**SECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C.  20549**

 

**FORM 10-Q**

 

**QUARTERLY REPORT UNDER SECTION 13OR 15(d)OF THE SECURITIES EXCHANGE ACT OF 1934**

 

| **(Mark  One)**                                                                                                                                                                                                    |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| **ý****  QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE  SECURITIES EXCHANGE ACT OF 1934**                                                                                                 |
|                                                                                                                                                                                                               |
| **For the quarter ended September 30,  2003**                                                                                                                                                                      |
|                                                                                                                                                                                                               |
| **OR**                                                                                                                                                                                                             |
|                                                                                                                                                                                                               |
| **o****  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE  SECURITIES EXCHANGE ACT OF 1934**                                                                                                     |
|                                                                                                                                                                                                               |
| **For the transition period from                  to                ** |
|                                                                                                                                                                                                               |
| **Commission  File Number 1-7516**                                                                                                                                                                                 |

 

**KEANE, INC.**

(Exact name of registrantas specified in its charter)

 

| **MASSACHUSETTS**                                                                 |   | **04-2437166**                            |
|-----------------------------------------------------------------------------------|--------|-------------------------------------------|
| (State or other  jurisdiction of  incorporation or organization)                  |   | (I.R.S. Employer  Identification  Number) |
|                                                                              |   |                                      |
| **100  City Square, Boston, Massachusetts**                                       |   | **02129**                                 |
| (Address of principal  executive offices)                                         |   | (Zip Code)                                |
|                                                                              |   |                                      |
| Registrant’s telephone  number, including area code  **(617) 241-9200** |

 

Indicate by check mark whether the registrant (1) has filed all reportsrequired to be filed by Section 13 or 15(d) of the Securities Exchange Act of1934 during the preceding 12 months (or for such shorter period that theregistrant was required to file such reports), and (2) has been subject to suchfiling requirements for the past 90 days.  Yes ý No o

 

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

 

As of September 30, 2003, the number of issued and outstanding sharesof Common Stock (excluding 11,772,879 shares held in treasury) and Class BCommon Stock are 63,772,512 and 284,599 shares, respectively.

 

 

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**Keane,Inc.**

**Table of Contents**

 
| **Part I.**   | **Financial Information**                                                                                                                |
|---------------|------------------------------------------------------------------------------------------------------------------------------------------|
|          |                                                                                                                                     |
| Item  1.      | Unaudited  Condensed Consolidated Statements of Income for the three months and nine  months ended September 30, 2003 and 2002 |
|          |                                                                                                                                     |
|          | Condensed Consolidated  Balance Sheets as of September 30, 2003 (unaudited) and December 31, 2002                                        |
|          |                                                                                                                                     |
|          | Unaudited  Condensed Consolidated Statements of Cash Flows for the nine months ended  September 30, 2003 and 2002                        |
|          |                                                                                                                                     |
|          | Notes  to Unaudited 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 1.       | Legal Proceedings                                                                                                                        |
|          |                                                                                                                                     |
| Item 6.       | Exhibits and  Reports on Form 8-K                                                                                                        |
|          |                                                                                                                                     |
| Signatures    |
|          |
| Exhibit Index |

 

2

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**Keane,Inc.**

**PartI.****     FinancialInformation**

 

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

 

**Keane,Inc.**

**UnauditedCondensed Consolidated Statements of Income**

 
|                                                                               |   | **Three  Months Ended  September 30,**       |    | **Nine  Months Ended  September 30,** |   |
|------------------------------------------------------------------------------------|--------|----------------------------------------------|---------|---------------------------------------|--------|
|                                                                               |   | **2003**                                     |    | **2002**                              |   | **2003** |   | **2002** |   |
|                                                                               |   | **(In  Thousands Except Per Share Amounts)** |    |
| Total revenues                                                                     |   | $                                            | 200,421 |                                  | $      | 213,383 |   | $ | 608,594 |   | $ | 660,704 |   |
| Salaries, wages and other direct costs                                             |   | 137,976                                      |    | 154,714                               |   | 418,284 |   | 474,452 |   |
| Selling, general and administrative expenses                                       |   | 48,481                                       |    | 48,129                                |   | 146,702 |   | 151,442 |   |
| Amortization of intangible assets                                                  |   | 3,904                                        |    | 4,342                                 |   | 11,981 |   | 11,898 |   |
| Operating income                                                                   |   | 10,060                                       |    | 6,198                                 |   | 31,627 |   | 22,912 |   |
|                                                                               |   |                                         |    |                                  |   |   |   |   |   |
| Interest and dividend income                                                       |   | 959                                          |    | 487                                   |   | 2,205 |   | 2,021 |   |
| Interest expense                                                                   |   | 1,454                                        |    | 37                                    |   | 2,553 |   | 176 |   |
| Other expense (income), net                                                        |   | 333                                          |    | 131                                   |   | (6,585 | ) | (214 | ) |
| Income before income taxes                                                         |   | 9,232                                        |    | 6,517                                 |   | 37,864 |   | 24,971 |   |
| Provision for income taxes                                                         |   | 3,692                                        |    | 2,607                                 |   | 15,143 |   | 9,987 |   |
| Net income                                                                         |   | $                                            | 5,540   |                                  | $      | 3,910 |   | $ | 22,721 |   | $ | 14,984 |   |
|                                                                               |   |                                         |    |                                  |   |   |   |   |   |
| Earnings per share (basic)                                                         |   | $                                            | 0.09    |                                  | $      | 0.05 |   | $ | 0.34 |   | $ | 0.20 |   |
|                                                                               |   |                                         |    |                                  |   |   |   |   |   |
| Earnings per share (diluted)                                                       |   | $                                            | 0.09    |                                  | $      | 0.05 |   | $ | 0.34 |   | $ | 0.20 |   |
|                                                                               |   |                                         |    |                                  |   |   |   |   |   |
| Weighted average common shares outstanding (basic)                                 |   | 64,080                                       |    | 73,841                                |   | 66,488 |   | 75,091 |   |
| Weighted average common shares and common share  equivalents outstanding (diluted) |   | 65,115                                       |    | 73,847                                |   | 66,922 |   | 75,549 |   |

 

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

 

3

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**Keane,Inc.**

**CondensedConsolidated Balance Sheets**

 
|                                             |   | **September  30,  2003** |    | **December  31,  2002** |   |
|--------------------------------------------------|--------|--------------------------|---------|-------------------------|--------|
|                                             |   | **(Unaudited)**          |    | **(See Note  A)**       |   |
|                                             |   | **(In  Thousands)**      |    |
| **Assets**                                       |   |                     |    |                    |   |
| Current:                                         |   |                     |    |                    |   |
| Cash and cash equivalents                        |   | $                        | 91,410  |                    | $      | 46,383 |   |
| Marketable securities                            |   | 116,054                  |    | 21,872                  |   |
| Accounts receivable, net:                        |   |                     |    |                    |   |
| Trade                                            |   | 118,730                  |    | 129,432                 |   |
| Other                                            |   | 650                      |    | 1,004                   |   |
| Prepaid expenses and  deferred taxes             |   | 33,978                   |    | 37,430                  |   |
| Total current assets                             |   | 360,822                  |    | 236,121                 |   |
|                                             |   |                     |    |                    |   |
| Property and equipment,  net                     |   | 27,451                   |    | 24,729                  |   |
| Building, net                                    |   | 40,190                   |    | 40,888                  |   |
| Goodwill                                         |   | 277,752                  |    | 277,435                 |   |
| Customer lists, net                              |   | 60,730                   |    | 69,193                  |   |
| Other intangible assets,  net                    |   | 14,161                   |    | 17,613                  |   |
| Deferred taxes and other  assets, net            |   | 25,936                   |    | 19,695                  |   |
| Total assets                                     |   | $                        | 807,042 |                    | $      | 685,674 |   |
|                                             |   |                     |    |                    |   |
| **Liabilities**                                  |   |                     |    |                    |   |
| Current:                                         |   |                     |    |                    |   |
| Accounts payable                                 |   | 11,894                   |    | 11,986                  |   |
| Accrued expenses and other  liabilities          |   | 34,401                   |    | 34,917                  |   |
| Accrued building costs                           |   | 449                      |    | 234                     |   |
| Accrued restructuring                            |   | 9,611                    |    | 13,694                  |   |
| Accrued compensation                             |   | 46,240                   |    | 36,346                  |   |
| Note payable                                     |   | 2,456                    |    | 3,100                   |   |
| Accrued income taxes                             |   | 8,717                    |    | 81                      |   |
| Unearned income                                  |   | 8,425                    |    | 11,535                  |   |
| Current capital lease  obligations               |   | 628                      |    | 887                     |   |
| Total current liabilities                        |   | 122,821                  |    | 112,780                 |   |
|                                             |   |                     |    |                    |   |
| Convertible debentures                           |   | 150,000                  |    | —                  |   |
| Accrued long-term building  costs                |   | 40,160                   |    | 40,654                  |   |
| Accrued long-term  restructuring                 |   | 7,740                    |    | 12,541                  |   |
| Deferred income taxes                            |   | 28,223                   |    | 28,343                  |   |
| Long-term capital lease  obligations             |   | 395                      |    | 772                     |   |
| Total liabilities                                |   | 349,339                  |    | 195,090                 |   |
|                                             |   |                     |    |                    |   |
| **Stockholders’  equity**                   |   |                     |    |                    |   |
| Common stock                                     |   | 7,555                    |    | 7,555                   |   |
| Class B common stock                             |   | 28                       |    | 28                      |   |
| Additional paid-in capital                       |   | 166,558                  |    | 166,598                 |   |
| Accumulated other  comprehensive loss            |   | (471                     | )       | (1,411                  | )      |
| Retained earnings                                |   | 392,263                  |    | 369,542                 |   |
| Unearned compensation                            |   | (246                     | )       | —                  |   |
| Less treasury stock, at  cost                    |   | (107,984                 | )       | (51,728                 | )      |
| Total stockholders’ equity                  |   | 457,703                  |    | 490,584                 |   |
| Total liabilities and  stockholders’ equity |   | $                        | 807,042 |                    | $      | 685,674 |   |

 

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

 

4

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**Keane,Inc.**

**Unaudited Condensed Consolidated Statements of Cash Flows**

 
|                                                                                          |   | **Nine  Months Ended September 30,** |   |
|-----------------------------------------------------------------------------------------------|--------|--------------------------------------|--------|
|                                                                                          |   | **2003**                             |   | **2002** |   |
|                                                                                          |   | **(In  Thousands)**                  |   |
| **Cash flows from operating  activities:**                                                    |   |                                 |   |   |   |
| Net income                                                                                    |   | $                                    | 22,721 |   | $ | 14,984 |   |
| Adjustments to reconcile net income to net cash  provided by (used for) operating activities: |   |                                 |   |   |   |
| Depreciation and amortization                                                                 |   | 20,252                               |   | 20,118 |   |
| Deferred income taxes                                                                         |   | 2,351                                |   | (1,377 | ) |
| Provision for doubtful accounts, net                                                          |   | (1,929                               | )      | (1,048 | ) |
| (Gain) loss on sale of property and equipment                                                 |   | (195                                 | )      | 73 |   |
| Other charges, net                                                                            |   | (1,636                               | )      | — |   |
| Changes in operating assets and liabilities, net of  acquisitions:                            |   |                                 |   |   |   |
| Decrease in accounts receivable                                                               |   | 12,985                               |   | 19,741 |   |
| Increase in prepaid expenses and other assets                                                 |   | (2,787                               | )      | (10,090 | ) |
| Decrease in other liabilities                                                                 |   | (1,070                               | )      | (12,097 | ) |
| Increase in income taxes payable                                                              |   | 8,246                                |   | 2,916 |   |
| **Net cash provided by operating  activities**                                                |   | 58,938                               |   | 33,220 |   |
|                                                                                          |   |                                 |   |   |   |
| **Cash flows from investing  activities:**                                                    |   |                                 |   |   |   |
| Purchase of investments                                                                       |   | (102,933                             | )      | (18,699 | ) |
| Sale and maturities of investments                                                            |   | 8,215                                |   | 59,677 |   |
| Purchase of property and equipment                                                            |   | (8,154                               | )      | (6,148 | ) |
| Proceeds from the sale of property and equipment                                              |   | 1,066                                |   | 342 |   |
| Payments for current year acquisitions, net of cash  acquired                                 |   | —                               |   | (61,229 | ) |
| Payments for prior years acquisitions                                                         |   | (903                                 | )      | — |   |
| **Net cash used for investing  activities**                                                   |   | (102,709                             | )      | (26,057 | ) |
|                                                                                          |   |                                 |   |   |   |
| **Cash flows from financing  activities:**                                                    |   |                                 |   |   |   |
| Proceeds from issuance of convertible debentures                                              |   | 150,000                              |   | — |   |
| Debt issuance costs                                                                           |   | (4,233                               | )      | — |   |
| Repayment of debt                                                                             |   | (100                                 | )      | — |   |
| Principal payments under capital lease obligations                                            |   | (635                                 | )      | (1,067 | ) |
| Proceeds from issuance of common stock                                                        |   | 4,321                                |   | 6,171 |   |
| Repurchase of common stock                                                                    |   | (60,894                              | )      | (35,888 | ) |
| **Net cash provided by (used for)  financing activities**                                     |   | 88,459                               |   | (30,784 | ) |
|                                                                                          |   |                                 |   |   |   |
| Effect of exchange rate changes on cash                                                       |   | 339                                  |   | 1,484 |   |
| Net increase (decrease) in cash and cash equivalents                                          |   | 45,027                               |   | (22,137 | ) |
| Cash and cash equivalents at beginning of period                                              |   | 46,383                               |   | 65,556 |   |
| **Cash and cash equivalents at end of  period**                                               |   | $                                    | 91,410 |   | $ | 43,419 |   |
|                                                                                          |   |                                 |   |   |   |
| **Supplemental information:**                                                                 |   |                                 |   |   |   |
| Income taxes paid                                                                             |   | $                                    | 3,179  |   | $ | 11,367 |   |

 

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

 

5

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**Keane,Inc.**

**Notesto Unaudited Condensed Consolidated Financial Statements**

(In Thousands Except Per Share Amounts)

 

**Note A.****       Basis of Presentation**

The accompanyingunaudited condensed consolidated financial statements have been prepared inaccordance with generally accepted accounting principles for interim financialinformation and, accordingly, do not include all of the information andfootnotes required by generally accepted accounting principles for completefinancial statements.  The accompanyingunaudited condensed consolidated financial statements include the accounts ofKeane, Inc. and our subsidiaries.  Inthe opinion of management, all adjustments, consisting of normal recurringadjustments, considered necessary for a fair presentation of the results ofoperations for the interim periods reported and of our financial condition asof the date of the interim balance sheet have been included.  Operating results for the three-month andnine-month periods ended September 30, 2003 are not necessarily indicativeof the results that may be expected for the year ending December 31, 2003or for any other period.

 

The balance sheet atDecember 31, 2002 has been derived from the audited financial statements atthat date, but does not include all of the information and footnotes requiredby generally accepted accounting principles for complete financial statements.

 

Certain reclassificationshave been made to the 2002 financial statements to conform to the 2003presentation.  Such reclassificationshave no effect on previously reported net income or stockholders’ equity.

 

For further information,refer to the consolidated financial statements and footnotes thereto includedin our Annual Report on Form 10-K for the year ended December 31, 2002 andfiled with the Securities and Exchange Commission on March 26, 2003.

 

**Note B.****       Earnings Per Share Data**

Computation of earningsper share for the three-month and nine-month periods ended September 30, 2003and 2002 is as follows:

 
|                                                                                                    |   | **Three  Months Ended  September 30,** |   | **Nine  Months Ended  September 30,** |   |
|---------------------------------------------------------------------------------------------------------|--------|----------------------------------------|--------|---------------------------------------|--------|
|                                                                                                    |   | **2003**                               |   | **2002**                              |   | **2003** |   | **2002** |   |
| Net income                                                                                              |   | $                                      | 5,540  |                                  | $      | 3,910 |   | $ | 22,721 |   | $ | 14,984 |   |
|                                                                                                    |   |                                   |   |                                  |   |   |   |   |   |
| Weighted average number of common shares outstanding  used in calculation of basic earnings per share   |   | 64,080                                 |   | 73,841                                |   | 66,488 |   | 75,091 |   |
|                                                                                                    |   |                                   |   |                                  |   |   |   |   |   |
| Incremental shares from the assumed exercise of  dilutive stock options                                 |   | 1,035                                  |   | 6                                     |   | 434 |   | 458 |   |
|                                                                                                    |   |                                   |   |                                  |   |   |   |   |   |
| Weighted average number of common shares outstanding  used in calculation of diluted earnings per share |   | 65,115                                 |   | 73,847                                |   | 66,922 |   | 75,549 |   |
|                                                                                                    |   |                                   |   |                                  |   |   |   |   |   |
| Earnings per share                                                                                      |   |                                   |   |                                  |   |   |   |   |   |
| Basic                                                                                                   |   | $                                      | 0.09   |                                  | $      | 0.05 |   | $ | 0.34 |   | $ | 0.20 |   |
|                                                                                                    |   |                                   |   |                                  |   |   |   |   |   |
| Diluted                                                                                                 |   | $                                      | 0.09   |                                  | $      | 0.05 |   | $ | 0.34 |   | $ | 0.20 |   |

 

6

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Our 2% ConvertibleSubordinated Debentures (“Debentures”) are convertible at the option of theholder into shares of our common stock at an initial conversion rate of 54.4989shares of common stock per $1,000 principal amount of Debentures, which isequivalent to an initial conversion price of approximately $18.349 pershare.  The Debentures becomeconvertible during any fiscal quarter commencing after September 30, 2003 when,among other circumstances, the closing price of our common stock is more than120% of the conversion price (approximately $22.019 per share) for at least 20trading days in the 30 consecutive trading days ending on the last trading dayof the preceding fiscal quarter.  Thetotal amount of shares issuable upon the conversion of the Debentures isapproximately 8.2 million.

 

For the quarter endedSeptember 30, 2003, the 8.2 million shares issuable upon the conversion of theDebentures were not included in the computation of diluted earnings per sharebecause, in accordance with their terms, the Debentures had not yet becomeconvertible.

 

**Note C.****      Stock-Based Compensation**

Our stock-basedcompensation plans provide for grants of stock options to employees, officersand directors of, and consultants and advisors to, Keane at a purchase priceper share of not less than 100% of the fair market value per share of theshares of our common stock on the date of grant.  This stock-based compensation is accounted for utilizing theintrinsic value method in accordance with the provisions of AccountingPrinciples Board Opinion No. 25 (APB 25), “Accounting for Stock Issued toEmployees,” and related Interpretations. We have adopted the disclosure-only provisions of Statement of FinancialAccounting Standards (SFAS) No. 148, “Accounting for Stock-Based Compensation –Transition and Disclosure,” an amendment of SFAS No. 123 “Accounting forStock-Based Compensation”.  Accordingly,no compensation expense has been recognized for our stock-based compensationplans other than for restricted stock.

 

Had we accounted forstock-based compensation utilizing the fair value method and provisionsprescribed in SFAS No. 123,**ournet income and earnings per share would have been reduced to the pro formaamounts indicated below:

 
|                                                                                                                              |   | **Three  Months Ended  September 30,** |   | **Nine  Months Ended  September 30,** |   |
|-----------------------------------------------------------------------------------------------------------------------------------|--------|----------------------------------------|--------|---------------------------------------|--------|
|                                                                                                                              |   | **2003**                               |   | **2002**                              |   | **2003** |   | **2002** |   |
|                                                                                                                              |   |                                   |   |                                  |   |   |   |   |   |
| Net income - as reported                                                                                                          |   | $                                      | 5,540  |                                  | $      | 3,910 |   | $ | 22,721 |   | $ | 14,984 |   |
| Less: Total stock-based employee compensation  expense determined under the fair value method for all awards, net of tax  effects |   | 909                                    |   | 2,517                                 |   | 3,230 |   | 7,581 |   |
|                                                                                                                              |   |                                   |   |                                  |   |   |   |   |   |
| Net income - pro forma                                                                                                            |   | $                                      | 4,631  |                                  | $      | 1,393 |   | $ | 19,491 |   | $ | 7,403 |   |
|                                                                                                                              |   |                                   |   |                                  |   |   |   |   |   |
| Earnings per share                                                                                                                |   |                                   |   |                                  |   |   |   |   |   |
| Basic - as reported                                                                                                               |   | $                                      | 0.09   |                                  | $      | 0.05 |   | $ | 0.34 |   | $ | 0.20 |   |
| Basic - pro forma                                                                                                                 |   | $                                      | 0.07   |                                  | $      | 0.02 |   | $ | 0.29 |   | $ | 0.10 |   |
|                                                                                                                              |   |                                   |   |                                  |   |   |   |   |   |
| Diluted - as reported                                                                                                             |   | $                                      | 0.09   |                                  | $      | 0.05 |   | $ | 0.34 |   | $ | 0.20 |   |
| Diluted - pro forma                                                                                                               |   | $                                      | 0.07   |                                  | $      | 0.02 |   | $ | 0.29 |   | $ | 0.10 |   |

 

We also grant restrictedstock for a fixed number of shares to employees for nominal consideration.  Compensation expense related to restrictedstock awards is recorded ratably over the restriction period.

 

7

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**Note D.****       Comprehensive Income**

Total comprehensiveincome (i.e. net income plus available-for-sale securities valuationadjustments, currency translation adjustments and adjustments related to aforeign defined benefit plan, net of tax) was $5.1 million for the three-monthperiod ended September 30, 2003 and $23.7 million for the nine-month periodended September 30, 2003, and was $4.4 million and $15.9 million, for thethree-month and nine-month periods ended September 30, 2002, respectively.

 

**Note E.****       Business Acquisitions**

On March 15, 2002, weacquired SignalTree Solutions Holding, Inc. (SignalTree Solutions), a privatelyheld, United States-based corporation with two software development facilitiesin India and additional operations in the United States.  Under the terms of the merger agreement, wepaid $68.2 million in cash for SignalTree Solutions.

 

We accounted for theacquisition as a purchase, pursuant to which the assets and liabilities ofSignalTree Solutions, including intangible assets, were recorded at theirrespective fair values.  Allidentifiable intangible assets are being amortized over their estimated usefullives with the exception of goodwill. The financial position, results of operations and cash flows ofSignalTree Solutions were included in our financial statements effective as ofthe acquisition date.

 

The total cost of theacquisition was $78.9 million.  Portionsof the purchase price, including intangible assets, were identified byindependent appraisers utilizing proven valuation procedures andtechniques.  Goodwill was recorded at$41.3 million and other identified intangible assets were valued at $21.5million.  At the date of acquisition, weentered into a plan to exit certain activities and consolidate facilities.  As a result, we recorded a restructuringliability of $1.6 million related to the lease obligations and certain othercosts for the consolidated facilities. In accordance with Emerging Issues Task Force (EITF) Issue No.95-3,“Recognition of Liabilities in Connection with a Purchase BusinessCombination,” these costs have been reflected in the purchase price of theacquisition.

 

The components of thepurchase price allocation are as follows:

 
|                                     |   | **December  31,  2002** |   | **Total  Adjustments** |   | **September  30,2003** |   |
|------------------------------------------|--------|-------------------------|--------|------------------------|--------|------------------------|--------|
| **Consideration and merger costs:**      |   |                    |   |                   |   |                   |   |
| Consideration paid                       |   | $                       | 66,927 |                   | $      | —                 |   | $ | 66,927 |   |
| Transaction costs                        |   | 1,303                   |   | 5                      |   | 1,308                  |   |
| Restructuring                            |   | 1,553                   |   | —                 |   | 1,553                  |   |
| Deferred tax liability                   |   | 9,120                   |   | —                 |   | 9,120                  |   |
| **Total**                                |   | $                       | 78,903 |                   | $      | 5                      |   | $ | 78,908 |   |
|                                     |   |                    |   |                   |   |                   |   |
| **Allocation of purchase price:**        |   |                    |   |                   |   |                   |   |
| Net asset value acquired                 |   | $                       | 16,133 |                   | $      | 245                    |   | $ | 16,378 |   |
| Customer lists (seven-year life)         |   | 18,800                  |   | —                 |   | 18,800                 |   |
| Non-compete agreements (three-year life) |   | 2,700                   |   | —                 |   | 2,700                  |   |
| Goodwill                                 |   | 41,270                  |   | (240                   | )      | 41,030                 |   |
| **Total**                                |   | $                       | 78,903 |                   | $      | 5                      |   | $ | 78,908 |   |

 

The following tablepresents the condensed balance sheet disclosing the amounts assigned to each ofthe major assets acquired and liabilities assumed of SignalTree Solutions atthe acquisition date and 2003 adjustments recorded to finalize the purchasedbalance sheet:

 

8

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|                                |   | **December  31,  2002** |   | **Total  Adjustments** |   | **September  30,  2003** |   |
|-------------------------------------|--------|-------------------------|--------|------------------------|--------|--------------------------|--------|
| **Condensed balance sheet:**        |   |                    |   |                   |   |                     |   |
| Cash                                |   | $                       | 2,650  |                   | $      | —                   |   | $ | 2,650 |   |
| Accounts receivable                 |   | 7,304                   |   | —                 |   | 7,304                    |   |
| Other current assets                |   | 3,562                   |   | (2                     | )      | 3,560                    |   |
| Property, plant, and equipment, net |   | 8,011                   |   | (75                    | )      | 7,936                    |   |
| **Total assets**                    |   | 21,527                  |   | (77                    | )      | 21,450                   |   |
|                                |   |                    |   |                   |   |                     |   |
| Accounts payable                    |   | 569                     |   | (16                    | )      | 553                      |   |
| Accrued compensation                |   | 1,569                   |   | —                 |   | 1,569                    |   |
| Other liabilities                   |   | 3,256                   |   | (306                   | )      | 2,950                    |   |
| **Net assets**                      |   | $                       | 16,133 |                   | $      | 245                      |   | $ | 16,378 |   |

 

The unaudited pro formacombined condensed statements of income below present our historical statementsand our acquisition of SignalTree Solutions on March 15, 2002 as if theacquisition had occurred at January 1, 2002. Unaudited pro forma combined condensed financial information ispresented for comparative purposes only and is not necessarily indicative ofthe results of operations that would have actually been reported had theacquisition occurred at the beginning of the periods presented, nor is itnecessarily indicative of future financial position or results of operations.

 
|                            |   | **Three  Months  Ended September 30,** |    | **Nine  Months  Ended September 30** |       |
|---------------------------------|--------|----------------------------------------|---------|--------------------------------------|------------|
|                            |   | **2003**                               |    | **2002**                             | ** ** | **2003** | ** ** | **2002** | ** ** |
| Total revenues                  |   | $                                      | 200,421 |                                 | $          | 213,383 |   | $ | 608,594 |   | $ | 670,913 |   |
| Net income                      |   | 5,540                                  |    | 3,910                                |       | 22,721 |   | 15,713 |   |
| Net income per  share (basic)   |   | .09                                    |    | .05                                  |       | .34 |   | .21 |   |
| Net income per  share (diluted) |   | .09                                    |    | .05                                  |       | .34 |   | .21 |   |
|                                 |        |                                        |         |                                      |            |  |  |  |  |  |  |  |  |

 

In addition to theSignalTree Solutions acquisition, we completed an acquisition of a businesscomplementary to our business strategy during the Third Quarter of 2002.  The merger and consideration costs of thisacquisition, which were accounted for using the purchase method of accounting,totaled $13.4 million in 2002.  Thepurchase price included contingent consideration based upon operatingperformance of the acquired business. During the First Quarter of 2003, we paid an additional $895,000 relatedto earn-outs for this acquisition and have recorded this amount as additionalpurchase price.  Future earn-outs arebased on specific net revenue targets. Payments in the next twelve months for achieving these goals may rangefrom $1.0 million to $2.0 million.  Wealso recorded $3.0 million as deferred revenue related to contingent servicecredits and issued a $3.0 million non-interest bearing note payable as partialconsideration.  As of September 30,2003, the deferred revenue and non-interest bearing note had a balance of $2.5million, respectively.  The note has aone-year term with a one-year extension expiring on September 25, 2004.  As of September 30, 2003, we had notrecorded additional contingent liabilities in relation to the earn-outs.

 

The results of operationsof these acquired companies have been included in our condensed consolidatedstatements of income from the date of acquisition.  The excess of the purchase price over the fair value of the netassets has been allocated to identifiable intangible assets and goodwill.  Identifiable intangible assets are beingamortized on a straight-line basis over periods ranging from three to sevenyears.  Pro forma results of operationsfor these acquisitions have not been provided, as they were not material oneither an individual or an aggregate basis.

 

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**Note F.****       Restructurings**

During the Third Quarterof 2003, we had an additional workforce reduction of twenty-one employeesrelated to our business consulting arm and, as a result of this reduction andthe reduction in the Second Quarter, we recorded a total charge of $899,000,consisting of retention and severance costs. We recorded $563,000 of the chargein salaries, wages, and other direct costs and $336,000 of the charge inselling, general and administrative costs in the accompanying unauditedcondensed consolidated statements of income. Due to immateriality, these costs were not separately reported in theaccompanying unaudited condensed consolidated statements of income. In accordancewith SFAS No. 146, “Accounting for Costs Associated with Exit or DisposalActivities,” we are accruing for these costs beginning at the time of anemployee’s notification through his or her termination date.  We anticipate completing these reorganizationplans by the Fourth Quarter of 2003.

 

During the Second Quarterof 2003, we reevaluated the estimates recorded for the restructuring chargetaken in 2002 for a workforce reduction and, as a result, reduced our accrualsby $882,000. We recorded $704,000 of the expense reduction in salaries, wages,and other directs costs and $178,000 of the expense reduction in selling,general and administrative costs in the accompanying unaudited condensedconsolidated statements of income. Due to immateriality, these costs were notseparately reported in the accompanying unaudited condensed consolidatedstatements of income. In addition, we had a workforce reduction of fifty-fouremployees and, as a result, recorded a charge of $321,000 related to retentionand severance costs, included in salaries, wages, and other direct costs.  In accordance with SFAS No. 146, we areaccruing for these costs beginning at the time of the employee’s notificationthrough his or her termination date. The net impact during the Second Quarter of 2003 was a reduction toexpense in the unaudited condensed consolidated statements of income of$561,000.

 

As of September 30, 2003,we had completed six and thirteen terminations related to the reductions inforce recorded in the Second and Third Quarters, respectively.  Cash expenditures related to the severanceand retention costs recorded in the Second and Third Quarters of 2003 were$401,000.

 

In the Fourth Quarters of2002, 2001, 2000, and 1999, we recorded restructuring charges of $17.6 million,$10.4 million, $8.6 million, and $13.7 million, respectively.  Of these charges, $3.2 million, $4.4million, $1.7 million and $3.8 million related to a workforce reduction ofapproximately 229, 900, 200 and 600 employees for the years 2002, 2001, 2000 and1999, respectively.  In 2002, we alsohad a change in estimate of $251,000 in connection with workforce reduction,which resulted in a net workforce restructuring charge of $2.9 million.  Cash expenditures for the nine months endedSeptember 30, 2003 related to prior year workforce reductions were $1.7million.

 

We also performed areview of our business strategy and concluded that consolidating some of ourbranch offices was key to our success. As a result of this review, our restructuring charges included $12.1million in 2002, $4.0 million in 2001, $3.5 million in 2000, and $5.1 millionin 1999 for branch office closings and certain other expenditures.  In conjunction with the review during theFourth Quarter of 2002, we also performed a review of accrual balances forproperties restructured in prior years. As a result, we determined that the cost to consolidate and/or closecertain non-profitable offices would be higher than the original estimate.  The change in estimates resulted in a netcharge to our restructuring liability of $756,000 and $1.2 million in 2002 and2001, respectively.  The resulting netcharge in 2002 and 2001 was $12.9 million and $5.1 million, respectively.  Cash expenditures for the nine months endedSeptember 30, 2003 related to branch office closures and other expenditureswere $7.1 million.

 

On November 30, 2001, wecompleted the acquisition of Metro Information Services, Inc. (Metro).  At the date of acquisition, we entered intoa plan to exit certain activities and consolidate facilities.  As a result, we recorded a restructuringliability of $11.0 million in 2001 related to the lease obligations and certainother costs for the consolidated facilities. During 2002, the valuation of the liability assumed for the restructuredfacilities and for other matters unresolved at the time of the acquisition wasadjusted, resulting in an increase of $3.1 million.  On March 15, 2002, we acquired SignalTree Solutions.  At the date of acquisition, we entered intoa plan to exit certain activities and consolidate facilities.  As a result, we recorded a restructuringliability of $1.6 million related to the lease obligations and certain othercosts for the consolidated facilities. In accordance with EITF Issue No. 95-3, “Recognition of Liabilities inConnection with a Purchase Business Combination,” these costs have beenreflected in the purchase price of the acquisition.

 

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The activity for the ninemonths ended September 30, 2003 associated with restructuring charges is asfollows:

 
|                                               |   | **January 1,  2003 Balance** |   | **Cash  Expenditures** |   | **Change in  Estimate** |   | **Charges in  Fiscal 2003** |   | **September 30,  2003 Balance** |   |
|----------------------------------------------------|--------|------------------------------|--------|------------------------|--------|-------------------------|--------|-----------------------------|--------|---------------------------------|--------|
| **Branch  office closures and other expenditures** |   |                         |   |                   |   |                    |   |                        |   |                            |   |
| 1999                                               |   | $                            | 623    |                   | $      | (373                    | )      | $                           | — |                            | $      | — |   | $ | 250 |   |
| 2000                                               |   | 760                          |   | (417                   | )      | —                  |   | —                      |   | 343                             |   |
| 2001                                               |   | 6,615                        |   | (2,991                 | )      | —                  |   | —                      |   | 3,624                           |   |
| 2002                                               |   | 14,952                       |   | (3,355                 | )      | —                  |   | —                      |   | 11,597                          |   |
|                                               |   | 22,950                       |   | (7,136                 | )      | —                  |   | —                      |   | 15,814                          |   |
| **2002  Workforce reduction**                      |   | 3,285                        |   | (1,685                 | )      | (882                    | )      | —                      |   | 718                             |   |
| **2003  Workforce reduction**                      |   | —                       |   | (401                   | )      | —                  |   | 1,220                       |   | 819                             |   |
| **Total  Restructuring Balance**                   |   | $                            | 26,235 |                   | $      | (9,222                  | )      | $                           | (882   | )                               | $      | 1,220 |   | $ | 17,351 |   |

 

The restructuring balanceis included in current and long-term accrued restructuring costs in theaccompanying condensed consolidated balance sheets.

 

**Note G.****       Segment Information**

Based on qualitative andquantitative criteria established by SFAS No. 131, “Disclosures about Segmentsof an Enterprise and Related Information,” we operate within one reportablesegment: *Professional Services.* In this segment, we offer an integrated mixof end-to-end business solutions, such as Business Consulting (Plan),Application Development and Integration (Build), and Application Developmentand Management Outsourcing (Manage).

 

In accordance with theenterprise wide disclosure requirements of SFAS No. 131, our geographicinformation is as follows:

 
|                     |   | **Three  Months  Ended September 30,** |    | **Nine  Months  Ended September 30,** |   |
|--------------------------|--------|----------------------------------------|---------|---------------------------------------|--------|
|                     |   | **2003**                               |    | **2002**                              |   | **2003** |   | **2002** |   |
| Revenues:                |   |                                   |    |                                  |   |   |   |   |   |
| Domestic                 |   | $                                      | 195,307 |                                  | $      | 205,446 |   | $ | 593,056 |   | $ | 638,024 |   |
| International            |   | 5,114                                  |    | 7,937                                 |   | 15,538 |   | 22,680 |   |
| Total Revenues           |   | $                                      | 200,421 |                                  | $      | 213,383 |   | $ | 608,594 |   | $ | 660,704 |   |
|                     |   |                                   |    |                                  |   |   |   |   |   |
|                     |   |                                   |    |                                  |   | **September 30,  2003** |   | **December 31,  2002** | ** ** |
| Long-lived  Assets:      |   |                                   |    |                                  |   |   |   |   |   |
| Domestic                 |   |                                   |    |                                  |   | $ | 403,400 |   | $ | 409,513 |   |
| International            |   |                                   |    |                                  |   | 26,423 |   | 26,601 |   |
| Deferred Tax  Assets     |   |                                   |    |                                  |   | 16,397 |   | 13,439 |   |
| Total Long-lived  Assets |   |                                   |    |                                  |   | $ | 446,220 |   | $ | 449,553 |   |

 

No single customerprovides revenues that equal or exceed 10 percent of our consolidated revenues.

 

**Note H.****       Convertible SubordinatedDebentures**

In June 2003, we issuedin a private placement $150.0 million principal amount of 2.0% ConvertibleSubordinated Debentures due 2013 (Debentures). The Debentures are unsecured and subordinated in right of payment to allof our senior indebtedness.  TheDebentures accrue regular interest at a rate of 2.0% per year.  Interest is payable semi-annually in arrearson June 15 and December 15 of each year, beginning December 15, 2003.  Beginning with the six-month interest periodcommencing June 15, 2008, we will pay additional contingent interest during anysix-month interest period if the trading price of the Debentures for each ofthe five trading days immediately preceding the first day of the interestperiod equals or exceeds 120% of the principal amount of the Debentures.  During any interest period when

 

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contingent interest ispayable, the contingent interest payable per $1,000 principal amount ofDebentures will equal 0.35% calculated on the average trading price of $1,000principal amount of Debentures during the five trading days immediatelypreceding the first day of the applicable six-month interest period and will bepayable in arrears.

 

On or after June 15,2008, we may, by providing at least 30-day notice to the holders, redeem any ofthe Debentures at a redemption price equal to 100% of the principal amount ofthe Debentures, plus accrued interest and unpaid interest, if any, andliquidated damages, if any, to, but excluding, the redemption date.

 

The Debentures areconvertible at the option of the holder into shares of our common stock at aninitial conversion rate of 54.4989 share per $1,000 principal amount ofDebentures, which is equivalent to an initial conversion price of approximately$18.349 per share, subject to adjustments, prior to the close of business onthe final maturity date only under the following circumstances: (a) during anyfiscal quarter commencing after September 30, 2003, and only during such fiscalquarter, if the closing sale price of our common stock exceeds 120% of theconversion price (approximately $22.019) for at least 20 trading days in the 30consecutive trading day period ending on the last trading day of the precedingfiscal quarter; (b) during the five business days after any five consecutivetrading day period in which the trading price per $1,000 principal amount ofDebentures for each day of that period was less that 98% of the product of theclosing sale price of our common stock and the number of shares issuable uponconversion of $1,000 principal amount of the Debentures; (c) if the Debentureshave been called for redemption; or (d) upon the occurrence of specifiedcorporate transactions.

 

Debt issuance costs wereapproximately $4.5 million and are included in other assets in the accompanyingcondensed consolidated balance sheets. These costs are being amortized over five years to interest expense on astraight-line basis.  The unamortizeddebt issuance costs were $4.2 million as of September 30, 2003.

 

**Note I.****        Related Parties,Commitments, and Contingencies**

 

Related PartyTransactions

Our principal executiveoffice is located at 100 City Square in Boston, Massachusetts (the “NewFacility”).  We lease the New Facilityfrom Gateway Developers LLC (“Gateway LLC”) as described below.  We lease additional office space andapartments in more than seventy locations in North America, the United Kingdom,and India under operating leases and capital leases, some of which may berenewed for periods up to five years, subject to increased rental fees.

 

In October 2001, weentered into a lease with Gateway LLC for a term of twelve years, pursuant towhich we agreed to lease approximately 95,000 square feet of office anddevelopment space.  We leaseapproximately 57% of the New Facility and the remaining 43% is, or will be,occupied by other tenants. John Keane Family LLC is a member of Gateway LLC.  The members of John Keane Family LLC aretrusts for the benefit of John F. Keane, Chairman of our Board of Directors,and his immediate family members.

 

On October 31, 2001,Gateway LLC entered into a $39.4 million construction loan with Citizens Bankof Massachusetts (the “Gateway Loan”) in connection with the New Facility andan adjacent building located at 20 City Square, Boston, Massachusetts.  John Keane Family LLC and John F. Keane areeach liable for certain obligations under the Gateway Loan if and to the extentGateway LLC requires funds to comply with its obligations under the Gateway Loan.  Stephen D. Steinour, a director of theCompany, is Chief Executive Officer of Citizens Bank of Pennsylvania.  Citizens Bank of Massachusetts and CitizensBank of Pennsylvania are subsidiaries of Citizens Financial Group, Inc.  Mr. Steinour was not involved in theapproval process for the Gateway Loan.

 

We began occupying theNew Facility and making lease payments in March 2003.  Based upon our knowledge of lease payments for comparablefacilities in the Boston area, we believe that the lease payments under thelease for the New Facility, which will be approximately $3.2 million per year($33.00 per square foot for the first 75,000 square feet and $35.00 per squarefoot for the remainder of the premises) for the first six years of the leaseterm and approximately $3.5 million per year ($36.00 per square foot for thefirst 75,000 square feet and $40.00 per square foot for the remainder of thepremises) for the remainder of the lease term, plus specified percentages ofany annual increases in real estate taxes

 

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and operating expenses,were, at the time we entered into the lease, as favorable to us as those whichcould have been obtained from an independent third party.

 

In view of these relatedparty transactions, we concluded that, during the construction phase of the NewFacility, the estimated construction in progress costs for the New Facilitywould be capitalized in accordance with EITF Issue No. 97-10, “The Effect ofLessee Involvement in Asset Construction.” A credit in the same amount was included in the caption “Accruedconstruction-in-progress costs.”  Forpurposes of the consolidated statement of cash flows, we characterized thistreatment as a non-cash financing activity.

 

As a result of the completionof the construction phase and our current occupancy, the related capitalizedcosts are now classified as “Building” in the accompanying condensedconsolidated balance sheets.  A creditfor the same amount appears as accrued building costs into both our short andlong-term components.  The costs of thebuilding are being amortized on a straight-line basis over a 39-year usefullife.  Additionally, the obligation willbe reduced over the life of the lease at an interest rate of 8.67%.  The net effect of the amortization that isincluded in the operating results approximates the rent expense resulting fromthe contractual payments we are required to make under the lease.

 

In February 1985, weentered into a lease, which subsequently was extended to a term of 20 years,with City Square Limited Partnership (“City Square”), pursuant to which weleased approximately 34,000 square feet of office and development space in abuilding located at Ten City Square, in Boston, Massachusetts.  We now lease approximately 88% of thisbuilding and the remaining 12% is leased by other tenants.  John F. Keane, Chairman of the Board of theCompany, and Philip J. Harkins, a director of the Company, are limited partnersof City Square.  Based upon ourknowledge of lease payments for comparable facilities in the Boston area, webelieve that the lease payments under this lease, which will be approximately$1.0 million per year ($30.00 per square foot) for the remainder of the leaseterm (until February 2006), plus specified percentages of any annual increasesin real estate taxes and operating expenses, which will be approximately $0.2million per year were, at the time we entered into the lease, as favorable tous as those which could have been obtained from an independent third party. Asa result of its occupancy of the New Facility (as described above), we vacatedand are in the process of seeking a third party to sublease the space weformerly occupied at Ten City Square.

 

As a result of thevacancy at Ten City Square in December 2002, we reserved the remaining leasepayments due to City Square for the remainder of the lease term, resulting in acharge of approximately $3.9 million in the Fourth Quarter of 2002.

 

In January 2003, theFinancial Accounting Standards Board (FASB) issued Financial Interpretation No.46 (FIN 46), “Consolidation of Variable Interest Entities,” which requires theconsolidation of a variable interest entity, as defined, by its primarybeneficiary.  Primary beneficiaries arethose companies that are subject to a majority of the risk of loss or entitledto receive a majority of the entity’s residual returns, or both.  In determining whether it is the primarybeneficiary of a variable interest entity, an entity with a variable interestshall treat variable interests in that same entity held by its related partiesas its own interests.

 

We have evaluated theapplicability of FIN 46 to our relationship with each of City Square andGateway LLC and determined that we are not required to consolidate theseentities within our consolidated financial statements.  We have determined that Gateway LLC is not avariable interest entity as the equity investment is sufficient to absorb theexpected losses and the holders of the equity investment do not lack any of thecharacteristics of a controlling interest. We have concluded that as we nolonger occupy the space at Ten City Square and no longer derive any benefitfrom leasing the space, we would not be determined to be the related party mostclosely associated with City Square. As a result, we will continue to accountfor our leases with City Square and Gateway LLC consistent with our historicalpractices in accordance with generally accepted accounting principles.  We continue to evaluate the applicability ofFIN 46 to other relationships and, based on the information to date, we havenot identified any entities that would require consolidation.

 

In March 2003, our AuditCommittee approved a related party transaction involving a director ofKeane.  We have subcontracted withGuardent, Inc. (“Guardent”) for a customer project.  Maria Cirino, a director of Keane, is an executive officer,director, and shareholder of Guardent. The payments to Guardent are

 

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not expected to exceedapproximately $25,000.  In addition, theAudit Committee permitted us to engage Guardent as a sub-contractor for thepurposes of providing future services to Keane’s customers.  No payment to Guardent for a singleengagement may exceed $75,000 and no payment to Guardent for all engagements inany calendar year may exceed $250,000. As of September 30, 2003, we made payments of approximately $143,000 toGuardent.

 

In April 2003, our AuditCommittee approved an additional related party transaction involving a directorof Keane.  We sub-contracted withArcStream, Inc (“ArcStream”) for two customer projects.  John F. Keane, Jr., a director of Keane, isChief Executive Officer, director, and founder of ArcStream, Inc.  John F. Keane, Jr. is the son of John F.Keane, Sr., our Chairman of the Board of Directors, and the brother of Brian T.Keane, our President, Chief Executive Officer and a director.  The payments to ArcStream related to theseprojects were not expected to exceed $50,000 at that time.  In addition, the Audit Committee permittedus to engage ArcStream as a sub-contractor for the purposes of providing futureservices to our customers.  No paymentsto ArcStream for a single engagement may exceed $75,000 and no payments toArcStream for all engagements in any calendar year may exceed $250,000.  On July 23, 2003, our Audit Committeeamended its previous approvals relating to ArcStream.  The payments to ArcStream related to the two customer projectspreviously approved, not to exceed $50,000, have now been approved not toexceed $250,000.  In addition, the Boardof Directors gave us approval to engage ArcStream for future engagements suchthat no payments to ArcStream for a single engagement may exceed $100,000 andno payments to ArcStream for all engagements in any calendar year may exceed$500,000.  As of September 30, 2003, wemade payments of approximately $34,000 to ArcStream.

 

Commitments andContingencies

We are a guarantor withrespect to a line of credit for Innovate EC, an entity in which we acquired aminority equity position as a result of a previous acquisition.  The total line of credit is for$600,000.  We guarantee $300,000 of thisobligation.  The line is subject toreview by the lending institution.  Wewould be required to meet our guarantor obligation in the event the lendinginstitution refuses to extend the credit facility and Innovate EC is unable tosatisfy its obligation.

 

During the First Quarterof 2003, we paid $895,000 related to certain earn-out considerations inconnection with an acquisition made during the Third Quarter of 2002.** **Futureearn-outs are based on specific net revenue targets.  Payments in the next twelve months for achieving these goals mayrange from $1.0 million to $2.0 million. We also recorded, in the Third Quarter of 2002, $3.0 million as deferredrevenue related to contingent service credits and issued a $3.0 millionnon-interest bearing note payable as partial consideration.  During the nine months ended September 30,2003, we recognized revenue of approximately $1.1 million in relation to thecontingent service credits and reduced each of the related deferred revenue andnote by approximately $544,000.  Thenote has a one-year term with a one-year extension expiring on September 25,2004.

 

In April 1998, First Command (formerly United ServicesPlanning Association, Inc.) and Independent Research Agency for Life Insurance,Inc. filed a complaint in the District Court for Tarrant County, Texas (CivilAction No. 96-173235-98), against us and two of our employees alleging that wemisrepresented our ability to complete a project contracted for by theplaintiffs and concealed from the plaintiffs material facts related to thestatus of the project.  During the ThirdQuarter of 2003, in order to avoid further costs, we settled the claim in fullwith payment to the plaintiffs of $3.5 million, of which $1.6 million waspreviously accrued. We continue to believe the project was performedprofessionally and in accordance with the contract terms.

 

During the First Quarter of 2003, we received a $7.3million award in connection with an arbitration proceeding initiated by us in2000 against Signal Corporation for a breach of an agreement between SignalCorporation and our Federal Systems subsidiary.

 

We are involved in otherlitigation and various legal matters, which have arisen in the ordinary courseof business.  We do not believe that theultimate resolution of these matters will have a material adverse effect on ourfinancial condition, results of operations, or cash flows.  We believe that legal claims against us arewithout merit and intend to defend these matters vigorously.

 

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**Note J.****       Subsequent Event**

 

On October 21, 2003, weannounced our acquisition of a controlling interest in Worldzen, Inc., aprivately held Business Process Outsourcing (BPO) firm.  In connection with the acquisition, wecontributed a majority of the assets of the Keane Consulting Group (KCG), ourbusiness consulting arm, along with the Series A Preferred Shares of WorldzenHoldings Limited, which we purchased from Carlyle Asia Venture Partners II,L.P. and CAVP II Co-Investment, L.P., to Worldzen, Inc.  Our initial investment resulted in an equityposition of approximately 62% of the issued and outstanding capital stock ofWorldzen, Inc., with the right to increase our ownership position overtime.  This transaction will beaccounted for as a purchase in accordance with SFAS No. 141 “BusinessCombinations” and SFAS No. 142 “Goodwill and Other IntangibleAssets”.  As a result of thistransaction, we will consolidate Worldzen, Inc.’s financial results starting inthe Fourth Quarter of 2003.

 

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**Keane,Inc.**

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

 

This Report contains forward-looking statements within the meaning ofSection 21E of the Securities Exchange Act of 1934, as amended, and Section 27Aof the Securities Act of 1933, as amended. For purposes of these Acts, any statement that is not a statement ofhistorical fact may be deemed a forward-looking statement.  For example, statements containing the words“believes,” “anticipates,” “plans,” “expects,” and similar expressions may beforward-looking statements.  We cautioninvestors not to place undue reliance on any forward-looking statements in thisReport.  We undertake no obligation topublicly update any forward-looking statements, whether as a result of newinformation, future events or otherwise. There are a number of factors that could cause our actual results todiffer materially from those indicated by these forward-looking statements,including without limitation the factors set forth below under the caption“Certain Factors That May Affect Future Results”.  These factors and the other cautionary statements made in thisquarterly report should be read as being applicable to all relatedforward-looking statements wherever they appear in this quarterly report.  If one or more of these factors materialize,or if any underlying assumptions prove incorrect, our actual results,performance, or achievements may vary materially from any future results,performance or achievements expressed or implied by these forward-lookingstatements.

 

The following discussion and analysis should be read in conjunctionwith the unaudited condensed consolidated financial statements and relatednotes included in this Report.

 

**RESULTSOF OPERATIONS**

 

**2003COMPARED TO 2002**

 

**REVENUES(in thousands, except percentages)**

 
|   |   | **Three  Months Ended September 30,** |    | **Nine  Months Ended September 30,** |   |
|--------|--------|---------------------------------------|---------|--------------------------------------|--------|
|   |   | **2003**                              |    | **%**                                |   | **2002** |   | **%** |   | **2003** |   | **%** |   | **2002** |   | **%** |   |
|   |   |                                  |    |                                 |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Plan   |   | $                                     | 12,005  |                                 | 6      |   | $ | 16,310 |   | 8 |   | $ | 38,597 |   | 6 |   | 50,134 |   | 8 |   |
| Build  |   | 50,397                                |    | 25                                   |   | 53,569 |   | 25 |   | 150,711 |   | 25 |   | 165,193 |   | 25 |   |
| Manage |   | 138,019                               |    | 69                                   |   | 143,504 |   | 67 |   | 419,286 |   | 69 |   | 445,377 |   | 67 |   |
|   |   |                                  |    |                                 |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Total  |   | $                                     | 200,421 |                                 | 100    | % | $ | 213,383 |   | 100 | % | $ | 608,594 |   | 100 | % | $ | 660,704 |   | 100 | % |
|        |        |                                       |         |                                      |        |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

Total revenues for the Third Quarter ended September 30, 2003 were $200.4million compared to revenues of $203.5 million from the quarter ended June 30,2003.  Revenues were relatively flatcompared to the quarter ended June 30, 2003, reflecting a more stable demand for IT services in North America, offsetin part by the impact of lower productivity in the Third Quarter.  Total revenues for the quarter endedSeptember 30, 2003 decreased $13.0 million, or 6.1%, compared to the ThirdQuarter of 2002.  Total revenues for thefirst nine months of 2003 were $608.6 million, a decrease of $52.1 million, or7.9%, over the same period in 2002.  Thedecrease in total revenues year over year was primarily the result of clientscontinuing to defer discretionary technology-related expenditures as a resultof economic uncertainty.  We have seen amore stable demand for our services and we believe that we are beginning to seesome indications of increases in discretionary IT spending.

 

*Plan*.  Plan service revenues for the quarter endedSeptember 30, 2003 were $12.0 million, a decrease of $1.1 million, or 8.1%,compared to the quarter ended June 30, 2003. Plan service revenues for the quarter ended September 30, 2003 decreased$4.3 million, or 26.4%, and for the first nine months of 2003 decreased $11.5million, or 23.0%, over the same periods in 2002.  Plan service revenues are comprised primarily of businessconsulting services, which includes our Applications Rationalization Servicethat is delivered by Keane Consulting Group, our business-consulting arm.  Additional IT-focused consulting serviceswithin Plan are sold and delivered out of our network of branch offices.  The decreases in Plan service revenues wereprimarily the result of the deferral of consulting projects and a decrease inbilling rates caused by general economic conditions.

 

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*Build*.  Build service revenues for the quarter endedSeptember 30, 2003 were $50.4 million, an increase of $206,000 compared to thequarter ended June 30, 2003, which reflects our belief that the marketplace forAD&I services, although still challenging, is becoming more stable.  Build service revenues for the quarter endedSeptember 30, 2003 decreased $3.2 million, or 5.9%, and for the first ninemonths of 2003 decreased $14.5 million, or 8.8% over the same periods in2002.  Build revenues, which consistprimarily of the AD&I business, were adversely affected during the firstnine months of 2003 by customers’ deferral of software development projects dueto the reduction in capital spending related to technology.  The products and services sold within theless cyclical healthcare industry have remained consistent year over year andhave helped to stabilize Build service revenues.

 

*Manage*.  Manage service revenues for the quarterended September 30, 2003 were $138.0 million, a decrease of $2.2 million, or1.6% compared to the quarter ended June 30, 2003.  Manage service revenues for the quarter ended September 30, 2003decreased $5.5 million, or 3.8%, and for the first nine months of 2003decreased $26.1 million, or 5.9%, over the same periods in 2002.  The decrease in Manage service revenues wasdue to lower revenues associated with staff augmentation and other services,offset in part by an increase in Applications Outsourcing revenues.

 

Manage services consist primarily of Applications Outsourcing services,together with Staff Augmentation and other Maintenance and Migrationservices.  Generally, under ApplicationsOutsourcing agreements, we receive a fixed monthly fee in return for meeting orexceeding a contractually agreed upon service level.  Applications Outsourcing agreements generally do not require anycapital outlay from us.  ApplicationsOutsourcing revenue and expenses are recognized on a monthly basis consistentwith the service provided by us to our customers.  We do not employ percentage-of-completion accounting on ourApplications Outsourcing agreements.

 

Within our Applications Outsourcing business, we carefully monitor andmanage designated large, long-term strategic Applications Outsourcingengagements.  These deals representApplications Outsourcing contracts that have been signed since January of 2000,with a minimum contract value of $5.0 million in revenue.  We believe that these engagements arerepresentative of the type of Applications Outsourcing business that forms thecore element of our growth strategy. During the Third Quarter of 2003, these long-term strategic ApplicationsOutsourcing engagements generated $58.3 million in revenue, a 20.7% increasefrom $48.3 million in revenue from these engagements in the Third Quarter of2002.

 

**Salaries,wages, and other direct costs**

Salaries, wages, and other direct costs for thequarter ended September 30, 2003 decreased $16.7 million, or 10.8%, and for thefirst nine months of 2003 decreased $56.2 million, or 11.8%, over the sameperiods in 2002. The decreases were primarily attributable to ongoing effortsto bring our costs in alignment with anticipated revenues through workforcereductions and increased offshore staffing, primarily at our Indiafacilities.  During the Third Quarter of2003, we recorded a charge of $563,000 related to retention and severancecosts. For the first nine months of 2003, we recorded retention and severancecosts of $884,000 and recorded a reduction of expense of $704,000 as the resultof a re-evaluation of our 2002 workforce reduction charge.  Salaries, wages, and other direct costs were$138.0 million, or 68.8%, of total revenues, for the quarter ended September30, 2003 and $418.3 million, or 68.7%, of total revenues for the first ninemonths of 2003 compared to $154.7 million, or 72.5%, of total revenues and$474.5 million, or 71.8%, of total revenues, respectively, for the same periodsin 2002.  Salaries, wages, and otherdirect costs for the quarter ended September 30, 2003 were $99,000 highercompared to $137.9 million in the quarter ended June 30, 2003.

 

Total billable employees for all operations were 5,949 as of September30, 2003, compared to 5,819 total billable employees as of June 30, 2003 and6,216 as of September 30, 2002.  Inaddition to these employees, we occasionally use sub-contract personnel toaugment our billable staff.  The base ofbillable employees within our India operation was 794 as of September 30, 2003,an increase of 171 employees, or 27.4%, over the quarter ended June 30, 2003and an increase of 442 employees, or 125.6%, over the quarter ended September30, 2002.  We added our India operationin March 2002 with our acquisition of SignalTree Solutions.

 

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**Gross margin**

Management believes gross margin *(revenueless salaries, wages, and other direct costs)* provides an importantmeasure of our profitability.  Grossmargin for the quarter ended September 30, 2003 increased $3.8 million, or 6.4%,and for the first nine months of 2003 increased $4.1 million, or 2.2%, over thesame periods in 2002.  Gross margin as apercentage of revenue for the quarter ended September 30, 2003 was 31.2%, andfor the first nine months of 2003 was 31.3% compared to 27.5% and 28.2%, respectively, for the same periods in2002.  The increase in grossmargin as a percentage of revenue was largely the result of a more stableenvironment for IT services and improved utilization related to our base ofbillable personnel in North America. Also contributing to the improvement in the gross margin percentage wasour lower labor cost due to increased use of offshore resources at our Indiafacilities. Gross margin as a percentage ofrevenue on a sequential basis decreased from 32.3% in the quarter ended June30, 2003, as a result of lower seasonal utilization rates due to the highernumber of vacation days during the summer months.  We closely monitor utilization rates andother direct costs in an effort to avoid adverse impacts to our gross margin.

 

**Selling, General & Administrative**

Selling, General & Administrative (SG&A) expenses for thequarter ended September 30, 2003 increased $352,000, or 0.7%, and for the firstnine months of 2003 decreased $4.7 million, or 3.1%, over the same periods in2002.  SG&A expenses for the quarterended September 30, 2003 were $48.5 million, or 24.2%, of total revenue, andfor the first nine months of 2003 were $146.7 million, or 24.1%, of total revenueas compared to $48.1 million, or 22.6%, of total revenue and $151.4 million, or22.9%, of total revenue, respectively, for the same periods in 2002.  During the Third Quarter of 2003, in orderto avoid further costs, we settled and paid a legal claim related to FirstCommand and Independent Research Agency of Life Insurance, Inc. (formerlyUnited Services Planning Association, Inc.) for $3.5 million, of which $1.6million was previously accrued. We continue to believe the project wasperformed professionally and in accordance with the contract terms. We alsosettled a number of other legal claims in our favor.  As a result, the net impact of the settlement and the reversal ofaccruals related to the resolution of other legal claims did not have an effecton SG&A expenses for the quarter ended September 30, 2003. In addition,during the Third Quarter of 2003, we recorded a severance charge of $336,000compared to a reduction of expense of $178,000 in the Second Quarter of 2003 asa result of a re-evaluation of the 2002 workforce reduction charge taken in theFourth Quarter of 2002. The decrease in SG&A expenses for the first ninemonths of 2003 was attributable to cost synergies obtained from the acquisitionof Metro as well as our continued focus on tightly controlling discretionaryexpenses.

 

**Amortization of intangible assets**

Amortization of intangible assets for the quarter ended September 30,2003 was $3.9 million, a decrease of 10.1%, and for the first nine months of2003 was $12.0 million, an increase of 0.7%, over the same periods in 2002.  The increase in amortization of intangibleassets for the first nine months of 2003 was primarily due to additionalintangible assets resulting from the acquisitions****of SignalTree Solutions inMarch 2002 and one other acquisition complementary to our business strategymade during the Third Quarter of 2002.

 

**Interest and dividend income**

Interest and dividend income for the quarter ended September 30, 2003was $959,000 and for the first nine months of 2003 was $2.2 million, comparedto $487,000 and $2.0 million, respectively, for the same periods in 2002. Theincrease in interest and dividend income was the result of higher average cashbalances and marketable securities offset in part by overall lower interestrates compared to the same periods in 2002. The higher average cash balances and marketable securities was due tothe investment of the net proceeds from the issuance of our convertible debtissue in June 2003, and strong cash flow, offset in part by the impact of ourshare repurchases in the first six months of 2003.

 

**Interest expense**

Interest expensefor the quarter ended September 30, 2003 was $1.5 million and for the firstnine months of 2003 was $2.6 million, compared to $37,000 and $176,000,respectively, for the same periods in 2002. The interest expense increase is primarily related to the issuance ofour $150 million convertible debt issue in June 2003 and the accounting for ournew corporate facility.  The accountingfor the facility as noted in Note I, requires us to incur interest expense,with a corresponding reduction to SG&A.

 

**Other expenses (income), net**

Other expenses were $333,000 for the quarter ended September 30, 2003compared to $131,000 for the same period in 2002.  For the first nine months of 2003, other income was $6.6 millioncompared to $214,000 for the same

 

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period in 2002.  Other incomeduring the first nine months of 2003 included a $7.3 million favorable judgmentin an arbitration award proceeding related to damages for breach of anagreement between Signal Corporation and our Federal Systems subsidiary.

 

**Income Taxes**

We generated income before taxes of $9.2 million for the Third Quarterended September 30, 2003 and $37.9 million for the first nine months of 2003,compared to $6.5 million and $25.0 million, respectively, for the same periodsin 2002.  The provision for income taxesrepresents the amounts owed for federal, state, and foreign taxes.  Our effective tax rate was 40.0% for thequarters ended September 30, 2003 and 2002 and for the first nine months in2003 and 2002.

 

**Net Income**

Net income increased to $5.5 million for the quarter ended September30, 2003 and $22.7 million for the first nine months of 2003, compared to $3.9million and $15.0 million, respectively, for the same periods in 2002. Ascompared to the quarter ended June 30, 2003, net income decreased by 16.3% as aresult of lower operating income and higher interest expense.

 

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**RECENTACCOUNTING PRONOUNCEMENTS**

In January 2003, the Financial Accounting Standards Board (FASB) issuedFinancial Interpretation No. 46 (FIN 46), “Consolidation of Variable InterestEntities,” which requires the consolidation of a variable interest entity, asdefined, by its primary beneficiary. Primary beneficiaries are those companies that are subject to a majorityof the risk of loss or entitled to receive a majority of the entity’s residualreturns, or both.  In determiningwhether it is the primary beneficiary of a variable interest entity, an entitywith a variable interest shall treat variable interests in that same entityheld by its related parties as its own interests.  FIN 46 is effective prospectively for all variable interestsobtained subsequent to December 31, 2002. For variable interests existing prior to December 31, 2002,consolidation will be required beginning July 1, 2003.  In October 2003, the FASB agreed to abroad-based deferral of the effective date of FIN 46 for public companies untilthe end of periods ending after December 15, 2003.  We have evaluated the applicability of FIN 46 to our relationshipwith each of City Square and Gateway LLC and determined that these entities arenot required to be consolidated within our consolidated financial statements.We have determined that Gateway LLC is not a variable interest entity as theequity investment is sufficient to absorb the expected losses and the holdersof the equity investment do not lack any of the characteristics of acontrolling interest. We have concluded that as we no longer occupy the spaceat Ten City Square and no longer derive any benefit from leasing the space, wewould not be determined to be the related party most closely associated withCity Square. As a result, we will continue to account for our leases with CitySquare and Gateway LLC consistent with our historical practices in accordancewith generally accepted accounting principles. We continue to evaluate the applicability of FIN 46 to other relationshipsand, based on the information to date, we have not identified any entities thatwould require consolidation.

 

In April 2003, the FASB issued Statement of Financial AccountingStandards (SFAS) No. 149, “Amendment of Statement 133 on Derivative Instrumentsand Hedging Activities.”  SFAS No. 149amends and clarifies financial accounting and reporting for derivativeinstruments, including certain derivative instruments embedded in othercontracts (collectively referred to as derivatives) and for hedging activitiesunder SFAS No. 133, “Accounting for Derivative Instruments and HedgingActivities.”  This statement iseffective for contracts entered into or modified after June 30, 2003.  Adoption of this statement did not have asignificant effect on our consolidated financial position or results of operations.

 

In November 2002 and May 2003, the Emerging Issues Task Force (EITF)reached a consensus on Issue No. 00-21, “Revenue Arrangements with MultipleDeliverables”.  EITF Issue No. 00-21provides guidance and criteria for determining when a multiple deliverablearrangement contains more than one unit of accounting.  The guidance also addresses methods ofmeasuring and allocating arrangement consideration to separate units ofaccounting.  The guidance is effectivefor revenue arrangements entered into after June 15, 2003.  Adoption of this statement did not have asignificant effect on our consolidated financial position or results ofoperations.

 

In May 2003, the FASB issued SFAS No. 150, “Accounting for CertainFinancial Instruments with Characteristics of both Liabilities andEquity”.  SFAS No. 150 establishesstandards for how an issuer classifies and measures certain financialinstruments with characteristics of both liabilities and equity.  This statement is effective for financialinstruments entered into or modified after May 31, 2003.  Adoption of this statement did not have asignificant effect on our consolidated financial position or results ofoperations.

 

In May 2003, the EITF reached a consensus on Issue No. 01-08,“Determining Whether an Arrangement Contains a Lease”.  EITF Issue No. 01-08 provides guidance onhow to determine whether an arrangement contains a lease that is within thescope of FASB Statement No. 13, “Accounting for Leases”.  The guidance in Issue No. 01-08 is based onwhether the arrangement conveys to the purchaser (lessee) the right to use aspecific asset.  The Issue No. 01-08will be effective for arrangements entered into or modified in the secondquarter of fiscal 2004.  Presently, weintend to adopt this statement prospectively and do not anticipate adoption ofthis statement to have a significant effect on our consolidated financialposition or results of operations.

 

**LIQUIDITYAND CAPITAL RESOURCES**

We are focused on continuing to generate strong cash flow in order tofund potential mergers and acquisitions, stock repurchases, and to buildlong-term shareholder value.  Our cashand investments at September 30, 2003, increased to $207.5 million from $68.3million at December 31, 2002.  Theincrease was primarily due to the issuance of $150.0 million in convertiblesubordinated debentures in June 2003. We simultaneously invested approximately $37.3 million of the proceedsfrom the sale in the repurchase of 3 million shares of our common stockfrom authorizations approved by our Board of Directors in October of 2002 andMay of 2003.  Net proceeds after therepurchase of shares and debt issuance costs were approximately $108.8 million.

 

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Net cash provided by operating activities totaled $58.9 million for thenine months ended September 30, 2003, as compared to $33.2 million for the ninemonths ended September 30, 2002.  Theincrease in net cash provided by operating activities was driven in part by animprovement in working capital and a $7.3 million award that we received in thequarter ended March 31, 2003 in connection with an arbitration proceedinginitiated by us in 2000 against Signal Corporation for a breach of an agreementbetween Signal Corporation and our Federal Systems subsidiary.  Partially offsetting this increase isapproximately $9.2 million that we paid associated with prior and currentrestructuring charges and a $3.5 million payment made in connection with thesettlement of a legal claim.  Day SalesOutstanding (DSO) was 55 days as of September 30, 2003 as compared to 57 daysas of June 30, 2003.  We calculate DSOusing the trailing three months total revenue divided by the number of days inthe quarter to equal daily revenue.  Theaverage accounts receivable balance for the three-month period is then dividedby daily revenue.

 

Net cash used in investing activities was $102.7 million and $26.1million for the nine months ended September 30, 2003 and 2002,respectively.  Net cash used ininvesting activities in each of these periods was primarily the result ofinvestments, acquisitions, and capital expenditures.  During the nine months ended September 30, 2003, we purchasedinvestments of $102.9 million and sold $8.2 million in marketablesecurities.  In addition, we spent $8.2million on property and equipment along with $903,000 for payments related toprior years acquisitions.  In connectionwith an acquisition made during the Third Quarter of 2002, we may incur additionalpayments related to earn-out considerations that are based on achievingspecific net revenue targets.** **Payments in the next twelvemonths for achieving these goals may range from $1.0 million to $2.0million.  We also recorded, in the ThirdQuarter of 2002, $3.0 million as deferred revenue related to contingent servicecredits and issued a $3.0 million non-interest bearing note payable as partialconsideration.  As of September 30,2003, the deferred revenue and non-interest bearing note each had a balance of$2.5 million.  The note has a one-yearterm with a one-year extension expiring on September 25, 2004.

 

Net cash provided by financing activities totaled $88.5 million for thefirst nine months of 2003 compared to $30.8 million used for financingactivities during the first nine months of 2002.  The increase reflects $150.0 million in proceeds from ourissuance of convertible subordinated debentures, which was offset in part byour repurchase of 6,052,100 shares of our common stock for approximately $60.9million and approximately $4.2 million in debt issue costs.

 

In June 2003, we issued, in a private placement, $150.0 millionprincipal amount of 2.0% convertible subordinated debentures due June 15, 2013(Debentures).  The Debentures areunsecured and subordinated in right of payment to all of our seniorindebtedness.  The Debentures accrueregular interest at a rate of 2.0% per year. Interest is payable semi-annually in arrears on June 15 and December 15of each year beginning December 15, 2003. Beginning with the six-month interest period commencing June 15, 2008,we will pay additional contingent interest during any six-month interest periodif the trading price of the Debentures for each of the five trading daysimmediately preceding the first day of the interest period equals or exceeds120% of the principal amount of the Debentures.  During any interest period when contingent interest is payable,the contingent interest payable per $1,000 principal amount of Debentures willequal 0.35% calculated on the average trading price of $1,000 principal amountof Debentures during the five trading days immediately proceeding the first dayof the applicable six-month interest period and will be payable in arrears.

 

On or after June 15, 2008, we may, by providing at least 30 day noticeto the holders, redeem any of the Debentures at a redemption price equal to100% of the principal amount of the Debentures, plus accrued interest andunpaid interest, if any, and liquidated damages, if any, to, but excluding, theredemption date.

 

The Debentures are convertible at the option of the holder into sharesof our common stock at an initial conversion rate of 54.4989 share per $1,000principal amount of Debentures, which is equivalent to an initial conversionprice of approximately $18.349 per share, subject to adjustments, prior to theclose of business on the final maturity date only under the followingcircumstances: (a) during any fiscal quarter commencing after September 30,2003, and only during such fiscal quarter, if the closing sale price of our commonstock exceeds 120% of the conversion price (approximately $22.019) for at least20 trading days in the 30 consecutive trading day period ending on the lasttrading day of the preceding fiscal quarter; (b) during the five business daysafter any five consecutive trading day period in which the trading price per$1,000 principal amount of Debentures for each day of that period was less than98% of the product of the closing sale price of our common stock and the numberof shares issuable upon conversion of $1,000 principal amount of theDebentures; (c) if the Debentures have been called for redemption; or (d) uponthe occurrence of specified corporate transactions.

 

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On June 12, 2003, our Board of Directors authorized us to repurchase 3million shares of our common stock.  Theauthorization is in addition to the 3 million share repurchase authorizationthat the Board of Directors authorized on May 30, 2003 and in addition to the5 million share repurchase authorization we announced on October 25, 2002,which expired in October 2003.  Therepurchases may be made on the open market or in negotiated transactions, andthe timing and amount of shares purchased will be determined by our managementbased on its evaluation of market and economic conditions and otherfactors.  During the first nine monthsof 2003, we purchased (i) the remaining 3,676,400 shares of our common stockunder the October 2002 authorization for a total investment of $31.3 million atan average share price of $8.52 and (ii) 2,375,700 shares under the May 2003authorization for a total investment of $29.6 million at an average share priceof $12.44.  As of September 30, 2003,there are 3,624,300 shares remaining to be repurchased, of which 624,300 sharesremain from the May authorization and 3 million shares remain from the June2003 authorization.  The authorizationsexpire in May 2004 and June 2004, respectively.  Between May 1999 and September 30, 2003, we have invested $223.9million to repurchase 18.0 million shares of our common stock under nineseparate authorizations.

 

In February 2003, we entered into a new $50.0 million credit facilitywith two banks.  The credit facilityreplaces a previous $10.0 million demand line of credit, which expired in July2002.  The terms of the credit facilityrequire us to maintain a maximum total funded debt and other financialratios.  On June 11, 2003, we and two ofour banks amended certain provisions of the credit facility relating tofinancial covenants.  These covenants,which include total indebtedness and leverage ratios, are no more restrictivethan those initially contained in the credit facility.  As of September 30, 2003, we have no debtoutstanding under the credit facility. Based on our current operating plan, we believe that our cash and cashequivalents on hand, marketable securities, cash flows from operations, and ournew line of credit will be sufficient to meet our current capital requirementsfor at least the next twelve months.

 

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**IMPACTOF INFLATION AND CHANGING PRICES**

Inflationary increases in costs have not been material in recent yearsand, to the extent permitted by competitive pressures, are passed on to clientsthrough increased billing rates.  Ratescharged by us are based on the cost of labor and market conditions within theindustry.

 

**CERTAINFACTORS THAT MAY AFFECT FUTURE RESULTS**

The following important factors, among others, could cause actualresults to differ materially from those indicated by forward-looking statementsmade in this Quarterly Report on Form 10-Q and presented elsewhere bymanagement from time to time.

 

**Our quarterly operating results havevaried, and are likely to continue to vary significantly.  This may result in volatility in the marketprice of our common stock.** We have experienced and expect to continue to experience fluctuations inour quarterly results.  Our grossmargins vary based on a variety of factors including employee utilization ratesand the number and type of services performed during a particular period.  A variety of factors influence our revenuein a particular quarter, including:

 

•      generaleconomic conditions which may influence investment decisions or causedownsizing;

•      the number andrequirements of client engagements;

•      employeeutilization rates;

•      changes in therates we can charge clients for services;

•      acquisitions;and

•      other factors,many of which are beyond our control.

 

A significant portion of our expenses do not vary relative torevenue.  As a result, if revenue in aparticular quarter does not meet expectations, our operating results could bematerially adversely affected, which in turn may have a material adverse impacton the market price of our common stock. In addition, many of our engagements are terminable without clientpenalty.  An unanticipated terminationof a major project could result in an increase in underutilized employees and adecrease in revenue and profits.

 

**We have pursued, and intend tocontinue to pursue, strategic acquisitions. Failure to successfully integrate acquired businesses or assets mayadversely affect our financial performance.**  In recent years, we have grown significantlythrough acquisitions.  From January 1,1999 through September 30, 2003, we have completed eleven acquisitions.  The aggregate merger and consideration costsof these acquisitions totaled approximately $359.8 million.  Our future growth may be based in part onselected acquisitions.  At any giventime, we may be in various stages of considering acquisitionopportunities.  We can provide noassurances that we will be able to find and identify desirable acquisitiontargets or that we will be successful in entering into a definitive agreementwith any one target.  In addition, evenif we reach a definitive agreement with a target, there is no assurance that wewill complete any future acquisition.

 

We typically anticipate that each acquisition will bring benefits, suchas an increase in revenue.  Prior tocompleting an acquisition, however, it is difficult to determine if we canrealize these benefits.  Accordingly,there is a risk that an acquired company may not achieve an increase in revenueor other benefits for us.  In addition,an acquisition may result in unexpected costs, expenses, and liabilities.  Any of these events could have a materialadverse effect on our business, financial condition, and results of operations.

 

The process of integrating acquired companies into our existingbusiness might also result in unforeseen difficulties.  Unforeseen operating difficulties may absorbsignificant management attention, which we may otherwise devote to our existingbusiness.  In addition, the process mayrequire significant financial resources that we might otherwise allocate toother activities, including the ongoing development or expansion of ourexisting operations.

 

Finally, future acquisitions could result in our having to incuradditional debt and/or contingent liabilities. We may also issue equity securities in connection with acquisitions,which could have a dilutive effect on our earnings per share.  Any of these possibilities could have amaterial adverse effect on our business, financial condition, and result ofoperations.

 

**We face significant competition forour services, and our failure to remain competitive could limit our ability tomaintain existing clients or attract new clients.**  The market for our services is highlycompetitive.  The technology for customsoftware services can change rapidly. The market is fragmented, and no company holds a dominant position.  Consequently, our competition for clientassignments and experienced personnel varies

 

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significantly from city to city and by the type of service provided.  Some of our competitors are larger and havegreater technical, financial, and marketing resources and greater namerecognition in the markets they serve than we do.  In addition, clients may elect to increase their internalinformation systems resources to satisfy their custom software development andintegration needs.

 

In the healthcare software systems market, we compete with somecompanies that are larger in the healthcare market and have greater financialresources than we do.  We believe thatsignificant competitive factors in the healthcare software systems marketinclude size and demonstrated ability to provide service to targeted healthcaremarkets.

 

We may not be able to compete successfully against current or futurecompetitors.  In addition, competitivepressures may materially adversely affect our business, financial condition,and results of operations.

 

**We conduct business in the UnitedKingdom, Canada, and India, which exposes us to a number of difficultiesinherent in international activities.**  As a result of our acquisition of SignalTreeSolutions in March 2002, we now have two software development facilities inIndia.  Moreover, we have addedapproximately 794 technical professionals to our professional servicesorganization in the region.  India iscurrently experiencing conflicts with Pakistan over the disputed territory ofKashmir as well as clashes between different religious groups within thecountry.  These conflicts, in additionto other unpredictable developments in the political, economic, and socialconditions in India, could eliminate or reduce the availability of thesedevelopment and professional services. If access to these services were to be unexpectedly eliminated orsignificantly reduced, our ability to meet development objectives important toour strategy to add offshore delivery capabilities to the services we providewould be hindered, and our business could be harmed.

 

If we fail to manage our geographically dispersed organization, we mayfail to meet or exceed our financial objectives and our revenues maydecline.  We perform developmentactivities in the United States, Canada, and in India, and have officesthroughout the United States, and in the United Kingdom, Canada, andIndia.  This geographic dispersion requiresus to devote substantial management resources that locally based competitors donot need to devote to their operations.

 

Our operations in the United Kingdom, Canada, and India are subject tocurrency exchange rate fluctuations, foreign exchange restrictions, changes intaxation, and other difficulties in managing operations overseas.  We may not be successful in managing ourinternational operations.

 

**We may be unable to re-deploy ourprofessionals effectively if engagements are terminated unexpectedly, whichwould adversely affect our results of operations.**  Our clients can cancel or reduce the scopeof their engagements with us on short notice. If they do so, we may be unable to reassign our professionals to newengagements without delay.  The cancellationor reduction in scope of an engagement could, therefore, reduce the utilizationrate of our professionals, which would have a negative impact on our business,financial condition, and results of operations.

 

As a result of these and other factors, our past financial performanceshould not be relied on as an indication of future performance.  We believe that period-to-period comparisonsof our financial results are not necessarily meaningful and we expect that ourresults of operations may fluctuate from period to period in the future.

 

**Our growth could be limited if we areunable to attract and retain personnel in the information technology andbusiness consulting industries.**  We believe that our future success will depend in large part onour ability to continue to attract and retain highly skilled technical andmanagement personnel.  The competitionfor such personnel is intense.  We maynot succeed in attracting and retaining the personnel necessary to develop ourbusiness.  If we do not, our business,financial condition, and results of operations could be materially adverselyaffected.

 

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**Item 3.****    Quantitative and QualitativeDisclosures About Market Risk**

 

We do not engage in trading market risk sensitive instruments orpurchasing hedging instruments or “other than trading” instruments that arelikely to expose us to market risk, whether interest rate, foreign currencyexchange, and commodity price or equity price risk.  We have not purchased options or entered into swaps or forward orfutures contracts.  Our primary marketrisk exposure is that of interest rate risk on our investments, which wouldaffect the carrying value of those investments.  Since January 1, 2001, the United States Federal Reserve Boardhas significantly decreased certain benchmark interest rates, which has led toa general decline in market interest rates. The decline in market interest rates has had an impact on our rate ofreturn on our cash and investments. Additionally, we transact business in theUnited Kingdom, Canada, and India and as such have exposure associated withmovement in foreign currency exchange rates.

 

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

 

Our management, with the participation of our president and chiefexecutive officer and senior vice president of finance and chief financialofficer, evaluated the effectiveness of our disclosure controls and procedures(as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as ofSeptember 30, 2003.  Based on this evaluation,our president and chief executive officer and senior vice president of financeand chief financial officer concluded that, as of September 30, 2003, ourdisclosure controls and procedures were (1) designed to ensure that materialinformation relating to us, including our consolidated subsidiaries, is madeknown to our president and chief executive officer and senior vice president offinance and chief financial officer by others within these entities,particularly during the period in which this report was being prepared and (2)effective, in that they provide reasonable assurance that information requiredto be disclosed by us in the reports that we file or submit under the ExchangeAct is recorded, processed, summarized and reported within the time periodsspecified in the SEC’s rules and forms.

 

No change to our internal control over financial reporting (as definedin Rules 13a-15(f) and 15d-15(f) under the Exchange Act) occurred during thefiscal quarter ended September 30, 2003 that has materially affected, or isreasonably likely to materially affect, our internal control over financialreporting.

 

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**Keane,Inc.**

**Part II.****   OtherInformation**

 

**Item1.****    Legal Proceedings**

 

In April 1998, First Command (formerly United ServicesPlanning Association, Inc.) and Independent Research Agency for Life Insurance,Inc. filed a complaint in the District Court for Tarrant County, Texas (CivilAction No. 96-173235-98), against us and two of our employees alleging that wemisrepresented our ability to complete a project contracted for by theplaintiffs and concealed from the plaintiffs material facts related to thestatus of the project.  During the ThirdQuarter of 2003, in order to avoid further costs, we settled the claim in fullwith payment to the plaintiffs in the amount of $3.5 million, of which $1.6million was previously accrued. We continue to believe the project wasperformed professionally and in accordance with the contract terms.

 

We are involved in other litigation and various legalmatters, which have arisen in the ordinary course of business.  We do not believe that the ultimateresolution of these matters will have a material adverse effect on ourfinancial condition, results of operations, or cash flows.  We believe that legal claims against us arewithout merit and intend to defend these matters vigorously.

 

**Item 6.****    Exhibits and Reports on Form8-K**

(a)           Exhibits.

 

Exhibit 31.1 -Certification by the Registrant’s President and Chief Executive Officerpursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

Exhibit 31.2 -Certification by the Registrant’s Senior Vice President of Finance and ChiefFinancial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

Exhibit 32.1 - Certificationby the Registrant’s President and Chief Executive Officer pursuant to 18 U.S.C.Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of2002.

 

Exhibit 32.2 -Certification by the Registrant’s Senior Vice President of Finance and ChiefFinancial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant toSection 906 of the Sarbanes-Oxley Act of 2002.

 

(b)           Reportson Form 8-K.

 

1.     On July 23, 2003, wefurnished a Current Report on Form 8-K under Item 9, containing a copy of ourearnings release for the period ended June 30, 2003 (including financialstatements) pursuant to Item 12 (Disclosure of Results of Operations andFinancial Condition).

 

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**Signatures**

 

Pursuant to the requirements of the Securities Exchange Act of 1934,the registrant has duly caused this report to be signed on its behalf by theundersigned thereunto duly authorized.

 

 
|   | KEANE, INC.                                                                                                 |
|--------|-------------------------------------------------------------------------------------------------------------|
|   | (Registrant)                                                                                                |
|   |
|   |
| Date   |                                                                                                        | November 12, 2003 |   | /s/ Brian T. Keane |   |
|   | Brian T. Keane                                                                                              |
|   | President and Chief Executive Officer                                                                       |
|   |
|   |
| Date   |                                                                                                        | November 12, 2003 |   | /s/ John J. Leahy |   |
|   | John J. Leahy                                                                                               |
|   | Senior Vice President of Finance and  Chief Financial Officer  (Principal Financial and Accounting Officer) |
|        |                                                                                                             |  |  |  |  |  |

 

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Exhibit Index

 
| **Exhibit  No.** |   | **Description**                                                                                                                                                                                                  |
|------------------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|             |   |                                                                                                                                                                                                             |
| 31.1             |   | Certification by the Registrant’s President and  Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of  2002.                                                                        |
|             |   |                                                                                                                                                                                                             |
| 31.2             |   | Certification by the Registrant’s Senior Vice  President of Finance and Chief Financial Officer pursuant to Section 302 of  the Sarbanes-Oxley Act of 2002.                                                 |
|             |   |                                                                                                                                                                                                             |
| 32.1             |   | Certification by the Registrant’s President and  Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.                         |
|             |   |                                                                                                                                                                                                             |
| 32.2             |   | Certification by the Registrant’s Senior Vice  President of Finance and Chief Financial Officer pursuant to 18 U.S.C.  Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of  2002. |

 

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