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UNITED STATES 
 FORM 10-Q (Mark One) [X]
    
    Quarterly Report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934
 For the quarterly period ended June 30, 2004
 or
 [   ]
    
    Transition Report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
 For the transition period
from      to
 Commission File Number 0-22495 PEROT SYSTEMS CORPORATION  DELAWARE
    
    75-2230700(State or other jurisdiction of
    
    (IRS Employerincorporation or organization)
    
    Identification No.)
 2300 WEST PLANO PARKWAY
PLANO, TEXAS
75075
(Address of principal executive offices)
(Zip Code) (972) 577-0000
(Registrants telephone number, including area code) Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
[X]Yes   [   ]No Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
[X]Yes  [   ]No Number of shares of registrants common stock outstanding as of July 30, 2004:
111,695,391 shares of Class A Common Stock and 3,275,012 shares of Class B
Common Stock.




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##### Table of Contents



PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
FORM 10-Q  INDEX
    
    PagePART I: FINANCIAL INFORMATIONITEM 1: FINANCIAL STATEMENTS (UNAUDITED)Condensed Consolidated Balance Sheets as of June 30, 2004 and December 31,
2003
    
    
    1Condensed Consolidated Statements of Operations for the three and six months
ended June 30, 2004 and 2003
    
    
    2Condensed Consolidated Statements of Cash Flows for the six months ended
June 30, 2004 and 2003
    
    
    3Notes to Condensed Consolidated Financial Statements
    
    
    4ITEM 2: MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
    
    
    14ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
MARKET RISK
    
    
    28ITEM 4: CONTROLS AND PROCEDURES
    
    
    28PART II: OTHER INFORMATIONITEM 1: LEGAL PROCEEDINGS
    
    
    29ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
    
    
    30ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K
    
    
    31SIGNATURES
    
    
    32Rule 13a-14 Certification - President and CEORule 13a-14 Certification - Vice President and CFOSection 1350 Certification - President and CEOSection 1350 Certification - Vice President and CFO




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##### Table of Contents



ITEM 1: FINANCIAL STATEMENTS (UNAUDITED) PEROT SYSTEMS CORPORATION AND SUBSIDIARIES 
 
 June 30, 2004
    
    December 31, 2003ASSETSCurrent assets:Cash and cash equivalents
    
    $
    166,918
    
    
    $
    123,770Short-term investments
    
    
    
    
    
    
    37,599Accounts receivable, net
    
    
    240,055
    
    
    
    208,244Prepaid expenses and other
    
    
    73,185
    
    
    
    52,370Total current assets
    
    
    480,158
    
    
    
    421,983Property, equipment and purchased software, net
    
    
    138,343
    
    
    
    142,836Goodwill
    
    
    358,026
    
    
    
    347,576Other non-current assets
    
    
    121,270
    
    
    
    98,202Total assets
    
    $
    1,097,797
    
    
    $
    1,010,597LIABILITIES AND STOCKHOLDERS EQUITYCurrent liabilities:Current portion of long-term debt
    
    $
    75,498
    
    
    $
    Accounts payable
    
    
    29,410
    
    
    
    27,063Accrued liabilities
    
    
    90,346
    
    
    
    98,021Other current liabilities
    
    
    100,619
    
    
    
    81,959Total current liabilities
    
    
    295,873
    
    
    
    207,043Long-term debt
    
    
    
    
    
    
    75,498Other non-current liabilities
    
    
    19,463
    
    
    
    15,277Total liabilities
    
    
    315,336
    
    
    
    297,818Stockholders equity:Common stock
    
    
    1,149
    
    
    
    1,123Additional paid-in capital
    
    
    445,867
    
    
    
    421,847Retained earnings
    
    
    329,263
    
    
    
    288,615Other stockholders equity
    
    
    (2,846
    )
    
    
    (4,174
    )Accumulated other comprehensive income
    
    
    9,028
    
    
    
    5,368Total stockholders equity
    
    
    782,461
    
    
    
    712,779Total liabilities and stockholders equity
    
    $
    1,097,797
    
    
    $
    1,010,597
 The accompanying notes are an integral part of these financial statements. Page 1




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES 
 
 Three months ended June 30,
    
    Six months ended June 30,2004
    
    2003
    
    2004
    
    2003Revenue
    
    $
    433,794
    
    
    $
    360,041
    
    
    $
    853,598
    
    
    $
    696,402Direct cost of services
    
    
    345,153
    
    
    
    307,252
    
    
    
    680,529
    
    
    
    579,339Gross profit
    
    
    88,641
    
    
    
    52,789
    
    
    
    173,069
    
    
    
    117,063Selling, general and administrative expenses
    
    
    54,565
    
    
    
    46,994
    
    
    
    108,014
    
    
    
    90,406Operating income
    
    
    34,076
    
    
    
    5,795
    
    
    
    65,055
    
    
    
    26,657Interest income
    
    
    352
    
    
    
    593
    
    
    
    736
    
    
    
    1,298Interest expense
    
    
    (512
    )
    
    
    (18
    )
    
    
    (975
    )
    
    
    (23
    )Equity in earnings of unconsolidated affiliates
    
    
    
    
    
    
    1,516
    
    
    
    
    
    
    
    3,041Other income (expense), net
    
    
    712
    
    
    
    224
    
    
    
    (296
    )
    
    
    1,524Income before taxes
    
    
    34,628
    
    
    
    8,110
    
    
    
    64,520
    
    
    
    32,497Provision for income taxes
    
    
    12,723
    
    
    
    3,164
    
    
    
    23,872
    
    
    
    12,674Income before cumulative effect of a change in
accounting principle
    
    
    21,905
    
    
    
    4,946
    
    
    
    40,648
    
    
    
    19,823Cumulative effect of a change in accounting principle,
net of tax
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (42,959
    )Net income (loss)
    
    $
    21,905
    
    
    $
    4,946
    
    
    $
    40,648
    
    
    $
    (23,136
    )Basic earnings (loss) per common share:Income before cumulative effect of a change in
accounting principle
    
    $
    0.19
    
    
    $
    0.05
    
    
    $
    0.36
    
    
    $
    0.18Cumulative effect of a change in accounting
principle, net of tax
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (0.39
    )Net income (loss)
    
    $
    0.19
    
    
    $
    0.05
    
    
    $
    0.36
    
    
    $
    (0.21
    )Weighted average common shares outstanding
    
    
    114,659
    
    
    
    109,808
    
    
    
    114,302
    
    
    
    109,429Diluted earnings (loss) per common share:Income before cumulative effect of a change in
accounting principle
    
    $
    0.18
    
    
    $
    0.04
    
    
    $
    0.34
    
    
    $
    0.17Cumulative effect of a change in accounting
principle, net of tax
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (0.37
    )Net income (loss)
    
    $
    0.18
    
    
    $
    0.04
    
    
    $
    0.34
    
    
    $
    (0.20
    )Weighted average diluted common shares outstanding
    
    
    119,610
    
    
    
    114,694
    
    
    
    119,553
    
    
    
    114,368
 The accompanying notes are an integral part of these financial statements. Page 2




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES 
 
 Six months ended June 30,2004
    
    2003Cash flows from operating activities:Net income (loss)
    
    $
    40,648
    
    
    $
    (23,136
    )Adjustments to reconcile net income (loss) to net cash provided by
operating activities:Depreciation and amortization
    
    
    26,937
    
    
    
    16,842Cumulative effect of a change in accounting principle
    
    
    
    
    
    
    42,959Impairment of assets
    
    
    
    
    
    
    20,743Change in deferred taxes
    
    
    (7,615
    )
    
    
    7,895Equity in earnings of unconsolidated affiliates
    
    
    
    
    
    
    (3,041
    )Other non-cash items
    
    
    (1,248
    )
    
    
    (5,811
    )Changes in assets and liabilities (net of effects from acquisitions
of businesses):Accounts receivable, net
    
    
    (32,496
    )
    
    
    (17,226
    )Prepaid expenses
    
    
    (11,376
    )
    
    
    (14,175
    )Long-term accrued revenue
    
    
    752
    
    
    
    (6,510
    )Accounts payable and accrued liabilities
    
    
    963
    
    
    
    (12,853
    )Accrued compensation
    
    
    7,128
    
    
    
    447Income taxes
    
    
    14,444
    
    
    
    8,174Other current and non-current assets
    
    
    (23,767
    )
    
    
    (2,909
    )Other current and non-current liabilities
    
    
    4,253
    
    
    
    (3,107
    )Net cash provided by operating activities
    
    
    18,623
    
    
    
    8,292Cash flows from investing activities:Purchases of property, equipment and purchased software
    
    
    (14,510
    )
    
    
    (18,475
    )Acquisitions of businesses, net of cash acquired of
$0 and $2,222, respectively
    
    
    (8,611
    )
    
    
    (85,557
    )Net proceeds from the sale of short-term investments
    
    
    37,725
    
    
    
    Other
    
    
    (6
    )
    
    
    (12
    )Net cash provided by (used in) investing activities
    
    
    14,598
    
    
    
    (104,044
    )Cash flows from financing activities:Proceeds from issuance of common stock
    
    
    10,364
    
    
    
    3,839Other
    
    
    (44
    )
    
    
    (529
    )Net cash provided by financing activities
    
    
    10,320
    
    
    
    3,310Effect of exchange rate changes on cash and cash equivalents
    
    
    (393
    )
    
    
    3,884Net increase (decrease) in cash and cash equivalents
    
    
    43,148
    
    
    
    (88,558
    )Cash and cash equivalents at beginning of period
    
    
    123,770
    
    
    
    212,861Cash and cash equivalents at end of period
    
    $
    166,918
    
    
    $
    124,303
 The accompanying notes are an integral part of these financial statements. Page 3




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES 
 
 NOTE 1. GENERAL The accompanying unaudited interim condensed consolidated financial statements
have been prepared in accordance with the rules and regulations of the
Securities and Exchange Commission. The interim condensed consolidated
financial statements include the consolidated accounts of Perot Systems
Corporation and its majority-owned subsidiaries with all significant
intercompany transactions eliminated. In our opinion, all adjustments
(consisting only of normal recurring adjustments) necessary for a fair
statement of the financial position, results of operations and cash flows for
the interim periods presented have been made. Certain information and footnote
disclosures normally included in financial statements prepared in accordance
with generally accepted accounting principles have been condensed or omitted
pursuant to such SEC rules and regulations. These financial statements should
be read in conjunction with the audited financial statements for the year ended
December 31, 2003, in our Annual Report on Form 10-K/A filed with the SEC on
August 3, 2004. Operating results for the three and six month periods ended
June 30, 2004, are not necessarily indicative of the results for the year
ending December 31, 2004. Certain of the 2003 amounts in the accompanying financial statements have been
reclassified to conform to the current presentation. Stock-Based Compensation As permitted by Statement of Financial Accounting Standard No. 123, Accounting
for Stock-Based Compensation, and FAS 148, Accounting for Stock-Based
Compensation Transition and Disclosure, we have elected to follow Accounting
Principles Board Opinion No. 25, Accounting for Stock Issued to Employees,
and related interpretations in accounting for our employee stock options. Under
APB 25, compensation expense is recorded when the exercise price of employee
stock options is less than the fair value of the underlying stock on the date
of grant. We have implemented the disclosure-only provisions of FAS 123 and FAS
148. Had we elected to adopt the expense recognition provisions of FAS 123, the
impact on net income (loss) and earnings (loss) per common share would have
been as follows: Three months ended June 30,
    
    Six months ended June 30,2004
    
    2003
    
    2004
    
    2003Net income (loss)As reported
    
    $
    21,905
    
    
    $
    4,946
    
    
    $
    40,648
    
    
    $
    (23,136
    )Add: Stock-based compensation
expense included in reported net
income (loss), net of related tax effects
    
    
    115
    
    
    
    35
    
    
    
    260
    
    
    
    86Less: Total stock-based employee
compensation expense determined
under fair value based methods for
all awards, net of related tax effects
    
    
    (6,711
    )
    
    
    (4,121
    )
    
    
    (10,436
    )
    
    
    (8,605
    )Pro forma
    
    $
    15,309
    
    
    $
    860
    
    
    $
    30,472
    
    
    $
    (31,655
    )Basic earnings (loss) per common shareAs reported
    
    $
    0.19
    
    
    $
    0.05
    
    
    $
    0.36
    
    
    $
    (0.21
    )Pro forma
    
    $
    0.13
    
    
    $
    0.01
    
    
    $
    0.27
    
    
    $
    (0.29
    )Diluted earnings (loss) per common shareAs reported
    
    $
    0.18
    
    
    $
    0.04
    
    
    $
    0.34
    
    
    $
    (0.20
    )Pro forma
    
    $
    0.14
    
    
    $
    0.01
    
    
    $
    0.26
    
    
    $
    (0.28
    )
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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(SHARES AND DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED) We utilize the Black-Scholes option pricing model to calculate our pro forma
stock-based compensation expense, and the assumptions used for each period are
as follows: Three months ended June 30,
    
    Six months ended June 30,2004
    
    2003
    
    2004
    
    2003Weighted average risk free interest rates
    
    
    2.80
    %
    
    
    2.04
    %
    
    
    2.30
    %
    
    
    2.22
    %Weighted average life (in years)
    
    
    3.3
    
    
    
    2.9
    
    
    
    3.6
    
    
    
    3.7Volatility
    
    
    48
    %
    
    
    55
    %
    
    
    50
    %
    
    
    55
    %Expected dividend yield
    
    
    0
    %
    
    
    0
    %
    
    
    0
    %
    
    
    0
    %Weighted average grant-date fair value per
share of options granted
    
    $
    5.09
    
    
    $
    4.31
    
    
    $
    5.29
    
    
    $
    4.29
 With the exception of grants with cliff vesting and acceleration features, the
expected life of each grant was generally estimated to be a period equal to one
half of the vesting period, plus one year, for all periods presented. The
expected life for cliff vesting grants was equal to the vesting period, and the
expected life for grants with acceleration features was estimated to be equal
to the midpoint of the vesting period. NOTE 2. ACQUISITIONS Perot Systems TSI B.V. In 1996, we entered into a joint venture with HCL Technologies whereby we each
owned 50% of HCL Perot Systems B.V. (HPS), an information technology services
company based in India. On December 19, 2003, we acquired HCL Technologies
shares in HPS, and changed the name of HPS to Perot Systems TSI B.V. (TSI).
This transaction was accounted for as a step acquisition under the purchase
method of accounting. TSI is an IT services firm specializing in business
transformation and application outsourcing. TSI currently serves customers in
the United Kingdom, Singapore, Switzerland, Luxembourg, Germany, India,
Thailand, Malaysia, Japan, Australia and the United States. As a result of the
acquisition, we expanded the geographical areas in which we provide services
and broadened our customer base in our application development service
offering. Because of the late December 2003 closing of this acquisition, the
post-acquisition results of operations of TSI were not material to our
consolidated results of operations for 2003. Therefore, to simplify the process
of consolidating TSI, we continued to account for TSIs results of operations
using the equity method of accounting through December 31, 2003. The balance of
our investment in TSI immediately prior to our consolidation of TSI on December
31, 2003, was $29,495. The additional cash consideration paid for HCL Technologies interest in TSI
was $98,848 (including acquisition costs and net of $12,667 of cash acquired).
As of December 31, 2003, we consolidated the assets and liabilities of TSI.
Accordingly, the TSI assets acquired and liabilities assumed are included in
our consolidated balance sheets at December 31, 2003. During the first quarter of 2004, we completed the appraisals of the acquired
intangible assets. However, the allocation of TSI purchase consideration to
the assets and liabilities acquired, including goodwill, as well as the
allocation of goodwill to our reportable units, has not been completed
primarily due to the pending completion of the valuation of certain tangible
assets and certain liabilities. The estimated excess purchase price over net
assets acquired of $66,277 was recorded as goodwill on the condensed
consolidated balance sheets, was assigned to the Consulting segment and is not
deductible for tax purposes. Page 5




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(SHARES AND DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED) The following table summarizes the preliminary values assigned to the TSI
assets acquired and liabilities assumed as of December 31, 2003, and the
reversal of our historical investment balance. Current assets
    
    $
    84,282Property, equipment and purchased software, net
    
    
    21,716Goodwill (estimated)
    
    
    66,277Identifiable intangible assets
    
    
    7,650Other non-current assets
    
    
    2,069181,994Current liabilities
    
    
    (37,818
    )Other non-current liabilities
    
    
    (3,166
    )Reversal of our investment balance
    
    
    (29,495
    )Purchase consideration
    
    $
    111,515
 Soza & Company, Ltd. On February 20, 2003, we acquired all of the outstanding shares of Soza &
Company, Ltd., and the purchase agreement provided for additional payments to
be made in the future if certain financial targets were achieved. In the first
quarter of 2004, we determined that Soza had achieved certain financial targets
for 2003. As a result of achieving these targets and in accordance with the
purchase agreement, we made additional payments of $6,298 in cash and $8,580 in
641 shares of our Class A Common Stock that resulted in us recording $14,878 of
additional goodwill to the Government Services segment. This goodwill is not
deductible for tax purposes. In addition, during the first quarter of 2004 we
increased the values of certain tax assets that we had purchased in the Soza
acquisition and reduced the amount of purchase price allocated to goodwill by
$3,508. ADI Technology Corporation On July 1, 2002, we acquired all of the outstanding shares of ADI Technology
Corporation, and the purchase agreement provided for additional payments to be
made in the future if certain financial targets were achieved. In the first
quarter of 2004, we determined that ADI had achieved certain financial targets
for 2003. As a result of achieving these targets and in accordance with the
purchase agreement, we made additional payments of $2,294 in cash and $2,325 in
175 shares of our Class A Common Stock that resulted in us recording $4,619 as
additional goodwill. This goodwill was assigned to the Government Services
segment and is not deductible for tax purposes. NOTE 3. GOODWILL AND OTHER INTANGIBLE ASSETS The changes in the carrying amount of goodwill for the six months ended June
30, 2004, by reporting segment are as follows: GovernmentIT Solutions
    
    Services
    
    Consulting
    
    TotalBalance as of December 31, 2003
    
    $
    122,817
    
    
    $
    81,029
    
    
    $
    143,730
    
    
    $
    347,576Additional goodwill for ADI
acquisition
    
    
    
    
    
    
    4,619
    
    
    
    
    
    
    
    4,619Additional goodwill for Soza
acquisition
    
    
    
    
    
    
    11,370
    
    
    
    
    
    
    
    11,370TSI purchase price allocation
adjustment
    
    
    
    
    
    
    
    
    
    
    (6,082
    )
    
    
    (6,082
    )Other
    
    
    538
    
    
    
    5
    
    
    
    
    
    
    
    543Balance as of June 30, 2004
    
    $
    123,355
    
    
    $
    97,023
    
    
    $
    137,648
    
    
    $
    358,026
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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(SHARES AND DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)

(UNAUDITED) The adjustment to the TSI purchase price allocation of $6,082 relates primarily
to the recording of identifiable intangible assets upon completion of the
related intangible asset appraisals. Identifiable intangible assets as of June 30, 2004, are recorded in other
non-current assets in the condensed consolidated balance sheets and are
composed of: Gross
    
    
    
    
    
    NetCarrying
    
    Accumulated
    
    BookValue
    
    Amortization
    
    ValueService marks
    
    $
    5,761
    
    
    $
    (3,240
    )
    
    $
    2,521Customer based assets
    
    
    22,599
    
    
    
    (7,176
    )
    
    
    15,423Other intangible assets
    
    
    4,855
    
    
    
    (2,002
    )
    
    
    2,853Balance at June 30, 2004
    
    $
    33,215
    
    
    $
    (12,418
    )
    
    $
    20,797
 Total amortization expense for identifiable intangible assets was $2,494 and
$5,013 for the three and six months ended June 30, 2004, and $876 and $1,583
for the three and six months ended June 30, 2003. Amortization expense is
estimated at $9,942, $5,190, $3,995, $3,170, $2,233 and $486 for the years
ended December 31, 2004 through 2009, respectively. Identifiable intangible
assets are amortized on a straight-line basis over their estimated useful
lives, ranging from 1 to 15 years. The weighted average useful life is
approximately five years. NOTE 4. COMPREHENSIVE INCOME (LOSS) Total comprehensive income (loss), net of tax, was as follows: Three months
    
    Six monthsended June 30,
    
    ended June 30,2004
    
    2003
    
    2004
    
    2003Net income (loss)
    
    $
    21,905
    
    
    $
    4,946
    
    
    $
    40,648
    
    
    $
    (23,136
    )Foreign currency translation adjustments
    
    
    (1,676
    )
    
    
    1,711
    
    
    
    3,410
    
    
    
    2,559Other
    
    
    (373
    )
    
    
    624
    
    
    
    250
    
    
    
    670Total comprehensive income (loss)
    
    $
    19,856
    
    
    $
    7,281
    
    
    $
    44,308
    
    
    $
    (19,907
    )
 NOTE 5. STOCKHOLDERS EQUITY The components of Other stockholders equity were as follows: June 30, 2004
    
    December 31, 2003Deferred compensation
    
    $
    (3,059
    )
    
    $
    (3,814
    )Other
    
    
    213
    
    
    
    (360
    )Total other stockholders equity
    
    $
    (2,846
    )
    
    $
    (4,174
    )
 At June 30, 2004, there were 111,579 shares of our Class A Common Stock
outstanding and 3,275 shares of our Class B Common Stock outstanding. At
December 31, 2003, there were 109,262 shares of our Class A Common Stock
outstanding and 3,042 shares of our Class B Common Stock outstanding. The
increase in the number of Class A Common Stock outstanding and the increase in additional paid-in capital are due to the
exercise of stock options, the issuance of shares as additional purchase price
consideration for certain acquisitions, and the issuance of shares to
participants in the Employee Stock Purchase Plan. Page 7




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(SHARES AND DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED) NOTE 6. INCOME TAXES Our effective tax rate for the second quarter of 2004 was 36.7% and our
effective tax rate for the six months ended June 30, 2004, was 37.0%. Our
effective tax rate for income before cumulative effect of a change in
accounting principle for the second quarter of 2003 and for the six months
ended June 30, 2003, was 39.0%. The tax rate for the first six months of 2004
was lower than the rate in 2003 due primarily to foreign operations, including
TSI. TSI has tax holidays in certain Asian jurisdictions, which exempt specific
types of income from taxation. NOTE 7. SEGMENT DATA We offer our services under three primary lines of business, which are also
reportable segments. These lines of business are IT Solutions, Government
Services and Consulting. IT Solutions, our largest line of business, provides
services to our customers primarily under long-term contracts in strategic
relationships. These services include technology and business process services,
as well as industry domain-based, short-term project and consulting services.
The Government Services segment provides consulting and technology-based
business process solutions for the Department of Defense, Department of
Homeland Security, and other governmental agencies. The Consulting segment
provides our customers high-value and repeatable services related to business
and technical expertise and the design and implementation of business and
software solutions, primarily under short-term contracts related to specific
projects. Other includes our remaining operating areas and corporate
activities, income and expenses that are not related to the operations of the
other reportable segments, as well as the elimination of approximately $6,447
and $11,967 of intersegment revenue for the three and six months ended June 30,
2004, respectively, related to the provision of services by TSI (in the
Consulting segment) to the other segments (for 2004 only). The reporting segments follow the same accounting policies that we use for our
consolidated financial statements. Segment performance is evaluated based on
income (loss) before taxes, exclusive of income and expenses that are included
in the Other category. All corporate and centrally incurred costs are
allocated to the segments based principally on expenses, employees, square
footage, or usage. The following is a summary of certain financial information by reportable
segment: IT
    
    GovernmentSolutions
    
    Services
    
    Consulting
    
    Other
    
    TotalFor the three months ended June 30, 2004:Revenue
    
    $
    323,593
    
    
    $
    68,409
    
    
    $
    48,239
    
    
    $
    (6,447
    )
    
    $
    433,794Income before taxes
    
    
    23,037
    
    
    
    3,388
    
    
    
    7,574
    
    
    
    629
    
    
    
    34,628For the three months ended June 30, 2003:Revenue
    
    $
    290,095
    
    
    $
    58,357
    
    
    $
    11,527
    
    
    $
    62
    
    
    $
    360,041Income (loss) before taxes
    
    
    (781
    )
    
    
    4,340
    
    
    
    (56
    )
    
    
    4,607
    
    
    
    8,110For the six months ended June 30, 2004:Revenue
    
    $
    638,518
    
    
    $
    133,171
    
    
    $
    93,876
    
    
    $
    (11,967
    )
    
    $
    853,598Income before taxes
    
    
    45,399
    
    
    
    7,204
    
    
    
    11,446
    
    
    
    471
    
    
    
    64,520For the six months ended June 30, 2003:Revenue
    
    $
    579,770
    
    
    $
    93,386
    
    
    $
    23,117
    
    
    $
    129
    
    
    $
    696,402Income (loss) before taxes
    
    
    18,784
    
    
    
    7,066
    
    
    
    (123
    )
    
    
    6,770
    
    
    
    32,497
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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(SHARES AND DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED) Prior to the first quarter of 2004, our Global Software Services group was
included in our Consulting segment. During the first quarter of 2004, we
restructured this group which is now included in the IT Solutions
segment. All prior period amounts have been adjusted to reflect this change. During the second quarter of 2003, we recorded $17,676 of expense in direct
cost of services associated with exiting an under-performing contract, which is
included in the IT Solutions segment. In addition, we revised our estimates to
complete our previous years streamlining efforts, resulting in a reduction in
selling, general and administrative expenses of $5,415, which is included in
the Other category. NOTE 8. EARNINGS PER SHARE The following chart is a reconciliation of the numerators and the denominators
of the basic and diluted per share computations for income before the
cumulative effect of a change in accounting principle. For the three months ended June 30,2004
    
    2003Basic Earnings per Common ShareIncome before cumulative effect of a change in accounting principle
    
    $
    21,905
    
    
    $
    4,946Weighted average common shares outstanding
    
    
    114,659
    
    
    
    109,808Basic earnings per common share before cumulative effect of a
change in accounting principle
    
    $
    0.19
    
    
    $
    0.05Diluted Earnings per Common ShareIncome before cumulative effect of a change in accounting principle
    
    $
    21,905
    
    
    $
    4,946Weighted average common shares outstanding
    
    
    114,659
    
    
    
    109,808Incremental shares assuming dilution
    
    
    4,951
    
    
    
    4,886Weighted average diluted common shares outstanding
    
    
    119,610
    
    
    
    114,694Diluted earnings per common share before cumulative effect of a
change in accounting principle
    
    $
    0.18
    
    
    $
    0.04
 Page 9




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(SHARES AND DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED) For the six months ended June 30,2004
    
    2003Basic Earnings per Common ShareIncome before cumulative effect of a change in accounting principle
    
    $
    40,648
    
    
    $
    19,823Weighted average common shares outstanding
    
    
    114,302
    
    
    
    109,429Basic earnings per common share before cumulative effect of a
change in accounting principle
    
    $
    0.36
    
    
    $
    0.18Diluted Earnings per Common ShareIncome before cumulative effect of a change in accounting principle
    
    $
    40,648
    
    
    $
    19,823Weighted average common shares outstanding
    
    
    114,302
    
    
    
    109,429Incremental shares assuming dilution
    
    
    5,251
    
    
    
    4,939Weighted average diluted common shares outstanding
    
    
    119,553
    
    
    
    114,368Diluted earnings per common share before cumulative effect of a
change in accounting principle
    
    $
    0.34
    
    
    $
    0.17
 For the three and six months ended June 30, 2004, options to purchase 13,637
and 13,589 shares, respectively, of our common stock were excluded from the
calculation of diluted earnings per common share because the impact was
antidilutive given that the exercise prices for these options were higher than
our average stock price for these periods. For the three and six months ended
June 30, 2003, options to purchase 21,039 and 22,748 shares, respectively, of
our common stock were excluded for the same reason as discussed above. NOTE 9. CURRENT PORTION OF LONG-TERM DEBT In June 2000, we entered into an operating lease contract with a variable
interest entity for the use of land and office buildings in Plano, Texas,
including a data center facility. As part of our adoption of Financial
Accounting Standards Board Interpretation No. 46, Consolidated Financial
Statements, we began consolidating this entity beginning on December 31, 2003.
Upon consolidation, we recorded the long-term debt between the variable
interest entity and the financial institutions (the lenders) of $75,498 as our
long-term debt. The agreement matures in June 2005 with one optional two year
extension. We are currently pursuing plans to restructure the agreement and
consequently do not expect to exercise our option to extend the agreement.
As a result, we have reclassified the amount outstanding of $75,498
from long-term debt to the current portion of long-term debt as of June 30,
2004. NOTE 10. CREDIT FACILITY On January 20, 2004, we entered into a revolving credit facility with a
syndicate of banks that allows us to borrow up to $100,000. Borrowings under
the credit facility will be either through revolving loans or letters of credit
obligations. The credit facility is guaranteed by certain of our domestic
subsidiaries. Interest on borrowings varies with usage and begins at an
alternate base rate, as defined in the credit facility agreement, or the LIBOR
rate plus an applicable spread based upon our debt/EBITDA ratio applicable on
such date. We are also required to pay a facility fee based upon the unused
credit commitment and certain other fees related to letter of credit issuance.
The credit facility matures on January 19, 2007, and requires certain financial
covenants, including a debt/EBITDA ratio, a minimum interest coverage ratio, a
minimum capitalization ratio and a minimum current ratio, each as defined in
the credit facility agreement. As of June 30, 2004, there have been no
borrowings under this credit facility. Page 10




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(SHARES AND DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED) NOTE 11. COMMITMENTS AND CONTINGENCIES Litigation We are involved in the following legal proceedings. IPO Allocation Securities Litigation In July and August 2001, we, as well as some of our current and former officers
and the investment banks that underwrote our initial public offering, were
named as defendants in two purported class action lawsuits. These lawsuits,
Seth Abrams v. Perot Systems Corp. et al. and Adrian Chin v. Perot Systems,
Inc. et al., were filed in the United States District Court for the Southern
District of New York. The suits allege violations of Rule 10b-5, promulgated
under the Securities Exchange Act of 1934, and Sections 11, 12(a)(2) and 15 of
the Securities Act of 1933. Approximately 300 issuers and 40 investment banks
have been sued in similar cases. The suits against the issuers and
underwriters have been consolidated for pretrial purposes in the IPO Allocation
Securities Litigation. The lawsuit involving us focuses on alleged improper
practices by the investment banks in connection with our initial public
offering in February 1999. The plaintiffs allege that the investment banks, in
exchange for allocating public offering shares to their customers, received
undisclosed commissions from their customers on the purchase of securities and
required their customers to purchase additional shares in aftermarket trading.
The lawsuit also alleges that we should have disclosed in our public offering
prospectus the alleged practices of the investment banks, whether or not we
were aware that the practices were occurring. The plaintiffs are seeking
unspecified damages, statutory compensation and costs and expenses of the
litigation. During 2002, the current and former officers and directors of Perot Systems
Corporation that were individually named in the lawsuits referred to above were
dismissed from the cases. In exchange for the dismissal, the individual
defendants entered agreements with the plaintiffs that toll the running of the
statute of limitations and permit the plaintiffs to refile claims against them
in the future. In February 2003, in response to the defendants motion to
dismiss, the court dismissed the plaintiffs Rule 10b-5 claims against us, but
did not dismiss the remaining claims. We have accepted a settlement proposal presented to all issuer defendants.
Pursuant to the proposed settlement, plaintiffs would dismiss and release all
claims against us and our current and former officers and directors, in
exchange for an assurance by the insurance companies collectively responsible
for insuring the issuers in all of the IPO cases that the plaintiffs will
achieve a minimum recovery (including amounts recovered from the underwriters),
and for the assignment or surrender of certain claims we may have against the
underwriters. We would not be required to make any cash payment with respect
to the settlement. The proposed settlement would also require court
approval, which cannot be assured. The underwriters are opposing approval of
the proposed settlement and have requested that, in the alternative, they
receive a corresponding reduction in any judgment amounts that they may be
ordered to pay if they are found liable in the actions. Litigation Relating to the California Energy Market In June 2002, we were named as a defendant in a purported class action lawsuit
that alleges that we conspired with energy traders to manipulate the California
energy market. This lawsuit, Art Madrid v. Perot Systems Corporation et al.,
was filed in the Superior Court of California, County of San Diego. The case
is currently pending in the Superior Court for the County of Sacramento. The
plaintiffs are seeking unspecified damages, treble damages, restitution,
punitive damages, interest, costs, attorneys fees and
declaratory relief. In September 2003, we filed a demurrer to the complaint
and an alternative motion to strike all claims for monetary relief. In January
2004, the court granted our demurrer and did not grant the plaintiffs leave to
amend their complaint. The plaintiffs, however, have filed a notice of appeal. Page 11




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(SHARES AND DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED) In June, July and August 2002, Perot Systems, Ross Perot and Ross Perot, Jr.,
were named as defendants in eight purported class action lawsuits that allege
violations of Rule 10b-5, and, in some of the cases, common law fraud. These
suits allege that our filings with the Securities and Exchange Commission
contained material misstatements or omissions of material facts with respect to
our activities related to the California energy market. All of these eight
cases have been consolidated in the Northern District of Texas, Dallas Division
in the case of Vincent Milano v. Perot Systems Corporation. The plaintiffs in
this case filed a consolidated amended complaint in July 2003. The plaintiffs
are seeking unspecified monetary damages, interest, attorneys fees and costs.
In October 2003, we moved to dismiss the amended complaint with prejudice. The
plaintiffs have filed an opposition to our motion. In 1997 and 1998, pursuant to a consulting contract with the California
Independent Systems Operator, we assisted in implementing the operating systems
for Californias newly deregulated wholesale electricity markets. The
consolidated amended complaint in these federal court securities class actions
alleges that the statements in our public filings and statements were
fraudulently misleading, because we did not disclose to investors that (1) we
allegedly advocated improper bidding practices to our customers in the
California wholesale electricity markets and (2) in October 1997, the
California ISO sent a letter to us accusing us of wrongfully using confidential
information in our 1997-1998 marketing efforts. Other In addition to the matters described above, we have been, and from time to time
are, named as a defendant in various legal proceedings in the normal course of
business, including arbitrations, class actions and other litigation involving
commercial and employment disputes. Certain of these proceedings include
claims for substantial compensatory or punitive damages or claims for
indeterminate amounts of damages. In view of the inherent difficulty of predicting the outcome of such matters,
particularly in cases in which claimants seek substantial or indeterminate
damages, we cannot predict with certainty the eventual loss or range of loss
related to such matters. We are contesting liability and/or the amount of
damages, in each pending matter and believe, based on current knowledge and
after consultation with counsel, that the outcome of these matters will not
have a material adverse effect on our consolidated financial condition,
although the outcome could be material to our operating results for a
particular future period, depending on, among other things, the level of our
income for such period. We have purchased, and expect to continue to purchase, insurance coverage that
we believe is consistent with coverage maintained by others in the industry.
This coverage is expected to limit our financial exposure to claims covered by
these policies in many cases. Contract-related Contingency During 2003 we exited an under-performing contract. As a result of the exiting
of this contract, we determined that certain contract-related assets were
impaired and additional expenses would be incurred related to the exiting of
this contract, resulting in a loss of $17,676 that was recorded in the second
quarter of 2003 in direct cost of services. This estimated loss represents our
current estimate of the loss related to exiting this contract and is in
addition to the loss of approximately $19,500 that we recorded in the first
quarter of 2003 in our cumulative effect of a change in accounting principle
upon adoption of EITF 00-21. We have filed a claim in arbitration to recover
amounts we believe are due under this
contract, and the other party filed counterclaims. Therefore, the amount of
actual loss with respect to exiting this contract may vary from our current
estimates. Page 12




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(SHARES AND DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED) Purchase Commitment We have an agreement with a telecommunication service provider to purchase
services from, or sell services on behalf of, this provider having a gross
value of $19,500 over a four-year commitment period. We entered into
arbitration with this vendor in 2003 and had recorded a liability for our
estimate of the unfulfilled minimum purchase commitment of $5,550 at December
31, 2003. The arbitration concluded in the first quarter of 2004, and based on
the outcome, we recorded an additional liability of $3,273 through a charge to
direct cost of services. The total liability recorded through the first
quarter of 2004 of $8,823 relates to the unfulfilled minimum purchase
commitment for the first three years of the commitment period, which ended on
March 31, 2004. We currently expect to fulfill the minimum purchase commitment
for the final year of the commitment period that ends on March 31, 2005. Guarantees and Indemnifications We have applied the disclosure provisions of FASB Interpretation No. 45,
Guarantors Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees and Indebtedness of Others, to our agreements that contain
guarantee or indemnification clauses. FIN 45 requires us to disclose certain
types of guarantee and indemnification arrangements, even if the likelihood of
our being required to perform under these arrangements is remote. The following
is a description of arrangements in which we are a guarantor, as defined by FIN
45. We are a party to a variety of agreements under which we may be obligated to
indemnify another party. Typically, these obligations arise in the context of
contracts entered in the normal course of business under which we agree to hold
the other party harmless against losses arising from certain matters, which may
include death or bodily injury, loss of or damage to tangible personal
property, improper disclosures of confidential information, infringement or
misappropriation of copyrights, patent rights, trade secrets or other
intellectual property rights, breaches of third party contract rights, and
violations of certain laws applicable to our services, products or operations.
The indemnity obligation in these arrangements is customarily conditioned on
the other party making an adverse claim pursuant to the procedures specified in
the particular contract, which procedures typically allow us to challenge the
other partys claims. The term of these indemnification provisions typically
survives in perpetuity after the applicable contract terminates. It is not
possible to predict the maximum potential amount of future payments under these
or similar agreements, due to the conditional nature of our obligations and the
unique facts and circumstances involved in each particular agreement. However,
we have purchased and expect to continue to purchase a variety of liability
insurance policies, which are expected, in most cases, to limit our financial
exposure to claims covered by such policies (other than claims relating to the
infringement or misappropriation of copyrights, patent rights, trade secrets or
other intellectual property). In addition, we have not historically incurred
material costs individually or in the aggregate to defend lawsuits or settle
claims related to these indemnification provisions. As a result, we believe the
likelihood of a material liability under these arrangements is remote.
Accordingly, we have no significant liabilities recorded for these agreements
as of June 30, 2004. We include warranty provisions in substantially all of our customer contracts
in the ordinary course of business. These provisions generally provide that our
services will be performed in an appropriate and legal manner and that our
products and other deliverables will conform in all material respects to
specifications agreed between our customer and us. Our obligations under these
agreements may be limited in terms of time or amount or both. In addition, we
have purchased and expect to continue to purchase errors and omissions
insurance policies, which are expected, in most cases, to limit our financial
exposure to claims covered by such policies. Because our obligations are
conditional in nature and depend on the unique facts and circumstances involved
in each particular matter, we record liabilities for these
arrangements only on a case by case basis when management determines that it is
probable that a liability has been incurred. As of June 30, 2004, we have no
significant liabilities recorded for warranty claims. Page 13




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES 
 ITEM 2: MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS RESULTS OF OPERATIONS The following discussion and analysis should be read in conjunction with our
Condensed Consolidated Financial Statements and related notes included
elsewhere in this Quarterly Report on Form 10-Q and in our Annual Report on
Form 10-K/A for the fiscal year ended December 31, 2003, and with the
information under the heading Managements Discussion and Analysis of
Financial Condition and Results of Operations in our Annual Report on Form
10-K/A for the fiscal year ended December 31, 2003. Overview of Our Financial Results for the Second Quarter of 2004 Our financial results are affected by a number of factors, including broad
economic conditions, the amount and type of technology spending by our
customers, and the business strategies and financial condition of our customers
and the industries we serve, which could result in increases or decreases in
the amount of services that we provide to our customers and the pricing of such
services. Our ability to identify and effectively respond to these factors is
important to our future financial and growth position. We evaluate our consolidated performance on the basis of numerous performance
indicators. The four key performance indicators we use are revenue growth,
earnings growth, free cash flow for the period, and the value of contracts
signed during the last twelve months. We compare these key performance
indicators to both annual target amounts established by management and to our
performance for prior periods. We establish the targets for these key
performance indicators primarily on an annual basis, but we may revise them
during the year. We assess our performance using these key indicators on a
quarterly and annual basis. Below is a summary of our financial results for the second quarter of 2004
as compared to the second quarter of 2003: Three Months Ended June 30(In millions, except per share data)2004
    
    2003
    
    % ChangeRevenue
    
    $
    433.8
    
    
    $
    360.0
    
    
    
    20.5
    %Direct cost of services
    
    
    345.2
    
    
    
    307.2
    
    
    
    12.4
    %Gross profit
    
    
    88.6
    
    
    
    52.8
    
    
    
    67.8
    %Selling, general and administrative expenses
    
    
    54.5
    
    
    
    47.0
    
    
    
    16.0
    %Operating income
    
    
    34.1
    
    
    
    5.8
    
    
    
    487.9
    %Interest income, net
    
    
    (0.2
    )
    
    
    0.6
    
    
    
    (133.3
    %)Other income (expense), net
    
    
    0.7
    
    
    
    1.7
    
    
    
    (58.8
    %)Income before taxes
    
    
    34.6
    
    
    
    8.1
    
    
    
    327.2
    %Provision for income taxes
    
    
    12.7
    
    
    
    3.2
    
    
    
    296.9
    %Net income
    
    $
    21.9
    
    
    $
    4.9
    
    
    
    346.9
    %Diluted earnings per common share
    
    $
    0.18
    
    
    $
    0.04
    
    
    
    350.0
    %Weighted average diluted shares outstanding
    
    
    119.6
    
    
    
    114.7
    
    
    
    4.3
    %
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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS Revenue Growth Revenue growth is a measure of the growth we generate through new sales of
services, retention of existing contracts, and discretionary services from
existing customers. For the second quarter of 2004, revenue grew by 20.5% as
compared to the second quarter of 2003. As discussed in more detail below, this
revenue growth came primarily from the following:  
    
    Revenue from TSI, which we acquired in December 2003, as discussed below in Acquisition of
Perot Systems TSI B.V.;
    
    Revenue from new contracts signed during the twelve-month period following the second quarter of 2003;
    
    An increase in revenue from an outsourcing contract signed during the first quarter of 2003 for which our services did not
commence until June 2003; and
    
    An increase in discretionary technology investments by our customers. We believe that economic conditions are improving,
which is resulting in an increased level of technology investment by our customers. Earnings Growth We measure earnings growth using diluted earnings per share, which is a measure
of our effectiveness in delivering profitable growth. For the second quarter
of 2004, diluted earnings per share increased to $0.18 from $0.04 per share for
the second quarter of 2003. As discussed in more detail below, this increase
came primarily from:  
    
    Expenses in the second quarter of 2003 associated with exiting a customer contract, as discussed below in Exiting of a Customer
Contract;
    
    Income from TSI, which we acquired in December 2003;
    
    An improvement in the profitability for certain fixed- and unit-priced
outsourcing contracts that are less profitable at the outset of the
contract, but are more
profitable as we deliver planned efficiencies; and
    
    Partially offsetting these increases in earnings were decreases to earnings from three major
customer contracts and an increase in expense in 2004 for year-end bonuses to
associates. Free Cash Flow We calculate free cash flow as net cash provided by operating activities less purchases
of property, equipment and purchased software, as stated in our condensed consolidated statements of cash
flows. We use free cash flow as a
measure of our ability to generate cash for both our short-term and long-term
operating and business expansion needs. Free cash flow for the first six
months of 2004 was $4.1 million as compared to $(10.2) million for the first
six months of 2003: Six Months Ended June 302004
    
    2003Net cash provided by operating activities
    
    $
    18.6
    
    
    $
    8.3Purchases of property, equipment and software
    
    
    (14.5
    )
    
    
    (18.5
    )Free cash flow
    
    $
    4.1
    
    
    $
    (10.2
    )
 TCV of Contracts Signed The amount of Total Contract Value (commonly referred to as TCV) that we sell
during a certain twelve-month period is a measure of our success in capturing
new business in the various outsourcing and consulting markets in which we
provide services. We measure TCV as our estimate of the total expected revenue
from new contracts with new customers and the total expected revenue from the new scope of
services sold to existing customers, in each case where the contract is
expected to generate revenue in excess of a defined
amount during its contract term and the contract term exceeds a defined length
of time. If a new contract Page 15




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS does not meet the defined amount of revenue or
length of term, it is not included in our TCV calculation. Various factors may impact the timing of when a contract is signed, including
the complexity of the contract, competitive pressures, and customer demands.
As a result, we use a twelve-month period to measure our success in this area
because of the significant variations that typically occur in the amount of TCV
signed during each quarterly period. During the twelve-month period ending June
30, 2004, the amount of TCV signed was $770.9 million. We continue to see prospective customers desiring fixed and per-unit pricing
mechanisms for the billing of our outsourcing services. While these
pricing mechanisms typically impact the initial profit margins on new
contracts, they do not necessarily affect the overall expected
profitability of new contracts. Additional Measurements Our three major lines of business are IT Solutions, Government Services, and
Consulting. Each of these three major lines of business has distinct economic
factors, business trends, and risks that could affect our results of
operations. As a result, in addition to the four metrics discussed above that
we use to measure our consolidated financial performance, we also closely
monitor these key performance indicators for each of these lines of business and for certain industry groups and operating
units within these lines of business. Our Outsourcing Agreement with UBS UBS is our largest customer. The outsourcing agreement with UBS that covers the
substantial majority of our business with UBS expires on January 1, 2007. This
agreement entitles us to recover our costs plus a fixed fee, with a bonus or
penalty that can cause this annual fee to vary up and down by as much as 13%,
depending on our level of performance as determined by UBS. We also provide
additional project services to UBS. As a result, the revenue and gross profit
that we derive from our UBS relationship depends on our performance and on the
level of services we provide to UBS. The annual amount of gross profit that we
have earned from UBS has ranged from $44.2 million to $50.2 million during the
three years ended December 31, 2003. The expiration of the outsourcing
agreement is expected to result in the loss of a substantial majority of the
revenues and profits from UBS. We have identified several operating efficiencies that we believe could reduce
the negative impact on our operating income that is expected from the
expiration of our UBS outsourcing agreement. These operating efficiencies
include efficiencies from existing fixed- and unit-priced contracts and
reductions in existing selling, general and administrative expenses. Acquisition of Perot Systems TSI B.V. As discussed in Note 2 to the condensed consolidated financial statements,
Acquisitions, on December 19, 2003, we acquired HCL Technologies shares in
HPS, and changed the name of HPS to Perot Systems TSI B.V. Because of the late
December 2003 closing of this acquisition, the post-acquisition results of
operations of TSI were not material to our consolidated results of operations
for 2003. As a result, we continued to account for TSIs results of operations
using the equity method of accounting through December 31, 2003, and we
consolidated the assets and liabilities of TSI as of December 31, 2003. Change in Accounting Principle for Revenue Arrangements with Multiple
Deliverables We adopted EITF 00-21 effective January 1, 2003 for both existing and
prospective customer contracts, which resulted in an expense in the first
quarter of 2003 for the cumulative effect of a change in accounting principle
of $69.3 million ($43.0 million, net of the applicable income tax benefit), or
$0.38 per diluted share. This adjustment resulted primarily from the reversal of
unbilled revenues associated with our long-term fixed price contracts that
include construction-type services, as each such contract had been accounted Page 16




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS for as a single unit of accounting using the percentage-of-completion method.
This adjustment also includes approximately $19.5 million (approximately $12.1
million, net of the applicable income tax benefit), or $0.11 per diluted share,
to recognize an estimated loss on a construction-type service included in a
contract with multiple deliverables that we expected to be profitable in the
aggregate over its term and that was previously accounted for as a single unit
of accounting using the percentage-of-completion method, as discussed below
under Exiting of a Customer Contract. As a result of our adoption of EITF 00-21, we recognized revenues of
approximately $0.8 million during each of the first two quarters of 2004 that
were included in the cumulative effect of a change in accounting principle,
which we recorded in the first quarter of 2003. Exiting of a Customer Contract In 2001, we entered into a long-term fixed-price IT outsourcing contract with a
customer that included various non-construction services and a construction
service, which was an application development project. In 2002, we began to
expect that the actual cost to complete the application development project
would exceed the cost estimate included in the contract with the customer. The
contract provided for us to collect most of the excess of the actual cost over
the cost estimate in the contract, but we expected the project to generate a
loss because we did not expect to collect all of the excess of the actual cost
over the cost estimate in the contract. However, we did not recognize a loss
on the contract at that time. Prior to the adoption of EITF 00-21 we recorded
revenue and profit on our fixed-price contracts which included both
construction and non-construction services using the percentage-of-completion
method of accounting. Therefore, because we expected that the contract would
be profitable in the aggregate over its term, we did not recognize a loss on
this contract in 2002. As part of our adoption of EITF 00-21 in the first quarter of 2003, we were
required to separate the deliverables in the contract into multiple units of
accounting and recognized a net estimated loss on the application development
project totaling approximately $19.5 million (approximately $12.1 million, net
of the applicable income tax benefit), or $0.11 per diluted share, which was
recorded as part of the cumulative effect of a change in accounting principle.
The $19.5 million loss on the application development project is composed of
two adjustments:  
    
    the reversal of $8.9 million of revenue and profit that was recognized
prior to January 1, 2003, to adjust to the amount that would have been
recorded if we had applied the percentage-of-completion method to this
project separately; and
    
    the recording of a future estimated loss of $10.6 million, which was
calculated as the difference between the estimated amount that we
expected to collect from the customer and the estimated costs to
complete the application development project. In the second quarter of 2003, we were unable to reach agreement with the
customer on the timing and form of payment for the excess of the actual cost
over the cost estimate in the contract. As a result, we exited this contract
and recorded an additional $17.7 million of expense in direct cost of services
in the second quarter of 2003, which consists of the following:  
    
    The impairment of assets related to this contract totaling $20.7 million, including the impairment of $14.7 million of
long-term accrued revenue;
    
    The accrual of estimated costs to exit this contract of $3.8 million; and
    
    Partially offsetting the above expenses was the reversal of $6.8 million in accrued liabilities
that had been recognized for future losses that we expected to incur
to complete the application development project. Page 17




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS We completed the services necessary to transition certain functions back to the
client during the fourth quarter of 2003. Comparison of the Three Months Ended June 30, 2004 and 2003 Revenue Revenue for the second quarter of 2004 increased by $73.8 million, or 20.5%, to
$433.8 million from revenue of $360.0 million for the second quarter of 2003
due to increases in revenue from the IT Solutions, Government Services and
Consulting segments. Revenue from the IT Solutions segment increased by $33.5 million, or 11.5%, to
$323.6 million for the second quarter of 2004 from revenue of $290.1 million in
the second quarter of 2003. This net increase was primarily attributable to:  
    
    $17.2 million increase from contracts signed during the twelve-month
period following the second quarter of 2003. This revenue comes
primarily from new contracts signed in the healthcare, manufacturing,
and construction and engineering industries, and the services that we
are providing to these new customers are primarily the same services
that we provide to the majority of our other long-term outsourcing
customers. During the past year, we have experienced increased demand
for our services in the healthcare, manufacturing, and construction
and engineering markets. Overall, the healthcare industry is in a
state of change as health systems transform their clinical and
administrative back-office operations, payer organizations work to
develop new consumer-based health models, and as the rate of medical
cost inflation continues to be high. These changes require increased
system investment, which creates demand for our services. Because of
the increased complexity associated with system changes and combined
with a desire to focus on core functions, the healthcare outsourcing
market has experienced increased levels of business. Within the
manufacturing and construction and engineering markets, we have also
experienced increased levels of business primarily as a result of
customers continuing needs to reduce expense and to improve their
operations.
    
    $10.5 million increase associated with an outsourcing contract signed
during the first quarter of 2003 with a customer in the healthcare
industry for which we did not recognize a full quarter of revenue
during the second quarter of 2003 because of the timing of the
contract signing and subsequent contract start date. This contract was
subject to regulatory approval before work could commence. We
received that approval late during the second quarter of 2003.
    
    $17.0 million net increase from existing accounts, short-term
offerings, and project work. We typically provide services that are
above our base level of services for our long-term customers. These
services are typically discretionary in nature, and the amount of
these services that we provide to our customers can vary from
period-to-period depending on many factors, including specific
customer and industry needs and economic conditions. The majority of
this increase is related to contracts in the healthcare industry. As
discussed above, the healthcare industry is in a state of change,
which has created increased demand for discretionary investment that
has resulted in additional project work. The level of discretionary
investment in the other commercial markets we serve has not been as
strong, primarily because of the economic state of those industries.
    
    Partially offsetting these increases was a $11.2 million decrease in
revenue associated with three major customer contract changes. As
discussed above in Exiting of a Customer Contract, we exited an
under-performing contract during the second quarter of 2003, resulting
in a $7.1 million decrease in revenue for the second quarter of 2004
as compared to the prior year period. Additionally, we completed two major contract renewals that resulted in a revenue reduction
of $4.1 million for the second quarter of 2004 as compared to the second
quarter of 2003, primarily relating to reductions in price. Although
pricing reductions were made on these two major contracts, the circumstances
for these reductions differ for the two contract renewals. For one of these
renewals, we were realizing Page 18




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS  higher than normal profit margins primarily because our
contract pricing included the recovery of a significant investment that was
made at the beginning of the contract. When the customer was acquired by another
company, we signed a new long-term services agreement with a reduced scope
of services, less up-front investment, and a corresponding reduction in
price. For the second renewal, the customer agreed to enter into a long-term
arrangement for services that we were performing on a short-term basis.
Because of the long-term commitment, we have less risk on the contract, and
we therefore reduced the price. Revenue from the Government Services segment increased $10.0 million, or 17.1%,
to $68.4 million for the second quarter of 2004 from $58.4 million for the
second quarter of 2003. This increase is primarily attributable to new
contracts and existing program expansion with the Department of Homeland
Security, the Department of Defense, and civilian agencies of the federal
government. For the contracts underlying this revenue increase, we are
providing program management, administrative, professional and engineering
services related to both a recently awarded program by the Department of
Homeland Security and from existing programs where specific initiatives of the
government required additional resources for the second quarter of 2004 as
compared to the same period in the prior year. Our business with the federal
government may fluctuate due to annual federal funding limits and the specific
needs of the federal agencies we serve. Revenue from the Consulting segment increased 263.5% to $41.8 million for the
second quarter of 2004, net of the elimination of intersegment revenue of $6.4
million, from $11.5 million for the second quarter of 2003. This increase is
primarily attributable to the acquisition of TSI, which contributed $28.8
million of revenue, net of the elimination of intersegment revenue of $6.4
million, for the second quarter of 2004. The remaining increase is
attributable to increased revenue from technology and business consulting
services, primarily attributable to an increased level of services related to
the implementation of prepackaged software applications. These services are
typically viewed as discretionary services by our customers with the level of
business activity depending on many factors including economic conditions and
specific customer needs. Revenue from UBS, our largest customer, was $64.9 million for the second
quarter of 2004, or 15.0% of revenue. This revenue is reported within the IT
Solutions and Consulting lines of business and is summarized in the following
table: Three Months Ended June 302004
    
    2003
    
    ChangeUBS revenue in IT Solutions
    
    $
    57.5
    
    
    $
    59.9
    
    
    (
    4.0
    %)UBS revenue in Consulting
    
    
    7.4
    
    
    
    
    
    
    
    n/mTotal revenue from UBS
    
    $
    64.9
    
    
    $
    59.9
    

    
    
    8.3
    %
 The increase in revenue from UBS for the Consulting line of business is due to the acquisition of TSI as discussed above. Page  19




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS Gross Margin Gross margin, which is calculated as gross profit divided by revenue, for the
second quarter of 2004 was 20.4% of total revenue, which is higher than the
gross margin for the second quarter of 2003 of 14.7% of total revenue. This
year-to-year increase in gross margin is primarily due to the following:  
    
    As discussed above in Exiting of a Customer Contract, in the second
quarter of 2003, we recorded $17.7 million of expense in direct costs
of services associated with the exiting of this contract.
    
    The acquisitions of TSI and Vision Healthsource increased gross margin
by 1.8 percentage points. TSI and Vision were acquired during the
twelve-month period following the second quarter of 2003 and typically
realize higher gross margins than what we normally realize on
traditional IT outsourcing contracts because of the nature of the
services they provide, which are offshore business process outsourcing
and application management services. This year-to-year increase is also due to a slight increase in overall
profitability for commercial customer contracts, particularly our fixed-price
contracts for which the profitability tends to improve with the maturity of the
contract as we develop operating efficiencies. Partially offsetting these
increases were the three major customer contract changes discussed above, which
reduced our gross margin by 0.9 percentage points, and an increase in expense
of $6.6 million for year-end bonuses for the majority of the associates in our
IT Solutions segment and associates in our corporate SG&A areas. We have
several separate bonus plans for various associate groups within our Government
Services and Consulting segments, and the impact on gross margin from the bonus
expense recorded under these other plans did not differ significantly in the
second quarter of 2004 as compared to the prior year period. Selling, General and Administrative Expenses Selling, general and administrative expenses for the second quarter of 2004
increased 16.0% to $54.5 million from $47.0 million for the second quarter of
2003. This increase is primarily attributable to the acquisition of TSI and
additional costs associated with corporate compliance and business insurance,
partially offset by reduced SG&A expenses primarily resulting from cost
reductions made in 2003. During the second quarter of 2003, we recorded $3.3
million of expense in SG&A related to severance and other costs to eliminate
approximately 150 positions in various business functions and geographic areas.
In addition, we recorded a reduction of expense of $5.4 million resulting from
revising our estimate of liabilities associated with actions in previous years
to streamline our operations, which included a favorable resolution of an
employment dispute. SG&A for the second quarter of 2004 was 12.6% of revenue,
which is slightly lower than SG&A for the second quarter of 2003 of 13.1% of
revenue primarily due to cost reductions made in 2003. Other Statement of Operations Items Interest expense for the second quarter of 2004 increased by $0.5 million as
compared to the second quarter of 2003. This increase is primarily related to
the debt we recorded on our consolidated balance sheet as of December 31, 2003,
upon adoption of Financial Accounting Standards Board Interpretation No. 46,
Consolidation of Variable Interest Entities. During the second quarter of 2003, we recorded $1.5 million of income from our
previous 50% equity in the earnings of TSI, which we consolidated on December
31, 2003, following the acquisition of HCL Technologies shares in TSI, as
discussed above. Page 20




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS Our effective tax rate for the second quarter of 2004 was 36.7%. Our effective
tax rate for income before cumulative effect of a change in accounting
principle for the second quarter of 2003 was 39.0%. The tax rate for the second
quarter of 2004 was lower than the rate in 2003 due primarily to foreign
operations, including TSI. TSI has tax holidays in certain Asian jurisdictions,
which exempt specific types of income from taxation. Comparison of the Six Months Ended June 30, 2004 and 2003 Revenue Revenue for the six months ended June 30, 2004, increased by $157.2 million, or
22.6%, to $853.6 million from revenue of $696.4 million for the six months
ended June 30, 2003, due to increases in revenue from the IT Solutions,
Government Services and Consulting segments. Revenue from the IT Solutions segment increased by $58.7 million, or 10.1%, to
$638.5 million for the first six months of 2004 from revenue of $579.8 million
in the first six months of 2003. This net increase was primarily attributable
to:  
    
    $33.3 million increase from contracts signed during the twelve-month
period following the second quarter of 2003. This revenue comes
primarily from new contracts signed in the healthcare, manufacturing,
and construction and engineering industries, and the services that we
are providing to these new customers are primarily the same services
that we provide to the majority of our other long-term outsourcing
customers. During the past year, we have experienced increased demand
for our services in the healthcare, manufacturing, and construction
and engineering markets. Overall, the healthcare industry is in a
state of change as health systems transform their clinical and
administrative back-office operations, payer organizations work to
develop new consumer-based health models, and as the rate of medical
cost inflation continues to be high. These changes require increased
system investment, which creates demand for our services. Because of
the increased complexity associated with system changes and combined
with a desire to focus on core functions, the healthcare outsourcing
market has experienced increased levels of business. Within the
manufacturing and construction and engineering markets, we have also
experienced increased levels of business primarily as a result of
customers continuing needs to reduce expense and to improve their
operations.
    
    $25.3 million increase associated with an outsourcing contract signed
during the first quarter of 2003 with a customer in the healthcare
industry for which we did not recognize a full quarter of revenue
during the second quarter of 2003 because of the timing of the
contract signing and subsequent contract start date. This contract was
subject to regulatory approval before work could commence. We
received that approval late during the second quarter of 2003.
    
    $25.7 million net increase from existing accounts, short-term
offerings, and project work. We typically provide services that are
above our base level of services for our long-term customers. These
services are typically discretionary in nature, and the amount of
these services that we provide to our customers can vary from
period-to-period depending on many factors, including specific
customer and industry needs and economic conditions. The majority of
this increase is related to contracts in the healthcare industry. As
discussed above, the healthcare industry is in a state of change,
which has created increased demand for discretionary investment that
has resulted in additional project work. The level of discretionary
investment in the other commercial markets we serve has not been as
strong, primarily because of the economic state of those industries.
    
    Partially offsetting these increases was a $25.6 million decrease in
revenue associated with three major customer contract changes. As
discussed above in Exiting of a Customer Contract, we exited an
under-performing contract during the second quarter of 2003, resulting
in a $15.8 million decrease in revenue for the first six months of
2004 as compared to the prior year period. Additionally, we
completed two major contract renewals that resulted in a revenue reduction
of $9.8 million for the first Page 21




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS  six months of 2004 as compared to the first six months of 2003, primarily relating to reductions in price. Although
pricing reductions were made on these two major contracts, the circumstances
for these reductions differ for the two contract renewals. For one of these
renewals, we were realizing higher than normal profit margins
primarily because our contract pricing included the recovery
of a significant investment that was made at the beginning of the contract.
 When the customer was acquired by another company, we signed a
new long-term services agreement with a reduced scope of services,
less up-front
investment, and a corresponding reduction in price. For the second
renewal, the customer agreed to enter into a long-term arrangement for
services that we were performing on a short-term basis. Because of the
long-term commitment, we have less risk on the contract, and we therefore
reduced the price. Revenue from the Government Services segment increased $39.8 million, or 42.6%,
to $133.2 million for the first six months of 2004 from $93.4 million for the
first six months of 2003. This increase is primarily attributable to the
acquisition of Soza & Company, Ltd. in February 2003 as we recognized
approximately $21.8 million of additional revenue in the first quarter of 2004
resulting from a full quarter of revenue in our financial statements. The
remaining year-to-year increase of $18.0 million is primarily attributable to
new contracts and existing program expansion with the Department of Homeland
Security, the Department of Defense, and civilian agencies of the federal
government. For the contracts underlying this revenue increase, we are
providing program management, administrative, professional and engineering
services related to both a recently awarded program by the Department of
Homeland Security and from existing programs where specific initiatives of the
government required additional resources for the first six months of 2004 as
compared to the same period in the prior year. Our business with the federal
government may fluctuate due to annual federal funding limits and the specific
needs of the federal agencies we serve. Revenue from the Consulting segment increased 254.5% to $81.9 million for the
first six months of 2004, net of the elimination of intersegment revenue of
$12.0 million, from $23.1 million for the first six months of 2003. This
increase is primarily attributable to the acquisition of TSI, which contributed
$56.4 million of revenue, net of the elimination of intersegment revenue of
$12.0 million, for the first six months of 2004. The remaining increase is
attributable to increased revenue from technology and business consulting
services, primarily attributable to an increased level of services related to
the implementation of prepackaged software applications. These services are
typically viewed as discretionary services by our customers with the level of
business activity depending on many factors including economic conditions and
specific customer needs. Revenue from UBS, our largest customer, was $131.4 million for the first six
months of 2004, or 15.4% of revenue. This revenue is reported within the IT
Solutions and Consulting lines of business and is summarized in the following
table: Six Months Ended June 302004
    
    2003
    
    ChangeUBS revenue in IT Solutions
    
    $
    115.9
    
    
    $
    118.8
    
    
    
    (2.4
    %)UBS revenue in Consulting
    
    
    15.5
    
    
    
    
    
    
    
    n/mTotal revenue from UBS
    
    $
    131.4
    
    
    $
    118.8
    
    
    
    10.6
    %
 The increase in revenue from UBS for the Consulting line of business is due to
the acquisition of TSI as discussed above. Page 22




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS Gross Margin Gross margin, which is calculated as gross profit divided by revenue, for the
six months ended June 30, 2004, was 20.3% of total revenue, which is higher
than the gross margin for the six months ended June 30, 2003, of 16.8% of total
revenue. This year-to-year increase in gross margin is primarily due to the
following:  
    
    As discussed above in Exiting of a Customer Contract, in the second
quarter of 2003, we recorded $17.7 million of expense in direct costs
of services associated with the exiting of this contract.
    
    The acquisitions of TSI and Vision Healthsource increased gross margin
by 1.8 percentage points. TSI and Vision were acquired during the
twelve-month period following the second quarter of 2003 and typically
realize higher gross margins than what we normally realize on
traditional IT outsourcing contracts because of the nature of the
services they provide, which are offshore business process outsourcing
and application management services. This year-to-year increase is also due to a slight increase in overall
profitability for commercial customer contracts, particularly our fixed price
contracts for which the profitability tends to improve with the maturity of the
contract as we develop operating efficiencies. Partially offsetting these
increases were the three major customer contract changes discussed above, which
reduced our gross margin by 1.0 percentage points, and an increase in expense
of $9.0 million for year-end bonuses for the majority of the associates in our
IT Solutions segment and associates in our corporate SG&A areas. We have
several separate bonus plans for various associate groups within our Government
Services and Consulting segments, and the impact on gross margin from the bonus
expense recorded under these other plans did not differ significantly in the
second quarter of 2004 as compared to the prior year period. Selling, General and Administrative Expenses Selling, general and administrative expenses for the six months ended June 30,
2004, increased 19.5% to $108.0 million from $90.4 million for the six months
ended June 30, 2003. This increase is primarily attributable to the
acquisitions of TSI and Soza and additional costs associated with corporate
compliance and business insurance, partially offset by reduced SG&A expenses
primarily resulting from cost reductions made in 2003. During the first six
months of 2003, we recorded $3.3 million of expense in SG&A related to
severance and other costs to eliminate approximately 150 positions in various
business functions and geographic areas. In addition, we recorded a reduction
of expense of $5.4 million resulting from revising our estimate of liabilities
associated with actions in prior years to streamline our operations, which
included a favorable resolution of an employment dispute. SG&A for the first
six months of 2004 was 12.7% of revenue, which is slightly lower than SG&A for
the first six months of 2003 of 13.0% of revenue primarily due to cost
reductions made in 2003. Other Statement of Operations Items Interest expense for the six months ended June 30, 2004 increased by $1.0
million as compared to the six months ended June 30, 2003. This increase is
primarily related to the debt we recorded on our consolidated balance sheet as
of December 31, 2003, upon adoption of Financial Accounting Standards Board
Interpretation No. 46, Consolidation of Variable Interest Entities. During the six months ended June 30, 2003, we recorded $3.0 million of income
from our previous 50% equity in the earnings of TSI, which we consolidated on
December 31, 2003, following the acquisition of HCL Technologies shares in
TSI, as discussed above. Other income (expense), net, for the six months ended June 30, 2004 decreased
to an expense of $0.3 million from income of $1.5 million for the six months
ended June 30, 2003. This decrease is primarily
due to the recognition of foreign exchange losses during the first six months
of 2004 and the receipt of a $1.2 Page 23




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS million non-investment interest payment in
the first six months of 2003, partially offset by the gains recorded from the
sale of short-term investments held by TSI. Our effective tax rate for the six months ended June 30, 2004 was 37.0%. Our
effective tax rate for income before cumulative effect of a change in
accounting principle for the six months ended June 30, 2003 was 39.0%. The tax
rate for the first six months of 2004 was lower than the rate for the first six
months of 2003 due primarily to foreign operations, including TSI. TSI has tax
holidays in certain Asian jurisdictions, which exempt specific types of income
from taxation. LIQUIDITY AND CAPITAL RESOURCES Our primary sources of liquidity are cash flows from operations, available cash
reserves, and debt capacity under a revolving credit facility. During the six
months ended June 30, 2004, cash and cash equivalents increased 34.8% to $166.9
million from $123.8 million at December 31, 2003. Net cash provided by operating activities was $18.6 million for the six months
ended June 30, 2004, as compared to net cash provided by operating activities
of $8.3 million for the six months ended June 30, 2003. Income before
cumulative effect of a change in accounting principle, net of tax, increased
for the first six months of 2004 to $40.6 million as compared to $19.8 million
for the first six months of 2003. The following items also impacted our cash
flow from operations in 2004 as compared to 2003:  
    
    Because we typically collect our accounts receivable within 50 to 60
days, our accounts receivable balance at the end of each quarterly
period can change based on the amount of revenue for that quarter and
the timing of collections from our customers, which can vary from
period to period. The increase in accounts receivable in the first
six months of 2004 of $32.5 million is greater than the increase in
the first six months of 2003 of $17.2 million. This increase is
primarily due to a $73.8 million increase in revenue for the second
quarter of 2004 as compared to the second quarter of 2003, which is
significantly higher than the $26.5 million revenue increase in the
second quarter of 2003 as compared to the same period in 2002.
    
    Year-end bonuses paid in 2004 primarily to associates in the IT
Solutions segment and in our corporate SG&A operating areas increased
as compared to 2003 by approximately $11.1 million. The amount of
year-end bonuses that we record for each period is based on several
factors, including our financial performance for the period and
managements discretion.
    
    Net cash paid for income taxes for the first six months of 2004
increased by $20.0 million as compared to the prior year period, with
net payments of $16.3 million in 2004 compared to net refunds of $3.7
million in 2003.
    
    During the first six months of 2004 we increased our spending on
deferred contract costs by approximately $15.2 million as compared to
the first six months of 2003, which are included in other non-current
assets on the condensed consolidated balance sheets. Net cash provided from investing activities increased to $14.6 million for the
six months ended June 30, 2004, as compared to net cash used of $104.0 million
for the same period in 2003. This increase was due primarily to a
$77.0 million
decrease in the amount of net cash paid for acquisitions of businesses.  
    
    During the six months ended June 30, 2003, we paid $85.6 million (net of cash received) for acquisitions, including $72.8
million (net of cash received) for the acquisition of Soza and an additional $10.0 million for the acquisition of ARS.
    
    During the six months ended June 30, 2004, we paid $8.6 million for acquisitions, including $6.3
million and $2.3 million as additional consideration related to the
acquisitions of Soza and ADI, respectively. Page 24




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS Additionally, we recorded $37.7 million of net proceeds from the sale of
short-term investments relating to the conversion of TSIs short-term
investments to cash and cash equivalents during the six months ended June 30,
2004. For the six months ended June 30, 2004, net cash provided by financing
activities increased to $10.3 million compared to $3.3 million for the six
months ended June 30, 2003. This increase is due primarily to an increase in
the amount of cash received upon the exercise of options to purchase Class A
Common Stock and from the purchases of stock through the Employee Stock
Purchase Plan during the first six months of 2004 as compared to the period in
2003. We routinely maintain cash balances in certain European and Asian currencies to
fund operations in those regions. During the six months ended June 30, 2004,
foreign exchange rate fluctuations negatively impacted our non-domestic cash
balances by $0.4 million as the Euro and the Indian rupee weakened and the
British pound strengthened against the U.S. dollar. Our foreign exchange
policy does not call for hedging foreign exchange exposures that are not likely
to impact net income or working capital. On January 20, 2004, we entered into a revolving credit facility with a
syndicate of banks that allows us to borrow up to $100.0 million. We anticipate
that existing cash and cash equivalents and short-term investments, expected
cash flows from operating activities, and the $100.0 million available under
the revolving credit facility will provide us sufficient funds to meet our
operating needs for the foreseeable future. Current Portion of Long-Term Debt In June 2000, we entered into an operating lease contract with a variable
interest entity for the use of land and office buildings in Plano, Texas,
including a data center facility. As part of our adoption of Financial
Accounting Standards Board Interpretation No. 46, Consolidated Financial
Statements, we began consolidating this entity beginning on December 31, 2003.
Upon consolidation, we recorded the long-term debt between the variable
interest entity and the financial institutions (the lenders) of $75.5 million
as our long-term debt. The agreement matures in June 2005 with one optional two
year extension. We are currently pursuing plans to restructure the agreement
and consequently do not expect to exercise our option to
extend the agreement. As a result, we have reclassified the amount outstanding of
$75.5 million from long-term debt to the current portion of long-term debt as
of June 30, 2004. Purchase Commitment We have an agreement with a telecommunication service provider to purchase
services from, or sell services on behalf of, this provider having a gross
value of $19.5 million over a four-year commitment period. We entered into
arbitration with this vendor in 2003 and had recorded a liability for our
estimate of the unfulfilled minimum purchase commitment of $5.6 million at
December 31, 2003. The arbitration concluded in the first quarter of 2004, and
based on the outcome, we recorded an additional liability of $3.2 million
through a charge to direct cost of services. The total liability recorded
through the first quarter of 2004 of $8.8 million relates to the unfulfilled
minimum purchase commitment for the first three years of the commitment period,
which ended on March 31, 2004. We currently expect to fulfill the minimum
purchase commitment for the final year of the commitment period that ends on
March 31, 2005. FORWARD-LOOKING STATEMENTS This quarterly report contains forward-looking statements. These statements
relate to future events or our future financial performance. In some cases, you
can identify forward-looking statements by terminology
such as may, will, should, could, forecasts, expects, plans,
anticipates, believes, estimates, predicts, potential, see,
target, projects, position, or continue or the negative of such terms
and other comparable terminology. These statements are only predictions. Actual
events or results may differ materially. In evaluating all forward-looking
statements, you should specifically consider Page 25




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS various factors that may cause
actual results to vary from those contained in the forward-looking statements,
such as:  
    
    Our outsourcing agreement with UBS, the largest of our UBS agreements, ends in January 2007, which we expect to result in
the loss of a substantial majority of revenue and profits from our UBS relationship.
    
    Revenue and profit from our contract with UBS may substantially vary between periods because it depends on the
amount and quality of the services we provide.
    
    We may bear the risk of cost overruns under custom software development contracts, and, as a result, cost overruns could
adversely affect our profitability.
    
    Our five largest customers account for a substantial portion of our revenue and profits and loss of any of these customers
could result in decreased revenues and profits.
    
    If entities we acquire fail to perform in accordance with our expectations or if their liabilities exceed our expectations,
our profits per share could be diminished and our financial results could be adversely affected.
    
    Our software development products may cost more than we initially project, encounter delays, or fail to perform well in the
market, which could decrease our profits.
    
    Our financial results are materially affected by a number of factors, including broad economic conditions, the amount and type of
technology spending that our customers undertake, and the business strategies and financial condition of our customers and
the industries we serve, which could result in increases or decreases in the amount of services that we provide to our
customers and the pricing of such services. Important to our future financial and growth position is our ability to
identify and effectively respond to these factors.
    
    The success of the implementation of planned operating efficiencies and cost cutting initiatives, and the timing and amount
of any resulting benefits.
    
    If we are unable to successfully integrate acquired entities, our profits may be less and our operations more costly or
less efficient.
    
    Our contracts generally contain provisions that could allow customers to terminate the contracts and sometimes contain
provisions that enable the customer to require changes in pricing, decreasing our revenue and profits and potentially
damaging our business reputation.
    
    Some contracts contain fixed-price provisions or penalties that could result in decreased profits.
    
    Fluctuations in currency exchange rates may adversely affect the profitability of our foreign operations.
    
    Our international operations expose our assets to increased risks and could result in business loss or in more expensive or
less efficient operations.
    
    We have a significant business presence in India, and risks associated with doing business there could decrease our revenue
and profits.
    
    Governments could enact legislation that restricts the provision of services from offshore locations.
    
    Our government contracts contain early termination and reimbursement provisions that may adversely affect our revenue and
profits.
    
    If customers reduce spending that is currently above contractual minimums, our revenues and profits could diminish.
    
    If we fail to compete successfully in the highly competitive markets in which we operate, our business, financial
condition, and results of operations will be materially and adversely affected.
    
    Increasingly complex regulatory environments may increase our costs.
    
    Our quarterly operating results may vary.
    
    Loss of key personnel could adversely affect our ability to attract and retain business.
    
    Changes in technology could adversely affect our competitiveness, revenue, and profit.
    
    Ross Perot has substantial control over any major corporate action.
    
    We could lose rights to our company name, which may adversely affect our ability to market our services.
    
    Failure to recruit, train, and retain technically skilled personnel could increase costs or limit growth.
    
    Alleged or actual infringement of intellectual property rights could result in substantial additional costs. Page 26




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS  
    
    Provisions of our certificate of incorporation, bylaws, stockholders rights plan and Delaware law could deter takeover
attempts. Please refer to our Annual Report on Form 10-K/A for the fiscal year ended
December 31, 2003, as filed with the U.S. Securities and Exchange Commission
and available at www.sec.gov, for additional information regarding risk
factors. We disclaim any intention or obligation to revise any forward-looking
statements whether as a result of new information, future developments, or
otherwise. Page 27




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
FORM 10-Q
For the Quarter Ended June 30, 2004 
 ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK For a discussion of our market risk associated with foreign currencies as of
December 31, 2003, see Quantitative and Qualitative Disclosures about Market
Risk in Part II, Item 7A, Managements Discussion and Analysis of Financial
Condition and Results of Operations, of our Annual Report on Form 10-K/A for
the fiscal year then ended. For the six months ended June 30, 2004, there has
been no material change in related market risk factors. 
 ITEM 4: CONTROLS AND PROCEDURES As of the end of the period covered by this report, an evaluation was carried
out by our management, with the participation of our Chief Executive Officer
and Chief Financial Officer, of the effectiveness of our disclosure controls
and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act
of 1934). Based upon that evaluation, our Chief Executive Officer and Chief
Financial Officer concluded that these disclosure controls and procedures were
effective. There were no changes in internal control over financial reporting (as defined
in Rule 13a-15(f) under the Securities Exchange Act of 1934) that occurred
during our most recent fiscal quarter that have materially affected, or are
reasonably likely to materially affect, internal control over financial
reporting. Page 28




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
FORM 10-Q
For the Quarter Ended June 30, 2004 
 PART II: OTHER INFORMATION 
 ITEM 1. LEGAL PROCEEDINGS We are involved in the following legal proceedings. IPO Allocation Securities Litigation In July and August 2001, we, as well as some of our current and former officers
and the investment banks that underwrote our initial public offering, were
named as defendants in two purported class action lawsuits. These lawsuits,
Seth Abrams v. Perot Systems Corp. et al. and Adrian Chin v. Perot Systems,
Inc. et al., were filed in the United States District Court for the Southern
District of New York. The suits allege violations of Rule 10b-5, promulgated
under the Securities Exchange Act of 1934, and Sections 11, 12(a)(2) and 15 of
the Securities Act of 1933. Approximately 300 issuers and 40 investment banks
have been sued in similar cases. The suits against the issuers and
underwriters have been consolidated for pretrial purposes in the IPO Allocation
Securities Litigation. The lawsuit involving us focuses on alleged improper
practices by the investment banks in connection with our initial public
offering in February 1999. The plaintiffs allege that the investment banks, in
exchange for allocating public offering shares to their customers, received
undisclosed commissions from their customers on the purchase of securities and
required their customers to purchase additional shares in aftermarket trading.
The lawsuit also alleges that we should have disclosed in our public offering
prospectus the alleged practices of the investment banks, whether or not we
were aware that the practices were occurring. The plaintiffs are seeking
unspecified damages, statutory compensation and costs and expenses of the
litigation. During 2002, the current and former officers and directors of Perot Systems
Corporation that were individually named in the lawsuits referred to above were
dismissed from the cases. In exchange for the dismissal, the individual
defendants entered agreements with the plaintiffs that toll the running of the
statute of limitations and permit the plaintiffs to refile claims against them
in the future. In February 2003, in response to the defendants motion to
dismiss, the court dismissed the plaintiffs Rule 10b-5 claims against us, but
did not dismiss the remaining claims. We have accepted a settlement proposal presented to all issuer defendants.
Pursuant to the proposed settlement, plaintiffs would dismiss and release all
claims against us and our current and former officers and directors, in
exchange for an assurance by the insurance companies collectively responsible
for insuring the issuers in all of the IPO cases that the plaintiffs will
achieve a minimum recovery (including amounts recovered from the underwriters),
and for the assignment or surrender of certain claims we may have against the
underwriters. We would not be required to make any cash payment with respect
to the settlement. The proposed settlement would also require court
approval, which cannot be assured. The underwriters are opposing approval of
the proposed settlement and have requested that, in the alternative, they
receive a corresponding reduction in any judgment amounts that they may be
ordered to pay if they are found liable in the actions. Litigation Relating to the California Energy Market In June 2002, we were named as a defendant in a purported class action lawsuit
that alleges that we conspired with energy traders to manipulate the California
energy market. This lawsuit, Art Madrid v. Perot Systems Corporation et al.,
was filed in the Superior Court of California, County of San Diego. The case
is currently pending in the Superior Court for the County of Sacramento. The
plaintiffs are seeking unspecified damages, treble damages, restitution,
punitive damages, interest, costs, attorneys fees and declaratory relief. In
September 2003, we filed a demurrer to the complaint and an alternative motion
to strike all claims for monetary relief. In January 2004, the court granted our
demurrer and did not grant the plaintiffs leave to amend their complaint. The
plaintiffs, however, have filed a notice of appeal. Page 29




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
FORM 10-Q
For the Quarter Ended June 30, 2004 In June, July and August 2002, Perot Systems, Ross Perot and Ross Perot, Jr.,
were named as defendants in eight purported class action lawsuits that allege
violations of Rule 10b-5, and, in some of the cases, common law fraud. These
suits allege that our filings with the Securities and Exchange Commission
contained material misstatements or omissions of material facts with respect to
our activities related to the California energy market. All of these eight
cases have been consolidated in the Northern District of Texas, Dallas Division
in the case of Vincent Milano v. Perot Systems Corporation. The plaintiffs in
this case filed a consolidated amended complaint in July 2003. The plaintiffs
are seeking unspecified monetary damages, interest, attorneys fees and costs.
In October 2003, we moved to dismiss the amended complaint with prejudice. The
plaintiffs have filed an opposition to our motion. In 1997 and 1998, pursuant to a consulting contract with the California
Independent Systems Operator, we assisted in implementing the operating systems
for Californias newly deregulated wholesale electricity markets. The
consolidated amended complaint in these federal court securities class actions
alleges that the statements in our public filings and statements were
fraudulently misleading, because we did not disclose to investors that (1) we
allegedly advocated improper bidding practices to our customers in the
California wholesale electricity markets and (2) in October 1997, the
California ISO sent a letter to us accusing us of wrongfully using confidential
information in our 1997-1998 marketing efforts. Other In addition to the matters described above, we have been, and from time to time
are, named as a defendant in various legal proceedings in the normal course of
business, including arbitrations, class actions and other litigation involving
commercial and employment disputes. Certain of these proceedings include
claims for substantial compensatory or punitive damages or claims for
indeterminate amounts of damages. In view of the inherent difficulty of predicting the outcome of such matters,
particularly in cases in which claimants seek substantial or indeterminate
damages, we cannot predict with certainty the eventual loss or range of loss
related to such matters. We are contesting liability and/or the amount of
damages, in each pending matter and believe, based on current knowledge and
after consultation with counsel, that the outcome of these matters will not
have a material adverse effect on our consolidated financial condition,
although the outcome could be material to our operating results for a
particular future period, depending on, among other things, the level of our
income for such period. We have purchased, and expect to continue to purchase, insurance coverage that
we believe is consistent with coverage maintained by others in the industry.
This coverage is expected to limit our financial exposure to claims covered by
these policies in many cases. 
 ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Perot Systems held its annual meeting of shareholders on May 12,
2004. The purpose of the meeting was to elect eight nominees to serve as
directors of Perot Systems. The number of shares voted with respect to each
nominee was as follows: Nominee
    
    For
    
    WithheldRoss Perot
    
    
    88,327,402
    
    
    
    13,771,871Ross Perot, Jr.
    
    
    90,448,437
    
    
    
    11,650,836Steve Blasnik
    
    
    89,180,111
    
    
    
    12,919,162John S.T. Gallagher
    
    
    99,753,446
    
    
    
    2,345,827Carl Hahn
    
    
    99,691,785
    
    
    
    2,407,487DeSoto Jordan
    
    
    85,073,618
    
    
    
    17,025,655Thomas Meurer
    
    
    99,834,907
    
    
    
    2,264,366Cecil H. (C. H.) Moore, Jr.
    
    
    99,597,710
    
    
    
    2,499,562
 Page 30




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
FORM 10-Q
For the Quarter Ended June 30, 2004 All of the nominees were elected to the Board of Directors. At the time of the
shareholders meeting, these directors constituted the entire Board of Directors
of Perot Systems. 
 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K  (a)
    
    Exhibits required by Item 601 of Regulation S-K Exhibit No.
    
    Document31.1*
    
    Rule 13a-14 Certification dated August 3,
2004, by Ross Perot, Jr., President and Chief Executive
Officer.31.2*
    
    Rule 13a-14 Certification dated August 3,
2004, by Russell Freeman, Vice President and Chief Financial
Officer.32.1**
    
    Section 1350 Certification dated August 3, 2004, by Ross
Perot, Jr., President and Chief Executive Officer.32.2**
    
    Section 1350 Certification dated August 3, 2004, by Russell
Freeman, Vice President and Chief Financial Officer.
  (b)
    
    Reports on Form 8-KOn May 4, 2004, we furnished a Current Report on Form 8-K to report a press
release. The matter was reported under Item 12 of Form 8-K. * Filed herewith.
** Furnished herewith. Page 31




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PEROT SYSTEMS CORPORATION AND SUBSIDIARIES
FORM 10-Q
For the Quarter Ended June 30, 2004 
 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 the
undersigned thereunto duly authorized. PEROT SYSTEMS CORPORATION
(Registrant)Date: August 3, 2004
    By  /s/ ROBERT J. KELLYRobert J. KellyCorporate Controller and Principal
Accounting Officer Page 32