**UNITEDSTATESSECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON, D.C. 20549**

 

**FORM 10-Q**

 

**ý****                                ****QUARTERLYREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF1934**

 

**For the Quarterly period ended September 30,2004**

 

**OR**

 

**o****                                ****TRANSITIONREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF1934.**

 

**For the Transition periodfrom               to               **

 

**Commission File Number 0-27280**

 

**META Group, Inc.**

(Exact name of registrant as specified in its charter)

 

| **Delaware**                                                    | ** ** | **06-0971675**                    |
|-----------------------------------------------------------------|------------|-----------------------------------|
| (State or other jurisdiction of  incorporation or organization) |       | (IRS Employer Identification No.) |

 

**208 Harbor Drive, Stamford, Connecticut 06912-0061**

(Address of principal executive offices, including Zip Code)

 

**(203) 973-6700**

(Registrant’s telephone number, including area code)

 

----

 

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

 
| Yes | ý | No | o |
|-----|--------|----|---|

 

Indicate by check markwhether the registrant is an accelerated filer (as defined in Rule 12b-2 of theExchange Act).

 
| Yes | o | No | ý |
|-----|---|----|--------|

 

The number of shares ofthe registrant’s common stock, $.01 par value per share, outstanding as of September 30,2004 was 13,903,508.

 

 

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**META Group, Inc.**

 

**INDEX**

 
| **Part I**    | **FINANCIAL INFORMATION**                                                                                      |   |
|---------------|----------------------------------------------------------------------------------------------------------------|--------|
|          |                                                                                                           |   |
| Item  1.      | Condensed Financial Statements (Unaudited)                                                                     |   |
|          |                                                                                                           |   |
|          | Condensed Consolidated  Balance Sheets  September 30, 2004 and December 31, 2003                     |   |
|          |                                                                                                           |   |
|          | Condensed  Consolidated Statements of Operations  Three and nine months ended September 30, 2004 and 2003 |   |
|          |                                                                                                           |   |
|          | Condensed  Consolidated Statements of Cash Flows  Nine months ended September 30, 2004 and 2003           |   |
|          |                                                                                                           |   |
|          | Notes  to Condensed 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.       | Controls and  Procedures                                                                                       |   |
|          |                                                                                                           |   |
| **Part II**   | **OTHER  INFORMATION**                                                                                         |   |
|          |                                                                                                           |   |
| Item 6.       | Exhibits and  Reports on Form 8-K                                                                              |   |
|          |                                                                                                           |   |
| **Signature** |                                                                                                           |   |

 

2

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**PART I****- FINANCIALINFORMATION**

**Item 1.****          ****Financial Statements**

 

**META Group, Inc.**

**CONDENSED CONSOLIDATED BALANCE SHEETS**

**(in thousands, except for share and per share data)**

(Unaudited)

 
| ** **                                                                                                            | ** ** | **September 30,  2004** | ** ** | **December 31,  2003** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------|------------|------------------------------|------------|-----------------------------|------------|
| **Assets**                                                                                                            |       |                         |       |                        |       |
| Current assets:                                                                                                       |       |                         |       |                        |       |
| Cash and cash equivalents                                                                                             |       | $                            | 7,565      |                        | $          | 8,814 |   |
| Restricted cash                                                                                                       |       | 6,000                        |       | —                      |       |
| Accounts receivable, net                                                                                              |       | 30,314                       |       | 38,693                      |       |
| Deferred commissions                                                                                                  |       | 1,751                        |       | 1,550                       |       |
| Other current assets                                                                                                  |       | 1,441                        |       | 2,591                       |       |
| Total current assets                                                                                                  |       | 47,071                       |       | 51,648                      |       |
|                                                                                                                  |       |                         |       |                        |       |
| Restricted cash                                                                                                       |       | —                       |       | 6,000                       |       |
| Non-current portion of accounts receivable                                                                            |       | —                       |       | 184                         |       |
| Property and equipment, net                                                                                           |       | 4,990                        |       | 5,392                       |       |
| Goodwill                                                                                                              |       | 14,757                       |       | 13,016                      |       |
| Other intangibles, net                                                                                                |       | 8,429                        |       | 8,982                       |       |
| Investments and advances                                                                                              |       | 834                          |       | 1,146                       |       |
| Other assets                                                                                                          |       | 686                          |       | 344                         |       |
| Total assets                                                                                                          |       | $                            | 76,767     |                        | $          | 86,712 |   |
|                                                                                                                  |       |                         |       |                        |       |
| **Liabilities and Stockholders’ Equity**                                                                         |       |                         |       |                        |       |
| Current liabilities:                                                                                                  |       |                         |       |                        |       |
| Accounts payable                                                                                                      |       | $                            | 1,317      |                        | $          | 2,041 |   |
| Deferred revenues                                                                                                     |       | 41,053                       |       | 48,891                      |       |
| Borrowings under revolving credit agreement                                                                           |       | 1,300                        |       | —                      |       |
| Notes payable                                                                                                         |       | 288                          |       | 294                         |       |
| Accrued compensation                                                                                                  |       | 4,974                        |       | 5,495                       |       |
| Accrued and other current liabilities                                                                                 |       | 14,286                       |       | 16,618                      |       |
| Total current  liabilities                                                                                            |       | 63,218                       |       | 73,339                      |       |
|                                                                                                                  |       |                         |       |                        |       |
| Long-term portion of notes payable                                                                                    |       | 218                          |       | 389                         |       |
| Non-current deferred revenues                                                                                         |       | 101                          |       | 549                         |       |
| Other non-current liabilities                                                                                         |       | 1,390                        |       | 2,039                       |       |
| Total non-current  liabilities                                                                                        |       | 1,709                        |       | 2,977                       |       |
|                                                                                                                  |       |                         |       |                        |       |
| Total liabilities                                                                                                     |       | 64,927                       |       | 76,316                      |       |
|                                                                                                                  |       |                         |       |                        |       |
| Minority interest                                                                                                     |       | —                       |       | 322                         |       |
| Commitments and contingencies (see notes)                                                                             |       |                         |       |                        |       |
| Stockholders’ equity:                                                                                            |       |                         |       |                        |       |
| Preferred stock, $.01 par value per-share,  authorized 2,000,000 shares; none issued                                  |       | —                       |       | —                      |       |
| Common stock, $.01 par value per-share, authorized  45,000,000 shares, issued 14,550,524 and 14,303,655, respectively |       | 146                          |       | 143                         |       |
| Paid-in capital                                                                                                       |       | 62,134                       |       | 61,013                      |       |
| Accumulated deficit                                                                                                   |       | (50,245                      | )          | (50,197                     | )          |
| Accumulated other comprehensive income (loss)                                                                         |       | 125                          |       | (565                        | )          |
| Treasury stock, at cost, 647,016 shares                                                                               |       | (320                         | )          | (320                        | )          |
| Total stockholders’ equity                                                                                       |       | 11,840                       |       | 10,074                      |       |
| Total liabilities and  stockholders’ equity                                                                      |       | $                            | 76,767     |                        | $          | 86,712 |   |

 

See notes to condensed consolidated financial statements.

 

3

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**META Group, Inc.**

**CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS**

**(in thousands, except per-share data)**

(Unaudited)

 
| ** **                                                             | ** ** | **For the three months ended****September 30,** | ** ** | **For the nine months ended****September 30,** | ** ** |
|------------------------------------------------------------------------|------------|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                             | ** ** | **2004**                                             | ** ** | **2003**                                            | ** ** | **2004** | ** ** | **2003** | ** ** |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Revenues:                                                              |       |                                                 |       |                                                |       |   |   |   |   |
| Advisory services                                                      |       | $                                                    | 21,516     |                                                | $          | 18,741 |   | $ | 67,281 |   | $ | 56,404 |   |
| Strategic consulting                                                   |       | 10,768                                               |       | 8,802                                               |       | 30,697 |   | 24,959 |   |
| Published research products                                            |       | 1,429                                                |       | 1,348                                               |       | 4,309 |   | 4,538 |   |
| Reimbursable expenses                                                  |       | 682                                                  |       | 503                                                 |       | 1,890 |   | 1,723 |   |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Total revenues                                                         |       | 34,395                                               |       | 29,394                                              |       | 104,177 |   | 87,624 |   |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Operating expenses:                                                    |       |                                                 |       |                                                |       |   |   |   |   |
| Cost of services and fulfillment                                       |       | 16,035                                               |       | 16,334                                              |       | 51,701 |   | 46,873 |   |
| Reimbursable expenses                                                  |       | 682                                                  |       | 503                                                 |       | 1,890 |   | 1,723 |   |
| Selling and marketing                                                  |       | 9,923                                                |       | 8,201                                               |       | 31,456 |   | 24,493 |   |
| General and administrative                                             |       | 5,220                                                |       | 5,174                                               |       | 15,285 |   | 14,659 |   |
| Depreciation and amortization                                          |       | 1,197                                                |       | 1,091                                               |       | 3,538 |   | 3,705 |   |
| Loss on sale of subsidiary                                             |       | 416                                                  |       | —                                              |       | 416 |   | — |   |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Total operating expenses                                               |       | 33,473                                               |       | 31,303                                              |       | 104,286 |   | 91,453 |   |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Operating income (loss)                                                |       | 922                                                  |       | (1,909                                              | )          | (109 | ) | (3,829 | ) |
| Other income, net                                                      |       | 60                                                   |       | 23                                                  |       | 128 |   | 723 |   |
| Income (loss) before provision for income taxes and  minority interest |       | 982                                                  |       | (1,886                                              | )          | 19 |   | (3,106 | ) |
| Provision (benefit) for income taxes                                   |       | (124                                                 | )          | 16                                                  |       | (10 | ) | 148 |   |
| Minority interest in income of consolidated  subsidiary                |       | 66                                                   |       | 28                                                  |       | 77 |   | 82 |   |
| Net income (loss)                                                      |       | $                                                    | 1,040      |                                                | $          | (1,930 | ) | $ | (48 | ) | $ | (3,336 | ) |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Net income (loss) per basic common share                               |       | $                                                    | 0.07       |                                                | $          | (0.14 | ) | $ | 0.00 |   | $ | (0.25 | ) |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Net income (loss) per fully diluted common share                       |       | $                                                    | 0.07       |                                                | $          | (0.14 | ) | $ | 0.00 |   | $ | (0.25 | ) |
|                                                                   |       |                                                 |       |                                                |       |   |   |   |   |
| Weighted average number of basic common shares  outstanding            |       | 13,887                                               |       | 13,334                                              |       | 13,796 |   | 13,283 |   |
| Weighted average number of diluted common shares  outstanding          |       | 14,829                                               |       | 13,334                                              |       | 13,796 |   | 13,283 |   |

 

See notes to condensed consolidated financial statements.

 

4

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**META Group, Inc.**

**CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS**

**(in thousands)**

(Unaudited)

 
| ** **                                                                                 | ** ** | **For the nine months ended  September 30,** | ** ** |
|--------------------------------------------------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                                                                 | ** ** | **2004**                                          | ** ** | **2003** | ** ** |
| **Operating activities:**                                                                  |       |                                              |       |   |   |
| Net loss                                                                                   |       | $                                                 | (48        | ) | $ | (3,336 | ) |
| Adjustments to reconcile net loss to net cash  provided by (used in) operating activities: |       |                                              |       |   |   |
| Depreciation and amortization                                                              |       | 3,538                                             |       | 3,705 |   |
| Provision for doubtful accounts                                                            |       | —                                            |       | (600 | ) |
| Gain on sale of investments                                                                |       | —                                            |       | (615 | ) |
| Minority interest in income of consolidated  subsidiary                                    |       | 77                                                |       | 82 |   |
| Other non-cash charges                                                                     |       | —                                            |       | 199 |   |
| Loss on sale of subsidiary                                                                 |       | 416                                               |       | — |   |
| Stock compensation expense                                                                 |       | 456                                               |       | — |   |
| Changes in assets and liabilities:                                                         |       |                                              |       |   |   |
| Accounts receivable                                                                        |       | 8,990                                             |       | 11,946 |   |
| Deferred commissions                                                                       |       | (201                                              | )          | (315 | ) |
| Other current assets                                                                       |       | 1,509                                             |       | 1,665 |   |
| Other assets                                                                               |       | (208                                              | )          | 32 |   |
| Accounts payable                                                                           |       | (1,031                                            | )          | (1,409 | ) |
| Accrued liabilities                                                                        |       | (5,340                                            | )          | 2,936 |   |
| Deferred revenues                                                                          |       | (8,906                                            | )          | (6,664 | ) |
| Net cash provided by (used in) operating activities                                        |       | (748                                              | )          | 7,626 |   |
|                                                                                       |       |                                              |       |   |   |
| **Investing activities:**                                                                  |       |                                              |       |   |   |
| Capital expenditures                                                                       |       | (560                                              | )          | (673 | ) |
| Payments for acquisitions, net of cash acquired                                            |       | (781                                              | )          | (5,399 | ) |
| Proceeds from sale of investments                                                          |       | —                                            |       | 888 |   |
| Disposition of subsidiary                                                                  |       | (733                                              | )          | — |   |
| Net cash used in investing activities                                                      |       | (2,074                                            | )          | (5,184 | ) |
|                                                                                       |       |                                              |       |   |   |
| **Financing activities:**                                                                  |       |                                              |       |   |   |
| Proceeds from exercise of stock options                                                    |       | 493                                               |       | 224 |   |
| Proceeds from employee stock purchase plan                                                 |       | 175                                               |       | 62 |   |
| Proceeds from bank borrowings                                                              |       | 5,500                                             |       | — |   |
| Repayment of bank borrowings                                                               |       | (4,200                                            | )          | (1,049 | ) |
| Repayment of term loan                                                                     |       | —                                            |       | (5,111 | ) |
| Repayment of notes payable                                                                 |       | (177                                              | )          | (369 | ) |
| Payment of capital lease obligations                                                       |       | (235                                              | )          | — |   |
| Increase in restricted cash                                                                |       | —                                            |       | (6,000 | ) |
| Net cash provided by (used in) financing activities                                        |       | 1,556                                             |       | (12,243 | ) |
| Effect of exchange rate changes on cash                                                    |       | 17                                                |       | (71 | ) |
| Net decrease in cash and cash equivalents                                                  |       | (1,249                                            | )          | (9,872 | ) |
| Cash and cash equivalents, beginning of period                                             |       | 8,814                                             |       | 21,448 |   |
| Cash and cash equivalents, end of period                                                   |       | $                                                 | 7,565      |   | $ | 11,576 |   |

 

See notes to condensed consolidated financial statements.

 

5

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**META Group, Inc.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIALSTATEMENTS**

**(Unaudited)**

 

**Note 1 -Interim Financial Statements**

 

Theaccompanying unaudited condensed consolidated financial statements include theaccounts of META Group, Inc. (the “Company”) and its subsidiaries and have beenprepared in accordance with accounting principles generally accepted in theUnited States of America for interim financial reporting and with theinstructions to Form 10-Q and Article 10 of Regulation S-X ofthe Securities and Exchange Commission. Accordingly, they do not include all ofthe information and notes required by accounting principles generally acceptedin the United States of America for complete financial statements.

 

In theopinion of management, the accompanying unaudited condensed consolidatedfinancial statements contain all adjustments (consisting of normal recurringitems) necessary for a fair presentation of results for the interim periodspresented. The results of operations for any interim period are not necessarilyindicative of results for the full year. These financial statements andfootnote disclosures should be read in conjunction with the December 31,2003 audited consolidated financial statements and the notes thereto includedin the Company’s Form 10-K for the year ended December 31, 2003, asamended.

 

Thepreparation of the financial statements in conformity with accountingprinciples generally accepted in the United States of America requiresmanagement to make estimates and assumptions that affect the amounts reportedin the accompanying consolidated financial statements and notes. Actual resultscould differ from those estimates.

 

Certain 2003 amounts have been reclassified toconform to the current periods’ presentation.

 

###### **Note 2 – Acquisitions**

 

*Acquisitionof META Group Middle East*

 

In April 2004, the Company acquired 100% ofMETA Group Middle East for $950,000 in cash. The Company acquired this distributor in order to have full ownershipcontrol in the Middle East (other than Israel) to better serve its customers inthe region. The purchase pricehas been allocated to the assets acquired and the liabilities assumed, based onestimated fair values at the date of acquisition. The preliminary allocationresulted in goodwill of $1.1 million recorded in the Advisory Services segmentand $0.5 million recorded in the Consulting segment and $0.4 million related tothe customer list of the seller, which is being amortized on the straight linemethod over 7 years.

 

*2003 Acquisitions*

 

During2003, the Company completed three acquisitions of former distributors in Italy,the United Kingdom, and Northern Europe. The Company acquired thesedistributors in order to have full ownership control of major operations inEurope, in order to better serve its customers in the region.  A description of these transactions follows:

 

*Acquisitionof META Group Italy*

 

In June 2003, the Company acquired 100% of METAGroup Italia S.R.L. (“META Group Italy”) for $280,000 in cash. The purchaseprice has been allocated to the assets acquired and the liabilities assumed,based on estimated fair values at the date of acquisition. The allocation resultedin goodwill of $203,000

 

6

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recordedin the Advisory Services segment, $60,000 recorded in the Consulting segmentand $300,000 related to the customer list of the seller, which is beingamortized on the straight line method over 7 years.

 

*Acquisitionof META Group UK*

 

In August 2003, the Company acquired 100% ofMETA Group UK Holdings Limited (“META Group UK”) for $1.6 million in cash. Thepurchase price has been allocated to the assets acquired and the liabilitiesassumed, based on estimated fair values at the date of acquisition. The allocationresulted in goodwill of $108,000 recorded in the Advisory Services segment,$61,000 recorded in the Consulting segment and $1.3 million related to thecustomer list of the seller, which is being amortized on the straight linemethod over 7 years.

 

*Acquisitionof META Group Northern Europe*

 

In September 2003, the Company acquired 100% ofMETA Group Norway A/S, META Group Sweden AB, META Group Finland OY, META Group DenmarkA/S, META Group Belgium SA and META Group Nederland BV (collectively “NorthernEurope”). The purchase price consisted of $3.6 million in cash and 175,000shares of the Company’s common stock (valued at $700,000), as well asforgiveness of $2.6 million in promissory notes and $1.5 million in tradereceivables owed to the Company by the Northern European entities. The purchaseprice has been allocated to the assets acquired and the liabilities assumed,based on estimated fair values at the date of acquisition.  The preliminary allocation resulted ingoodwill of approximately $ 3.7 million recorded in the Advisory Servicessegment, $352,000 recorded in the Consulting segment and $3.9 million relatedto the customer lists of the sellers, which are being amortized on the straightline method over 7 years.

 

## **Note3– Goodwill and Other Intangible Assets**

 

EffectiveJanuary 1, 2002, the Company adopted Statement of Financial AccountingStandards No. 142, *Goodwill and OtherIntangible Assets*(“SFAS 142”). Under SFAS 142, goodwill andintangible assets deemed to have indefinite lives will no longer be amortizedbut will be subject to impairment tests on an annual basis, or more frequentlyif certain indicators arise. Other finite lived intangible assets will continueto be amortized over their useful lives.

 

Thegoodwill impairment test is a two-step process that requires goodwill to beallocated to the reporting units. In the first step, the fair value of thereporting unit is compared to the carrying value of the reporting unit. If thefair value of the reporting unit is less than the carrying value of thereporting unit, goodwill impairment may exist, and the second step of the testis performed. In the second step, the fair value of the goodwill is compared tothe carrying value of the goodwill and an impairment loss will be recognized tothe extent that the carrying value of the goodwill exceeds the implied fairvalue of the goodwill.

 

Inaccordance with SFAS 142, the Company has selected a date by which the annualimpairment test will be performed, such date being September 30. TheCompany performed its annual impairment test in September 2004 whichresulted in no goodwill impairment.

7

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Asummary of the Company’s intangible assets as of September 30, 2004 and December 31,2003 is as follows (amounts in thousands):

 
| ** **                                 | ** ** | **September 30, 2004** | ** ** |
|--------------------------------------------|------------|-----------------------------|------------|
| ** **                                 | ** ** | **Gross  Carrying  Amount** | ** ** | **Accumulated  Amortization** | ** ** | **Total** | ** ** |
| Amortized intangible assets:               |       |                        |       |   |   |   |   |
| Customer lists                             |       | $                           | 11,130     |   | $ | (3,894 | ) | $ | 7,237 |   |
| Intellectual property                      |       | 699                         |       | (501 | ) | 198 |   |
| Non-compete agreement                      |       | 375                         |       | (371 | ) | 4 |   |
| Content databases & other              |       | 2,110                       |       | (1,120 | ) | 990 |   |
| Total                                      |       | $                           | 14,314     |   | $ | (5,886 | ) | $ | 8,429 |   |
|                                       |       |                        |       |   |   |   |   |
| Aggregate amortization expense:            |       |                        |       |   |   |   |   |
| Nine months ended September 30, 2004: |       |                        |       |   |   | $ | 1,586 |   |

 
| ** **                                             | ** ** | **December 31, 2003**  | ** ** |
|--------------------------------------------------------|------------|-----------------------------|------------|
| ** **                                             | ** ** | **Gross  Carrying  Amount** | ** ** | **Accumulated  Amortization** | ** ** | **Total** | ** ** |
| Amortized intangible assets:                           |       |                        |       |   |   |   |   |
| Customer lists                                         |       | $                           | 10,124     |   | $ | (2,715 | ) | $ | 7,408 |   |
| Intellectual property                                  |       | 648                         |       | (334 | ) | 314 |   |
| Non-compete agreement                                  |       | 375                         |       | (298 | ) | 77 |   |
| Content databases & other                          |       | 2,085                       |       | (902 | ) | 1,183 |   |
| Total                                                  |       | $                           | 13,232     |   | $ | (4,250 | ) | $ | 8,982 |   |
|                                                   |       |                        |       |   |   |   |   |
| Aggregate amortization expense:                        |       |                        |       |   |   |   |   |
| Twelve months ended December 31, 2003:            |       |                        |       |   |   | $ | 1,481 |   |
|                                                   |       |                        |       |   |   |   |   |
| Estimated amortization expense:                        |       |                        |       |   |   |   |   |
| Remaining three months ending December 31,  2004: |       | $                           | 560        |   |   |   |   |   |
| Year ending December 31, 2005                     |       | 2,136                       |       |   |   |   |   |
| Year ending December 31, 2006                     |       | 1,552                       |       |   |   |   |   |
| Year ending December 31, 2007                     |       | 1,439                       |       |   |   |   |   |
| Year ending December 31, 2008                     |       | 1,213                       |       |   |   |   |   |
| Thereafter                                             |       | 1,529                       |       |   |   |   |   |
| Total                                                  |       | $                           | 8,429      |   |   |   |   |   |

 

Thechanges in the carrying amount of goodwill by reportable segment for the ninemonths ended September 30, 2004 is as follows (in thousands):

 
| ** **                            | ** ** | **Advisory Services** | ** ** | **Strategic  Consulting** | ** ** | **Total** | ** ** |
|---------------------------------------|------------|-----------------------|------------|---------------------------|------------|-----------|------------|
|                                  |       |                  |       |                      |       |      |       |
| Balance as of January 1, 2004    |       | $                     | 12,543     |                      | $          | 473       |       | $ | 13,016 |   |
| Goodwill acquired                     |       | 1,079                 |       | 485                       |       | 1,564     |       |
| Translation adjustments               |       | 165                   |       | 12                        |       | 177       |       |
| Balance as of September 30, 2004 |       | $                     | 13,787     |                      | $          | 970       |       | $ | 14,757 |   |

 

8

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###### **Note 4 – Comprehensive Income (Loss)**

 

Comprehensiveincome (loss) for the three and nine months ended September 30, 2004 and2003 was as follows (in thousands):

 
| ** **                                       | ** ** | **Three months ended  September 30,** | ** ** | **Nine months ended  September 30,** | ** ** |
|--------------------------------------------------|------------|--------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                       | ** ** | **2004**                                   | ** ** | **2003**                                  | ** ** | **2004** | ** ** | **2003** | ** ** |
|                                             |       |                                       |       |                                      |       |   |   |   |   |
| Net income (loss):                               |       | $                                          | 1,040      |                                      | $          | (1,930 | ) | $ | (48 | ) | $ | (3,336 | ) |
| Other comprehensive income (loss), net of tax:   |       |                                       |       |                                      |       |   |   |   |   |
| Unrealized loss on investment in equity security |       | (192                                       | )          | —                                    |       | (368 | ) | — |   |
| Foreign currency translation adjustment          |       | 316                                        |       | (145                                      | )          | 1,058 |   | 13 |   |
|                                             |       |                                       |       |                                      |       |   |   |   |   |
| Comprehensive income (loss)                      |       | $                                          | 1,164      |                                      | $          | (2,075 | ) | $ | 642 |   | $ | (3,323 | ) |

 

During the quarter ended March 31, 2004, the shares that the Companyowns in Tescom became a marketable security as a result of an initial publicoffering that Tescom completed.  Thecarrying value of the Company’s available for sale investment was $717,000 atSeptember 30, 2004, which is net of an unrealized loss of $368,000.  The Company monitors its investment in Tescomon a continuing basis.  For variousperiods during the three and nine months ended September 30, 2004, Tescom stocktraded above the Company’s per share basis in Tescom.  Additionally, there have been no fundamentalchanges in the operating performance of Tescom to indicate that an other thantemporary decline in fair value of its stock has occurred.

 

###### **Note 5 – Segment Reporting**

 

In thequarter ended March 31, 2004, the Company completed a reorganization ofthe management structure overseeing Advisory Services and Published ResearchProducts.  In addition, the Company alsocompleted a re-evaluation of its strategy around content generation anddelivery as they relate to Published Research Products.  As a result, the Company has organized itselfaround two business segments: Advisory Services and Strategic Consulting. TheCompany’s operating segments are managed separately, because each operatingsegment represents a strategic business unit that generally offers distinctproducts / services. Advisory Services provide comprehensive coverage ofrelevant information technology and business-related issues faced by itsclients through client/analyst interaction, published conclusions andrecommendations to each client’s specific IT requirements, including varioustopic-specific reports and standalone deliverables that meet specificassessment requirements. Strategic Consulting provides custom consultingservices tailored to meet individual client requirements.

 

9

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The accounting policies of the operating segments arethe same as those described in Note 1 to the Company’s 2003 Annual Report onForm 10-K, as amended, except that the disaggregated financial results for theCompany’s operating segments have been prepared using a management approach,which is consistent with the basis and manner in which the Company’s managementinternally disaggregates financial information for the purposes of assistancein making internal operating decisions. In 2004, the Company also changed howit evaluates performance based on stand-alone segment gross margin, defined bythe Company as the segment revenues less segment cost of services andfulfillment excluding selling, marketing, general and administrative expenses.  Those expenses were previously allocatedratably based on each operating segments’ revenues.  In 2004, the Company continued to refine themeasurement of segment revenues and, as a result, reclassified $0.4 million and$1.5 million for the three and nine months ended September 30, 2004,respectively, to Strategic Consulting from Advisory Services, and reclassified$0.4 million and $0.8 million for the three and nine months ended September 2003,respectively, to Strategic Consulting from Advisory Services. Management doesnot allocate corporate assets, non-operating income or income taxes whenmeasuring segment results. The Company evaluates the results of its geographicsegments excluding intercompany royalty income and expense.

 

TheCompany earns revenue from clients in many countries.  In the three and nine months ended September 30,2004 and 2003, other than the United States and Germany, there was noindividual country in which revenues from external clients represent 10% ormore of the Company’s consolidated revenues. Additionally, no single clientaccounted for 10% or more of total revenue in the quarters and nine monthsended September 30, 2004 and 2003, and the loss of a single client, inmanagement’s opinion, would not have a material adverse effect on revenues.

 

*Information by operating segmentis set forth below (in thousands):*

* *
| ** **                                     | ** ** | **Advisory  Services** | ** ** | **Strategic  Consulting** | ** ** | **Unallocated** | ** ** | **Consolidated  Total** | ** ** |
|------------------------------------------------|------------|------------------------|------------|---------------------------|------------|-----------------|------------|-------------------------|------------|
| **Three months ended September 30, 2004** |       |                   |       |                      |       |            |       |                    |       |
| Revenues                                       |       | $                      | 22,530     |                      | $          | 11,183          |       | $                       | 682        |   | $ | 34,395 |   |
| Gross Margin                                   |       | 13,985                 |       | 3,693                     |       | —          |       | 17,678                  |       |
| Assets                                         |       | —                 |       | —                    |       | 76,767          |       | 76,767                  |       |
|                                           |       |                   |       |                      |       |            |       |                    |       |
| **Three months ended September 30, 2003** |       |                   |       |                      |       |            |       |                    |       |
| Revenues                                       |       | $                      | 19,697     |                      | $          | 9,194           |       | $                       | 503        |   | $ | 29,394 |   |
| Gross Margin                                   |       | 9,940                  |       | 2,617                     |       | —          |       | 12,557                  |       |
| Assets                                         |       | —                 |       | —                    |       | 76,389          |       | 76,389                  |       |
|                                           |       |                   |       |                      |       |            |       |                    |       |
| **Nine months ended September 30, 2004**  |       |                   |       |                      |       |            |       |                    |       |
| Revenues                                       |       | $                      | 70,063     |                      | $          | 32,224          |       | $                       | 1,890      |   | $ | 104,177 |   |
| Gross Margin                                   |       | 41,213                 |       | 9,373                     |       | —          |       | 50,586                  |       |
| Assets                                         |       | —                 |       | —                    |       | 76,767          |       | 76,767                  |       |
|                                           |       |                   |       |                      |       |            |       |                    |       |
| **Nine months ended September 30, 2003**  |       |                   |       |                      |       |            |       |                    |       |
| Revenues                                       |       | $                      | 60,121     |                      | $          | 25,780          |       | $                       | 1,723      |   | $ | 87,624 |   |
| Gross Margin                                   |       | 32,725                 |       | 6,303                     |       | —          |       | 39,028                  |       |
| Assets                                         |       | —                 |       | —                    |       | $               | 76,389     |                    | $          | 76,389 |   |

* *

*10*

----

* *

TheCompany sells its products in the United States, and internationally throughits subsidiaries in Canada, the Asia Pacific region, Europe and the Middle East.The Company also utilizes a network of independent sales representativeorganizations located in Poland, Hungary, South Africa, Israel, Japan andArgentina to distribute its products.

 

*Information by geographic regionis set forth below (in thousands):*

* *
| ** **                                     | ** ** | **Americas** | ** ** | **Asia-Pacific** | ** ** | **Europe,  Middle East  Africa** | ** ** | **Consolidated  Total** | ** ** |
|------------------------------------------------|------------|--------------|------------|------------------|------------|----------------------------------|------------|-------------------------|------------|
| **Three months ended September 30, 2004** | * *   | * *     | * *   | * *         | * *   | * *                         | * *   | * *                | * *   |
| Revenues                                       |       | $            | 22,368     |             | $          | 1,527                            |       | $                       | 10,500     |   | $ | 34,395 |   |
| Operating income (loss)                        |       | 1,061        |       | (174             | )          | 35                               |       | 922                     |       |
| Long – lived assets                       |       | 6,542        |       | 2,040            |       | 21,114                           |       | 29,696                  |       |
|                                           |       |         |       |             |       |                             |       |                    |       |
| **Three months ended September 30, 2003** |       |         |       |             |       |                             |       |                    |       |
| Revenues                                       |       | $            | 22,967     |             | $          | 1,343                            |       | $                       | 5,084      |   | $ | 29,394 |   |
| Operating income (loss)                        |       | (330         | )          | (1,116           | )          | (463                             | )          | (1,909                  | )          |
| Long – lived assets                       |       | 8,049        |       | 1,908            |       | 11,277                           |       | 21,234                  |       |
|                                           |       |         |       |             |       |                             |       |                    |       |
| **Nine months ended September 30, 2004**  |       |         |       |             |       |                             |       |                    |       |
| Revenues                                       |       | $            | 67,461     |             | $          | 5,754                            |       | $                       | 30,962     |   | $ | 104,177 |   |
| Operating income (loss)                        |       | (2,567       | )     | 190              |       | 2,268                            |       | (109                    | )          |
| Long – lived assets                       |       | 6,542        |       | 2,040            |       | 21,114                           |       | 29,696                  |       |
|                                           |       |         |       |             |       |                             |       |                    |       |
| **Nine months ended September 30, 2003**  |       |         |       |             |       |                             |       |                    |       |
| Revenues                                       | ** ** | $            | 68,060     |             | $          | 4,253                            |       | $                       | 15,311     |   | $ | 87,624 |   |
| Operating income (loss)                        |       | (2,408       | )          | (796             | )          | (625                             | )          | (3,829                  | )          |
| Long – lived assets                       |       | 8,049        |       | 1,908            |       | 11,277                           |       | 21,234                  |       |
|                                                |            |              |            |                  |            |                                  |            |                         |            |  |  |  |  |  |

 

###### **Note 6 – Bank Debt**

 

In March 2003, the Company executed a new $6million revolving credit agreement (the “Amended Facility”). Under the AmendedFacility, interest on any outstanding borrowings will be payable at the rate ofLIBOR, as determined by the bank, plus 1.5%, or the higher of the Prime Rate orthe Federal Funds Rate plus 0.5%. The Amended Facility is fully collateralizedby a $6 million cash deposit reflected as restricted cash as of September 30,2004 and December 31, 2003. The Amended Facility contains no financialcovenants, and matured in November 2004. The Company has executed a five-monthextension of its Amended Facility effective as of November 4, 2004, whichwill extend the maturity date to April 4, 2005. The Company reclassified itsrestricted cash deposit to current assets in connection with the short termfacility extension.  As of September 30,2004 and December 31, 2003, there was $1,533,000 and $836,000,respectively, used under the Amended Facility in the form of standby letters ofcredit issued on behalf of one of the Company’s independent salesrepresentative

 

11

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organizations and as collateral for a portion of theCompany’s U.S. premises leases and equipment leases. In addition, there were $1.3million in borrowings outstanding as of September 30, 2004 and noborrowings outstanding as of December 31, 2003.

 

###### **Note 7 – Stock-Based Compensation**

 

TheCompany has three active stock-based employee compensation plans, which aredescribed more fully in Note 9 to the Company’s 2003 Annual Report on Form 10-K,as amended. The Company accounts for those plans under the recognition andmeasurement principles of Accounting Principles Board Opinion No. 25, “Accountingfor Stock Issued to Employees”, and related Interpretations. The followingtable illustrates the effect on net income (loss) and earnings (loss) per shareif the Company had applied the fair value recognition provisions of Statementof Financial Accounting Standards No. 123, “Accounting for Stock-BasedCompensation” to stock-based employee compensation (in thousands, except pershare data):

 
| ** **                                                                                                                     | ** ** | **Three Months Ended**       | ** ** | **Nine Months Ended**        | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------|------------|------------------------------|------------|------------------------------|------------|
| ** **                                                                                                                     | ** ** | **September 30,  2004** | ** ** | **September 30,  2003** | ** ** | **September 30,  2004** | ** ** | **September 30,  2003** | ** ** |
|                                                                                                                           |       |                         |       |                         |       |   |   |   |   |
| Reported net income (loss)                                                                                                     |       | $                            | 1,040      |                         | $          | (1,930 | ) | $ | (48 | ) | $ | (3,336 | ) |
| Add: Stock compensation expense included in net  income                                                                        |       | 456                          |       | —                       |       | 456 |   | — |   |
| Deduct: Total stock based employee compensation  expense determined under fair value based methods for all awards, net of tax: |       | (679                         | )          | (557                         | )          | (1,955 | ) | (1,898 | ) |
| Pro forma net income (loss)                                                                                                    |       | $                            | 817        |                         | $          | (2,487 | ) | $ | (1,547 | ) | $ | (5,234 | ) |
|                                                                                                                           |       |                         |       |                         |       |   |   |   |   |
| Net income (loss) per share                                                                                                    |       |                         |       |                         |       |   |   |   |   |
| Reported                                                                                                                       |       |                         |       |                         |       |   |   |   |   |
| Basic                                                                                                                          |       | $                            | 0.07       |                         | $          | (014 | ) | $ | 0.00 |   | $ | (0.25 | ) |
| Diluted                                                                                                                        |       | $                            | 0.07       |                         | $          | (0.14 | ) | $ | 0.00 |   | $ | (0.25 | ) |
|                                                                                                                           |       |                         |       |                         |       |   |   |   |   |
| Pro forma                                                                                                                      |       |                         |       |                         |       |   |   |   |   |
| Basic                                                                                                                          |       | $                            | 0.06       |                         | $          | (0.19 | ) | $ | (0.11 | ) | $ | (0.39 | ) |
| Diluted                                                                                                                        |       | $                            | 0.06       |                         | $          | (0.19 | ) | $ | (0.11 | ) | $ | (0.39 | ) |

 

**Note 8 –Net Income (Loss) Per Share**

 

The following table sets forth the computation ofnet income (loss) per share for the three and nine months ended September 30,2004 and 2003 (in thousands, except per share data):

 

12

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| ** **                                                              | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|-------------------------------------------------------------------------|------------|--------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                              | ** ** | **2004**                                   | ** ** | **2003**                                  | ** ** | **2004** | ** ** | **2003** | ** ** |
|                                                                    |       |                                       |       |                                      |       |   |   |   |   |
| Net income (loss)                                                       |       | $                                          | 1,040      |                                      | $          | (1,930 | ) | $ | (48 | ) | $ | (3,336 | ) |
|                                                                    |       |                                       |       |                                      |       |   |   |   |   |
| Average number of common shares outstanding during  the period          |       | 13,887                                     |       | 13,334                                    |       | 13,796 |   | 13,283 |   |
|                                                                    |       |                                       |       |                                      |       |   |   |   |   |
| Add: common share equivalents — options to purchase  common shares |       | 942                                        |       | —                                    |       | — |   | — |   |
| Total                                                                   |       | 14,829                                     |       | 13,334                                    |       | 13,796 |   | 13,283 |   |
|                                                                    |       |                                       |       |                                      |       |   |   |   |   |
| Amounts per basic common share                                          |       |                                       |       |                                      |       |   |   |   |   |
| Net income (loss)                                                       |       | $                                          | 0.07       |                                      | $          | (0.14 | ) | $ | 0.00 |   | $ | (0.25 | ) |
|                                                                    |       |                                       |       |                                      |       |   |   |   |   |
| Amounts per fully diluted common share                                  |       |                                       |       |                                      |       |   |   |   |   |
| Net income (loss)                                                       |       | $                                          | 0.07       |                                      | $          | (0.14 | ) | $ | 0.00 |   | $ | (0.25 | ) |

 

Forthe third quarter ended September 30, 2003, options on 1,323,816 shares ofcommon stock were not included in the calculation of weighted average sharesfor diluted earnings per share because their effects were antidilutive.

 

Forthe nine months ended September 30, 2004 and 2003, options on 1,403,918and 1,099,474  shares of common stock,respectively, were not included in the calculation of weighted average sharesfor diluted earnings per share because their effects were antidilutive.

 

###### **Note 9 – Other Income, Net**

 

During the nine months ended September 30, 2003, the Companyreceived final proceeds of $588,000 on the liquidation of its investment inSpikes Cavell and recognized a gain of $315,000. Additionally, the Company soldan investment to a third party and recognized a gain of $350,000. These gainswere included in other income, net for the nine months ended September 30,2003.

 

###### **Note 10 – Commitments and Contingencies**

 

*Contingencies:*

 

*Legal:*

 

*Otherthan ordinary routine litigation incidental to the Company’s business, theCompany is neither a party, nor is any of its property subject to, any pendinglegal proceedings.*

* *

*Earnout Provision Related to Acquisition of Assets ofRubin Systems, Inc. (“RSI”)*

* *

The Company’s purchase agreement for the October 2000acquisition of the assets of RSI included certain earnout provisions. Under theagreement, in the event certain financial targets were met, additionalcontingent consideration of $2.7 million payable in cash and $1.4 millionpayable in the Company’s common stock could have been paid through March 2007.In the event the aggregate number of shares issued in satisfaction of contingentconsideration exceeded 147,027, the remaining consideration could have beenpayable in cash. RSI was

 

13

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wholly owned by Dr. Howard Rubin, an employee of theCompany.  No payment was required for theyear ended December 31, 2003.

 

In August 2004, the Company and Dr. Rubin entered intoan Amended and Restated Employment, Compensation and Release Agreement (the“Restated Agreement”).  The term of theRestated Agreement is through December 31, 2008, but is subject to earliertermination.  The Restated Agreementsupersedes the above-referenced earnout provisions, and provides, effective asof January 1, 2004, for the following earnout arrangements:

 

•              Dr. Rubin’s earnout potential forthe term of the Restated Agreement is $2,300,000, split into equal $460,000annual increments for the years 2004 and 2008. Of the $460,000, Dr. Rubin can earn up to $230,000 per year based onCompany performance or other criteria established by the Company’s CompensationCommittee, and he can earn up to another $230,000 based on a percentage of theCompany’s WWB benchmark, WWB publication and WWB guru consulting revenue (“WWBRevenue”).  The amount earned is apercentage of the WWB Revenue is equal to ten percent, eight percent, sevenpercent, five percent and four percent in each of fiscal years 2004, 2005,2006, 2007 and 2008, respectively, capped at $230,000 per year.  No carryover is permitted.

 

•              Dr. Rubin is not eligible for anyearnout payments for a given fiscal year if his retainer consulting revenue forthe year is less than $1 million.

 

*Letters of Credit:*

* *

*See Note6 for discussion of standby letters of credit.*

* *

*Guarantees:*

* *

*In September 2000the Company provided a corporate guarantee in the amount of €62,000(approximately $76,000) guaranteeing lease payments to the landlord of one ofthe Company’s former independent sales representative organizations. In January 2002,the landlord called the guarantee. The claim is currently being negotiated withthe landlord. The Company is currently uncertain as to when this issue will beresolved.*

* *

**Note11-****Restructuring Charges**

 

During2003, the Company recorded restructuring charges totaling $1,642,000. Thesecharges were associated with workforce reductions, which totaled 41employees.  As of September 30,2004, $65,000 remains unpaid and is expected to be paid by December 31, 2004.

 

**Note 12- Income Taxes**

 

In2004, the Company recorded a benefit for income taxes of $10,000 versus anincome tax provision of $148,000 in 2003. The tax benefit is the result of certain state tax refunds expected tobe received, which largely offset state and foreign tax provisions.

 

14

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**Item 2****.**           **MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTSOF OPERATIONS**

 

*Thediscussion and analysis below contains trend analysis and other forward-lookingstatements within the meaning of Section 27A of the Securities Act of 1933and Section 21E of the Securities Exchange Act of 1934, which are subjectto a number of risks and uncertainties. These forward-looking statements aretypically denoted in this Quarterly Report on Form 10-Q by words such asanticipate, believe, could, estimate, expect, intend, may, plan, project,should or will and similar words (as well as other words or expressionsreferencing future events, conditions or circumstances). Actual results coulddiffer materially from those projected in the forward-looking statements as aresult of the risk factors, including the risk factors set forth below under “CertainFactors That May Affect Future Results.” This discussion should be read inconjunction with the consolidated financial statements and related notes forthe periods specified. Further reference should be made to the Company’s otherfilings with the Securities and Exchange Commission, principally the Company’sAnnual Report on Form 10-K for the year ended December 31, 2003, asamended, which includes a full discussion of many of the risks we face in ourbusiness.*

 

#### **Overview**

#### ** **

METAGroup, Inc. with its subsidiaries (collectively the “Company”) is a leading provider of information technology (“IT”)research, advisory services, and strategic consulting. The Company’s mission isto help clients be more efficient, effective, and timely in their use of IT toachieve their business goals.

 

In thequarter ended March 31, 2004, the Company completed a reorganization ofthe management structure overseeing Advisory Services and Published ResearchProducts.  In addition, the Company alsocompleted a re-evaluation of its strategy around content generation anddelivery as it relates to Published Research Products.  As a result, the Company has organized itselfaround two business segments:  AdvisoryServices and Strategic Consulting. The Advisory Services segment providesannually renewable subscription services (focused on specific areas of IT, thespecial needs of the CIO and others within the IT organization, or the distinctIT/business issues of specific industry markets and the public sector), serviceanalyst briefing engagements, conferences, research reports and onlineresources which offer thorough market research, practical executive /operational guides and in-depth IT product evaluations. Supplementing theseservices are the Company’s Infusion programs, which provide an important bridgebetween traditional Advisory Services that examine broader industry issues andStrategic Consulting which drills into specific projects for a givenclient.  The Strategic Consulting segmentoffers project consulting services that address clients’ business andtechnology challenges. A significant portion of Strategic Consulting clientsare also Advisory Services subscribers.

 

***The Current Economic Environment***

 

Theeconomic climate in which we operate has been difficult over the last threeyears, and capital spending has decreased dramatically, including significantdecreases in IT spending. This has had a pronounced effect on our ability togenerate revenues from our Advisory Services,

 

15

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Strategic Consulting andPublished Research Products.  We believewe are well positioned to provide our Advisory Services, Strategic Consultingand Published Research Products to a growing customer base, but we cannotprovide any assurance that these pressures on IT spending will ease, or thatthe general economic climate will improve. Continued competitive pressure and a weak economy could have acontinuing pronounced effect on our operating results. We have undertaken avariety of cost reduction measures designed to bring our operating expenses inline with our perceptions of the business climate, including workforcereductions.

 

***FinancialEvents in Quarter and Nine Months ended September 30, 2004***

 

Duringthe quarter ended September 30, 2004, we achieved total revenue of $34.4million, and had income before income taxes and minority interest of $1.0million. During the nine months ended September 30, 2004, we achievedtotal revenue of $104.2 million, and had income before income taxes andminority interest of $19 thousand.

 

16

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***Results of Operations***

 

The following table sets forth, for the yearsindicated, the results of operations in thousands of dollars, and results ofoperations as a percentage of total revenues:

 
| ** **                                                             | ** ** | **Quarter ended  September 30, 2004** | ** ** | **Quarter ended  September 30, 2003** | ** ** | **Nine Months ended  September 30, 2004** | ** ** | **Nine Months ended  September 30, 2003** | ** ** |
|------------------------------------------------------------------------|------------|--------------------------------------------|------------|--------------------------------------------|------------|------------------------------------------------|------------|------------------------------------------------|------------|
| ** **                                                             | ** ** | **Dollars**                                | ** ** | **Percent**                                | ** ** | **Dollars**                                    |       | **Percent**                                    | ** ** | **Dollars** |   | **Percent** | ** ** | **Dollars** |   | **Percent** | ** ** |
| Revenues:                                                              |       |                                       |       |                                       | ** ** |                                           |       |                                           | ** ** |   |   |   | ** ** |   |   |   | ** ** |
|                                                                   |       |                                       |       |                                       | ** ** |                                           |       |                                           | ** ** |   |   |   | ** ** |   |   |   | ** ** |
| Advisory services                                                      |       | $                                          | 21,516     | ** **                                 | **62.6**   | ** **                                     | $          | 18,741                                         |       | **63.8** | ** ** | $ | 67,281 |   | **64.6** | ** ** | $ | 56,404 |   | **64.4** | ** ** |
|                                                                   |       |                                       |       | ** **                                 | ** ** | ** **                                     |       |                                           |       | ** ** | ** ** |   |   |   | ** ** | ** ** |   |   |   | ** ** | ** ** |
| Strategic consulting                                                   |       | 10,768                                     | ** ** | **31.3**                                   | ** ** | 8,802                                          |       | **29.9**                                       | ** ** | 30,697 |   | **29.5** | ** ** | 24,959 |   | **28.5** | ** ** |
|                                                                   |       |                                       | ** ** | ** **                                 | ** ** |                                           |       | ** **                                     | ** ** |   |   | ** ** | ** ** |   |   | ** ** | ** ** |
| Published research products                                            |       | 1,429                                      | ** ** | **4.1**                                    | ** ** | 1,348                                          |       | **4.6**                                        | ** ** | 4,309 |   | **4.1** | ** ** | 4,538 |   | **5.2** | ** ** |
|                                                                   |       |                                       | ** ** | ** **                                 | ** ** |                                           |       | ** **                                     | ** ** |   |   | ** ** | ** ** |   |   | ** ** | ** ** |
| Reimbursable expenses                                                  |       | 682                                        | ** ** | **2.0**                                    | ** ** | 503                                            |       | **1.7**                                        | ** ** | 1,890 |   | **1.8** | ** ** | 1,723 |   | **1.9** | ** ** |
| Total revenues                                                         |       | 34,395                                     | ** ** | **100.0**                                  | ** ** | 29,394                                         |       | **100.0**                                      | ** ** | 104,177 |   | **100.0** | ** ** | 87,624 |   | **100.0** | ** ** |
| ** **                                                             | ** ** | ** **                                 | ** ** | ** **                                 | ** ** | ** **                                     |       | ** **                                     | ** ** | ** ** |   | ** ** | ** ** | ** ** |   | ** ** | ** ** |
| Operating expenses:                                                    | ** ** | ** **                                 | ** ** | ** **                                 | ** ** | ** **                                     |       | ** **                                     | ** ** | ** ** |   | ** ** | ** ** | ** ** |   | ** ** | ** ** |
| Cost of services and fulfillment                                       |       | 16,035                                     | ** ** | **(46.6**                                  | **)**      | 16,334                                         |       | **(55.6**                                      | **)**      | 51,701 |   | **(49.6** | **)** | 46,873 |   | **(53.5** | **)** |
|                                                                   |       |                                       | ** ** | ** **                                 | ** ** |                                           |       | ** **                                     | ** ** |   |   | ** ** | ** ** |   |   | ** ** | ** ** |
| Reimbursable expenses                                                  |       | 682                                        | ** ** | **(2.0**                                   | **)**      | 503                                            |       | **(1.7**                                       | **)**      | 1,890 |   | **(1.8** | **)** | 1,723 |   | **(1.9** | **)** |
|                                                                   |       |                                       | ** ** | ** **                                 | ** ** |                                           |       | ** **                                     | ** ** |   |   | ** ** | ** ** |   |   | ** ** | ** ** |
| Selling and marketing                                                  |       | 9,923                                      | ** ** | **(28.8**                                  | **)**      | 8,201                                          |       | **(27.9**                                      | **)**      | 31,456 |   | **(30.2** | **)** | 24,493 |   | **(28.0** | **)** |
|                                                                   |       |                                       | ** ** | ** **                                 | ** ** |                                           |       | ** **                                     | ** ** |   |   | ** ** | ** ** |   |   | ** ** | ** ** |
| General and administrative                                             |       | 5,220                                      | ** ** | **(15.2**                                  | **)**      | 5,174                                          |       | **(17.6**                                      | **)**      | 15,285 |   | **(14.7** | **)** | 14,659 |   | **(16.7** | **)** |
|                                                                   |       |                                       | ** ** | ** **                                 | ** ** |                                           |       | ** **                                     | ** ** |   |   | ** ** | ** ** |   |   | ** ** | ** ** |
| Depreciation and amortization                                          |       | 1,197                                      | ** ** | **(3.5**                                   | **)**      | 1,091                                          |       | **(3.7**                                       | **)**      | 3,538 |   | **(3.4** | **)** | 3,705 |   | **(4.3** | **)** |
|                                                                   |       |                                       | ** ** | ** **                                 | ** ** |                                           |       | ** **                                     | ** ** |   |   | ** ** | ** ** |   |   | ** ** | ** ** |
|   Loss on sale of subsidiary                                      |       | 416                                        | ** ** | **(1.2**                                   | **)**      | —                                         |       | **—**                                     | ** ** | 416 |   | **(0.4** | **)** | — |   | **—** | ** ** |
|                                                                   |       |                                       | ** ** | ** **                                 | ** ** |                                           |       | ** **                                     | ** ** |   |   | ** ** | ** ** |   |   | ** ** | ** ** |
| Total operating expenses                                               |       | 33,473                                     | ** ** | **(97.3**                                  | **)**      | 31,303                                         |       | **(106.5**                                     | **)**      | 104,286 |   | **(100.1** | **)** | 91,453 |   | **(104.4** | **)** |
| ** **                                                             | ** ** | ** **                                 | ** ** | ** **                                 | ** ** | ** **                                     |       | ** **                                     | ** ** | ** ** |   | ** ** | ** ** | ** ** |   | ** ** | ** ** |
| Operating income (loss)                                                |       | 922                                        | ** ** | **2.7**                                    | ** ** | (1,909                                         | )          | **(6.5**                                       | **)**      | (109 | ) | **(0.1** | **)** | (3,829 | ) | **(4.4** | **)** |
| ** **                                                             | ** ** | ** **                                 | ** ** | ** **                                 | ** ** | ** **                                     |       | ** **                                     | ** ** | ** ** |   | ** ** | ** ** | ** ** |   | ** ** | ** ** |
| Other income, net                                                      |       | 60                                         | ** ** | **0.2**                                    | ** ** | 23                                             |       | **0.1**                                        | ** ** | 128 |   | **0.1** | ** ** | 723 |   | **0.8** | ** ** |
| ** **                                                             | ** ** | ** **                                 | ** ** | ** **                                 | ** ** | ** **                                     |       | ** **                                     | ** ** | ** ** |   | ** ** | ** ** | ** ** |   | ** ** | ** ** |
| Income (loss) before provision for income taxes and  minority interest |       | 982                                        | ** ** | **2.9**                                    | ** ** | (1,886                                         | )          | **(6.4**                                       | **)**      | 19 |   | **0.0** | ** ** | (3,106 | ) | **(3.6** | **)** |
| ** **                                                             | ** ** | ** **                                 | ** ** | ** **                                 | ** ** | ** **                                     |       | ** **                                     | ** ** | ** ** |   | ** ** | ** ** | ** ** |   | ** ** | ** ** |
| Provision (benefit) for income taxes                                   |       | (124                                       | **)**      | **(0.3**                                   | **)**      | 16                                             |       | **0.1**                                        | ** ** | (10 | ) | **(0.0** | **)** | 148 |   | **0.2** | ** ** |
| ** **                                                             | ** ** | ** **                                 | ** ** | ** **                                 | ** ** | ** **                                     |       | ** **                                     | ** ** | ** ** |   | ** ** | ** ** | ** ** |   | ** ** | ** ** |
| Minority interest in income of consolidated  subsidiary                |       | 66                                         | ** ** | **0.2**                                    | ** ** | 28                                             |       | **0.1**                                        | ** ** | 77 |   | **0.1** | ** ** | 82 |   | **0.1** | ** ** |
| ** **                                                             | ** ** | ** **                                 | ** ** | ** **                                 | ** ** | ** **                                     |       | ** **                                     | ** ** | ** ** |   | ** ** | ** ** | ** ** |   | ** ** | ** ** |
| Net income (loss)                                                      |       | $                                          | 1,040      | ** **                                 | **3.0**    | ** **                                     | $          | (1,930                                         | )          | **(6.6** | **)** | $ | (48 | ) | **(0.1** | **)** | $ | (3,336 | ) | **(3.9** | **)** |

 

17

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AdvisoryServices revenues are principally annually renewable contracts and aregenerally payable by clients in advance. Billings attributable to the Company’s Advisory Services are initiallyrecorded as deferred revenues and then recognized pro rata over the contractterm.  Advisory Services revenuesattributable to international clients not serviced by the Company’ssubsidiaries are billed and collected by its independent sales representativeorganizations. The Company realizes Advisory Services revenues from theindependent sales representative organizations at rates of 40%- 75% of theamounts billed to their clients. One measure of the volume of the Company’sAdvisory Services business is its “Contract Value,” which the Companycalculates as the aggregate annual value of retainer subscription servicescontracts in force at a given point in time, without regard to the remainingduration of such contracts. Contract Value is not necessarily indicative offuture Advisory Services revenues. Contract Value was $72.8 million at September 30,2004 versus $69.6 million at September 30, 2003, a 4.6% increase.

 

TheCompany recognizes revenue on Strategic Consulting engagements on a contract bycontract basis, as the work is performed, utilizing the percentage ofcompletion method for fixed fee projects, or as services are rendered for timeand material projects.

 

The Company recognizes revenues from the sale ofPublished Research Products when the products are delivered.

 

The Company’s operating expenses consist of cost ofservices and fulfillment, selling and marketing expenses, general andadministrative expenses and depreciation and amortization. Cost of services andfulfillment represents the cost associated with production and delivery of theCompany’s products and services and includes the costs of research,development, preparation of periodic reports, analyst telephone consultations,executive briefings and conferences, research reports, consulting services, newproduct development, and all associated editorial and support services. Sellingand marketing expenses include the costs of salaries, commissions, and relatedbenefits for selling and marketing personnel as well as travel and promotion,and bad debt expense.  General andadministrative expenses include the costs of the administrative functions ofthe Company, including finance and accounting, corporate IT, legal, humanresources, and corporate management departments.  See “Segment Reporting” in Note 5 to theconsolidated financial statements for information regarding the Company’soperating segments.

 

# **Results of Operations**

# **Quarters Ended September 30,2004 and September 30, 2003**

 

*Total Revenues.*  Totalrevenues increased 17% to $34.4 million in 2004 from $29.4 million in 2003. Thetable below gives an analysis of the major changes in revenues (in thousands):

 

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**Changes in Revenues – Quarters ended September 30,2004 versus 2003**

 
| ** **                  | ** ** | **Acquisitions** | ** ** | **Ongoing Operations** | ** ** | **Foreign Exchange** | ** ** | **Net Change** | ** ** |
|-----------------------------|------------|------------------|------------|------------------------|------------|----------------------|------------|----------------|------------|
| Advisory Services           |       | $                | 1,703      |                   | $          | 840                  |       | $              | 232        |   | $ | 2,775 |   |
| Strategic Consulting        |       | 1,465            |       | 221                    |       | 280                  |       | 1,966          |       |
| Published Research Products |       | 7                |       | 16                     |       | 58                   |       | 81             |       |
| Reimbursable Expenses       |       | 80               |       | 88                     |       | 11                   |       | 179            |       |
| Total                       |       | $                | 3,255      |                   | $          | 1,165                |       | $              | 581        |   | $ | 5,001 |   |

 

Revenuesfrom Advisory Services increased 15%****to****$21.5 million in2004 from $18.7 million in 2003 and decreased 1% as a percentage oftotal revenues to 63%. The increase in revenues was principally due to $1.7million of higher revenue from the acquisition of subsidiaries in the UnitedKingdom, and Northern Europe in 2003 and the Middle East in 2004, $0.8 millionof higher revenue from ongoing operations, as well as the impact of foreigncurrency exchange rates on revenues from ongoing operations in Canada, Europeand the Asia Pacific region of $0.2 million.

 

Strategic Consulting revenues increased 23% to $10.8million in 2004 from $8.8 million in 2003, and increased as a percentage oftotal revenues to 31% from 30%. The increase was principally due to the acquisitionof subsidiaries in the United Kingdom and Northern Europe in 2003 and theMiddle East in 2004 (which collectively added incremental revenue of $1.5million), the impact of foreign currency of $0.3 million, and an increase of$0.2 million in the Company’s consulting revenues from ongoing operations.

 

Published Research Productsrevenues increased $0.1 million to $1.4 million in 2004 from $1.3 million in2003 and decreased as a percentage of total revenues to 4% from 5%. Theserevenues were impacted by favorable foreign exchange rates in ongoingoperations.

 

*Total Operating Expenses.*  Totaloperating expenses increased 7% to $33.5 million in 2004 from $31.3 million in2003. The table below gives an analysis of the major changes in operatingexpenses (in thousands):

 

**Changes in Operating Expenses –Quarters ended September 30, 2004 versus 2003**

 
| ** **                            | ** ** | **Acquisitions** | ** ** | **Ongoing Operations** | ** ** | **Foreign Exchange** | ** ** | **Net Change** | ** ** |
|---------------------------------------|------------|------------------|------------|------------------------|------------|----------------------|------------|----------------|------------|
| Cost of Services and Fulfillment      |       | $                | 1,668      |                   | $          | (2,091               | )          | $              | 303        |   | $ | (120 | ) |
| Selling and Marketing Expenses        |       | 1,131            |       | 378                    |       | 213                  |       | 1,722          |       |
| General & Administrative Expenses |       | 371              |       | (452                   | )          | 127                  |       | 46             |       |
| Depreciation and Amortization         |       | 222              |       | (136                   | )          | 20                   |       | 106            |       |
| Loss on sale of subsidiary            |       | —           |       | 416                    |       | —               |       | 416            |       |
| Total                                 |       | $                | 3,392      |                   | $          | (1,885               | )          | $              | 663        |   | $ | 2,170 |   |

 

*Costof Services and Fulfillment*. Cost of services and fulfillment, including reimbursable expenses, decreasedapproximately $0.1 million to $16.7 million in 2004 from $16.8 million in 2003and decreased as a percentage of total revenues to 49% from 57%. The decreasewas principally due to $2.1 million of decreased costs from ongoing operations,which included reduced bonus expense of $1.0 million with the remainingdecrease spread across other expense items. These decreases were largely offsetby incremental costs of $1.7 million associated with subsidiaries in the UnitedKingdom and Northern Europe acquired in 2003 and the Middle East in 2004, and$0.3 million from the impact of foreign exchange rates on the costs fromongoing operations in Canada, Europe and the Asia Pacific region.

 

*Sellingand Marketing Expenses*. Selling and marketing expenses increased 21% or approximately $1.7million to $9.9 million in 2004 from $8.2 million in 2003 and increased as a percentageof total revenues to 29% from 28%. The increase in selling and marketingexpenses was due to $1.1 million in incremental personnel costs associated withsubsidiaries in the United Kingdom and Northern Europe acquired in 2003 and theMiddle East in 2004, $0.2 million from the impact of foreign exchange rates onthe costs from ongoing operations in Canada, Europe and the Asia Pacificregion, and $0.4 million of increased expenses from ongoing operations (whichincluded a 2004 charge of $0.5 million for termination of an employmentcontract).

 

*Generaland Administrative Expenses*. General and administrative expenses remained relatively level at $5.2million in both 2004 and 2003. Lower general and administrative expenses in theongoing operations of $0.5 million (which included a $0.5 million charge fortermination of an employment contract, offset by lower costs of $0.3 millionassociated with expatriate staff and $0.3 million of lower bonus expense) werelargely offset by $0.4 million in incremental personnel costs associated withsubsidiaries in the United Kingdom and Northern Europe acquired in 2003 and theMiddle East in 2004, and an increase in expenses of $0.1 million due to theimpact of foreign exchange rates on the costs from ongoing operations inCanada, Europe and the Asia Pacific region.

 

*Depreciationand Amortization*.  Depreciationand amortization expense increased 9% or approximately $0.1 million to $1.2million in 2004 from $1.1 million in 2003. The increase was principally due to$0.2 million of higher depreciation and amortization expense from incrementalcosts associated with subsidiaries in the United Kingdom and Northern Europeacquired in 2003 and the Middle East in 2004, partially offset by $0.1 millionin lower depreciation expense on reduced levels of depreciable fixed assets inthe United States.

 

19

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*Loss onthe Sale of Subsidiary*. In July 2004, the Company soldits 50.2% interest in META Hungary to the minority shareholders for netproceeds of $37,000 which pertained to forgiveness of a liability to Hungary.  The Company recorded a loss on the sale of$416,000.

 

*OtherIncome, Net*.  Otherincome, net, increased to $60,000 in 2004 from $23,000 in 2003, primarily due tointerest receivable from a state tax authority related to prior tax refunds.

 

*Provisionfor Income Taxes*.  In2004, the Company recorded a benefit for income taxes of $124,000 versus anincome tax provision of $16,000 in 2003. The tax benefit is the result ofcertain state tax refund claims.

 

# **Results of Operations**

# **Nine Months Ended September 30,2004 and September 30, 2003**

# ** **

*TotalRevenues.*  Totalrevenues increased 19% to $104.2 million in 2004 from $87.6 million in 2003.

 

The table below gives an analysis of the major changes in revenues (inthousands):

 

**Changes in Revenues – Nine monthsended September 30, 2004 versus 2003**

 
| ** **                  | ** ** | **Acquisitions** | ** ** | **Ongoing Operations** | ** ** | **Foreign Exchange** | ** ** | **Net Change** | ** ** |
|-----------------------------|------------|------------------|------------|------------------------|------------|----------------------|------------|----------------|------------|
| Advisory Services           |       | $                | 5,466      |                   | $          | 4,167                |       | $              | 1,244      |   | $ | 10,877 |   |
| Strategic Consulting        |       | 4,607            |       | (235                   | )          | 1,366                |       | 5,738          |       |
| Published Research Products |       | 56               |       | (420                   | )          | 135                  |       | (229           | )          |
| Reimbursable Expenses       |       | 203              |       | (98                    | )          | 61                   |       | 166            |       |
| Total                       |       | $                | 10,332     |                   | $          | 3,414                |       | $              | 2,806      |   | $ | 16,552 |   |

 

Revenuesfrom Advisory Services increased 19%****to****$67.3 million in2004 from $56.4 million in 2003 and increased 1% as a percentage oftotal revenues to 65%. The increase in revenues was principally due to theacquisition of subsidiaries in Italy, the United Kingdom, and Northern Europein 2003 and the Middle East in 2004 (which collectively added incrementalrevenue of $5.5 million), $4.2 million of higher revenue from ongoingoperations, as well as the impact of foreign currency exchange rates onrevenues from ongoing operations in Canada, Europe and the Asia Pacific regionof $1.2 million.

 

Strategic Consultingrevenues increased 23% to $30.7 million in 2004 from $25.0 million in 2003, andincreased as a percentage of total revenues to 29% from 28%. The increase wasprincipally due to the acquisition of subsidiaries in Italy, the United Kingdomand Northern Europe in 2003 and the Middle East in 2004 (which collectively addedincremental revenue of $4.6 million), and the impact of foreign currency of $1.4million. These revenue increases were partially offset by $0.2 million ofreduced consulting revenues in ongoing operations.

 

20

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PublishedResearch Products revenues decreased 4% to $4.3 million in 2004 from $4.5million in 2003 and decreased as a percentage of total revenues to 4% from 5%.The decrease in revenues was principally due to lower revenues from ongoingoperations in the United States of $0.4 million, partially offset by the impactof foreign currency exchange rates on revenues from ongoing operations inCanada, Europe and the Asia Pacific region of $0.1 million, as well as $0.1million due to the acquisition of subsidiaries in Italy, the United Kingdom andNorthern Europe in 2003 and the Middle East in 2004.

 

*TotalOperating Expenses.*  Total operating expenses for the nine monthsended September 30 increased 14% to $104.3 million in 2004 from $91.5million in 2003.

 

The table below gives ananalysis of the major changes in operating expenses (in thousands):

 

**Changes in Operating Expenses – NineMonths ended September 30, 2004 versus 2003**

 
| ** **                            | ** ** | **Acquisitions** | ** ** | **Ongoing Operations** | ** ** | **Foreign Exchange** | ** ** | **Net Change** | ** ** |
|---------------------------------------|------------|------------------|------------|------------------------|------------|----------------------|------------|----------------|------------|
| Cost of Services and Fulfillment      |       | $                | 5,671      |                   | $          | (1,941               | )          | $              | 1,265      |   | $ | 4,995 |   |
| Selling and Marketing Expenses        |       | 4,104            |       | 1,919                  |       | 940                  |       | 6,963          |       |
| General & Administrative Expenses |       | 1,235            |       | (1,030                 | )          | 421                  |       | 626            |       |
| Depreciation and Amortization         |       | 651              |       | (911                   | )          | 93                   |       | (167           | )          |
| Loss on sale of subsidiary            |       | —           |       | 416                    |       | —               |       | 416            |       |
| Total                                 |       | $                | 11,661     |                   | $          | (1,547               | )          | $              | 2,719      |   | $ | 12,833 |   |

 

*Costof Services and Fulfillment*. Cost of services and fulfillment, including reimbursable expenses,increased 10% or approximately $5.0 million to $53.6 million in 2004 from $48.6million in 2003 and declined as a percentage of total revenues from 55% to 51%.The increase was principally due to incremental costs of $5.7 millionassociated with subsidiaries in Italy, the United Kingdom and Northern Europeacquired in 2003 and the Middle East in 2004, as well as $1.3 million from theimpact of foreign exchange rates on the costs from ongoing operations inCanada, Europe and the Asia Pacific region. These increases were partiallyoffset by $2.0 million of decreased costs from ongoing operations (whichreflects lower bonus expense of $1.7 million).

 

*Sellingand Marketing Expenses*. Selling and marketing expenses increased 29% or approximately $7.0 millionto $31.5 million in 2004 from $24.5 million in 2003 and increased as a percentageof total revenues to 30% from 28%. The increase in selling and marketingexpenses

 

21

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was due to $4.1 millionin incremental personnel costs associated with subsidiaries in Italy, theUnited Kingdom and Northern Europe acquired in 2003 and the Middle East in 2004,$1.9 million of increased expenses from ongoing operations in foreignsubsidiaries (which includes a charge of $0.5 million for termination of anemployment contract), and $1.0 million from the impact of foreign exchangerates on the costs from ongoing operations in Canada, Europe and the AsiaPacific region.

 

*Generaland Administrative Expenses*. General and administrative expenses increased 4% or approximately $0.6million to $15.3 million in 2004 from $14.7 million in 2003. The increase ingeneral and administrative expenses was due to $1.2 million in incrementalpersonnel costs associated with subsidiaries in Italy, the United Kingdom andNorthern Europe acquired in 2003 and the Middle East in 2004, an increase inexpenses of $0.4 million due to the impact of foreign exchange rates on thecosts from ongoing operations in Canada, Europe and the Asia Pacific region,which was offset by $1.0 million of decreased expenses in the ongoingoperations (which included a $0.5 million charge for termination of anemployment contract, offset by lower costs of $0.3 million associated withexpatriate staff and $0.2 million of lower bonus expense).

 

*Depreciationand Amortization*.  Depreciationand amortization expense decreased 5% or approximately $0.2 million to $3.5million in 2004 from $3.7 million in 2003. The decrease was principally due to$0.9 million in lower depreciation expense on reduced levels of depreciablefixed assets in the United States, partially offset by $0.6 million of higherdepreciation and amortization expense from incremental costs associated withsubsidiaries in Italy, the United Kingdom and Northern Europe acquired in 2003 andthe Middle East in 2004 and an increase in expenses of $0.1 million due to theimpact of foreign exchange rates on the costs from ongoing operations inCanada, Europe and the Asia Pacific region.

 

*Loss onthe Sale of Subsidiary*. In July 2004, the Company soldits 50.2% interest in META Hungary to the minority shareholders for netproceeds of $37,000 which pertained to forgiveness of a liability to Hungary.  The Company recorded a loss on the sale of$416,000.

 

*OtherIncome, Net*.  Otherincome, net, decreased to $128,000 in 2004 from $723,000 in 2003. The decreaseis principally due to a non-recurring gain of $315,000 recognized in 2003 onthe final settlement of the Company’s investment in Spikes Cavell, and anon-recurring gain of $350,000 recognized in 2003 on the sale of one of theCompany’s investments in a third party.  SeeFootnote 9 to the consolidated financial statements.

 

*Provisionfor Income Taxes*.  In2004, the Company recorded a benefit for income taxes of $10,000 versus anincome tax provision of $148,000 in 2003. The tax benefit is the result of certain state tax refunds expected tobe received, which largely offset state and foreign tax provisions.

 

22

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***Liquidity and Capital Resources***

* *

The Company funds its operations primarily throughcash generated from operations. The Company used $0.7 million in cash fromoperations during the nine months ended September 30, 2004, compared to $7.6million of cash generated from operations in the same period last year. Thedecrease in operating cash flow in 2004 versus 2003 was primarily due to thefollowing: a decrease in accrued bonuses (lower accruals and increased bonuspayments), a decline in unearned consulting revenue, a decrease in otheraccrued liabilities, a decrease in deferred revenue (reflecting a change ininvoicing method of multi-year contracts in the prior year), a decrease inaccounts receivable collections year over year, partially offset by a declinein loss period over period.

 

TheCompany used $0.6 million of cash in the nine months ended September 30,2004, compared to $0.7 million in the same period of 2003 for capitalexpenditures.  The purchases wereprincipally made to support the Company’s computer equipment, software andnetwork infrastructure. The Company currently expects to make additionalpurchases in 2004 and currently expects that such expenditures will remainapproximately the same when compared to 2003 levels. During the nine monthsended September 30, 2004, the Company used $0.8 million of cash (net ofcash acquired) for the acquisition of its Middle East distributor. During the ninemonths ended September 30, 2003, the Company used $5.4 million (net ofcash acquired) for the purchase of its distributors in Italy, the UnitedKingdom, and Northern Europe. In connection with the sale of the Company’sHungarian subsidiary, there was a net outflow of cash which corresponded toHungary’s cash balance at the date of sale of $733,000.

 

As of September 30,2004, the Company had no material commitments for capital expenditures;however, the Company anticipates that it will continue to upgrade its internalsystems to support its business, including in particular its internationalsubsidiaries.

 

Duringthe nine months ended September 30, 2003, the Company liquidated itsinvestment in Spikes Cavell and received $0.6 million in final proceeds, andrecognized a gain of $0.3 million.  TheCompany also sold another of its investments in a third party entity, realizingproceeds of $0.3 million, and recognized a gain on the sale of $0.3 million.

 

During the nine months ended September 30, 2004,the Company generated $1.6 million of cash from financing activities primarilydue to net borrowings of $1.3 million under its credit facility, and theexercise of stock options and employee stock purchases totaling $0.7 million,less payments of notes payable of $0.2 million and capital lease payments of$0.2 million. During the nine months ended September 30, 2003, the Companyused $12.3 million of cash from financing activities primarily as a result ofrepayments of $6.1 million of borrowings outstanding under the Company’s creditfacilities, and the establishment of a $6.0 million restricted cash account asrequired by the Company’s credit facility discussed below, and repaid notes of$0.4 million, less proceeds from the exercise of stock options and employeestock purchases totaling $0.3 million.

 

In March 2003 the Company executed a new $6million revolving credit agreement (the “Amended Facility”). The AmendedFacility replaced the Company’s previous facility and consists of a $6 millionrevolving credit facility. Under the Amended Facility, interest on anyoutstanding borrowings will be payable at the rate of LIBOR, as determined bythe bank, plus 1.5% or the higher of the Prime Rate or the Federal Funds Rateplus 0.5%. The Amended Facility is fully collateralized by a $6 million cashdeposit. This cash deposit is reflected as restricted cash on the Company’sconsolidated balance sheet as of September 30, 2004 and December 31,

 

23

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2003. The Amended Facility contains no financialcovenants, and matured in November 2004. As of September 30, 2004,there was $1,533,000 used under the Amended Facility in the form of standbyletters of credit issued on behalf of one of the Company’s independent salesrepresentative organizations and as collateral for a portion of the Company’sU.S. premises leases. In addition, there were $1.3 million in borrowingsoutstanding as of September 30, 2004. Effective as of November 4, 2004, the Company has signed a five-monthextension of the Amended Facility under the same terms as the original AmendedFacility, extending the maturity date to April 4, 2005. The Companyreclassified its restricted cash deposit to current assets in connection withthe short term facility extension.

 

During the year 2003, the Company paid $369,000 insatisfaction of the terms of notes payable held by certain former shareholdersof META Group Germany. The notes were acquired when the Company acquired theremaining interest in META Group Germany in September 2002.  As of September 30, 2004, $506,000remains payable under the notes, which are payable through November 2008.

 

*As of September 30,2004 the Company had outstanding a corporate guarantee in the amount of €62,000(approximately $76,000) guaranteeing lease payments to the landlord of one ofthe Company’s former independent sales representative organizations. In January 2002,the landlord called the guarantee. The claim is currently being negotiated withthe landlord. The Company is currently uncertain as to when this issue will beresolved.*

* *

As of September 30, 2004, the Company had cash of$7.6 million, restricted cash of $6 million and negative working capital of $16.1million. The Company generated a net loss of $48,000 for the nine months ended September 30,2004. To continue profitability, the Company will need to, among other things,achieve sustainable revenue growth and/or maintain expenses below revenuelevels. The Company cannot be certain whether any of these will continue to occur.If the Company fails to either achieve sufficient revenue growth or maintainexpenses below revenue levels, any such failure will likely result in continuedlosses that would have a material adverse effect on the Company’s financialstatements.

 

**TheCompany currently believes existing cash balances, anticipated cash flows fromoperations and borrowings under its existing credit facility will be sufficientto meet its working capital and capital expenditure requirements for the next12 months. The Company also believes that it has sufficient funds to maintaincurrent operations and to complete its current projects and plans.  The Company intends to continue its effortsto monitor its accounts receivable collections and manage expenses. However,the Company also currently believes that if decreases in and delays of ITspending continue, that together with competitive pricing pressure on theCompany’s products and services, it will continue to negatively impact theCompany’s business.**

** **

**Thefollowing table summarizes the Company’s contractual obligations and othercommitments as of September 30, 2004 and the effect such obligations arecurrently expected to have on its liquidity and cash flow in future periods (inthousands):**

 
| ** **                                           | ** ** | **Twelve Months Ending December 31,** | ** ** |
|------------------------------------------------------|------------|--------------------------------------------|------------|
| ** **                                           | ** ** | **2004(1)**                                | ** ** | **2005** | ** ** | **2006** | ** ** | **2007** | ** ** | **2008** | ** ** | **Thereafter** | ** ** |
| Operating leases                                     |       | $                                          | 1,737      |   | $ | 5,739 |   | $ | 5,083 |   | $ | 5,153 |   | $ | 2,244 |   | $ | 1,224 |   |
| Capital leases                                       |       | 88                                         |       | 361 |   | 151 |   | — |   | — |   | — |   |
| Notes payable                                        |       | 117                                        |       | 293 |   | 55 |   | 20 |   | 21 |   | — |   |
| Payments due under employment / severance agreements |       | 123                                        |       | 367 |   | — |   | — |   | — |   | — |   |
|                                                 |       | $                                          | 2,065      |   | $ | 6,760 |   | $ | 5,289 |   | $ | 5,173 |   | $ | 2,265 |   | $ | 1,224 |   |
|                                                      |            |                                            |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

----

**(1) Represents three months ending December 31,2004.**

 

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**CriticalAccounting Policies**

 

Oursignificant accounting policies are described in Note 1 to our consolidatedfinancial statements in our annual report on Form 10-K, as amended, for theyear ended December 31, 2003. However, certain of our accounting policiesare particularly important to the portrayal of our financial position andresults of operations and may require the application of significant judgmentby our management; as a result they are subject to an inherent degree ofuncertainty. In applying those policies, our management uses its judgment todetermine the appropriate assumptions to be used in the determination ofcertain estimates. Those estimates are based on our historical experience, ourobservance of trends in the industry, information provided by our customers andinformation available from other outside sources, as appropriate. Oursignificant accounting policies include:

 

•                  Revenue Recognition – Revenues fromour Advisory Services are recognized on a straight-line basis over thesubscription contract period, generally one year. All subscription contractsare billable at signing, absent special terms granted on a limited basis fromtime to time. As such, our policy is to record at the time of signing of anAdvisory Services subscription contract the fees receivable and relateddeferred revenues for the full amount of the subscription contract. Accountsreceivable and deferred revenues that extend beyond a 12-month period have beenclassified on the consolidated balance sheets as non-current. We also recordthe related sales commission obligation upon the signing of the subscriptioncontract and amortize the corresponding deferred commission expense over thesubscription period in which the related Advisory Services revenues are earnedand amortized to income. We recognize revenue on Strategic Consultingengagements on a contract by contract basis, as the work is performed,utilizing the percentage of completion method for fixed fee projects, or asservices are rendered for time and material projects. The average duration ofour consulting engagements is 2-3 months. Revenues from Published ResearchProducts are recognized at the time the applicable product is delivered. Additionally,we record reductions to revenue for estimated customer cancellations.

 

•                  Accounts Receivable Reserves – We generally evaluate our accountsreceivable on a monthly basis. As part of our analysis, we examine ourcollections history, the age of the receivables in question, any specificcustomer collection issues that we have identified, and general marketconditions. At September 30, 2004 and 2003, our total accounts receivablebalances were $30.3 million and $26.5 million, respectively. Based upon ouranalysis of estimated recoveries and collections associated with thereceivables balances, we have $1.0 million of accounts receivable reserves at September 30,2004 and 2003.  The determination of theamount of accounts receivable reserves is subject to significant levels ofjudgment and estimation by our management. If circumstances change or

 

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economic conditions deteriorate, we may need toincrease the reserve.

 

•                  Deferred Tax Valuation Allowance– During 2002, werecorded a full valuation allowance against our deferred tax assets as a resultof our losses over our recent history. We considered future taxable incomeversus the cumulative losses incurred during the previous three years anddetermined that, in light of the cumulative losses over our recent history, wecould not support a conclusion that realization of the existing deferred taxassets was more likely than not. During the quarters ended September 30,2004 and 2003, there was no substantive change in the above circumstances.Should we determine that we would be able to realize our deferred tax assets inthe future, an adjustment will be made to the valuation allowance.

 

•                  Goodwill Valuation - Effective January 1, 2002,we adopted Statement of Financial Accounting Standards No. 142, “Goodwilland Other Intangible Assets”**(“SFAS142”). SFAS 142 provides guidance on the financial accounting and reporting foracquired goodwill and other intangible assets. Under SFAS 142, goodwill andintangible assets deemed to have indefinite lives will no longer be amortized,but will be subject to impairment tests on an annual basis, or more frequentlyif certain indicators arise.  Intangibleassets with finite lives will continue to be amortized over their useful lives.

 

As of September 30, 2004 and September 30,2003 we completed the annual impairment tests for 2004 and 2003, respectively,in accordance with the provisions of SFAS 142. There were no impairments of goodwill noted as a result of these tests.

 

As of September 30, 2004, we have on ourconsolidated balance sheet goodwill of $13.8 million associated with the AdvisoryServices segment and $1.0 million associated with the Strategic consultingsegment. We will test this goodwill annually, or more frequently if certainindicators arise.

 

**CERTAINFACTORS THAT MAY AFFECT FUTURE RESULTS**

 

From time to time,information provided by the Company or statements made by its employees maycontain “forward-looking” statements.  Inparticular, this Form 10-Q contains forward-looking statements made pursuant tothe safe harbor provisions of the Private Securities Litigation Reform Act of1995.  Such forward-looking statementsinclude statements concerning:

 

•                  information technology spending;

•                  general economic conditions;

•                  competitive pricing pressure;

•                  anticipated expense levels relativeto the Company’s total revenues;

•                  working capital;

•                  capital expenditures and capitalrequirements;

•                  cash flows and cash balances;

 

Forward-lookingstatements also include statements that are not historical facts or statementsusing words such as “anticipate”, “believe”, “could”, “estimate”, “expect”, “intend”,“likely”, “may”, “opportunity”, “plan”, “potential”, “project”, “should” or “will”.

 

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Forward-lookingstatements are neither promises nor guarantees, but involve risks anduncertainties that could have a material adverse effect on the Company’sbusiness, results of operations and financial condition or cause actual resultsto differ materially from those set forth in the forward-lookingstatements.  These risks anduncertainties include the items listed below, which are discussed in detail inthe Company’s annual report on Form 10-K, as amended, for the year ended December 31,2003 filed with the Securities and Exchange Commission:

 

•                  the Company’s ability to manageexpense levels;

•                  general economic conditions;

•                  decreases and delays in informationtechnology spending;

•                  product pricing limiting thepotential market for the Company’s Advisory Services, Strategic Consulting andPublished Research Products;

•                  the level and timing of subscriptionrenewals to the Company’s Advisory Services;

•                  the level and timing of non-recurringStrategic Consulting engagements;

•                  the level and timing of productionand delivery of Published Research Products;

•                  market acceptance of and demand forthe Company’s products and services and the timing thereof, both domesticallyand internationally;

•                  the Company’s ability to increase itspenetration of existing customers and expand to additional customers;

•                  the Company’s ability to deliverconsistent, high-quality and timely analysis and advice to its clients;

•                  the Company’s ability to recruit,retain and develop research analysts, consultants, management andadministrative staff;

•                  the Company’s ability to anticipatechanging market needs;

•                  fluctuations in the Company’soperating results;

•                  changes in competitive conditions inthe Company’s industry;

•                  the integration of new businessesinto the Company’s operations;

•                  the Company’s ability to manage andfund its international operations;

•                  the Company’s ability to finddistributors for its products and services internationally;

•                  political and social turmoil inforeign markets and other international risks;

•                  goodwill and any impairment thereof;

•                  strategic investments and anyimpairment thereof;

•                  volatility and unpredictability ofthe Company’s stock price; and

•                  other risks detailed in the Company’sfilings with the Securities and Exchange Commission.

 

Readersare cautioned not to place undue reliance on these forward-looking statements,which speak only as of the date the statements were made.  Readers are also advised to consider suchforward-looking statements in light of the risks and uncertainties discussedabove.  The Company undertakes noobligation to update any forward-looking statements contained in the QuarterlyReport on Form 10-Q.

 

**Item 3****.**           **QUANTITATIVEAND QUALITATIVE DISCLOSURES ABOUT MARKET RISK**

 

*Interest Rate Risk*

 

The Company’s exposure to market risk for changes ininterest rates relates primarily to borrowings under its $6 million amended andrestated credit facility. As of September 30, 2004, there was $1.3 millionin borrowings outstanding under this facility. Interest on the facility iscomputed on outstanding borrowings at the rate of LIBOR as determined by thebank plus 1.5% or the higher of the

 

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Prime Rate or the Federal Funds Rate plus 0.5%. TheCompany believes that an increase or a decrease of ten percent in the effectiveinterest rate on available borrowings on its facility, if fully utilized, wouldnot have a material effect on the Company’s financial statements.

 

*InvestmentRisk*

 

TheCompany is exposed to market risk as it relates to changes in the market valueof its investments. There were no impairment losses recognized during thequarter and nine months ended September 30, 2004. As of September 30,2004, the Company had investments and advances totaling $0.8 million.  Adverse changes in market conditions and pooroperating results of the underlying investments may result in the Companyincurring additional losses or an inability to recover the remaining value ofits investments and advances.

 

*ForeignCurrency Exchange Risk*

 

TheCompany is exposed to market risk as it relates to foreign currency exchangerates. Revenues and expenses in foreign currencies translate into higher orlower revenues and expenses in U.S. dollars as the U.S. dollar weakens orstrengthens against foreign currencies. Changes in foreign currency exchangerates may therefore negatively affect the Company’s consolidated revenues andexpenses. Currency transaction gains or losses arising from transactions incurrencies other than the functional currency of the Company’s foreignsubsidiaries are included in the results of operations. Such gains and losseswere not material to the Company’s consolidated results of operations duringthe quarters and nine month periods ended September 30, 2004 and 2003. TheCompany has not entered into foreign currency forward exchange contracts orother derivative financial instruments to hedge the effects of adversefluctuations in foreign currency exchange rates.

 

**Item 4****.**           **CONTROLS AND PROCEDURES**

 

Inaccordance with Rule 13a-15(b) under the Securities Exchange Act of 1934, asamended (the “Exchange Act”), within 90 days prior to the filing date of thisreport, the Company carried out an evaluation, under the supervision and withthe participation of the Company’s management, including the Company’sPresident and Chief Operating Officer along with its Vice President and ChiefFinancial Officer, of the effectiveness of the design and operation of theCompany’s disclosure controls and procedures (as defined in Rule 13a-14(c)under the Exchange Act). Based upon their evaluation of these disclosurecontrols and procedures, the Company’s President and Chief Operating Officeralong with the Vice President and Chief Financial Officer concluded that theCompany’s disclosure controls and procedures are effective to ensure thatinformation required to be disclosed by us in reports we file under theExchange Act is recorded, processed, summarized and reported by management ofthe Company on a timely basis in order to comply with the Company’s disclosureobligations under the Exchange Act and the SEC rules thereunder.

 

## ***Changesin Internal Controls***

 

*Therehave been no significant changes in the Company’s internal controls or otherfactors that could significantly affect internal controls subsequent to thedate the Company carried out this evaluation, including any corrective actionswith regard to significant deficiencies and material weaknesses.*

* *

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* *

# **PART II -**OTHER INFORMATION

# ** **

Item 6.             Exhibitsand Reports on Form 8-K.

 

(a)                                  Exhibits.

 
| **Exhibit  Number** | ** ** | **Description**                                                                                                                                                    |
|---------------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 10.48               |       | Consulting  Services Agreement between Dale Kutnick and META Group, Inc.                                                                                           |
| 10.49               |       | Amendment No.1  to Amended and Restated Credit Agreement between META Group, Inc. and The  Bank of New York dated November 4, 2004                                 |
| 10.50               |       | Employment  Agreement and Stock Grant Agreement between C D Hobbs and META Group, Inc.                                                                             |
| 10.51               |       | Severance  Agreement and Release between Herb VanHook and META Group, Inc. dated as of  November 5, 2004                                                           |
| 10.52               |       | Amended and Restated  Employment, Compensation and Release Agreement between META Group, Inc., Rubin  Systems Inc. and Howard A. Rubin dated as of August 23, 2004 |
| 31.1                |       | Certification  pursuant to Section 302(a) of the Sarbanes-Oxley Act of 2002                                                                                   |
| 31.2                |       | Certification  pursuant to Section 302(a) of the Sarbanes-Oxley Act of 2002                                                                                   |
| 32.1                |       | Certification  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002                                                                                      |

 

(b)                                 Reportson Form 8-K.

 

On August 5, 2004, the Company filed a reporton Form 8-K in connection with the release of the Company’s results ofoperations for the quarter ended June 30, 2004.

 

On July 21, 2004, the Company filed a report onForm 8-K in connection with a press release dated June 23, 2004 whichannounced the resignation of Alfred Amoroso as vice-chairman, president and chiefexecutive officer, the formation of a special operating committee, and theappointment of Herbert VanHook as acting president and chief operating officer.

 

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**SIGNATURE**

 

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

 
|                                           |   | **META Group, Inc.** |
|------------------------------------------------|--------|----------------------|
|                                           |   |                 |   |
|                                           |   |                 |   |
| Date:   November 15,  2004 |   | By:                  | /s/ John W.  Riley |   |
|                                           |   |                 | John W. Riley |
|                                           |   |                 | Vice President,  Chief Financial Officer,  Treasurer and Secretary |
|                                           |   |                 | (Principal  Financial and Accounting Officer) |

 

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