**SECURITIES AND EXCHANGE COMMISSION**

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

 

**FORM 10-Q**

 

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

 

#### **For the quarterly periodended June 30, 2003**

 

**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 FileNumber 0-22718**

 

**ZAMBA CORPORATION**

(Exact name of Registrant as specified in its charter)

 

| **Delaware**                                                           |   | **#41-1636021**     |
|------------------------------------------------------------------------|--------|---------------------|
| (State or other jurisdiction of                                        |   | (I.R.S. Employer    |
| incorporation or organization)                                         |   | Identification No.) |
|                                                                   |   |                |
| **3033 Excelsior Boulevard, Suite 200,  Minneapolis, Minnesota 55416** |
| (Address of principal executive offices, including zip code)           |
|                                                                   |   |                |
| **(952) 832-9800**                                                     |
| (Registrant’s telephone number, including area code)              |

 

Indicate by check mark whetherthe Registrant (1) has filed all reports required to be filed by Section 13 or15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (orfor such shorter period that the Registrant was required to file such reports),and (2) has been subject to such filing requirements for the past 90 days.
| YES | ý | NO | o |
|-----|--------|----|---|

 

Indicate by check mark whetherthe Registrant is an accelerated filer (as defined in Rule 12b-2 of theExchange Act).
| YES | o | NO | ý |
|-----|---|----|--------|

 

Indicate the number of sharesoutstanding of each of the issuer’s classes of common stock, as of August 8,2003.

 

| **Class**                     |   | **Outstanding at  August 8, 2003** |
|-------------------------------|--------|------------------------------------|
| Common Stock, $0.01 par value |   | 38,865,934                         |

 

 

----

 

ZAMBA CORPORATION

 

INDEX

 
| PART I — Financial Information |                                                                                             |
|-------------------------------------|--------------------------------------------------------------------------------------------------|
|                                |                                                                                             |   |
| Item 1.                             | Financial Statements (Unaudited)                                                                 |   |
|                                |                                                                                             |   |
|                                | Consolidated Statements of Operations for  theThree and Six  Months Ended June 30, 2003 and 2002 |   |
|                                |                                                                                             |   |   |
|                                | Consolidated Balance Sheets as ofJune 30, 2003 and December  31, 2002                            |   |
|                                |                                                                                             |   |   |
|                                | Consolidated Statements of Cash Flows for  theSix Months Ended June 30, 2003  and 2002           |   |
|                                |                                                                                             |   |   |
|                                |     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.                             | Changes in 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  and Reports on Form 8-K                                                                |   |
|                                |                                                                                             |   |
| Signatures                          |                                                                                             |

 

2

----

 

**Part I.Financial Information**

**Item 1:  FinancialStatements**

**ZAMBA CORPORATION**

**CONSOLIDATED STATEMENTS OF OPERATIONS**

**(Unaudited)**

 

**(Inthousands, except per share data)**

 
|                                                |   | **Three months  ended  June 30,** |       | **Six months  ended  June 30,** |       |
|-----------------------------------------------------|--------|-----------------------------------|------------|---------------------------------|------------|
|                                                |   | **2003**                          |       | **2002**                        |       | **2003** |   | **2002** |   |
| **Revenues:**                                       |   |                              |       |                            |       |   |   |   |   |
| **Professional  services**                          |   | **$**                             | **2,601**  | ** **                      | **$**      | **2,230** | ** ** | **$** | **5,111** | ** ** | **$** | **5,230** | ** ** |
| **Reimbursable  expenses**                          |   | **253**                           | ** ** | **283**                         | ** ** | **517** | ** ** | **518** | ** ** |
| **Total  revenue**                                  |   | **2,854**                         | ** ** | **2,513**                       | ** ** | **5,628** | ** ** | **5,748** | ** ** |
|                                                |   |                              |       |                            |       |   |   |   |   |
| **Costs and  expenses:**                            |   |                              |       |                            |       |   |   |   |   |
| **Project  and personnel costs**                    |   | **1,513**                         | ** ** | **2,596**                       | ** ** | **2,955** | ** ** | **5,917** | ** ** |
| **Reimbursable  expenses**                          |   | **253**                           | ** ** | **283**                         | ** ** | **517** | ** ** | **518** | ** ** |
| **Sales and  marketing**                            |   | **275**                           | ** ** | **478**                         | ** ** | **524** | ** ** | **1,336** | ** ** |
| **General  and administrative**                     |   | **764**                           | ** ** | **2,161**                       | ** ** | **1,546** | ** ** | **4,576** | ** ** |
| **Restructuring  and unusual charges**              |   | **—**                        | ** ** | **1,636**                       | ** ** | **—** | ** ** | **3,321** | ** ** |
| **Total  costs and expenses**                       |   | **2,805**                         | ** ** | **7,154**                       | ** ** | **5,542** | ** ** | **15,668** | ** ** |
|                                                |   |                              |       |                            |       |   |   |   |   |
| **Income  (loss) from operations**                  |   | **49**                            | ** ** | **(4,641**                      | **)**      | **86** | ** ** | **(9,920** | **)** |
|                                                |   |                              |       |                            |       |   |   |   |   |
| **Other  income (expense):**                        |   |                              |       |                            |       |   |   |   |   |
| **Gain on  sale of NextNet shares**                 |   | **750**                           | ** ** | **2,655**                       | ** ** | **2,603** | ** ** | **2,655** | ** ** |
| **Interest  income**                                |   | **—**                        | ** ** | **3**                           | ** ** | **—** | ** ** | **11** | ** ** |
| **Interest  expense**                               |   | **(20**                           | **)**      | **(59**                         | **)**      | **(47** | **)** | **(124** | **)** |
| **Other  income (expense), net**                    |   | **730**                           | ** ** | **2,599**                       | ** ** | **2,556** | ** ** | **2,542** | ** ** |
|                                                |   |                              |       |                            |       |   |   |   |   |
| **Income  (loss) before extraordinary item**        |   | **779**                           | ** ** | **(2,042**                      | **)**      | **2,642** | ** ** | **(7,378** | **)** |
|                                                |   |                              |       |                            |       |   |   |   |   |
| **Extraordinary  gain from extinguishment of debt** |   | **—**                        | ** ** | **—**                      | ** ** | **198** | ** ** | **—** | ** ** |
|                                                |   |                              |       |                            |       |   |   |   |   |
| **Net income  (loss)**                              |   | **$**                             | **779**    | ** **                      | **$**      | **(2,042** | **)** | **$** | **2,840** | ** ** | **$** | **(7,378** | **)** |
|                                                |   |                              |       |                            |       |   |   |   |   |
| **Basic net  income (loss) per share:**             |   |                              |       |                            |       |   |   |   |   |
| **Income  (loss) before extraordinary item**        |   | **$**                             | **0.02**   | ** **                      | **$**      | **(0.05** | **)** | **$** | **0.07** | ** ** | **$** | **(0.19** | **)** |
| **Extraordinary  gain from extinguishment of debt** |   | **—**                        | ** ** | **—**                      | ** ** | **—** | ** ** | **—** | ** ** |
| **Basic net  income (loss) per share:**             |   | **$**                             | **0.02**   | ** **                      | **$**      | **(0.05** | **)** | **$** | **0.07** | ** ** | **$** | **(0.19** | **)** |
|                                                |   |                              |       |                            |       |   |   |   |   |
| **Diluted  net income (loss) per share:**           |   |                              |       |                            |       |   |   |   |   |
| **Income  (loss) before extraordinary item**        |   | **$**                             | **0.02**   | ** **                      | **$**      | **(0.05** | **)** | **$** | **0.07** | ** ** | **$** | **(0.19** | **)** |
| **Extraordinary  gain from extinguishment of debt** |   | **—**                        | ** ** | **—**                      | ** ** | **—** | ** ** | **—** | ** ** |
| **Diluted  net income (loss) per share**            |   | **$**                             | **0.02**   | ** **                      | **$**      | **(0.05** | **)** | **$** | **0.07** | ** ** | **$** | **(0.19** | **)** |
|                                                |   |                              |       |                            |       |   |   |   |   |
| **Weighted  average shares outstanding:**           |   |                              |       |                            |       |   |   |   |   |
| **Basic**                                           |   | **38,832**                        | ** ** | **38,938**                      | ** ** | **38,827** | ** ** | **37,998** | ** ** |
| **Diluted**                                         |   | **40,130**                        | ** ** | **38,938**                      | ** ** | **40,125** | ** ** | **37,998** | ** ** |

 

**Theaccompanying notes are an integral part of the consolidated financialstatements.**

 

3

----

 

**ZAMBACORPORATION**

**CONSOLIDATED BALANCE SHEETS**

**(Unaudited)**

 

**(In thousands, except per share data)**

 
|                                                                                                                                                                 |   | **June 30,  2003** |       | **December  31,  2002** |       |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|--------------------|------------|-------------------------|------------|
| **ASSETS**                                                                                                                                                           |   |               |       |                    |       |
| **Current  assets:**                                                                                                                                                 |   |               |       |                    |       |
| **Cash and  cash equivalents**                                                                                                                                       |   | **$**              | **345**    | ** **              | **$**      | **549** | ** ** |
| **Accounts  receivable, net**                                                                                                                                        |   | **1,787**          | ** ** | **662**                 | ** ** |
| **Unbilled  receivables**                                                                                                                                            |   | **386**            | ** ** | **470**                 | ** ** |
| **Prepaid  expenses and other current assets**                                                                                                                       |   | **219**            | ** ** | **507**                 | ** ** |
| **Total  current assets**                                                                                                                                            |   | **2,737**          | ** ** | **2,188**               | ** ** |
|                                                                                                                                                                 |   |               |       |                    |       |
| **Property  and equipment, net**                                                                                                                                     |   | **449**            | ** ** | **531**                 | ** ** |
| **Other  assets**                                                                                                                                                    |   | **90**             | ** ** | **102**                 | ** ** |
| **Total assets**                                                                                                                                                     |   | **$**              | **3,276**  | ** **              | **$**      | **2,821** | ** ** |
| **LIABILITIES AND STOCKHOLDERS’ EQUITY  (DEFICIT)**                                                                                                             |   |               |       |                    |       |
| **Liabilities:**                                                                                                                                                     |   |               |       |                    |       |
| **Line of  credit**                                                                                                                                                  |   | **$**              | **875**    | ** **              | **$**      | **298** | ** ** |
| **Short-term  loan**                                                                                                                                                 |   | **—**         | ** ** | **1,000**               | ** ** |
| **Current  installments of long-term debt**                                                                                                                          |   | **4**              | ** ** | **266**                 | ** ** |
| **Accounts  payable**                                                                                                                                                |   | **171**            | ** ** | **584**                 | ** ** |
| **Accrued  expenses**                                                                                                                                                |   | **1,450**          | ** ** | **2,593**               | ** ** |
| **Deferred  revenue**                                                                                                                                                |   | **150**            | ** ** | **57**                  | ** ** |
| **Deferred  gain on sale of NextNet shares**                                                                                                                         |   | **—**         | ** ** | **25**                  | ** ** |
| **Total  current liabilities**                                                                                                                                       |   | **2,650**          | ** ** | **4,823**               | ** ** |
|                                                                                                                                                                 |   |               |       |                    |       |
| **Long-term  debt, less current installments**                                                                                                                       |   | **—**         | ** ** | **164**                 | ** ** |
| **Other  long-term liabilities**                                                                                                                                     |   | **110**            | ** ** | **164**                 | ** ** |
| **Commitments  and contingencies**                                                                                                                                   |   |               |       |                    |       |
| **Total  liabilities**                                                                                                                                               |   | **2,760**          | ** ** | **5,151**               | ** ** |
| **Stockholders’  equity (deficit):**                                                                                                                            |   |               |       |                    |       |
| **Common  stock, $0.01 par value, 120,000 shares authorized, 38,840 and 38,823 shares  issued and outstanding at June 30, 2003 and December 31, 2002, respectively** |   | **388**            | ** ** | **388**                 | ** ** |
| **Additional  paid-in capital**                                                                                                                                      |   | **86,067**         | ** ** | **86,060**              | ** ** |
| **Accumulated  deficit**                                                                                                                                             |   | **(85,939**        | **)**      | **(88,778**             | **)**      |
| **Total  stockholders’ equity (deficit)**                                                                                                                       |   | **516**            | ** ** | **(2,330**              | **)**      |
|                                                                                                                                                                 |   |               |       |                    |       |
| **Total  liabilities and stockholders’ equity (deficit)**                                                                                                       |   | **$**              | **3,276**  | ** **              | **$**      | **2,821** | ** ** |

 
| **The  accompanying notes are an integral part of the consolidated financial  statements.** |
|---------------------------------------------------------------------------------------------|

 

4

----

 

**ZAMBACORPORATION**

**CONSOLIDATED STATEMENTS OF CASHFLOWS**

**(Unaudited)**

 

**(Inthousands)**

 
|                                                                                      |   | **Six months  ended  June 30,** |       |
|-------------------------------------------------------------------------------------------|--------|---------------------------------|------------|
|                                                                                      |   | **2003**                        |       | **2002** |   |
|                                                                                      |   |                            |       |   |   |
| **Cash flows  from operating activities:**                                                |   |                            |       |   |   |
| **Net income  (loss)**                                                                    |   | **$**                           | **2,840**  | ** ** | **$** | **(7,378** | **)** |
| **Adjustments  to reconcile net income (loss) to net cash used in operating activities:** |   |                            |       |   |   |
| **Depreciation  and amortization**                                                        |   | **160**                         | ** ** | **257** | ** ** |
| **Non-cash  compensation - forgiveness of director loan**                                 |   | **—**                      | ** ** | **443** | ** ** |
| **Provision  for bad debts**                                                              |   | **—**                      | ** ** | **20** | ** ** |
| **Gain on  disposal of fixed assets**                                                     |   | **(7**                          | **)**      | **—** | ** ** |
| **Gain on  sale of NextNet shares**                                                       |   | **(2,603**                      | **)**      | **(2,655** | **)** |
| **Extraordinary  gain on extinguishment of debt**                                         |   | **(198**                        | **)**      | **—** | ** ** |
| **Changes in  operating assets and liabilities:**                                         |   |                            |       |   |   |
| **Accounts  receivable**                                                                  |   | **(1,125**                      | **)**      | **169** | ** ** |
| **Unbilled  receivables**                                                                 |   | **84**                          | ** ** | **252** | ** ** |
| **Notes  receivable**                                                                     |   | **—**                      | ** ** | **535** | ** ** |
| **Prepaid  expenses and other assets**                                                    |   | **266**                         | ** ** | **107** | ** ** |
| **Accounts  payable**                                                                     |   | **(413**                        | **)**      | **57** | ** ** |
| **Accrued  expenses and other long-term liabilities**                                     |   | **(1,180**                      | **)**      | **2,095** | ** ** |
| **Deferred  revenue**                                                                     |   | **93**                          | ** ** | **(4** | **)** |
| **Net cash  used in operating activities**                                                |   | **(2,083**                      | **)**      | **(6,102** | **)** |
|                                                                                      |   |                            |       |   |   |
| **Cash flows  from investing activities:**                                                |   |                            |       |   |   |
| **Purchase  of property and equipment**                                                   |   | **(41**                         | **)**      | **(49** | **)** |
| **Proceeds  from sale of NextNet shares**                                                 |   | **750**                         | ** ** | **2,965** | ** ** |
| **Proceeds  from sale of equipment**                                                      |   | **9**                           | ** ** | **1** | ** ** |
| **Restricted  cash**                                                                      |   |                            | ** ** | **366** | ** ** |
| **Notes  receivable - related parties**                                                   |   | **—**                      | ** ** | **220** | ** ** |
| **Net cash  provided by investing activities**                                            |   | **718**                         | ** ** | **3,503** | ** ** |
|                                                                                      |   |                            |       |   |   |
| **Cash flows  from financing activities:**                                                |   |                            |       |   |   |
| **Line of  credit, net**                                                                  |   | **577**                         | ** ** | **(405** | **)** |
| **Advance  from director**                                                                |   | **—**                      | ** ** | **450** | ** ** |
| **Proceeds  from short-term loan**                                                        |   | **750**                         | ** ** | **—** | ** ** |
| **Proceeds  from sale of common stock**                                                   |   | **3**                           | ** ** | **1,710** | ** ** |
| **Proceeds  from exercises of stock options**                                             |   | **—**                      | ** ** | **13** | ** ** |
| **Payments  of long-term debt**                                                           |   | **(169**                        | **)**      | **(139** | **)** |
| **Net cash  provided by financing activities**                                            |   | **1,161**                       | ** ** | **1,629** | ** ** |
|                                                                                      |   |                            |       |   |   |
| **Net  decrease in cash and cash equivalents**                                            |   | **(204**                        | **)**      | **(970** | **)** |
| **Cash and  cash equivalents, beginning of period**                                       |   | **549**                         | ** ** | **1,326** | ** ** |
| **Cash and  cash equivalents, end of period**                                             |   | **$**                           | **345**    | ** ** | **$** | **356** | ** ** |
|                                                                                      |   |                            |       |   |   |
| **Supplemental  Schedule for Disclosures of Cash Flow Information:**                      |   |                            |       |   |   |
|                                                                                      |   |                            |       |   |   |
| **Cash paid  during the period for interest**                                             |   | **$**                           | **37**     | ** ** | **$** | **124** | ** ** |
|                                                                                      |   |                            |       |   |   |
| **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 of the consolidated financial  statements.** |   |
|---------------------------------------------------------------------------------------------|--------|

 

5

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ZAMBA CORPORATION

NOTES TOCONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

 

Note A.  Basis of Presentation:

 

The unauditedconsolidated financial statements of Zamba Corporation as of June 30, 2003, andfor the three and six month periods ended June 30, 2003 and 2002, reflect alladjustments (which include only normal recurring adjustments, except asdisclosed in the footnotes) necessary, in the opinion of management, to fairlystate our financial position as of June 30, 2003, and our results of operationsand cash flows for the reported periods. The results of operations for any interim period are not necessarilyindicative of the results to be expected for any other interim period or forthe full fiscal year.  The year-endbalance sheet data was derived from audited financial statements, but does notinclude all disclosures required by accounting principles generally accepted inthe United States of America.  Certainprior year amounts have been reclassified to conform with the 2003 presentation.  These financial statements should be read inconjunction with our audited consolidated financial statements and relatednotes for the year ended December 31, 2002, which were included in our 2002Annual Report on Form 10-K.

 

Note B.  Liquidity:

 

We had working capital of $87,000 as of June 30, 2003, an improvementfrom the negative working capital of $709,000 as of March 31, 2003. We hadstockholders’ equity of $516,000 as of June 30, 2003, an improvement from thestockholders’ deficit of $266,000 as of March 31, 2003.  To partially fund our operations during thefirst and second quarters of 2003, we utilized $1.5 million received from thesales of shares of NextNet Wireless, Inc. Series A PreferredStock.  These funds were received intransactions with Entrx Corporation (“Entrx”) and two private investors.  We received $750,000 in the first quarter of2003 as part of a loan agreement we entered into with Entrx during the fourthquarter of 2002.  The amounts receivedunder the loan were originally classified as a note payable, which then wasconverted into 415,340 shares ofour NextNet Series A Preferred Stock on March 31, 2003 at a price of $4.23 pershare.  See Note K for additionaldiscussion of this transaction.  We alsoreceived $750,000 in the first quarter of 2003 from two private investors inexchange for an aggregate of 177,306 shares of NextNet Series A Preferred Stockat a price of $4.23 per share.  See noteH for additional discussion of this transaction.

 

Cash used inoperating activities was $2.08 million for the six months ended June 30, 2003and resulted primarily from an increase of $1.13 million in accounts receivableand a decrease of $1.18 million in accrued expenses.  The increase in accounts receivable resulted mainly due to thetiming of billings and collections during the quarter.  A higher than typical proportion of billingoccurred in the last half of the second quarter compared with the first half ofthe second quarter, which resulted in collections of those invoices after theend of the second quarter.  The decreasein accrued expenses resulted mainly from payments related to office andfurniture lease termination settlement agreements negotiated over the pastyear.  The remaining payments related tothese settlements total $273,000, and will be paid through October 2003.

 

We partly fund our operations through our AccountsReceivable Purchase Agreement withSilicon Valley Bank.  Thisagreement was renewed on July 29, 2003 and expires on July 29, 2004. However,both parties have the right to terminate this Agreement at any time.  See Note G for additional discussion.

 

Our ability to continue as a going concern depends upon our ability tosustain profitability, continue to access our borrowing facility with our bank,and obtain any additional funding that may be needed.

 

6

----

 

Note C. Selected Balance Sheet Information:

 
| **(in  thousands)**                             |   | **June 30, 2003** |   | **December 31, 2002** |   |
|-------------------------------------------------|--------|-------------------|--------|-----------------------|--------|
|                                            |   |              |   |                  |   |
| Accounts receivable, net:                       |   |              |   |                  |   |
| Accounts receivable                             |   | $                 | 1,931  |                  | $      | 806 |   |
| Less allowance for doubtful  accounts           |   | (144              | )      | (144                  | )      |
| Totals                                          |   | $                 | 1,787  |                  | $      | 662 |   |
|                                            |   |              |   |                  |   |
| Property and equipment,  net:                   |   |              |   |                  |   |
| Computer equipment                              |   | $                 | 816    |                  | $      | 802 |   |
| Furniture and equipment                         |   | 293               |   | 286                   |   |
| Leasehold improvements                          |   | 60                |   | 60                    |   |
| Totals                                          |   | 1,169             |   | 1,148                 |   |
| Less accumulated  depreciation and amortization |   | (720              | )      | (617                  | )      |
| Totals                                          |   | $                 | 449    |                  | $      | 531 |   |

 

Note D.  NetIncome (Loss) Per Share:

 

Basic income(loss) per share is computed based on the weighted average number of commonshares outstanding.  Diluted income(loss) per share is computed based on the weighted average number of common shares outstanding adjusted bythe number of additional shares that would have been outstanding had thepotentially dilutive common shares been issued.  Potentially dilutive shares of common stock include stockoptions.  A total of 1.3 million and 0additional shares were included in the diluted income (loss) per sharecalculation at June 30, 2003 and 2002, respectively. The calculation ofweighted average diluted shares outstanding excludes options for approximately2.3 million common shares at June 30, 2003, as the exercise price of thoseoptions was greater than the average market price, resulting in ananti-dilutive effect on diluted earnings per share.

 

Note E.  Recent Accounting Standards:

 

In May 2003,the Financial Accounting Standards Board (FASB) issued Statement of FinancialAccounting Standards No. 150, “Accounting for Certain Financial Instrumentswith Characteristics of both Liabilities and Equity.”  SFAS No. 150 establishes standards for issuer classification andmeasurement of certain financial instruments with characteristics of bothliabilities and equity.  Instrumentsthat fall within the scope of SFAS No. 150 must be classified as a liability.  SFAS No. 150 is effective for financialinstruments entered into or modified after May 31, 2003.  For financial instruments issued prior toJune 1, 2003, SFAS No. 150 is effective in the third quarter of 2003.  Adoption of SFAS No. 150 is not expected tohave an impact on our financial position, results of operations or cash flows.

 

In January2003, the FASB issued Statement of Financial Accounting Standards No. 148,“Accounting for Stock-Based Compensation - Transition and Disclosure” (“SFAS148”).  SFAS 148 amends FASB Statementof Financial Accounting Standards No. 123, “Accounting for Stock-Based Compensation”  (“SFAS 123”) to provide alternative methods of transition for avoluntary change to the fair value based method of accounting for stock-basedemployee compensation.  In addition, SFAS148 amends the disclosure requirements of SFAS 123 to require prominentdisclosures in both annual and interim financial statements of the method ofaccounting for stock-based employee compensation and the effect of the methodused on reported results.  SFAS 148 iseffective for fiscal years beginning after December 15, 2002 and was adopted byZamba for all periods presented herein. Zamba did not change to the fair value based method of accounting forstock-based employee compensation; therefore, adoption of SFAS 148 will onlyimpact disclosures, not the financial results, of Zamba.

 

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Note F.   Restructuring and Unusual Charges:

 

We incurredrestructuring and unusual charges in 2002 that significantly reduced ourongoing cost structure.  In the firstquarter of 2002, we incurred unusual charges of $1.69 million for facility andemployment matters.  Included in thisamount was a $1.34 million chargerelated to closing our Campbell, California, and Colorado Springs, Coloradofacilities.  These transactions haveresulted in annual cost savings of $1.0 million.  In addition, a $350,000 charge was taken for severance payrelating to reduced headcount, including the separation of three vicepresidents, in the first quarter of 2002. These headcount reductions have resulted in annual savings of $3.5million.

 

In the secondquarter of 2002, we incurred unusual charges of $1.64 million for facility andnon-cash compensation matters. Included in this amount was a $1.19 millioncharge for facility closings and lease termination costs.  The facility charges included $190,000 forclosing the Boston, Massachusetts, facility, $290,000 for reducing the amountof space leased in Minneapolis, Minnesota, and $713,000 for increasing theaccrual for our St. Paul, Minnesota and Campbell, California facilities toamounts consistent with buy-out offers made by our landlords.  These charges have resulted in annualsavings of $1.2 million.  We alsoincurred a $443,000 non-cash compensation charge arising out of the exercise byPaul Edelhertz, a member of our board of directors, of his right to assign tous an aggregate of 250,000 shares of our common stock in exchange for ourcancellation of a promissory note issued to us by Mr. Edelhertz bearing aprincipal balance of $500,000 and accrued interest through the date ofcancellation of $43,250.  Thistransaction related to an agreement dated December 26, 2000, as amended onAugust 2, 2001.

 

A summary ofrestructuring and unusual charge activity through June 30, 2003 is as follows:

 
|                                                                 |   | **Facility Closings  and Lease  Termination Costs** |    | **Severance and  Other Employee  Related Costs** |   | **Other** |   | **Total**  |    |
|----------------------------------------------------------------------|--------|-----------------------------------------------------|---------|--------------------------------------------------|--------|-----------|--------|------------|---------|
|                                                                 |   |                                                |    |                                             |   |      |   |       |    |
| Fourth Quarter 2000  Provision                                       |   | $                                                   | 240,000 |                                             | $      | 307,000   |   | $          | 206,000 |   | $ | 753,000 |   |
| 2000 Utilized                                                        |   | —                                              |    | (137,000                                         | )      | (206,000  | )      | (343,000   | )       |
| Balance as of December 31,  2000                                     |   | 240,000                                             |    | 170,000                                          |   | —    |   | 410,000    |    |
| Second Quarter 2001  Provision                                       |   | 1,173,000                                           |    | 900,000                                          |   | 115,000   |   | 2,188,000  |    |
| Additional facility related  accruals in the fourth quarter of 2001  |   | 175,000                                             |    | —                                           |   | —    |   | 175,000    |    |
| 2001 Utilized                                                        |   | (786,000                                            | )       | (1,070,000                                       | )      | (115,000  | )      | (1,971,000 | )       |
| Balance as of December 31,  2001                                     |   | 802,000                                             |    | —                                           |   | —    |   | 802,000    |    |
| First Quarter 2002  Provision                                        |   | 1,335,000                                           |    | 350,000                                          |   | —    |   | 1,685,000  |    |
| Second Quarter 2002  Provision                                       |   | 1,193,000                                           |    | —                                           |   | 443,000   |   | 1,636,000  |    |
| Additional severance  related accruals in the second quarter of 2002 |   | —                                              |    | 100,000                                          |   | —    |   | 100,000    |    |
| 2002 Utilized                                                        |   | (1,804,000                                          | )       | (315,000                                         | )      | (443,000  | )      | (2,562,000 | )       |
| Balance as of December 31,  2002                                     |   | 1,526,000                                           |    | 135,000                                          |   | —    |   | 1,661,000  |    |
| First Quarter 2003 Utilized                                          |   | (582,000                                            | )       | —                                           |   | —    |   | (582,000   | )       |
| Second Quarter 2003  Utilized                                        |   | (452,000                                            | )       | (105,000                                         | )      | —    |   | (557,000   | )       |
| Balance as of June 30, 2003                                          |   | $                                                   | 492,000 |                                             | $      | 30,000    |   | $          | —  |   | $ | 522,000 |   |

 

Note G.   Line of Credit:

 

On July 29, 2002,we entered into an Accounts Receivable Purchase Agreement with Silicon ValleyBank to replace a prior revolving credit facility we had established withSilicon Valley Bank.  This agreemententitles us to borrow up to a maximum of $2.0 million based on 80% of eligiblereceivables, and is secured by virtually all of our assets.  Borrowings under this agreement bearinterest at a monthly rate of 1% of the average daily balance outstandingduring the period.  Additionally, oneach reconciliation date, we pay an administrative fee equal to 0.25% of theface amount of each receivable purchased by Silicon Valley Bank during thatreconciliation period.  The AccountsReceivable Purchase Agreement was renewed on July 29, 2003 and expires on July29, 2004.  However, both parties havethe right to terminate this Agreement at any time.  If Silicon Valley

 

8

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Bank decides not to purchasereceivables from us, our ability to fund our operations could be materiallyharmed.  The amount outstanding underthis agreement was $875,000 at June 30, 2003.

 

Note H.   Sales of Investments:

 

In the firstquarter of 2003, we entered into transactions with private investors in whichwe sold portions of our equity holdings in NextNet Wireless, Inc.  Our chairman, Joseph B. Costello, is alsothe chairman of NextNet. Another of our directors, Dixon Doll, is also adirector and a shareholder of NextNet. Additionally, another director of Zamba, Sven Wehrwein, has been aconsultant for NextNet.  There have beenno other relationships or business transactions between the two companiesduring this reporting period.

 

On January 27,2003, we entered into an agreement to pay an unrelated third party $165,000 andtransfer 16,667 shares of NextNet Series A Preferred Stock to the third party’sfamily trust in exchange for cancellation of a debt obligation under which weowed him approximately $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 February17, 2003, we sold 177,306 shares of NextNet Series A Preferred Stock to twoprivate investors for $750,000.  Werecorded a deferred gain on sale of investment in the first quarter of 2003when we received the cash from these transactions. A gain on sale of investmentwas recorded in the second quarter of 2003, when the share transfer wascompleted.  In connection with thesesales, we issued a warrant to purchase up to 125,000 additional shares ofNextNet Series A Preferred Stock to an investor affiliated with a priorpurchaser of NextNet shares.  Thiswarrant bears an exercise price of $6.00 per share and may be exercised anytime prior to the close of business on December 31, 2004.

 

We transferred415,340 shares of our NextNet Series A Preferred Stock to EntrxCorporation on March 31, 2003, pursuant to a loan agreement we entered intowith Entrx on November 5, 2002.  SeeNote K for more information regarding our transaction with Entrx.

 

All NextNetshares that we sell are subject to the right of first refusal on the parts ofNextNet and the holders of the Series B Preferred Stock of NextNet.

 

As of June 30,2003, we owned approximately 700,000 shares of NextNet Series A PreferredStock, or approximately 6% of the outstanding equity in NextNet.  Of our remaining shares, we have issuedthree warrants to two private investors to purchase up to 148,337 additionalshares of our NextNet Series A Preferred Stock from us at a price of $6.00 pershare.  A warrant to purchase up to125,000 shares expires on December 31, 2004, and two warrants to purchase atotal of 23,337 shares expire on December 31, 2005.

 

Note I. Income Taxes:

 

We have notrecorded any current or deferred income tax provision for any of the periodspresented 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 June 30, 2003,we had approximately $84 million of net operating loss carryforwards remaining,which begin to expire starting 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 J. Legal Matters:

 

We are subjectto various legal proceedings and claims that arise in the ordinary course ofbusiness that we do not believe are material either separately or in theaggregate.

 

On June 6,2003, we reached an agreement with Doug Holden, our former president and CEO,related to a claim for severance he threatened to bring against us followingthe separation of his employment.  Underthe agreement, we will pay Mr. Holden a total of $50,000 in five monthlyinstallments, ending in October 2003.

 

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Note K.  Loan Agreement with Entrx Corporation:

 

On November 5,2002, we entered into a loan agreement with Entrx Corporation, under whichEntrx agreed to lend us up to $2.5 million in three separate advances.  We received the first advance of $1 millionon November 4, 2002.  On February19, 2003, this loan agreement was amended. In connection with the amendment, we received the second advance of$750,000 but waived the third advance. Entrx also waived its rights to convert all outstanding advances intoshares of our common stock, and terminated an option under the original loanagreement to purchase additional shares of our NextNet.  Entrx also agreed to waive interest chargesaccruing after December 2002.

 

We received $1.75 millionunder the loan.  On March 31, 2003,principal and accrued interest was converted into 415,340 shares of NextNetWireless Series A Preferred Stock. The conversion price was $4.23 per share,which was the per share price (on a common share equivalent basis,without giving effect to differences in rights or to anti-dilution provisionsor any other purchase price adjustments set forth in the NextNet loanagreement) that NextNet agreed to receive for a sale of other preferred stock. Upon conversion, our repayment obligations under the loan wereextinguished.

 

Note L. Major Customers:

 

A portion ofour revenues have been derived from significant customers for the three and sixmonth periods ended June 30, 2003 and 2002 as follows:

 
|       |   | **Three Months  Ended June 30,** |   | **Six Months  Ended June 30,** |   |
|------------|--------|----------------------------------|--------|--------------------------------|--------|
|       |   | **2003**                         |   | **2002**                       |   | **2003** |   | **2002** |   |
|       |   |                             |   |                           |   |   |   |   |   |
| Customer 1 |   | 24                               | %      | 0                              | %      | 12 | % | 0 | % |
| Customer 2 |   | 14                               | %      | 0                              | %      | 21 | % | 2 | % |
| Customer 3 |   | 12                               | %      | 16                             | %      | 9 | % | 13 | % |
| Customer 4 |   | 10                               | %      | 6                              | %      | 14 | % | 8 | % |
| Customer 5 |   | 9                                | %      | 10                             | %      | 9 | % | 13 | % |
| Customer 6 |   | 7                                | %      | 23                             | %      | 10 | % | 18 | % |
| Customer 7 |   | 7                                | %      | 16                             | %      | 4 | % | 7 | % |

 

Note M.  Stockholders’ Equity:

 

We have chosento account for stock-based compensation using the intrinsic value methodprescribed in Accounting Principles Board Opinion No. 25, “Accounting for StockIssued to Employees,” and related interpretations (APB No. 25).  We account for stock-based compensation tonon-employees using the fair value method prescribed by Statements of FinancialAccounting Standards (SFAS) No. 123. Accordingly, compensation costs for stock options granted to employeesare measured as the excess, if any, of the value of our stock at the date ofthe grant over the amount an employee must pay to acquire the stock.  Compensation cost for stock options grantedto non-employees is measured as the fair value of the option at the date ofgrant.  Such compensation costs, if any,are amortized on a straight-line basis over the underlying option vestingterms.

 

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No compensation cost hasbeen recognized for stock options granted to employees or directors under our1989 Stock Option Plan, 1993 Equity Incentive Plan, 1993 Directors Option Plan,1997 Stock 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 thePlans been determined based on the fair value of options at the grant date forawards in the three and six month periods ended June 30, 2003 and 2002, our netincome (loss) and net income (loss) per share would have changed to the proforma amounts indicated below:

 

(Inthousands, except per share amounts)

 
|                                                                                                                                         |   | **Three Months  Ended June 30,** |   | **Six Months  Ended June 30,** |   |
|----------------------------------------------------------------------------------------------------------------------------------------------|--------|----------------------------------|--------|--------------------------------|--------|
|                                                                                                                                         |   | **2003**                         |   | **2002**                       |   | **2003** |   | **2002** |   |
| Net income (loss), as  reported                                                                                                              |   | $                                | 779    |                           | $      | (2,042 | ) | $ | 2,840 |   | $ | (7,378 | ) |
| Deduct total stock based  employee compensation expense determined under fair value based method for  all awards, net of related tax effects |   | (308                             | )      | (1,900                         | )      | (734 | ) | (3,800 | ) |
|                                                                                                                                         |   |                             |   |                           |   |   |   |   |   |
| Pro forma net income (loss)                                                                                                                  |   | $                                | 471    |                           | $      | (3,942 | ) | $ | 2,106 |   | $ | (11,178 | ) |
|                                                                                                                                         |   |                             |   |                           |   |   |   |   |   |
| Earnings per share:                                                                                                                          |   |                             |   |                           |   |   |   |   |   |
| Basic - as reported                                                                                                                          |   | $                                | 0.02   |                           | $      | (0.05 | ) | $ | 0.07 |   | $ | (0.19 | ) |
| Basic - pro forma                                                                                                                            |   | $                                | 0.01   |                           | $      | (0.10 | ) | $ | 0.05 |   | $ | (0.29 | ) |
|                                                                                                                                         |   |                             |   |                           |   |   |   |   |   |
| Diluted - as reported                                                                                                                        |   | $                                | 0.02   |                           | $      | (0.05 | ) | $ | 0.07 |   | $ | (0.19 | ) |
| Diluted - pro forma                                                                                                                          |   | $                                | 0.01   |                           | $      | (0.10 | ) | $ | 0.05 |   | $ | (0.29 | ) |

 

In the second quarter, we conducted an option exchange program underwhich all of our directors, officers and employees could return their existingstock options in exchange for replacement options to be granted at least sixmonths and one day after the conclusion of the exchange program.  The number of replacement options to bereceived by any individual in exchange for that person’s existing optionsvaries, depending on the exercise prices of the options returned by thatperson.  Options to purchaseapproximately 3.9 million shares of common stock were cancelled under theexchange program.  We expect to issueapproximately 1.3 million options under our option plans in exchange for thecancelled options.

 

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

 

**Overview**

 

Zamba Corporation is acustomer care services company.  We helpour clients be more successful in acquiring, servicing, and retaining theircustomers.  Having served over 300 clients, Zamba isfocused exclusively on customer-centric services by leveraging best practicesand best-in-class technologies to enable insightful, consistent interactionsacross all customer touch points.  We providestrategy and business process consulting, as well as customization and systemsintegration for software applications, which we call “packages,” that ourclients purchase from third parties.  Based on our expertise and experience, we havecreated a framework of interdependent processes and technologies to help ourclients, including strategy, analytics and marketing, contact center, contentand commerce, field sales, field service, and enterprise 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.

 

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**Resultsof Operations**

 

**Three months ended June 30, 2003, compared tothe three months ended June 30, 2002**

 

*Net Revenues*

Revenues increasedapproximately 14% to $2.85 million in the second quarter of 2003 compared to$2.51 million in the second quarter of 2002. Revenues before reimbursements increased approximately 17% to $2.60million in the second quarter of 2003 compared to $2.23 million in the secondquarter of 2002.  The increase was dueprimarily to an increase in our average billing rate in the second quarter of2003 as compared to the second quarter of 2002.

 

*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$1.51 million or approximately 53% of net revenues in the second quarter of2003 compared to $2.60 million or approximately 103% of net revenues in thesecond quarter of 2002.  The decrease inproject costs in dollar and percentage of revenue terms between these periodswas due primarily to the decrease in our headcount from 70 billable consultantsas of June 30, 2002, to 49 billable consultants as of June 30, 2003, and arelated improvement in our overall utilization, which is the percentage of allhours worked that were billed by our billable consultants.  In the future, we expect project costs as apercentage of net revenues to be at a level more consistent with the secondquarter of 2003 than with the percentage of net revenues in the second quarterof 2002.

 

*Reimbursable Expenses*

Reimbursable expenses consist of out-of-pocket expenses incurred whileproviding services that are reimbursed by our clients.  Pursuant to Financial Accounting StandardsBoard Staff Announcement (Topic No. D-103), reimbursable expenses are separateline items in both revenue and cost of revenue.

 

*Sales and Marketing Costs*

Sales andmarketing costs consist primarily of salaries, employee benefits and travelexpenses of sales and marketing personnel, as well as promotional costs.  Sales and marketing expenses were $275,000or approximately 10% of net revenues in the second quarter of 2003, compared to$478,000 or approximately 19% of net revenues in the second quarter of2002.  The decrease between theseperiods was due to a reduction in the number of sales and marketing personnel.

 

*General and Administrative Costs*

General andadministrative costs consist primarily of expenses associated with ourmanagement, information technology, training and recruiting, occupancy costs,and finance and administrative groups. General and administrative expenses were $764,000 or approximately 27%of net revenues in the second quarter of 2003, compared to $2.16 million orapproximately 86% of net revenues in the second quarter of 2002.  Key factors in the decrease in general andadministrative costs were cost savings of $650,000 in office and equipmentlease expenses, a reduction of $300,000 in salaries, and a reduction in expensefrom the release of an accrual of $85,000 related to a settlement on aseverance agreement with our former CEO.

 

*Interest Expense*

Interest expense was $20,000 inthe second quarter of 2003 compared to $59,000 in the second quarter of2002.  The decrease was due to adecrease in our average borrowings for the quarter related to the creditfacility with Silicon Valley Bank and the payoff of a majority of our long-termdebt in the first quarter of 2003.

 

*Gain on Sale of NextNet Shares*

Gain on saleof NextNet shares was $750,000 in the second quarter of 2003 compared to $2.65million in the second quarter of 2002. This represents a gain on sales of aportion of our shares of NextNet Series A Preferred Stock, as described in NoteH of our Notes to Consolidated Financial Statements.

 

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*Income Taxes*

We have netoperating loss carryforwards to utilize against earnings in the future, andtherefore, we have not recognized a tax expense on our net income for the threeand six month periods ended June 30, 2003. Because we are uncertain as to whether we will have taxable earnings in thefuture, we have not reflected any benefit of additional net operating losscarryforwards in the accompanying unaudited consolidated financial statements.

 

*Net Income (Loss)*

Our net incomefor the quarter ended June 30, 2003 was $779,000, or $0.02 per share, comparedto a net loss for the quarter ended June 30, 2002 of $2.04 million, or $0.05per share.  Our net income fromoperations, which does not include the gain on sale of NextNet shares, interestincome and interest expense, was $49,000 for the quarter ended June 30, 2003,compared to a net loss from operations of $4.64 million for the quarter endedJune 30, 2002.

 

**Six months ended June 30, 2003, compared tothe six months ended June 30, 2002**

 

*Net Revenues*

Revenuesdecreased approximately 2% to $5.63 million for the six months ended June 30,2003 compared to $5.75 million for the six months ended June 30, 2002.  Revenues before reimbursements decreasedapproximately 2% to $5.11 million for the six months ended June 30, 2003compared to $5.23 million for the six months ended June 30, 2002.  In conjunction with the decrease in ourrevenues, our billable headcount decreased to 49 as of June 30, 2003, comparedto 70 as of June 30, 2002.

 

*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$2.96 million or approximately 53% of net revenues for the six months endedJune 30, 2003 compared to $5.92 million or approximately 103% of net revenuesfor the six months ended June 30, 2002. The decrease in project costs in dollar and percentage of revenue termsbetween these periods was due primarily to the decrease in our headcount from70 billable consultants as of June 30, 2002, to 49 billable consultants as ofJune 30, 2003, and a related improvement in our overall utilization.  In the future, we expect the project costsas a percentage of net revenues to be at a level more consistent with thesecond quarter of 2003 than with the percentage of net revenues in the secondquarter of 2002.

 

*Reimbursable Expenses*

Reimbursable expenses consist of out-of-pocket expenses incurred whileproviding services that are reimbursed by our clients.  Pursuant to Financial Accounting StandardsBoard Staff Announcement (Topic No. D-103), reimbursable expenses are separateline items in both revenue and cost of revenue.

 

*Sales and Marketing Costs*

Sales andmarketing costs consist primarily of salaries, employee benefits and travelexpenses of sales and marketing personnel, as well as promotional costs.  Sales and marketing expenses were $524,000or approximately 9% of net revenues for the six months ended June 30, 2003, comparedto $1.34 million or approximately 23% of net revenues for the six months endedJune 30, 2002.  The decrease betweenthese periods was primarily due to a reduction in the number of sales andmarketing personnel.

 

*General and Administrative Costs*

General andadministrative costs consist primarily of expenses associated with ourmanagement, information technology, training and recruiting, occupancy costs,and finance and administrative groups. General and administrative expenses were $1.55 million or approximately27% of net revenues for the six months ended June 30, 2003, compared to $4.58million or approximately 80% of net revenues for the six months ended June 30,2002.  Key factors in the decrease ingeneral and administrative costs were cost savings of $1.25 million in officeand equipment lease expenses, a reduction of $510,000 in salaries, a gain(offset against costs) of $184,000 due to termination of a lease for officefurniture and settlement of related litigation, and a reduction in expense fromthe release of an accrual of $85,000 related to a settlement on a severanceagreement with our former CEO.

 

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*Interest Expense*

Interest expense was $47,000for the six months ended June 30, 2003 compared to $124,000 for the six monthsended June 30, 2002.  The decrease wasdue to a decrease in our average borrowings for the six month period ended June30, 2003 related to the credit facility with Silicon Valley Bank and the payoffof a majority of our long-term debt in the first quarter of 2003.

 

*Gain on Sale of NextNet Shares*

Gain on sale of NextNet shares was $2.60 million for the six monthsended June 30, 2003 compared to $2.66 million for the six months ended June 30,2002. This represents a gain on sales of a portion of our shares of NextNetSeries A Preferred Stock, as described in Note H of our Notes to ConsolidatedFinancial Statements.

 

*Extraordinary Gain on Extinguishment of Debt*

Extraordinary gain on extinguishment of debt was $198,000 for the sixmonths ended June 30, 2003 compared to $0 for the six months ended June 30,2002.  This represents a gain from anagreement to pay off our long-term debt owed to a third party in the firstquarter of 2003.

 

*Income Taxes*

We have netoperating loss carryforwards to utilize against earnings in the future, andtherefore, we have not recognized a tax expense on our net income in the firstquarter of 2003.  Because we areuncertain as to whether we will have taxable earnings in the future, we havenot reflected any benefit of additional net operating loss carryforwards in theaccompanying unaudited consolidated financial statements.

 

*Net Income (Loss)*

Our net incomefor the six months ended June 30, 2003 was $2.84 million, or $0.07 per share,compared to a net loss for the six months ended June 30, 2002 of $7.38 million,or $0.19 per share.  Our net income fromoperations for the six months ended June 30, 2003 was $86,000, compared to anet loss from operations for the six months ended June 30, 2002 of $9.92 million.

 

**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 conditionsand results of operations is discussed throughout Management’s Discussion andAnalysis of Financial Condition and Results of Operations where these policiesaffect our reported and expected financial results.  Our preparation of this Form 10-Q requires us to make estimatesand assumptions that affect the reported amount of assets and liabilities,disclosure of contingent assets and liabilities as of the date of our financialstatements, and the reported amounts of revenue and expenses during thereporting period.  There can be noassurance that actual results will not differ from those estimates.

 

Our critical accounting policies are as follows:

•                  Revenue Recognition;

•                  Allowance for Doubtful Accounts; and

•                  Investment in NextNet Wireless, Inc.

 

For a detailed discussion of the application of these and otheraccounting policies, see Note 1 of the notes to the consolidated financialstatements in our 2002 Annual Report on Form 10-K.

 

***Liquidity and Capital Resources***

 

At June 30,2003, we had approximately $345,000 in cash and cash equivalents, compared to$549,000 at December 31, 2002. As of June 30, 2003, we had no significantcapital spending or purchase commitments. We had working capital of$87,000 as of June 30, 2003, an improvement from the negative working capitalof $709,000 as of March 31, 2003. We had stockholders’ equity of $516,000 as ofJune 30, 2003, an improvement from the stockholders’ deficit of $266,000 as ofMarch 31, 2003.

 

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Cash used inoperating activities was $2.08 million for the six months ended June 30, 2003and resulted primarily from an increase of $1.13 million in accounts receivableand a decrease of $1.18 million in accrued expenses.  The increase in accounts receivable resulted mainly due to thetiming of billings and collections during the quarter.  A higher than typical proportion of billingoccurred in the last half of the second quarter compared with the first half ofthe second quarter, which resulted in collections of those invoices after theend of the second quarter.  The decreasein accrued expenses resulted mainly from payments related to office andfurniture lease termination settlement agreements negotiated over the pastyear.  The remaining payments related tothese settlements total $273,000, and will be paid through October 2003.  For the six months ended June 30, 2002, cashused in operating activities was $6.10 million, which resulted primarily from aloss before depreciation and amortization of $7.12 million and a gain on saleof NextNet shares of  $2.66 million,which was offset by an increase of $2.10 million in accrued expenses and adecrease of $535,000 in notes receivable.

 

Cash providedfrom investing activities was $718,000 for the six months ended June 30, 2003,and resulted primarily from proceeds from the sale of a portion of our NextNetshares.  For the six months ended June30, 2002, cash provided from investing activities was $3.50 million, whichresulted primarily from proceeds from the sale of a portion of our NextNetshares.

 

Cash providedby financing activities was $1.16 million for the six months ended June 30,2003 and consisted primarily of $750,000 in cash received from proceeds of anote payable and an increase of $577,000 in borrowings under our line ofcredit.  For the six months ended June30, 2002, cash provided by financing activities was $1.63 million, whichconsisted primarily of cash received from the sale of $1.70 million of commonstock and an advance of $450,000 from a director, offset by a decrease of$405,000 in borrowings under our line of credit.

 

Futurepayments due under debt and lease obligations as of June 30, 2003, are asfollows (in thousands):

 
| **Year  Ending  December 31,** |   | **Accounts  Receivable  Purchase  Agreement** |   | **Notes  Payable** |   | **Non  Cancelable  Operating  Leases** |   | **Accrued  Lease  Settlements** |   | **Total** |   |
|--------------------------------|--------|-----------------------------------------------|--------|--------------------|--------|----------------------------------------|--------|---------------------------------|--------|-----------|--------|
| 2003                           |   | $                                             | 875    |               | $      | 4                                      |   | $                               | 315    |      | $      | 273 |   | $ | 1,467 |   |
| 2004                           |   | —                                        |   | —             |   | 556                                    |   | —                          |   | 556       |   |
| 2005                           |   | —                                        |   | —             |   | 388                                    |   | —                          |   | 388       |   |
| Total                          |   | $                                             | 875    |               | $      | 4                                      |   | $                               | 1,259  |      | $      | 273 |   | $ | 2,411 |   |

 

On July 29,2002, we entered into an Accounts Receivable Purchase Agreement with SiliconValley Bank to replace our prior bank line of credit. This agreement entitlesus to borrow up to a maximum of $2.0 million based on 80% of eligiblereceivables, and is secured by virtually all of our assets.  Borrowings under this agreement bearinterest at a monthly rate of 1% of the average daily balance outstandingduring the period.  Additionally, oneach reconciliation date, we pay an administrative fee equal to 0.25% of theface amount of each receivable purchased by Silicon Valley Bank during thatreconciliation period.  This agreementwas renewed on July 29, 2003 and expires on July 29, 2004.  However, both parties have the right toterminate this Agreement at any time.

 

We received$750,000 in additional funding in the first quarter of 2003 from EntrxCorporation, to fund our working capital needs.  The amount received was the second installment of a loanagreement under which Entrx agreed to lend us up to $2.5 million in threeseparate advances.  We received thefirst advance of $1 million on November 4, 2002.  The second advance was to be made on December 15, 2002, and athird advance was to be made on February 15, 2003, upon the achievement ofcertain prescribed business milestones by us. This agreement was amended on February 19, 2003, and the obligation ofEntrx to pay the third installment was waived. We repaid this loan by transferring 415,340 shares of NextNetSeries A Preferred Stock to Entrx on March 31, 2003.

 

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We alsoreceived $750,000 on February 17, 2003, when we sold shares of NextNet Series APreferred Stock to two private investors.

 

We believethat our existing cash and cash equivalents, together with cash provided fromoperations, our borrowings from the Accounts Receivable Purchase Agreement withSilicon Valley Bank, and commitments from two private investors throughDecember 31, 2003, to pay $700,000 for our remaining NextNet shares, ifnecessary, should be sufficient to meet our working capital and capital expenditurerequirements through at least December 31, 2003.  Beyond that date, our ability to continue as a going concerndepends on our ability to sustain profitability and generate positive cash flowfrom operations, continue to access borrowing with our bank, and obtainadditional funding, if necessary.

 

We willcontinue to explore possibilities for additional financing, which may includedebt, equity, or other strategic alternatives that may be available to us,including a potential sale of all or a portion of our stock, assets, orremaining investment in NextNet.  Wecannot be certain that additional financing will be available to us onfavorable terms, if at all. If our financial performance adversely affects ourability to obtain funds secured by our accounts receivable, and we are unableto obtain additional financing, we may not be able to meet our cashrequirements beyond December 31, 2003.

 

**Item3.  Quantitative****andQualitative 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.  Disclosure****Controls and Procedures**

 

Our principal executive officer and principal financial officer haveevaluated the effectiveness of the design and operation of our disclosurecontrols and procedures as of the end of the period covered by this report.Based on such evaluation, such officers have concluded that, as of theEvaluation Date, our disclosure controls and procedures were effective, in allmaterial respects, to ensure that information required to be disclosed in thereports we file and submit under the Exchange Act is recorded, processed,summarized and reported as and when required.

 

There has been no change in our internal control over financial reportingduring the most recent fiscal quarter that has materially affected, or isreasonably likely to materially affect, our internal control over financialreporting.

 

**Cautionary Statement for Purposes of the‘Safe Harbor’ Provisions of the Private Securities Litigation Reform Act of1995**

 

Certain statements in this Quarterly Reporton Form 10-Q are “forward-looking statements” within the meaning of the PrivateSecurities Litigation Reform Act of 1995. When usedin this Quarterly Report on Form 10-Q, the words “may,” “should,” “expects,”“plans,” “anticipates,” “believes,” “estimates,” “predicts,” “intends,”“potential” or “continue” and similar expressions are generally intended toidentify forward-looking statements. Because these forward-looking statementsinvolve risks and uncertainties, actual results could differ materially fromthose expressed or implied by these forward-looking statements. Thesestatements are only predictions. Although we believe that the expectationsreflected in the forward-looking statements are reasonable, we cannot guaranteefuture results, levels of activity, performance and/or achievements.

 

Forward-lookingstatements represent our expectations or beliefs concerning future events,including statements regarding the growth rate of themarketplace for customer-centric solutions, our ability to maintain skills inproviding customer-centric solutions, changing client preferences forcustomer-centric solutions, the ability of our partners to maintain competitiveproducts, the impact of competition and pricing pressures from actual andpotential competitors with greater financial resources, the impact ofcompetition and pricing pressures

 

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from actualand potential competitors who have lower-cost operations, such as offshoreconsulting firms based in India and other countries in Asia and Europe, ourability to obtain large-scale consulting services agreements, possibly lengthyclient decision-making processes, our ability to fund operations, our abilityto hire and retain competent employees, possible delays in collections ofaccounts receivable, changes in general economic conditions and interest rates,changes in information technology spending within companies, changes in the globalgeopolitical situation, sales of our NextNet shares, andother factors identified in our filings with the Securities and ExchangeCommission, including those identified in Exhibit 99.01 to this QuarterlyReport on Form 10-Q. We disclaim any intention or obligation to update orrevise any forward-looking statements, whether as a result of new information,future events or otherwise.

 

**PARTII.  OTHER INFORMATION**

 

Item 1.             Legal Proceedings

 

We are subject to variouslegal proceedings and claims that arise in the ordinary course ofbusiness.  The following is a summary ofour current legal proceedings.

 

On June 6,2003, we reached an agreement with Doug Holden, our former president and CEO,related to a claim for severance he threatened to bring against us followingthe separation of his employment.  Underthe agreement, we will pay Mr. Holden a total of $50,000 in five monthlyinstallments, ending in October 2003.

 

We are alsosubject to other various legal proceedings and claims that we do not believeare material either separately or in the aggregate.

 

Item 2.             Changes in Securities and Use ofProceeds

 

None.

 

Item 3.             DefaultsUpon Senior Securities

 

None.

 

Item 4.             Submission of Matters to a Vote ofSecurity Holders

 

Zamba held itsAnnual Meeting on June 5, 2003.  Oneproposal was presented at the Annual Meeting for voting by the stockholders:the election of directors. Each person nominated for director was elected.  Each nominated director received at least33,651,299 votes in favor of his election, and no more than 416,003 votes werewithheld from the election of any director.

 

Item 5.             Other Information

 

None.

 

Item 6.             Exhibitsand Reports on Form 8-K

 

(a)                                  Exhibits:(See attached exhibit index)

 

(b)                                 Reports on Form 8-K:

 

On August 1,2003, we filed a report on Form 8-K, which contained a copy of our pressrelease announcing our financial results for the three and six month periodsended June 30, 2003.

 

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SIGNATURES

 

Pursuant to the requirements ofthe Securities Exchange Act of 1934, the Registrant has duly caused this reportto be signed on its behalf by the undersigned thereunto duly authorized.

 

 
|   | ZAMBA  CORPORATION      |
|--------|-------------------------|
|   |                    |
|   | By:                     | /s/ Norm  Smith |   |
|   |                    | Norman D. Smith |
|   |                    | President and Chief  Executive Officer |
|   |                    |   |
|   | By:                     | /s/ Michael  H. Carrel |   |
|   |                    | Michael H.  Carrel |
|   |                    | Executive  Vice President and Chief Financial Officer |
|   |                    | (Principal  Financial and Accounting Officer) |
|   |                    |
|   | Dated:  August 13, 2003 |

 

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EXHIBIT INDEX

 
| **EXHIBIT NUMBER** |   | **TITLE**                                                                                                               |
|--------------------|--------|-------------------------------------------------------------------------------------------------------------------------|
| 10.01              |   | Settlement Agreement and Release between  Doug Holden and Zamba Corporation, dated June 6, 2003                         |
| 31.1               |   | Rule 13a-14(a) Certification by Norman D.  Smith, President and Chief Executive Officer                                 |
| 31.2               |   | Rule 13a-14(a) Certification by Michael H.  Carrel, Executive Vice President and Chief Financial Officer                |
| 32.1               |   | Certification Pursuant to 18 U.S.C. Section  1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
| 32.2               |   | Certification Pursuant to 18 U.S.C. Section  1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
| 99.01              |   | Cautionary Statement Regarding  Forward-Looking Statements                                                              |

 

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