which closed on February 9, 2005, willhave a significant impact on SI International as we continue to focus on thehigh growth areas within the federal government. The establishment of aDirector of National Intelligence and the focus on the war on terror, placeincreasing demands on the contractor community to support our country’snational intelligence assets. Our mission aligns closely with the mission ofthe Department of Homeland Security, for which the President has proposed a2006 budget increase of over 24% to meet the vital needs of this department. BridgeTechnology brings a focus on the defense intelligence agencies that willprovide us with a vantage point from which we can grow our intelligencebusiness as we better support our customers’ growing requirements. We believethat SEI will provide a stronger base of business supporting Homeland Securityin areas that will benefit from the increased government spending.

Infiscal 2004 and fiscal 2003, we received 96.6% and 93.7%, respectively, of ourrevenues from services we provided to various departments and agencies of theFederal Government, both directly and through other prime contractors, and 3.4%and 6.3%, respectively, of our total revenues from work performed forcommercial entities. The following table shows our revenues from the clientgroups listed as a percentage of total revenue. Revenue data for the Departmentof Defense includes revenue generated from work performed under engagements forboth the Department of Defense and the intelligence community.
| ** **                 | ** ** | **Fiscal Year** | ** ** |
|----------------------------|------------|----------------------|------------|
| ** **                 | ** ** | **2004**             | ** ** | **2003** | ** ** | **2002** | ** ** |
| Department of  Defense     |       | 52.8                 | %          | 54.5 | % | 49.0 | % |
| Federal civilian  agencies |       | 43.8                 | %          | 39.2 | % | 43.9 | % |
| Commercial  entities       |       | 3.4                  | %          | 6.3 | % | 7.1 | % |
| Total revenue              |       | 100.0                | %          | 100.0 | % | 100.0 | % |

 

While a substantial percentage of the revenues ofBridge Technology are attributable to the Department of Defense or defenseintelligence agencies, a far larger percentage of the revenues of SEI areattributable to the federal civilian agencies. As a result and based upon thesize of SEI relative to Bridge Technology, we believe that the percentage ofour revenues attributable to the Department of Defense should decrease, thepercentage of our revenue attributable to federal civilian agencies shouldincrease, and the percentage of our revenue attributable to commercialentities, including international operations, should decrease marginally.

Wehave derived a substantial majority of our revenues from governmental contractsunder which we act as a prime contractor. We also provide services indirectlyas a subcontractor. The following table shows our revenues as prime contractorand as subcontractor as a percentage of our total revenue for the followingperiods:
| ** **              | ** ** | **Fiscal Year** | ** ** |
|-------------------------|------------|----------------------|------------|
| ** **              | ** ** | **2004**             | ** ** | **2003** | ** ** | **2002** | ** ** |
| Prime contract  revenue |       | 80.6                 | %          | 84.3 | % | 82.9 | % |
| Subcontract  revenue    |       | 19.4                 | %          | 15.7 | % | 17.1 | % |
| Total revenue           |       | 100.0                | %          | 100.0 | % | 100.0 | % |

 

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As a result of the acquisition of Bridge Technologiesand SEI, we believe the percentage of our prime contract revenue may decrease.

Ourservices are provided under three types of contracts: cost reimbursable, timeand materials and fixed price contracts. The following table shows our revenuesfrom each of these types of contracts as a percentage of our total revenue forthe following periods:
| ** **          | ** ** | **Fiscal Year** | ** ** |
|---------------------|------------|----------------------|------------|
| ** **          | ** ** | **2004**             | ** ** | **2003** | ** ** | **2002** | ** ** |
| Cost reimbursable   |       | 30.6                 | %          | 38.3 | % | 40.6 | % |
| Time and  materials |       | 46.5                 | %          | 35.1 | % | 42.1 | % |
| Fixed price         |       | 22.9                 | %          | 26.6 | % | 17.3 | % |
| Total               |       | 100.0                | %          | 100.0 | % | 100.0 | % |

 

As a result of the acquisition of Bridge Technologyand SEI, we anticipate that during fiscal year 2005 that the percentage of ourrevenue attributable to time and materials contracts may increase marginally,that the percentage of our revenue attributable to fixed price contracts mayincrease meaningfully, and that the percentage of our revenue attributable tocost reimbursable contracts may decrease meaningfully.

Under cost reimbursable contracts, we are reimbursedfor costs that are determined to be reasonable, allowable and allocable to thecontract, and paid a fee representing the profit margin negotiated between usand the contracting agency, which may be fixed or performance based. Under costreimbursable contracts we recognize revenues and an estimate of applicable feesearned as costs are incurred. We consider fixed fees under cost reimbursablecontracts to be earned in proportion to the allowable costs incurred in performanceof the contract. For performance-based fees under cost reimbursablecontracts, we recognize the relevant portion of the expected fee to be awardedby the client at the time such fee can be reasonably estimated, based onfactors such as our prior award experience and communications with the clientregarding performance. In general, cost reimbursable contracts are the leastprofitable of our government contracts.

Under time and materials contracts, we are reimbursedfor labor at fixed hourly rates and generally reimbursed separately forallowable materials, costs and expenses. To the extent that our actual laborcosts under a time and materials contract are higher or lower than the billingrates under the contract, our profit under the contract may either be greateror less than we anticipated or we may suffer a loss under the contract. Werecognize revenues under time and materials contracts by multiplying the numberof direct labor hours expended by the contract billing rates and adding theeffect of other billable direct costs. In general, we realize a higher profitmargin on work performed under time and materials contracts than costreimbursable contracts.

Under fixed price contracts, we perform specific tasksfor a fixed price. Compared to cost reimbursable and time and materialscontracts, fixed price contracts generally offer higher profit marginopportunities but involve greater financial risk because we bear the impact ofcost overruns in return for the full benefit of any cost savings. We generallydo not undertake complex, high-risk work, such as long-term softwaredevelopment, under fixed price terms. Fixed price contracts may include eithera product delivery or specific service performance over a defined period.Revenue on fixed price contracts that provide for the Company to renderservices throughout a period is recognized as earned according to contractterms as the service is provided on a proportionate performance basis. While asubstantial number of these contracts are generally less than six months induration, we have several multi-year contracts of this type in which thecustomer has the option to extend the contractual term beyond the current term.

If we anticipate a loss on a contract, we provide forthe full amount of anticipated loss at the time of that determination.

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Our most significant expense is direct cost, whichconsists primarily of direct labor costs for program personnel and directexpenses incurred to complete contracts, including cost of materials andsubcontract efforts. Our ability to predict accurately the number and types ofpersonnel, their salaries, and other costs, can have a significant impact onour direct cost.

The allowability of certain direct and indirect costsin federal contracts is subject to audit by the client, usually through theDCAA. Certain indirect costs are charged to contracts and paid by the clientusing provisional, or estimated, indirect rates, which are subject to laterrevision, based on the government audits of those costs.

Approximately 19% of ourrevenue recognized during fiscal 2004 was derived from contracts that we expectwill become subject to competitive bids prior to the end of government fiscal2005. As a result of the acquisition of Bridge Technology and SEI, we believethe percentage of our revenue subject to competitive bids prior to the end ofthe government fiscal year will increase. We actively monitor our relationshipswith our clients during our engagements, as well as the quality of the servicewe provide, to assist in our efforts to win recompetition bids. In addition, westrive to maintain good relationships with a wide variety of governmentcontractors.

**Recent Events**

On February 9, 2005, we completed the purchase ofSEI. SEI is a provider of critical business process outsourcing primarily forthe Department of Homeland Security. SEI’s services include: data and recordsmanagement; applications processing; file and mail management; analyticalsupport services; and secure optical card processing at one of the largestfacilities of its kind.

Under the terms of the definitive stock purchaseagreement, we acquired SEI for $75 million in cash, subject to certainadjustments relating to the level of working capital. The transaction wasfunded through cash-on-hand and borrowings from a new $160 million creditfacility. The purchase price is subject to adjustment as a result of certaintax elections, which we may make at any time from the date of closing, February 9,2005, and for a period of up to nine (9) months thereafter.. Thedefinitive stock purchase agreement also provides that the SEI stockholderswill retain certain non-operating assets and contingent accounts receivable. Weexpect the acquisition to be accretive to earnings. SEI’s trailing twelvemonths revenue ended September 30, 2004 was approximately $73.9 million.

SEI has approximately 1,700 employees, over 99% ofwhich hold security clearances.

On December 20, 2004 we completed the purchase ofBridge Technology Corporation, a provider of information technology andinformation management. The acquisition supports our strategic growth plan tobroaden our customer base with the intelligence agencies, and strengthen ourportfolio of mission-critical solutions. Under the terms of the agreement, weacquired Bridge Technology for $30 million in cash.

The transaction was funded through cash-on-hand andborrowings under the Company’s credit facility. We expect the acquisition to beaccretive to earnings.

As a result of our acquisition of Bridge Technology,we gained approximately 140 additional employees, about 90% of which holdsecurity clearances.

On January 21, 2004, we completed the purchase ofMatcom, a provider of information technology, systems engineering, logistics,and training. The acquisition supports our strategic growth plan to expand intonew vertical markets and enhance the portfolio of capabilities it provides tothe Federal Government. Under the terms of the merger agreement, we acquiredMatcom for $65.8 million in cash. The transaction also included an earnoutprovision of $7.9 million in the form of subordinated notes of SIInternational if 

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Matcom achieves certainshort-term revenue objectives. The transaction was funded through cash-on-handand borrowings under our credit facility.

As a result of these acquisitions, we gained over2,400 additional employees and increased our leased space to 28 offices and 3warehouses at various U.S. locations for an aggregate of approximately 536,263 squarefeet in 15 states and the District of Columbia, (including 5 offices totalingapproximately 27,090 square feet) that are sub-leased through the remainingterm of our primary leases).

On October 6,2004, the Company completed its secondary offering which raised $51.2million (after offering costs) cash through the sale of 2,520,000 shares ofcommon stock.

**Results of Operations**

Thefollowing table sets forth certain items from our consolidated statements ofoperations as a % of revenues for the periods indicated.
| ** **                                       | ** ** | **Fiscal Year** | ** ** |
|--------------------------------------------------|------------|----------------------|------------|
| ** **                                       | ** ** | **2004**             | ** ** | **2003** | ** ** | **2002** | ** ** |
| Revenue                                          |       | 100.0                | %          | 100.0 | % | 100.0 | % |
| Costs and expenses:                              |       |                 |       |   |   |   |   |
| Direct costs                                     |       | 63.6                 |       | 60.6 |   | 61.1 |   |
| Indirect costs                                   |       | 27.4                 |       | 30.6 |   | 33.1 |   |
| Depreciation                                     |       | 0.9                  |       | 1.2 |   | 1.3 |   |
| Amortization                                     |       | 0.2                  |       | 0.0 |   | 0.0 |   |
| Total operating expenses                         |       | 92.1                 |       | 92.4 |   | 95.5 |   |
| Income from  operations                          |       | 7.9                  |       | 7.6 |   | 4.5 |   |
| Interest expense                                 |       | (1.1                 | )          | (0.4 | ) | (2.2 | ) |
| Minority  interests                              |       | 0.0                  |       | 0.0 |   | (0.1 | ) |
| Change in fair  value of put warrants            |       | 0.0                  |       | 0.0 |   | 0.4 |   |
| Income (loss)  before provision for income taxes |       | 6.8                  |       | 7.2 |   | 2.6 |   |
| Provision for  income taxes                      |       | 2.7                  |       | 2.8 |   | 1.0 |   |
| Net income (loss)                                |       | 4.1                  | %          | 4.4 | % | 1.6 | % |

 

**Fiscalyear 2004 compared with fiscal year 2003**

*Revenue.  *For the fiscalyear ended December 25, 2004, our revenues increased 55.9% to$262.3 million from $168.3 million for the same period in 2003.Revenues from work under Federal Government contracts increased 60.7% to$253.4 million from $157.7 million for the same period in 2003. Thisincrease was attributable to federal business acquired, new contract awards,successful recompetition wins on existing programs and growth within existingprograms in our four focus areas: Federal IT Modernization, Defense Transformation,Homeland Defense, and Mission-Critical Outsourcing. Commercial and otherrevenues decreased 16.0% to $8.9 million in 2004 from $10.6 millionin 2003. This decrease was attributable to our continued focus on opportunitiesfor the Federal Government.

*Direct costs.  *Direct costsinclude direct labor and other direct costs such as materials and subcontracts.Generally, changes in direct costs are correlated to changes in revenue asresources are consumed in the production of that revenue. For fiscal 2004,direct costs increased 63.6% to $166.8 million from $101.9 millionfor fiscal 2003. This increase was attributable primarily to the increase inrevenue. As a percentage of revenue, direct costs were 63.6% for fiscal 2004 ascompared to 60.6% for fiscal 2003.

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*Indirect costs.  *Indirectcosts include facilities, selling, bid and proposal, indirect labor, fringebenefits and other discretionary costs. For fiscal 2004, indirect costsincreased 39.5% to $71.9 million from $51.6 million for the sameperiod in 2003. This $20.3 million increase was primarily attributable tothe expected growth of support functions necessary to facilitate and administerthe growth in direct costs.

*Depreciation and Amortization.  *Forfiscal 2004, depreciation and amortization increased by 11.0% to$2.2 million from $2.0 million for the same period in 2003. Thisincrease was attributed primarily to increased capital expenditures and theacquisition of Matcom. As a percentage of revenue, depreciation was 0.9% forfiscal 2004 as compared to 1.2% for the same period in fiscal 2003.

*Amortization of Intangible Assets.  *Amortizationof intangible assets includes the amortization of intangible assets acquired inconnection with the acquisitions in accordance with SFAS 142, Goodwill andOther Intangible Assets. We discontinued the amortization of goodwill effectiveDecember 30, 2001. Accordingly, there was no amortization of goodwill forthe fiscal years ended December 25, 2004 and December 27, 2003**.**For the fiscal year ended December 25, 2004, weamortized $0.6 million of intangible assets which we capitalized in connectionwith the acquisition of Matcom. There was no amortization of intangible assetsfor the fiscal year ended December 27, 2003.

*Income from operations.  *Forfiscal 2004, income from operations increased 62.4% to $20.7 million from$12.8 million for the same period in 2003. This increase was attributableprimarily to the increase in revenue. As a percentage of revenue, income fromoperations was 7.9% for fiscal 2004 as compared to 7.6% in fiscal 2003. Weanticipate continued improvement in our operating margin.

*Interest expense.  *Forfiscal 2004, interest expense increased 355.4% to $2.8 million from$0.6 million for the same period in 2003. This increase was attributableprimarily to the borrowing of debt subsequent to the acquisition of Matcom. Asa percentage of revenue, interest expense was 1.1% for fiscal 2004 as comparedto 0.4% for the same period in fiscal 2003. We anticipate an increase ininterest expense in fiscal year 2005 due to amounts borrowed under our currentcredit facility, which was made in connection with the acquisition of SEI. Interestexpense included $1,000,000 and $379,000 of amortization and write-off ofdeferred financing costs during fiscal 2004 and fiscal 2003.

*Provision for income taxes.  *Theprovision for income tax was $7.1 million in fiscal 2004, compared to aprovision of $4.8 million for the comparable period in 2003. Our fiscalyear 2004 tax provision represents an effective tax rate of 39.5%. Our fiscal2003 tax provision represents an effective tax rate of 39.3%. Our effective taxrate is greater than the federal statutory rate of 34% due primarily to stateincome tax rates and certain nondeductible expenses.

**Fiscalyear 2003 compared with fiscal year 2002**

*Revenue.  *For the fiscalyear ended December 27, 2003, our revenues increased 12.7% to$168.3 million from $149.4 million for the same period in 2002.Revenues from work under Federal Government contracts increased 13.6% to$157.7 million from $138.8 million for the same period in 2002. Thisincrease was attributable to new contract awards, successful recompetition winson existing programs and growth within existing programs in our four focusareas: Federal IT Modernization, Defense Transformation, Homeland Defense, andMission-Critical Outsourcing. Commercial and other revenues decreased0.9% to $10.6 million in 2003 from $10.6 million in 2002. Thisdecrease was attributable to our continued focus on opportunities for theFederal Government.

*Direct costs.  *Direct costsinclude direct labor and other direct costs such as materials and subcontracts.Generally, changes in direct costs are correlated to changes in revenue asresources are consumed in the production of that revenue. For fiscal 2003,direct costs increased 11.7% to $101.9 million from $91.2 million forfiscal 2002. This increase was attributable primarily to the increase inrevenue. As a percentage of revenue, direct costs were 60.6% for fiscal 2003 ascompared to 61.1% for fiscal 2002.

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*Indirect costs.  *Indirectcosts include facilities, selling, bid and proposal, indirect labor, fringebenefits and other discretionary costs. For fiscal 2003, indirect costsincreased 4.4% to $51.6 million from $49.4 million for the sameperiod in 2002. This $2.2 million increase was primarily attributable tothe expected growth of support functions necessary to facilitate and administerthe growth in direct costs.

*Depreciation.  *For fiscal2003, depreciation increased by 1.1% to $2.01 million from$1.99 million for the same period in 2002. As a percentage of revenue,depreciation was 1.2% for fiscal 2003 as compared to 1.3% for the same periodin fiscal 2002.

*Amortization.  *In compliancewith SFAS 142, Goodwill and Other Intangible Assets, we discontinued theamortization of goodwill effective December 30, 2001. Accordingly, therewas no amortization of goodwill for the fiscal years ended December 27,2003 and December 28, 2002.

*Income from operations.  *Forfiscal 2003, income from operations increased 90.0% to $12.8 million from$6.7 million for the same period in 2002. This increase was attributableprimarily to the decrease of both direct and indirect costs as a percentage ofrevenue. As a percentage of revenue, income from operations was 7.6% for fiscal2003 as compared to 4.5% in fiscal 2002.

*Interest expense.  *Forfiscal 2003, interest expense declined 81.7% to $0.6 million from$3.3 million for the same period in 2002. This decline was attributableprimarily to the repayment of debt following our initial public offering in November 2002.As a percentage of revenue, interest expense was 0.4% for fiscal 2003 ascompared to 2.2% for the same period in fiscal 2002.

*Provision for income taxes.  *Theprovision for income tax was $4.8 million in fiscal 2003, compared to aprovision of $1.4 million for the comparable period in 2001. Our fiscalyear 2003 tax provision represents an effective tax rate of 39.3%. Our fiscal2002 tax provision represents an effective tax rate of 36.7%. Our effective taxrate is greater than the federal statutory rate of 34% due primarily to stateincome tax rates.

*Dividends.  *Forfiscal year 2003, dividends on cumulative preferred stock decreased to $0.0from $2.0 million for fiscal year 2002. This decrease was attributable tothe conversion of preferred stock to common stock on November 12, 2002 inconnection with our initial public offering.

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**SupplementalQuarterly Information**

Thefollowing table sets forth quarterly unaudited consolidated financial data forthe fiscal quarters of 2004 and 2003, expressed in dollars and as a percentageof total revenues for the respective periods. We believe that this unauditedfinancial information includes all adjustments, consisting only of normalrecurring adjustments, necessary for a fair presentation of the information foreach period. All of the fiscal quarters reflected in the following table hadthirteen weeks. Some unevenness of revenue from quarter to quarter existsprimarily because of the timing of purchases of materials necessary to performcertain obligations under our C4I2SR contract with U.S. Air Force SpaceCommand.
| ** **                            | ** ** | **Fiscal Year 2004**       | ** ** | **Fiscal Year 2003** | ** ** |
|---------------------------------------|------------|--------------------------------------|------------|--------------------------------|------------|
| ** **                            | ** ** | **Q1**                               | ** ** | **Q2**                         | ** ** | **Q3** | ** ** | **Q4** | ** ** | **Q1** | ** ** | **Q2** | ** ** | **Q3** | ** ** | **Q4** | ** ** |
| ** **                            | ** ** | **(dollars in thousands)** | ** ** |
| Revenue                               |       | $                                    | 55,970     |                           | $          | 63,814 |   | $ | 72,926 |   | $ | 69,596 |   | $ | 41,324 |   | $ | 40,724 |   | $ | 42,082 |   | $ | 44,157 |   |
| Costs and expenses:                   |       |                                 |       |                           |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Direct costs                          |       | 33,529                               |       | 38,801                         |       | 49,106 |   | 45,339 |   | 25,026 |   | 24,264 |   | 25,837 |   | 26,813 |   |
| Indirect costs                        |       | 17,309                               |       | 19,049                         |       | 17,615 |   | 17,943 |   | 13,163 |   | 13,167 |   | 12,318 |   | 12,921 |   |
| Depreciation                          |       | 589                                  |       | 598                            |       | 516 |   | 527 |   | 512 |   | 486 |   | 497 |   | 514 |   |
| Amortization                          |       | 113                                  |       | 192                            |       | 171 |   | 171 |   |   |   |   |   |   |   |   |   |
| Total operating  expenses             |       | 51,540                               |       | 58,640                         |       | 67,408 |   | 63,980 |   | 38,701 |   | 37,917 |   | 38,652 |   | 40,248 |   |
| Income (loss)  from operations        |       | 4,430                                |       | 5,174                          |       | 5,518 |   | 5,616 |   | 2,623 |   | 2,807 |   | 3,430 |   | 3,909 |   |
| Other income  (expense)               |       |                                 |       |                           |       | (62 | ) | 61 |   |   |   |   |   |   |   |   |   |
| Interest expense                      |       | (534                                 | )          | (738                           | )          | (693 | ) | (796 | ) | (162 | ) | (146 | ) | (161 | ) | (137 | ) |
| Provision  (benefit) for income taxes |       | 1,539                                |       | 1,752                          |       | 1,881 |   | 1,926 |   | 973 |   | 1,052 |   | 1,290 |   | 1,470 |   |
| Net income (loss)                     |       | $                                    | 2,357      |                           | $          | 2,684 |   | $ | 2,882 |   | $ | 2,955 |   | $ | 1,488 |   | $ | 1,609 |   | $ | 1,979 |   | $ | 2,302 |   |
| Revenue                               |       | 100.0                                | %          | 100.0                          | %          | 100.0 | % | 100.0 | % | 100.0 | % | 100.0 | % | 100.0 | % | 100.0 | % |
| Costs and expenses:                   |       |                                 |       |                           |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Direct costs                          |       | 59.9                                 |       | 60.8                           |       | 67.2 |   | 65.1 |   | 60.6 |   | 59.6 |   | 61.3 |   | 60.7 |   |
| Indirect costs                        |       | 30.9                                 |       | 29.9                           |       | 24.2 |   | 25.8 |   | 31.9 |   | 32.3 |   | 29.3 |   | 29.3 |   |
| Depreciation                          |       | 1.1                                  |       | 0.9                            |       | 0.7 |   | 0.8 |   | 1.2 |   | 1.2 |   | 1.2 |   | 1.2 |   |
| Amortization                          |       | 0.2                                  |       | 0.3                            |       | 0.2 |   | 0.2 |   | — |   | — |   | — |   | — |   |
| Total operating expenses              |       | 92.1                                 |       | 91.9                           |       | 92.3 |   | 91.9 |   | 93.7 |   | 93.1 |   | 91.8 |   | 91.2 |   |
| Income (loss)  from operations        |       | 7.9                                  |       | 8.1                            |       | 7.7 |   | 8.1 |   | 6.3 |   | 6.9 |   | 8.2 |   | 8.8 |   |
| Other income  (expense).              |       |                                 |       |                           |       | (0.1 | ) | 0.1 |   |   |   |   |   |   |   |   |   |
| Interest expense                      |       | (1.0                                 | )          | (1.2                           | )          | (1.0 | ) | (1.1 | ) | (0.4 | ) | (0.4 | ) | (0.4 | ) | (0.3 | ) |
| Provision  (benefit) for income taxes |       | 2.7                                  |       | 2.7                            |       | 2.6 |   | 2.8 |   | 2.3 |   | 2.6 |   | 3.1 |   | 3.3 |   |
| Net income (loss)                     |       | 4.2                                  | %          | 4.2                            | %          | 4.0 | % | 4.3 | % | 3.6 | % | 3.9 | % | 4.7 | % | 5.2 | % |

 

**Liquidity and Capital Resources**

Our primary liquidity needs are the financing ofworking capital, capital expenditures and acquisitions. We have historicallyrelied primarily on cash flow from operations, borrowings under our creditfacility and from some of our stockholders and the sale of common and preferredstock to provide for our cash needs. In connection with the acquisition of SEIwhich closed on February 9, 2005, the Company amended its 

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credit facility toincrease borrowing capacity from $80 million to $160 million and toextend the term to February 9, 2011. The Company used approximately $75million from cash-on-hand and the amended credit facility to acquire SEI .

Net cash used in operations was $0.5 million forfiscal 2004, compared with net cash provided by operations of$16.1 million for fiscal 2003, and $5.7 million for fiscal 2002. Cashused in operations in fiscal 2004 was attributable to an increase in workingcapital of $18.3 million, partially offset by net income of $10.9 million plusdepreciation, amortization and other non-cash items of $6.9 million. Cashprovided by operations in fiscal 2003 was attributable to net income of$7.4 million plus depreciation, amortization and other non-cash items of$2.8 million and a decrease in working capital of $5.9 million. Cashprovided by operations in fiscal 2002 was attributable to net income of$2.5 million plus depreciation, amortization and other non-cash items of$2.3 million and a decrease in working capital of $0.9 million.

Cash used in investing activities was $96.8 millionfor fiscal 2004, $1.3 million for fiscal 2003, and $1.7 million forfiscal 2002. In fiscal 2004, we paid $66.1 million and $29.5 million,respectively, for Matcom and Bridge acquisitions, and purchased capital assetsfor $1.2 million. In fiscal 2003 we invested $1.3 million in capitalassets. In fiscal 2002 we invested $1.7 million in capital assets.Investments in capital assets are comprised primarily of computer and officeequipment and furniture and fixtures.

Cash provided by financing activities was $79.8 millionin fiscal 2004. Cash used in financing activities was $2.4 million infiscal 2003. Cash provided by financing activities was $6.4 million forfiscal 2002. Cash provided by financing activities for fiscal year 2004 wasattributable to proceeds of $51.2 million from issuance of common stock fromour secondary common stock offering, proceeds of $30.0 million from our termloan with Wachovia, proceeds of $29.0 million from borrowings on our line ofcredit, and proceeds of $0.9 million from the exercise of stock options. Cashprovided by financing activities was partially offset by the repayment of $30.0million for our term loan with Wachovia, payment of debt issuance fees of $1.2million, and repayments of capital lease obligations of $0.1 million. Cash usedin financing activities for fiscal year 2003 was attributable to repayments ofbank overdrafts of $2.2 million, $0.1 million partial repayment of anoutstanding note from the acquisition of Systems Technology Associates, andpayments for our capital leases of $0.1million, partially offset by proceedsfrom the exercise of stock options of $0.1 million. Cash provided by financingactivities for fiscal year 2002 was attributable to the proceeds from issuancesof common stock of $47.1 million and the issuance of exchangeable notes inthe amount of $4.3 million to the unit holders of SI International,L.L.C., offset by the repayment of all debt in the amount of$43.4 million, the repurchase of warrants held by the bank in the amountof $1.4 million and payments on our long term capital leases of$0.2 million.

Cash and cash equivalents as of the end of fiscal2004, fiscal 2003, and fiscal 2002 were $5.8 million, $23.3 million, and$10.9 million, respectively.

Financial data for all ofour subsidiaries are included in our consolidated financial statements.

**TabularDisclosure of Contractual Obligations**

Ourcontractual obligations as of December 25, 2004 are as follows (inthousands):
| ** **                       | ** ** | **Payment due by period** | ** ** |
|----------------------------------|------------|------------------------------------------|------------|
| **Contractual Obligations** | ** ** | ** **                               | ** ** | **Total** | ** ** | **Less than  1 year** | ** ** | **1 - 3 years** | ** ** | **3 - 5 years** | ** ** | **More than  5 years** | ** ** |
| **Capital  Lease**               |       | 367                                      |       |   | 132 |   |   |   | 189 |   |   |   | 46 |   |   |   | — |   |   |
| **Operating  Lease**             |       | 43,050                                   |       |   | 7,275 |   |   |   | 11,469 |   |   |   | 10,914 |   |   |   | 13,392 |   |   |
| **Total**                        | ** ** | **43,417**                               | ** ** | ** ** | **7,407** |   | ** ** | ** ** | **11,658** |   | ** ** | ** ** | **10,960** |   | ** ** | ** ** | **13,392** |   |   |
|                                  |            |                                          |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

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Purchase obligations related to existing contracts arewith the Federal Government and, in the event any contracts are terminated, wewould have the ability to submit a termination claim for outstanding purchases.

In connection with ouracquisition of SEI, we borrowed $100 million in long-term debt which willbe repaid in twenty-three consecutive quarterly payments of $250,000 each, startingfrom June 30, 2005 through December 31, 2010, and a final payment of$94 million on February 9, 2011.

**CriticalAccounting Policies and Estimates**

Our significant accountingpolicies are described in Note 2 to our accompanying consolidatedfinancial statements. We consider the accounting policies related to revenuerecognition to be critical to the understanding of our results of operations.Our critical accounting policies also include the areas where we have made whatwe consider to be particularly difficult, subjective or complex judgments inmaking estimates, and where these estimates can significantly impact ourfinancial results under different assumptions and conditions. We prepare ourfinancial statements in conformity with accounting principles generallyaccepted in the United States. As such, we are required to make certainestimates, judgments and assumptions that we believe are reasonable based uponthe information available. These estimates, judgments and assumptions affectthe reported amounts of assets and liabilities at the date of the financialstatements and the reported amounts of revenue and expenses during the periodspresented. Actual results could be different from these estimates.

*Revenue Recognition*

The Company recognizes revenue under its contractswhen a contract has been executed, the contract price is fixed anddeterminable, delivery of services or products has occurred, and collectibilityof the contract price is considered probable and can be reasonably estimated.Revenue is earned under cost reimbursable, time and materials and fixed pricecontracts. Direct contract costs are expensed as incurred.

Under cost reimbursable contracts, the Company isreimbursed for allowable costs, and paid a fee, which may be fixed orperformance-based. Revenues on cost reimbursable contracts are recognizedas costs are incurred plus an estimate of applicable fees earned. The Companyconsiders fixed fees under cost reimbursable contracts to be earned inproportion of the allowable costs incurred in performance of the contract. Forcost reimbursable contracts that include performance based fee incentives, theCompany recognizes the relevant portion of the expected fee to be awarded bythe customer at the time such fee can be reasonably estimated, based on factorssuch as the Company’s prior award experience and communications with thecustomer regarding performance.

Revenue on time and materials contracts are recognizedbased on direct labor hours expended at contract billing rates and adding otherbillable direct costs.

Fixed price contracts may include either a productdelivery or specific service performance throughout a period. For fixed pricecontracts that are based on unit pricing, the Company recognizes revenue forthe number of units delivered in any given fiscal period. For fixed pricecontracts that are based on the proportionate performance method and involve aspecified number of similar acts, the Company recognizes revenue based on theproportion of those acts completed compared to the number of total specifiedacts required by the contract. For fixed price contracts that are based on theproportionate performance method and involve a specified number of defined butnot similar acts, the Company recognizes revenue based on the proportion of theproject’s percentage total costs incurred compared to the estimated total costsassociated with the entire transaction. For fixed price contracts that providefor the delivery of a specific product with related customer acceptanceprovisions, revenues and associated contract costs are recognized upon productdelivery and customer acceptance.

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The Company’s contracts with agencies of thegovernment are subject to periodic funding by the respective contractingagency. Funding for a contract may be provided in full at inception of thecontract or ratably throughout the contract as the services are provided. Inevaluating the probability of funding for purposes of assessing collectibilityof the contract price, the Company considers its previous experiences with itscustomers, communications with its customers regarding funding status, and theCompany’s knowledge of available funding for the contract or program. Iffunding is not assessed as probable, revenue recognition is deferred untilrealization is deemed probable.

Contract revenue recognition inherently involvesestimation, including the contemplated level of effort to accomplish the tasksunder contract, the cost of the effort, and an ongoing assessment of progresstoward completing the contract. From time to time, as part of the normalmanagement processes, facts develop that require revisions to estimated totalcosts or revenues expected. The cumulative impact of any revisions to estimatesand the full impact of anticipated losses on any type of contract arerecognized in the period in which they become known.

The allowability ofcertain costs under government contracts is subject to audit by the government.Certain indirect costs are charged to contracts using provisional or estimatedindirect rates, which are subject to later revision based on government auditsof those costs. Management is of the opinion that costs subsequentlydisallowed, if any, would not be significant.

*Stock BasedCompensation*

We account for stock-based compensation using theintrinsic value method prescribed in APB Opinion No. 25 and relatedinterpretations. Accordingly, compensation expense for stock options ismeasured as the excess, if any, of the fair market value of the Company’s stockat the date of the grant over the exercise price of the related option. We haveadopted the annual disclosure provisions of SFAS No. 148 in our financialreports for the year ended December 31, 2003. The disclosures determinecompensation cost for the Company’s stock options based on SFAS No. 123,which reflects the fair value of each option estimated on the date of grantusing the Black-Scholes option-pricing model.

In December 2004, theFASB issued FASB Statement No. 123(R) (revised 2004), *Share Based Payment.* Statement 123(R) addressestheaccounting for share-based payment transactions in which an enterprise receivesemployee services in exchange for (a) equity instruments of the enterpriseor (b) liabilities that are based on the fair value of the enterprise’sequity instruments or that may be settled by the issuance of such equityinstruments. Statement 123(R) requires an entity to recognize thegrant-date fair-value of stock options and other equity-based compensationissued to employees in the income statement. The revised Statement generallyrequires that an entity account for those transactions using thefair-value-based method, and eliminates the intrinsic value method ofaccounting in APB Opinion No. 25, *Accountingfor Stock Issued to Employees*, which was permitted under Statement123, as originally issued. The revised Statement requires entities to discloseinformation about the nature of the share-based payment transactions and theeffects of those transactions on the financial statements. Statement 123(R) iseffective for the Company after June 15, 2005. All public companies mustuse either the modified prospective or the modified retrospective transitionmethod. We are currently evaluating the impact of adoption of thispronouncement, which must be adopted in the third quarter of fiscal year 2005.

**Item7A. Quantitative and Qualitative Disclosures About Market Risk.**

Historically, ourinvestment positions have been relatively small and short-term in nature. Wehave typically made investments in a fund with an effective average maturity offewer than 40 days having a portfolio make-up consisting primarily ofcommercial paper and notes and variable rate instruments, and to a much smallerextent overnight securities and bank instruments. Since our initial publicoffering, the 

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board ofdirectors approved an investment policy that requires we invest in relativelyshort-term, high quality, and high liquidity obligations.

**Item8. Financial Statements and Supplementary Data.**

The consolidated financialstatements of SI International, Inc. are submitted on pages F-1through F-23 of this report.

**Item9. Changes in and Disagreements with Accountants on Accounting and FinancialDisclosure.**

None.

**Item 9A. Controls and Procedures.**

*Quarterly Assessment.  *TheCompany carried out an assessment as of December 27, 2004 of theeffectiveness of the design and operation of its disclosure controls andprocedures and its internal control over financial reporting. This assessmentwas done under the supervision and with the participation of management,including the Company’s Chief Executive Officer and Chief Financial Officer.Rules adopted by the SEC require that the Company present the conclusionsof the Company’s Chief Executive Officer and Chief Financial Officer about theeffectiveness of the Company’s disclosure controls and procedures and theconclusions of the Company’s management about the effectiveness of its internalcontrol over financial reporting as of the end of the period covered by thisAnnual Report on Form 10-K.

*CEO and CFO Certifications.  *Includedas Exhibits 31.1 and 31.2 to this Annual Report on Form 10-K areforms of “Certification” of the Company’s Chief Executive Officer and ChiefFinancial Officer. The forms of Certification are required in accordance with Section 302of the Sarbanes-Oxley Act of 2002. This section of the Annual Report on Form 10-Kthat you are currently reading is the information concerning the assessmentreferred to in the Section 302 certifications and this information shouldbe read in conjunction with the Section 302 certifications for a morecomplete understanding of the topics presented.

*Disclosure Controls and Procedures and InternalControl over Financial Reporting.  *Management isresponsible for establishing and maintaining adequate disclosure controls andprocedures and internal control over financial reporting. Disclosure controlsand procedures are designed with the objective of ensuring that informationrequired to be disclosed in our reports filed or submitted under the ExchangeAct, such as this Annual Report on Form 10-K, is recorded,processed, summarized and reported within the time periods specified in the SEC’srules and forms. Disclosure controls and procedures are also designed withthe objective of ensuring that such information is accumulated and communicatedto the Company’s management, including the Company’s Chief Executive Officerand Chief Financial Officer, as appropriate to allow timely decisions regardingrequired disclosure.

Internal controlover financial reporting is a process designed by, or under the supervision ofthe Company’s Chief Executive Officer and Chief Financial Officer, and effectedby the Company’s Board of Directors, management and other personnel, to providereasonable assurance regarding the reliability of financial reporting and thepreparation of financial statements for external purposes in accordance withGAAP and includes those policies and procedures that:

·       pertainto the maintenance of records that in reasonable detail accurately and fairlyreflect the transactions and dispositions of the Company’s assets;

·       providereasonable assurance that transactions are recorded as necessary to permitpreparation of financial statements in accordance with GAAP, and that theCompany’s receipts and expenditures are being made only in accordance withauthorizations of management or the Company’s Board of Directors; and

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·       providereasonable assurance regarding prevention or timely detection of unauthorizedacquisition, use or disposition of the Company’s assets that could have amaterial adverse effect on the Company’s financial statements.

*Limitations on the Effectiveness of Controls.  *Management,including the Company’s Chief Executive Officer and Chief Financial Officer, donot expect that the Company’s disclosure controls and procedures or internalcontrol over financial reporting will prevent all errors and all fraud. Acontrol system, no matter how well conceived and operated, can provide onlyreasonable, not absolute, assurance that the objectives of the control systemare met. Further, the design of a control system must reflect the fact thatthere are resource constraints, and the benefits of controls must be consideredrelative to their costs. Because of the inherent limitations in all controlsystems, no assessment of controls can provide absolute assurance that allcontrol issues and instances of fraud, if any, within the Company have beendetected. These inherent limitations include the realities that judgments indecision-making can be faulty, and that breakdowns can occur because of simpleerror or mistake. Additionally, controls can be circumvented by the individualacts of some persons, by collusion of two or more people, or by management’soverride of the control. The design of any system of controls also is based inpart upon certain assumptions about the likelihood of future events, and therecan be no assurance that any design will succeed in achieving its stated goalsunder all potential future conditions; over time, controls may becomeinadequate because of changes in conditions, or the degree of compliance withthe policies or procedures may deteriorate. Because of the inherent limitationsin a cost-effective control system, misstatements due to error or fraud mayoccur and not be detected.

*Scope of the Assessments.  *Theassessment by the Company’s Chief Executive Officer and Chief Financial Officerof the Company’s disclosure controls and procedures and the assessment by theCompany’s management of the Company’s internal control over financial reportingincluded a review of procedures and discussions with [the Company’s DisclosureControl Committee] and others in the Company. In the course of the assessments,management sought to identify data errors, control problems or acts of fraudand to confirm that appropriate corrective action, including processimprovements, were being undertaken. Management used the criteria issued by theCommittee of Sponsoring Organizations of the Treadway Commission in InternalControl - Integrated Framework to assess the effectiveness of the Company’sinternal control over financial reporting.

The Company’s internal control over financialreporting is also assessed on an ongoing basis by management and otherpersonnel in the Company’s Accounting and Internal Audit departments.Management’s annual assessment of the Company’s internal control over financialreporting is audited by the Company’s independent registered public accountingfirm. We consider the results of these various assessment activities as wemonitor the Company’s disclosure controls and procedures and internal controlover financial reporting and when deciding to make modifications as necessary.Management’s intent in this regard is that the disclosure controls andprocedures and the internal control over financial reporting will be maintainedand updated (including with improvements and corrections) as conditionswarrant. Among other matters, management sought in its assessment to determinewhether there were any “material weaknesses” in the Company’s internal controlover financial reporting, or whether management had identified any acts offraud involving senior management, management, or other personnel who have asignificant role in the Company’s internal control over financial reporting.This information was important both for the assessment generally and becausethe Section 302 certifications require that the Company’s Chief ExecutiveOfficer and Chief Financial Officer disclose that information to the AuditCommittee of the Company’s Board of Directors and to the Company’s independentauditors and to report on related matters in this section of the Annual Reporton Form 10-K. In the Public Company Accounting Oversight Board’s AuditingStandard No. 2, a “material weakness” is defined as a significant deficiency,or a combination of significant deficiencies, that results in more than aremote likelihood that a material misstatement of the annual or interimfinancial statements will not be prevented or detected. A “significant 

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deficiency” is defined asa “control deficiency,” or a combination of control deficiencies, that adverselyaffects the ability to initiate, authorize, record, process or report externalfinancial data reliably in accordance with GAAP such that there is more than aremote likelihood that a misstatement of the annual or interim financialstatements that is more than inconsequential will not be prevented or detected.A “control deficiency” exists when the design or operation of a control doesnot allow management or employees, in the normal course of performing theirassigned functions, to prevent or detect misstatements on a timely basis.Management also sought to deal with other control matters in the assessment,and in each case if a problem was identified, management considered whatrevision, improvement and/or correction was necessary to be made in accordancewith the Company’s on-going procedures.

*Evaluation of Disclosure Controls and Procedures.  *Asof the end of the period covered by this report, we carried out an evaluation,under the supervision and with the participation of our management, includingour Chief Executive Officer and Chief Financial Officer, of the effectivenessof the design and operation of our disclosure controls and procedures.

*Management’s Report on Internal Control overFinancial Reporting.  *Our management is responsible forestablishing and maintaining adequate internal control over financialreporting, as such term is defined in Exchange Act Rules 13a-15(f) and15d-15(f). Under the supervision and with the participation of ourmanagement, including Chief Executive Officer and Chief Financial Officer, weconducted an evaluation of the effectiveness of our internal control overfinancial reporting as of December 25, 2004 based upon the framework inInternal Control—Integrated Framework issued by the Committee of SponsoringOrganizations of the Treadway Commission (COSO). Based on that evaluation, ourmanagement concluded that our internal control over financial reporting waseffective as of December 25, 2004. We did not assess the effectiveness ofinternal control over financial reporting related to the net assets acquiredfrom Bridge Technologies, Inc. which was acquired on December 21, 2004 and isincluded in our 2004 consolidated financial statements and constituted$4,678,000 and $3,775,000 of total and net assets, respectively, as of December25, 2004 and $186,000 and $(4,500) of revenues and net income, respectively,for the year then ended.

Management’s assessment of the effectiveness of ourinternal control over financial reporting as of December 25, 2004 has beenaudited by Ernst & Young, LLP, an independent registered publicaccounting firm, as stated in their report that is included elsewhere herein.

*Changes in Internal Control OverFinancial Reporting.  *There were no changes in theCompany’s internal control over financial reporting for the fiscal year endedDecember 25, 2004 that has materially affected, or is reasonably likely tomaterially affect, the Company’s internal control for financial reporting.

**Item 9B. Other Information.**

None.

**PART III**

The information requiredby Items 10, 11, 12, 13 and 14 of Part III of Form 10-K hasbeen omitted in reliance on General Instruction G(3) and is incorporatedherein by reference to the definitive proxy statement of SI International, Inc.for its 2005 annual meeting of stockholders to be filed with the SEC pursuantto Regulation 14A promulgated under the Securities Exchange Act of 1934,as amended.

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**PART IV**

**Item15. Exhibits and Financial Statement Schedules.**

(a)   Documents filed as part of this Report

1.                 FinancialStatements.
| A. | Report of Independent  Registered Public Accounting Firm                                                                                                    |   |
|----|-------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|
| B. | Report of Independent  Registered Public Accounting Firm on Internal Control over Finanacial  Reporting                                                     |   |
| C. | Consolidated Balance Sheets as of  December 25, 2004 and December 27, 2003                                                                        |   |
| D. | Consolidated Statements of  Operations for the fiscal years ended December 25, 2004,  December 27, 2003 and December 28, 2002                |   |
| E. | Consolidated Statements of  Stockholders’ Equity for the fiscal years ended December 25, 2004,  December 27, 2003 and December 28, 2002 |   |
| F. | Consolidated Statements of  Cash Flows for the fiscal years ended December 25, 2004,  December 27, 2003 and December 28, 2002                |   |
| G. | Notes  to Consolidated Financial Statements                                                                                                                 |   |

 

2.                 FinancialStatement Schedules.

Schedule II—Valuation and Qualifying Accounts

3.                 Exhibits.

The exhibits required by this item are set forth onthe Index to Exhibits attached hereto.

(b)   Exhibits.

See Item 15(a)(3) above.

(c)   NotApplicable.

49

----

 

**SIGNATURES**

Pursuantto the requirements of Section 13 or 15(d) of the Securities ExchangeAct of 1934, the registrant has duly caused this report to be signed on itsbehalf by the undersigned, thereunto duly authorized, on the 9th day of March, 2005.
|            | **SI INTERNATIONAL, INC.** |
|------------|---------------------------------|
|       | By:                             | /s/ RAY  J. OLESON |
|       |                            | **Ray J. Oleson** |
| ** ** |                            | ***Chairman of the Board and  Chief Executive Officer*** |

 

Pursuantto the requirements of the Securities Exchange Act of 1934, this report hasbeen signed below by the following persons on behalf of the Registrant and incapacities and on the dates indicated.
|                                           | **Signatures** | ** **                                                          | ** ** | ** **          | **Title** | ** ** | ** ** | ** ** | **Date** | ** ** |
|-------------------------------------------|----------------|---------------------------------------------------------------------|------------|---------------------|-----------|------------|------------|------------|----------|------------|
| /s/  RAY J. OLESON                        |           | Chairman of the Board  and Chief                                    |       | March 9,  2005 |
| **Ray J.  Oleson**                        |           | Executive Officer (Principal Executive Officer)                     |       |                |
| /s/  THOMAS E. DUNN                       |           | Executive Vice  President, Chief Financial                          |       | March 9,  2005 |
| **Thomas  E. Dunn**                       |           | Officer and Treasurer (Principal Financial and  Accounting Officer) |       |                |
| /s/  THOMAS E. DUNN by Power of Attorney  |           | Director                                                            |       | March 9,  2005 |
| **Charles  A. Bowsher**                   |           |                                                                |       |                |
| /s/  THOMAS E. DUNN by Power of Attorney  |           | Director                                                            |       | March 9,  2005 |
| **James  E. Crawford, III**          |           |                                                                |       |                |
| /s/  THOMAS E. DUNN by Power of Attorney  |           | Director                                                            |       | March 9,  2005 |
| **Walter  J. Culver**                     |           |                                                                |       |                |
| /s/  THOMAS E. DUNN by Power of Attorney  |           | Director                                                            |       | March 9,  2005 |
| **Walter  C. Florence**                   |           |                                                                |       |                |
| /s/  THOMAS E. DUNN by Power of Attorney  |           | Director                                                            |       | March 9,  2005 |
| **General  R. Thomas Marsh  (USAF-Ret.)** |           |                                                                |       |                |
| /s/  THOMAS E. DUNN by Power of Attorney  |           | Director                                                            |       | March 9,  2005 |
| **Edward  H. Sproat**                     |           |                                                                |       |                |
| /s/  THOMAS E. DUNN by Power of Attorney  |           | Director                                                            |       | March 9,  2005 |
| **John P.  Stenbit**                      |           |                                                                |       |                |

 

50

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**INDEX TO EXHIBITS**
| EXHIBIT NO. | ** ** | ** **                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              | ** ** | **DESCRIPTION** |
|-------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------|
| 2.1         |       | Agreement and Plan of Merger among the Company, Link  Acquisition Corporation, a Delaware corporation and a wholly-owned  subsidiary of the Company, Matcom International Corporation, and the  stockholders of Matcom International Corporation, dated as of  December 17, 2003, as amended by the First Amendment to Agreement and  Plan of Merger, dated as of January 21, 2004 (filed as Exhibit 2.1  to the Company’s Current Report on Form 8-K filed January 28,  2004 and incorporated herein by reference). (The appendices and exhibits have  been omitted pursuant to Item 601(b)(2) of Regulation S-K. SI  International, Inc., hereby undertakes to furnish supplementally to the  Securities and Exchange Commission copies of any omitted appendices and  exhibits upon request by the Securities and Exchange Commission.) |
| 2.2         |       | Agreement and Plan of Merger among the Company, Link  Acquisition2 Corporation, a Delaware corporation and a wholly-owned  subsidiary of the Company, Bridge Technology Corporation, and the  stockholders of Bridge Technology Corporation, dated as of November 30,  2004 (*). (The appendices and exhibits have been omitted pursuant to Item  601(b)(2) of Regulation S-K. SI International, Inc., hereby  undertakes to furnish supplementally to the Securities and Exchange  Commission copies of any omitted appendices and exhibits upon request by the  Securities and Exchange Commission.)                                                                                                                                                                                                                                                                   |
| 2.3         |       | Stock Purchase Agreement among the Company, SEI, and  the stockholders of SEI dated January 12, 2005 (filed as Exhibit 99.1  to the Company’s Current Report on Form 8-K filed March 1, 2005 and  incorporated by reference). (The appendices and exhibits have been omitted  pursuant to Item 601(b)(2) of Regulation S-K. SI  International, Inc., hereby undertakes to furnish supplementally to the  Securities and Exchange Commission copies of any omitted appendices and  exhibits upon request by the Securities and Exchange Commission.)                                                                                                                                                                                                                                                                                                  |
| 3.1         |       | Second Restated Certificate of Incorporation (filed  as Exhibit 3.1 to the Company’s Registration Statement on Form S-1/A  (File No. 333-87964) filed on October 25, 2002 (the “Third  Amendment) and incorporated herein by reference).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  |
| 3.2         |       | Amended and Restated Bylaws, as amended (filed as  Exhibit 3.2 to the Company’s Registration Statement on Form S-1/A  (File No. 333-87964) filed on November 8, 2002 (the “Fifth  Amendment) and incorporated herein by reference).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |
| 4.1         |       | Registration Rights Agreement, as amended (filed as  Exhibit 4.1 to the Third Amendment and incorporated herein by  reference).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |
| 4.2         |       | Specimen Certificate of our common stock (filed as  Exhibit 4.2 to the Company’s Registration Statement on Form S-1/A  (File No. 333-87964) filed on November 5, 2002 (the “Fourth  Amendment) and incorporated herein by reference).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
| 4.3         |       | Stock Purchase Agreement, as amended (filed as  Exhibit 4.3 to the Fifth Amendment and incorporated herein by  reference).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |
| 4.4         |       | Amendment to Stock Purchase Agreements (filed as  Exhibit 4.4 to the Fourth Amendment and incorporated herein by  reference).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
| 10.1        |       | Form of 2002 Stock Incentive Plan (filed as  Exhibit 10.1 to the Third Amendment and incorporated herein by  reference).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |
| 10.2        |       | January 2001 Nonqualified Stock Option Plan  (filed as Exhibit 10.2 to the Company’s Registration Statement on  Form S-1/A (File No. 333-87964) filed on June 24,  2002 (the “First Amendment) and incorporated herein by reference).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| 10.3        |       | SI International, Inc. 2001 Service Award Stock  Option Plan (filed as Exhibit 10.3 to the First Amendment and incorporated  herein by reference).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
| 10.4        |       | 1998 Stock Option Plan (filed as Exhibit 10.5  to the First Amendment and incorporated herein by reference).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |

51

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| 10.5  |   | Amended and Restated  Credit Agreement (filed as Exhibit 99.1 to the Company’s Current Report  on Form 8-K filed February 15, 2005 and incorporated herein by  reference).       |
|-------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 10.6  |   | Executive Employment Agreement with S. Bradford  Antle (filed as Exhibit 10.6 to the Third Amendment and incorporated  herein by reference).                                               |
| 10.7  |   | Executive Employment Agreement with Walter J. Culver  (filed as Exhibit 10.7 to the Third Amendment and incorporated herein by  reference).                                                |
| 10.8  |   | Executive Employment Agreement with Thomas E. Dunn  (filed as Exhibit 10.8 to the Third Amendment and incorporated herein by  reference).                                                  |
| 10.9  |   | Executive Employment Agreement with Thomas E. Lloyd  (filed as Exhibit 10.9 to the Third Amendment and incorporated herein by  reference).                                                 |
| 10.10 |   | Executive Employment Agreement with Ray J. Oleson  (filed as Exhibit 10.10 to the Third Amendment and incorporated herein  by reference).                                                  |
| 10.11 |   | Form of Indemnification Agreement (filed as  Exhibit 10.11 to the Third Amendment and incorporated herein by  reference).                                                             |
| 10.12 |   | Consulting Services Agreement with Walter J. Culver  (*).                                                                                                                                       |
| 10.13 |   | Non-Qualified Deferred Compensation Plan, as amended  (*).                                                                                                                                      |
| 21.1  |   | Subsidiaries of the registrant (*).                                                                                                                                                             |
| 23.1  |   | Consent of Ernst & Young LLP (*).                                                                                                                                                      |
| 31.1  |   | Certifications of Chief Executive Officer and Chief  Financial Officer pursuant to Rule 13a-14(a) as adopted  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (*)      |
| 32.1  |   | Certifications of Chief Executive Officer and Chief  Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted  pursuant to Section 906 of the Sarbanes Oxley Act of 2002 (*). |

----

*Indicates filed herewith.

52

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**INDEX TO FINANCIALSTATEMENTS**
|                                                                                                                                                              | ** ** | **PAGE** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------|------------|
| **SI INTERNATIONAL, INC.**                                                                                                                                   |       |
| Report of Independent  Registered Public Accounting Firm                                                                                                     | F-2        |
| Report of Independent  Registered Public Accounting Firm on Internal Control over Financial  Reporting                                                       | F-3        |
| Consolidated Balance Sheets as of  December 25, 2004 and December 27, 2003                                                                         | F-5        |
| Consolidated Statements of  Operations for the fiscal years ended December 25, 2004,  December 27, 2003, and December 28, 2002                | F-6        |
| Consolidated Statements of  Stockholders’ Equity for the fiscal years ended December 25, 2004,  December 27, 2003, and December 28, 2002 | F-7        |
| Consolidated Statements of  Cash Flows for the fiscal years ended December 25, 2004,  December 27, 2003, and December 28, 2002                | F-8        |
| Notes  to Consolidated Financial Statements                                                                                                                  | F-9        |

 

F-1

----

**Reportof Independent Registered Public Accounting Firm**

**To the Board ofDirectors**and Stockholdersof SI International, Inc.:

We have audited the accompanying consolidated balancesheets of SI International, Inc. and subsidiaries (as defined in Note 1)(the Company) as of December 25, 2004 and December 27, 2003, and therelated consolidated statements of operations, stockholders’ equity, and cashflows for the fiscal years ended December 25, 2004, December 27,2003, and December 28, 2002. Our auditsalso included the financial statement schedule listed in the index at Item 15. Thesefinancial statements and schedule are the responsibility of the Company’smanagement. Our responsibility is to express an opinion on these financialstatements and schedule based on our audits.

We conducted our audits in accordance with thestandards of the Public Company Accounting Oversight Board (United States).Those standards require that we plan and perform the audit to obtain reasonableassurance about whether the financial statements are free of materialmisstatement. An audit includes examining, on a test basis, evidence supportingthe amounts and disclosures in the financial statements. An audit also includesassessing the accounting principles used and significant estimates made bymanagement, as well as evaluating the overall financial statement presentation.We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred toabove present fairly, in all material respects, the consolidated financialposition of SI International, Inc. and subsidiaries (as defined in Note 1)at December 25, 2004 and December 27, 2003, and the consolidatedresults of its operations and its cash flows for the fiscal years ended December 25,2004, December 27, 2003, and December 28, 2002 in conformity withU.S. generally accepted accounting principles. Also, in our opinion, therelated financial statement schedule, when considered in relation to the basicfinancial statements taken as a whole, presents fairly, in all materialrespects, the information set forth therein.

Wealso have audited, in accordance with the standards of the Public CompanyAccounting Oversight Board (United States), the effectiveness of SIInternational, Inc. and its subsidiaries (as defined in Note 1) internalcontrol over financial reporting as of December 25, 2004, based oncriteria established in Internal Control—Integrated Framework issued by theCommittee of Sponsoring Organizations of the Treadway Commission and our reportdated March 7, 2005 expressed an unqualified opinion thereon.
|                    | /s/ Ernst & Young LLP |
|--------------------|--------------------------------|
| McLean, Virginia   |
| March 7, 2005 |

F-2

----

 

**Report of Independent Registered Public AccountingFirm**

**Tothe Board of Directors and Stockholders of**SI International, Inc.:

We have audited management’s assessment, included inthe accompanying consolidated financial statements that SI International, Inc.and subsidiaries (as defined in Note 1) maintained effective internal controlover financial reporting as of December 25, 2004, based on criteria established in InternalControl—Integrated Framework issued by the Committee of SponsoringOrganizations of the Treadway Commission (the COSO criteria). SIInternational’s management is responsible for maintaining effective internalcontrol over financial reporting and for its assessment of the effectiveness ofinternal control over financial reporting. Our responsibility is to express anopinion on management’s assessment and an opinion on the effectiveness of thecompany’s internal control over financial reporting based on our audit.

We conducted our audit in accordance with thestandards of the Public Company Accounting Oversight Board (United States).Those standards require that we plan and perform the audit to obtain reasonableassurance about whether effective internal control over financial reporting wasmaintained in all material respects. Our audit included obtaining anunderstanding of internal control over financial reporting, evaluatingmanagement’s assessment, testing and evaluating the design and operatingeffectiveness of internal control, and performing such other procedures as weconsidered necessary in the circumstances. We believe that our audit provides areasonable basis for our opinion.

A company’s internal control over financial reportingis a process designed to provide reasonable assurance regarding the reliabilityof financial reporting and the preparation of financial statements for externalpurposes in accordance with generally accepted accounting principles. A company’sinternal control over financial reporting includes those policies andprocedures that (1) pertain to the maintenance of records that, inreasonable detail, accurately and fairly reflect the transactions anddispositions of the assets of the company; (2) provide reasonableassurance that transactions are recorded as necessary to permit preparation offinancial statements in accordance with generally accepted accountingprinciples, and that receipts and expenditures of the company are being madeonly in accordance with authorizations of management and directors of thecompany; and (3) provide reasonable assurance regarding prevention ortimely detection of unauthorized acquisition, use, or disposition of thecompany’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal controlover financial reporting may not prevent or detect misstatements. Also,projections of any evaluation of effectiveness to future periods are subject tothe risk that controls may become inadequate because of changes in conditions,or that the degree of compliance with the policies or procedures maydeteriorate.

As indicated in the accompanying Management’s Reporton Internal Control over Financial Reporting, management’s assessment of andconclusion on the effectiveness of internal control over financial reportingdid not include the internal controls of Bridge Technologies, Inc., whichwas acquired on December 21, 2004 and is included in the 2004 consolidatedfinancial statements of SI International, Inc. and subsidiaries (asdefined in Note 1) and constituted $4,678,000 and $3,775,000 of total and netassets, respectively, as of December 25, 2004 and $186,000 and $(4,500) ofrevenues and net income, respectively, for the year then ended. Our audit ofinternal control over financial reporting of SI International, Inc. alsodid not include an evaluation of the internal control over financial reportingof Bridge Technologies, Inc.

In our opinion, management’s assessment that SIInternational, Inc. and subsidiaries (as defined in Note 1) maintainedeffective internal control over financial reporting as of December 25,2004, is fairly stated, in all material respects, based on the COSO criteria. Also,in our opinion, SI International, Inc. 

F-3

----

maintained, in allmaterial respects, effective internal control over financial reporting as of December 25,2004, based on****the COSO criteria**.**

We also have audited, inaccordance with the standards of the Public Company Accounting Oversight Board(United States), the consolidated balance sheets of SI International, Inc.and subsidiaries (as defined in Note 1) as of December 25, 2004 and December 27,2003, and the related consolidated statements of operations, stockholders’ equity,and cash flows for the fiscal years ended December 25, 2004, December 27,2003, and December 28, 2002 and our report dated March 7, 2005expressed an unqualified opinionthereon**.**
| McLean, Virginia   |
|--------------------|
| March 7, 2005 |

 

F-4

----

**SI International, Inc.Consolidated balance sheetsAs of December 25, 2004 and December 27, 2003(Amounts in thousands, except share and per share data)**
| ** **                                                                                                                                                                                                               | ** ** | **December 25,  2004** | ** ** | **December 27,  2003** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------|------------|-----------------------------|------------|
| **Assets**                                                                                                                                                                                                               | ** ** |                        | ** ** | ** **                  |       |   | ** ** | ** ** |   |
| **Current assets:**                                                                                                                                                                                                      |       |                        |       | ** **                  |       |   |   | ** ** |   |
| Cash and cash equivalents                                                                                                                                                                                                |       |                        | $          | 5,754                       | ** ** |   |   | $ | 23,252 | ** ** |   |
| Accounts receivable, net                                                                                                                                                                                                 |       |                        | 65,710     | ** **                  |       |   | 34,007 | ** ** |   |
| Deferred tax asset                                                                                                                                                                                                       |       |                        | 2,740      | ** **                  |       |   | 2,100 | ** ** |   |
| Prepaid expenses                                                                                                                                                                                                         |       |                        | 2,408      | ** **                  |       |   | 2,064 | ** ** |   |
| Other current assets                                                                                                                                                                                                     |       |                        | 1,095      | ** **                  |       |   | 433 | ** ** |   |
| Total current  assets                                                                                                                                                                                                    |       |                        | 77,707     | ** **                  |       |   | 61,856 | ** ** |   |
| **Property  and equipment, net**                                                                                                                                                                                         |       |                        | 4,971      | ** **                  |       |   | 3,768 | ** ** |   |
| **Intangible assets, net**                                                                                                                                                                                               |       |                        | 6,575      | ** **                  |       |   | — | ** ** |   |
| **Other  assets**                                                                                                                                                                                                        |       |                        | 2,142      | ** **                  |       |   | 1,174 | ** ** |   |
| **Goodwill**                                                                                                                                                                                                             |       |                        | 120,712    | ** **                  |       |   | 39,829 | ** ** |   |
| Total assets                                                                                                                                                                                                             |       |                        | $          | 212,107                     | ** ** |   |   | $ | 106,627 | ** ** |   |
| **Liabilities  and stockholders’ equity**                                                                                                                                                                           | ** ** |                        | ** ** | ** **                  |       |   | ** ** | ** ** |   |
| **Current liabilities:**                                                                                                                                                                                                 |       |                        |       | ** **                  |       |   |   | ** ** |   |
| Note Payable—Line of Credit                                                                                                                                                                                         |       |                        | $          | 28,954                      | ** ** |   |   | — | ** ** |   |
| Accounts payable                                                                                                                                                                                                         |       |                        | 11,225     | ** **                  |       |   | 6,965 | ** ** |   |
| Accrued expenses and other current liabilities                                                                                                                                                                           |       |                        | 15,314     | ** **                  |       |   | 11,208 | ** ** |   |
| Deferred revenue                                                                                                                                                                                                         |       |                        | 289        | ** **                  |       |   | 3,975 | ** ** |   |
| Total current  liabilities                                                                                                                                                                                               |       |                        | 55,782     | ** **                  |       |   | 22,148 | ** ** |   |
| **Note payable—former owner of acquired business**                                                                                                                                                                  |       |                        | 2,280      | ** **                  |       |   | — | ** ** |   |
| **Deferred income tax**                                                                                                                                                                                                  |       |                        | 5,046      | ** **                  |       |   | 1,832 | ** ** |   |
| **Other  long-term liabilities**                                                                                                                                                                                         |       |                        | 3,929      | ** **                  |       |   | 1,100 | ** ** |   |
| **Stockholders’ equity:**                                                                                                                                                                                           |       |                        |       | ** **                  |       |   |   | ** ** |   |
| **Common stock**—$0.01 par value  per share; 50,000,000 shares authorized; 11,047,533 and 8,451,507 shares  issued and outstanding as of December 25, 2004 and  December 27, 2003, respectively |       |                        | 111        | ** **                  |       |   | 85 | ** ** |   |
| Additional paid-in capital                                                                                                                                                                                               |       |                        | 128,192    | ** **                  |       |   | 75,704 | ** ** |   |
| Deferred compensation                                                                                                                                                                                                    |       |                        | (208       | )                           |       |   | (340 | ) |   |
| Retained earnings                                                                                                                                                                                                        |       |                        | 16,975     | ** **                  |       |   | 6,098 | ** ** |   |
| Total stockholders’ equity                                                                                                                                                                                          |       |                        | 145,070    | ** **                  |       |   | 81,547 | ** ** |   |
| Total liabilities  and stockholders’ equity                                                                                                                                                                         |       |                        | $          | 212,107                     | ** ** |   |   | $ | 106,627 | ** ** |   |

 

The accompanying notes are an integral part of these consolidated balance sheets.

F-5

----

**SI International, Inc.Consolidated statements ofoperationsFor the fiscal years ended December 25, 2004, December 27, 2003, andDecember 28, 2002(Amounts in thousands, except per share data)**
| ** **                                              | ** ** | **Fiscal Year** | ** ** |
|---------------------------------------------------------|------------|----------------------|------------|
| ** **                                              | ** ** | **2004**             | ** ** | **2003** | ** ** | **2002** | ** ** |
| **Revenue**                                             |       | $                    | 262,306    |   | $ | 168,287 |   | $ | 149,351 |   |
| **Costs and expenses:**                                 |       |                 |       |   |   |   |   |
| Direct costs                                            |       | 166,774              |       | 101,940 |   | 91,240 |   |
| Indirect costs                                          |       | 71,917               |       | 51,569 |   | 49,404 |   |
| Depreciation                                            |       | 2,231                |       | 2,009 |   | 1,988 |   |
| Amortization                                            |       | 648                  |       | — |   | — |   |
| Total operating expenses                                |       | 241,570              |       | 155,518 |   | 142,632 |   |
| **Income from operations**                              |       | 20,736               |       | 12,769 |   | 6,719 |   |
| **Other  income (expense)**                             |       | (1                   | )          | — |   | — |   |
| **Interest  expense**                                   |       | (2,760               | )          | (606 | ) | (3,319 | ) |
| **Minority  interests**                                 |       | —               |       | — |   | (118 | ) |
| **Change  in fair value of put warrants**               |       | —               |       | — |   | 640 |   |
| **Income  before provision for income taxes**           |       | 17,975               |       | 12,163 |   | 3,922 |   |
| **Provision  for income taxes**                         |       | 7,098                |       | 4,784 |   | 1,439 |   |
| **Net  income**                                         |       | 10,877               |       | 7,379 |   | 2,483 |   |
| **Dividends  on redeemable cumulative preferred stock** |       | —               |       | — |   | 1,954 |   |
| **Net  income attributable to common stockholders**     |       | $                    | 10,877     |   | $ | 7,379 |   | $ | 529 |   |
| **Earnings  (loss) per common share:**                  |       |                 |       |   |   |   |   |
| Basic net income per common share                       |       | $                    | 1.20       |   | $ | 0.87 |   | $ | 0.16 |   |
| Diluted net income (loss) per common share              |       | $                    | 1.14       |   | $ | 0.87 |   | $ | (0.03 | ) |
| **Basic weighted-average shares outstanding**           |       | 9,041                |       | 8,446 |   | 3,382 |   |
| **Diluted  weighted-average shares outstanding**        |       | 9,507                |       | 8,488 |   | 3,516 |   |

 

The accompanying notes are an integral part of these consolidated statements.

F-6

----

**SI International, Inc.Consolidated statements ofstockholders’ equityFor the fiscal years ended December 25, 2004, December 27, 2003, andDecember 28, 2002(Amounts in thousands, except share data)**
| ** **                                                                         | ** ** | ** **               | ** ** | ** **            | ** ** | **Stockholders’ equity (deficit)** | ** ** |
|------------------------------------------------------------------------------------|------------|--------------------------|------------|-----------------------|------------|---------------------------------------------------|------------|
| ** **                                                                         | ** ** | **Redeemable**           | ** ** | ** **            | ** ** | ** **                                        | ** ** | ** ** | ** ** | ** ** | ** ** | **Retained** | ** ** | ** ** | ** ** |
| ** **                                                                         | ** ** | **cumulative**           | ** ** | ** **            | ** ** | ** **                                        | ** ** | **Additional** | ** ** | ** ** | ** ** | **earnings** | ** ** | ** ** | ** ** |
| ** **                                                                         | ** ** | **preferred stock** | ** ** | **Common stock** | ** ** | **paid-in**                                       | ** ** | **Deferred** | ** ** | **(Accumulated** | ** ** | ** ** | ** ** |
| ** **                                                                         | ** ** | **Shares**               | ** ** | **Amount**            | ** ** | **Shares**                                        | ** ** | **Amount** | ** ** | **Capital** | ** ** | **compensation** | ** ** | **deficit)** | ** ** | **Total** | ** ** |
| **Balance,  December 30, 2001**                                               |       | 21,372                   |       | 25,180                |       | 2,631,862                                         |       |   | 27 |   |   |   | — |   |   |   | (130 | ) |   |   | (2,328 | ) |   | (2,431 | ) |
| Compensatory stock  option grants                                                  |       | —                   |       | —                |       | —                                            |       |   | — |   |   |   | 518 |   |   |   | (379 | ) |   |   | — |   |   | 139 |   |
| Dividends on redeemable  preferred stock                                           |       | —                   |       | 1,954                 |       | —                                            |       |   | — |   |   |   | (518 | ) |   |   | — |   |   |   | (1,436 | ) |   | (1,954 | ) |
| Exchange of SI  redeemable preferred stock for SI common stock                     |       | (21,372                  | )          | (27,134               | )          | 1,938,119                                         |       |   | 19 |   |   |   | 27,115 |   |   |   | — |   |   |   | — |   |   | 27,134 |   |
| Exchange of SI  Telecom Junior participating preferred shares for SI common  stock |       | —                   |       | —                |       | 12,034                                            |       |   | — |   |   |   | 1,396 |   |   |   | — |   |   |   | — |   |   | 1,396 |   |
| Exchange of SI  Telecom common stock for SI common stock                           |       | —                   |       | —                |       | 316                                               |       |   | — |   |   |   | 27 |   |   |   | — |   |   |   | — |   |   | 27 |   |
| Conversion of put  warrants                                                        |       | —                   |       | —                |       | 7,410                                             |       |   | — |   |   |   | 113 |   |   |   | — |   |   |   | — |   |   | 113 |   |
| Offering Proceeds,  net of offering costs                                          |       | —                   |       | —                |       | 3,850,000                                         |       |   | 39 |   |   |   | 47,031 |   |   |   | — |   |   |   | — |   |   | 47,070 |   |
| Net income                                                                         |       | —                   |       | —                |       | —                                            |       |   | — |   |   |   | — |   |   |   | — |   |   |   | 2,483 |   |   | 2,483 |   |
| **Balance,  December 28, 2002**                                               |       | —                   |       | —                |       | 8,439,741                                         |       |   | 85 |   |   |   | 75,682 |   |   |   | (509 | ) |   |   | (1,281 | ) |   | 73,977 |   |
| Exercise of stock options                                                          |       | —                   |       | —                |       | 11,766                                            |       |   | — |   |   |   | 67 |   |   |   | — |   |   |   | — |   |   | 67 |   |
| Compensatory stock  option grants/amortization  of deferred compensation           |       | —                   |       | —                |       | —                                            |       |   | — |   |   |   | (37 | ) |   |   | 169 |   |   |   | — |   |   | 132 |   |
| Offering costs                                                                     |       | —                   |       | —                |       | —                                            |       |   | — |   |   |   | (8 | ) |   |   | — |   |   |   | — |   |   | (8 | ) |
| Net income                                                                         |       | —                   |       | —                |       | —                                            |       |   | — |   |   |   | — |   |   |   | — |   |   |   | 7,379 |   |   | 7,379 |   |
| **Balance,  December 27, 2003**                                               |       | —                   |       | $                     | —     |                                              | 8,451,507  |   |   | $ | 85 |   |   |   | $ | 75,704 |   |   |   | $ | (340 | ) |   |   | $ | 6,098 |   |   | $ | 81,547 |   |
| Exercise of stock options                                                          |       | —                   |       | —                |       | 76,026                                            |       |   | 1 |   |   |   | 929 |   |   |   | — |   |   |   | — |   |   | 930 |   |
| Amortization of deferred  compensation                                             |       | —                   |       | —                |       | —                                            |       |   | — |   |   |   | (3 | ) |   |   | 132 |   |   |   | — |   |   | 129 |   |
| Option exercise  tax effect                                                        |       | —                   |       | —                |       | —                                            |       |   | — |   |   |   | 348 |   |   |   | — |   |   |   | — |   |   | 348 |   |
| Offering proceeds,  net of offering costs                                          |       | —                   |       | —                |       | 2,520,000                                         |       |   | 25 |   |   |   | 51,214 |   |   |   | — |   |   |   | — |   |   | 51,239 |   |
| Net income                                                                         |       | —                   |       | —                |       | —                                            |       |   | — |   |   |   | — |   |   |   | — |   |   |   | 10,877 |   |   | 10,877 |   |
| **Balance, December 25, 2004**                                                |       | —                   |       | $                     | —     |                                              | 11,047,533 |   |   | $ | 111 |   |   |   | $ | 128,192 |   |   |   | $ | (208 | ) |   |   | $ | 16,975 |   |   | $ | 145,070 |   |

 

The accompanying notes are an integral part of these consolidated statements.

F-7

----

**SI International, Inc.Consolidated statements ofcash flowsFor the fiscal years ended December 25, 2004, December 27, 2003, andDecember 28, 2002(Amounts in thousands)**
| ** **                                                                                | ** ** | **Fiscal Year**                                                                         | ** ** |
|-------------------------------------------------------------------------------------------|------------|----------------------------------------------------------------------------------------------|------------|
| ** **                                                                                | ** ** | **       2004       ** | ** ** | **      2003      ** | ** ** | **      2002      ** | ** ** |
| **Cash flows from operating activities:**                                                 |       |                                                                                         |       |   |   |   |   |   |   |   |   |   |   |
| Net income                                                                                |       |                                                                                         | $          | 10,877 |   |   |   | $ | 7,379 |   |   |   | $ | 2,483 |   |   |
| Adjustments to reconcile net income (loss) to net  cash provided by operating activities: |       |                                                                                         |       |   |   |   |   |   |   |   |   |   |   |
| Depreciation and  amortization                                                            |       |                                                                                         | 2,231      |   |   |   | 2,009 |   |   |   | 1,988 |   |   |
| Amortization of  intangible assets                                                        |       |                                                                                         | 648        |   |   |   | — |   |   |   | — |   |   |
| Loss on disposal of fixed  assets                                                         |       |                                                                                         | 14         |   |   |   | 178 |   |   |   | — |   |   |
| Stock-based  compensation                                                                 |       |                                                                                         | 132        |   |   |   | 132 |   |   |   | 139 |   |   |
| Deferred income tax  provision                                                            |       |                                                                                         | 1,686      |   |   |   | (98 | ) |   |   | (537 | ) |   |
| Amortization of deferred  financing costs and debt discount                               |       |                                                                                         | 416        |   |   |   | 379 |   |   |   | 304 |   |   |
| Non-cash loss due to  early repayment of debt                                             |       |                                                                                         | 584        |   |   |   | — |   |   |   | 886 |   |   |
| Change in fair value of  put warrants                                                     |       |                                                                                         | —     |   |   |   | — |   |   |   | (640 | ) |   |
| Minority interests                                                                        |       |                                                                                         | —     |   |   |   | — |   |   |   | 118 |   |   |
| Changes in operating assets and liabilities, net of  effect of acquisitions:              |       |                                                                                         |       |   |   |   |   |   |   |   |   |   |   |
| Accounts receivable, net                                                                  |       |                                                                                         | (16,096    | ) |   |   | (2,106 | ) |   |   | (984 | ) |   |
| Other current assets                                                                      |       |                                                                                         | 116        |   |   |   | (266 | ) |   |   | 154 |   |   |
| Other assets                                                                              |       |                                                                                         | (668       | ) |   |   | (106 | ) |   |   | (268 | ) |   |
| Accounts payable and  accrued expenses                                                    |       |                                                                                         | 1,226      |   |   |   | 4,996 |   |   |   | 1,099 |   |   |
| Operating lease  obligations                                                              |       |                                                                                         | (735       | ) |   |   | — |   |   |   | — |   |   |
| Deferred revenue                                                                          |       |                                                                                         | (3,686     | ) |   |   | 2,901 |   |   |   | 623 |   |   |
| Other long term  liabilities                                                              |       |                                                                                         | 1,600      |   |   |   | 681 |   |   |   | 315 |   |   |
| Net cash provided by  (used in) operating activities                                      |       |                                                                                         | (1,655     | ) |   |   | 16,079 |   |   |   | 5,680 |   |   |
| **Cash flows from investing activities:**                                                 |       |                                                                                         |       |   |   |   |   |   |   |   |   |   |   |
| Purchase of property and  equipment, net                                                  |       |                                                                                         | (1,225     | ) |   |   | (1,291 | ) |   |   | (1,653 | ) |   |
| Cash paid for acquisition  of Matcom                                                      |       |                                                                                         | (64,918    | ) |   |   | — |   |   |   | — |   |   |
| Cash paid for acquisition  of Bridge Technology, net of cash assumed                      |       |                                                                                         | (29,472    | ) |   |   | — |   |   |   | — |   |   |
| Net cash used in  investing activities                                                    |       |                                                                                         | (95,615    | ) |   |   | (1,291 | ) |   |   | (1,653 | ) |   |
| **Cash flows from financing  activities:**                                                |       |                                                                                         |       |   |   |   |   |   |   |   |   |   |   |
| Proceeds from issuance of  common stock, net                                              |       |                                                                                         | 51,239     |   |   |   | — |   |   |   | 47,070 |   |   |
| Proceeds from exercise of  stock options                                                  |       |                                                                                         | 927        |   |   |   | 59 |   |   |   | — |   |   |
| Proceeds from (repayments  of) bank overdrafts                                            |       |                                                                                         | —     |   |   |   | (2,201 | ) |   |   | 846 |   |   |
| Net borrowings under line  of credit                                                      |       |                                                                                         | 28,954     |   |   |   | — |   |   |   | (14,211 | ) |   |
| Payments of debt issuance  fees                                                           |       |                                                                                         | (1,202     | ) |   |   | — |   |   |   | — |   |   |
| Repayments of notes  payable                                                              |       |                                                                                         | —     |   |   |   | (140 | ) |   |   | (900 | ) |   |
| Proceeds from long-term  debt                                                             |       |                                                                                         | 30,000     |   |   |   | — |   |   |   | — |   |   |
| Repayments of long-term  debt and borrowings from stockholders                            |       |                                                                                         | (30,000    | ) |   |   | — |   |   |   | (29,184 | ) |   |
| Repayments of capital  lease obligations                                                  |       |                                                                                         | (146       | ) |   |   | (110 | ) |   |   | (171 | ) |   |
| Proceeds from borrowings  from stockholders                                               |       |                                                                                         | —     |   |   |   | — |   |   |   | 4,309 |   |   |
| Redemption of put  warrants                                                               |       |                                                                                         | —     |   |   |   | — |   |   |   | (1,400 | ) |   |
| Net cash provided by  (used in) financing activities                                      |       |                                                                                         | 79,772     |   |   |   | (2,392 | ) |   |   | 6,359 |   |   |
| **Net  increase in cash and cash equivalents**                                            |       |                                                                                         | (17,498    | ) |   |   | 12,396 |   |   |   | 10,386 |   |   |
| **Cash and cash equivalents,  beginning of period**                                       |       |                                                                                         | 23,252     |   |   |   | 10,856 |   |   |   | 470 |   |   |
| **Cash and cash equivalents, end  of period**                                             |       |                                                                                         | $          | 5,754 |   |   |   | $ | 23,252 |   |   |   | $ | 10,856 |   |   |
| **Supplemental disclosures of  cash flow information:**                                   |       |                                                                                         |       |   |   |   |   |   |   |   |   |   |   |
| Cash payments for  interest                                                               |       |                                                                                         | $          | 1,857 |   |   |   | $ | 339 |   |   |   | $ | 1,806 |   |   |
| Cash payments for income  taxes                                                           |       |                                                                                         | $          | 6,181 |   |   |   | $ | 3,920 |   |   |   | $ | 2,255 |   |   |
| **Supplemental disclosure of  noncash activities:**                                       |       |                                                                                         |       |   |   |   |   |   |   |   |   |   |   |
| Equipment acquired under capital leases                                                   |       |                                                                                         | $          | 289 |   |   |   | $ | 122 |   |   |   | $ | — |   |   |

 

The accompanying notes are an integral part of these consolidated statements.

F-8

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**SI International, Inc.Notes to consolidatedfinancial statements**

**1.**   Business:

SI International, Inc. (the Company or SI), wasincorporated on October 14, 1998, under the laws of the state of Delaware.The Company is a provider of information technology and network solutions withthe Federal Government as a major client. The Company offers a broad spectrumof solutions and services, including design, development, implementation andoperations to assist clients in achieving their missions. The Company combinestechnological and industry experience to provide solutions through serviceofferings in the areas of information technology applications, systemsengineering, network and telecom engineering and outsourcing.

On January 1, 2001, the Company separated itstelecommunications operations, which it obtained pursuant to an acquisition infiscal year 2000, by contributing the net assets of the telecommunicationsoperations to a sister company, SI International Telecom Corporation (SITelecom), in exchange for 5,000 shares of senior participating preferred stockin SI Telecom (SI Telecom Transaction). Warrant holders and options holders ofthe Company received warrants and options in SI Telecom, and the existingminority shareholders in SI received a comparable minority ownership in SITelecom. In addition, SI International, L.L.C. (SI L.L.C.), the majority ownerof SI, contributed $1.1 million in cash and received 44,624 shares of SITelecom junior participating preferred stock (see Note 13). Upon completionof these transactions, the effective ownership structure of SI Telecom on afully diluted basis was identical with the ownership of SI. Both SI and SITelecom were owned in majority by SI L.L.C.

In October 2002, SI Telecom was merged back intoSI, (the SI Telecom Merger) such that SI Telecom became a wholly ownedsubsidiary of SI. The SI Telecom junior participating preferred stock and SITelecom common shares held by minority shareholders were exchanged for SIshares based on a ratio of 0.005 SI common shares for each share of SI Telecomcommon stock.

Since November 12,2002, our common stock has been publicly traded on the Nasdaq National Marketunder the symbol “SINT”. The completion of the initial public offering in November of2002 raised $47.1 million (after offering costs) in equity capital throughthe sale of 3,850,000 shares of common stock. On October 6, 2004, theCompany completed its secondary offering which raised $51.2 million (afteroffering costs) cash through the sale of 2,520,000 shares of common stock.

**2.**   Summary of significant accountingpolicies:

**Principles of consolidation**

The accompanyingconsolidated financial statements include the accounts of the Company and itswholly and majority-owned subsidiaries. All significant intercompanytransactions and accounts have been eliminated in consolidation.

**Use of estimates**

The preparation offinancial statements in conformity with accounting principles generallyaccepted in the United States requires management to make estimates andassumptions that affect the reported amounts of assets and liabilities anddisclosure of contingent assets and liabilities at the date of the financialstatements and the reported amounts of revenues and expenses during thereporting period. Actual results could differ from those estimates.

F-9

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**Reporting periods**

The Company’s fiscal yearends on the Saturday nearest December 31. All fiscal years presentedinclude 52 weeks. The Company’s quarters end on the Saturday nearest to theapplicable quarterly month-end.

**Cash and cash equivalents**

The Company considers allinvestments with original maturities of three months or less at the date ofpurchase to be cash equivalents.

**Revenue recognition**

The Company recognizes revenue under its contractswhen a contract has been executed, the contract price is fixed anddeterminable, delivery of services or products has occurred, and collectibilityof the contract price is considered probable and can be reasonably estimated.Revenue is earned under cost reimbursable, time and materials and fixed pricecontracts. Direct contract costs are expensed as incurred.

Under cost reimbursable contracts, the Company isreimbursed for allowable costs, and paid a fee, which may be fixed orperformance-based. Revenues on cost reimbursable contracts are recognizedas costs are incurred plus an estimate of applicable fees earned. The Companyconsiders fixed fees under cost reimbursable contracts to be earned inproportion of the allowable costs incurred in performance of the contract. Forcost reimbursable contracts that include performance based fee incentives, theCompany recognizes the relevant portion of the expected fee to be awarded bythe customer at the time such fee can be reasonably estimated, based on factorssuch as the Company’s prior award experience and communications with thecustomer regarding performance.

Revenue on time and materials contracts are recognizedbased on direct labor hours expended at contract billing rates and adding otherbillable direct costs.

Fixed price contracts may include either a productdelivery or specific service performance throughout a period. For fixed pricecontracts that are based on unit pricing, the Company recognizes revenue forthe number of units delivered in any given fiscal period. For fixed pricecontracts that are based on the proportionate performance method and involve aspecified number of similar acts, the Company recognizes revenue based on theproportion of those acts completed compared to the number of total specifiedacts required by the contract. For fixed price contracts that are based on theproportionate performance method and involve a specified number of defined butnot similar acts, the Company recognizes revenue based on the proportion of theproject’s percentage total costs incurred compared to the estimated total costsassociated with the entire transaction. For fixed price contracts that providefor the delivery of a specific product with related customer acceptanceprovisions, revenues and associated contract costs are recognized upon productdelivery and customer acceptance.

The Company’s contracts with agencies of thegovernment are subject to periodic funding by the respective contractingagency. Funding for a contract may be provided in full at inception of thecontract or ratably throughout the contract as the services are provided. Inevaluating the probability of funding for purposes of assessing collectibilityof the contract price, the Company considers its previous experiences with itscustomers, communications with its customers regarding funding status, and theCompany’s knowledge of available funding for the contract or program. Iffunding is not assessed as probable, revenue recognition is deferred untilrealization is deemed probable.

Contract revenue recognition inherently involvesestimation, including the contemplated level of effort to accomplish the tasksunder contract, the cost of the effort, and an ongoing assessment of progresstoward completing the contract. From time to time, as part of the normalmanagement processes, facts develop that require revisions to estimated totalcosts or revenues expected. The cumulative impact of any 

F-10

----

revisions to estimates andthe full impact of anticipated losses on any type of contract are recognized inthe period in which they become known.

The allowability ofcertain costs under government contracts is subject to audit by the government.Certain indirect costs are charged to contracts using provisional or estimatedindirect rates, which are subject to later revision based on government auditsof those costs. Management is of the opinion that costs subsequentlydisallowed, if any, would not be significant.

**Significant customers**

Revenuegenerated from contracts with the Federal Government, both directly and throughother prime contractors, accounted for a significant percentage of revenues inthe fiscal years 2004, 2003, and 2002.
| ** **                 | ** ** | **% of revenues  Fiscal year** | ** ** |
|----------------------------|------------|-----------------------------------------------|------------|
| ** **                 | ** ** | **2004**                                      | ** ** | **2003** | ** ** | **2002** | ** ** |
| Department of  Defense     |       | 52.8                                          | %          | 54.5 | % | 49.0 | % |
| Federal civilian  agencies |       | 43.8                                          |       | 39.2 |   | 43.9 |   |
| Commercial  entities       |       | 3.4                                           |       | 6.3 |   | 7.1 |   |
| Total revenue              |       | 100.0                                         | %          | 100.0 | % | 100.0 | % |

 

We had only one contractthat generated more than 10% of our revenue for fiscal year 2004. For thefiscal years ended December 27, 2003 and December 28, 2002, we hadtwo contracts that generated more than 10% of our revenue. For the fiscal year2004, fiscal 2003, and fiscal 2002, revenue from our C4I2SR contract with theU.S. Air Force Space Command represented approximately 17%, 22%, and 23%,respectively, of total revenue. Our National Visa Center contract with theDepartment of State represented approximately 14% and 11% of total revenue forthe fiscal year ended December 27, 2003 and December 28, 2002,respectively.

**Credit risk**

The Company’s assets thatare exposed to credit risk consist primarily of cash and cash equivalents andaccounts receivable. Accounts receivable consist primarily of billed andunbilled amounts, including indirect cost rate variances, due from variousagencies of the Federal Government or prime contractors doing business with theFederal Government, and other commercial customers. The Company historicallyhas not experienced significant losses related to accounts receivable andtherefore, believes that credit risk related to accounts receivable is minimal.The Company maintains cash balances that may at times exceed federally insuredlimits. The Company maintains this cash at high-credit quality institutionsand, as a result, believes credit risk related to its cash is minimal.

**Property and equipment**

Propertyand equipment are stated at cost, net of accumulated depreciation andamortization. Depreciation and amortization are computed generally using astraight-line method over the estimated useful lives of the related assets, asfollows:
| Software, computers and  equipment |   | 3-5 years                                                  |
|------------------------------------|--------|------------------------------------------------------------|
| Furniture and fixtures             |   | 5-7 years                                                  |
| Leasehold improvements             |   | Shorter of its estimated useful life or term of the  lease |

 

F-11

----

**Deferred financing costs**

Costsincurred in raising debt are deferred and amortized as interest expense overthe term of the related debt using the effective interest method. Thesedeferred costs are reflected as a component of other assets in the accompanyingconsolidated balance sheets. The deferred financing costs consist of thefollowing (in thousands):
| ** **                | ** ** | **December 25,  2004** | ** ** | **December 27,  2003** | ** ** |
|---------------------------|------------|-----------------------------|------------|-----------------------------|------------|
| Deferred loan  costs      |       |                        | $          | 1,737                       |       |   |   | $ | 1,120 |   |   |
| Accumulated  amortization |       |                        | (837       | )                           |       |   | (421 | ) |   |
|                      |       |                        | $          | 900                         |       |   |   | $ | 699 |   |   |

 

During 2004, the Companywrote off approximately $584,000 of deferred loan costs related to the payoffof its term loan under the 2004 credit facility. During 2002, the Company wroteoff approximately $886,000 of deferred loan costs and debt discounts related tothe 2001 credit facility, which was paid off in 2002. The $532,000 after-taxeffect of this write-off was previously classified as an extraordinary item-earlyextinguishment of debt and was reclassified as interest expense upon adoptionof SFAS No. 145 in 2003. Amortization of deferred financing costs was$416,000, $379,000, and $805,000 in fiscal years 2004, 2003, and 2002,respectively.

**Impairment of long-lived assets**

Long-lived assets,including property and equipment, are reviewed for impairment whenever eventsor changes in circumstances indicate that the carrying amount should beaddressed pursuant to Statement of Financial Accounting Standards (SFAS) No. 144,“Accounting for the Impairment or Disposal of Long-Lived Assets and forLong-Lived Assets.” Pursuant to SFAS No. 144, impairment is determined bycomparing the carrying value of these long-lived assets to an estimate of the futureundiscounted cash flows expected to result from the use of the assets andeventual disposition. In the event an impairment exists, a loss is recognizedbased on the amount by which the carrying value exceeds the fair value of theasset, which is generally determined by using quoted market prices or valuationtechniques such as the discounted present value of expected future cash flows,appraisals, or other pricing models as appropriate. The Company believes thatno such impairment existed in December 25, 2004 and December 27,2003. In the event that there are changes in the planned use of the Company’slong-term assets or its expected future undiscounted cash flows are reducedsignificantly, the Company’s assessment of its ability to recover the carryingvalue of these assets could change.

**Goodwilland other intangible assets**

SFAS No. 142 requiresa two-step approach in assessing goodwill for impairment and then measuringimpairment, if it exists. The Company completed its annual impairment tests asof September 25, 2004 and September 27, 2003. The analysis indicatedthat no impairment of goodwill exists; however, future impairment reviews mayresult in the recognition of such impairment.

**Deferred revenue**

At the end of fiscal years2004 and 2003, SI Telecom received advance payments of approximately $0 and$3,908,000, respectively, from a customer to purchase equipment to be used in acontract. The advances are reflected as deferred revenue as of December 25,2004 and December 27, 2003 in the accompanying consolidated balancesheets.

F-12

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**Fair value of financial instruments**

The Company’s financialinstruments consist primarily of cash and cash equivalents, accountsreceivable, accounts payable, credit facilities, and long-term debt. Inmanagement’s opinion, the carrying amounts of these financial instrumentsapproximate their fair values at December 25, 2004 and December 27,2003.

**Stock-based compensation**

The Company accounts for stock-basedcompensation using the intrinsic value method prescribed in APB Opinion No. 25and related interpretations. Accordingly, compensation expense for stockoptions is measured as the excess, if any, of the fair market value of theCompany’s stock at the date of the grant over the exercise price of the relatedoption. The Company has adopted the annual disclosure provisions of SFAS No. 148in its financial reports for the year ended December 31, 2003.

Hadcompensation costs for the Company’s stock options been determined based onSFAS No. 123, “Accounting for Stock-Based Compensation,” the Company’snet income and earnings per share would have been as follows (in thousands,except per share amounts):
| ** **                                                                                                                                   | ** ** | **Fiscal Year** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------|------------|
| ** **                                                                                                                                   | ** ** | **2004**             | ** ** | **2003** | ** ** | **2002** | ** ** |
| Net income—as  reported                                                                                                                 |       | $                    | 10,877     |   | $ | 7,379 |   | $ | 2,483 |   |
| Add: Total stock-based  employee compensation expense as reported under intrinsic value method (APB  No. 25) for all awards, net of tax |       | 80                   |       | 80 |   | 88 |   |
| Deduct: Total  stock-based compensation expense determined under fair value based  method (SFAS No. 123) for all awards, net of tax     |       | (1,939               | )          | (945 | ) | (480 | ) |
| Net income—Pro  forma                                                                                                                   |       | 9,018                |       | 6,514 |   | 2,091 |   |
| Dividends on  redeemable cumulative preferred stock                                                                                          |       | —               |       | — |   | (1,954 | ) |
| Net income  attributable to common stockholders—Pro forma                                                                               |       | $                    | 9,018      |   | $ | 6,514 |   | $ | 137 |   |
| Basic earnings (loss) per share—as reported                                                                                             |       | $                    | 1.20       |   | $ | 0.87 |   | $ | 0.16 |   |
| Diluted earnings (loss) per share—as reported                                                                                           |       | $                    | 1.14       |   | $ | 0.87 |   | $ | (0.03 | ) |
| Basic earnings (loss) per share—Pro forma                                                                                               |       | $                    | 1.00       |   | $ | 0.77 |   | $ | 0.04 |   |
| Diluted earnings  (loss) per share—Pro forma                                                                                            |       | $                    | 0.95       |   | $ | 0.77 |   | $ | (0.14 | ) |

 

Thefair value of each option is estimated on the date of grant using the Black-Scholesoption-pricing model with the following assumptions used for grantsduring the fiscal years ended December 25, 2004, December 27, 2003,and December 28, 2002:
| ** **                       | ** ** | **Fiscal Year** | ** ** |
|----------------------------------|------------|----------------------|------------|
| ** **                       | ** ** | **2004**             | ** ** | **2003** | ** ** | **2002** | ** ** |
| Risk-free  interest rate         |       | 4                    | %          | 4 | % | 4 | % |
| Expected life of  options        |       | 7 years              |       | 9 years |   | 7 years |   |
| Expected stock  price volatility |       | 55%-60               | %          | 70 | % | 70 | % |
| Expected dividend yield          |       | 0                    | %          | 0 | % | 0 | % |

 

**Income taxes**

Income taxes are accountedfor using an asset and liability approach that requires the recognition oftaxes payable or refundable for the current year and deferred tax liabilitiesand assets for the future tax consequences of events that have been recognizedin the Company’s financial statements or tax returns. 

F-13

----

Themeasurement of current and deferred tax liabilities and assets are based onprovisions of the enacted tax law; the effects of future changes in tax laws orrates are not considered. Net deferred tax assets are reduced, if necessary, bya valuation allowance for the amount of any tax benefits that, based onavailable evidence, are not expected to be realized.

**Earnings (loss) per share**

The Company has applied SFAS No. 128, “EarningsPer Share,” for all fiscal years presented in these consolidated financialstatements. SFAS No. 128 requires disclosure of basic and diluted earningsper share (EPS). Basic EPS is computed by dividing reported earnings availableto common stockholders by the weighted average number of shares outstandingwithout consideration of common stock equivalents or other potentially dilutivesecurities. Diluted EPS gives effect to common stock equivalents and otherpotentially dilutive securities outstanding during the period. Redeemablecumulative preferred stock is excluded from diluted earnings per share as it isnot convertible into common stock.

Thefollowing details the computation of net income (loss) per common share:
| ** **                                                          | ** ** | **Fiscal Year** | ** ** |
|---------------------------------------------------------------------|------------|----------------------|------------|
| ** **                                                          | ** ** | **2004**             | ** ** | **2003** | ** ** | **2002** | ** ** |
| Net income                                                          |       | $                    | 10,877     |   | $ | 7,379 |   | $ | 2,483 |   |
| Less: Dividends  on redeemable cumulative preferred stock           |       | —               |       | — |   | 1,954 |   |
| Income  attributable to common stockholders—Basic              |       | 10,877               |       | 7,379 |   | 529 |   |
| Diluted effect of  change in value of put warrants                  |       | —               |       | — |   | 640 |   |
| Net income (loss)  attributable to common stockholders—Diluted |       | $                    | 10,877     |   | $ | 7,379 |   | $ | (111 | ) |
| **Weighted average share  calculation:**                            |       |                 |       |   |   |   |   |
| Basic weighted  average share outstanding                           |       | 9,041                |       | 8,446 |   | 3,382 |   |
| Treasury stock  effect of stock options                             |       | 466                  |       | 42 |   | 40 |   |
| Treasury stock  effect of put warrants                              |       | —               |       | — |   | 94 |   |
| Diluted weighted average  shares outstanding                        |       | 9,507                |       | 8,488 |   | 3,516 |   |

 

**Segment reporting**

SFAS No. 131, “Disclosureabout Segments of an Enterprise and Related Information,” establishes standardsfor the way that public business enterprises report information about operatingsegments in annual financial statements and requires that these enterprisesreport selected information about operating segments in interim financialreports. SFAS No. 131 also establishes standards for related disclosuresabout products and services, geographic areas and major customers. Managementhas concluded that the Company operates in one segment based upon theinformation used by management in evaluating the performance of its businessand allocating resources and capital.

**Reclassifications**

Certain prior yearbalances have been reclassified to conform to the presentation of the currentyear.

**New accounting pronouncements**

In April 2002, the FASB issued SFAS No. 145,“Rescission of FASB 4, 44, and 64, Amendment of FASB Statement No. 13 andTechnical Corrections.” Among other things, SFAS No. 145 rescinds SFAS No. 4,“Reporting Gains and Losses from Extinguishment of Debt”. Through thisrescission, SFAS No. 145 eliminates the requirement that gains and lossesfrom the extinguishment of debt be aggregated and, if material, classified asan extraordinary item, net of the related income tax effect. Generally, SFAS No. 145is effective for fiscal years beginning after May 15, 2002. Upon adoptionof SFAS No. 145 for its 2003 fiscal year, the Company reclassified its2002 extraordinary loss to be included within income from operations.

F-14

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In December 2004, the FASB issued FASB Statement No. 123(R) (revised2004), *Share Based Payment.*Statement 123(R) addresses the accounting for share-based paymenttransactions in which an enterprise receives employee services in exchange for (a) equityinstruments of the enterprise or (b) liabilities that are based on thefair value of the enterprise’s equity instruments or that may be settled by theissuance of such equity instruments. Statement 123(R) requires an entityto recognize the grant-date fair-value of stock options and other equity-basedcompensation issued to employees in the income statement. The revised Statementgenerally requires that an entity account for those transactions using thefair-value-based method, and eliminates the intrinsic value method ofaccounting in APB Opinion No. 25, *Accountingfor Stock Issued to Employees*, which was permitted under Statement123, as originally issued. The revised Statement requires entities to discloseinformation about the nature of the share-based payment transactions and theeffects of those transactions on the financial statements. Statement 123(R) iseffective for the Company after June 15, 2005. All public companies mustuse either the modified prospective or the modified retrospective transitionmethod..

Aspermitted by Statement 123, the Company currently accounts for share-basedpayments to employees using Opinion 25’s intrinsic value method and, as such,generally recognizes no compensation cost for employee stock options. Accordingly,the adoption of Statement 123(R )’s fair value method will have a significantimpact on our result of operations, although it will have no impact on ouroverall financial position. The impact of adoption of Statement 123(R ) cannotbe predicted at this time because it will depend on levels of share-basedpayments granted in the future. However, had we adopted Statement 123(R ) inprior periods, the impact of that standard would have approximated the impactof Statement 123 as described in the disclosure of pro forma net income andearnings per share in the Stock-Based Compensation section of this note to ourconsolidated financial statements. Statement 123(R ) also requires the benefitsof tax deductions in excess of recognized compensation cost to be reported as afinancing cash flow, rather than as an operating cash flow as required undercurrent literature. This requirement will reduce net operating cash flows andincrease net financing cash flows in periods after adoption.

**3.   Subordinated Debt:**

On March 9,2000, the Company purchased all of the outstanding common stock of SIInternational Engineering, Inc., formerly System Technology Associates, Inc.(SI Engineering), for consideration of approximately $33.0 million in cashand $4.8 million in subordinated notes in a transaction accounted for as apurchase. The subordinated notes bore interest at the prime rate plus 2%.Approximately $4.3 million of the notes were repaid at maturity in March 2001and 2002 and an additional $140,000 was repaid during fiscal 2003. Payments ofapproximately $0 and $340,000 of these notes had been withheld by the Companyas of December 25, 2004 and December 27, 2003, respectively.

**4.   Acquisitions:**

On December 20, 2004, the Company completed thepurchase of Bridge Technology Corporation, a provider of information technologyand information management. The acquisition supports the company’s strategicgrowth plan to broaden its customer base into the intelligence agencies, andstrengthen its portfolio of mission-critical solutions. Under the terms of theagreement, the Company acquired Bridge Technology for $30 million, subject toworking capital and other adjustments. Of the purchase price $29.4 millionwas paid in cash and the $2.3 million was held as note payable to be paid inJune, 2006. The transaction was funded through cash-on-hand and borrowingsunder the Company’s credit facility.Approximately $25.5 million of the purchase consideration has been allocated togoodwill based primarily on the excess of the purchase price over the estimatedfair value of net assets acquired, and approximately $2.2 million of thepurchase price has been assigned to identifiable intangible assets ofcontractual customer 

F-15

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relationships.The contractual customer relationships are being amortized accelerated over itsestimated remaining life of 10 years.

Thetotal purchase price paid, including transaction costs of $0.6 million, hasbeen preliminarily allocated as follows (in thousands):
| Cash                                          |   | $      | 548    |   |
|-----------------------------------------------|--------|--------|--------|--------|
| Accounts  receivable                          |   | 2,786  |   |
| Prepaid expense  and other current assets     |   | 111    |   |
| Deposit                                       |   | 98     |   |
| Property and  equipment                       |   | 912    |   |
| Accounts  payable & accrued expenses |   | (538   | )      |
| Deferred rent                                 |   | (137   | )      |
| Contractual  customer relationships           |   | 2,200  |   |
| Goodwill                                      |   | 26,320 |   |
| Total consideration                           |   | $      | 32,300 |   |

 

On January 21, 2004, the Company completed thepurchase of Matcom, a provider of information technology, systems engineering,logistics, and training. Under the terms of the merger agreement, the Companyacquired Matcom for $65.8 million, of which $63.7 million was paid in cashto the seller. The transaction was funded through cash on hand and borrowingsunder the credit facility. Contemporaneously with the closing of theacquisition of Matcom, the Company amended its credit facility to increase themaximum amount of available borrowings from $35.0 million to $80.0 million, ofwhich $30.0 million is comprised of a term loan and the remainder of arevolving credit facility, and to extend the maturity of the credit facility toJanuary 21, 2008. Approximately $54.6 million of the purchaseconsideration has been allocated to goodwill based primarily on the excess ofthe purchase price over the estimated fair value of net assets acquired, andapproximately $5.0 million of the purchase price has been assigned toidentifiable intangible assets of contractual customer relationships. Thecontractual customer relationships are being amortized accelerated over itsestimated remaining life of 11 years.

Thetotal purchase price paid, including transaction costs of $1.4 million, wasallocated as follows (in thousands):
| Accounts  receivable                          |   | $      | 14,425 |   |
|-----------------------------------------------|--------|--------|--------|--------|
| Prepaid expense  and other current assets     |   | 1,258  |   |
| Income tax  receivable                        |   | 1,216  |   |
| Property and  equipment                       |   | 1,023  |   |
| Accounts  payable & accrued expenses |   | (9,304 | )      |
| Deferred rent                                 |   | (31    | )      |
| Deferred income  tax                          |   | (1,768 | )      |
| Contractual  customer relationships           |   | 5,023  |   |
| Goodwill                                      |   | 54,563 |   |
| Total consideration                           |   | $      | 66,405 |   |

 

F-16

----

Thefollowing unaudited proforma combined condensed statements of operations (inthousands, except per share) set forth the consolidated results of operationsof the Company for the twelve months ended December 25, 2004 and December 27,2003 as if the above described acquisitions had occurred at the beginning ofeach period presented. This unaudited proforma information does not purport tobe indicative of the actual financial position or the results that wouldactually have occurred if the combination had been in effect for the twelvemonths ended December 25, 2004 and December 27, 2003.
| ** **                 | ** ** | **Twelve Months Ended** | ** ** |
|----------------------------|------------|-----------------------------------|------------|
| ** **                 | ** ** | **December 25, 2004**   | ** ** | **December 27, 2003** | ** ** |
| Revenue                    |       |                              | $          | 288,631 |   |   |   | $ | 254,229 |   |   |
| Net income                 |       |                              | $          | 12,289 |   |   |   | $ | 9,123 |   |   |
| Diluted earnings per share |       |                              | $          | 1.29 |   |   |   | $ | 1.07 |   |   |

 

In accordance with thepurchase accounting, the operations of the Matcom and Bridge Technology havebeen included in the Company’s statement of operations since the respectivedate of acquisition.

**5.   Accounts receivable:**

Accountsreceivable consists of the following (in thousands):
| ** **                                                                                                            | ** ** | **December 25, 2004** | ** ** | **December 27, 2003** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------|------------|---------------------------------|------------|---------------------------------|------------|
| Billed accounts  receivable                                                                                           |       |                            | $          | 33,247                          |       |   |   | $ | 18,215 |   |   |
| Unbilled accounts  receivable:                                                                                        |       |                            |       |                            |       |   |   |   |   |
| Currently billable                                                                                                    |       |                            | 26,400     |                            |       |   | 13,137 |   |   |
| Unbilled retainages and milestones payments expected  to be billed within the next 12 months                          |       |                            | 5,714      |                            |       |   | 3,127 |   |   |
| Indirect costs incurred and charged to cost-plus  contracts in excess of provisional billing rates (see Note 10) |       |                            | 1,493      |                            |       |   | 768 |   |   |
| Total unbilled  accounts receivable                                                                                   |       |                            | 33,607     |                            |       |   | 17,032 |   |   |
| Allowance for  doubtful accounts                                                                                      |       |                            | (1,144     | )                               |       |   | (1,240 | ) |   |
| Accounts receivable, net                                                                                              |       |                            | $          | 65,710                          |       |   |   | $ | 34,007 |   |   |

 

The currently billableamounts included as unbilled accounts receivable as of December 25, 2004represent amounts which are billed during the first quarter of the subsequentyear. They are billings for services rendered prior to year-end, which arebilled once necessary billing data has been collected and an invoice produced.

**6.   Property and equipment:**

Propertyand equipment consist of the following (in thousands):
| ** **                                           | ** ** | **December 25, 2004** | ** ** | **December 27, 2003** | ** ** |
|------------------------------------------------------|------------|---------------------------------|------------|---------------------------------|------------|
| Computers and  equipment                             |       |                            | $          | 8,007                           |       |   |   | $ | 6,389 |   |   |
| Software                                             |       |                            | 1,904      |                            |       |   | 1,914 |   |   |
| Furniture and  fixtures                              |       |                            | 1,576      |                            |       |   | 1,339 |   |   |
| Leasehold  improvements                              |       |                            | 1,086      |                            |       |   | 676 |   |   |
|                                                 |       |                            | 12,573     |                            |       |   | 10,318 |   |   |
| Less—Accumulated  depreciation and amortization |       |                            | (7,602     | )                               |       |   | (6,550 | ) |   |
|                                                 |       |                            | $          | 4,971                           |       |   |   | $ | 3,768 |   |   |

 

F-17

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Property and equipment includes assets financed undercapital lease obligations of approximately $332,000 and $178,000, net ofaccumulated depreciation, as of December 25, 2004 and December 27,2003, respectively.

Depreciation expense ofapproximately $2.2 million, $2.0 million, and $2.0 million wasrecorded in fiscal years 2004, 2003 and 2002, respectively.

**7.   Accrued expenses:**

Accruedexpenses consists of the following (in thousands):
| ** **                 | ** ** | **December 25, 2004** | ** ** | **December 27, 2003** | ** ** |
|----------------------------|------------|---------------------------------|------------|---------------------------------|------------|
| Accrued vacation           |       |                            | 4,955      |                            |       |   | 2,858 |   |   |
| Accrued  compensation      |       |                            | 3,550      |                            |       |   | 2,817 |   |   |
| Accrued bonus              |       |                            | 2,875      |                            |       |   | 2,939 |   |   |
| Other accrued  liabilities |       |                            | 3,934      |                            |       |   | 2,594 |   |   |
| Accrued expenses           |       |                            | $          | 15,314                          |       |   |   | $ | 11,208 |   |   |
|                            |            |                                 |            |                                 |            |  |  |  |  |  |  |

 

**8.**   Incometaxes:

The Company accounts for income taxes in accordancewith SFAS No. 109, “Accounting for Income Taxes,” which requiresrecognition of deferred tax assets and liabilities for the expected future taxconsequences of events that have been included in the financial statements orincome tax returns. Under this method, deferred tax assets and liabilities aredetermined based on the differences between the financial statement and the taxbasis of assets and liabilities using enacted tax rates for the year in whichthe differences are expected to reverse.

Thetax effect of significant temporary differences, which comprise the deferredtax assets and liabilities, are as follows (in thousands):
| ** **                            | ** ** | **December 25, 2004** | ** ** | **December 27, 2003** | ** ** |
|---------------------------------------|------------|---------------------------------|------------|---------------------------------|------------|
| Deferred tax assets (liabilities):    |       |                            |       |                            |       |   |   |   |   |
| Accounts payable and accrued expenses |       |                            | $          | 2,081                           |       |   |   | $ | 1,420 |   |   |
| Allowance for doubtful accounts       |       |                            | 476        |                            |       |   | 491 |   |   |
| Net operating loss                    |       |                            | 808        |                            |       |   | 808 |   |   |
| Deferred rent                         |       |                            | 568        |                            |       |   | 410 |   |   |
| Lease payable                         |       |                            | 703        |                            |       |   | — |   |   |
| Deferred compensation                 |       |                            | 486        |                            |       |   | — |   |   |
| Other                                 |       |                            | 190        |                            |       |   | 189 |   |   |
| Total deferred  tax asset             |       |                            | 5,312      |                            |       |   | 3,318 |   |   |
| Prepaid expenses                      |       |                            | (6         | )                               |       |   | — |   |   |
| Intangible assets                     |       |                            | (5,108     | )                               |       |   | (1,805 | ) |   |
| Unbilled revenue                      |       |                            | (2,394     | )                               |       |   | (658 | ) |   |
| Depreciation and amortization         |       |                            | (110       | )                               |       |   | (587 | ) |   |
| Total deferred  tax liability         |       |                            | (7,618     | )                               |       |   | (3,050 | ) |   |
| Net deferred tax  asset (liability)   |       |                            | $          | (2,306                          | )          |   |   | $ | 268 |   |   |

 

SI Telecom has approximately $2,040,000 in netoperating loss carryforwards, which will expire in 2021. These losses can onlybe used to offset income generated by SI Telecom. Management believes that itis more likely than not that these net operating loss carryforwards will bebenefited on a future tax return and therefore no valuation allowance wasrequired

F-18

----

Theprovision for income taxes consists of the following for the fiscal years (inthousands):
| ** **                     | ** ** | **Fiscal year** | ** ** |
|--------------------------------|------------|----------------------|------------|
| ** **                     | ** ** | **2004**             | ** ** | **2003** | ** ** | **2002** | ** ** |
| Current provision:             |       |                 |       |   |   |   |   |
| Federal                        |       | $                    | 4,472      |   | $ | 4,301 |   | $ | 1,075 |   |
| State                          |       | 940                  |       | 581 |   | 201 |   |
| Deferred provision  (benefit): |       |                 |       |   |   |   |   |
| Federal                        |       | 1,490                |       | (86 | ) | 147 |   |
| State                          |       | 196                  |       | (12 | ) | 16 |   |
| Provision for income  taxes    |       | $                    | 7,098      |   | $ | 4,784 |   | $ | 1,439 |   |

 

Areconciliation of income taxes at the Federal statutory income tax rate to theprovision for income taxes is as follows (in thousands):
| ** **                                             | ** ** | **2004** | ** ** | **2003** | ** ** | **2002** | ** ** |
|--------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|
| Income taxes at  the Federal statutory income tax rate |       | $        | 6,291      |     | $          | 4,257    |       | $ | 1,324 |   |
| State income  taxes, net of Federal benefit            |       | 738      |       | 370      |       | 128      |       |
| Change in fair  value of put warrants                  |       | —   |       | —   |       | (217     | )          |
| Amortization of  non-deductible goodwill               |       | —   |       | —   |       | —   |       |
| Other, net                                             |       | 69       |       | 157      |       | 204      |       |
| Provision for  income taxes                            |       | $        | 7,098      |     | $          | 4,784    |       | $ | 1,439 |   |

 

**9.   Debt:**

Debtconsists of the following (in thousands):
| ** **                                                                                                                                                                                                       | ** ** | **December 25, 2004** | ** ** | **December 27, 2003** | ** ** |
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|---------------------------------|------------|---------------------------------|------------|
| Credit facilities:                                                                                                                                                                                               |       |                            |       |                            |       |   |   |   |   |
| Line of credit at December 25, 2004, bears  interest at LIBOR plus 275 to 350 base points or a specified base rate plus  170 to 250 base points, interest due monthly, principal due January 21,  2008 |       |                            | $          | 28,954                          |       |   |   | $ | — |   |   |
| Notes payable:                                                                                                                                                                                                   |       |                            |       |                            |       |   |   |   |   |
| Indemnification note payable, bears interest at the  prime rate plus 2%, interest due quarterly                                                                                                                  |       |                            | —     |                            |       |   | 340 |   |   |
| Total debt                                                                                                                                                                                                       |       |                            | $          | 28,954                          |       |   |   | $ | 340 |   |   |

 

The original credit facility (the 2002 creditfacility) consisted of a $35.0 million secured revolving credit arrangementwith Wachovia Bank, N.A. acting as Administration Agent for a consortium oflenders. With the closing of the acquisition of Matcom, the Company amended the2002 credit facility in January 2004. The amended credit facility (the2004 credit facility) consists of a $30.0 million term loan and a$50.0 million secured revolving credit arrangement. The 2004 creditfacility is secured by a pledge of substantially all of our current and futuretangible and intangible assets, as well as those of our current and futuresubsidiaries, including accounts receivable, inventory and capital stock of ourexisting and future subsidiaries. In addition, the Company is required tomaintain compliance with financial and nonfinancial covenants including, therequirement to maintain certain leverage and fixed charge ratios, as defined inthe agreement, as well as certain annual limits on our capital expenditures.

Contemporaneously with the closing of our acquisitionof SEI on February 9, 2005, the Company amended and restructured its priorcredit facility and increased its borrowing capacity to $160 million, which iscomprised of a $60 million five-year revolving credit facility and a $100million six-year term loan 

F-19

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facility. Borrowingsavailable under the amended credit facility were used as part of theacquisitions of Bridge Technology and SEI. In addition, the amended andrestructured credit facility provides that up to an additional $75 million inuncommitted incremental term loan funds are available to the Company upon itsrequest at any time for up to two years from one or more of the lenders underthe credit facility.

The Company had approximately $100 million ofoutstanding debt under our credit facility on February 9, 2005 andfollowing the closing of our acquisition of SEI. The Company is required torepay twenty-three $250,000 consecutive quarterly payments starting from June 30,2005 to December 31, 2010, and a final payment of $94 million on February 9,2011.

Any borrowings outstanding under the amended creditfacility will, at the Company’s option, bear interest either at floating ratesequal to LIBOR plus a spread ranging from 200 to 270 basis points or analternate base rate plus a spread ranging from 100 to 175 basis points, withthe exact spread determined upon the leverage ratio as defined in the amendedcredit facility.

In connection with the amended credit facility, theCompany had incurred approximately $3.1 million financing costs. Such costswill be capitalized as deferred financing costs on the balance sheet andamortized over the six year term of the new credit facility.

The Company also hasoutstanding a note payable in the amount of $2.3 million, to be paid in June, 2006for the acquisition of Bridge Technology.

**Borrowings from stockholders**

In March 2001 and September 2002,the Company borrowed from stockholders $5.0 million and $4.3 million,respectively, bearing interest at 8.5% per annum, compounded annually. Inconnection with the initial public offering in November 2002, the Companyused the net proceeds from the offering to repay all amounts outstanding on theborrowings from stockholders.

**10.   Commitments and contingencies:**

**Leases**

As of December 25, 2004, the Company hasnoncancelable operating leases, primarily for real estate, that expire over thenext eight years. Rental expense during fiscal year 2004, 2003 and 2002 wasapproximately $6.6 million, $5.4 million and $4.5 million,respectively.

Futureminimum lease payments under noncancelable operating and capital leases as of December 25,2004 are as follows (in thousands):
| **Fiscal year**                            | ** ** | ** ** | ** ** | **Capital** | ** ** | ** Operating ** | ** ** |
|-------------------------------------------------|------------|------------|------------|-------------|------------|---------------------------|------------|
| 2005                                            |       |       | 132        |        |       |                      | 7,275      |   |   |
| 2006                                            |       |       | 114        |        |       |                      | 6,174      |   |   |
| 2007                                            |       |       | 75         |        |       |                      | 5,295      |   |   |
| 2008                                            |       |       | 46         |        |       |                      | 5,416      |   |   |
| 2009                                            |       |       | —     |        |       |                      | 5,498      |   |   |
| Thereafter                                      |       |       | —     |        |       |                      | 13,392     |   |   |
| Total minimum  lease payments                   |       |       | 367        |        |       |                      | $          | 43,050 |   |   |
| Less—Interest element of payment           |       |       | (30        | )           |       |                      |       |   |   |
| Present value of  future minimum lease payments |       |       | 337        |        |       |                      |       |   |   |
| Current portion                                 |       |       | 121        |        |       |                      |       |   |   |
|                                            |       |       | $          | 216         |       |                      |       |   |   |   |
|                                                 |            |            |            |             |            |                           |            |  |  |  |  |  |  |

 

F-20

----

Subsequent to the purchaseof Bridge Technology and SEI, the Company assumed certain capital and operatingleases held at the time of purchase.

**Contract cost audits**

Payments to the Company ongovernment cost reimbursable contracts are based on provisional, or estimatedindirect rates, which are subject to audit on an annual basis by the DefenseContract Audit Agency (DCAA). The cost audits result in the negotiation anddetermination of the final indirect cost rates that the Company may use for theperiod(s) audited. The final rates, if different from the provisionalrates, may create an additional receivable or liability for the Company. TheCompany’s revenue recognition policy calls for revenue recognized on all costreimbursable government contracts to be recorded at actual rates unlesscollectibility is not reasonably assured. To the extent the indirect ratedifferential creates a liability for the Company, the differential isrecognized as a reduction to revenue when identified.

**Litigation and claims**

We are a party tolitigation and legal proceedings that we believe to be a part of the ordinarycourse of our business. While we cannot predict the ultimate outcome of thesematters, we currently believe, that any ultimate liability arising out of theseproceedings will not have a material adverse effect on our financial position.We may become involved in other legal and governmental, administrative orcontractual proceedings in the future.

**11.**   Putwarrants.

On March 9, 2000, the Company issued warrants topurchase 99,166 shares of Non-Voting Common Stock to a lender (Warrants) inconjunction with the Tranche B subordinated note of the 2000 Credit Agreement.The holder of the Warrants had a right to demand mandatory redemption of theWarrants for cash pursuant to certain terms provided for in the WarrantAgreement at a redemption price based on fair market value, as defined in theWarrant Agreement.

In accordance withEmerging Issues Task Force Issue 00-19, “Accounting for Derivative FinancialInstruments Indexed to, and Potentially Settled in, a Company’s Own Stock,” theCompany classified the Warrants as a liability due to the cash redemption (put)feature. At issuance and at each reporting date, the Warrants were marked totheir then current fair value with changes in fair value reflected in earnings.In connection with the initial public offering, the Company redeemed accordingto its terms 91,343 shares of the outstanding warrants with cash of$1.4 million and converted the remaining 7,555 shares of outstandingwarrants to common stock. A credit to earnings of $0.6 million in fiscalyear 2002 was recorded to reflect the settlement of the Warrants.

**12.   Redeemable preferred stock:**

The Company had redeemablepreferred stock that was nonconvertible and nonvoting. The preferred stock wasredeemable in the event of an initial public offering upon written request of amajority of the holders and also upon a change of control, as defined. Theredemption price was $1,000 per share plus any accumulated and unpaiddividends. The preferred stock accrued dividends daily at 8.5% per annum,calculated based on its liquidation value of $1,000 per share, plus accumulatedand unpaid dividends. Preferred dividends in 2002 were approximately$2.0 million and had been reflected as an addition to the redemptionbalance of the preferred stock. Immediately prior to its initial publicoffering in November 2002, the Company exchanged in full its 21,372 sharesof the outstanding preferred stock for 1,938,119 shares of common stock.

F-21

----

**13.   Stockholders’ equity:**

**Common stock**

In November 2002, the Company completed itsinitial public offering. The Company issued 3,850,000 shares of common stockfor total net proceeds of approximately $47.1 million. Immediately priorto the initial public offering, the Company completed a series of transactionsrelated to common stock. First, the Company exchanged all of its outstandingpreferred stock for 1,938,119 shares of common stock. Second, it exchanged SITelecom junior participating preferred, which was classified as minorityinterest for 12,034 shares of SI common stock. Third, it exchanged SI Telecomvoting common stock held by minority shareholders for 316 shares of SI commonstock. Finally, it converted a portion of its put warrants to 7,410 shares ofcommon stock.

In October 2004,the Company and affiliates of Frontenac, one of the Company’s investors,sold an aggregate of 3,200,000 shares of the Company’s common stock in anunderwritten public offering priced at $21.85 per share. Of the 3,200,000shares offered, 2,200,000 shares were sold by the Company and 1,000,000 shareswere sold by the selling stockholders. The Company did not receive any of theproceeds from the sale of common stock by the selling stockholders. The Companyalso granted the underwriters an option to purchase up to 320,000 shares solelyto cover over-allotments, which the underwriters exercised. In connection with this offering, the Companyreceived approximately $51.2 million in net proceeds, which was primarily usedto payoff $27.0 million of term loan borrowings and $16.0 million of borrowingsunder the revolving line of credit.

**Stock option plans**

TheCompany’s stockholders approved various stock option plans to award up toapproximately 1,920,000 shares of its common stock to directors, consultants,executives, and other key employees of the Company and its affiliates. TheCompany’s option activity is as follows:
| ** **                                     | ** ** | **Shares subject  to options** | ** ** | **Shares  exercisable** | ** ** | **Weighted-average  exercise price** | ** ** |
|------------------------------------------------|------------|------------------------------------------|------------|-------------------------|------------|-------------------------------------------|------------|
| Balance,  December 29, 2001               |       |                                     | 195,275    |                    |       |                                      |       |   |   |   | $ | 8.34 |   |   |
| Options  exercisable at December 29, 2001 |       |                                     |       |                    |       |                                      | 145,398    |   |   |   | 5.80 |   |   |
| Converted from SITEL                           |       |                                     | 1,001      |                    |       |                                      |       |   |   |   | 556.26 |   |   |
| 2002 grants                                    |       |                                     | 781,030    |                    |       |                                      |       |   |   |   | 13.80 |   |   |
| 2002 forfeitures                               |       |                                     | (1,226     | )                       |       |                                      |       |   |   |   | (10.76 | ) |   |
| Balance,  December 28, 2002               |       |                                     | 976,080    |                    |       |                                      |       |   |   |   | $ | 13.27 |   |   |
| Options  exercisable at December 28, 2002 |       |                                     |       |                    |       |                                      | 342,649    |   |   |   | 3.40 |   |   |
| 2003 grants                                    |       |                                     | 165,741    |                    |       |                                      |       |   |   |   | 12.37 |   |   |
| 2003 exercise                                  |       |                                     | (11,766    | )                       |       |                                      |       |   |   |   | (5.68 | ) |   |
| 2003 forfeitures                               |       |                                     | (79,002    | )                       |       |                                      |       |   |   |   | (13.17 | ) |   |
| Balance,  December 27, 2003               |       |                                     | 1,051,053  |                    |       |                                      |       |   |   |   | $ | 13.18 |   |   |
| Options exercisable at December 27, 2003  |       |                                     |       |                    |       |                                      | 275,699    |   |   |   | 12.47 |   |   |
| 2004 grants                                    |       |                                     | 551,285    |                    |       |                                      |       |   |   |   | 18.00 |   |   |
| 2004 exercise                                  |       |                                     | (76,026    | )                       |       |                                      |       |   |   |   | (12.24 | ) |   |
| 2004 forfeitures                               |       |                                     | (121,055   | )                       |       |                                      |       |   |   |   | (15.44 | ) |   |
| Balance,  December 25, 2004               |       |                                     | 1,405,257  |                    |       |                                      |       |   |   |   | $ | 14.93 |   |   |
| Options  exercisable at December 25, 2004 |       |                                     |       |                    |       |                                      | 546,646    |   |   |   | 13.40 |   |   |

 

F-22

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Thefollowing table shows the number of options, the weighted average remaininglife, and the options exercisable for each exercise price of optionsoutstanding at December 25, 2004.
|        | ** ** | **Number of  Options** | ** ** | **Exercise  Price** | ** ** | **Weighted  Average  Remaining Life** | ** ** | **Options  Exercisable** | ** ** |
|--------|------------|-----------------------------|------------|---------------------|------------|--------------------------------------------|------------|--------------------------|------------|
|        |       | 25,582                      |       | 1.58 – 8.22    |       |                                       | 5.3        |                     |       |   | 16,932 |   |   |
|   |       | 148,315                     |       | 9.13 – 10.81   |       |                                       | 2.9        |                     |       |   | 108,700 |   |   |
|        |       | 720,789                     |       | 11.19 – 14.00  |       |                                       | 7.9        |                     |       |   | 347,230 |   |   |
|   |       | 417,446                     |       | 16.40 – 19.26  |       |                                       | 9.1        |                     |       |   | 55,083 |   |   |
|        |       | 92,529                      |       | 20.55 – 30.46  |       |                                       | 9.3        |                     |       |   | 18,296 |   |   |
|   |       | 596                         |       | 556.26              |       |                                       | 3.0        |                     |       |   | 405 |   |   |
| Total  |       | 1,405,257                   |       |                |       |                                       |       |                     |       |   | 546,646 |   |   |

 

Each stock option grant establishes the vestingschedule applicable to the grant. The weighted-average remainingcontractual life of the stock options outstanding as of December 25, 2004and December 27, 2003 was 7.8 years and 8.0 years, respectively.

During its fiscal year ended 2001 and continuing intothe fiscal year ended 2002, the Company issued options with exercise priceswhich were less than the fair value of SI’s common stock at the date of optiongrant. Total deferred compensation related to these option grants was $518,000for the fiscal year ended December 28, 2002 and $142,000 for the fiscalyear ended December 29, 2001. This deferred compensation will be amortizedto expense over the related option’s vesting period, which is generally fiveyears. Such non-cash stock-based compensation expense totaled $132,000 infiscal year 2004, $132,000 in fiscal year 2003 and $139,000 during fiscal year2002.

Theweighted-average fair value of stock options granted in fiscal year 2004,2003, and 2002 was $13.28, $7.80 and $9.25, respectively.

**14.   Retirement plans:**

SI hasa defined contribution 401(k) Retirement/Savings Plan (the Plan) toprovide retirement benefits for all eligible employees of the Company.Employees are eligible to participate in the Plan beginning on the first of themonth following the start of employment and attainment of age 21. Under thePlan, eligible employees may contribute from 1% to 15% of pre-tax compensation.The Plan also allows after-tax contribution up to 5% of compensation. At itsdiscretion, the Company may make an annual matching contribution and an annualprofit-sharing contribution. For both fiscal years 2004 and 2002, therewas no profit-sharing contribution made to the Plan by the Company. Aprofit-sharing contribution of $370,000 was made in 2004 for fiscal year2003 by the Company. The Company’s matching contribution to the Plan for fiscalyears 2004, 2003 and 2002 was approximately $1.1 million, $0.7 million and$0.9 million.

**15.   Subsequent Event:**

On February 9, 2005, we completed the purchase ofShenandoah Electronic Intelligence, Inc. (SEI). SEI is a provider ofcritical business process outsourcing primarily for the Department of HomelandSecurity (DHS). SEI’s services include: data and records management;applications processing; file and mail management; analytical support services;and secure optical card processing at one of the largest facilities of itskind.

As a result of this acquisition, we gainedapproximately 1,700 additional employees and increased our leased space to 28offices and 3 warehouses at various U.S. locations for an aggregate ofapproximately 

F-23

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536,263 square feet in 15states (including approximately 27,090 square feet that are sub-leased throughthe remaining terms of our primary leases).

Under the terms of the definitive stock purchaseagreement, we acquired SEI for $75 million in cash, subject to certainadjustments. The transaction was funded through cash-on-hand and borrowingsfrom a new $160 million credit facility. The purchase price is subject toadjustment as a result of certain tax elections. The definitive stock purchaseagreement also provides that the SEI stockholders will retain certainnon-operating assets and contingent accounts receivable.

Approximately$52.8 million of the purchase consideration has been allocated to goodwillbased primarily on the excess of the purchase price over the estimated fairvalue of net assets acquired, and approximately $12.2 million of the purchaseprice has been assigned to identifiable intangible assets of contractualcustomer relationships. The contractual customer relationships are beingamortized accelerated over its estimated remaining life of 14 years.

Thetotal purchase price paid, including transaction costs of $0.4 million, hasbeen preliminarily allocated as follows (in thousands):
| Cash                                          |   | $      | 2,957  |   |
|-----------------------------------------------|--------|--------|--------|--------|
| Accounts  receivable                          |   | 12,793 |   |
| Prepaid expense  and other current assets     |   | 412    |   |
| Property and  equipment                       |   | 376    |   |
| Accounts  payable & accrued expenses |   | (5,483 | )      |
| Other long term  liabilities                  |   | (450   | )      |
| Contractual  customer relationships           |   | 12,200 |   |
| Goodwill                                      |   | 52,838 |   |
| Total consideration                           |   | $      | 75,643 |   |

 

F-24

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**SIInternational, Inc. and Subsidiaries(See Note 1 to Consolidated Financial Statements)Schedule II—Valuation and Qualifying Accounts(In Thousands)**
| **Description**                                   | ** ** | ** ** | ** ** | **Balance at  beginning of  period** | ** ** | **Charged to  costs and  expenses** | ** ** | **Acquired in  business  combinations** | ** ** | **Deductions** | ** ** | **Balance at  end of  period** | ** ** |
|---------------------------------------------------|------------|------------|------------|------------------------------------------------|------------|-----------------------------------------------|------------|----------------------------------------------|------------|----------------|------------|------------------------------------------|------------|
| For the fiscal year  ended December 28, 2002 |       |       |       |                                           |       |                                          |       |                                         |       |           |       |                                     |       |   |   |   |   |   |   |   |   |
| Deducted from  assets accounts:                   |       |       |       |                                           |       |                                          |       |                                         |       |           |       |                                     |       |   |   |   |   |   |   |   |   |
| Allowance for doubtful accounts                   |       |       | 630        |                                           |       |                                          | 472        |                                         |       |           | —     |                                     |       |   | 6 |   |   |   | 1,096 |   |   |
| For the fiscal year  ended December 27, 2003 |       |       |       |                                           |       |                                          |       |                                         |       |           |       |                                     |       |   |   |   |   |   |   |   |   |
| Deducted from  assets accounts:                   |       |       |       |                                           |       |                                          |       |                                         |       |           |       |                                     |       |   |   |   |   |   |   |   |   |
| Allowance for doubtful accounts                   |       |       | 1,096      |                                           |       |                                          | 144        |                                         |       |           | —     |                                     |       |   | — |   |   |   | 1,240 |   |   |
| For the fiscal year  ended December 25, 2004 |       |       |       |                                           |       |                                          |       |                                         |       |           |       |                                     |       |   |   |   |   |   |   |   |   |
| Deducted from  assets accounts:                   |       |       |       |                                           |       |                                          |       |                                         |       |           |       |                                     |       |   |   |   |   |   |   |   |   |
| Allowance for doubtful  accounts                  |       |       | 1,240      |                                           |       |                                          | —     |                                         |       |           | —     |                                     |       |   | 96 |   |   |   | 1,144 |   |   |

 

 

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