ICF International, Inc. 10-K

ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS O F FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion and analysis should be read in conjunction with our consolidated financial statements and related notes included in Item 8.“Financial Statements and Supplementary Data” in this Annual Report on Form 10-K. This discussion and analysis contains forward-looking statements that involve risks, uncertainties, and assumptions, such as statements of our plans, objectives, expectations, and intentions. The cautionary statements made in this Annual Report on Form 10-K should be read as applying to all related forward-looking statements wherever they appear in this Annual Report on Form 10-K. Our actual results could differ materially from those anticipated in the forward-looking statements. Factors that could cause or contribute to our actual results differing materially from those anticipated include those discussed in “Risk Factors” and elsewhere in this Annual Report on Form 10-K. This section of this Form 10-K generally discusses 2023 and 2022 items and year-to-year comparisons between 2023 and 2022. Discussions of 2022 items and year-to-year comparisons between 2022 and 2021 that are not included in this Form 10-K can be found in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Part II, Item 7 of our Annual Report on Form 10-K for the fiscal year ended December 31, 2022, which was filed with the SEC on March 1, 2023, and is incorporated by reference into this Management’s Discussion and Analysis of Financial Condition and Results of Operations. OVERVIEW AND OUTLOOK We provide professional services and technology-based solutions, including management, technology, and policy consulting and implementation services. We help our clients conceive, develop, implement, and improve solutions that address complex business, natural resource, social, technological, and public safety issues. Our services primarily support clients that operate in four key markets: • Energy, Environment, Infrastructure, and Disaster Recovery; • Health and Social Programs; and • Security and Other Civilian & Commercial We provide services to our diverse client base that deliver value throughout the entire life cycle of a policy, program, project, or initiative. Our primary services include: • Advisory Services; • Program Implementation Services; • Analytics Services; • Digital Services; and • Engagement Services. Our clients utilize our services because we combine diverse institutional knowledge and experience with the deep subject matter expertise of our highly educated staff, which we deploy in multi-disciplinary teams. We have successfully worked with many of our clients for decades, with the result that we have a thorough and nuanced perspective of their objectives and needs. We serve both governmental and commercial clients. Our government clients include those from departments and agencies of the federal government, state and local governments, and international governments. Our government efforts include work performed under subcontract agreements to commercial clients whose ultimate customers are government agencies and departments. Our largest clients are U.S. federal government departments and agencies. Our federal government clients have included every cabinet-level department, most significantly HHS, DoD, and DoS. Federal government clients generated approximately 55%, 55%, and 47% of our revenue in 2023, 2022, and 2021, respectively. State and local government clients generated approximately 16%, 15%, and 15% of our revenue in each of 2023, 2022, and 2021, respectively. International government clients generated approximately 5%, 6%, and 9% of our revenue in 2023, 2022, and 2021, respectively. 39 We also serve a variety of commercial clients worldwide, including: airlines, airports, electric and gas utilities, health care companies, banks and other financial services companies, transportation, non-profits/associations, manufacturing firms, retail chains, and distribution companies. Our commercial clients, which include clients outside the U.S., generated approximately 24%, 24%, and 29% of our revenue in 2023, 2022, and 2021, respectively. We believe that our domain expertise and the program knowledge developed from our research and analytics, and assessment and advisory engagements further position us to provide a full suite of services. We report operating results and financial data as a single segment based on the consolidated information used by our chief operating decision-maker in evaluating the financial performance of our business and allocating resources. Our single segment represents our core business: professional services to our broad array of clients. Although we describe our multiple service offerings to clients that operate in three markets to provide a better understanding of the scope and scale of our business, we do not manage our business or allocate our resources based on those service offerings or client markets. Rather, on a project-by-project basis, we assemble the best team from throughout the enterprise to deliver highly customized solutions that are tailored to meet the needs of each client. We believe that, in the long-term, demand for our services will continue to grow as government, industry, and other stakeholders seek to address critical long-term societal and natural resource issues due to heightened concerns about the environment and use of clean energy and energy efficiency; health promotion, treatment, and cost control; the means by which healthcare can be delivered effectively on a cross-jurisdiction basis; natural disaster relief and rebuild efforts; and ongoing homeland security threats. In the wake of the major hurricanes (Ian, Harvey, Ida, Idalia, Irma, Maria, Laura and Michael) that devastated communities in Texas, Florida, North Carolina, Louisiana, the U.S. Virgin Islands, and Puerto Rico, the affected areas remain in various stages of relief and recovery efforts. We believe our prior and current experience with disaster relief and rebuild efforts, including after hurricanes Katrina and Rita and Superstorm Sandy, put us in a favorable position to continue to provide recovery and housing assistance, and environmental and infrastructure solutions, including disaster mitigation, on behalf of federal departments and agencies, state, territorial, and local jurisdictions, and regional agencies. We also see significant opportunity to further leverage our digital and client engagement capabilities across our client base. Our future results will depend on the success of our strategy to enhance our client relationships and seek larger engagements that span the entire program life cycle, and to complete and successfully integrate additional strategic acquisitions. We will continue to focus on building scale in our vertical and horizontal domain expertise, developing business with our existing clients as well as new customers, and replicating our business model in selective geographies. In doing so, we will continue to evaluate strategic acquisition opportunities, such as our acquisitions of ESAC and Creative Systems in 2021, SemanticBits and Blanton in 2022, and CMY in 2023 that enhance our subject matter knowledge, broaden our service offerings, gain access to or expand customer relationships, and/or provide scale in specific geographies. Although we continue to see favorable long-term market opportunities, there are certain business challenges facing all government service providers. Administrative and legislative actions by the federal government to address changing priorities or in response to the budget deficit could have a negative impact on our business, which may result in a reduction to our revenue and profit and adversely affect cash flow. Similarly, the very nature of opportunities arising out of disaster recovery means they can involve unusual challenges. Factors such as the overall stress on communities and people affected by disaster recovery situations, political complexities and challenges among involved government agencies, and a higher-than-normal risk of audits and investigations may result in a reduction to our revenue and profit and adversely affect cash flow; however, we believe we are well positioned to provide a broad range of services in support of initiatives that will continue to be priorities to the federal government, as well as to state and local and international governments and commercial clients. We believe that the combination of internally generated funds, available bank borrowings, and cash and cash equivalents on hand will provide the required liquidity and capital resources necessary to fund ongoing operations, potential acquisitions, customary capital expenditures, and other working capital requirements. 40 Our results of operations and cash flows may vary significantly from quarter to quarter depending on a number of factors, including, but not limited to: • Progress of contract performance; • Extraordinary economic events and natural disasters; • Number of billable days in a quarter; • Timing of client orders; • Timing of award fee notices; • Changes in the scope of contracts; • Variations in purchasing patterns under our contracts; • Federal and state and local governments’ and other clients’ spending levels; • Federal government shutdowns; • Timing of billings to, and collection of payments from, clients; • Timing of receipt of invoices from, and payments to, employees and vendors; • Commencement, completion, and termination of contracts; • Strategic decisions, such as acquisitions, consolidations, divestments, spin-offs, joint ventures, strategic investments, and changes in business strategy; • Timing of significant costs and investments (such as bid and proposal costs and the costs involved in planning or making acquisitions); • Timing of events related to discrete tax items; • Our contract mix and use of subcontractors or the timing of other direct costs for which we may earn lower contract margin; • Changes in contract margin performance due to performance risks; • Additions to, and departures of, staff; • Changes in staff utilization; • Paid time off taken by our employees; • Level and cost of our debt; • Changes in accounting principles and policies; and/or • General market and economic conditions. Because a significant portion of our expenses (such as personnel, facilities, and related costs) are fixed in the short-term, contract performance and variation in the volume of activity, as well as in the number and volume of contracts commenced or completed during any year, may cause significant variations in operating results from year to year. We generally have been able to price our contracts in a manner that accommodates the rates of inflation experienced in recent years, although we cannot ensure that we will be able to do so in the future. 41 BUSINESS COMBINATIONS A key element of our growth strategy is to pursue acquisitions. During the previous three fiscal years, we completed five acquisitions summarized as follows: ESAC – In November 2021, we acquired ESAC, one of the leading specialized providers of advanced health analytics, research data management, and bioinformatics solutions to U.S. federal health agencies. Creative Systems and Consulting – In December 2021, we acquired Creative Systems, a premier provider of IT modernization and digital transformation solutions to U.S. federal agencies. SemanticBits, LLC – In July 2022, we acquired SemanticBits, a premier partner to U.S. federal health agencies for mission-critical digital modernization solutions. Blanton & Associates – In September 2022, we acquired Blanton & Associates, an environmental consulting, planning, and project management firm. CMY Solutions, LLC – In May 2023, we acquired CMY, an engineering and automation solutions provider to utilities and organizations. CRITICAL ACCOUNTING ESTIMATES AND POLICIES Our discussion of financial condition and results of operations is based on our consolidated financial statements prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”). The preparation of these consolidated financial statements requires us to make certain estimates, assumptions, and judgments that affect the reported amounts of assets, liabilities, revenue, and expenses. If any of these estimates, assumptions or judgments prove to be incorrect, our reported results could be materially affected. Actual results may differ significantly from our estimates under different assumptions or conditions. We believe that the estimates, assumptions, and judgments involved in the accounting practices described below have the greatest potential impact on our financial statements and, therefore, consider them to be critical accounting policies. Significant accounting estimates are more fully described and discussed in “Note 2 - Summary of Significant Accounting Policies” in the “Notes to Consolidated Financial Statements”. Revenue Recognition We generate our revenue by primarily providing services and technology-based solutions for clients. We enter into agreements with clients that create enforceable rights and obligations and for which it is probable that we will collect the consideration to which we will be entitled as services and solutions are provided to the client. Our contracts may be partially funded, often incrementally in annual amounts. We determine the transaction price based on the history of funding, the client's need for the program, the length of time before funding is available, and the client's intent and ability to fund and include the unfunded portion of the contract if it is probable that it will be funded based on these criteria. For contracts with multiple performance obligations and for customized solutions in which the pricing is based on specific negotiations with each client, we use a cost-plus margin approach to estimate the standalone selling price of each performance obligation. We generally recognize revenue over time as services and performance obligations are transferred to the client, based on the extent of progress towards satisfaction of the performance obligation. The selection of the method used to measure progress requires judgment and, among other things, is dependent on the contract type selected by the client during contract negotiation and the nature of the services and solutions to be provided. For cost-based contracts, we recognize revenue as a single performance obligation based on contract costs incurred, as we become contractually entitled to reimbursement of the contract costs, plus a most likely estimate of award or incentive fees earned on those costs even though final determination of fees earned occurs after the contractually stipulated performance assessment period ends. For the years ended December 31, 2023, 2022, and 2021, revenue from cost-based contracts totaled $265.3 million, $263.7 million, and $274.1 million, respectively. 42 For performance obligations requiring the delivery of a service for a fixed price, we use the ratio of actual costs incurred to total estimated costs at completion (“EAC”) provided that costs incurred (an input method) represents a reasonable measure of progress towards the satisfaction of a performance obligation, in order to estimate the portion of total revenue earned. Contract costs that are not reflective of our progress toward satisfying a performance obligation are not included in the calculation of the measure of progress. We estimate the EAC by making certain assumptions and judgments such as the level of efforts from internal staff and/or subcontractors and cost of materials needed to complete the tasks. Our cost estimate is based on our prior experience and expertise in delivery of similar services, which allow us to make reasonable assumptions and estimates that are close to actual costs to complete the obligations; however, changes in the scope or complexity of work, availability of materials needed, or performance could cause a change in the EAC. We routinely review EACs for changes that could materially impact our measurement of progress toward completion of the performance obligations and adjust our revenue in the period that the changes occur. When a contract EAC exceeds the contract value, we recognize the loss in the same period of determination. For the years ended December 31, 2023, 2022, and 2021, our revenue from contracts in which we use EACs totaled $310.1 million, $287.4 million, and $253.6 million, respectively. Our contracts may include variable considerations such as award fees and incentives that may increase or decrease the transaction price. The actual amounts are typically determined and awarded at the end of a performance period and the final awarded amount is based on achieving certain performance metrics, program milestones, or cost targets at the customer’s discretion. We estimate the most likely amount expected to achieve based on our prior history in providing the services to the customer or, if no history exists, we constrain the variable consideration until the initial determination by the customer. Fair Value of Acquired Assets from Business Combinations Our consolidated balance sheets as of December 31, 2023 and 2022 include $94.9 million and $126.5 million, respectively, of net intangible assets that were created through business acquisitions. We allocate the purchase price of an acquired business to the tangible assets and separately identifiable intangible assets acquired, less liabilities assumed, based on their respective fair values (except for contract assets and contract liabilities after the adoption of Accounting Standards Update 2021-08, Business Combinations: Accounting for Contract Assets and Contract Liabilities from Contracts with Customers). Such fair value assessment requires us to make assumptions, judgments, and estimates such as, but not limited to, future cash flows, revenue growth, customer retention rates, and discount rates based on information that exists at the date of the acquisition which may subsequently change. We recognize any adjustments to the preliminary amounts that are identified during the measurement period which is twelve months or less from the date of the acquisition. Accounting for Income Taxes Our provisions for federal, state, and foreign income taxes are calculated from consolidated income based on current tax laws and any changes in tax rates from the rates used previously in determining the deferred tax assets and liabilities from temporary differences between financial statement carrying amounts and amounts on our tax returns. We recognize deferred tax assets and liabilities for the expected future tax consequences of temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates in effect for the year in which those temporary differences are expected to be recovered or settled. We evaluate our ability to benefit from all deferred tax assets and establish valuation allowances for amounts we believe are not more likely than not to be realized. We use a more-likely-than-not recognition threshold based on the technical merits of the income tax position taken to evaluate uncertain tax positions. Uncertain tax positions that meet the more-likely-than-not recognition threshold are measured in order to determine the tax benefit recognized in the financial statements. Recent Accounting Pronouncements New accounting standards are discussed in “Note 2 - Summary of Significant Accounting Policies” in the “Notes to Consolidated Financial Statements”. 43 SELECTED KEY METRICS In order to evaluate operations, we track revenue by key metrics that provide useful information about the nature of our operations. Client markets provide insight into the breadth of our expertise. Client type is an indicator of the diversity of our client base. Revenue by contract mix provides insight in terms of the degree of performance risk that we have assumed. Significant variances in the key metrics tables that are provided below are discussed under the revenue section of the results of operations. Client markets The following table shows revenue generated from client markets as a percentage of total revenue for the periods indicated. For each client, we have attributed all revenue from that client to the market we consider to be the client’s primary market, even if a portion of that revenue relates to a different market. Certain minor revenue amounts reported in the prior years have been reclassified within key market categories based on our current view of the client’s primary market in order to increase the comparability of the current year to prior years. Year ended December 31, 2023 Year ended December 31, 2022 Year ended December 31, 2021 (dollars in thousands) Dollars Percent Dollars Percent Dollars Percent Client Markets: Energy, environment, infrastructure, and disaster recovery $ 806,482 41 % $ 714,628 40 % $ 693,572 45 % Health and social programs 814,454 42 % 704,465 40 % 563,590 36 % Security and other civilian & commercial 342,302 17 % 360,871 20 % 295,886 19 % Total $ 1,963,238 100 % $ 1,779,964 100 % $ 1,553,048 100 % Our primary clients within the client markets are the agencies and departments of the federal government and commercial clients. Most of our revenue is from contracts on which we are the prime contractor, which we believe provides us with strong client relationships. In 2023, 2022, and 2021, approximately 89%, 91%, and 91% of our revenue, respectively, was from prime contracts. Client type The table below shows our revenue by type of client as a percentage of total revenue for the periods indicated. Certain immaterial revenue amounts in the prior years have been reclassified due to minor adjustments and reclassification within client type. Year ended December 31, 2023 Year ended December 31, 2022 Year ended December 31, 2021 (dollars in thousands) Dollars Percent Dollars Percent Dollars Percent Client Type: U.S. federal government $ 1,084,043 55 % $ 980,746 55 % $ 735,032 47 % U.S. state and local government 308,134 16 % 259,764 15 % 235,416 15 % International government 103,399 5 % 103,609 6 % 139,229 9 % Government 1,495,576 76 % 1,344,119 76 % 1,109,677 71 % Commercial 467,662 24 % 435,845 24 % 443,371 29 % Total $ 1,963,238 100 % $ 1,779,964 100 % $ 1,553,048 100 % Contract mix Contract mix varies from year to year due to numerous factors, including our business strategies and the procurement activities of our clients. Unless the context requires otherwise, we use the term “contracts” to refer to contracts and any task orders or delivery orders issued under a contract. There are three main types of contracts: time-and-materials contracts, fixed-price contracts, and cost-based contracts. 44 The following table shows the approximate percentage of our revenue for each of these types of contracts for the periods indicated. Certain immaterial revenue amounts in the prior years have been reclassified due to minor adjustments and reclassification within contract mix. Year ended December 31, 2023 Year ended December 31, 2022 Year ended December 31, 2021 (dollars in thousands) Dollars Percent Dollars Percent Dollars Percent Contract Mix: Time-and-materials $ 812,430 41 % $ 713,693 40 % $ 633,135 41 % Fixed-price 885,465 45 % 802,568 45 % 645,809 41 % Cost-based 265,343 14 % 263,703 15 % 274,104 18 % Total $ 1,963,238 100 % $ 1,779,964 100 % $ 1,553,048 100 % Payments we received on cost-based contracts with the federal government are provisional payments subject to adjustment upon audit by the government. Contract revenue for subsequent periods has been recorded in amounts that are expected to be realized on final audit and settlement of costs. RESULTS OF OPERATIONS The following table sets forth certain items from our consolidated statements of comprehensive income for the years ended December 31, 2023 and 2022 and expresses these items as a percentage of revenue for the periods indicated and the period-over-period rate of change in each of them. Our discussion of the items for the years ended December 31, 2022 and 2021 can be found in our Annual Report on Form 10-K for the year ended December 31, 2022, which was filed with the SEC on March 1, 2023. Years Ended December 31, 2023 and 2022 (dollars in thousands) Year Ended December 31, Year to Year Change 2023 2022 2023 2022 2022 to 2023 Dollars Percentages Dollars Percent Revenue $ 1,963,238 $ 1,779,964 100.0 % 100.0 % $ 183,274 10.3 % Direct Costs: Direct labor & related fringe 730,322 639,861 37.2 % 35.9 % 90,461 14.1 % Subcontractors & other direct costs 534,696 494,561 27.2 % 27.8 % 40,135 8.1 % Total Direct Costs 1,265,018 1,134,422 64.4 % 63.7 % 130,596 11.5 % Operating Costs and Expenses Indirect and selling expenses 505,162 486,863 25.7 % 27.4 % 18,299 3.8 % Depreciation and amortization 25,277 21,482 1.3 % 1.2 % 3,795 17.7 % Amortization of intangible assets 35,461 28,435 1.8 % 1.6 % 7,026 24.7 % Total Operating Costs and Expenses 565,900 536,780 28.8 % 30.2 % 29,120 5.4 % Operating Income 132,320 108,762 6.7 % 6.1 % 23,558 21.7 % Interest, net (39,681 ) (23,281 ) (2.0 )% (1.3 )% (16,400 ) 70.4 % Other income (expense) 3,908 (1,501 ) 0.2 % (0.1 )% 5,409 (360.4 )% Income Before Income Taxes 96,547 83,980 4.9 % 4.7 % 12,567 15.0 % Provision for Income Taxes 13,935 19,737 0.7 % 1.1 % (5,802 ) (29.4 )% Net Income $ 82,612 $ 64,243 4.2 % 3.6 % $ 18,369 28.6 % 45 Year ended December 31, 2023 compared to year ended December 31, 2022 Revenue. The growth in revenue of $183.3 million was driven by increases of $103.3 million from U.S. federal government clients, $48.4 million from U.S. state and local government clients, and $31.8 million from commercial clients, respectively, offset by a decrease of $0.2 million from international government clients. Revenue from Health and Social Programs client market increased by $110.0 million, or 15.6%, driven by: • Increases of $97.4 million from U.S. federal government, $10.4 million from U.S. state and local government, and $2.5 million from commercial client markets, respectively, offset by a • Decrease of $0.3 million from international government client market. Revenue from Energy, Environment & Infrastructure and Disaster Recovery client market increased by $91.8 million, or 12.9%, due to: • Increases of $49.7 million from commercial, $37.6 million from U.S. state and local government, and $10.0 million from U.S. federal government client markets, respectively, offset by a • Decrease of $5.5 million from international government client market due, in part, to the wind-down of the ICF NEXT U.K. business. Revenue from Security and Other Civilian & Commercial client market saw a decrease of $18.6 million, or 5.1%, as a result of: • Decreases of $20.4 million from commercial, driven by the divestiture of the commercial marketing business, and $4.0 million from U.S. federal government client markets, respectively, offset by • Increases of $5.5 million from international government and $0.3 million from U.S. state and local government client markets, respectively. Direct costs . The increase in direct costs of $130.6 million was driven by additional direct labor and related fringe benefit costs of $90.5 million and subcontractors and other direct costs of $40.1 million to support new and existing revenue-generating contracts. For the years ended December 31, 2023 and 2022, direct labor and related fringe benefit costs were 57.7% and 56.4% of total direct costs, respectively, and subcontractors and other direct costs were 42.3% and 43.6% of total direct costs, respectively. The total direct costs as a percentage of revenue remained steady at 64.4% for the year ended December 31, 2023 compared to 63.7% for 2022. Indirect and selling expenses. The increase in indirect and selling expenses of $18.3 million for the year ended December 31, 2023 compared to 2022 was due to an additional $31.7 million in indirect labor and related fringe benefit costs offset by a decrease of $13.4 million in general and administrative costs. As a percentage of total indirect and selling expenses, indirect labor and associated fringe costs were 71.1% and 67.2%, respectively, and general and administrative costs were 28.9% and 32.8%, respectively, for the years ended December 31, 2023 and 2022. The increase in indirect labor and associated fringe costs was a result of additional headcount from our recent acquisitions in 2022 and 2023 as well as additional labor resources to support our growth. The decrease in our general and administrative costs was primarily from lower facilities expense that was, in part, attributed to our Fairfax lease ending at the end of the 2022 fiscal year. As a percentage of revenue, indirect and selling expenses decreased to 25.7% for the year ended December 31, 2023 compared to 27.4% for the year ended December 31, 2022. Depreciation and amortization . The increase in depreciation and amortization of $3.8 million was driven by additional capital expenditure during 2023 and acceleration of depreciation of certain fixed assets associated with the exit of an office facility. The transition is expected to be completed in 2024. Amortization of intangible assets . The increase in amortization of intangible assets was due to amortization of additional intangible assets acquired from our acquisitions in the third and fourth quarter of 2022 and the second quarter of 2023. 46 Interest, net . The increase in interest, net was primarily due to higher average debt balance of $613.5 million in 2023 compared to $575.0 million in 2022, and higher average interest rate of 6.7% in 2023 compared to 3.3% in 2022. We utilize floating-to-fixed interest rate swap agreements to hedge the variable interest portion of our debt. Our 2023 interest expense from our debt was reduced by $6.9 million from the swap agreements, compared to $0.5 million in additional interest expense added to 2022. Our average interest rate inclusive of the impact of the swap agreements was 5.6% for 2023 compared to 3.7% for 2022. Other income (expense) . The increase in other income (expense) was primarily due to pre-tax gains of $2.5 million and $3.2 million from the divestiture of our U.S. commercial marketing and Canadian mobile aggregation businesses in 2023. Provision for income taxes . The effective income tax rate for the years ended December 31, 2023 and 2022 was 14.4% and 23.5%, respectively. The decrease in provision for income taxes in 2023 was primarily due to tax credits, restructuring of the ownership of a Canadian subsidiary, the wind-down of our U.K. commercial marketing business, and U.S. return-to-provision adjustments in connection with our federal income tax return filing, partially offset by provisions for uncertain tax positions, and additional valuation allowance on certain tax attributes generated during the period. NON-GAAP MEASURES The following tables provide reconciliations of financial measures that are not calculated in accordance with generally accepted accounting principles in the U.S. to their most comparable U.S. GAAP measures (“non-GAAP”). While we believe that these non-GAAP financial measures provide additional information to investors and may be useful in evaluating our financial information, they should be considered supplemental in nature and not as a substitute for financial information prepared in accordance with U.S. GAAP. Other companies may define similarly titled non-GAAP measures differently and, accordingly, care should be exercised in understanding how we define these measures as similarly named measures are unlikely to be comparable across different companies. EBITDA and Adjusted EBITDA Earnings before interest, tax, and depreciation and amortization (“EBITDA”) is a measure we use to evaluate operating performance. We believe EBITDA is useful in assessing ongoing trends and, as a result, may provide additional visibility in understanding our operations. Adjusted EBITDA is EBITDA further adjusted to eliminate the impact of certain items that we do not consider to be indicative of the performance of our ongoing operations. We evaluate these adjustments on an individual basis based on both the quantitative and qualitative aspects of the item, including their size and nature, as well as whether or not we expect them to occur as part of our normal business on a regular basis. EBITDA and Adjusted EBITDA are not intended to be measures of free cash flow as these measures do not include certain cash requirements such as interest payments, tax payments, capital expenditures, and debt service. 47 The following table presents a reconciliation of net income to EBITDA and Adjusted EBITDA for the periods indicated. Year ended December 31, 2023 2022 2021 Net income $ 82,612 $ 64,243 $ 71,132 Interest, net 39,681 23,281 9,984 Provision for income taxes 13,935 19,737 28,958 Depreciation and amortization 60,738 49,917 31,970 EBITDA 196,966 157,178 142,044 Impairment of long-lived assets (1) 7,666 8,354 8,215 Acquisition and divestiture-related expenses (2) 4,759 6,441 4,798 Severance and other costs related to staff realignment (3) 6,366 6,302 1,242 Charges for facility consolidations and office closures (4) 3,187 5,034 1,434 Expenses related to the transfer to our new corporate headquarters (5) — 8,287 899 Expenses related to retirement of Executive Chair (6) — — 397 Expenses related to our agreement for the sale of receivables (7) — 240 — Pre-tax gain from divestiture of a business (8) (5,712 ) — — Total adjustments 16,266 34,658 16,985 Adjusted EBITDA $ 213,232 $ 191,836 $ 159,029 (1) Represents impairment of operating lease right-of-use and leasehold improvement assets associated with exit from certain facilities, and an intangible asset associated with exit of a business. (2) These are primarily third-party costs related to acquisitions and potential acquisitions, integration of acquisitions, and separation of discontinued businesses or divestitures. (3) These costs are mainly due to involuntary employee termination benefits for our officers, and employees who have been notified that they will be terminated as part of a business reorganization or exit. (4) These are exit costs associated with terminated leases or full office closures that we either (i) will continue to pay until the contractual obligations are satisfied but with no economic benefit to us, or (ii) paid upon termination and cease-use of the leased facilities. (5) These costs represent incremental non-cash lease expense associated with a straight-line rent accrual during the “free rent” period in the lease for our new corporate headquarters in Reston, Virginia. We took possession of the new facility during the fourth quarter of 2021, while also maintaining and incurring lease costs for the former headquarters in Fairfax, Virginia. The transition to the new corporate headquarters was completed in the fourth quarter of 2022. (6) These costs include severance, pro rata incentive bonus, welfare benefits, and acceleration of equity awards we incurred under the departing officer’s severance agreement during the fourth quarter of 2020. As a result of the employment agreement, the departing officer was able to maintain certain equity awards beyond his retirement date, including performance-based awards that are subject to changes until they vest. (7) These costs include legal and structuring fees related to our 2022 Master Receivables Purchase Agreement with MUFG Bank, Ltd. put in place for the sale of our receivables. (8) Includes pre-tax gain of $2.5 million and of $3.2 million from the divestitures of our U.S. commercial marketing and Canadian mobile text aggregation businesses. Non-GAAP Diluted Earnings per Share Non-GAAP diluted earnings per share (“Non-GAAP Diluted EPS”) represents diluted U.S. GAAP earnings per share (“U.S. GAAP Diluted EPS”) excluding the impact of certain items noted above, and the impact of amortization of intangible assets and the related income tax effects. While these adjustments may be recurring and not infrequent or unusual, we do not consider these adjustments to be indicative of the performance of our ongoing operations. We believe that the supplemental adjustments provide additional information to investors. 48 The following table presents a reconciliation of U.S. GAAP Diluted EPS to Non-GAAP Diluted EPS for the periods indicated: Year ended December 31, 2023 2022 2021 U.S. GAAP Diluted EPS $ 4.35 $ 3.38 $ 3.72 Impairment of long-lived assets 0.40 0.44 0.43 Acquisition and divestiture-related expenses 0.25 0.34 0.25 Severance and other costs related to staff realignment 0.33 0.33 0.06 Expenses related to facility consolidations and office closures (1) 0.24 0.26 0.08 Expenses related to the transfer to our new corporate headquarters — 0.44 0.05 Expenses related to retirement of Executive Chair — — 0.02 Expenses related to our agreement for the sale of receivables — 0.01 — Pre-tax gain from divestiture of a business (0.30 ) — — Amortization of intangibles 1.87 1.49 0.65 Income tax effects of the adjustments (2) (0.64 ) (0.92 ) (0.44 ) Non-GAAP Diluted EPS $ 6.50 $ 5.77 $ 4.82 (1) These are exit costs related to actual office closures (previously included in Adjusted EBITDA) and accelerated depreciation related to fixed assets for planned office closures. (2) Income tax effects were calculated using the effective tax rate, adjusted for discrete items, if any, of 22.8%, 28.0% and 28.9% for the years ended December 31, 2023, 2022, and 2021, respectively. LIQUIDITY AND CAPITAL RESOURCES Liquidity and Borrowing Capacity . Short-term liquidity requirements are created by our use of funds for working capital, capital expenditures, debt service, dividends, and share repurchases. We expect to meet these requirements through a combination of our cash and cash equivalents at hand, cash flow from operations and borrowings. Our primary source of borrowings is from our Credit Facility, as described in “Note 10 - Long-Term Debt” in the “Notes to Consolidated Financial Statements” in this Annual Report on Form 10-K. As of December 31, 2023, we had $591.9 million of unused borrowing capacity, or $575.5 million after taking into account the financial and performance-based limitations, available under the Credit Facility to fund our ongoing operations, future acquisitions, dividend payments, and share repurchase program. Should the need arise, we intend to further increase our borrowing capacity in the future to provide us with adequate working capital to continue our ongoing operations. There are certain geo-political and macro-economic conditions, such as the ongoing wars in Ukraine and the the Middle East and the recent increase in inflation, both in the U.S. and globally, that create uncertainty in the global economy, which in turn may impact, among other things, our ability to generate positive cash flows from operations and our ability to successfully execute and fund key initiatives in the near future; however, our current belief is that the combination of internally generated funds, available bank borrowings, and cash and cash equivalents on hand will provide the required liquidity and capital resources necessary to fund ongoing operations, customary capital expenditures and acquisitions, quarterly cash dividends, share repurchases and organic growth. Additionally, we continuously analyze our capital structure to ensure we have capital to fund future strategic acquisitions. We continue to monitor the state of the financial markets on a regular basis to assess the availability and cost of additional capital resources from both debt and equity sources. We believe that we will be able to access these markets at commercially reasonable terms and conditions if, in the future, we need additional borrowings or capital. 49 Material Cash Requirements from Contractual Obligations . As of December 31, 2023, contractual obligations that require a material use of cash include repayments of our Credit Facility and operating lease obligations for facilities and equipment. At December 31, 2023, our outstanding Credit Facility balance was $430.4 million, net of unamortized debt issuance costs, of which the principal amounts of $26.0 million is due in 2024, $35.8 million in 2025, $39.0 million in 2026, and the remaining $333.3 million due upon maturity in 2027. We borrow funds under the Credit Facility at interest rates based on both the SOFR (i.e., 1-, 3-, or 6-month rates) and a fluctuating Base Rate (see “Note 10 - Long-Term Debt” in the “Notes to Consolidated Financial Statements” in this Annual Report). Assuming that our interest rate on the Credit Facility is the same as on December 31, 2023, we anticipate our interest payments on the debt to be approximately $29.5 million in 2024, $27.5 million in 2025, $24.9 million in 2026, and $8.1 million in 2027 when our Credit Facility expires. The estimates do not take into account future drawdowns and repayments on the debt or changes in the variable interest rate, and actual interest may be different. As of December 31, 2023, we have operating leases for facilities and equipment with remaining terms ranging from 1 to 15 years. Our current and long-term operating lease liabilities of $195.9 million at December 31, 2023 represent the present value of the minimum payments required under the non-cancellable leases, and the actual cash payments total $241.1 million. The operating lease payment obligations by year are further discussed in “Note 7 - Leases” in the “Notes to Consolidated Financial Statements”. As of December 31, 2023, we also have finance leases for equipment and furniture with lease payment obligations through 2029 as discussed in “Note 7 - Leases” in the “Notes to Consolidated Financial Statements”. The current and long-term finance lease liabilities at December 31, 2023 of $16.4 million represent the present value of the minimum payments totaling $18.1 million. Inflation. Our business and results of operations have not been materially affected by inflation and changing prices during the period presented and we do not expect to be materially affected in the future due to the nature of our business as a provider of professional services with contracts that can be negotiated with new prices. Dividends. Cash dividends declared in 2023 were as follows: Declaration Date Dividend Per Share Record Date Payment Date February 28, 2023 $ 0.14 March 24, 2023 April 13, 2023 May 9, 2023 $ 0.14 June 9, 2023 July 14, 2023 August 3, 2023 $ 0.14 September 8, 2023 October 13, 2023 November 2, 2023 $ 0.14 December 8, 2023 January 12, 2024 Cash Flows . The following table summarizes our cash flows from the years ended December 31, 2023, 2022, and 2021. Year ended December 31, (in thousands) 2023 2022 2021 Net cash provided by operating activities $ 152,383 $ 162,206 $ 110,205 Net cash used in investing activities (3,673 ) (258,844 ) (194,481 ) Net cash (used in) provided by financing activities (152,588 ) 90,371 23,233 Effect of exchange rate changes on cash, cash equivalents, and restricted cash 359 (1,198 ) (511 ) Decrease in cash, cash equivalents, and restricted cash $ (3,519 ) $ (7,465 ) $ (61,554 ) Cash provided by operating activities for the year ended December 31, 2023 decreased by $9.8 million compared to 2022 primarily due to higher interest and tax payments and the timing of collections of our billed receivables and payments of our operating liabilities. 50 Cash used in investing activities for the year ended December 31, 2023 decreased by $255.2 million compared to 2022 primarily due to higher usage of cash to fund the acquisitions of SemanticBits and Blanton in 2022; 2023 was favorably impacted by the proceeds received from the divestiture of our U.S. commercial marketing and Canadian mobile text aggregation businesses. We used $152.6 million of cash in financing activities during the year ended December 31, 2023 compared to $90.4 million provided by financing activities during 2022, a change of $243.0 million. The change was primarily due to higher net borrowings from our Credit Facility to fund the acquisitions of SemanticBits and Blanton during 2022, and repayments of our term loan debt of $81.0 million during 2023 which includes $66.0 million in early payment on the term loan principal balance.