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UNITED STATES

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Annual report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the fiscal year ended July 31, 2019

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Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from __________ to __________

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☐   No ☑

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ☐   No ☑

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months, (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes ☑  No ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).  Yes ☑  No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).   Yes ☐   No ☑

The aggregate market value of the Class A Common Stock held by non-affiliates as of January 31, 2019 (the last business day of the registrant’s most recently completed second fiscal quarter) was $36,355,884.  This amount is based on the closing price of the registrant’s Class A Common Stock on the Nasdaq Stock Market and 3,029,657 shares of Class A Common Stock held by non-affiliates on that date.  Shares of Class A Common Stock held by the executive officers and directors of the registrant are not included in this computation.

As of October 4, 2019, 3,138,323 shares of the registrant’s Class A Common Stock, $.01 par value (the “Class A Common Stock”) were outstanding, and 1,191,678 shares of the registrant’s Class B Common Stock, $.01 par value (the “Class B Common Stock”) were outstanding.

DOCUMENTS INCORPORATED BY REFERENCE:  None. 

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Table of Contents

PART I

Item 1.  Business

In this Annual Report on Form 10-K (the “Annual Report”), references to “EEI” refer to Ecology and Environment Inc., a New York corporation.  References to “the Company,” “we,” “us,” “our,” or similar terms refer to EEI together with its consolidated subsidiaries.

Organization and Background

EEI was incorporated in February 1970 as a global broad-based environmental consulting firm with an underlying philosophy of providing professional services in the regions it serves so that sustainable economic and human development may proceed with acceptable impact on the environment.  During fiscal year 2019, EEI had direct and indirect ownership in four significant active wholly-owned and majority-owned operating subsidiaries in three countries (the United States of America, Brazil and Peru), and one majority-owned equity investment in Chile.

Management generally assesses operating performance and makes strategic decisions based on the geographic regions in which we do business.  We report separate operating segment information for our U.S. and South American operations.

Our significant active subsidiaries as of July 31, 2019 are listed in the following table.

Agreement and Plan of Merger

On August 28, 2019, the Company entered into an Agreement and Plan of Merger (the “Merger Agreement”) with WSP Global Inc., a Canadian corporation ( “WSP”), and Everest Acquisition Corp., a New York corporation and an indirect wholly owned subsidiary of WSP (“Merger Sub”).  Pursuant to the Merger Agreement, Merger Sub will merge with and into the Company (the “Merger”), with the Company continuing as the surviving corporation.

At the effective time of the Merger (the “Effective Time”), each share of the Company’s Class A common stock, $0.01 par value per share (the “Class A Common Stock”), and Class B common stock, $0.01 par value per share (the “Class B Common Stock” and, together with the Class A Common Stock, the “Company Shares”), issued and outstanding immediately prior to the Effective Time (other than shares (i) held by the Company (or held in the Company’s treasury), (ii) held by any wholly owned subsidiary of the Company, (iii) held by WSP, Merger Sub or any other wholly owned subsidiary of WSP or (iv) held by holders of Class B common stock who have made a proper demand for appraisal of the shares in accordance with Section 623 of the New York Business Corporation Law) but including shares that are, as of the Effective Time, unvested and subject to restrictions, will be converted into the right to receive $15.00 in cash (the “Per Share Merger Consideration”), without interest and subject to any required tax withholding. In addition, the Merger Agreement provides that record holders of Company Shares as of the close of business on the last business day prior to the Effective Time, including any shares that are then unvested and subject to restrictions, will receive a one-time special dividend (the “Special Dividend”) from the Company of up to $0.50 in cash per share to be paid shortly after closing.  The amount of the Special Dividend is subject to pro rata reduction if certain expenses incurred by the Company in connection with the Merger exceed $3.05 million in the aggregate, as further described in the Merger Agreement.

The consummation of the Merger is subject to the satisfaction or waiver of specified closing conditions, including (i) the approval of the Merger at a stockholders meeting by the affirmative vote of the holders of two-thirds of the Company Shares outstanding on the record date for the stockholders meeting, voting as a single class (the “Company Stockholder Approval”), (ii) the absence of an order, injunction or law issued by a court or governmental authority of competent jurisdiction that makes the consummation of the Merger illegal, (iii) the absence of legal proceedings brought by a governmental authority of competent jurisdiction seeking to restrain or prohibit the Merger, (iv) the clearance of the Merger by the Committee on Foreign Investment in the United States (without the imposition of any Burdensome Condition (as defined in the Merger Agreement) and (v) subject to certain materiality qualifications, the continued accuracy of the Company’s representations and warranties and continued compliance by the Company with covenants and obligations (to be performed at or prior to the closing of the Merger).

 

The Merger Agreement provides WSP and the Company with certain termination rights and, under certain circumstances, may require the Company to pay a termination fee. The Merger Agreement provides that the Company will be required to pay to WSP a termination fee of $4 million (i) if (A) the Merger Agreement is terminated by WSP or the Company because of a failure to obtain the Company Stockholder Approval, (B) at or prior to termination, a third-party acquisition proposal to acquire the Company has been publicly made and not publicly withdrawn and (C) within 12 months after the date of the termination, the Company has consummated a transaction with a third party or has entered into a definitive agreement with a third party contemplating a transaction, and the transaction is subsequently consummated, in each case relating to an acquisition of the Company; (ii) the Merger Agreement is terminated by the Company prior to receipt of the Company Stockholder Approval in order to enter into a definitive agreement with respect to a Superior Offer (as defined in the Merger Agreement); and (iii) the Merger Agreement is terminated by WSP prior to receipt of the Company Stockholder Approval because the Company’s Board of Directors, among other things, (A) withdraws its recommendation with respect to the Merger or modifies its recommendation in a manner adverse to WSP, (B) had failed to include its recommendation in the proxy statement with respect to the Merger or (C) fails to issue a press release reaffirming its recommendation of the Merger within 10 business days following the public announcement of a third-party acquisition proposal. Additionally, the Merger Agreement provides that the Company will be required to reimburse WSP for certain transaction expenses in an amount of up to $1.75 million if the Merger Agreement is terminated by WSP (i) because of inaccuracies in the Company’s representations or warranties in the Merger Agreement or breaches by the Company of its covenants or other agreements in the Merger Agreement, in each case, in certain circumstances and the Company has failed to cure such inaccuracies or breaches within a certain period or (ii) because a Material Adverse Effect (as defined in the Merger Agreement) has occurred and remains uncured for a certain period.

The foregoing description of the Merger Agreement does not purport to be complete and is qualified in its entirety by reference to the full text of the Merger Agreement, which is attached as Exhibit 2.1 to the Company’s Current Report on Form 8-K filed with the SEC on August 28, 2019. Additional information about the Merger and the Merger Agreement is set forth in the Company’s definitive proxy statement filed with the SEC on October 8, 2019.

Environmental Consulting Services Offered

We are an environmental and engineering consulting firm employing professionals in scientific, engineering, and planning disciplines. Our staff is comprised of individuals representing numerous scientific, engineering, health, and social disciplines working together in multidisciplinary teams to provide innovative environmental solutions.  Our employees generally hold bachelor’s and/or advanced degrees in such areas as chemical, civil, mechanical, sanitary, soil, structural and transportation engineering, biology, geology, hydrogeology, ecology, environmental science, urban and regional planning and oceanography.  Our client list includes governments, industries, multinational corporations, organizations, and private companies.  Major markets that we participate in, and the services we provide to clients within those markets, are described below.

Energy

Our energy market includes projects related to fossil fuels (oil and gas, pipelines, liquid natural gas, offshore), renewables (onshore and offshore wind, solar, geothermal, storage), and electric transmission.  We also provide third-party energy advisory work for state and federal agencies.  Our core energy development services span the entire energy project lifecycle and include:

Offshore Resources

For our offshore energy clients, we provide environmental risk advisory services, critical issues analyses, and project siting support.  We help clients obtain federal, state, and local permits and conduct agency and tribal consultation.  We develop environmental/biological/marine studies, surveys, and modeling and provide GIS-based data management and mapping services.  We also have teams of public outreach experts that provide stakeholder engagement and community outreach services for clients.  We provide environmental monitoring and compliance services during construction as well as post-construction.

Pipelines and Liquefied Natural Gas (“LNG”)

This market includes onshore pipelines and domestic upstream (exploration and production) oil and gas development and permitting projects, offshore and onshore LNG import and export terminals and associated pipelines, and deep water ports for exporting crude oil.  Our extensive suite of pipeline services includes route selection, evaluation of alternatives, field surveys, regulatory compliance and permit support, preparation of environmental monitoring and restoration plans, and environmental inspection, including development of quality assurance specifications.

Renewables

The renewable market includes solar energy and onshore and offshore wind energy projects. This is a very dynamic market, where increasingly favorable economics of renewables and changing regulations are leading to new regional markets and the frequent emergence of new market entrants.  We have extensive experience providing strategic environmental consulting services to wind energy developers.  We also support solar energy developers during all phases of solar projects and have supported these projects in more than 30 states.  We conduct critical issues analyses, feasibility and siting studies, permitting and due diligence audits, environmental impact assessments, project permitting and construction monitoring and operational compliance.

Electric Transmission

This market includes projects associated with underwater and underground transmission lines, urban rebuilds, and renewable generation interconnections in the U.S. and South America.  We prepare feasibility studies, evaluate alternative routes, analyze environmental impacts, and acquire utility certificates, approvals, and permits for electric transmission facilities to bring electric power from its source to regional population centers as well as to upgrade aging infrastructure.

Site Assessment and Remediation (“SAR”)

Within our SAR market, we provide a variety of services related to environmental liabilities from hazardous waste sites, including due diligence, site assessment, risk assessment, preliminary assessment/site inspection, remedial investigation and feasibility study, corrective/remedial action planning, remedial design, construction oversight, brownfield and property redevelopment, and searches for potentially responsible parties.  We provide services to commercial clients, federal government agencies and various state agencies and municipalities located within the states of New York, Florida, Illinois, South Carolina, and Washington.  Our significant federal SAR clients and services include the Environmental Protection Agency (“EPA”), the U.S. Army Corps of Engineers, the U.S. Forest Service, and the Bureau of Land Management (“BLM”).

Armed Services

We provide services to various branches of the U.S. Department of Defense (“DOD”).  We provide real property master planning, military programming, geospatial data and systems support, database management, encroachment planning and water resources planning services at DOD air stations and bases, weapons ranges, and onshore and offshore range complexes in the U.S. and internationally.  We develop technologically advanced military master planning tools by leveraging the latest in GIS and information technology.  We assist DOD installations with incorporating renewable energy and reducing their environmental footprint while sustaining mission requirements and maintaining positive relationships with the surrounding communities.

Federal Lands and Waters

Our federal lands and waters work includes planning/NEPA and other non-SAR work for federal clients including the U.S. Forest Service, the National Oceanic and Atmospheric Administration, the Bureau of Ocean Energy Management, and BLM.

International and Communications

Our International and Communications work encompasses international project development for telecommunications and offshore activities such as oil and gas, as well as joint opportunities with our Latin American subsidiaries and ongoing telecommunications work.

Resilient Communities

We help clients in building community resilience, emergency management planning, and disaster preparedness and recovery with an emphasis on planning, adaptation, and mitigating impacts of sea level rise and climate change.  We also help organizations and government agencies to become more resilient by assisting them to plan for, respond to, and recover from extreme disruptive events that can result in a wide range of cascading emergencies, with emphasis on building more resilient communities.  Our strength in meeting the challenges of disaster management, mitigation, prevention and recovery lies in the breadth of our multidisciplinary staff and resources and our rapid deployment capability.

Water and Ecosystem Restoration

Our restoration team provides invasive species management, stream and shoreline habitat restoration, bank stabilization, fish passage, and other services to clients and is focused on expanding over 20 years of experience in these areas to new clients and geographies. Funding for water and ecosystem restoration projects comes from Natural Resource Damage Assessment funds, federal programs, local agency contracts, and non-government organization and other grant-funded projects.

Contract Backlog

Firm backlog represents an estimate of gross revenue that will be recognized over the remaining life of the projects under contracts that are awarded, funded and in progress.  These projects include work to be performed under contracts which contain termination provisions that may be exercised without penalty at any time by our clients upon written notice to us, in which case the client would only be obligated to pay us for services provided through the termination date.  A significant portion of our revenue is generated through projects awarded under Master Service Agreements with our clients.  In these instances, only the current unfinished projects are included in our backlog.

Firm backlog by operating segment is summarized in the following table.

As of the end of fiscal year 2019, total firm backlog from U.S. and South American operations increased 11% and 38%, respectively, as compared to the end of the prior fiscal year, as new orders reported as additions to firm backlog exceeded work delivered on active projects.

In addition to the firm backlog summarized in the table above, we also have been awarded contracts in our U.S. operations that are partially or entirely unfunded, but which are expected to be partially or entirely funded during the remaining life of the associated projects.  Total unfunded backlog approximated $16.8 million and $10.5 million for our U.S. operations at July 31, 2019 and 2018, respectively.  Until these projects are funded, we cannot be certain regarding the value of gross revenue that we will recognize under these contracts.

Backlog is not a measure defined by generally accepted accounting principles in the United States (“U.S. GAAP”) and is not a measure of profitability. Our method for calculating backlog may not be comparable to methodologies used by other companies.

Competition

We are subject to competition with respect to each of the services that we provide.  We believe that no single entity currently dominates the environmental services industry or has the capability to serve the entire market.  Some of our competitors are larger than us, have greater financial and other resources than we do, or may be more specialized in certain disciplines or locations.  Other U.S. competitors have special status as small businesses, which allows them to compete for U.S. government contracts set-aside to be awarded exclusively to small business concerns.  We compete primarily on the basis of our reputation, quality of service, expertise, responsiveness and price.

Management Team and Employees

Our management and staff are comprised of individuals with advanced degrees representing scientific and engineering disciplines working together in multidisciplinary teams to provide innovative solutions.  The members of our executive management team have extensive experience in the environmental consulting industry.

As of July 31, 2019, we had 748 employees (644 full-time) in all of our offices, which included 434 employees (337 full-time) in domestic offices and 314 employees (307 full-time) in foreign offices of consolidated subsidiaries.

In March 2019, we initiated specific staff reduction initiatives pursuant to a plan to restructure the Company’s U.S. operations.  Refer to Item 7 of this Annual Report for additional commentary regarding the Staff Reduction Programs.

Item 1A.  Risk Factors

In addition to other information referenced in this report, we are subject to a number of specific risks, which are outlined below. If any of these events occur, our business, financial condition, profitability and the market price of our Class A Common Stock could be materially affected.

Risk Factors Related to the Pending Merger

Our business may be subject to uncertainties and other operating restrictions until completion of the Merger.

In connection with the pending Merger with WSP, our business may experience disruptions as customers, suppliers, and others may attempt to negotiate changes in existing business relationships or consider entering into business relationships with other parties.  Additionally, the Merger Agreement requires us to operate our business in the ordinary course pending consummation of the Merger and restricts us, subject to certain exceptions, including with WSP’s consent (not to be unreasonably withheld, conditioned or delayed), from taking certain specified actions until the Merger is completed.  These restrictions may affect our ability to execute our business strategies and attain our financial and other goals and may impact our financial condition, results of operations and cash flows.

We may have difficulty attracting, motivating and retaining key employees during the pendency of the Merger.

In connection with the pending Merger, current and prospective employees may experience uncertainty about their future roles with us following the Merger, which may adversely affect our ability to attract and retain key personnel while the Merger is pending.  Key employees may depart because of the uncertainty or potential difficulty of integration or a desire not to remain with the combined company following the Merger.

Although we are targeting completing the Merger in the fourth quarter of calendar year 2019, the expected timing for completion of the Merger could change and is uncertain.

We are targeting completing the Merger in the fourth quarter of calendar year 2019.  However, the completion of the Merger remains subject to the satisfaction or waiver of specified closing conditions, including the Company Stockholder Approval and applicable regulatory approvals.  In addition, certain other events that we do not have the ability to control, such as legal actions taken by or on behalf of our shareholders, may also affect the timing and/or likelihood of closing.  While we believe we will receive the requisite approvals, there can be no assurance that these and other conditions to closing will be satisfied on the proposed terms and schedules as contemplated by the parties or at all.  These and other conditions to the completion of the Merger may delay or preclude our ability to consummate the Merger.  As a result, the Merger may not be completed until after that time, or at all, and the effect of the risks and constraints relating to the pending Merger may be increased if the timing for the completion of the Merger is extended or becomes more uncertain.

If the Merger is not completed, the Company will have incurred substantial costs that will adversely affect the Company’s financial results and operations.

The Company has incurred and will continue to incur substantial costs in connection with the Merger.  The Company could be subject to litigation related to the Merger, which could result in significant costs and expenses. In addition to litigation-related expenses, the Company has incurred and will continue to incur costs and fees for professional services rendered in connection with the Merger.  In addition, the Company has diverted significant management resources in an effort to complete the Merger and continues to do so.  The Company is also subject to restrictions contained in the Merger Agreement on the conduct of the Company’s business during the pendency of the Merger.  If the Merger is not completed, the Company will have received little or no benefit with respect to such costs incurred and the restrictions on the Company’s conduct during the pendency of the Merger.  Moreover, the views of clients, vendors, employees and the financial markets as to the Company’s business and prospects may be adversely impacted if the Merger is not completed, even if the reason for the failure of the Merger to be completed did not relate to the Company’s business and prospects.  Finally, matters relating to the pending Merger will require substantial commitment of time and resources by our management, which would otherwise have been devoted to day-to-day operations and developing opportunities that may have been beneficial to us as an independent company.

If the Merger Agreement is terminated, we may, under certain circumstances, be obligated to pay a termination fee to WSP.

If the Merger Agreement is terminated in certain circumstances, we may be required to pay WSP a termination fee of $4.0 million or reimburse WSP for certain expenses of up to $1.75 million.  If the Merger Agreement is terminated, we may decide to pay the termination fee or the expense reimbursement from available cash that we would have otherwise used for general corporate purposes.  For these and other reasons, a failed Merger could materially adversely affect our business, operating results, financial condition, and cash flows, or the price per share of our Class A Common Stock.

Risk Factors Related to Our Markets and Clients

Changes in environmental laws and regulations, or fundamental changes in the operations of government agencies, could reduce demand or impact the timing for our services.

Most of our business is driven by laws and regulations related to the protection of the environment. The current U.S. government administration has declined to enforce some environmental laws and has repealed certain regulations, adversely impacting our ability to generate revenue.  Any further relaxation or repeal of these laws, or changes in governmental policies regarding the funding or enforcement of these laws, may have additional adverse impacts on our revenue.  Fundamental changes in the operations of government agencies (i.e., significant agency staff reductions, changes or delays in processes for awarding contracts, and decisions to shutdown portions of the U.S. federal government) also could impact the amount or timing of our revenue.  Also, reduced spending by governmental agencies may increase competition within our industry which may directly affect future revenue and profits.

As a federal government contractor, we are subject to a number of procurement laws and regulations and government agency audits.  Any violation of these laws could result in economic harm to our operations.

Revenue from U.S. government contracts represented 16%, 17% and 23% of total revenue for fiscal years 2019, 2018 and 2017, respectively.

We must comply with federal laws relating to the procurement and administration of government contracts.  Federal laws include the Federal Acquisition Regulation (“FAR”), the Truth in Negotiations Act, the Cost Accounting Standards (“CAS”), and the Service Contract Act.  These laws impact how we do business with government clients and can increase the cost of doing business.  In addition, in recent years, government agencies have mandated that their primary contractors utilize a higher portion of small and disadvantaged businesses as subcontractors.

Certain federal government agencies, such as EPA and the Defense Contract Audit Agency (“DCAA”), as well as numerous state agencies, routinely audit government contractors and their performance under specific contracts to determine if a contractor’s cost structure is compliant with applicable laws and regulations.  They may question the incurrence of certain costs based on the FAR and CAS and disallow those costs on their contracts.  These audits may occur several years after payment for services has been received.  Historically, we have been able to successfully defend against the disallowance of any significant costs.  However, future audits may uncover instances of noncompliance and result in material disallowances for costs previously incurred.  Such material disallowances could negatively affect revenue, profits and cash flow.

We depend on municipal, state and federal government work for a significant portion of our revenue.  Inability to win or renew government contracts during procurement cycles could significantly reduce our revenue and profits.

Government contracts are typically awarded through a highly regulated procurement process.  Some government contracts are awarded to multiple competitors, causing increased competition and downward pricing pressure.  Inability to win or renew government contracts could adversely affect our operations and significantly reduce our revenue and profits.  In addition, if we cannot reduce or control costs associated with these contracts, we may not be able to bid competitively, or unexpected losses on these contracts may occur.

Our commercial clients may be acquired by other entities or may elect to sell their interest in ongoing projects to other entities.  These transactions would subject us to increased risk of contract terminations or renegotiations.

If our commercial clients sell their interest in ongoing projects or are acquired by other entities, we may not be able to control or influence decisions made by the acquiring company regarding the ongoing contractual relationships of our client, including decisions to modify contracts to mitigate conflict of interest, terminate existing contracts or to award future contracts.  Such decisions by acquiring companies to terminate existing contracts, or to exclude us when awarding future contracts, could have an adverse impact on our revenues and results of operations. Additionally, poor global and domestic economic conditions could impact the availability of funding for certain private environmental projects causing significant delay or cancellation of projects.

Failure to retain or renew significant contracts with certain government and key commercial clients.

Several factors can impact our ability to retain or renew significant contracts, including completion of projects in the normal course of business, transfers of ownership of our clients or their projects and client acceptance of novation of our contracts if we are acquired by, or merged with, another company.  Our failure to maintain contracts that contribute a material amount to our annual revenue could significantly reduce our income and profits if we are unable to enter into more or other contracts with new clients for similar values within the fiscal year.

Risk Factors Related to Our Operations

 

Our South American operations are subject to a number of risks.

Gross revenue from our South American operations represented 20%, 21% and 16% of consolidated gross revenue for fiscal years 2019, 2018 and 2017, respectively.  Compared with our U.S. operations, our South American operations are subject to a number of heightened risks, including:

Failure to manage these risks effectively may result in a negative impact on our future revenue, earnings, financial position and liquidity.

Failure to attract and retain key employees due to our current corporate reorganization and to our planned Merger with WSP could impair our ability to provide quality service to our clients.

We provide professional and technical services that depend on our ability to attract, retain and train our professional employees to conduct our business and perform our obligations to ensure success.  Impacts from the Staff Reduction Programs (as defined in Item 7 of this Annual Report) and from our planned Merger with WSP may result in our senior management team and other key employees that are essential to our profitability and success leaving the Company, leaving us with insufficient experienced personnel to service our clients and run our operations.  Failure to effectively develop staff and complete succession planning for key senior management roles could adversely affect customer relationships, the quality of work that we complete for our clients and business development efforts.

Failure to appoint a permanent chief executive officer in a timely manner could have a detrimental impact on our corporate strategy and success.

Failure to appoint a permanent chief executive officer with the desired level of experience and expertise, versus an executive chairman and operating committee leading the Company, in a timely manner may impact employee, client and shareholder confidence in the Company’s ability to have and implement a consistent strategic plan to perform and prosper, which could have an adverse impact on our business, results of operations and financial condition.

Extraordinary events, including natural disasters and terrorist actions, could negatively impact the economies in which we operate or disrupt our operations.

The geographic areas of our operations include regions that have experienced hurricanes, earthquakes and forest fires.  The occurrence of extraordinary events such as these, as well as other natural disasters or terrorist actions, could cause the delay or cancellation of projects, closure of offices, and the evacuation or loss of personnel.  Such events could limit or disrupt markets and our operations, which could have a negative impact on our business, financial condition, and results of operations or cash flows.

Failure to establish and maintain effective internal controls over financial reporting has resulted in, and may in the future result in, material misstatements in our financial statements.

Our management is responsible for establishing and maintaining adequate internal controls over financial reporting. Management concluded that our controls over financial reporting were not effective as of July 31, 2018 due to material weaknesses related to the Company’s accounting for its majority investment in GAC, income taxes and the financial statement close process.  Although we believe that we effectively remediated these material weaknesses during fiscal year 2019, implementation of measures to remediate these material weaknesses may prove to be ineffective or inadequate and the Company may still be exposed to risk of misstatements in its financial statements.  Investors and other users of the Company’s financial statements could lose confidence in the reliability of the Company’s financial information.  The Company could be obligated to incur additional costs to improve the Company’s internal controls, which may adversely affect the Company’s reputation and its operating prospects.  Further, if additional material weaknesses or significant deficiencies in our internal controls are discovered or occur in the future, our consolidated financial statements may contain material errors and misstatements, and we could be required to restate financial results reported in prior periods.

Internal information technology systems or service failures could disrupt our business and impair our ability to effectively provide our services and products to our clients, which could damage our reputation and adversely affect our revenue, profitability and operating results.

Our information technology systems are subject to potential failures, including network, software or hardware failures, whether caused by us, third-party service providers, intruders or hackers, computer viruses, natural disasters, power shortages or terrorist attacks. Any such failures could cause loss of data and interruptions or delays in our business, cause us to incur remediation costs, subject us to claims and damage our reputation. Failure or disruption of our communications or utilities could cause us to interrupt or suspend our operations or otherwise adversely affect our business. Any system or service disruptions if not anticipated and appropriately mitigated could have a material adverse effect on our business including, among other things, an adverse effect on our ability to bill our clients for work performed on our contracts, collect the amounts that have been billed and produce accurate financial statements in a timely manner. Our property and business interruption insurance may be inadequate to compensate us for all losses that may occur as a result of any system or operational failure or disruption and, as a result, our results of operations could be materially and adversely affected. We have invested and will continue to pursue further investments in systems that will allow us to achieve and remain in compliance with the regulations governing our business; however, there can be no assurance that such systems will be effective at achieving and maintaining compliance or that we will not incur additional costs in order to make such systems effective.

Risk Factors Related to Ownership and Corporate Governance

Voting rights of certain directors could block or discourage a change in control.

Two of EEI’s current directors owned or controlled approximately 41% of the outstanding shares of Class B Common Stock as of October 4, 2019.  Each share of EEI’s outstanding Class B Common Stock has one vote, while each share of Class A Common Stock is equivalent to one-tenth of a vote.  In addition, since the Company qualifies for the Nasdaq “controlled company exception,” there exists a group of holders of Class B Common Stock, composed principally of certain of the Company’s current directors and executive officers and members of their families (the “CCE Group”), that controls greater than 50% of the votes that may be cast for any proposal at a shareholders meeting.  This concentration of voting control by the CCE Group may effectively prevent any influence by other holders of Class A or Class B Common Stock over matters submitted to a vote by all shareholders.

As a result, the CCE Group has effective control over the outcome of votes on all matters requiring approval by a majority of the outstanding shares of stock held by our shareholders, including significant corporate transactions such as mergers, tender offers and the sale of all or substantially all of our assets. The interests of the CCE Group could conflict with or differ from the Company’s interests or the interests of other shareholders. For example, the concentration of ownership held by the CCE Group could discourage, delay, defer or prevent a change of control of the Company or impede a merger, takeover or other business combination which may otherwise be favorable for us or the Company’s other shareholders.

Item 1B.  Unresolved Staff Comments

None.

         

We own our corporate headquarters (60,000 square feet), which is located in Lancaster, New York, a suburb of Buffalo, New York.  The corporate headquarters building also serves as our Buffalo regional office.  As of July 31, 2019, we also operated in 24 leased regional offices in the United States and four leased offices in foreign locations.

Item 3.  Legal Proceedings

From time to time, the Company is a named defendant in legal actions arising out of the normal course of business.  The Company is party to certain pending legal proceedings, the resolution of which management believes may have a material adverse effect on the Company’s results of operations, financial condition or cash flows.  The Company maintains liability insurance against risks arising out of the normal course of business.  The Company’s legal proceedings are disclosed in Note 21 of the Consolidated Financial Statements, which are included in Item 8 of this Annual Report.

Not Applicable.

PART II

 

Item 5.  Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

Principal Market for EEI Common Stock

The Company’s Class A Common Stock is listed on the Nasdaq Stock Market under the symbol “EEI”.  There is no separate market for the Company’s Class B Common Stock.  

Holders of Common Stock

As of October 4, 2019, 3,138,323 shares of the Company’s Class A Common Stock were outstanding and there were 243 holders of record of the Company’s Class A Common Stock.  We estimate that the Company has a significantly greater number of Class A Common Stock shareholders because a substantial number of the Company’s shares are held in street name.

As of October 4, 2019, 1,191,678 shares of the Company’s Class B Common Stock were outstanding and there were 40 holders of record of the Class B Common Stock.

Dividends

The Company’s Certificate of Incorporation provides that any cash or property dividend paid on Class A Common Stock must be at least equal to the cash or property dividend paid on Class B Common Stock on a per share basis.  The amount, if any, of future dividends is determined at the discretion of the Company’s Board of Directors and depends upon the Company’s future earnings, financial condition, liquidity requirements and other factors as determined by the Board of Directors.

Including fiscal year 2019, the Company has declared semi-annual dividends for 33 consecutive years.  The Company declared dividends totaling $0.40 per common share during fiscal years 2019, 2018 and 2017.

The Merger Agreement described in Item 1 of this Annual Report provides that record holders of Company Shares as of the close of business on the last business day prior to the effective date of the Merger, including any shares that are then unvested and subject to restrictions, will receive the Special Dividend to be paid shortly after the Closing of the Merger.  The payment of the Special Dividend is conditioned on completion of the Merger, and the Special Dividend will be paid without interest and subject to applicable tax withholding.  The amount of the Special Dividend is subject to pro rata reduction if certain expenses incurred by the Company in connection with the Merger exceed $3.05 million in the aggregate, as further described in the Merger Agreement.

Equity Compensation Plan Information

EEI adopted the 1998 Stock Award Plan effective March 16, 1998.  This plan, together with supplemental plans that were subsequently adopted by the Company’s Board of Directors and ratified by the Company’s shareholders, the latest being approved by the Company’s shareholders in April 2017, is referred to as the “Stock Award Plan”.  Equity compensation plan information as of July 31, 2019 is summarized in the following table.

Refer to Note 15 of the Consolidated Financial Statements, included in Item 8 of this Annual Report, for additional information regarding the Stock Award Plan.

Purchased Equity Securities

In August 2010, the Company’s Board of Directors approved a 200,000 share repurchase program.  The following table summarizes the Company’s purchases of its common stock during the fourth quarter of fiscal year 2019 under this share repurchase program.

Item 7.  Management’s Discussion and Analysis of Financial Condition and Results of Operations

Results of Operations

Fiscal Year 2019 Operations Overview

Selected financial information by operating segment is summarized in the following table.

Gross margin represents gross revenue less cost of professional services and other direct operating expenses and subcontract costs.  As a percentage of gross revenue, consolidated gross margin increased to 43.9% for fiscal year 2019 from 43.7% for the prior fiscal year.  Higher combined gross margin from our South American subsidiaries was offset by lower gross margin from U.S. operations.

Expenses Associated with Staff Reduction Programs

In December 2018, the Company began to notify employees of a voluntary retirement program.  In February 2019, the Company began to notify affected employees of an involuntary separation program.  These programs (collectively, the “Staff Reduction Programs”), which were being implemented in connection with a corporate restructuring plan within the Company’s U.S. operating segment, were substantially completed by July 31, 2019 and are expected to be completed by December 31, 2019. Company management anticipates that the combined effect of the Staff Reduction Programs and other expense reduction initiatives will result in annual pre-tax expense reductions of greater than $6.0 million.  Management is considering re-investing a portion of these expense reductions into specific strategies and programs intended to expand business opportunities and increase revenues.  During the second half of fiscal year 2019, the Company’s U.S. operating segment recorded and paid approximately $1.0 million of employee severance and termination expenses related to the Staff Reduction Programs.  These expenses were reported in selling, general and administrative expenses on the consolidated statements of operations.  The Company expects to record additional severance expense of less than $0.1 million during the three months ended October 26, 2019 in connection with the Staff Reduction Programs.

Expenses Associated with Restatements of Financial Statements

During fiscal year 2019, the Company restated audited consolidated financial statements for the fiscal years ended July 31, 2016 and 2017 and unaudited condensed consolidated financial statements for the quarters ended October 28, 2017, January 27, 2018 and April 28, 2018 (the “Financial Statement Restatements”).  Financial data included in tables and various accounting policies and commentaries included in the Company’s fiscal year 2018 Annual Report and quarterly reports for the 2019 fiscal quarters were also restated or otherwise revised.  These restatements required extensive internal and external resources to complete, including significant incremental fees paid to the Company’s independent auditors, tax consultants and external legal counsel.  During the second half of fiscal year 2019, the Company’s U.S. operating segment recorded and paid incremental audit, tax and legal expenses of approximately $1.0 million as a result of the restatements described above.  These expenses were reported as selling, general and administrative expenses on the consolidated statements of operations.

Expenses Associated with the Merger Agreement

The Company accrued approximately $0.3 million of expenses in its U.S. operating segment during the fourth quarter of fiscal year 2019 related to the Merger Agreement described in Item 1 of this Annual Report.  These expenses were reported in selling, general and administrative expenses on the consolidated statements of operations.

Realizability of Deferred Tax Assets

The Company periodically evaluates the likelihood of realization of deferred tax assets and provides for a valuation allowance if it is “more likely than not” that the related tax benefits will not be realized.  In July 2019, we recorded the following transactions related to our evaluation of the realization of deferred tax assets recorded in our South American operations:

Gross revenue represents revenue recognized for the services provided to our clients, adjusted for the impacts of cost overruns or settlements recorded upon completion and close out of a project.  Gross revenue less subcontract costs is a key metric utilized by management for operational monitoring and decision-making.  References to “revenue” in the following commentary refers to gross revenue less subcontract costs, which is summarized by operating segment in the following table.

 

Fiscal Year 2019 Versus 2018

Consolidated revenues decreased 1% during fiscal year 2019, 8% revenue growth from operations in South America were offset by 3% lower revenue from U.S. operations.

Our U.S. operations experienced continued revenue growth from survey, impact assessment, planning and data management services provided to clients in the LNG, offshore resources and resilient communities markets.  However, this revenue growth was more than offset by combined decreases in revenue from the pipeline, onshore renewables, armed services and site assessment and remediation markets, as projects completed during fiscal year 2018 and the first nine months of fiscal year 2019 were not replaced with new work of comparable size.  In addition, the federal government shutdown that occurred during the second quarter of fiscal year 2019 delayed new work authorizations, affected ongoing project schedules and postponed revenue delivery on various federal government contracts into the fourth quarter of fiscal year 2019.

Revenue from our Peruvian operations decreased 28% during fiscal year 2019, due mainly to lower project volumes with commercial clients in the energy sector.

Revenue from our Brazilian operations increased 32% during fiscal year 2019, compared with the prior year. In local currency, revenue from our Brazilian operations increased 38% fiscal year 2019 due mainly to increased project volumes with commercial clients in the transmission, energy and mining sectors.  Strengthening of the U.S. dollar compared to the Brazilian Real during fiscal year 2019 significantly offset the positive impact of higher project volumes.

Fiscal Year 2018 Versus 2017

Lower revenue from our U.S. operations during fiscal year 2018 primarily resulted from depressed activity in our core markets, particularly energy and federal government sectors.  We have experienced a trend of longer periods being required for current or potential clients to make contract award decisions, particularly within liquid natural gas and transmission markets.  We have also experienced a trend of longer periods required for clients to release contract scopes and delivery schedules, particularly within our energy, international cable and federal DOD markets.

In addition, final settlements of project disallowances resulted in a $1.1 million increase in gross revenue during fiscal year 2017.  We did not record any similar activity during fiscal year 2018.

Higher revenue from our Brazilian operations during fiscal year 2018 resulted from increased project activity in the energy transmission, seismic, and wind sectors.  An economic downturn that adversely affected our Brazilian operations for several previous reporting periods stabilized during fiscal year 2017 and fiscal year 2018, resulting in additional business development opportunities.  The mix of contract work along with changes in our pricing strategy generated a higher average selling rate in fiscal year 2018, as compared to fiscal year 2017.

Higher revenue from our Peruvian operations during fiscal year 2018 resulted from increased project activity within the energy sector.  Increases in mineral prices, gas demand and private and public investments in energy projects each contributed to strong revenue growth in Peru.

The direct cost of services represents labor and other direct costs of providing services to our clients under our project agreements.  These costs, and fluctuations in these costs, generally correlate directly with related project work volumes and revenue.  Direct cost of services, by operating segment, are summarized in the following table.

Comparative increases and/or decreases in cost of professional services and other direct operating expenses within operating segments were generally consistent with corresponding changes in operating segment revenue.

 

Selling, general and administrative (“SG&A”) expenses represent operating costs not directly associated with the generation of revenue.  Selling, general and administrative expenses by operating segment are summarized in the following table.

Fiscal Year 2019 Versus 2018

Consolidated SG&A expenses decreased 1% during fiscal year 2019, as 1% lower expenses from our U.S. operations were partially offset by slightly higher expenses from South America operations.

Expenses associated with the Staff Reduction Programs, Financial Statement Restatements and Merger Agreement (as summarized above) were a combined $2.3 million, all of which were recorded as SG&A expenses in our U.S. operations.  Excluding these incremental nonrecurring expenses, SG&A expenses in our U.S. operating segment would have decreased $3.2 million (10%) during fiscal year 2019.  These decreases primarily resulted from a concerted effort by management to reduce operating expenses, including initial impacts of the Staff Reduction Programs described above.

SG&A expenses in our Peruvian operations decreased 13% during fiscal year 2019.  Management in Peru implemented targeted expense reductions in response to lower project volumes and lower expectations for future work.

SG&A expenses in our Brazilian operations increased 15% during fiscal year 2019.  In local currency, staff and other costs increased 31% during fiscal year 2019 due to increased project proposal activity and increased general and administrative costs to support higher project volumes and expanded operations.  Strengthening of the U.S. dollar compared to the Brazilian Real significantly offset the increases in expenses due to expanded operations.

Fiscal Year 2018 Versus 2017

The increase in SG&A expenses from U.S. operations during fiscal year 2018 was a result of higher business development related expenses due to focus on specific expanded marketing initiatives and proposal activity.  Higher business development related expenses were partially offset by lower bad debt expenses, primarily due to the collection of a previously reserved account receivable.

SG&A expenses increased within our Brazilian operations to support the increases in the volume of business development activity and gross revenue during fiscal year 2018 as compared to fiscal year 2017.   

The following table provides a summary of the Company’s equity method investment in GAC.

Activity recorded for the Company’s equity method investment in GAC is summarized in the following table.

GAC net income attributable to EEI is reported as income from equity method investment on the Company’s consolidated statements of operations.  The results of GAC’s operations for fiscal years 2019, 2018 and 2017 are summarized in the following table.

Higher revenue and operating expenses for GAC during fiscal year 2019 were due to expanded business development activities and increased project volumes within the transmission, industrial and mining sectors.  Improved mineral prices continued to result in additional project opportunities during fiscal year 2019.

The income tax (benefit) provision resulting from domestic and foreign operations is summarized in the following table.

On December 22, 2017, the U.S. government enacted the Tax Cuts and Jobs Act (the “Tax Act”), which significantly revised U.S. corporate income tax regulations including, among other things, lowering U.S. corporate income tax rates and implementing a territorial tax system.  The Tax Act lowered our statutory federal tax rate from 34.0% (effective through December 31, 2017) to 21.0% (effective January 1, 2018).  As we have a July 31 fiscal year-end, the lower corporate income tax rate was phased in, resulting in an average statutory federal tax rate of approximately 26.5% for the fiscal year ending July 31, 2018, and 21.0% for subsequent fiscal years.

A reconciliation between the statutory U.S. income tax rate and the income tax (benefit) provision reported on the consolidated statements of operations is summarized in the following table.  The table also provides comparisons of the significant components of our income tax (benefit) provision for fiscal years 2019, 2018 and 2017.

Fiscal Year 2019 Consolidated Tax Benefit

Despite reporting a $1.3 million pre-tax loss, which normally would result in an income tax benefit, our U.S. operations recorded income tax expense of $0.1 million for fiscal year 2019, due to the following significant factors:

Despite reporting $0.5 million of pre-tax earnings, which normally would result in income tax expense, our South American operations recorded an income tax benefit of $0.8 million for fiscal year 2019.  The income tax benefit was primarily driven by reversal of a $1.6 million valuation allowance against deferred tax assets recognized in Brazil, which was partially offset by a new valuation allowance against deferred tax assets recognized in Peru.

Fiscal Year 2018 Consolidated Tax Provision

Despite reporting a pre-tax loss of $0.9 million for fiscal year 2018, which normally would result in a tax benefit, our U.S. operations recorded income tax expense of $0.2 million mainly due to the one-time adjustments related to the enactment of the Tax Act.  Excluding these one-time adjustments, our domestic operations would have reported a tax benefit and an effective tax rate of approximately 28.5%.

Our South American operations reported income tax expense of $0.1 million on $1.1 million of pre-tax earnings, resulting in an effective tax rate of approximately 7.3%.  The lower effective tax rate of our South American operations in Brazil was a result of the utilization of net operating losses for which a full valuation allowance was previously recorded.  As a result, only current tax expense was recorded for fiscal year 2018, as usage of those net operating losses were limited.

Liquidity and Capital Resources

Cash, cash equivalents and restricted cash decreased $0.2 million during fiscal year 2019 to $13.6 million at July 31, 2019.

Our Board of Directors considers the approval of dividends to our shareholders based on various operating parameters, including available cash balances, results of current operations and projections of future operating results and cash flows.  Excluding the payment of $1.7 million of cash dividends, which were approved on a discretionary basis by the Company’s Board of Directors, cash generated from operations exceeded cash required to fund investing and financing activities by $1.5 million during fiscal year 2019, a decrease of $0.8 million from $2.3 million for the prior fiscal year.

Our U.S. operations had $32.5 million of unsecured lines of credit available for working capital and letters of credit at July 31, 2019, of which less than $0.1 million of letters of credit were outstanding at July 31, 2019.  Our lenders have reaffirmed these lines of credit within the past twelve months.  We believe that available cash balances in our domestic companies, anticipated cash flows from U.S. operations, and our available lines of credit will be sufficient to cover working capital requirements of our U.S. operations during the next twelve months and the foreseeable future.

Our South American operations had $3.1 million of unsecured lines of credit available for working capital and letters of credit at July 31, 2018, of which $1.6 million of letters of credit were outstanding at July 31, 2019.  Our lenders have reaffirmed these lines of credit within the past twelve months.  During fiscal years 2016 and 2017, our South American operations were affected by adverse global and local economic conditions.  Although we currently believe that available cash balances, anticipated cash flows, and available lines of credit will be sufficient to cover working capital requirements of our South American operations in the near future, economic uncertainty and volatility is an ongoing risk for our South American operations, which may challenge our liquidity position in the longer term.  In the event that these subsidiaries are unable to generate adequate cash flow to fund their operations, additional funding from EEI or lending institutions will be considered.

Excess cash accumulated by any foreign subsidiary, beyond that necessary to fund operations or business expansion, may be repatriated to the U.S. at the discretion of the Boards of Directors of the respective entities.  The Company repatriated $0.8 million of dividends from foreign subsidiaries, net of local taxes, during fiscal year 2019.

Contract Receivable Concentrations

Significant concentrations of current contract receivables and the related allowance for doubtful accounts are summarized in the following table.

The current allowance for doubtful accounts for the Company’s South American operations represented 9% and 13% of related contract receivables at July 31, 2019 and 2018, respectively.  Unstable local economies that adversely impacted certain of our South American clients in recent years demonstrated signs of stabilizing during fiscal years 2018 and 2019.  Management continues to monitor trends and events that may adversely impact the realizability of recorded receivables from our South American clients.

Recent Accounting Pronouncements

A summary of recent accounting pronouncements is provided in Note 2 of the Consolidated Financial Statements, included in Item 8 of this Annual Report.

Critical Accounting Policies

The preceding discussion and analysis of financial condition and results of operations are based on our consolidated financial statements, which have been prepared in conformity with accounting principles generally accepted in the United States.  The significant accounting policies used in the preparation of our consolidated financial statements are more fully described in Note 3 of the Consolidated Financial Statements, included in Item 8 of this Annual Report.

Certain of our significant accounting policies require complex judgments to estimate values of assets and liabilities.  In making these judgments, management must make certain estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses.  Because changes in such estimates and assumptions could significantly affect our reported financial position and results of operations, detailed policies and control procedures have been established to ensure that valuation methods, including judgments made as part of such methods, are well controlled, independently reviewed, and are applied consistently from period to period.

On an on-going basis, we evaluate our estimates to ensure that they are based on assumptions that we believe to be reasonable under current circumstances.  Our actual results may differ from these estimates and assumptions.

Of the significant policies used to prepare our consolidated financial statements, the items discussed below require critical accounting estimates involving a high degree of judgment and complexity.  For all of these critical policies, we caution that future events rarely develop exactly as forecasted, and the best estimates routinely require adjustment.  This information should be read in conjunction with our consolidated financial statements included herein.

Revenue Recognition

Substantially all of the Company’s revenue is derived from environmental consulting work, which is principally derived from the sale of labor hours.  Revenue reflected in the Company’s consolidated statements of operations represent services rendered for which the Company maintains a primary contractual relationship with its customers.  Included in revenue are certain services outside the Company’s normal operations which the Company has elected to subcontract to other contractors.  

Contracts are required from all customers within our U.S. and South American operations.  Consulting work within our U.S. operations is performed under a mix of time and materials, fixed price and cost-plus contracts.  Consulting work within our South American operations is conducted primarily under fixed price contracts.  Gross revenue associated with these contract types is summarized in the following table.

The Company accounts for time and material contracts over the period of performance, predominately based on labor hours incurred.  Under these types of contracts, there is no predetermined fee.  Instead, the Company negotiates hourly billing rates and charges the clients based upon actual hours expended on a project.  In addition, any direct project expenditures are passed through to the client and are typically reimbursed.  Time and materials contracts may contain “not to exceed” provisions that effectively cap the amount of revenue that the Company can bill to the client.  In order to record revenue that exceeds the billing cap, the Company must obtain approval from the client for expanded scope or increased pricing.

The Company accounts for fixed price contracts over time, based on progress determined by the ratio of efforts expended to date in proportion to total efforts expected to be expended over the life of a contract. This revenue recognition method requires the use of estimates and judgment regarding a project’s expected revenue and the extent of progress towards completion.  The Company makes periodic estimates of progress towards project completion by analyzing efforts expended to date, plus an estimate of the amount of efforts to expend that we expect to incur until the completion of the project.  Revenue is then calculated on a cumulative basis (project-to-date) as the proportion of efforts-expended.  The revenue for the current period is calculated as cumulative revenue less project revenue already recognized.  If an estimate of efforts expended at completion on any contract indicates that a loss will be incurred, the entire estimated loss is charged to operations in the period the loss becomes evident.

The recognition of revenue and profit on fixed price contracts under the proportional performance method is dependent upon estimates of revenue and progress towards completion, which can be difficult to accurately determine until a project is significantly underway.  We have a history of making dependable estimates of the extent of revenue and progress towards completion.  However, due to uncertainties inherent in the estimation process, actual revenue recorded over the life of a contract may occasionally vary significantly from estimates.

Cost-plus contracts provide for payment of allowable incurred efforts expended, to the extent prescribed in the contract, plus fees that are recorded as revenue.  These contracts establish an estimate of total efforts to be expended and an invoicing ceiling that the contractor may not exceed without the approval of the client.  Revenue earned from cost-plus contracts is recognized over the period of performance.

Substantially all of the Company’s cost-plus contracts are with federal governmental agencies and, as such, are subject to audits after contract completion.  Government audits have been completed and final rates have been negotiated through fiscal year 2014.  The Company records an allowance for project disallowances in other accrued liabilities for potential disallowances resulting from government audits.  Allowances for project disallowances are recorded as adjustments to revenue when the amounts are estimable.  Resolution of these amounts is dependent upon the results of government audits and other formal contract close-out procedures. 

Federal government contracts are subject to the FAR and some state and local governmental agencies require audits, which are performed for the most part by the DCAA.  The DCAA audits project proposals, incurred costs used to calculate overhead rates, direct costs incurred on government contracts, and internal control systems.  During the course of its audits, the DCAA may question incurred costs if it believes our accounting for such costs is inconsistent with the requirements of the FAR or CAS and recommend that our U.S. government financial administrative contracting officer disallow such costs.  Historically, we have not experienced significant disallowed costs as a result of such audits.  However, we can provide no assurance that such audits will not result in material disallowances of incurred costs in the future.

Change orders can occur when changes in scope are made after project work has begun and can be initiated by either the Company or its clients.  Claims are amounts in excess of the agreed contract price which the Company seeks to recover from a client for customer delays and/or errors or unapproved change orders that are in dispute.  The Company recognizes costs related to change orders and claims as incurred.  Revenue and profit are recognized on change orders when it is probable that the change order will be approved by both the client and the Company, and the amount can be reasonably estimated.  Revenue is recognized only up to the amount of costs incurred on contract claims when realization is probable, estimable and reasonable support from the customer exists.

The Company expenses all bid and proposal and other pre-contract costs as incurred.  Out of pocket expenses such as travel, meals, field supplies, and other costs billed direct to contracts are included in both revenue and cost of professional services.  Sales and cost of sales within the Company’s South American operations exclude value added tax (VAT) assessments by governmental authorities, which the Company collects from its customers and remits to governmental authorities.

The Company reduces contract receivables by recording an allowance for doubtful accounts to account for the estimated impact of collection issues resulting from a client’s inability or unwillingness to pay valid obligations to the Company.  The resulting provision for doubtful accounts is recorded within selling, general and administrative expenses on the consolidated statements of operations.

Goodwill

We allocate goodwill to reporting units based on the reporting unit expected to benefit from the business combination. We evaluate our reporting units at least annually and, if necessary, reassign goodwill using a relative fair value allocation approach. Goodwill is tested for impairment at the reporting unit level (operating segment or one level below an operating segment) on an annual basis and between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying value. These events or circumstances could include a significant change in the business climate, legal factors, operating performance indicators, competition, or sale or disposition of a significant portion of a reporting unit.

Application of the goodwill impairment test requires judgment regarding the identification of reporting units, assignment of assets and liabilities to reporting units, assignment of goodwill to reporting units, and determination of the fair value of each reporting unit.  The fair value of each reporting unit is estimated through the use of a discounted cash flow methodology.  The goodwill impairment test model also requires significant judgments regarding assumptions used in the model, including estimation of future cash flows that is dependent on internal forecasts, estimation of the long-term rate of growth for our business, estimation of the life over which cash flows will occur, and determination of our weighted average cost of capital.  The estimates used to calculate the fair value of a reporting unit change from year to year based on operating results, market conditions, and other factors. Should future earnings and projected cash flows of our reporting units decline and/or should general economic factors deteriorate, future impairment charges to goodwill may be recognized.

The Company has assigned goodwill of $0.9 million to a single reporting unit.  Based on the annual impairment assessment completed at July 31, 2019, the calculated fair value of the reporting unit to which goodwill is assigned exceeded its book value by approximately 28%, indicating no impairment of goodwill.

Income Taxes

We operate within multiple tax jurisdictions in the United States and in foreign countries.  The calculations of income tax expense or benefit and related balance sheet amounts involve a high degree of management judgment regarding estimates of the timing and probability of recognition of revenue and deductions.  The interpretation of tax laws involves uncertainty, since tax authorities may interpret laws differently than we do.  We are subject to audit in all of our tax jurisdictions, which may involve complex issues and may require an extended period of time to resolve.  Ultimate resolution of tax matters may result in favorable or unfavorable impacts to our net income and/or cash flows.  In management’s opinion, adequate reserves have been recorded for any future taxes that may be owed as a result of examination by any taxing authority.

A tax position is a position in a previous tax filing or a position expected to be taken in a future tax filing that is reflected in measuring current or deferred income tax assets and liabilities. Tax positions shall be recognized when, in management’s judgement, it is “more likely than not” (as defined under U.S. GAAP) that the position will be sustained.  Tax positions that meet the “more likely than not” definition shall be measured at the largest amount of tax impact that is likely to be realized upon settlement.  We recognize interest accrued related to unrecognized tax benefits in interest expense and penalties in selling, general and administrative expenses.  Whether the more-likely-than-not recognition threshold is met for a tax position, is a matter of judgment based on the individual facts and circumstances of that position evaluated in light of all available evidence.  The Company had no uncertain tax positions at July 31, 2019 and 2018.

Deferred income taxes reflect the net tax effects of temporary differences between the carrying amount of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes using enacted tax rates expected to be in effect for the year in which the temporary differences are expected to reverse.  Our policy is to establish a valuation allowance if it is “more likely than not” that the related tax benefits will not be realized.  At July 31, 2019 and 2018, we determined based on available evidence, including historical financial results for the last three years and forecasts of future results, that it is “more likely than not” that a portion of these items may not be recoverable in the future.  Accordingly, we maintained total valuation allowances of $0.8 million and $2.0 million as a reduction of deferred tax assets at July 31, 2019 and 2018, respectively.  The decrease in the valuation allowance mainly resulted from reversal of a $1.6 million valuation allowance previously established in Brazil, which was partially offset by establishment of a valuation allowance in Peru.

The valuation allowance related to deferred tax assets is considered to be a critical estimate because, in assessing the likelihood of realization of deferred tax assets, management considers taxable income trends and forecasts.  Actual income taxes expensed and/or paid could vary from estimated amounts due to the impacts of various factors, including:

Inflation

During fiscal years 2019, 2018 and 2017, inflation did not have a material impact on our business because a significant amount of our contracts are either cost based or contain commercial rates for services that are adjusted annually.

Off-Balance Sheet Arrangements

We had outstanding letters of credit drawn under our lines of credit of $1.6 million and $1.7 million at July 31, 2019 and 2018, respectively.  Other than these letters of credit, we did not have any off-balance sheet arrangements as of July 31, 2019 or 2018.

 

Item 8.  Financial Statements and Supplementary Data

Ecology and Environment Inc.

Consolidated Balance Sheets

(amounts in thousands, except share data)

		Balance at
		July 31, 2019				July 31, 2018
Assets
Current assets:
Cash and cash equivalents		$	13,344			$	13,496
Investment securities available for sale			1,577				1,497
Contract receivables, net of allowance for doubtful accounts and contract adjustments of $1,004 and $1,284, respectively			25,087				25,615
Income tax receivable			912				1,230
Other current assets			2,078				1,752
Total current assets			42,998				43,590
Property, buildings and equipment, net of accumulated depreciation of $17,066 and $16,799, respectively			3,253				3,870
Deferred income taxes			2,130				789
Equity method investment			1,658				2,058
Other assets			1,771				2,522
Total assets		$	51,810			$	52,829
Liabilities and Shareholders’ Equity
Current liabilities:
Accounts payable		$	6,099			$	5,635
Lines of credit			284				-
Accrued payroll costs			6,661				6,066
Current portion of long-term debt and capital lease obligations			41				54
Customer deposits			3,551				3,191
Other accrued liabilities			1,386				1,382
Total current liabilities			18,022				16,328
Long-term debt and capital lease obligations			13				54
Commitments and contingencies (Note 20)			-				-
Shareholders’ equity:
Preferred stock, par value $.01 per share (2,000,000 shares authorized; no shares issued)			-				-
Class A common stock, par value $.01 per share (6,000,000 shares authorized; 3,192,990 and 3,041,911 shares issued, respectively)			32				30
Class B common stock, par value $.01 per share; (10,000,000 shares authorized; 1,200,735 and 1,351,814 shares issued, respectively)			12				14
Capital in excess of par value			16,964				17,558
Retained earnings			18,687				20,973
Accumulated other comprehensive loss			(2,098	)			(1,885	)
Treasury stock, at cost (Class A common: 64,823 and 15,789 shares, respectively; Class B common: 0 and 64,801 shares, respectively)			(729	)			(907	)
Total Ecology and Environment Inc. shareholders’ equity			32,868				35,783
Noncontrolling interests			907				664
Total shareholders’ equity			33,775				36,447
Total liabilities and shareholders’ equity		$	51,810			$	52,829
The accompanying notes are an integral part of these condensed consolidated financial statements.

Ecology and Environment Inc.

Consolidated Statements of Operations

(amounts in thousands, except share data)

		Fiscal Year Ended July 31,
		2019				2018				2017
Revenue, net		$	88,510			$	90,684			$	96,083
Cost of professional services and other direct operating expenses			34,228				33,855				36,179
Subcontract costs			15,859				17,191				15,975
Selling, general and administrative expenses			38,820				39,257				38,139
Depreciation and amortization			1,022				1,083				994
(Loss) income from operations			(1,419	)			(702	)			4,796
Equity investment income			346				595				368
Net interest income			237				114				29
Net foreign exchange gain (loss)			4				(11	)			(86	)
Proxy contest costs, net			-				-				(375	)
Other income (expense)			58				158				(54	)
(Loss) Income before income tax provision			(774	)			154				4,678
Income tax (benefit) provision			(664	)			258				2,167
Net income (loss)			(110	)			(104	)			2,511
Net (income) loss attributable to the noncontrolling interest			(444	)			(204	)			312
Net (loss) income attributable to Ecology and Environment Inc.		$	(554	)		$	(308	)		$	2,823
Net (loss) income per common share: basic and diluted		$	(0.13	)		$	(0.07	)		$	0.66
Weighted average common shares outstanding: basic and diluted			4,316,316				4,304,574				4,294,501
The accompanying notes are an integral part of these consolidated financial statements.

 

Ecology and Environment Inc.

Consolidated Statements of Comprehensive Income

(amounts in thousands)

		Fiscal Year Ended July 31,
		2019				2018				2017
Net income (loss) including noncontrolling interests		$	(110	)		$	(104	)		$	2,511
Foreign currency translation adjustments			(273	)			(85	)			174
Unrealized investment losses, net			-				(20	)			(18	)
Comprehensive (loss) income			(383	)			(209	)			2,667
Comprehensive (income) loss attributable to noncontrolling interests			(389	)			(189	)			290
Comprehensive (loss) income attributable to Ecology and Environment Inc.		$	(772	)		$	(398	)		$	2,957
The accompanying notes are an integral part of these condensed consolidated financial statements.

      

Ecology and Environment Inc.

Consolidated Statements of Cash Flows

(amounts in thousands)

		Fiscal Year Ended
		July 31, 2019				July 31, 2018				July 31, 2017
Cash flows from operating activities:
Net income (loss)		$	(110	)		$	(104	)		$	2,511
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization			1,022				1,083				994
Provision for deferred income taxes			(1,326	)			66				1,992
Share-based compensation expense			100				127				69
Tax impact of share-based compensation			-				-				(6	)
(Gain) loss on sale of assets and investment securities			-				17				(81	)
Net recovery of contract adjustments			(745	)			(830	)			(1,178	)
Net bad debt expense			92				1,034				164
Changes in:
- contract receivables			806				5,266				572
- other current assets			(431	)			155				(178	)
- income tax receivable			337				353				134
- equity method investment			(15	)			(595	)			(158	)
- other non-current assets			661				(822	)			(485	)
- accounts payable			468				(2,023	)			259
- accrued payroll costs			590				228				(110	)
- income taxes payable			-				(44	)			(86	)
- billings in excess of revenue			365				807				(78	)
- other accrued liabilities			204				(490	)			(43	)
Net cash provided by operating activities			2,018				4,228				4,292
Cash flows from investing activities:
Acquisition of noncontrolling interest of subsidiaries			-				(27	)			-
Proceeds from sale of subsidiaries			-				-				75
Purchase of property, building and equipment			(482	)			(772	)			(669	)
Proceeds from sale of building and equipment			69				43				1,495
Purchase of investment securities			(33	)			(31	)			(30	)
Net cash (used in) provided by investing activities			(446	)			(787	)			871
Cash flows from financing activities:
Dividends paid			(1,726	)			(1,721	)			(1,720	)
Proceeds from debt			-				-				200
Repayment of debt			(53	)			(389	)			(241	)
Net borrowings (repayment) of lines of credit			277				(342	)			39
Distributions to noncontrolling interests			(299	)			(454	)			(8	)
Net cash used in financing activities			(1,801	)			(2,906	)			(1,730	)
Effect of exchange rate changes on cash and cash equivalents			75				76				(228	)
Net (decrease) increase in cash, cash equivalents and restricted cash			(154	)			611				3,205
Cash, cash equivalents and restricted cash at beginning of period			13,746				13,135				9,930
Cash, cash equivalents and restricted cash at end of period		$	13,592			$	13,746			$	13,135
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest		$	5			$	38			$	139
Income taxes			(50	)			140				715
Supplemental disclosure of non-cash items:
Dividends declared and not paid			865				863				860
Proceeds from capital lease obligations			-				59				29
Acquistion of noncontrolling interest of subsidiaries (equipment)			(153	)			26				-
The accompanying notes are an integral part of these condensed consolidated financial statements.