ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following is a discussion and analysis of our consolidated financial condition, results of operations and liquidity and capital resources for each of the two years in the period ended December 31, 2020 and significant factors that could affect our prospective financial condition and results of operations. This discussion should be read in conjunction with our consolidated financial statements and notes included in Part II, Item 8, “Financial Statements and Supplementary Data” of this Annual Report. For a similar discussion and analysis of our results for the year ended December 31, 2019 compared with our results for the year ended December 31, 2018, refer to Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of our Annual Report for the year ended December 31, 2019, filed with the United States ("U.S.") Securities and Exchange Commission (“SEC”) on February 25, 2020. Historical results and any discussion of prospective results may not indicate our future performance.
Business Overview
FTI Consulting is a global business advisory firm dedicated to helping organizations manage change, mitigate risk and resolve disputes: financial, legal, operational, political & regulatory, reputational and transactional. Individually, each of our segments and practices is staffed with experts recognized for the depth of their knowledge and a track record of making an impact. Collectively, FTI Consulting offers a comprehensive suite of services designed to assist clients across the business cycle, from proactive risk management to rapid response to unexpected events and dynamic environments.
We report financial results for the following five reportable segments:
Our Corporate Finance & Restructuring (“Corporate Finance”) segment focuses on the strategic, operational, financial, transactional and capital needs of our clients around the world. Our clients include companies, boards of directors, investors, private equity sponsors, banks, lenders, and other financing sources and creditor groups, as well as other parties-in-interest. We deliver a wide range of services centered around three core offerings: business transformation, transactions and turnaround, restructuring and bankruptcy.
Our Forensic and Litigation Consulting (“FLC”) segment provides law firms, companies, government entities and other interested parties with a multidisciplinary and independent range of services in risk and investigations and disputes, including a focus on highly regulated industries such as our construction & environmental solutions and health solutions services. These services are supported by our data & analytics services which help our clients analyze large, disparate sets of data related to their business operations and support our clients during regulatory inquiries and commercial disputes. We deliver a wide range of services centered around five core offerings: construction & environmental solutions, data & analytics, disputes, health solutions and risk and investigations.
Our Economic Consulting segment, including subsidiary Compass Lexecon LLC, provides law firms, companies, government entities and other interested parties with analyses of complex economic issues for use in international arbitration, legal and regulatory proceedings, and strategic decision making and public policy debates around the world. We deliver a wide range of services centered around three core offerings: antitrust & competition economics, financial economics and international arbitration.
Our Technology segment provides companies, law firms and government entities with a comprehensive global portfolio of e-discovery, information governance, privacy and security and corporate legal operations solutions. We deliver a full spectrum of services including data collection, data processing, document review, hosting, advanced analytics and consulting.
Our Strategic Communications segment develops and executes communications strategies to help management teams, boards of directors, law firms, governments and regulators manage change and mitigate risk surrounding transformational and disruptive events, including transactions, investigations, disputes, crises, regulation and legislation. We deliver a wide range of services centered around three core offerings: corporate reputation, financial communications and public affairs.
We derive substantially all of our revenues from providing professional services to both U.S. and global clients. Most of our services are rendered under time and expense arrangements that obligate the client to pay us a fee for the hours that we incur at agreed-upon rates. Under this arrangement, we typically bill our clients for reimbursable expenses, which may include the cost of producing our work product and other direct expenses that we incur on behalf of the client, such as travel costs. We also render services for which certain clients may be required to pay us a fixed-fee or recurring retainer. These arrangements are generally cancelable at any time. Some of our engagements contain performance-based arrangements in which we earn a contingent or success fee when and if certain predefined outcomes occur. This type of success fee may supplement a time and expense or fixed-fee arrangement. Success fee revenues may cause variations in our revenues and operating results due to the
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timing of when achieving the performance-based criteria becomes probable. Seasonal factors, such as the timing of our employees’ and clients’ vacations and holidays, may impact the timing of our revenues across our segments.
In our Technology segment, certain clients are billed based on the amount of data storage used or the volume of information processed. Unit-based revenues are defined as revenues billed on a per item, per page or some other unit-based method and include revenues from data processing and hosting. Unit-based revenues include revenues associated with the software products that are made available to customers via a web browser (“on-demand”). On-demand revenues are charged on a unit or monthly basis and include, but are not limited to, processing and review related functions.
Our financial results are primarily driven by:
•the number, size and type of engagements we secure;
•the rate per hour or fixed charges we charge our clients for services;
•the utilization rates of the revenue-generating professionals we employ;
•the timing of revenue recognition related to revenues subject to certain performance-based contingencies;
•the number of revenue-generating professionals;
•the types of assignments we are working on at different times;
•the length of the billing and collection cycles; and
•the geographic locations of our clients or locations in which services are rendered.
We define acquisition growth as revenues of acquired companies in the first 12 months following the effective date of an acquisition. Our definition of organic growth is the change in revenues, excluding the impact of all such acquisitions.
When significant, we identify the estimated impact of foreign currency (“FX”) driven by our businesses with functional currencies other than the U.S. dollar (“USD”). The estimated impact of FX on the period-to-period performance results is calculated as the difference between the prior period results multiplied by the average FX exchange rates to USD in the current period and the prior period results, multiplied by the average FX exchange rates to USD in the prior period.
Non-GAAP Financial Measures
In the accompanying analysis of financial information, we sometimes use information derived from consolidated and segment financial information that may not be presented in our financial statements or prepared in accordance with generally accepted accounting principles in the U.S. ("GAAP"). Certain of these financial measures are considered not in conformity with GAAP ("non-GAAP financial measures”) under the SEC rules. Specifically, we have referred to the following non-GAAP financial measures:
•Total Segment Operating Income
•Adjusted EBITDA
•Total Adjusted Segment EBITDA
•Adjusted EBITDA Margin
•Adjusted Net Income
•Adjusted Earnings per Diluted Share
•Free Cash Flow
We have included the definitions of Segment Operating Income and Adjusted Segment EBITDA, which are GAAP financial measures, below in order to more fully define the components of certain non-GAAP financial measures in the accompanying analysis of financial information. As described in Note 20, “Segment Reporting” in Part II, Item 8, “Financial Statements and Supplementary Data” of this Annual Report, we evaluate the performance of our operating segments based on Adjusted Segment EBITDA, and Segment Operating Income is a component of the definition of Adjusted Segment EBITDA.
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We define Segment Operating Income as a segment’s share of consolidated operating income. We define Total Segment Operating Income, which is a non-GAAP financial measure, as the total of Segment Operating Income for all segments, which excludes unallocated corporate expenses. We use Segment Operating Income for the purpose of calculating Adjusted Segment EBITDA. We define Adjusted Segment EBITDA as a segment’s share of consolidated operating income before depreciation, amortization of intangible assets, remeasurement of acquisition-related contingent consideration, special charges and goodwill impairment charges. We use Adjusted Segment EBITDA as a basis to internally evaluate the financial performance of our segments because we believe it reflects current core operating performance and provides an indicator of the segment’s ability to generate cash. We define Adjusted EBITDA Margin, which is a non-GAAP financial measure, as Adjusted EBITDA as a percentage of total revenues.
We define Total Adjusted Segment EBITDA, which is a non-GAAP financial measure, as the total of Adjusted Segment EBITDA for all segments, which excludes unallocated corporate expenses. We define Adjusted EBITDA, which is a non-GAAP financial measure, as consolidated net income before income tax provision, other non-operating income (expense), depreciation, amortization of intangible assets, remeasurement of acquisition-related contingent consideration, special charges, goodwill impairment charges, gain or loss on sale of a business and losses on early extinguishment of debt. We believe that these non-GAAP financial measures, when considered together with our GAAP financial results and GAAP financial measures, provide management and investors with a more complete understanding of our operating results, including underlying trends. In addition, EBITDA is a common alternative measure of operating performance used by many of our competitors. It is used by investors, financial analysts, rating agencies and others to value and compare the financial performance of companies in our industry. Therefore, we also believe that these non-GAAP financial measures, considered along with corresponding GAAP financial measures, provide management and investors with additional information for comparison of our operating results with the operating results of other companies.
We define Adjusted Net Income and Adjusted Earnings per Diluted Share (“Adjusted EPS”), which are non-GAAP financial measures, as net income and earnings per diluted share ("EPS"), respectively, excluding the impact of remeasurement of acquisition-related contingent consideration, special charges, goodwill impairment charges, losses on early extinguishment of debt, non-cash interest expense on convertible notes and the gain or loss on sale of a business. We use Adjusted Net Income for the purpose of calculating Adjusted EPS. Management uses Adjusted EPS to assess total Company operating performance on a consistent basis. We believe that these non-GAAP financial measures, when considered together with our GAAP financial results and GAAP financial measures, provide management and investors with an additional understanding of our business operating results, including underlying trends.
We define Free Cash Flow, which is a non-GAAP financial measure, as net cash provided by operating activities less cash payments for purchases of property and equipment. We believe this non-GAAP financial measure, when considered together with our GAAP financial results, provides management and investors with an additional understanding of the Company’s ability to generate cash for ongoing business operations and other capital deployment.
Non-GAAP financial measures are not defined in the same manner by all companies and may not be comparable with other similarly titled measures of other companies. Non-GAAP financial measures should be considered in addition to, but not as a substitute for or superior to, the information contained in our Consolidated Statements of Comprehensive Income and Consolidated Statements of Cash Flows. Reconciliations of these non-GAAP financial measures to the most directly comparable GAAP financial measures are included elsewhere in this report.
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Full Year 2020 Executive Highlights
Financial Highlights
Year Ended December 31,
(dollar amounts in thousands, except per share amounts)
Earnings per common share — diluted $ 5.67 $ 5.69 -0.4 %
Adjusted earnings per common share — diluted $ 5.99 $ 5.80 3.3 %
(1)Excluded from non-GAAP financial measures.
Revenues
Revenues for the year ended December 31, 2020 increased $108.6 million, or 4.6%, as compared with the year ended December 31, 2019. Acquisition-related revenues contributed $40.7 million, or 1.7%, compared with 2019. Excluding the acquisition-related revenues, revenues increased $67.8 million, or 2.9%, primarily due to increased demand for our Corporate Finance segment, which was partially offset by lower demand for our FLC segment, as well as a $38.5 million decrease in pass-through revenues, primarily resulting from a Coronavirus Disease 2019 ("COVID-19") pandemic related decline in billable travel and entertainment expenses, compared with 2019.
Special Charges
During the year ended December 31, 2020, we recorded a special charge of $7.1 million, which consists of the following components:
•$4.7 million of lease abandonment and other relocation costs associated with the consolidation of office space in New York, New York. The lease abandonment costs include non-cash charges of $4.4 million related to accelerated amortization on operating lease assets and accelerated depreciation on lease-related property and equipment; and
•$2.4 million of employee severance and other employee-related costs associated with performance-related actions in our FLC segment that impacted 16 employees. All of these amounts will be paid in cash within the next 12 months.
There were no special charges recorded during the year ended December 31, 2019.
The following table details the special charges by segment:
(in thousands)
Corporate Finance $ 861
Economic Consulting 35
Strategic Communications 2,074
Segment special charge 6,730
Unallocated Corporate 373
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Net income
Net income for the year ended December 31, 2020 decreased $6.0 million, or 2.8%, as compared with the year ended December 31, 2019. The decrease in net income was due to higher compensation expenses, primarily related to a 14.5% increase in billable headcount and higher variable compensation, as well as a special charge of $7.1 million, which were partially offset by an increase in revenues, a decline in selling, general and administrative ("SG&A") expenses and a lower effective tax rate, primarily due to a combined $11.2 million tax benefit from the use of foreign tax credits and the deferred tax benefit of an intellectual property license agreement between subsidiaries.
Adjusted EBITDA
Adjusted EBITDA for the year ended December 31, 2020 decreased $11.6 million, or 3.4%, as compared with the year ended December 31, 2019. Adjusted EBITDA was 13.5% of revenues for the year ended December 31, 2020 compared with 14.6% of revenues for the year ended December 31, 2019. The decrease in Adjusted EBITDA, which excludes the special charge, was due to higher compensation expenses, primarily related to a 14.5% increase in billable headcount and higher variable compensation, which were partially offset by an increase in revenues and a decline in SG&A expenses.
EPS and Adjusted EPS
EPS for the year ended December 31, 2020 decreased $0.02 to $5.67 compared with $5.69 for the year ended December 31, 2019. 2020 EPS included a $7.1 million special charge, which reduced EPS by $0.14. The decrease in EPS was primarily due to the lower operating results described above, which were partially offset by a lower effective tax rate and a decline in diluted weighted average shares outstanding.
Adjusted EPS for the year ended December 31, 2020 increased $0.19 to $5.99 compared with $5.80 for the year ended December 31, 2019. Adjusted EPS for the year ended December 31, 2020 excludes the $7.1 million special charge and $9.1 million of non-cash interest expense related to the 2.0% convertible senior notes due 2023 (the "2023 Convertible Notes"), which increased Adjusted EPS by $0.14 and $0.18, respectively. Adjusted EPS for the year ended December 31, 2019 excluded $8.6 million of non-cash interest expense related to the 2023 Convertible Notes, which increased Adjusted EPS by $0.17 and a discrete tax adjustment resulting from a change in estimate related to the accounting for the Ringtail e-discovery software and related business divestiture (collectively, "Ringtail Divestiture"), which decreased Adjusted EPS by $0.06.
Liquidity and Capital Allocation
Net cash provided by operating activities for the year ended December 31, 2020 increased $109.2 million to $327.1 million compared with $217.9 million for the year ended December 31, 2019. The increase in net cash provided by operating activities was primarily due to higher cash collections, combined with lower non-compensation-related operating costs, which were partially offset by higher compensation, primarily related to headcount growth, and an increase in income tax payments. Days sales outstanding (“DSO”) was 95 days as of December 31, 2020 compared with 97 days as of December 31, 2019.
A portion of net cash provided by operating activities was used to repurchase and retire approximately 3.3 million shares of our common stock under our Repurchase Program for an average price per share of $108.11, at a total cost of $353.4 million during the year ended December 31, 2020. We had $213.2 million remaining under the Repurchase Program to repurchase additional shares as of December 31, 2020.
Free Cash Flow was an inflow of $292.2 million and $175.8 million for the years ended December 31, 2020 and 2019, respectively. The increase was primarily due to higher net cash provided by operating activities, as described above.
Other Strategic Activities
During the year ended December 31, 2020, we acquired certain assets of Delta Partners Group Limited, a leading telecom, media and technology focused strategy consulting and investment banking firm with offices in Dubai, New York, Singapore, Barcelona, Johannesburg, San Francisco and Sydney.
Also, during the year ended December 31, 2020, we entered into a material lease agreement for our new principal office space in New York, New York to consolidate existing office space into fewer locations and in anticipation of future office space needs in view of our current leases, which are scheduled to expire in November 2021.
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COVID-19 Pandemic
The COVID-19 pandemic has created global volatility, economic uncertainty and general market disruption. During the year ended December 31, 2020, the COVID-19 pandemic impacted each of our segments, practices and regions differently. In general, limitations in our ability to service our clients due to social distancing, travel restrictions and remote work negatively impacted our financial results, though we benefited from a decline in travel and entertainment expenses. In addition, we experienced a reduction in demand, and in some cases delays, in our ability to provide certain services due to regulatory moratoriums and postponements of legal proceedings and investigations. These events arising from the COVID-19 pandemic negatively impacted our segment results to a varied extent during the year ended December 31, 2020, but they particularly negatively impacted our FLC segment. While restructuring and bankruptcy services provided by our Corporate Finance segment experienced increased demand as compared with the year ended December 31, 2019 as a result of the adverse economic impact of the COVID-19 pandemic, during the second half of 2020 we experienced a decline in activity as compared with the first half of 2020 primarily resulting from government-backed stimulus packages and the availability of other financing sources. The extent to which the COVID-19 pandemic will continue to impact our business is difficult to predict.
Headcount
Our total headcount increased 13.5% from 5,567 as of December 31, 2019 to 6,321 as of December 31, 2020. The following table includes the net billable headcount additions (reductions) for the year ended December 31, 2020:
(1)There were 66 revenue-generating professionals in Europe, Middle East and Africa (“EMEA”) who moved from FLC to Corporate Finance during the year ended December 31, 2020.
(2)There were 151 revenue-generating professionals added during the year ended December 31, 2020 related to the acquisition of a strategy consulting and investment banking business within the Corporate Finance segment.
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RESULTS OF OPERATIONS
Segment and Consolidated Operating Results:
Year Ended December 31,
(in thousands, except per share data)
Revenues
Segment operating income
Other income (expense)
Interest income and other (412) 2,061
Earnings per common share — basic $ 5.92 $ 5.89
Earnings per common share — diluted $ 5.67 $ 5.69
Reconciliation of Net Income to Adjusted EBITDA:
Year Ended December 31,
(in thousands)
Add back:
Interest income and other 412 (2,061)
Amortization of intangible assets 10,387 8,152
Special charges 7,103 —
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Reconciliation of Net Income and EPS to Adjusted Net Income and Adjusted EPS:
Year Ended December 31,
(in thousands, except per share data)
Add back:
Special charges 7,103 —
Tax impact of special charges (1,847) —
Non-cash interest expense on convertible notes 9,083 8,606
Tax impact of non-cash interest expense on convertible notes (2,361) (2,237)
Tax impact of gain on sale of business (1) — (2,097)
Earnings per common share — diluted $ 5.67 $ 5.69
Add back:
Special charges 0.19 —
Tax impact of special charges (0.05) —
Non-cash interest expense on convertible notes 0.24 0.23
Tax impact of non-cash interest expense on convertible notes (0.06) (0.06)
Tax impact of gain on sale of business (1) — (0.06)
Adjusted earnings per common share — diluted $ 5.99 $ 5.80
Weighted average number of common shares outstanding — diluted 37,149 38,111
(1)In 2019, represents a discrete tax adjustment resulting from a change in estimate related to the accounting for the Ringtail Divestiture in 2018.
Reconciliation of Net Cash Provided by Operating Activities to Free Cash Flow:
Year Ended December 31,
(in thousands)
Net cash provided by operating activities $ 327,069 $ 217,886
Purchases of property and equipment (34,866) (42,072)
Year Ended December 31, 2020 Compared with December 31, 2019
Revenues and operating income
See “Segment Results” for an expanded discussion of revenues, gross profit and SG&A expenses.
Unallocated corporate expenses
Unallocated corporate expenses decreased $3.9 million, or 4.0%, to $94.5 million in 2020 from $98.4 million in 2019. The decrease was primarily due to lower travel and entertainment expenses due to restrictions imposed by governments to reduce the spread of COVID-19, and lower variable compensation for our executive and regional leadership.
Interest income and other
Interest income and other, which includes FX gains and losses, decreased $2.5 million to a $0.4 million loss for the year ended December 31, 2020, compared with $2.1 million of income for the year ended December 31, 2019. The decrease was primarily due to $1.0 million in lower interest income and a $1.0 million increase in net FX losses.
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FX gains and losses, both realized and unrealized, relate to the remeasurement or settlement of monetary assets and liabilities that are denominated in a currency other than an entity’s functional currency. These monetary assets and liabilities include cash, as well as third-party and intercompany receivables and payables.
Interest expense
Interest expense increased $0.6 million, or 3.1%, to $19.8 million in 2020 from $19.2 million in 2019.
Income tax provision
Our income tax provision decreased $20.0 million, or 27.8%, to $51.8 million in 2020 from $71.7 million in 2019. Our effective tax rate was 19.7% for 2020 as compared with 24.9% for 2019. The lower effective tax rate in 2020 was primarily due to a combined $11.2 million tax benefit from the use of foreign tax credits and the deferred tax benefit of an intellectual property license agreement between subsidiaries, as well as a favorable discrete tax adjustment related to share-based compensation.
SEGMENT RESULTS
Total Adjusted Segment EBITDA
We evaluate the performance of each of our operating segments based on Adjusted Segment EBITDA, which is a GAAP financial measure. The following table reconciles net income to Total Adjusted Segment EBITDA, a non-GAAP financial measure, for the years ended December 31, 2020 and 2019:
Year Ended December 31,
(in thousands)
Add back:
Interest income and other 412 (2,061)
Add back:
Amortization of intangible assets 10,387 8,152
Segment special charges 6,730 —
(1)Includes a $0.4 million special charge.
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Other Segment Operating Data
Year Ended December 31,
Number of revenue-generating professionals (at period end):
Strategic Communications 770 728
Total revenue-generating professionals 5,067 4,424
Utilization rates of billable professionals: (2)
Corporate Finance 63 % 67 %
Economic Consulting 68 % 75 %
Average billable rate per hour: (3)
Economic Consulting $ 494 $ 500
(1)The number of revenue-generating professionals for the Technology segment excludes as-needed professionals, who we employ based on demand for the segment’s services. We employed an average of 331 and 285 as-needed employees during the years ended December 31, 2020 and 2019, respectively.
(2)We calculate the utilization rate for our billable professionals by dividing the number of hours that all of our billable professionals worked on client assignments during a period by the total available working hours for all of our billable professionals during the same period. Available hours are determined by the standard hours worked by each employee, adjusted for part-time hours, U.S. standard work weeks and local country holidays. Available working hours include vacation and professional training days, but exclude holidays. Utilization rates are presented for our segments that primarily bill clients on an hourly basis. We have not presented utilization rates for our Technology and Strategic Communications segments as most of the revenues of these segments are not generated on an hourly basis.
(3)For engagements where revenues are based on number of hours worked by our billable professionals, average billable rate per hour is calculated by dividing revenues (excluding revenues from success fees, pass-through revenues and outside consultants) for a period by the number of hours worked on client assignments during the same period. We have not presented average billable rates per hour for our Technology and Strategic Communications segments as most of the revenues of these segments are not based on billable hours.
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CORPORATE FINANCE & RESTRUCTURING
Year Ended December 31,
(dollars in thousands, except rate per hour)
Percentage change in revenues from prior year 25.8 %
Operating expenses
Special charges 861 —
Amortization of intangible assets 6,455 3,929
Percentage change in segment operating income from prior year 34.1 %
Add back:
Depreciation and amortization of intangible assets 10,940 7,787
Special charges 861 —
Percentage change in gross profit from prior year 22.9 %
Gross profit margin (2) 36.4 % 37.2 %
Adjusted Segment EBITDA as a percent of revenues 23.8 % 22.2 %
Number of revenue-generating professionals (at period end) 1,655 1,194
Utilization rate of billable professionals 63 % 67 %
Average billable rate per hour $ 468 $ 452
(1)Revenues less direct cost of revenues
(2)Gross profit as a percentage of revenues
Year Ended December 31, 2020 Compared with December 31, 2019
Revenues increased $186.5 million, or 25.8%, from 2019 to 2020. Acquisition-related revenues contributed $40.7 million, or 5.6%, compared with 2019. Excluding the acquisition-related revenues, revenues increased $145.7 million, or 20.1%, primarily due to higher demand for our restructuring services, largely in North America and EMEA.
Gross profit increased $61.8 million, or 22.9%, from 2019 to 2020. Gross profit margin decreased 0.8 percentage points from 2019 to 2020. The decrease in gross profit margin was primarily due to increased compensation related to higher headcount and an increase in variable compensation as a percentage of revenues, combined with a 4 percentage point decline in utilization.
SG&A expenses increased $6.3 million, or 5.6%, from 2019 to 2020. SG&A expenses of 13.1% of revenues in 2020 compared with 15.6% in 2019. The increase in SG&A expenses was primarily due to acquisition-related expenses and higher infrastructure support costs, largely related to an increase in headcount, which was partially offset by a decrease in travel and entertainment and bad debt expenses.
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FORENSIC AND LITIGATION CONSULTING
Year Ended December 31,
(dollars in thousands, except rate per hour)
Percentage change in revenues from prior year -13.4 %
Operating expenses
Selling, general and administrative expenses 94,562 109,992
Special charges 3,484 —
Amortization of intangible assets 800 1,152
Percentage change in segment operating income from prior year -75.8 %
Add back:
Depreciation and amortization of intangible assets 5,991 5,787
Special charges 3,484 —
Percentage change in gross profit from prior year -41.5 %
Gross profit margin (2) 24.5 % 36.3 %
Adjusted Segment EBITDA as a percent of revenues 6.7 % 18.1 %
Number of revenue-generating professionals (at period end) 1,343 1,351
Utilization rate of billable professionals 51 % 63 %
Average billable rate per hour $ 335 $ 337
(1)Revenues less direct cost of revenues
(2)Gross profit as a percentage of revenues
Year Ended December 31, 2020 Compared with December 31, 2019
Revenues decreased $77.5 million, or 13.4%, from 2019 to 2020. The decrease was primarily due to lower demand for all of our services, particularly for our disputes, investigations and health solutions services.
Gross profit decreased $87.0 million, or 41.5%, from 2019 to 2020. Gross profit margin decreased 11.8 percentage points from 2019 to 2020. The decrease in gross profit margin was largely related to a 12 percentage point decline in utilization.
SG&A expenses decreased $15.4 million, or 14.0%, from 2019 to 2020. SG&A expenses of 18.9% of revenues in 2020 compared with 19.0% in 2019. The decrease in SG&A expenses was primarily driven by lower travel and entertainment, bad debt, hiring and other general and administrative expenses.
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ECONOMIC CONSULTING
Year Ended December 31,
(dollars in thousands, except rate per hour)
Percentage change in revenues from prior year 1.1 %
Operating expenses
Selling, general and administrative expenses 78,714 76,302
Special charges 35 —
Amortization of intangible assets 325 177
Percentage change in segment operating income from prior year 9.6 %
Add back:
Depreciation and amortization of intangible assets 5,707 5,911
Special charges 35 —
Percentage change in gross profit from prior year 6.5 %
Gross profit margin (2) 27.5 % 26.1 %
Adjusted Segment EBITDA as a percent of revenues 15.3 % 14.2 %
Number of revenue-generating professionals (at period end) 891 790
Utilization rate of billable professionals 68 % 75 %
Average billable rate per hour $ 494 $ 500
(1)Revenues less direct cost of revenues
(2)Gross profit as a percentage of revenues
Year Ended December 31, 2020 Compared with December 31, 2019
Revenues increased $6.5 million, or 1.1%, from 2019 to 2020. The increase was primarily due to higher demand for our mergers and acquisitions ("M&A") related antitrust services, which was partially offset by lower demand for our financial economics services, along with lower realized bill rates due to the mix of client engagements and staffing for our non-M&A-related antitrust services.
Gross profit increased $10.1 million, or 6.5%, from 2019 to 2020. Gross profit margin increased 1.4 percentage points from 2019 to 2020. The increase in gross profit margin was primarily due to a higher proportion of junior professional staff, lower variable compensation as a percentage of revenues and a favorable mix of lower margin contractor revenues, which was partially offset by a 7 percentage point decline in utilization.
SG&A expenses increased $2.4 million, or 3.2%, from 2019 to 2020. SG&A expenses of 13.1% of revenues in 2020 compared with 12.9% in 2019. The increase in SG&A expenses was primarily driven by higher bad debt, which was partially offset by lower travel and entertainment expenses.
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TECHNOLOGY
Year Ended December 31,
(dollars in thousands)
Percentage change in revenues from prior year 3.4 %
Operating expenses
Selling, general and administrative expenses 57,303 57,058
Special charges 276 —
Percentage change in segment operating income from prior year -11.9 %
Add back:
Depreciation and amortization of intangible assets 11,868 10,666
Special charges 276 —
Percentage change in gross profit from prior year -3.9 %
Gross profit margin (2) 39.7 % 42.7 %
Adjusted Segment EBITDA as a percent of revenues 19.3 % 21.2 %
Number of revenue-generating professionals (at period end) (3) 408 361
(1)Revenues less direct cost of revenues
(2)Gross profit as a percentage of revenues
(3)Includes personnel involved in direct client assistance and revenue-generating consultants and excludes professionals employed on an as-needed basis
Year Ended December 31, 2020 Compared with December 31, 2019
Revenues increased $7.4 million, or 3.4%, from 2019 to 2020. The increase was primarily driven by higher demand and realized bill rates for our consulting services, largely due to M&A-related "second request" and litigation activities, which was partially offset by lower revenues related to the completion of a transitional services agreement, as well as lower realized rates for our managed review services.
Gross profit decreased $3.6 million, or 3.9%, from 2019 to 2020. Gross profit margin decreased 3.0 percentage points from 2019 to 2020. The decrease in gross profit margin was largely due to the completion of a transitional services agreement combined with lower profitability for our managed review and processing services, which was partially offset by higher profitability for our consulting services.
SG&A expenses increased $0.2 million, or 0.4%, from 2019 to 2020. SG&A expenses of 25.7% of revenues in 2020 compared with 26.5% in 2019.
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STRATEGIC COMMUNICATIONS
Year Ended December 31,
(dollars in thousands)
Percentage change in revenues from prior year -5.9 %
Operating expenses
Selling, general and administrative expenses 44,779 49,703
Special charges 2,074 —
Amortization of intangible assets 2,806 2,894
Percentage change in segment operating income from prior year -19.2 %
Add back:
Depreciation and amortization of intangible assets 5,262 5,370
Special charges 2,074 —
Percentage change in gross profit from prior year -11.4 %
Gross profit margin (2) 35.5 % 37.8 %
Adjusted Segment EBITDA as a percent of revenues 17.0 % 18.3 %
Number of revenue-generating professionals (at period end) 770 728
(1)Revenues less direct cost of revenues
(2)Gross profit as a percentage of revenues
Year Ended December 31, 2020 Compared with December 31, 2019
Revenues decreased $14.4 million, or 5.9%, from 2019 to 2020. The decrease in revenues was due to an $8.6 million decline in pass-through revenues, and a reduction in retainer- and project-based revenues, primarily driven by lower demand for our corporate reputation services.
Gross profit decreased $10.5 million, or 11.4%, from 2019 to 2020. Gross profit margin decreased 2.3 percentage points from 2019 to 2020. The decrease in gross profit margin was primarily driven by higher costs due to increased headcount, which was partially offset by an increase in lower margin pass-through revenues and a decrease in variable compensation as a percentage of revenues.
SG&A expenses decreased $4.9 million, or 9.9%, from 2019 to 2020. SG&A expenses of 19.6% of revenues in 2020 compared with 20.4% in 2019. The decrease in SG&A expenses was primarily due to lower travel and entertainment expenses.
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LIQUIDITY AND CAPITAL RESOURCES
Cash Flows
Year Ended December 31,
Cash Flows (dollars in thousands)
Net cash provided by operating activities $ 327,069 $ 217,886
Net cash used in investing activities $ (60,120) $ (60,606)
Net cash used in financing activities $ (360,053) $ (103,311)
We generally finance our day-to-day operations, capital expenditures, acquisitions and share repurchases through cash flows from operations. During the first quarter of our fiscal year, our cash needs generally exceed our cash flows from operations due to the payment of annual incentive compensation. Our operating cash flows generally exceed our cash needs subsequent to the second quarter of each year.
Our operating assets and liabilities consist primarily of billed and unbilled accounts receivable, notes receivable from employees, accounts payable, accrued expenses and accrued compensation expenses. The timing of billings and collections of receivables, as well as compensation and vendor payments, affect the changes in these balances.
DSO is a performance measure used to assess how quickly revenues are collected by the Company. We calculate DSO at the end of each reporting period by dividing net accounts receivable reduced by billings in excess of services provided, by revenues for the quarter, adjusted for changes in foreign exchange rates. We multiply the result by the number of days in the quarter.
Year Ended December 31, 2020 Compared with December 31, 2019
Net cash provided by operating activities increased $109.2 million, or 50.1%, from 2019 to 2020. The increase in net cash provided by operating activities was primarily due to higher cash collections, combined with lower non-compensation-related operating costs, which were partially offset by higher compensation, primarily related to headcount growth, and an increase in income tax payments. DSO was 95 days as ofDecember 31, 2020 and 97 days as of December 31, 2019.
Net cash used in investing activities decreased $0.5 million, or 0.8%, from 2019 to 2020. The decrease in net cash used in investing activities was primarily due to a decrease of $7.0 million in capital expenditures, partially offset by an increase of $6.5 million in payments for the acquisition of businesses, net of cash received.
Net cash used in financing activities increased $256.7 million, or 248.5%, from 2019 to 2020. The increase in net cash used in financing activities was primarily due to an increase of $247.8 million in payments for common stock repurchases under the Repurchase Program.
Capital Resources
As of December 31, 2020, our capital resources included $295.0 million of cash and cash equivalents and available borrowing capacity of $548.9 million under the $550.0 million revolving line of credit under our senior secured bank revolving credit facility (the "Credit Facility"). As of December 31, 2020, we had no outstanding borrowings under our Credit Facility and $1.1 million of outstanding letters of credit, which reduced the availability of borrowings under the Credit Facility. We use letters of credit primarily in lieu of security deposits for our leased office facilities. The $550.0 million revolving line of credit under the Credit Facility includes a $75.0 million sublimit for borrowings in currencies other than USD, including the euro, British pound, Australian dollar and Canadian dollar.
The availability of borrowings, as well as issuances and extensions of letters of credit, under our Credit Facility is subject to specified conditions. We may choose to repay outstanding borrowings under the Credit Facility at any time before maturity without premium or penalty. Borrowings under the Credit Facility in USD, euro and British pound bear interest at an annual rate equal to the London Interbank Offered Rate ("LIBOR"), plus an applicable margin or an alternative base rate plus an applicable margin. The alternative base rate means a fluctuating rate per annum equal to the highest of (1) the rate of interest in effect for such day as the prime rate announced by Bank of America, (2) the federal funds rate plus the sum of 50 basis points, and (3) the one-month LIBOR plus 100 basis points. Borrowings under the Credit Facility in Canadian dollars bear interest at an annual rate equal to the Canadian Dealer Offered Rate plus an applicable margin. Borrowings under the Credit Facility in Australian dollars bear interest at an annual rate equal to the Bank Bill Swap Reference Bid Rate plus an applicable margin. The
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Credit Facility is guaranteed by substantially all of our domestic subsidiaries and is secured by a first priority security interest in substantially all of the assets of FTI Consulting and such domestic subsidiaries. Subject to certain conditions, at any time prior to maturity, we will be able to invite existing and new lenders to increase the size of the facility up to a maximum of $700.0 million.
Our Credit Agreement and other indebtedness outstanding from time to time contains or may contain covenants that, among other things, may limit our ability to: incur additional indebtedness; create liens; pay dividends on our capital stock, make distributions or repurchases of our capital stock or make specified other restricted payments; consolidate, merge or sell all or substantially all of our assets; guarantee obligations of other entities or our foreign subsidiaries; enter into hedging agreements; enter into transactions with affiliates or related persons; or engage in any business other than consulting-related businesses. In addition, the Credit Agreement includes a financial covenant that requires us not to exceed a maximum consolidated total net leverage ratio (the ratio of funded debt (less unrestricted cash up to $150.0 million) to Consolidated EBITDA, as defined in the Credit Agreement). As of December 31, 2020, we were in compliance with the covenants contained in the Credit Agreement and the indenture, dated as of August 20, 2018, between us and U.S. Bank National Association, as trustee (the "Indenture"), governing the 2023 Convertible Notes.
Future Capital Needs
We anticipate that our future capital needs will principally consist of funds required for:
•operating and general corporate expenses relating to the operation of our businesses;
•capital expenditures, primarily for information technology equipment, office furniture and leasehold improvements;
•debt service requirements, including interest payments on our long-term debt;
•compensation to designated executive management and senior managing directors under our various long-term incentive compensation programs;
•discretionary funding of the Repurchase Program;
•contingent obligations related to our acquisitions;
•potential acquisitions of businesses; and
•other known future contractual obligations.
During 2020, we spent $34.9 million in capital expenditures to support our organization, including direct support for specific client engagements. During 2021, we currently expect to make capital expenditures to support our organization in an aggregate amount between $70 million and $80 million, which includes costs related to leasehold improvements for our new principal office space in New York, New York. Our estimate takes into consideration the needs of our existing businesses but does not include the impact of any purchases that we may be required to make as a result of future acquisitions or specific client engagements that are not completed or not currently contemplated. Our capital expenditure requirements may change if our staffing levels or technology needs change significantly from what we currently anticipate, if we are required to purchase additional equipment specifically to support new client engagements or if we pursue and complete additional acquisitions.
2023 Convertible Notes
Our 2023 Convertible Notes were issued pursuant to the Indenture. The 2023 Convertible Notes bear interest at a fixed rate of 2.0% per year, payable semiannually in arrears on February 15 and August 15 of each year, beginning on February 15, 2019. The 2023 Convertible Notes will mature on August 15, 2023, unless earlier converted or repurchased. Upon conversion, the 2023 Convertible Notes may be settled, at our election, in cash, shares of our common stock or a combination of cash and shares of our common stock.
Each $1,000 principal amount of the 2023 Convertible Notes will be convertible into 9.8643 shares of our common stock, which is equivalent to a conversion price of approximately $101.38 per share of common stock, at maturity, subject to adjustment upon the occurrence of specified events. Prior to the close of business on the business day immediately preceding May 15, 2023, the 2023 Convertible Notes may be converted only under the following circumstances: (1) during any calendar quarter commencing after the calendar quarter ending on September 30, 2018 (and only during such calendar quarter), if the last reported sale price of our common stock for at least 20 trading days (whether or not consecutive) during a period of 30 consecutive trading days ending on, and including, the last trading day of the immediately preceding calendar quarter is greater than or equal to 130% of the conversion price on each applicable trading day; (2) during the five business day period after any
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five consecutive trading day period (the “Measurement Period”) in which the trading price (as defined in the Indenture) per $1,000 principal amount of the 2023 Convertible Notes for each trading day of the Measurement Period was less than 98% of the product of the last reported sale price of our common stock and the conversion rate in effect on each such trading day; or (3) upon the occurrence of specified corporate events. On or after May 15, 2023, until the close of business on the business day immediately preceding the maturity date of August 15, 2023, holders may convert their 2023 Convertible Notes at any time, regardless of the foregoing circumstances.
We may not redeem the 2023 Convertible Notes prior to the maturity date.
If we undergo a fundamental change (as defined in the Indenture), subject to certain conditions, holders may require us to repurchase for cash all or part of their 2023 Convertible Notes in principal amounts of $1,000 or a multiple thereof. The fundamental change repurchase price will be equal to 100% of the principal amount of the 2023 Convertible Notes to be repurchased, plus accrued and unpaid interest, if any, to, but excluding, the fundamental change repurchase date. In addition, in certain circumstances, we may be required to increase the conversion rate for any 2023 Convertible Notes converted in connection with a make-whole fundamental change (as defined in the Indenture). See Note 1, "Description of Business and Summary of Significant Accounting Policies" and Note 14, "Debt" in Part II, Item 8 and "Risk Factors" in Part I, Item 1A of this Annual Report for a further discussion of the 2023 Convertible Notes.
Cash Flows
For the years ended December 31, 2020, 2019 and 2018 our cash flows from operations exceeded our cash needs for capital expenditures and debt service requirements. We believe that our cash flows from operations, supplemented by short-term borrowings under our Credit Facility, as necessary, will provide adequate cash to fund our long-term cash needs for the next 12 months or longer.
Our conclusion that we will be able to fund our cash requirements for the next 12 months by using existing capital resources and cash generated from operations does not take into account exacerbation of, or additional or prolonged disruptions caused by, the COVID-19 pandemic that could result in a material adverse impact on our business, which are events beyond our control, or the impact of any future acquisitions, unexpected significant changes in number of employees or other unanticipated uses of cash. The anticipated cash needs of our business could change significantly if we pursue and complete additional business acquisitions, if our business plans change, if events, including economic disruptions, arising from the COVID-19 pandemic worsen, or if other economic conditions change from those currently prevailing or from those now anticipated, or if other unexpected circumstances arise that may have a material effect on the cash flow or profitability of our business, including material negative changes in the health and welfare of our employees or those of our clients, and the operating performance or financial results of our business. Any of these events or circumstances, including any new business opportunities, could involve significant additional funding needs in excess of the identified currently available sources and could require us to raise additional debt or equity funding to meet those needs. Our ability to raise additional capital, if necessary, is subject to a variety of factors that we cannot predict with certainty, including:
•our future profitability;
•the quality of our accounts receivable;
•our relative levels of debt and equity;
•the volatility and overall condition of the capital markets; and
•the market prices of our securities.
Any new debt funding, if available, may be on terms less favorable to us than our Credit Facility or the 2023 Convertible Notes. See “Forward-Looking Statements” under the heading “Risk Factors” in Part I, Item 1A, of this Annual Report.
Off-Balance Sheet Arrangements
We have no off-balance sheet arrangements and we have not entered into any transactions involving unconsolidated subsidiaries or special purpose entities that would be expected to have a material impact on our financial condition or results of operations.
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Future Contractual Obligations
The following table sets forth our estimates as to the amounts and timing of our future contractual obligations as of December 31, 2020. The information in the table reflects future unconditional payments and is based on the terms of the relevant agreements, appropriate classification of items under GAAP currently in effect and certain assumptions such as interest rates. Future events could cause actual payments to differ from these amounts.
Future contractual obligations related to our long-term debt assume that payments will be made based on the current payment schedule and that interest payments will be at their stated rates and exclude any additional revolving line of credit borrowings or repayments subsequent to December 31, 2020 and prior to the November 30, 2023 maturity date of our Credit Facility.
Payments Due by Period
(in thousands)
(1)Includes principal and interest payments. Projected interest payments may differ in the future based on the balance outstanding on our Credit Facility, as well as changes in market interest rates.
On October 26, 2020, the Company entered into a material lease agreement, amending and restating the lease agreement entered into as of August 19, 2020 (the "Lease") for its new principal office space in New York, New York to consolidate existing office space into fewer locations and in anticipation of future office space needs in view of its current leases, which are scheduled to expire in November 2021. The Company expects to accept possession of the premises on or about April 1, 2021, subject to the satisfaction of certain conditions. The Lease shall continue for an initial fixed term of 15 years, subject to two renewal options of five years each. Fixed rental payments under the Lease are scheduled to commence in April 2022, payable in monthly installments, and will aggregate approximately $145 million, excluding lease-related incentives over the term of the Lease. During the lease term, the Company will be responsible for its percentage share of the leased square footage of the premises of increases in taxes over a base tax year of July 1, 2021-June 30, 2022 and operating expenses over a base operating year of calendar year 2021.
Effect of Inflation
Inflation is not generally a material factor affecting our business. General operating expenses such as salaries, employee benefits and lease costs are, however, subject to normal inflationary pressures.
Critical Accounting Policies
General.Our discussion and analysis of our financial condition and results of operations are based on our consolidated financial statements, which we have prepared in accordance with GAAP. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosure of contingent assets and liabilities. We evaluate our estimates, including those related to revenues, goodwill and intangible assets, income taxes and contingencies, on an ongoing basis. Our estimates are based on current facts and circumstances, historical experience and various other assumptions that we believe are reasonable, which form the basis for making judgments about the values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.
We believe that the following critical accounting policies reflect our more significant judgments and estimates used in the preparation of our consolidated financial statements.
Revenue Recognition.Revenues are recognized when we satisfy a performance obligation by transferring services promised in a contract to a customer and in an amount that reflects the consideration that we expect to receive in exchange for those services. Performance obligations in our contracts represent distinct or separate services that we provide to our customers. If, at the outset of an arrangement, we determine that a contract with enforceable rights and obligations does not exist, revenues are deferred until all criteria for an enforceable contract are met.
We generate the majority of our revenues by providing consulting services to our clients. Most of our consulting service contracts are based on one of the following types of contract arrangements:
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•Time and expense arrangements require the client to pay us based on the number of hours worked at contractually agreed-upon rates. We recognize revenues for these contract arrangements based on hours incurred and contracted rates utilizing a right-to-invoice practical expedient because we have a right to consideration for services completed to date. When a time and expense arrangement has a not-to-exceed or "cap" amount and we expect to perform work in excess of the cap, we recognize revenues up to the cap amount specified by the client, or based on the efforts or hours incurred as a percentage of total efforts or hours expected to be incurred (i.e., "proportional performance method").
•Fixed-fee arrangements require the client to pay a fixed fee in exchange for a predetermined set of professional services. We recognize revenues earned to date by applying the proportional performance method. Generally, these arrangements have one performance obligation.
•Performance-based or contingent arrangements represent forms of variable consideration. In these arrangements, our fees are based on the attainment of contractually defined objectives with our client, such as completing a business transaction or assisting the client in achieving a specific business objective. We recognize revenues earned to date in an amount that is probable not to reverse and by applying the proportional performance method when the criteria for over time revenue recognition are met.
Certain fees in our time and materials arrangements may be subject to approval by a third party, such as a bankruptcy court or other regulatory agency. In such cases, we record revenues based on the amount we estimate we will be entitled to in exchange for our services and only to the extent a significant reversal of revenue is not likely to occur when the uncertainty associated with the estimate is subsequently resolved. Potential fee reductions imposed by bankruptcy courts and other regulatory agencies or negotiated with specific clients are estimated on a specific identification basis. Our estimates may vary depending on the nature of the engagement, client economics, historical experience and other appropriate factors. When there are changes in our estimates of potential fee reductions, we record such changes to revenues with a corresponding offset to our billed and unbilled accounts receivable.
In our Technology segment we generate unit-based revenues that are recognized at agreed-upon per unit rates for the amount of data stored or processed, the number of concurrent users accessing the information, or the number of pages or images processed for a client.
Reimbursable expenses, including those relating to travel, out-of-pocket expenses, outside consultants and other outside service costs, are generally included in revenues, and an equivalent amount of reimbursable expenses is included in costs of services in the period in which the expense is incurred.
Timing of revenue recognition often differs from the timing of billing to our customers. Generally, we transfer goods or services to a customer before the customer pays consideration or payment is due. If we have an unconditional right to invoice and receive payment for goods or services already provided, we record billed and unbilled receivables on our Consolidated Balance Sheets. Our contract terms generally include a requirement of payment within 30 days when no contingencies exist. Payment terms and conditions vary depending on the jurisdiction, market and type of service, and whether regulatory or other third-party approvals are required. At times, we may execute contracts in a form provided by customers that might include different payment terms and contracts may be negotiated at the client’s request.
Goodwill and Intangible Assets.Goodwill represents the purchase price of acquired businesses in excess of the fair market value of net assets acquired at the date of acquisition. Intangible assets may include customer relationships, trademarks and acquired software.
We test our goodwill and indefinite-lived intangible assets for impairment annually as of the first day of the fourth quarter and whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable. On a quarterly basis, we monitor the key drivers of fair value to detect events or other changes that would warrant an interim impairment test. Important factors we consider that could trigger an interim impairment review include, but are not limited to, the following:
•significant underperformance relative to expected historical or projected future operating results;
•a significant change in the manner of our use of the acquired asset or the strategy for our overall business;
•a significant market decline related to negative industry or economic trends; and/or
•our market capitalization relative to net carrying value.
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We assess our goodwill for impairment at the reporting unit level. A reporting unit is an operating segment or a business one level below that operating segment if discrete financial information is available and regularly reviewed by the chief operating decision makers.
Our annual goodwill impairment test may be conducted using a qualitative assessment or a quantitative assessment. Under GAAP, we have an unconditional option to bypass the qualitative assessment and perform a quantitative impairment test. We determine whether to perform a qualitative assessment first or to bypass the qualitative assessment and proceed with the quantitative goodwill impairment test for each of our reporting units based on the excess of fair value over carrying value from the most recent quantitative tests and other events or changes in circumstances that could impact the fair value of the reporting units.
In the qualitative assessment, we consider various factors, events or circumstances, including macroeconomic conditions, industry and market considerations, cost factors, overall financial performance and other relevant reporting unit specific events. If, based on the qualitative assessment, we determine that it is not “more likely than not” that the fair value of a reporting unit is less than its carrying value, we do not prepare a quantitative impairment test. If we determine otherwise, we will prepare a quantitative assessment for potential goodwill impairment.
In the quantitative assessment, we compare the estimated fair value of the reporting unit with the carrying amount of that reporting unit. We estimate fair value using a combination of an income approach (based on discounted cash flows) and market approaches, using appropriate weighting factors. If the fair value exceeds the carrying amount, goodwill is not impaired. However, if the carrying value exceeds the fair value of the reporting unit, an impairment loss shall be recognized in an amount equal to that excess, limited to the total amount of goodwill allocated to that reporting unit.
The cash flows employed in the income approach are based on our most recent forecasts, budgets and business plans, as well as various growth rate assumptions for years beyond the current business plan period, discounted using an estimated weighted average cost of capital (“WACC”), which reflects an assessment of the risk inherent in the future revenue streams and cash flows. The WACC consists of (1) a risk-free rate of return, (2) an equity risk premium that is based on the historical rate of return for equity securities of publicly traded companies, (3) the current after-tax market rate of return on debt of companies with business characteristics similar to our reporting units and (4) a company-specific risk premium. We weight the cost of equity and debt by the relative market value percentages of our equity and debt. In the market approach, we utilize market multiples derived from comparable guideline companies and comparable market transactions to the extent available. These valuations are based on estimates and assumptions, including projected future cash flows, determination of appropriate comparable guideline companies and the determination of whether a premium or discount should be applied to such comparable guideline companies.
The process of evaluating the potential impairment of goodwill is highly subjective and requires significant judgment and estimates. There can be no assurance that the estimates and assumptions used in our goodwill impairment testing will prove to be accurate predictions of the future. If our assumptions regarding forecasted cash flows are not achieved or market conditions significantly deteriorate, we may be required to record goodwill impairment charges in future periods, whether in connection with our next annual impairment test or prior to that, if a triggering event occurs outside of the quarter during which the annual goodwill impairment test is performed. It is not possible at this time to determine if any future impairment charge would result or, if it does, whether such charge would be material.
Intangible assets with finite lives are amortized over their estimated useful lives and reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. These events or changes in circumstances may include a significant deterioration of operating results, changes in business plans or changes in anticipated future cash flows. If an impairment indicator is present, we evaluate recoverability of assets to be held and used by a comparison of the carrying value of the assets with future undiscounted net cash flows expected to be generated by the assets. We group assets at the lowest level for which there are identifiable cash flows that are largely independent of the cash flows generated by other asset groups. If the total of the expected undiscounted future cash flows is less than the carrying amount of the asset group, we estimate the fair value of the asset group to determine whether an impairment loss should be recognized.
Significant New Accounting Pronouncements
See Note 2, “New Accounting Standards” in Part II, Item 8 of this Annual Report.
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ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to market risk from changes in interest rates, changes in the price of our common stock and changes in foreign exchange rates.
Interest Rate Risk and Market Risk
We are exposed to interest rate risk related to debt obligations outstanding. Interest rate changes expose our fixed rate long-term borrowings to changes in fair value and expose our variable rate borrowings to changes in our interest expense. As of December 31, 2020, there were no variable rate debt instruments outstanding as there were no outstanding borrowings under our Credit Facility. Future interest rate risk may be affected by revolving line of credit borrowings subsequent to December 31, 2020 and prior to the November 30, 2023 maturity date of our Credit Facility.
From time to time, we may use derivative instruments to manage our interest rate risk and market risk exposure. All of our derivative transactions are entered into for non-trading purposes.
The following table presents principal cash flows and related interest rates by year of maturity for our 2023 Convertible Notes and the fair value of the debt as of December 31, 2020 and 2019. Our stock price affects the fair value of our 2023 Convertible Notes, which is determined based on the last actively traded prices in an over-the-counter market for our 2023 Convertible Notes. The last actively traded prices for our 2023 Convertible Notes per $1,000 principal amount were $1,255.28 and $1,258.55 as of December 31, 2020 and 2019, respectively.
Long-Term Debt (dollars in thousands)
Average interest rate — — 5.4 % — — 5.4 % — 5.4 % —
Foreign Currency Exchange Rate Risk
Exchange Rate Risk
Our FX exposure primarily relates to intercompany receivables and payables and third-party receivables and payables that are denominated in currencies other than the functional currency of our legal entities. Our largest FX exposure is unsettled intercompany payables and receivables, which are reviewed on a regular basis. In cases where settlement of intercompany balances is not practical, we may use cash to create offsetting currency positions to reduce exposure. Gains and losses from FX transactions are included in interest income and other on our Consolidated Statements of Comprehensive Income. See Note 8, “Interest Income and Other” in Part II, Item 8 of this Annual Report for information.
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Translation of Financial Results
Most of our foreign subsidiaries operate in a currency other than USD; therefore, increases or decreases in the value of USD against other major currencies will affect our operating results and the value of our balance sheet items denominated in foreign currencies. Our most significant exposures to translation risk relate to functional currency assets and liabilities that are denominated in the British pound, euro, Australian dollar and Canadian dollar. The following table details the unrealized changes in the net investments of foreign subsidiaries whose currencies are denominated in currencies other than USD for the years ended December 31, 2020, 2019 and 2018. These translation adjustments are reflected in “Other comprehensive income (loss)” on our Consolidated Statements of Comprehensive Income.
Year Ended December 31,
Changes in Net Investment of Foreign Subsidiaries 2020 2019 2018
(in thousands)
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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
FTI Consulting, Inc. and Subsidiaries
Consolidated Financial Statements
INDEX
Page
Management’s Report on Internal Control over Financial Reporting 55
Notes to Consolidated Financial Statements 63
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Management’s Report on Internal Control over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting and for performing an assessment of the effectiveness of internal control over financial reporting as of December 31, 2020. Internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Our system of internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of our assets, (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles and that our receipts and expenditures are being made only in accordance with the authorization of our management and directors, and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our assets that could have a material effect on the financial statements. Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting as of December 31, 2020 based on the framework in the 2013 Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on that evaluation, our management concluded that our internal control over financial reporting was effective as of December 31, 2020.
KPMG LLP, the independent registered public accounting firm that audited our financial statements, has issued an audit report on their assessment of internal control over financial reporting, which is included elsewhere in this Annual Report.
Date: February 25, 2021
/s/ STEVEN H. GUNBY
/s/ AJAY SABHERWAL
Ajay SabherwalChief Financial Officer(Principal Financial Officer)
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Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors
FTI Consulting, Inc.:
Opinion on Internal Control Over Financial Reporting
We have audited FTI Consulting, Inc. and subsidiaries' (the Company) internal control over financial reporting as of December 31, 2020, based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2020, based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the consolidated balance sheets of the Company as of December 31, 2020 and 2019, the related consolidated statements of comprehensive income, stockholders’ equity, and cash flows for each of the years in the three-year period ended December 31, 2020, and the related notes (collectively, the consolidated financial statements), and our report dated February 25, 2021 expressed an unqualified opinion on those consolidated financial statements.
Basis for Opinion
The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
Definition and Limitations of Internal Control Over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ KPMG LLP
McLean, Virginia
February 25, 2021
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Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors
FTI Consulting, Inc.:
Opinion on the Consolidated Financial Statements
We have audited the accompanying consolidated balance sheets of FTI Consulting, Inc. and subsidiaries (the Company) as of December 31, 2020 and 2019, the related consolidated statements of comprehensive income, stockholders’ equity, and cash flows for each of the years in the three‐year period ended December 31, 2020, and the related notes. (collectively, the consolidated financial statements). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2020 and 2019, and the results of its operations and its cash flows for each of the years in the three‐year period ended December 31, 2020, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company’s internal control over financial reporting as of December 31, 2020, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission, and our report dated February 25, 2021 expressed an unqualified opinion on the effectiveness of the Company’s internal control over financial reporting.
Change in Accounting Principle
The Company changed its method of accounting for leases as of January 1, 2019 due to the adoption of Financial Accounting Standards Board (FASB) Accounting Standards Codification (ASC) Topic 842, Leases.
Basis for Opinion
These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audits provide a reasonable basis for our opinion.
Critical Audit Matter
The critical audit matter communicated below is a matter arising from the current period audit of the consolidated financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the consolidated financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of a critical audit matter does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing separate opinions on the critical audit matter or on the accounts or disclosures to which it relates.
Changes in estimates of potential fee reductions
As discussed in Note 1 to the consolidated financial statements, for certain arrangements, the Company records revenues based on the amount it estimates it will be entitled to in exchange for its services and only to the extent that a significant reversal of revenue is not likely to occur when the uncertainty associated with the estimate is subsequently resolved. The Company records changes to revenue when there are changes in estimates of potential fee reductions imposed by bankruptcy courts or other regulatory agencies or negotiated with specific clients. Revenues for the year ended December 31, 2020 were approximately $2.5 billion, which includes the previously mentioned changes.
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We identified the evaluation of changes in estimates of potential fee reductions as a critical audit matter. There was a high degree of subjectivity and audit effort in evaluating the likely outcome of potential fee reductions imposed by bankruptcy courts or other regulatory agencies or negotiated by specific clients, which may vary depending on the nature of the engagement, client economics, historical experience and other appropriate factors.
The following are the primary procedures we performed to address this critical audit matter. We evaluated the design and tested the operating effectiveness of certain internal controls related to the Company’s revenue process, including controls related to the monthly analysis of estimated potential fee reductions by arrangement, and review of the related changes to revenue. For a sample of changes in estimates of potential fee reductions, we inspected relevant evidence, including: (1) contractual documents, (2) regulatory correspondence if applicable, and (3) historical trends and analysis performed by the Company that supported the change, and also inquired of relevant Company personnel to assess the rationale for making the change. For a sample of arrangements, we assessed the existence and accuracy of the billed receivables by confirming amounts recorded directly with the Company’s clients. We compared actual collections and write-offs to previous billed and unbilled receivables to assess the Company’s ability to accurately record changes in estimates of potential fee reductions.
/s/ KPMG LLP
We have served as the Company's auditor since 2006.
McLean, Virginia
February 25, 2021
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FTI Consulting, Inc. and Subsidiaries
Consolidated Balance Sheets
(in thousands, except per share data)
December 31,
Assets
Current assets
Prepaid expenses and other current assets 88,144 80,810
Liabilities and Stockholders' Equity
Current liabilities
Accounts payable, accrued expenses and other $ 170,066 $ 158,936
Billings in excess of services provided 44,172 36,698
Commitments and contingencies (Note 16)
Stockholders' equity
Additional paid-in capital — 216,162
See accompanying notes to consolidated financial statements.
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FTI Consulting, Inc. and Subsidiaries
Consolidated Statements of Comprehensive Income
(in thousands, except per share data)
Year Ended December 31,
Operating expenses
Special charges 7,103 — —
Other income (expense)
Gain on sale of business — — 13,031
Loss on early extinguishment of debt — — (9,072)
Earnings per common share — basic $ 5.92 $ 5.89 $ 4.06
Earnings per common share — diluted $ 5.67 $ 5.69 $ 3.93
Other comprehensive income (loss), net of tax
Total other comprehensive income (loss), net of tax 34,412 6,970 (27,602)
See accompanying notes to consolidated financial statements.
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FTI Consulting, Inc. and Subsidiaries
Consolidated Statements of Stockholders’ Equity
(in thousands)
Additional Paid-in Capital Retained Earnings AccumulatedOther Comprehensive Loss
Common Stock
Shares Amount Total
Other comprehensive loss:
Cumulative translation adjustment — — — — (27,602) (27,602)
Issuance of common stock in connection with:
Restricted share grants, less net settled shares of 58 319 3 (3,097) — — (3,094)
Stock units issued under incentive compensation plan — — 1,059 — — 1,059
Cumulative effect due to adoption of new accounting standard — — — 342 — 342
Other comprehensive income:
Cumulative translation adjustment — — — — 6,970 6,970
Issuance of common stock in connection with:
Restricted share grants, less net settled shares of 78 245 3 (6,520) — — (6,517)
Stock units issued under incentivecompensation plan — — 1,413 — — 1,413
Other comprehensive income:
Cumulative translation adjustment — — — — 34,412 34,412
Issuance of common stock in connection with:
Stock units issued under incentivecompensation plan — — 2,314 — — 2,314
See accompanying notes to consolidated financial statements.
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FTI Consulting, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
(in thousands)
Year Ended December 31,
Operating activities
Amortization and impairment of intangible assets 10,387 8,152 8,162
Acquisition-related contingent consideration 5,593 2,372 479
Loss on early extinguishment of debt — — 9,072
Gain on sale of business — — (13,031)
Changes in operating assets and liabilities, net of effects from acquisitions:
Billings in excess of services provided 7,175 (8,133) (3,885)
Investing activities
Payments for acquisition of businesses, net of cash received (25,271) (18,791) —
Proceeds from sale of business — — 50,283
Net cash provided by (used in) investing activities (60,120) (60,606) 18,744
Financing activities
Proceeds from issuance of convertible notes — — 316,250
Payments of long-term debt — — (300,000)
Payments of debt issue and debt prepayment costs — — (16,149)
Payments for business acquisition liabilities (3,948) (2,282) (3,029)
Supplemental cash flow disclosures
Non-cash investing and financing activities:
Business acquisition liabilities not yet paid $ 6,209 $ 9,746 $ —
See accompanying notes to consolidated financial statements
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FTI Consulting, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
(dollar and share amounts in tables expressed in thousands, except per share data)
1. Description of Business and Summary of Significant Accounting Policies
Description of Business
FTI Consulting, Inc., including its consolidated subsidiaries (collectively, the “Company,” “we,” “our” or “FTI Consulting”), is a global business advisory firm dedicated to helping organizations manage change, mitigate risk and resolve disputes: financial, legal, operational, political & regulatory, reputational and transactional. Individually, each of our segments and practices is staffed with experts recognized for the depth of their knowledge and a track record of making an impact. Collectively, FTI Consulting offers a comprehensive suite of services designed to assist clients across the business cycle, from proactive risk management to rapid response to unexpected events and dynamic environments. We operate through five reportable segments: Corporate Finance & Restructuring ("Corporate Finance"), Forensic and Litigation Consulting ("FLC"), Economic Consulting, Technology and Strategic Communications.
Accounting Principles
Our financial statements are prepared in conformity with United States (“U.S.”) generally accepted accounting principles (“GAAP”). The consolidated financial statements include the accounts of FTI Consulting and all of our subsidiaries. All intercompany transactions and balances have been eliminated. Reclassifications of certain prior period amounts have been made to conform to the current period presentation.
Foreign Currency
Results of operations for our non-U.S. subsidiaries are translated from the designated functional currency to the reporting currency of the U.S. dollar ("USD"). Revenues and expenses are translated at average exchange rates for each month, while assets and liabilities are translated at balance sheet date exchange rates. Resulting net translation adjustments are recorded as a component of stockholders’ equity in “Accumulated other comprehensive loss.”
Transaction gains and losses arising from currency exchange rate fluctuations on transactions denominated in a currency other than the local functional currency are included in “Interest income and other” on the Consolidated Statements of Comprehensive Income. Such transaction gains and losses may be realized or unrealized depending upon whether the transaction settled during the period or remains outstanding at the balance sheet date.
Use of Estimates
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts in the consolidated financial statements and accompanying notes. Due to the inherent uncertainty involved in making those assumptions, actual results could differ from those estimates. Our most significant estimates relate to revenues and the assessment of the recoverability of goodwill and intangible assets. Other estimates include, but are not limited to, the realization of deferred tax assets and the fair value of acquisition-related contingent consideration. Management bases its estimates on historical trends, projections, current experience and other assumptions that it believes are reasonable.
Concentrations of Risk
We do not have a single customer that represents 10% or more of our consolidated revenues. We derive the majority of our revenues from providing professional services to clients in the U.S. For the year ended December 31, 2020, we derived approximately 37% of our consolidated revenues from the work of professionals who are assigned to locations outside the U.S. We believe that the geographic and industry diversity of our customer base throughout the U.S. and internationally minimizes the risk of incurring material losses due to concentrations of credit risk.
Revenue Recognition
Revenues are recognized when we satisfy a performance obligation by transferring services promised in a contract to a customer and in an amount that reflects the consideration that we expect to receive in exchange for those services. Performance obligations in our contracts represent distinct or separate services that we provide to our customers. If, at the outset of an arrangement, we determine that a contract with enforceable rights and obligations does not exist, revenues are deferred until all criteria for an enforceable contract are met.
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We generate the majority of our revenues by providing consulting services to our clients. Most of our consulting service contracts are based on one of the following types of contract arrangements:
•Time and expense arrangements require the client to pay us based on the number of hours worked at contractually agreed-upon rates. We recognize revenues for these contract arrangements based on hours incurred and contracted rates utilizing a right-to-invoice practical expedient because we have a right to consideration for services completed to date. When a time and expense arrangement has a not-to-exceed or "cap" amount and we expect to perform work in excess of the cap, we recognize revenues up to the cap amount specified by the client, based on the efforts or hours incurred as a percentage of total efforts or hours expected to be incurred (i.e., proportional performance method).
•Fixed-fee arrangements require the client to pay a fixed fee in exchange for a predetermined set of professional services. We recognize revenues earned to date by applying the proportional performance method. Generally, these arrangements have one performance obligation.
•Performance-based or contingent arrangements represent forms of variable consideration. In these arrangements, our fees are based on the attainment of contractually defined objectives with our client, such as completing a business transaction or assisting the client in achieving a specific business objective. We recognize revenues earned to date in an amount that is probable not to reverse and by applying the proportional performance method when the criteria for over time revenue recognition are met.
Certain fees in our time and materials arrangements may be subject to approval by a third-party, such as a bankruptcy court and other regulatory agency. In such cases, we record revenues based on the amount we estimate we will be entitled to in exchange for our services and only to the extent a significant reversal of revenue is not likely to occur when the uncertainty associated with the estimate is subsequently resolved. Potential fee reductions imposed by bankruptcy courts and other regulatory agencies or negotiated with specific clients are estimated on a specific identification basis. Our estimates may vary depending on the nature of the engagement, client economics, historical experience and other appropriate factors. When there are changes in our estimates of potential fee reductions, we record such changes to revenues with a corresponding offset to our billed and unbilled accounts receivable.
In our Technology segment we generate unit-based revenues that are recognized at agreed-upon per unit rates for the amount of data stored or processed, the number of concurrent users accessing the information, or the number of pages or images processed for a client.
Reimbursable expenses, including those relating to travel, out-of-pocket expenses, outside consultants and other outside service costs, are generally included in revenues, and an equivalent amount of reimbursable expenses is included in costs of services in the period in which the expense is incurred.
Timing of revenue recognition often differs from the timing of billing to our customers. Generally, we transfer goods or services to a customer before the customer pays consideration or payment is due. If we have an unconditional right to invoice and receive payment for goods or services already provided, we record billed and unbilled receivables on our Consolidated Balance Sheets. Our contract terms generally include a requirement of payment within 30 days when no contingencies exist. Payment terms and conditions vary depending on the jurisdiction, market and type of service, and whether regulatory or other third-party approvals are required. At times, we may execute contracts in a form provided by customers that might include different payment terms and contracts may be negotiated at the client’s request.
Direct Cost of Revenues
Direct cost of revenues consists primarily of billable employee compensation and related payroll benefits, the cost of contractors assigned to revenue-generating activities and direct expenses billable to clients. Direct cost of revenues also includes expense for cloud-based computing and depreciation expense on the software used to host and process client information. Direct cost of revenues does not include an allocation of corporate overhead and non-billable segment costs.
Share-Based Compensation
Share-based compensation cost is estimated at the grant date based on the fair value of the award and is recognized as expense over the requisite service period or performance period of the award. The amount of share-based compensation expense recognized at any date must at least equal the portion of grant date value of the award that is vested at that date.
The fair value of restricted share awards and restricted stock units is measured based on the closing price of the underlying stock on the date of grant. The fair value of performance share units that contain market-based vesting conditions is measured using a Monte Carlo pricing model. The compensation cost of performance stock units with market-based vesting
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conditions is based on the grant date fair value and is not subsequently reversed if it is later determined that the market condition is unlikely to be met or is expected to be lower than originally expected. For performance share units that contain performance-based vesting conditions, the compensation cost is adjusted each reporting period based on the probability of the awards vesting.
We use the Black-Scholes pricing model to determine the fair value of stock options on the date of grant. The Black-Scholes pricing model requires the development of assumptions, including volatility and expected term, which are based on our historical experience. The risk-free interest rate is based on the term of U.S. Treasury interest rates that is consistent with the expected term of the share-based award.
For all our share-based awards, we recognize forfeitures in compensation cost when they occur.
Acquisition-Related Contingent Consideration
The fair value of acquisition-related contingent consideration is estimated at the acquisition date utilizing either the present value of our probability-weighted estimate of future cash flows or a Monte Carlo simulation. Subsequent to the acquisition date, on a quarterly basis, the contingent consideration liability is remeasured at current fair value with any changes recorded in earnings. Accretion expense is recorded to acquisition-related contingent consideration liabilities for changes in fair value due to the passage of time. Remeasurement gains or losses and accretion expense are included in “Selling, general and administrative” ("SG&A") expenses. on the Consolidated Statements of Comprehensive Income.
Advertising Costs
Advertising costs consist of marketing, advertising through print and other media, professional event sponsorship and public relations. These costs are expensed as incurred. Advertising costs totaled $15.2 million, $18.6 million and $15.5 million for the years ended December 31, 2020, 2019 and 2018, respectively, and are included in SG&A expenses on the Consolidated Statements of Comprehensive Income.
Income Taxes
Our income tax provision consists principally of U.S. federal, state and international income taxes. We generate income in a significant number of states located throughout the U.S. and in foreign countries in which we conduct business. Our effective income tax rate may fluctuate due to a change in the mix of earnings between higher and lower state or country tax jurisdictions and the impact of non-deductible expenses. Additionally, we record deferred tax assets and liabilities using the asset and liability method of accounting, which requires us to measure these assets and liabilities using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. A valuation allowance is recognized if, based on the weight of available evidence, it is more likely than not that some portion, or all, of the deferred tax asset will not be realized. In evaluating our ability to recover our deferred tax assets, we consider all available positive and negative evidence, including scheduled reversals of temporary differences, projected future taxable income, tax planning strategies and recent results of operations.
Cash Equivalents
Cash equivalents consist of money market funds, commercial paper and certificates of deposit with maturities of three months or less at the time of purchase.
Allowance for Expected Credit Losses
We estimate the current-period provision for expected credit losses on a specific identification basis. Our judgments regarding a specific client’s credit risk considers factors such as the counterparty’s creditworthiness, knowledge of the specific client’s circumstances and historical collection experience for similar clients. Other factors include, but are not limited to, current economic conditions and forward-looking estimates. Our actual experience may vary from our estimates. If the financial condition of our clients were to deteriorate, resulting in their inability or unwillingness to pay our fees, we may need to record additional provisions for expected credit losses in future periods. The risk of credit losses may be mitigated to the extent that we received a retainer from some of our clients prior to performing services.
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We maintain an allowance for expected credit losses, which represents the aggregate amount of credit risk arising from the inability of specific clients to pay our fees or disputes that may affect our ability to fully collect our billed accounts receivable. We record our estimate of lifetime expected credit losses concurrently with the initial recognition of the underlying receivable. Accounts receivable, net of the allowance for expected credit losses, represents the amount we expect to collect. At each reporting date, we adjust the allowance for expected credit losses to reflect our current estimate. Adjustments to the allowance for expected credit losses are recorded to SG&A expenses on the Consolidated Statements of Comprehensive Income. Our billed accounts receivables are written off when the potential for recovery is considered remote.
The Company voluntarily revised the presentation of billed and unbilled accounts receivables in the Consolidated Balance Sheets. Previously, changes in estimates of our potential fee reductions, such as those imposed by bankruptcy courts and other regulatory agencies, were presented within allowance for expected credit losses in the Consolidated Balance Sheets. Our presentation was revised in the current year to report adjustments to estimates of our potential fee reductions within billed and unbilled receivables. As a result of the change, billed and unbilled receivables were reduced by approximately $58.3 million and $172.1 million, respectively, and the allowance for expected credit losses was reduced by approximately $230.3 million as compared with the amounts previously presented on the Consolidated Balance Sheets in our Annual Report on Form 10-K for the year ended December 31, 2019. The presentation did not impact the Consolidated Statements of Comprehensive Income, Consolidated Statements of Stockholder’s Equity or Consolidated Statements of Cash Flows.
Property and Equipment
We record property and equipment, including improvements that extend useful lives, at cost, while maintenance and repairs are expensed as incurred. We calculate depreciation using the straight-line method based on estimated useful lives ranging from one to seven years for furniture, equipment and software. We amortize leasehold improvements over the shorter of the estimated useful life of the asset or the lease term. We capitalize costs incurred during the application development stage of computer software developed or obtained for internal use. Capitalized software developed for internal use is classified within furniture, equipment and software and is amortized over the estimated useful life of the software, which is generally three years. Purchased software licenses to be sold to customers are capitalized and amortized over the license term.
Notes Receivable from Employees
Notes receivable from employees principally include unsecured general recourse forgivable loans and retention payments, which are provided to attract and retain certain of our senior employees and other professionals. Generally, all of the principal amount and accrued interest of the forgivable loans we make to employees and other professionals will be forgiven according to the stated terms of the loan agreement, provided that the professional is providing services to the Company on the forgiveness date and upon other specified events, such as death or disability. Professionals who terminate their employment or services with us prior to the end of the forgiveness period are required to repay the outstanding, unforgiven loan balance and any accrued but unforgiven interest. If the termination was by the Company without cause or by the employee with good reason, or, subject to certain conditions, if the employee terminates his or her employment due to retirement or non-renewal of his or her employment agreement, the loan may be forgiven or continue to be forgivable, in whole or in part. We amortize forgivable loans ratably over the requisite service period, which ranges from a period of one to 10 years. The amount of expense recognized at any date must at least equal to the portion of the principal forgiven on the forgiveness date.
Goodwill and Intangible Assets
Goodwill represents the purchase price of acquired businesses in excess of the fair market value of net assets acquired at the date of acquisition. Intangible assets may include customer relationships, trademarks and acquired software.
We test our goodwill and indefinite-lived intangible assets for impairment annually as of the first day of the fourth quarter and whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable. On a quarterly basis, we monitor the key drivers of fair value to detect events or other changes that would warrant an interim impairment test. Important factors we consider that could trigger an interim impairment review include, but are not limited to, the following:
•significant underperformance relative to expected historical or projected future operating results;
•a significant change in the manner of our use of the acquired asset or the strategy for our overall business;
•a significant market decline related to negative industry or economic trends; and/or
•our market capitalization relative to net carrying value.
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We assess our goodwill for impairment at the reporting unit level. A reporting unit is an operating segment or a business one level below that operating segment if discrete financial information is available and regularly reviewed by the chief operating decision makers.
Our annual goodwill impairment test may be conducted using a qualitative assessment or a quantitative assessment. Under GAAP, we have an unconditional option to bypass the qualitative assessment and perform a quantitative impairment test. We determine whether to perform a qualitative assessment first or to bypass the qualitative assessment and proceed with the quantitative goodwill impairment test for each of our reporting units based on the excess of fair value over carrying value from the most recent quantitative tests and other events or changes in circumstances that could impact the fair value of the reporting units.
In the qualitative assessment, we consider various factors, events or circumstances, including macroeconomic conditions, industry and market considerations, cost factors, overall financial performance and other relevant reporting unit specific events. If, based on the qualitative assessment, we determine that it is not “more likely than not” that the fair value of a reporting unit is less than its carrying value, we do not prepare a quantitative impairment test. If we determine otherwise, we will prepare a quantitative assessment for potential goodwill impairment.
In the quantitative assessment, we compare the estimated fair value of the reporting unit with the carrying amount of that reporting unit. We estimate fair value using a combination of an income approach (based on discounted cash flows) and market approaches, using appropriate weighting factors. If the fair value exceeds the carrying amount, goodwill is not impaired. However, if the carrying value exceeds the fair value of the reporting unit, an impairment loss shall be recognized in an amount equal to that excess, limited to the total amount of goodwill allocated to that reporting unit.
Intangible assets with finite lives are amortized over their estimated useful life and reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. We amortize our acquired finite-lived intangible assets on a straight-line basis over periods ranging from two to 15 years.
Impairment of Long-Lived Assets
We review long-lived assets such as property and equipment, operating lease assets and finite-lived intangible assets whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. These events or changes in circumstances may include a significant deterioration of operating results, changes in business plans or changes in anticipated future cash flows. If an impairment indicator is present, we evaluate recoverability of assets to be held and used by a comparison of the carrying value of the assets with future undiscounted net cash flows expected to be generated by the assets. We group assets at the lowest level for which there are identifiable cash flows that are largely independent of the cash flows generated by other asset groups. If the total of the expected undiscounted future cash flows is less than the carrying amount of the asset group, we estimate the fair value of the asset group to determine whether an impairment loss should be recognized.
Leases
We determine if a contract is a leasing arrangement at inception. Operating lease assets represent our right to control the use of an identified asset for the lease term and lease liabilities represent our obligation to make lease payments arising from the lease. Operating lease assets and liabilities are recognized on the Consolidated Balance Sheets at the commencement date based on the present value of lease payments over the lease term. We use the incremental borrowing rate on the commencement date in determining the present value of our lease payments. We recognize operating lease expense for our operating leases on a straight-line basis over the lease term.
We lease office space and equipment under non-cancelable operating leases, which may include renewal or termination options that are reasonably certain of exercise. Most leases include one or more options to renew, with renewal terms that can extend the lease term up to seven years. Leases with an initial term of 12 months or less are not recorded on the balance sheet and are expensed on a straight-line basis. Lease and non-lease components are accounted for together as a single lease component for operating leases associated with our office space and our equipment leases. We apply a portfolio approach for certain equipment leases to effectively account for the operating lease assets and liabilities.
Billings in Excess of Services Provided
Billings in excess of services provided represent amounts billed to clients, such as retainers, in advance of work being performed. Clients may make advance payments, which are held on deposit until completion of work or are applied at predetermined amounts or times. Excess payments are either applied to final billings or refunded to clients upon completion of