** **

**UNITEDSTATES**

**SECURITIESAND EXCHANGE COMMISSION**

### **WASHINGTON,D.C.  20549**

 

**FORM10-Q**

 

***(Mark One)***
| **ý** | ** ** | **QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE  SECURITIES EXCHANGE ACT OF 1934** |
|------------|------------|----------------------------------------------------------------------------------------------|

 

#### **For the quarterly period ended September 30, 2004**

 

**OR**

** **
| **o** | ** ** | **TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE  SECURITIES EXCHANGE ACT OF 1934  For the transition period from               to              ** |
|-------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

**Commission File Number 0-22718**

 

**ZAMBACORPORATION**

(Exactname of Registrant as specified in its charter)

 
| **Delaware**                     | ** ** | **#41-1636021**      |
|----------------------------------|------------|----------------------|
| (State  or other jurisdiction of |       | (I.R.S.  Employer    |
| incorporation  or organization)  |       | Identification  No.) |

### ** **

### **3033Excelsior Boulevard, Suite 200, Minneapolis, Minnesota 55416**

(Addressof principal executive offices, including zip code)

 

**(952) 832-9800**

(Registrant’stelephone number, including area code)

 

Indicate by check mark whether the Registrant(1) has filed all reports required to be filed by Section 13 or 15(d) of theSecurities Exchange Act of 1934 during the preceding 12 months (or for suchshorter period that the Registrant was required to file such reports), and (2)has been subject to such filing requirements for the past 90 days.

YES         ý                            NO          o

 

Indicate by check mark whether the Registrantis an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

YES         o                            NO          ý

 

Indicate the number of shares outstanding ofeach of the issuer’s classes of common stock, as of the latest practicabledate.

 
| ** **                     | ** ** | **Outstanding at**    |
|--------------------------------|------------|-----------------------|
| **Class**                      | ** ** | **November 12, 2004** |
| Common  Stock, $0.01 par value |       | 38,922,028            |

 

----

 

ZAMBA CORPORATION

 

INDEX

 
|                             | PART I — Financial  Information                                  |   |
|----------------------------------|-----------------------------------------------------------------------|--------|
|                             |                                                                  |   |
| Item 1.                          | Financial Statements (Unaudited)                                      |   |   |
|                             |                                                                  |   |   |
|                             | Consolidated  Statements of Operations for the                        |   |
|                             | Three and Nine  Months Ended September 30, 2004 and 2003              |   |
|                             |                                                                  |   |
|                             | Consolidated Balance Sheets  as of                                    |   |
|                             | September 30, 2004 and  December 31, 2003                             |   |
|                             |                                                                  |   |
|                             | Consolidated  Statements of Cash Flows for the                        |   |
|                             | Nine  Months Ended September 30, 2004 and 2003                        |   |
|                             |                                                                  |   |
|                             | Notes to  Consolidated Financial Statements                           |   |
|                             |                                                                  |   |
| Item 2.                          | Management’s Discussion and Analysis of  Financial Condition and |   |
|                             | Results  of Operations                                                |   |
|                             |                                                                  |   |
| Item 3.                          | Quantitative and Qualitative Disclosures About  Market Risk           |   |
|                             |                                                                  |   |
|  Item 4.                    | Disclosure Controls and Procedures                                    |   |
|                             |                                                                  |   |
| PART II — Other Information |                                                                  |
|                             |                                                                  |   |
| Item 1.                          | Legal Proceedings                                                     |   |
|                             |                                                                  |   |
| Item 2.                          | Unregistered  Sales of Equity Securities and Use of Proceeds          |   |
|                             |                                                                  |   |
| Item 3.                          | Defaults Upon Senior Securities                                       |   |
|                             |                                                                  |   |
| Item 4.                          | Submission of Matters to a Vote of  Security Holders                  |   |
|                             |                                                                  |   |
| Item 5.                          | Other Information                                                     |   |
|                             |                                                                  |   |
| Item 6.                          | Exhibits                                                              |   |
|                             |                                                                  |   |
| Signatures                       |                                                                  |   |

 

2

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**Part I. FinancialInformation**

** **

**Item 1****: Financial Statements**

** **

**ZAMBA CORPORATIONCONSOLIDATED STATEMENTS OF OPERATIONS(Unaudited)**

** **
| ** **                                     | ** ** | **Three months ended** | ** ** | **Nine months ended** | ** ** |
|------------------------------------------------|------------|------------------------|------------|-----------------------|------------|
| ** **                                     | ** ** | **September 30,**      | ** ** | **September 30,**     | ** ** |
| **(In  thousands, except per share data)**     | ** ** | **2004**               | ** ** | **2003**              | ** ** | **2004** | ** ** | **2003** | ** ** |
| Revenues:                                      | ** ** | ** **             | ** ** | ** **            | ** ** | ** ** | ** ** | ** ** | ** ** |
| Professional services                          |       | $                      | 1,737      |                  | $          | 2,479 |   | $ | 5,500 |   | $ | 7,591 |   |
| Reimbursable expenses                          |       | 146                    |       | 241                   |       | 464 |   | 759 |   |
| Total revenues                                 |       | 1,883                  |       | 2,720                 |       | 5,964 |   | 8,350 |   |
|                                           |       |                   |       |                  |       |   |   |   |   |
| Costs and expenses:                            |       |                   |       |                  |       |   |   |   |   |
| Project and personnel costs                    |       | 1,051                  |       | 1,526                 |       | 3,451 |   | 4,482 |   |
| Reimbursable expenses                          |       | 146                    |       | 241                   |       | 464 |   | 759 |   |
| Sales and marketing                            |       | 204                    |       | 304                   |       | 572 |   | 829 |   |
| General and administrative                     |       | 539                    |       | 839                   |       | 1,933 |   | 2,384 |   |
| Non-recurring items                            |       | 490                    |       | —                |       | 581 |   | — |   |
| Total costs and expenses                       |       | 2,430                  |       | 2,910                 |       | 7,001 |   | 8,454 |   |
|                                           |       |                   |       |                  |       |   |   |   |   |
| Loss from operations                           |       | (547                   | )          | (190                  | )          | (1,037 | ) | (104 | ) |
|                                           |       |                   |       |                  |       |   |   |   |   |
| Other income (expense):                        |       |                   |       |                  |       |   |   |   |   |
| Gain on sale of NextNet shares                 |       | —                 |       | —                |       | 743 |   | 2,603 |   |
| Interest expense                               |       | (101)                  |       | (47                   | )          | (187 | ) | (94 | ) |
| Other income (expense), net                    |       | (101)                  |       | (47                   | )          | 556 |   | 2,509 |   |
|                                           |       |                   |       |                  |       |   |   |   |   |
| Income (loss) before extraordinary item        |       | (648)                  |       | (237                  | )          | (481 | ) | 2,405 |   |
|                                           |       |                   |       |                  |       |   |   |   |   |
| Extraordinary gain from extinguishment of debt |       | —                 |       | —                |       | — |   | 198 |   |
|                                           |       |                   |       |                  |       |   |   |   |   |
| Net income (loss)                              |       | $                      | (648       | )                     | $          | (237 | ) | $ | (481 | ) | $ | 2,603 |   |
|                                           |       |                   |       |                  |       |   |   |   |   |
| Basic net income (loss) per share:             |       |                   |       |                  |       |   |   |   |   |
| Income before extraordinary item               |       | $                      | (0.02      | )                     | $          | (0.01 | ) | $ | (0.01 | ) | $ | 0.07 |   |
| Extraordinary gain from extinguishment of debt |       | —                 |       | —                |       | — |   | — |   |
| Basic net income (loss) per share:             |       | $                      | (0.02      | )                     | $          | (0.01 | ) | $ | (0.01 | ) | $ | 0.07 |   |
|                                           |       |                   |       |                  |       |   |   |   |   |
| Diluted net income (loss) per share:           |       |                   |       |                  |       |   |   |   |   |
| Income (loss) before extraordinary item        |       | $                      | (0.02      | )                     | $          | (0.01 | ) | $ | (0.01 | ) | $ | 0.06 |   |
| Extraordinary gain from extinguishment of debt |       | —                 |       | —                |       | — |   | — |   |
| Diluted net income (loss) per share            |       | $                      | (0.02      | )                     | $          | (0.01 | ) | $ | (0.01 | ) | $ | 0.06 |   |
|                                           |       |                   |       |                  |       |   |   |   |   |
| Weighted average shares outstanding:           |       |                   |       |                  |       |   |   |   |   |
| Basic                                          |       | 38,910                 |       | 38,865                |       | 38,901 |   | 38,840 |   |
| Diluted                                        |       | 38,910                 |       | 38,865                |       | 38,901 |   | 40,973 |   |
|                                                |            |                        |            |                       |            |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

Theaccompanying notes are an integral part of the consolidated financialstatements.

 

3

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**ZAMBACORPORATION**

**CONSOLIDATED BALANCE SHEETS**

**(Unaudited)**

 

**(Inthousands, except per share data)**
| ** **                                                                                                                                                            | ** ** | **September 30,** | ** ** | **December  31,** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------|------------|-------------------|------------|
| ** **                                                                                                                                                            | ** ** | **2004**          | ** ** | **2003**          | ** ** |
| **ASSETS**                                                                                                                                                            |       |              |       |              |       |
| Current assets:                                                                                                                                                       |       |              |       |              |       |
| Cash and cash equivalents                                                                                                                                             |       | $                 | 186        |              | $          | 699 |   |
| Accounts receivable, net                                                                                                                                              |       | 945               |       | 618               |       |
| Unbilled receivables                                                                                                                                                  |       | 209               |       | 79                |       |
| Prepaid expenses and other current assets                                                                                                                             |       | 76                |       | 108               |       |
| Total current assets                                                                                                                                                  |       | 1,416             |       | 1,504             |       |
| Property and equipment, net                                                                                                                                           |       | 160               |       | 326               |       |
| Other assets                                                                                                                                                          |       | 36                |       | 57                |       |
| Total assets                                                                                                                                                          |       | $                 | 1,612      |              | $          | 1,887 |   |
| **LIABILITIES AND STOCKHOLDERS'  DEFICIT**                                                                                                                            |       |              |       |              |       |
| Current Liabilities:                                                                                                                                                  |       |              |       |              |       |
| Current installments of long-term debt                                                                                                                                |       | $                 | 424        |              | $          | – |   |
| Line of credit                                                                                                                                                        |       | 514               |       | 436               |       |
| Accounts payable                                                                                                                                                      |       | 284               |       | 128               |       |
| Accrued expenses                                                                                                                                                      |       | 946               |       | 919               |       |
| Deferred revenue                                                                                                                                                      |       | 188               |       | 187               |       |
| Deferred gain on sale of investment                                                                                                                                   |       | –            |       | 783               |       |
| Total current liabilities                                                                                                                                             |       | 2,356             |       | 2,453             |       |
| Commitments and contingencies (Note K)                                                                                                                                |       |              |       |              |       |
| Stockholders' deficit:                                                                                                                                                |       |              |       |              |       |
| Common stock, $0.01 par value, 120,000 shares authorized, 38,922 and  38,892 shares issued and outstanding at September 30, 2004 and December 31,  2003, respectively |       | 389               |       | 389               |       |
| Additional paid-in capital                                                                                                                                            |       | 86,383            |       | 86,080            |       |
| Accumulated deficit                                                                                                                                                   |       | (87,516           | )          | (87,035           | )          |
| Total stockholders' deficit                                                                                                                                           |       | (744              | )          | (566              | )          |
| Total liabilities and stockholders' deficit                                                                                                                           |       | $                 | 1,612      |              | $          | 1,887 |   |
|                                                                                                                                                                       |            |                   |            |                   |            |  |  |  |  |

 

The accompanying notes arean integral part of the consolidated financial statements.

 

4

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**ZAMBACORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS****(Unaudited)**

**(In thousands)**
| ** **                                                      | ** ** | **Nine  months ended   September 30,** | ** ** |
|-----------------------------------------------------------------|------------|----------------------------------------|------------|
| ** **                                                      | ** ** | **2004**                               | ** ** | **2003** | ** ** |
| Cash flows from operating activities:                           |       |                                   |       |   |   |
| Net income (loss)                                               |       | $                                      | (481       | ) | $ | 2,603 |   |
| Adjustments to reconcile net income (loss) to net cash          |       |                                   |       |   |   |
| used in operating activities:                                   |       |                                   |       |   |   |
| Depreciation, amortization and non-cash charges                 |       | 234                                    |       | 233 |   |
| Provision for bad debts                                         |       | (20                                    | )          | – |   |
| Loss (gain) on disposal of fixed assets                         |       | 37                                     |       | (7 | ) |
| Gain on sale of NextNet shares                                  |       | (743                                   | )          | (2,603 | ) |
| Extraordinary gain on extinguishment of debt                    |       | –                                 |       | (198 | ) |
| Changes in operating assets and liabilities:                    |       |                                   |       |   |   |
| Accounts receivable                                             |       | (307                                   | )          | (1,177 | ) |
| Unbilled receivables                                            |       | (130                                   | )          | 223 |   |
| Prepaid expenses and other assets                               |       | (18                                    | )          | 403 |   |
| Accounts payable                                                |       | 156                                    |       | (426 | ) |
| Accrued expenses and other long-term liabilities                |       | (13                                    | )          | (1,553 | ) |
| Deferred revenue                                                |       | 1                                      |       | 128 |   |
| Net cash used in operating activities                           |       | (1,284                                 | )          | (2,374 | ) |
| Cash flows from investing activities:                           |       |                                   |       |   |   |
| Purchase of property and equipment                              |       | (14                                    | )          | (53 | ) |
| Proceeds from sale of NextNet shares                            |       | –                                 |       | 750 |   |
| Proceeds from sale of equipment                                 |       | –                                 |       | 9 |   |
| Net cash provided by (used in) investing activities             |       | (14                                    | )          | 706 |   |
| Cash flows from financing activities:                           |       |                                   |       |   |   |
| Line of credit, net                                             |       | 78                                     |       | 1,003 |   |
| Proceeds from short-term loan                                   |       | –                                 |       | 750 |   |
| Proceeds from note payable                                      |       | 750                                    |       | – |   |
| Proceeds from sale of common stock                              |       | 4                                      |       | 12 |   |
| Payments of long-term debt                                      |       | (47                                    | )          | (173 | ) |
| Net cash provided by financing activities                       |       | 785                                    |       | 1,592 |   |
| Net decrease in cash and cash equivalents                       |       | (513                                   | )          | (76 | ) |
| Cash and cash equivalents, beginning of period                  |       | 699                                    |       | 549 |   |
| Cash and cash equivalents, end of period                        |       | $                                      | 186        |   | $ | 473 |   |
| Supplemental Schedule for Disclosures of Cash Flow Information: |       |                                   |       |   |   |
| Cash paid during the period for interest                        |       | $                                      | 64         |   | $ | 78 |   |
| Non-cash investing and financing activity:                      |       |                                   |       |   |   |
| Conversion of note payable into sale of NextNet shares          |       | $                                      | –     |   | $ | 1,750 |   |
| Conversion of long-term debt into sale of NextNet shares        |       | $                                      | –     |   | $ | 71 |   |

 

 The accompanying notes are an integral part ofthe consolidated financial statements. 

 

5

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ZAMBA CORPORATION

NOTESTO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

NoteA.  Basis of Presentation:

 

The unauditedconsolidated financial statements of Zamba Corporation as of September 30,2004, and for the three and nine month periods ended September 30, 2004 and2003, reflect all adjustments (which include only normal recurring adjustments,except as disclosed in the footnotes) necessary, in the opinion of management,to fairly state our financial position as of September 30, 2004, and ourresults of operations and cash flows for the reported periods.  The results of operations for any interimperiod are not necessarily indicative of the results to be expected for anyother interim period or for the full fiscal year.  The year-end balance sheet data was derivedfrom audited financial statements, but does not include all disclosuresrequired by accounting principles generally accepted in the United States ofAmerica.  Certain prior year amounts havebeen reclassified to conform with the 2004 presentation.  These financial statements should be read inconjunction with our audited consolidated financial statements and relatednotes for the year ended December 31, 2003, which were included in our 2003Annual Report on Form 10-K.

 

Note B. Merger Agreement:

 

On August 6, 2004, we signeda definitive merger agreement with Technology Solutions Company (TSC) underwhich we will be acquired by TSC.  TSC is a consultingcompany that delivers business benefits through theapplication of information technology.  TSC is a publicly traded company on theNASDAQ National Market under the symbol “TSCC.” Under the merger agreement, each non-dissenting Zamba commonshareholder will receive 0.15 share of TSC common stock for each share of Zambacommon stock.  The merger is subject toshareholder approval and other standard closing conditions.  On October 15, 2004, TSC filed with theSecurities and Exchange Commission (“SEC”) a preliminary Registration Statementon Form S-4 for the shares to be issued under the merger, as well as to reserveadditional shares that may be issued upon the exercise of outstanding optionsor warrants issued by Zamba.  TheRegistration Statement on Form S-4 also includes a proxy statement and noticeof the special meeting of our shareholders to be held to vote on the approvalof the merger.  The special meeting datewill be set and the prospectus/proxy statement included as part of the Form S-4will be filed with the SEC in definitive form and mailed to our shareholdersafter the SEC has concluded its comment period and declared the RegistrationStatement effective.

 

We have commitments to payan investment banker certain fees in connection with the pending merger.  We have a commitment to pay a total of$75,000 in monthly payments over a 12-month period to an investment banker forfinancial advisory services.  We haverecorded the $75,000 as a part of the merger costs in the third quarter of2004.  We have paid a total of $20,000 ofthis commitment as of September 30, 2004. The unpaid portion of the $75,000 is due immediately upon the sale ormerger of Zamba.  A contingent payment of$375,000 is also payable to this investment banker upon the sale or merger ofZamba.  We will record the $375,000 as anexpense upon completion of a sale or merger.

 

Note C. Liquidity:

 

Wehad a working capital deficit of $940,000 and a stockholders’ deficit of$744,000 as of September 30, 2004.  Wepartially fund our operations through our Accounts Receivable PurchaseAgreement with Silicon Valley Bank.  Atotal of $514,000 was outstanding under our loan agreement with Silicon ValleyBank as of September 30, 2004.  See Note H for additional discussion.

 

In May 2004, we issued a$750,000, 12% promissory note to Pandora Select Partners, L.P. The note waspayable in interest only through August 2004, and thereafter principal andinterest is payable in equal monthly installments over the next 15 months.  See Note G for additional discussion of allloans received by Zamba.

 

6

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Cash used in operatingactivities was $1,284,000 for the nine months ended September 30, 2004 andresulted primarily from a loss from operations of $1,037,000, as well as anincrease in accounts receivable of $307,000.

 

Subsequent to September30, 2004, we entered into a loan agreement with TSC under which we haveborrowed the aggregate amount of $165,000 primarily for costs and legal feesrelated to a legal claim (see Note K) and the negotiation and documentation ofthe TSC merger agreement.  We are to paythe principal balance of this loan plus 8% per annum simple interest in April2005.

 

Our ability to continue as a going concerndepends upon our ability to generate cash from operations, continue to accessour borrowing facility with Silicon Valley Bank, and obtain any additionalfunding that may be needed.  We may seekto borrow additional amounts from TSC, if necessary.  The accompanying financial statements havebeen prepared on a going concern basis, which assumes continuity of operationsand realization of assets and liabilities in the ordinary course ofbusiness.  These financial statements donot include any adjustments that might result if we discontinued our operations.

 

Note D. Stockholders’ Equity:

 

We have chosen to account for stock-based compensation using theintrinsic value method prescribed in Accounting Principles Board Opinion No.25, “Accounting for Stock Issued to Employees,” and related interpretations(APB No. 25).  We account for stock-basedcompensation to non-employees using the fair value method prescribed byStatements of Financial Accounting Standards (SFAS) No. 123.  Accordingly, compensation costs for stockoptions granted to employees are measured as the excess, if any, of the valueof our stock at the date of the grant over the amount an employee must pay toacquire the stock.  Compensation cost forstock options granted to non-employees is measured as the fair value of theoption at the date of grant.  Suchcompensation costs, if any, are amortized on a straight-line basis over theunderlying option vesting terms.

 

No compensationcost has beenrecognized for stock options granted to employees or directors under our 1989Stock Option Plan, 1993 Equity Incentive Plan, 1993 Directors Option Plan, 1997Stock Option Plan, 1998 Non-Officers Plan, 1999 Non-Officers Plan, 2000Non-Officers Plan, or 2000 Non-Qualified Plan (collectively referred to as the“Plans”).  Had compensation cost for the Plansbeen determined based on the fair value of options at the grant date for awardsin the three and nine month periods ended September 30, 2004 and 2003, our netincome and net income per share would have changed to the pro forma amountsindicated below:

 

(In thousands, except per share amounts)
| ** **                                                                                                                                  | ** ** | **Three Months**        | ** ** | **Nine Months**         | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------|------------|-------------------------|------------|
| ** **                                                                                                                                  | ** ** | **Ended September 30,** | ** ** | **Ended September 30,** | ** ** |
|                                                                                                                                        |       | **2004**                | ** ** | **2003**                | ** ** | **2004** | ** ** | **2003** |   |
| Net income (loss), as reported                                                                                                              |       | $                       | (648       | )                       | $          | (237 | ) | $ | (481 | ) | $ | 2,603 |   |
| Deduct total stock based employee compensation expense determined  under fair value based method for all awards, net of related tax effects |       | (77                     | )          | (71                     | )          | (262 | ) | (805 | ) |
| Pro forma net income (loss)                                                                                                                 |       | $                       | (725       | )                       | $          | (308 | ) | $ | (743 | ) | $ | 1,798 |   |
| Earnings (Loss) per share:                                                                                                                  |       |                    |       |                    |       |   |   |   |   |
| Basic -as reported                                                                                                                          |       | $                       | (0.02      | )                       | $          | (0.01 | ) | $ | (0.01 | ) | $ | 0.07 |   |
| Basic -pro forma                                                                                                                            |       | $                       | (0.02      | )                       | $          | (0.01 | ) | $ | (0.02 | ) | $ | 0.05 |   |
| Diluted - as reported                                                                                                                       |       | $                       | (0.02      | )                       | $          | (0.01 | ) | $ | (0.01 | ) | $ | 0.06 |   |
| Diluted - pro forma                                                                                                                         |       | $                       | (0.02      | )                       | $          | (0.01 | ) | $ | (0.02 | ) | $ | 0.04 |   |
|                                                                                                                                             |            |                         |            |                         |            |  |  |  |  |  |  |  |  |  |  |

 

7

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Note E. Selected BalanceSheet Information:

 
| **(in thousands)**                             | ** ** | **September 30, 2004** | ** ** | **December 31, 2003** | ** ** |
|------------------------------------------------|------------|------------------------|------------|-----------------------|------------|
| Accounts receivable, net:                      |       |                   |       |                  |       |
| Accounts receivable                            |       | $                      | 1,049      |                  | $          | 742 |   |
| Less allowance for doubtful accounts           |       | (104                   | )          | (124                  | )          |
| Totals                                         |       | $                      | 945        |                  | $          | 618 |   |
| Property and equipment, net:                   |       |                   |       |                  |       |
| Computer equipment                             |       | $                      | 312        |                  | $          | 828 |   |
| Furniture and equipment                        |       | 146                    |       | 293                   |       |
| Leasehold improvements                         |       | 60                     |       | 60                    |       |
| Totals                                         |       | 518                    |       | 1,181                 |       |
| Less accumulated depreciation and amortization |       | (358                   | )          | (855                  | )          |
| Totals                                         |       | $                      | 160        |                  | $          | 326 |   |

 

Note F.  Net Income Per Share:

Basic income per share is computed based on theweighted average number of common shares outstanding.  Diluted income per share is computed based on the weightedaverage number of common shares outstanding adjusted by the number ofadditional shares that would have been outstanding had the potentially dilutivecommon shares been issued.  Potentiallydilutive shares of common stock include options and warrants to purchase ourcommon stock at prices at or below the average market price for our commonstock as of the last date of the time period being measured.  The following chart reconciles basic earningsper share to diluted earnings per share:

 
| ** **                                 | ** ** | **Three months ended** | ** ** | **Nine months ended** | ** ** |
|--------------------------------------------|------------|------------------------|------------|-----------------------|------------|
| ** **                                 | ** ** | **September 30,**      | ** ** | **September 30,**     | ** ** |
| **(In  thousands, except per share data)** | ** ** | **2004**               | ** ** | **2003**              | ** ** | **2004** | ** ** | **2003** |   |
| Net income (loss)                          |       | $                      | (648       | )                     | $          | (237 | ) | $ | (481 | ) | $ | 2,603 |   |
| Weighted Average Shares Outstanding:       |       |                   |       |                  |       |   |   |   |   |
| Basic                                      |       | 38,910                 |       | 38,865                |       | 38,901 |   | 38,840 |   |
| Effect of Dilution - Stock Options         |       | —                 |       | —                |       | — |   | 2,133 |   |
| Diluted                                    |       | 38,910                 |       | 38,865                |       | 38,901 |   | 40,973 |   |
| Earnings (Loss) Per Share:                 |       |                   |       |                  |       |   |   |   |   |
| Basic                                      |       | $                      | (0.02      | )                     | $          | (0.01 | ) | $ | (0.01 | ) | $ | 0.07 |   |
| Diluted                                    |       | $                      | (0.02      | )                     | $          | (0.01 | ) | $ | (0.01 | ) | $ | 0.06 |   |

The calculation of weightedaverage diluted shares outstanding excludes options and warrants forapproximately 9.5 million common shares for the three and nine months endedSeptember 30, 2004, 5.3 million common shares for the three months endedSeptember 30, 2003 and 3.2 million common shares for the nine months endedSeptember 30, 2003 that were anti-dilutive, because the exercise prices for theexcluded options and warrants were greater than the average market price of ourcommon stock during this period.

 

8

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Note G.    Notes Payable:

 

In May 2004, we issued apromissory note to Pandora Select Partners, L.P. in the amount of $750,000, ata rate of 12% per annum. The note was payable in interest only through August2004, and thereafter principal and interest was payable in equal monthlyinstallments over the next 15 months.

 

Under such note, weoriginally had the option, subject to certain limitations, to make each paymentdue under the note by using our common stock, at a 12% discount to the averageclosing bid price of our common stock on the OTC Bulletin Board over theprevious thirty trading days.  The numberof shares issued to pay a particular monthly payment could not exceed 10% ofthe aggregate number of shares traded for the 30 days preceding the day suchmonthly payment was due. Also, the number of shares beneficially owned by thepayee had to be less than 4.99% of our outstanding common stock and theaggregate number of shares issued could not exceed 10,000,000.  In connection with the promissory note, weissued a five-year warrant for the purchase of 1.34 million shares of ourcommon stock at $0.28 per share.  Inaddition, we agreed to file a registration statement with the U.S. Securitiesand Exchange Commission, covering the issuance or resale of the shares of theCompany’s common stock which may be issued in connection with the note andwarrant issued to the noteholder.

 

On August 6, 2004,contingent upon the merger as discussed in Note B, we signed an agreement tomodify the terms described in the preceding paragraph.  The monthly payments now must be made in cashuntil the effective time of the merger. At the effective time of the merger, wewill pay the remaining balance of the note in full.  Also, at the effective time of the merger, wewill redeem the warrant for $60,000.  Dueto these modifications, the obligation to file a registration statement withthe U.S. Securities and Exchange Commission, covering the issuance or resale ofthe shares of the Company’s common stock was suspended until either theeffective date of the merger agreement, or until the merger agreement isterminated.

 

The proceeds of theforegoing loan were allocated between the note and the fair value of thewarrants using the Black-Scholes pricing model. The fair value of the warrants was $295,000, based on a $0.28 exerciseprice per share, $0.25 market price per share, risk free interest rate of 3.96%,volatility of 136% and an expected term of five years.  The fair value of the warrants is beingamortized over the 18-month term of the note payable.

 

The note payable balanceis recorded as follows as of September 30, 2004 (in thousands):

 

| Note payable                              |   | $      | 703    | ** ** |
|-------------------------------------------|--------|--------|--------|------------|
| Warrant charge, net of amortization       |   | (221   | )      |
| Financing fees, net of amortization       |   | (58    | )      |
| Note payable, net                         |   | $      | 424    |       |
| Recorded on the balance sheet as follows: |   |   |   |
| Current installments of long-term debt    |   | $      | 424    |       |

 

Subsequent to September30, 2004, we entered into a loan agreement with TSC under which we haveborrowed the aggregate amount of $165,000 primarily for costs and legal feesrelated to a legal claim and the negotiation and documentation of the TSCmerger agreement.  We are to pay the principalbalance of this loan plus 8% per annum simple interest in April 2005.

 

Note H.   Accounts Receivable Purchase Agreement:

 

                We partially fund our operationsthrough an Accounts Receivable Purchase Agreement with Silicon ValleyBank.  This agreement entitles us toborrow up to a maximum of $2.0 million based on 80% of eligible receivables,and is secured by virtually all of our assets. Borrowings under this agreement bear interest at a monthly rate of 1% ofthe average daily balance outstanding during the period.  Additionally, on each reconciliation date, wepay an administrative fee equal to 0.25% of the face amount of each receivablepurchased by Silicon Valley Bank during that reconciliation period.  The Accounts Receivable Purchase Agreementexpires on July 29, 2005.  However, bothparties have the right to terminate this agreement at any time.  If Silicon Valley Bank decides not topurchase receivables from us, our ability to fund our operations could bematerially harmed.

 

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The amountoutstanding under this Accounts Receivable Purchase Agreement was $514,000 asof September 30, 2004.

 

Note I.   Sales of Investments:

 

In the fourth quarter of2003, we entered into stock purchase agreements with eleven private investors,in which we sold an aggregate of 495,333 shares of NextNet Series A PreferredStock for an aggregate consideration of $743,000.  All of the shares were sold at a per shareprice of $1.50.  We recorded a deferredgain on sale of investment when we received the cash from these transactions inthe fourth quarter of 2003, and recorded a gain on sale of investment in thefirst quarter of 2004, when the shares were transferred to the privateinvestors.  Several members of our boardand management team are, or have been, directors, officers or consultants atNextNet.  Prior to NextNet’s acquisitionin March 2004 by a privately-held communications company, our chairman, JosephB. Costello, was also the chairman of NextNet. Another of our directors, DixonDoll, was also a director and a shareholder of NextNet.  Additionally, another director of Zamba, SvenWehrwein, provided consulting services to NextNet, and Michael Carrel, our CFO,was also the CFO for NextNet from October 1, 2003 through March 31, 2004.

 

On January 27, 2003, weentered into an agreement to pay a third party $165,000 and transfer 16,667shares of NextNet Series A Preferred Stock to the third party’s family trust inexchange for cancellation of a debt obligation under which we owedapproximately $434,000 in principal and accrued interest.  As a result, we recorded an extraordinarygain on debt extinguishment of approximately $198,000 and a gain on sale ofNextNet shares of $71,000 in the first quarter of 2003.

 

On February 17, 2003, wesold 177,306 shares of NextNet Series A Preferred Stock to two privateinvestors for $750,000.  We recorded adeferred gain on sale of investment in the first quarter of 2003 when wereceived the cash from these transactions, and a gain on sale of investment wasrecorded in the second quarter of 2003, when the share transfer was completed.

 

OnNovember 5, 2002, we entered into a loan agreement with Entrx Corporation,under which Entrx agreed to lend us up to $2.5 million in three separateadvances.  We received the first advanceof $1 million on November 4, 2002.  On February 19, 2003, this loan agreementwas amended.  In connection with theamendment, we received the second advance of $750,000 during the first quarterof 2003, but waived our right to receive the third advance.  On March 31, 2003, all principal and accrued interesttotaling $1.76 million was, pursuant to the loan agreement, converted into415,340 shares of NextNet Wireless Series A Preferred Stock. The conversionprice was $4.23 per share, which was the per share price (on acommon share equivalent basis, without giving effect to differences in rightsor to anti-dilution provisions or any other purchase price adjustments setforth in the NextNet loan agreement) that NextNet agreed to receive for a saleof other preferred stock.

 

All NextNet shares that wesold were subject to the right of first refusal on the parts of NextNet and theholders of the Series B Preferred Stock of NextNet.

 

*Duringthe first quarter of 2004, NextNet was acquired by a privately-heldcommunications industry company, Clearwire Corporation (“Clearwire”).  Our NextNet shares were converted intowarrants to purchase up to 59,114 shares of common stock of Clearwire.  We may exercise the warrants in all or inpart*at an exercise price of$4.00 per share (the “Clearwire Warrants”), through the earliest of March 16, 2010, orcertain defined “Liquidity Events”, which include a change of control or apublic offering of the acquirer’s shares.

 

In connection withthe promotion of Michael H. Carrel to President and CEO of Zamba on June 30,2004, Zamba’s Board of Directors agreed to assign to Mr. Carrel all of theClearwire Warrants.  Zamba and Mr. Carrelhave entered into an agreement to assign the Clearwire Warrants, whichassignment is scheduled to occur on January 3, 2005.

The Board’s decision toassign the Clearwire Warrants to Mr. Carrel was based on the fact that Mr.Carrel did not receive an increase in cash compensation upon his promotion tobecome Zamba’s President and Chief Executive Officer, even though he retainedhis prior responsibilities as Zamba’s Chief Financial Officer.  In

 

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lieu of increasing hiscash compensation, and in recognition of Mr. Carrel’s performance in his priorrole as Chief Financial Officer, which included his success in funding Zamba’soperations during 2002 and 2003 by disposing of the Next Net shares, Zamba’sBoard of Directors believed that it was appropriate to assign the ClearwireWarrants to Mr. Carrel.

 

Note J. Income Taxes:

 

                Wehave not recorded any current or deferred income tax provision for any of theperiods presented since we have a net operating loss carryforward.  Because of the uncertainty about whether wewill have taxable earnings in the future, we have not reflected any benefit ofsuch net operating loss carryforwards in the accompanying consolidatedfinancial statements.  At September 30,2004, we had approximately $85 million of net operating loss carryforwardsremaining, which begin to expire in 2005. The use of these carryforwards in any one year may be limited underInternal Revenue Code Section 302 due to significant ownership changes.

 

Note K. Legal Matters:

 

In September 2004, anarbitration hearing relating to a legal claim brought by a former employee wasindefinitely postponed as the parties work toward a final resolution of thematter.  The hearing was originallyscheduled to commence on November 10, 2004. For the three months ended September 30, 2004 we incurred $239,000 incosts related to this matter.

 

We are subject to variouslegal proceedings and claims that arise in the ordinary course of business thatwe do not believe are material either separately or in the aggregate.

 

Note L.   Major Customers andRelated Party Information:

 

A portionof our revenues have been derived from significant customers for the three andnine month periods ended September 30, 2004 and 2003 as follows:

 

| ** **          | ** ** | **Three Months**        | ** ** | **Nine Months**         | ** ** |
|---------------------|------------|-------------------------|------------|-------------------------|------------|
| ** **          | ** ** | **Ended September 30,** | ** ** | **Ended September 30,** | ** ** |
|                |       | **2004**                | ** ** | **2003**                | ** ** | **2004** | ** ** | **2003** |   |
| Customer 1          |       | 27                      | %          | 17                      | %          | 25 | % | 19 | % |
| Customer 2          |       | 19                      | %          | 5                       | %          | 16 | % | 11 | % |
| Customer 3 - think3 |       | 11                      | %          | 0                       | %          | 12 | % | 0 | % |
| Customer 4          |       | 8                       | %          | 41                      | %          | 14 | % | 21 | % |
| Customer 5          |       | 1                       | %          | 14                      | %          | 10 | % | 11 | % |

 

Aportion of our revenue has been derived from related parties.   During the three and nine months endedSeptember 30, 2004, $200,000 and $663,000, respectively, was from think3, whichrepresented 11% and 12% of our total revenue for the three and nine monthperiods ended September 30, 2004, respectively. Our chairman, Joseph B. Costello, is also the chairman of think3.  Also, $45,000 and $76,000 of our revenue forthe three and nine months ended September 30, 2004, respectively, was derivedfrom NextNet.  See Note I for additionaldisclosures related to NextNet.

 

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

 

**Overview**

 

Zamba Corporation is a customer careservices company.  We help our clients bemore successful in acquiring, servicing, and retaining their customers.  Having served over 300clients, Zamba is focused exclusively on customer-centric services by leveragingbest practices and best-in-class technologies to enable insightful, consistentinteractions across all customer touch points. We providestrategy and business process consulting, as well as customization and systemsintegration for software applications, which we call “packages,”

 

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that our clients purchase from third parties.  Based on our expertise andexperience, we have created a framework of interdependent processes andtechnologies to help our clients, including strategy, analytics and marketing,contact center, content and commerce, field sales, field service, andenterprise integration.

 

Our revenues and earningshistorically have fluctuated from quarter-to-quarter based on the number, size,and scope of projects in which we are engaged, the contractual terms and degreeof completion of such projects, any delays incurred in connection with aproject, the adequacy of provisions for losses, the accuracy of estimates ofresources required to complete ongoing projects, general economic conditions,and other factors.  Consequently, theresults of operations described in this report may not be indicative of resultsto be achieved in future periods.  Inaddition, revenues from a large client may constitute a significant portion ofour total revenues in any particular quarter.

 

Our operating results forthe three and nine months ended September 30, 2004 and 2003 were adverselyaffected by rate pressures caused by the increase in customer usage of offshoredevelopers.  Also, many companies continueto delay decisions on information technology consulting projects, or havecancelled the projects altogether.  The industrycontinues to be challenged as global economic and political conditions causecompanies to be cautious about increasing their use of consulting services evenas the demand for outsourcing continues to increase.

 

We also continue toexperience pricing pressures from competitors, as well as from clientsexperiencing pressures to control costs. In addition, the growing use of offshore resources to provide lower-costservice delivery capabilities within our industry continues to be a source ofpressure on our revenues and operating margins. Our utilization of our personnel, which is calculated as the percentageof the available working hours for which our consultants are performingbillable services, was strong during the first three quarters of 2004, albeitbased on a reduced headcount.

 

The primary categories ofoperating expenses include cost of services, sales and marketing, and generaland administrative costs. Cost of services is primarily driven by the cost ofclient-service personnel, which consists mainly of compensation, sub-contractorand other personnel costs, and non-payroll outsourcing costs. Cost of servicesas a percentage of revenues is driven by the relatively high labor costs in themarketplace for the type of highly skilled consultants we employ and the rateof utilization of our client-service workforces. Sales and marketing expenseis driven primarily by business-development activities; the development of newservice offerings; the level of concentration of clients in a particularindustry or market; and client-targeting, image-development andbrand-recognition activities. General and administrative costs primarily includecosts for office personnel, information systems and office space.  We seek to manage our general andadministrative costs at levels consistent with changes in activity levels inour business, but many of these costs are fixed and we are generally not ableto reduce them quickly, if at all, if our business activity is reduced.

 

Our cost management strategy continues to be to anticipate changes indemand for our services and to identify cost management initiatives. Weaggressively plan and manage our payroll costs to meet the anticipated demandfor our services because our operating expenses can be significantly affectedby variable compensation costs.

 

OnAugust 6, 2004, we signed a definitive merger agreement with TechnologySolutions Company (TSC) under which we will be acquired by TSC.  TSC is a consulting company that deliversbusiness benefits through the application of information technology.  TSC’s common stock is quoted on NASDAQ underthe symbol “TSCC”.  Under the agreement, eachnon-dissenting Zamba common shareholder will receive 0.15 share of TSC commonstock for each share of Zamba common stock. The merger is subject to shareholder approval and other standard closingconditions.

 

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**Results ofOperations**

 

**Three months ended September 30,2004, compared to the three months ended September 30, 2003**

 

*Net Revenues*

Revenues decreasedapproximately 31% to $1.88 million in the third quarter of 2004 compared to$2.72 million in the third quarter of 2003. Revenues before reimbursements decreased approximately 30% to $1.74million in the third quarter of 2004 compared to $2.48 million in the thirdquarter of 2003.  The decrease was dueprimarily to a decrease in billable hours in the third quarter of 2004 as comparedto the third quarter of 2003.  The decreasein billable hours was primarily due to reduced headcount in the third quarterof 2004 as compared to the third quarter of 2003.

 

*Project and Personnel Costs*

Project andpersonnel costs consist primarily of payroll and payroll-related expenses for personneldedicated to client assignments.  Thesecosts represent the most significant expense we incur in providing clientservice.  Project costs were $1.05million or approximately 56% of net revenues in the third quarter of 2004compared to $1.53 million or approximately 56% of net revenues in the thirdquarter of 2003.  The decrease in projectcosts in dollar terms between these periods was due primarily to the decreasein our headcount.

 

*Reimbursable Expenses*

*               *Reimbursable expenses consist of out-of-pocket expenses incurred whileproviding services that are reimbursed by our clients.  Reimbursable expenses were $146,000 orapproximately 8% of net revenues in the third quarter of 2004 compared to$241,000 or approximately 9% of net revenues in the third quarter of 2003.  The decrease in reimbursable expenses betweenthese periods was primarily caused by our reduction in revenues in 2004.

 

*Sales and Marketing Costs*

Sales and marketing costsconsist primarily of salaries, employee benefits and travel expenses of salesand marketing personnel, as well as promotional costs.  Sales and marketing expenses were $204,000 orapproximately 11% of net revenues in the third quarter of 2004, compared to$304,000 or approximately 11% of net revenues in the third quarter of2003.  The decrease in dollar termsbetween these periods was primarily due to a reduced headcount and reducedcommission expense on a lower amount of revenues.

 

*General and Administrative Costs*

General and administrativecosts consist primarily of expenses associated with our management, informationtechnology, occupancy costs, and finance and administrative groups.  General and administrative expenses were$539,000 or approximately 29% of net revenues in the third quarter of 2004,compared to $839,000 or approximately 31% of net revenues in the third quarterof 2003.  A key factor in the decrease ingeneral and administrative costs was due to a reduced headcount.

 

*Non-recurring Items*

Non-recurring expenses were$490,000 or approximately 26% of net revenues in the third quarter of 2004,compared to $0 in the third quarter of 2003. Non-recurring items consisted primarily of $251,000 in costs relating tothe pending merger with TSC as well as $239,000 in costs relating to a legalclaim by a former employee.

 

*Interest Expense*

                Interest expense was $101,000 inthe third quarter of 2004 compared to $47,000 in the third quarter of2003.  The increase was primarily due toamortization of warrant charges and finance fees related to a note payable fromMay 2004.

 

*Income Taxes*

Because we are uncertain asto whether we will have taxable earnings in the future, we have not reflectedany benefit of additional net operating loss carryforwards in the accompanyingunaudited consolidated financial statements. The use of these carryforwards in any one year may be limited underInternal Revenue Code Section 302 due to significant ownership changes.

 

*Net Income (Loss)*

Our net loss for the quarterended September 30, 2004 was $648,000, or $0.02 per share, compared to a net lossfor the quarter ended September 30, 2003 of $237,000, or $0.01 per share.

 

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**Nine months ended September 30,2004, compared to the nine months ended September 30, 2003**

 

*Net Revenues*

Revenues decreasedapproximately 29% to $5.96 million for the nine months ended September 30, 2004compared to $8.35 million for the nine months ended September 30, 2003.  Revenues before reimbursements decreasedapproximately 28% to $5.50 million for the nine months ended September 30, 2004compared to $7.59 million for the nine months ended September 30, 2003.  The decrease was due primarily to a decreasein billable hours and average rate for the nine months ended September 30, 2004as compared to the nine months ended September 30, 2003.

 

*Project and Personnel Costs*

Project andpersonnel costs consist primarily of payroll and payroll-related expenses forpersonnel dedicated to client assignments. These costs represent the most significant expense we incur in providingclient service.  Project costs were $3.45million or approximately 58% of net revenues for the nine months endedSeptember 30, 2004 compared to $4.48 million or approximately 54% of netrevenues for the nine months ended September 30, 2003.  The decrease in project costs in dollar termsbetween these periods was due primarily to the decrease in our headcount.

 

*Reimbursable Expenses*

*               *Reimbursable expenses consist of out-of-pocket expenses incurred whileproviding services that are reimbursed by our clients.  Reimbursable expenses were $464,000 orapproximately 8% of net revenues for the nine months ended September 30, 2004compared to $759,000 or approximately 9% of net revenues for the nine monthsended September 30, 2003.  The decreasein reimbursable expenses between these periods was primarily caused by ourlower revenues in 2004.

 

*Sales and Marketing Costs*

Sales and marketing costsconsist primarily of salaries, employee benefits and travel expenses of salesand marketing personnel, as well as promotional costs.  Sales and marketing expenses were $572,000 orapproximately 10% of net revenues for the nine months ended September 30, 2004,compared to $829,000 or approximately 10% of net revenues for the nine monthsended September 30, 2003.  The decreasein costs between these periods was primarily due to a reduced headcount andreduced commission expense resulting from our reduced revenues.

 

*General and Administrative Costs*

General and administrativecosts consist primarily of expenses associated with our management, informationtechnology, occupancy costs, and finance and administrative groups.  General and administrative expenses were$1.93 million or approximately 32% of net revenues for the nine months endedSeptember 30, 2004, compared to $2.38 million or approximately 29% of netrevenues for the nine months ended September 30, 2003.  A key factor in the decrease in general andadministrative costs was due to a reduced headcount.

 

*Non-recurring Items*

Non-recurring expenses were$581,000 or approximately 10% of net revenues for the nine months ended September30, 2004, compared to $0 for the nine months ended September 30, 2003.  Non-recurring items consisted primarily of$251,000 in costs relating to the pending merger with TSC, $239,000 in costsrelating to a legal claim by a former employee and $76,000 in severance costs.

 

*Interest Expense*

                Interest expense was $187,000for the nine months ended September 30, 2004 compared to $94,000 for the ninemonths ended September 30, 2003.  Theincrease was primarily due to amortization of warrant charges and finance feesrelated to a note payable from May 2004.

 

*Extraordinary Gain onExtinguishment of Debt*

                Extraordinary gain onextinguishment of debt was $0 for the nine months ended September 30, 2004compared to $198,000 for the nine months ended September 30, 2003.  This represents a gain from an agreement topay off our long-term debt owed to a third party in the first quarter of 2003.

 

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*Income Taxes*

Because we are uncertain asto whether we will have taxable earnings in the future, we have not reflectedany benefit of additional net operating loss carryforwards in the accompanyingunaudited consolidated financial statements. The use of these carryforwards in any one year may be limited underInternal Revenue Code Section 302 due to significant ownership changes.

 

*Net Income (Loss)*

Our net loss for the ninemonths ended September 30, 2004 was $481,000, or $0.01 per share, compared to anet income for the nine months ended September 30, 2003 of $2.60 million, or$0.07 per share.  Our loss from operations,which does not include the gain on sale of NextNet shares, interest income andinterest expense, was $1,037,000 for the nine months ended September 30, 2004,compared to a loss from operations of $104,000 for the nine months endedSeptember 30, 2003.

 

**Critical Accounting Policies**

 

We have identified thepolicies below as critical to our business operations and the understanding ofour results of operations.  The impactand any associated risks to these policies on our business, financial conditionand results of operations is discussed throughout Management’s Discussion andAnalysis of Financial Condition and Results of Operations where these policiesaffect our reported financial results. Our preparation of this Form 10-Q requires us to make estimates and assumptionsthat affect the reported amount of assets and liabilities, disclosure ofcontingent assets and liabilities as of the date of our financial statements,and the reported amounts of revenue and expenses during the reporting period.  There can be no assurance that actual resultswill not differ from those estimates.

 

Ourcritical accounting policies are as follows:

 

•      Revenue Recognition;

 

•      Allowance for DoubtfulAccounts; and

 

•      Investmentin NextNet Wireless, Inc., which is now known as Clearwire Corporation

 

For a detailed discussion of the application of these and otheraccounting policies, see Note 1 of the notes to the consolidated financialstatements in our 2003 Annual Report on Form 10-K.

 

***Liquidity and Capital Resources***

 

At September 30, 2004, wehad approximately $186,000 in cash and cash equivalents, compared to $699,000at December 31, 2003. As of September 30, 2004, we had no significant capitalspending or purchase commitments, except for commitments related to the sale ormerger of Zamba.  We have a commitment topay a total of $75,000 in monthly payments over a 12-month period to aninvestment banker for financial advisory services.  We have recorded the $75,000 as a part of themerger costs in the third quarter of 2004. We have paid a total of $20,000 of this commitment as of September 30,2004.  The unpaid portion of the $75,000is due immediately upon the sale or merger of Zamba.  A contingent payment of $375,000 is alsopayable to this investment banker upon the sale or merger of Zamba.  We will record the $375,000 as an expenseupon completion of a sale or merger.  We had a working capital deficit of $940,000and a stockholders’ deficit of $744,000 as of September 30, 2004.

 

Cash used in operatingactivities was $1.28 million for the nine months ended September 30, 2004 andresulted primarily from our loss from operations of $1,037,000, as well as anincrease in accounts receivable of $307,000. For the nine months ended September 30, 2003, cash used in operatingactivities was $2.37 million, which resulted primarily from an increase inaccounts receivable of $1.18 million, and a decrease in accrued expenses of$1.55 million.

 

Cash used in investingactivities was $14,000 during the nine months ended September 30, 2004, andresulted from the purchase of property and equipment.  For the nine months ended September 30, 2003,cash provided from investing activities was $706,000, which resulted primarilyfrom proceeds from the sale of a portion of our NextNet shares.

 

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Cash provided by financingactivities was $785,000 for the nine months ended September 30, 2004 andconsisted primarily of proceeds of a note payable.  For the nine months ended September 30, 2003,cash provided by financing activities was $1.59 million, which consisted primarilyof an increase in the line of credit and proceeds of a short-term loan fromEntrx Corporation.  This loan wassubsequently converted into a sale of NextNet shares.  See Note I for further discussion regardingthis loan.

 

Future payments due under debt and leaseobligations as of September 30, 2004, are as follows (in thousands):

 

| ** **                            | ** ** | **Payments due by period** | ** ** |
|---------------------------------------|------------|----------------------------|------------|
| ** **                            | ** ** | ** **                 | ** ** | **Less than** | ** ** | ** ** | ** ** | ** ** | ** ** | **More than** | ** ** |
| **Contractual Obligations**           | ** ** | **Total**                  | ** ** | **1 Year** | ** ** | **1-3 Years** | ** ** | **3-5 Years** | ** ** | **5 Years** | ** ** |
| Accounts Receivable Puchase Agreement |       | $                          | 514        |   | $ | 514 |   | $ | — |   | $ | — |   | $ | — |   |
| Note Payable                          |       | 703                        |       | 597 |   | 106 |   | — |   | — |   |
| Operating Leases                      |       | 543                        |       | 120 |   | 419 |   | 4 |   | — |   |
| Total                                 |       | 1,760                      |       | $ | 1,231 |   | $ | 525 |   | $ | 4 |   | $ | — |   |
|                                       |            |                            |            |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

To fundoperations, we have an Accounts Receivable Purchase Agreement with SiliconValley Bank. This agreement entitles us to borrow up to a maximum of $2.0million based on 80% of eligible receivables, and is secured by virtually allof our assets.  Borrowings under thisagreement bear interest at a monthly rate of 1% of the average daily balance outstandingduring the period.  Additionally, on eachreconciliation date, we pay an administrative fee equal to 0.25% of the faceamount of each receivable purchased by Silicon Valley Bank during thatreconciliation period.  This agreementexpires on July 29, 2005.  However, bothparties have the right to terminate this Agreement at any time.  The amount outstanding under this agreementwas $514,000 at September 30, 2004.

 

In May 2004, we issued a$750,000, 12% promissory note to Pandora Select Partners, L.P. The note waspayable in interest only through August 2004, and thereafter principal andinterest is payable in equal monthly installments over the next 15 months.

 

Subsequent to September30, 2004, we entered into a loan agreement with TSC under which we haveborrowed the aggregate amount of $165,000 primarily for costs and legal feesrelated to a legal claim and the negotiation and documentation of the TSCmerger agreement.  We are to pay theprincipal balance of this loan plus 8% per annum simple interest in April 2005.

 

We believe that our existingcash and cash equivalents, together with proceeds received in May 2004, fromthe promissory note as described above, cash provided from operations, and ourborrowings from the Accounts Receivable Purchase Agreement with Silicon ValleyBank, should be sufficient to meet our working capital and capital expenditurerequirements through at least December 31, 2004.  However, this estimate is based in part on our goodfaith projections regarding revenue and the timing of collection ofreceivables.  There can be no assurancethat revenue or the timing of collection of receivables will occur on the basisthat we are projecting.  Beyond thatdate, our ability to continue as a going concern depends on our ability to achieveand sustain profitability and generate positive cash flow from operations,continue to access borrowing with Silicon Valley Bank, and obtain additionalfunding, if necessary.

 

We will continue to explorepossibilities for additional financing, but we cannot be certain thatadditional financing will be available to us on favorable terms, if atall.  Although Technology SolutionsCompany, which on August 6, 2004, signed a definitive agreement to acquire us,has loaned us $165,000, there is no assurance that TSC will lend us anyadditional amounts, even if such amounts are necessary to meet our ongoingcommitments.  If our financialperformance adversely affects our ability to obtain funds secured by ouraccounts receivable, and we are unable to obtain additional financing, we maynot be able to continue operations beyond December 31, 2004.

 

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###### ** **

###### **RISK FACTORS**

 

                ZambaCorporation desires to take advantage of the “safe harbor” provisions of thePrivate Securities Litigation Reform Act of 1995 and is filing this cautionarystatement in connection with the reform act. This Quarterly Report onForm 10-Q and any other written or oral statements made by or on ourbehalf may include forward-looking statements that reflect our current viewswith respect to future events and future financial performance. The words “believe,”“expect,” “anticipate,” “intend,” “estimate,” “forecast,” “project,” “could,” “may,”and the negatives of such words, and other similar expressions identifyforward-looking statements.

 

                Wewish to caution you that any forward-looking statements made by us or on ourbehalf are subject to uncertainties and other factors that could cause suchstatements to be wrong. Some of these uncertainties and other factors arelisted under the caption “Risk Factors” below. Although we have attempted to list comprehensively these importantfactors, we also wish to caution investors that other factors may prove to beimportant in the future in affecting our operating results.  New factors emerge from time to time, and itis not possible for us to predict all of these factors, nor can we assess theimpact each factor or combination of factors may have on our business.

 

                Youare further cautioned not to place undue reliance on those forward-lookingstatements because they speak only of our views as of the date the statementswere made. We undertake no obligation to publicly update or revise anyforward-looking statements, whether as a result of new information, futureevents or otherwise.

 

**If our merger with TSC is not completed beforeDecember 31, 2004, we may not be able to continue as a going concern.**

 

Ourability to continue as a going concern depends upon our ability to generatecash from operations and obtain additional funding as needed.  If our merger with TSC is not completed, andwe were to continue as an independent company, and if we were unable toincrease our revenues significantly or otherwise raise capital, we may not beable to meet our working capital and capital expenditure requirements beyondDecember 31, 2004.

 

**If we do not grow our revenues enough to regainprofitability, we will have to obtain additional financing to continueoperations.**

 

Ournet loss in the third quarter of 2004 was $648,000, and our loss fromoperations for the nine months ended September 30, 2004, was $1,037,000.  Our quarterly revenues decreased to $1.88million in the third quarter of 2004 from $2.72 million in the third quarter of2003.  As of September 30, 2004, we hadonly $186,000 in cash and $945,000 in accounts receivable, in comparison to ourliabilities on that date of $2.36 million. If we are unable to increase our revenues significantly, we may need toraise additional capital to offset our losses from operations.  Without additional capital, we may not beable to meet our working capital and capital expenditure requirements beyondDecember 31, 2004.  There is no assurancethat we will be able to obtain any financing or that, if we are successful infinding financing, it will be on favorable terms.

 

Overthe past two years, we have substantially funded our operations through privatesales of Zamba common stock and shares of Series A Preferred Stock in NextNetWireless, Inc., from which we have received approximately $10.1 million, but wedo not expect to raise any further material amounts from sales of thisinvestment.  We have also supported ouroperations by borrowing funds under our banking relationship with SiliconValley Bank, which, since July 29, 2002, has been in the form of an AccountsReceivable Purchase Agreement.  However,Silicon Valley Bank can terminate the agreement at any time or reject any orall of our requests for advances, which could cause us to be dependent upon thetimeliness of our collections from our clients. We have also obtained $750,000 under a debt agreement with PandoraSelect Partners, L.P., and $165,000 from a loan from Technology SolutionsCompany, but there is no assurance that we will be able to receive anyadditional amounts from these or other lenders.

 

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Ifwe are unable to increase our revenues, manage our growth and projectseffectively, or obtain additional financing, we may realize a material adverseeffect in the quality of our services and products, our ability to retain keypersonnel, and our business, financial condition and results of operations.

 

**The market for our stock issubject to rules and risks relating to low-priced stock.**

 

Our common stock iscurrently listed for trading on the NASD Over-The-Counter Bulletin Board and issubject to the “penny stock rules” adopted pursuant to Section 15(g) of theSecurities Exchange Act of 1934, as amended. In general, the penny stock rules apply to non-Nasdaq or non-nationalstock exchange companies whose common stock trades at less than $5.00 per shareor which have tangible net worth of less than $5,000,000 ($2,000,000 if thecompany has been operating for three or more years).  Such rules require, among other things, thatbrokers who trade “penny stock” to persons other than “established customers”complete certain documentation, make suitability inquiries of investors andprovide investors with certain information concerning trading in the security,including a risk disclosure document, quote information, broker’s commissioninformation and rights and remedies available to investors in pennystocks.  Many brokers have decided not totrade “penny stock” because of the requirements of the penny stock rules and,as a result, the number of broker-dealers willing to act as market makers insuch securities is limited.  The “pennystock rules,” therefore, may have an adverse impact on the market for ourcommon stock and may affect our ability to attract competitive funding.  Further, because our stock is currentlylisted on the Over-The-Counter Bulletin Board, this means that, among otherthings, our stock may be less liquid than stocks quoted on the Nasdaq.  As a result, investors in our common stockmay have less of an ability to sell stock holdings or receive accurate stockprice quotations.

 

**The loss of asignificant client could impact our operations.**

 

                We derive a substantial part of our revenues from a small number ofclients.  During the quarter endedSeptember 30, 2004, three clients each comprised more than 10% of our revenues,our top five clients comprised 74% of our revenues, and our top ten clientscomprised 90% of our revenues.  The lossof one or more of these clients could materially adversely affect our business,financial condition and results of operations. Although these large clients vary from time to time and our long-termrevenues do not rely on any one client, our revenues could be negativelyaffected if we were to lose one of our top clients or if we were to fail tocollect a large account receivable.

 

In addition, many of our contracts are short-term andour clients may be able to reduce or cancel our services without incurring anypenalty. If our clients reduce or terminate our services, we would lose revenueand would have to reallocate our employees and our resources to other projectsto attempt to minimize the effects of that reduction or termination.Accordingly,terminations, including any termination by a major client, couldadversely impact our revenues. We believe the uncertain economic environmentincreases the probability that services may be reduced or canceled.

 

**If we estimate incorrectly the timerequired to complete our projects, we will lose money on fixed-price contracts.**

 

A portion of our contracts are fixed-price contracts,rather than contracts in which the client pays us on a time-and-materials basis.We must estimate the number of hours and the materials required before enteringinto a fixed-price contract. Our future success will depend on our ability tocontinue to set rates and fees accurately and to maintain targeted rates ofemployee utilization and project quality. If we fail to accurately estimate thetime and the resources required for a project, any required increase in thetime and resources to complete the project could cause our profits to decline.

 

**Wemay be liable to our clients for damages caused by our services or by ourfailure to remedy system failures.**

 

Many of our projects involve technology applicationsor systems that are critical to the operations of our clients’ businesses andhandle very large volumes of transactions. If we fail to perform our servicescorrectly, we may be unable to deliver applications or systems to our clientswith the promised functionality or within the promised time frame, or tosatisfy the required service levels for support and maintenance. While we havetaken

 

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precautionary actions to create redundancy and back-up systems, anysuch failures by us could result in claims by our clients for substantialdamages against us. Although we attempt to limit the amount and type of ourcontractual liability for defects in the applications or systems we provide,and carry insurance coverage, which mitigates this liability in certaininstances, we cannot be assured that these limitations and insurance coverageswill be applicable and enforceable in all cases. Even if these limitations andinsurance coverages are found to be applicable and enforceable, our liabilityto our clients for these types of claims could be material in amount and affectour business, financial condition and results of operations.

 

**Undermany of our contracts, the payment of some or all of our fees is conditionedupon our performance.**

 

Many clients require us to include in our contractspayment incentives related to factors such as costs incurred, benefitsproduced, goals attained and adherence to schedule.  In these contracts, payment of all or aportion of our fees is contingent upon our clientsmeeting revenue-enhancement, cost-saving or othercontractually defined goals which are increasing in complexity and oftendependent in some measure on our clients’ actual levels of businessactivity.  The trend to include greaterincentives in our contracts related to additional revenues generated, costsincurred, benefits produced or our adherence to schedule may increase thevariability in revenues and margins earned on such contracts.

 

**We face difficulties growing ourrevenues.**

 

Our utilization rates aremeasured by the percentage of hours billed by our consultants among all hoursthey are available to work on projects. Over most of the past several quarters, our utilization rates have beenhigh, relative to historical norms, which means that we would need to increaseour number of billable consultants or use additional subcontractors ifadditional revenue opportunities were to become available.  There is no guarantee additional revenueopportunities will become available or that, if they were to become available,we would be able to retain consultants or subcontractors with the appropriateskills to perform the services for those opportunities.  Further, we face continuous pressure fromseveral directions on the rates we charge our clients.  Many of our competitors, including largerconsulting firms with greater financial and personnel resources than we have,smaller consulting firms with lower cost structures, and large consulting firmsin offshore locations such as India and Romania that have access to pools oftechnical consultants at lower costs than consultants based in the UnitedStates, may be willing to provide the services we provide at a lowerincremental cost than what we charge. Any negative changes to our retention of consultants, utilization orbillable rates could materially adverselyaffect our business, financial condition and results of operations.

 

**Ourability to become profitable will suffer if we are not able to maintain ourpricing and utilization rates and control our costs. A continuation of currentpricing pressures could result in permanent changes in pricing policies anddelivery capabilities.**

** **

Our profit margins are largely a function of the rateswe are able to recover for our services and the utilization rate, orchargeability, of our professionals. Accordingly, if we are not able tomaintain the pricing for our services or an appropriate utilization rate forour professionals without corresponding cost reductions, our profit margin andour profitability will suffer. The rates we are able to recover for ourservices are affected by a number of factors, including:

 

•      ourclients’ perceptions of our ability to add value through our services;

•      competition;

•      introductionof new services or products by us or our competitors;

•      pricingpolicies of our competitors;

•      ourability to accurately estimate, attain and sustain engagement revenues, marginsand cash flows over increasingly longer contract periods; and

•      theuse of globally sourced, lower-cost service delivery capabilities by ourcompetitors and our clients.

 

Our utilization rates are also affected by a number of factors,including:

 

•      seasonaltrends, primarily as a result of our hiring cycle;

•      ourability to transition employees from completed projects to new engagements;

 

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•      ourability to forecast demand for our services and thereby maintain an appropriateheadcount in each of our workforces; and

•      our ability to manage attrition.

 

**Wehave significant fixed operating costs, which may be difficult to adjust inresponse to unanticipated fluctuations in revenues.**

 

A high percentage of our operating expenses,particularly personnel, rent and depreciation, are fixed in advance of anyparticular quarter. As a result, an unanticipated decrease in the number oraverage size of, or an unanticipated delay in the scheduling for, our projectsmay cause significant variations in operating results in any particular quarterand could have a material adverse effect on operations for that quarter.

 

An unanticipated terminationor decrease in size or scope of a major project, a client’s decision not toproceed with a project we anticipated or the completion during a quarter of severalmajor client projects could require us to maintain underutilized employees andcould have a material adverse effect on our business, financial condition andresults of operations. Our revenues and earnings may also fluctuate fromquarter to quarter because of such factors as:

 

•      thecontractual terms and timing of completion of projects, including achievementof certain business results;

•      anydelays incurred in connection with projects;

•      theadequacy of provisions for losses and bad debts;

•      theaccuracy of our estimates of resources required to complete ongoing projects;

•      lossof key highly skilled personnel necessary to complete projects; and

•      generaleconomic conditions.

 

**Our future use of net operatingloss carryforwards (NOL’s) may be limited.**

 

                Our current cash flow may bebenefited by our substantial NOL’s, which can eliminate or reduce the federaland state income taxes on any future taxable income.  The NOL’s could be lost or significantlyreduced if there is a significant change in our major shareholders.

 

**We face additional risks that areincidental to our business.**

 

•      Our business may suffer unless globaleconomic conditions improve.

•      The price of our common stock couldfluctuate significantly, which may result in losses for investors.

•      Anti-takeover effects of Delaware law, ourStockholder Rights Plan, and our change in control severance arrangements couldprevent a change in control of our company.

 

**Item 3.**** Quantitative and Qualitative Disclosures About Market Risk**

 

We are not currentlyexposed to market risk from changes in security prices and interest rates. Wedo not invest in any derivative financial instruments. Excess cash is investedin short-term low-risk vehicles, such as money market investments. Changes ininterest rates are not expected to have a material adverse effect on ourbusiness, financial condition or results of operations.

 

**Item 4.****  Controls and Procedures**

 

Ourprincipal executive officer and principal financial officer have evaluated theeffectiveness of the design and operation of our disclosure controls andprocedures as of the end of the period covered by this report (the “EvaluationDate”). Based on such evaluation, such officers have concluded that, as of theEvaluation Date, our disclosure controls and procedures were effective toensure that information required to be disclosed in the reports we file andsubmit under the Securities Exchange Act of 1934, as amended, is recorded,processed, summarized and reported within the time periods specified in theSecurities and Exchange Commission’s rules and forms.

 

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There has been no change inour internal control over financial reporting during the period covered by thisreport that has materially affected, or is reasonably likely to materiallyaffect, our internal control over financial reporting.

 

**PARTII.  OTHER INFORMATION**

 

Item 1.  Legal Proceedings

 

In September 2004, anarbitration hearing relating to a legal claim brought by a former employee wasindefinitely postponed as the parties work toward a final resolution of thematter.   The hearing was originallyscheduled to commence on November 10, 2004. For the three months ended September 30, 2004, we incurred $239,000 incosts related to this matter.

 

Weare subject to various legal proceedings and claims that arise in the ordinarycourse of business, which we do not believe to be material either separately orin the aggregate.

 

Item 2.    Unregistered Sales of Equity Securities and Use ofProceeds

 

None.

 

Item 3.    Defaults Upon Senior Securities

 

                None.

 

Item 4.    Submission of Matters to a Vote of Security Holders

 

                None.

 

Item 5.    Other Information

 

                None.

 

Item6.    Exhibits

 

(a)           Exhibits:

 

10.01       PromissoryNote between Zamba Corporation and Technology Solutions Company,

dated October 20, 2004.

 

31.01       Certification ofPrincipal Executive Officer pursuant to Exchange Act Rule 13a-14(a).

 

31.02       Certification ofPrincipal Financial Officer pursuant to Exchange Act Rule 13a-14(a).

 

32            Certificationspursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of theSarbanes-Oxley Act of 2002.

 

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SIGNATURES

 

Pursuant to the requirements of theSecurities Exchange Act of 1934, the Registrant has duly caused this report tobe signed on its behalf by the undersigned thereunto duly authorized.

 

 
|   | ZAMBA  CORPORATION        |
|--------|---------------------------|
|   |                      |   |
|   | By:                       | /s/  Michael H. Carrel |
|   |                      | Michael H. Carrel |
|   |                      | President and Chief  Executive Officer |
|   |                      |   |
|   | By:                       | /s/ Michael H. Carrel |
|   |                      | Michael H. Carrel |
|   |                      | Chief Financial Officer |
|   |                      | (Principal Financial and  Accounting Officer) |
|   |                      |   |
|   | Dated:  November 15, 2004 |

 

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