ITEM 2.                     MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following information should be read in conjunction with the information contained in the Unaudited Condensed Consolidated Financial Statements and notes thereto appearing elsewhere in this Quarterly Report on Form 10-Q and in our Annual Report on Form 10-K for the fiscal year ended December 31, 2005. This Quarterly Report on Form 10-Q contains forward-looking statements that involve risks and uncertainties . See “Risk Factors” and “Special Note Regarding Forward-Looking Statements” included elsewhere herein. We use the terms “we,” “our,” “us,” “Edgewater Technology” and “the Company” in this report to refer to Edgewater Technology, Inc. and its wholly-owned subsidiaries.

Business Overview

Edgewater Technology, Inc. is an innovative technology management consulting firm providing a unique blend of premium IT services. We provide our clients with a range of business and technology offerings designed to assist them in:

·       envisioning and realizing strategic business solutions;

·       implementing corporate performance management solutions;

·       optimizing business processes to improve the delivery of products and services;

·       providing program and project management;

·       maximizing and unlocking the value of corporate data assets;

·       accessing and leveraging our blend of industry and technology expertise; and

·       evaluating and leveraging infrastructure services.

Our primary target is the middle market whose needs span the full spectrum of our offerings. We also provide specialized premium IT services to divisions of Global 2000 companies.  We go to market by vertical industry and currently serve clients in the following industries: Consumer Packaged Goods/Manufacturing; Financial Services (Retail Banking, Portfolio/Asset Management); Healthcare (Payor/Managed Care); Higher Education; Hospitality;  Insurance; Life Sciences; Retail; and various Emerging Markets.

During the three-month period ended March 31, 2006, we generated revenue of approximately $14.3 million from a total of 122 clients. Headquartered in Wakefield, Massachusetts, our Company employed approximately 268 consulting professionals as of March 31, 2006.

Our ability to generate revenue is affected by the level of business activity of our clients, which in turn is affected by the level of economic activity occurring in the industries and markets that they serve. A decline in the level of business activity of our clients could have a material adverse effect on our revenue and profit margin. To counter balance any such decline, in the past we have implemented, as necessary, and could implement if necessary in the future, cost-savings initiatives to manage our expenses as a percentage of revenue as appropriate.

Our consulting professionals represent the largest portion of our operating expenses. Project personnel expenses consist of payroll costs and related benefits associated with our professional staff. Other related expenses include travel, subcontracting, third-party vendor payments and non-billable costs associated with the delivery of services to our clients. We consider the relationship between project personnel expenses and revenue to be an important measure of our operating performance. The relationship between project personnel expenses and revenue is driven largely by the chargeability of our consultant base, the prices we charge our clients and the non-billable costs associated with securing new client engagements and developing new service offerings. The remainder of our recurring operating expenses is comprised of expenses associated with the development of our business and the support of our client-serving professionals, such as professional development and recruiting, marketing and sales, and management and administrative support. Professional development and recruiting expenses consist primarily of recruiting and training content development and delivery costs. Marketing and sales expenses consist primarily of the costs associated with the development and maintenance of our marketing materials and programs. Management and administrative support expenses consist primarily of the costs associated with operations including finance, information systems, human resources, facilities (including the rent of office space), and other administrative support for project personnel.

We regularly review our fees for services, professional compensation and overhead costs to ensure that our services and compensation are competitive within our industry, and that our overhead costs are balanced with our revenue level. In

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addition, we monitor the progress of client projects with client senior management. We manage the activities of our professionals by closely monitoring engagement schedules and staffing requirements for new engagements.

The Company’s management monitors and assesses its operating performance by evaluating key metrics and indicators. For example, we review information related to new customer accounts, annualized revenue per billable consultant, periodic consultant utilization rates, gross profit margins and billable employee headcount. This information, along with other operating performance metrics, is used in evaluating our overall performance. These metrics and indicators are discussed in more detail under “Results for the Three Months Ended March 31, 2006, Compared to Results for the Three Months Ended March 31, 2005,” included elsewhere in this Quarterly Report on Form 10-Q.

Business Combinations

Our results of operations and financial condition have been impacted by the business combination transactions we have completed in 2006 and 2005, which are described below.

Acquisition of National Decision Systems, Inc.: On February 15, 2006, the Company acquired all of the outstanding capital stock of National Decision Systems, Inc. (“NDS” or the “NDS Acquisition”), pursuant to the terms of a Stock Purchase Agreement. NDS provides Business Process Improvement, Program Management and Merger and Acquisition consulting services and is located in Stamford, CT. The acquisition will expand Edgewater’s service offerings and will provide a gateway into the New York/New Jersey market. The Company paid to the shareholders of NDS total consideration of approximately $10.2 million, consisting of an initial upfront payment at closing of approximately $8.5 million in cash and assumed liabilities and 264,610 shares of Edgewater’s common stock, $0.01 par value per share (“Common Stock”), which is subject to a three-year lock-up agreement. The Company incurred $0.7 million of direct acquisition costs.

In addition, an earnout agreement was entered into in connection with the Purchase Agreement, and it specifies additional earnout consideration that could be payable to the former NDS stockholders. Earnout payments are conditioned upon the attainment of certain performance measurements for the NDS business over the next 12 to 24 months. Assuming all performance measurements are met within predetermined performance ranges, additional earnout consideration of approximately $7.2 million would be payable, comprised of approximately $5.8 million payable in cash and the remaining amount payable in Common Stock, which will be valued at the time of such issuance. To the extent NDS business performance favorably exceeds performance ranges for such measurement periods, additional earnout consideration would be payable in relation to additive EBITDA contribution by the NDS business above such performance ranges.

The NDS acquisition was accounted for as a purchase transaction, and accordingly, the results of operations, commencing from the acquisition date of February 15, 2006, are included in the Company’s accompanying unaudited condensed consolidated statement of operations. Pro forma financial information related to the NDS acquisition is not presented as the effect of this acquisition was not material to the Company.

Acquisition of Ranzal and Associates, Inc.:  On October 4, 2004, the Company acquired substantially all of the assets, operations and business of Ranzal and Associates, Inc. (“Ranzal”), a consulting firm specializing in the development of Business Intelligence and Corporate Performance Management solutions (the “Ranzal Acquisition”). The results of Ranzal’s operations have been included in the Company’s accompanying unaudited condensed consolidated statements of operations since the October 4, 2004 acquisition date. The initial purchase price was $5.7 million, including cash paid to the Ranzal stockholders of $5.2 million and direct acquisition costs incurred of $0.5 million.

In addition to the initial cash consideration, the former stockholders of Ranzal are eligible to receive additional earnout consideration based upon the attainment of certain performance measurements. On February 28, 2005, the end of Ranzal’s first earnout period, the required performance measurements were achieved and the Ranzal stockholders were paid $1.0 million in contingent earnout consideration. The payment of the contingent earnout consideration increased the Company’s goodwill asset during the three-month period ended March 31, 2005. The Ranzal stockholders are also eligible for a second earnout payment, if certain profitability thresholds are met, during the period which commenced on March 1, 2005 and ended on February 28, 2006. On February 28, 2006, the Ranzal stockholders successfully completed their second and final earnout period, during which the required performance measurements were achieved. The Company currently estimates the amount payable to the Ranzal stockholders for the second earnout to be $2.6 million, which has been accrued and reported as an increase in goodwill in the Company’s balance sheet as of March 31, 2006. The Company expects to pay the contingent earnout consideration to the former Ranzal stockholders during the second quarter of 2006.

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Critical Accounting Policies and Estimates

We prepare our unaudited condensed consolidated financial statements in conformity with accounting principles generally accepted in the United States of America. As such, we are required to make certain estimates, judgments and assumptions that we believe are reasonable based upon the information available. These estimates and assumptions affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the periods presented. For a description of the significant accounting policies which we believe are the most critical to aid in understanding and evaluating our reported financial position and results, refer to our Annual Report on Form 10-K for the fiscal year ended December 31, 2005, as filed with the SEC on March 23, 2006.

Results for the Three Months Ended March 31, 2006, Compared to Results for the Three Months Ended March 31, 2005

The financial information that follows has been rounded in order to simplify its presentation. The amounts and percentages below have been calculated using the detailed financial information contained in the unaudited condensed consolidated financial statements, the notes thereto, and the other financial data included in this Quarterly Report on Form 10-Q.

The following table sets forth the percentage of total revenue of items included in our unaudited condensed consolidated statements of operations:

Revenue . Total revenue increased by $5.3 million, or 59.7%, to $14.3 million for the three-month period ended March 31, 2006, compared to total revenue of $9.0 million for the three-month period ended March 31, 2005.

Of the $5.3 million increase in total quarterly revenue, service revenue, excluding software and reimbursable expense revenue, increased by $5.2 million, or 62.5%, to $13.5 million, as compared to service revenue of $8.3 million in the same quarterly period in 2005. The $5.2 million increase in service revenue during the current quarter was attributable to growth experienced in our core business of $3.8 million, a 45.6% increase in core business revenue over the same quarter in the prior year, and the NDS Acquisition, which contributed $1.4 million in service revenue during the first quarter of 2006. The NDS Acquisition was completed in the first quarter of 2006 and therefore, did not impact first quarter 2005 results. The growth in

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our core business service revenue was primarily related to increased customer acceptance of our business strategy to deliver premium IT services. Current quarter growth was driven by improved market demand for premium IT services. In addition to increased service revenue, the Company also experienced growth in new customer accounts. During the first quarter of 2006, we have added a total of 23 new customers, including nine new customers as a result of the NDS Acquisition. We added a total of nine new customers during the first quarterly period of 2005.

Service revenue from Synapse, our largest customer, amounted to $2.2 million during the three-month periods ended March 31, 2006 and 2005. We expect current year service revenue from Synapse to be approximately $8.5 million, which is consistent with reported service revenue from Synapse in 2005. The Company entered into a new service contract with Synapse in April 2006. The new contract is scheduled to expire on December 31, 2006.

Software revenue, which is directly attributable to Ranzal, was $0.3 million for the quarterly periods ended March 31, 2006 and 2005. Software revenue is expected to fluctuate between quarters depending on our customers’ demand for such third-party off-the-shelf software. Software sales have been affected in both 2006 and 2005 in connection with customer demand for such software in relation to Ranzal-related services. Gross profit margins are generally much lower on software sales than on consulting services.

Generally, we are reimbursed for out-of-pocket expenses incurred in connection with our customers’ consulting projects. Reimbursed expense revenue increased approximately $0.1 million for the three months ended March 31, 2006, to approximately $0.5 million, as compared to $0.4 million for the three months ended March 31, 2005. The aggregate amount of reimbursed expenses will fluctuate from quarter to quarter depending on the location of our customers, the general fluctuation of travel costs, such as airfare, and the number of our projects that require travel.

Our annualized revenue per billable consultant, adjusted to exclude the effects of software revenue and reimbursable expense revenue, increased 4.6%, to $268 thousand, during the quarterly period ended March 31, 2006, as compared to $256 thousand during the same quarterly period in 2005. This improvement is due to incremental increases in consultant billing rates, largely associated with our Ranzal and NDS businesses. During the first quarter of 2006, the Company increased the number of customers it served to 122, as compared to 85 customers during the comparative three-month period ended March 31, 2005. Service r evenue from our five largest customers during the first quarter of 2006, including Synapse, a related party and our largest customer, was approximately 50.4% of total service revenue, as compared to 50.2% in the comparative 2005 quarterly period.

Cost of Revenue. Cost of revenue increased by $4.1 million, or 79.2%, to $9.2 million for the three-month period ended March 31, 2006, as compared to $5.1 million in the first quarterly period of 2005.

The primary reason for the increase in reported cost of revenue in the first quarter of 2006 relates to increased project and personnel costs, separate and apart from the NDS Acquisition, to support our continued growth in customer projects and revenue. Project personnel costs are principally salaries, payroll taxes, employee benefits and travel expenses for personnel dedicated to customer projects.  These costs represent the most significant expense we incur in providing our services. In total, project personnel costs increased by $3.9 million, or 87.2%, to $8.4 million in the three-month period ended March 31, 2006, as compared to $4.5 million in the same period of the prior year. As of March 31, 2006, the Company employed 268 billable consultants, as compared to 165 billable consultants as of March 31, 2005. The NDS Acquisition, which added 41 billable consultants, accounted for $0.9 million, or 21.8%, of the current year increase in project and personnel costs.

During the first quarter of 2006, the Company adopted the provisions of SFAS No. 123R, “Share-Based Payment” (“SFAS No. 123R”). SFAS No. 123R requires recognition of stock-based compensation expense on the same line item where cash compensation is recognized for our employees. As a result of the adoption of SFAS No. 123R, the Company recorded approximately $93 thousand of compensation expense, which is included in project and personnel costs. No compensation expense related to SFAS No. 123R was reported in the comparative quarterly period ended March 31, 2005.

As a percentage of service revenue, project and personnel costs increased from 54.2% during the three-month period ended March 31, 2005, to 62.4% during three-month period ended March 31, 2006. The respective increase in project personnel costs, as a percentage of service revenue, primarily reflects the increase of 103 billable consultants in the current year quarter and a decrease in the Company’s billable consultant utilization rates. The Company’s billable consultant utilization rate was 78.8% for the three-month period ended March 31, 2006, as compared to 81.5% for the three-month period ended March 1, 2005.

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Software costs were $0.3 million and $1.4 million during the three-month periods ended March 31, 2006 and 2005. Software costs are expected to fluctuate between quarters depending on our customers demand for software. Reimbursable expenses, which increased in the three-month period ended March 31, 2005 by $0.1 million, or 36.4%, to $0.5 million, were a direct result of the Company’s increased customer base and associated travel-related expenses incurred during the reported fiscal periods.

Gross Profit . Gross profit increased by $1.3 million, or 33.6%, to $5.1 million in the three-month period ended March 31, 2006, as compared to $3.8 million in the three-month period ended March 31, 2005. Gross profit, as a percentage of total revenue, decreased to 35.7% in first quarter of 2006, as compared to 42.6% in comparative 2005 quarterly period. Gross profit related to service revenue decreased from 45.8% during the three-month period ended March 31, 2005 to 37.6% for the three-month period ended March 31, 2006.

The increase in gross profit, on an absolute dollar basis, during the current quarter is directly related to growth within the Edgewater’s core business, combined with the incremental gross profit provided by NDS. Edgewater’s core business represented $0.7 million, or 57.2%, of the first quarter 2006 increase in gross profit. Factors influencing this increase include increases in customer base and increases in billable consultant headcount, which are discussed above. NDS contributed $0.6 million in gross profit during the first quarter of 2006.

The current quarter decrease in both total gross profit margin and gross profit margin related to service revenue, which decreased by 6.9% and 8.2%, respectively, was related to the decrease in the billable consultant utilization rate. The current quarter utilization rate was 78.8%, as compared to 81.5% for the first quarter of 2005. The decrease in the utilization rate in the 2006 three-month period was directly attributable to increased bench headcount in the early part of the quarter as a result of delays in starting of customer projects. Additionally, the gross profit margin for the three-month period ended March 31, 2006 was also affected by the adoption of FAS 123R, as described above.

Selling, General and Administrative Expenses (“SG&A”) . SG&A expenses totaled $4.3 million, or 30.5% of total revenue for the three months ended March 31, 2006. SG&A expenses for the three-month period ended March 31, 2005 totaled $3.5 million and represented 38.5% of total revenue. The increase of $0.8 million in SG&A expenses in the current quarter is attributable to an increase in sales-related salaries and wages, stock-based compensation expense associated with the current quarter adoption of SFAS No. 123R, increased travel expenses, costs related to the implementation of Sarbanes-Oxley, the recruiting of additional billable consultants, and the NDS Acquisition.

In total, sales-related salaries expense, inclusive of commission expense, increased by $0.3 million during the three-month period ended March 31, 2006, as the Company increased sales headcount from 20 employees during the period ended March 31, 2005, to 23 employees during the current quarter. During the first quarter of 2006, the Company incurred an increase in stock-based compensation expense of $150 thousand directly related to the Company’s adoption of SFAS No. 123R. SFAS No. 123R requires recognition of stock-based compensation expense on the same line item where cash compensation is recognized for our employees.  Travel expenses increased by $0.1 million during the current quarter primarily as a result of increased sales opportunities. The Company reported an increase of $0.1 million in professional services expenses primarily related to its Sarbanes-Oxley readiness programs. During the first quarter of 2006, the Company reported increased recruiting expense of $0.1 million, as compared to the same period 2005. The increase in recruiting expense is directly related to the overall increase in the Company’s headcount from 207 to 323 in 2006. Finally, SG&A expenses for the three months ended March 31, 2006 included incremental expense related to NDS’ operations, for which expense was not present in the first quarter of 2005.

Depreciation and Amortization Expense . Depreciation and amortization expense was $0.3 million in the three-month periods ended March 31, 2006 and 2005. Excluding amortization expense related to intangible assets identified in connection with the NDS Acquisition, depreciation and amortization expense decreased in the current quarter by $0.07 million. The decrease is related to absence of expense associated with fully amortized intangible assets from previous acquisitions.  During the current quarter, the Company recognized amortization expense related to the identified NDS intangible assets. Amortization of the NDS intangible assets amounted to $0.1 million in the first quarter of 2006. There was no amortization of NDS-related intangible assets during the first three months of fiscal 2005.

Operating Income . Operating income increased by $0.4 million, or 646.2%, to $0.5 million in the three-month period ended March 31, 2006, as compared to $0.1 million in the three-month period ended March 31, 2005. The increase in operating income is attributable to the $3.8 million increase in Edgewater’s core business service revenue during the first quarter of 2006 and the NDS acquisition, which contributed $1.4 million in service revenue in the current quarter. The first

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quarter of 2006 increase in service revenue was partially offset by an increase in project and personnel costs and SG&A expenses as described above.

Interest Income, Net . We earned net interest income of $0.3 million during the three-month periods ended March 31, 2006 and 2005. Despite the current quarter decrease of $10.8 million in marketable securities, interest income has remained relatively consistent from period to period as a result of increased yields on our invested balances during the current quarter.

Provision for Income Taxes . The Company recorded income tax provisions of $0.3 million in the three-month period ended March 31, 2006, as compared to a provision of $0.1 million during the three months ended March 31, 2005. These provisions represented tax expense based on an estimated effective income tax rate of 40.0% of operating income, which was inclusive of both state and federal income tax rates.

Net Income .   We reported net income of $0.5 million and $0.2 million during the three-month periods ended March 31, 2006 and 2005, respectively. The increase in net income in the presented three-month periods is a cumulative result of increases in Edgewater’s core business revenue, gross margin and other items and the contributions of the NDS Acquisition, which are discussed above.

As of March 31, 2006, we had cash, cash equivalents and marketable securities of $25.6 million, a $7.8 million, or 23.4%, decrease from the December 31, 2005 balance of $33.4 million. Working capital, which is defined as current assets less current liabilities, decreased $8.5 million, to $30.9 million, as of March 31, 2006, as compared to $39.4 million as of December 31, 2005. The decrease in the Company’s cash, cash equivalents and marketable securities and working capital is primarily related to the net cash outflow of $6.8 million related to the NDS Acquisition and cash outflow related to the first quarter payments on the 2005 performance-based bonus plan. These outflows were partially offset by an inflow of $0.5 million from collections of accounts receivables and $0.5 million in current quarter income from continuing operations.

Our primary historical sources of funds have been from operations and the proceeds from equity offerings, as well as sales of businesses in fiscal years 2000 and 2001. Our principal historical uses of cash have been to fund working capital requirements, capital expenditures and acquisitions. We generally pay our employees bi-weekly for their services, while receiving payments from customers 30 to 60 days from the date of the invoice.

Historically, a significant portion of the Company’s cash flows from operations has been derived from our largest customer, Synapse, which is also a related party. Payments received by the Company for services rendered to Synapse totaled approximately $2.2 million and $1.4 million in the three-month periods ended March 31, 2006 and 2005, respectively. All receivable amounts were collected within our normal business terms. As of March 31, 2006, we were working on a Synapse contract extension for 2006, which was completed and signed in April 2006. We expect current year service revenue from Synapse to be approximately $8.5 million, which is consistent with reported service revenue from Synapse in 2005. The new contract is scheduled to expire on December 31, 2006. We have no assurance that Synapse will continue to require our services beyond our scheduled contract termination date of December 31, 2006.

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Net cash provided by operating activities was $1.4 million for the three months ended March 31, 2006 and 2005. The cash provided during the three months ended March 31, 2006 was largely attributable to inflows of $3.2 million in accrued expenses and other liabilities, of which $2.6 million related to the Company’s accrual of expected earnout consideration to be paid to the former shareholders of Ranzal based upon the successful completion of the second and final earnout period, $0.5 million in collections of outstanding accounts receivable balances and  $0.5 million generated from income from continuing operations. These inflows were offset primarily by a cash outflow of $3.5 million related to accrued payroll and related liabilities, which included the Company’s payout of its 2005 performance-based bonuses. The cash provided during the three months ended March 31, 2005 was largely attributable to the Company’s receipt of $0.8 million on its 1997 tax carryback claim from the IRS. In both of the three-month periods presented, each of these significant cash flow transactions were offset by other changes in net income, assets and liabilities resulting in the presented net cash flow impact from operations.

Net cash provided by investing activities was $1.2 million and $3.0 million for the three months ended March 31, 2006 and 2005, respectively. Cash provided by investing activities for the three months ended March 31, 2006 was attributable to redemptions of marketable securities of $10.8 million, which were offset by a cash outflow of $6.8 million related to the NDS Acquisition and $2.6 million in earnout consideration, payable to the former stockholders of Ranzal, directly related to the successful completion of the second and final earnout period. Cash provided by investing activities for the three months ended March 31, 2005 was attributable to $4.0 million in net redemptions of marketable securities, which were offset by the Company’s accruing of $1.0 million in earnout consideration, payable to the former stockholders of Ranzal, directly related to the successful completion of the first six-month earnout period.

As of March 31, 2006, we have no long-term commitments for capital expenditures and all capital expenditures are discretionary.

Net cash provided by (used in) financing activities was $0.4 million and $(1.5) million for the three months ended March 31, 2006 and 2005, respectively. Cash provided by financing activities during the current quarter was attributable to net cash received from stock option exercises and proceeds from the Company’s employee stock purchase program. Net cash used in financing activities for the three months ended March 31, 2005 was primarily attributable to the Company’s $1.6 million in repurchases of its common stock, net of cash received from stock option exercises and proceeds from the employee stock purchase program.

Net cash used in discontinued operations was $(0.06) million for the three months ended March 31, 2006 and 2005. Net cash used in each of the presented three-month periods related to payments on previously accrued tax matters and net payments made on lease obligations.

Our combined cash and cash equivalents increased by $2.9 million and $2.8 million in the three-month periods ended March 31, 2006 and 2005, respectively. These net changes to the Company’s reported cash and cash equivalent balances are reflective of the sources and uses of cash described above. The aggregate of cash, cash equivalents and marketable securities was $25.6 million and $32.7 million as of March 31, 2006 and 2005, respectively.

We believe that our current cash balances and cash flows from operations will be sufficient to fund our short-term operating and liquidity requirements, at least for the next twelve-month period, and our long-term operating and liquidity requirements, based on our current business model. We periodically reassess the adequacy of our liquidity position, taking into consideration current and anticipated requirements. The pace at which we will either generate or consume cash will be dependent upon future operations and the level of demand for our services on an ongoing basis.

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Risk Factors

In addition to other information contained in this Quarterly Report on Form 10-Q, the following risk factors should be carefully considered in evaluating Edgewater Technology and its business because such factors could have a significant impact on our business, operating results and financial condition. These risk factors could cause actual results to materially differ from those projected in any forward-looking statements.

Our success depends on a limited number of significant customers, and our results of operations and financial condition could be negatively affected by the loss of a major customer or significant project or the failure to collect a large account receivable . We generate a significant portion of our service revenue from a limited number of customers. As a result, if we were to lose a major customer or large project, our service revenue could be materially and adversely affected. During the three months ended March 31, 2006, our five largest customers accounted for 50.2% of our service revenue. For the three months ended March 31, 2005, our five largest customers accounted for 50.4% of our service revenue. We perform varying amounts of work for specific customers from year to year. A major customer in one year may not use our services in another year. In addition, we may derive service revenue from a major customer that constitutes a large portion of a particular quarter’s total service revenue. If we lose any major customers or any of our customers cancel or significantly reduce a large project’s scope, our results of operations and financial condition could be materially and adversely affected. Further, if we fail to collect a large accounts receivable balance, we could be subjected to a material financial expense and a decrease in cash flow. In the event there is a loss of revenue related to our largest customers, it would be expected that such a loss would have an adverse impact upon the Company’s operations and cash flows. However, we believe such an impact could be mitigated through the management of employee headcount, through the redeployment of existing resources on to other consulting projects and cost savings initiatives that could be implemented if necessary.

Our lack of long-term customer contracts reduces the predictability of our revenue because these contracts may be canceled on short notice and without penalty . A rapid decline in demand for our services also could adversely impact our utilization of personnel, our revenue and our operating results. Our customers generally retain us on a project-by-project basis, rather than under long-term contracts. As a result, a customer may not engage us for further services once a project is complete. If a significant customer, or a number of customers, terminate, significantly reduce, or modify their contracts with us, our results of operations would be materially and adversely affected. Consequently, future revenue should not be predicted or anticipated based on the number of customers we have or the number and size of our existing projects. If a customer were to postpone, modify, or cancel a project, including but not limited to Synapse, we would be required to shift our consultants to other projects to minimize the impact on our operating results. We cannot provide assurance that we will be successful in efficiently and effectively shifting our consultants to new projects in the event of project terminations, which could result in reduced service revenue and lower gross margins. However, in the event we experience a rapid decline in the demand for our professional services, we could experience lower utilization of our professionals than we planned. In addition, because most of our client engagements are terminable by our clients without penalty, an unanticipated termination of a client project could result in underutilized employees. While professional staff levels may be adjusted to reflect active engagements, we may also need to maintain a sufficient number of senior professionals to oversee existing client engagements and participate in our sales efforts to secure new client assignments. If we experience unexpected changes or variability in our revenue from contract terminations or reduced demand, we could experience variations in our quarterly operating results, our actual results may differ materially from the amounts planned and our operating profitability may be reduced or eliminated.

If we fail to satisfy our customers’ expectations, our existing and continuing business could be adversely affected. Our sales and marketing strategy emphasizes our belief that we have highly referenceable accounts. Therefore, if we fail to satisfy the expectations of our customers, we could damage our reputation and our ability to retain existing customers and attract new customers. In addition, if we fail to deliver and perform on our engagements, we could be liable to our customers for breach of contract. Although most of our contracts limit the amount of any damages to the fees we receive, we could still incur substantial cost, negative publicity, and diversion of management resources to defend a claim, and as a result, our business results could suffer.

We may have lower margins, or lose money, on fixed-price contracts . As part of our strategy, we intend to continue to grow our business with time-and-materials contracts, fixed-price contracts, and fixed-fee contracts. During the three-month period ended March 31, 2006, fixed-price contracts represented approximately 12.5% of our service revenue. We assume greater financial risk on fixed-price contracts than on time-and-materials or fixed-fee engagements, and we cannot assure you that we will be able to successfully price our larger fixed-price contracts. If we fail to accurately estimate the resources and time required for an engagement, fail to manage customer expectations effectively or fail to complete fixed-price engagements

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within planned budgets, on time and to our customers’ satisfaction, we could be exposed to cost overruns, potentially leading to lower gross profit margins, or even losses on these engagements.

Competition in the IT and management consulting services market is intense and, therefore, we may lose projects to, or face pricing pressure from, our competitors or prospective customers’ internal IT departments or international outsourcing firms . The market for IT and management consulting providers is highly competitive. In many cases, we compete for premium IT services work with in-house technical staff, software product companies with extended service organizations and other international IT and management consulting firms, including offshore outsourcing firms. In addition, there are many small, boutique technology management consulting firms who have developed services similar to those offered by us. We believe that competition will continue to be strong and may increase in the future, especially if our competitors continue to reduce their price for IT and management consulting services. Such pricing pressure could have a material impact on our revenue and margins and limit our ability to provide competitive services.

Our target market is rapidly evolving and is subject to continuous technological change. As a result, our competitors may be better positioned to address these developments or may react more favorably to these changes, which could have a material adverse effect on our business. We compete on the basis of a number of factors, many of which are beyond our control. Existing or future competitors may develop or offer IT and management consulting services that provide significant technological, creative, performance, price or other advantages over the services we offer.

See “Item 1 — Business - Competition” in our 2005 Annual Report on Form 10-K, as filed with the SEC on March 23, 2006, for a representative list of competitors in the IT and management consulting services space.

Some of our competitors have longer operating histories and significantly greater financial, technical, marketing and managerial resources than we do. There are relatively low barriers of entry into our business. We have no patented or other proprietary technology that would preclude or inhibit competitors from entering the IT services market. Therefore, we must rely on the skill of our personnel and the quality of our customer service. The costs to start an IT and management consulting services firm are low. We expect that we will continue to face additional competition from new entrants into the market in the future, offshore providers and larger integrators and we are subject to the risk that our employees may leave us and may start competing businesses. Any one or more of these factors could have a material impact on our business.

Because we rely on highly-trained and experienced personnel to design and build complex systems for our customers, an inability to retain existing employees and attract new qualified employees would impair our ability to provide our services to existing and new customers. Our future success depends in large part on our ability to attract new qualified employees and retain existing highly-trained and experienced technical consultants, project management consultants, business analysts and sales and marketing professionals of various experience levels. If we fail to attract new employees or retain our existing employees, we may be unable to complete existing projects or bid for new projects of similar size, which could adversely affect our revenue. While attracting and retaining experienced employees is critical to our business and growth strategy, maintaining our current employee base may also be particularly difficult. Even if we are able to grow and expand our employee base, the additional resources required to attract new employees and retain existing employees may adversely affect our operating margins.

We depend on our key personnel, and the loss of their services may adversely affect our business . We believe that our success depends on the continued employment of the senior management team and other key personnel. This dependence is particularly important to our business because personal relationships are a critical element in obtaining and maintaining customer engagements. If one or more members of the senior management team or other key personnel were unable or unwilling to continue in their present positions, our business could be seriously harmed. Furthermore, other companies seeking to develop in-house business capabilities may hire away some of our key personnel.

Past or future business combination transactions or other strategic alternatives could disrupt our ongoing business, distract our management and employees, increase our expenses and adversely affect our business . We anticipate that a portion of our future growth may be accomplished through one or more business combination transactions or other strategic alternatives. The success of any such transactions will depend upon, among other things, our ability to integrate acquired personnel, operations, products and technologies into our organization effectively, to retain and motivate key personnel of acquired businesses and to retain customers of acquired businesses. We cannot assure you that we will be able to identify suitable opportunities, continue to successfully grow acquired businesses, integrate acquired personnel and operations successfully or utilize our cash or equity securities as acquisition currency on acceptable terms to complete any such business combination transactions. These difficulties could disrupt our ongoing business, distract our management and employees,

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increase our expenses and materially and adversely affect our results of operations. Any such transactions would involve certain other risks, including the assumption of additional liabilities, potentially dilutive issuances of equity securities and diversion of management’s attention from operating activities.

Volatility of our stock price could result in expensive class action litigation . If our common stock suffers from volatility like the securities of other technology and consulting companies, we could be subject to securities class action litigation similar to that which has been brought against other companies following periods of volatility in the market price of their common stock. The process of defending against these types of claims, regardless of their merit, is costly and often creates a considerable distraction to senior management. Any future litigation could result in substantial additional costs and could divert our resources and senior management’s attention. This could harm our productivity and profitability and potentially adversely affect our stock price.

We may not be able to protect our intellectual property rights or we may infringe upon the intellectual property rights of others, which could adversely affect our business. Our future success will depend, in part, upon our intellectual property rights and our ability to protect these rights. We do not have any patents or patent applications pending. Existing trade secret and copyright laws afford us only limited protection. Third parties may attempt to disclose, obtain or use our solutions or technologies. This is particularly true in foreign countries where laws or law enforcement practices may not protect our proprietary rights as fully as in the United States. Others may independently develop and obtain patents or copyrights for technologies that are similar or superior to our technologies. If that happens, we may need to license these technologies and we may not be able to obtain licenses on reasonable terms, if at all. If we are unsuccessful in any future intellectual property litigation, we may be forced to do one or more of the following:

·                   Cease selling or using technology or services that incorporate the challenged intellectual property;

·                   Obtain a license, which may not be available on reasonable terms or at all, to use the relevant technology;

Generally, we develop software applications for specific customer engagements. Issues relating to ownership of and rights to use software applications and frameworks can be complicated. Also, we may have to pay economic damages in these disputes, which could adversely affect our results of operations and financial condition.

Fluctuations in our quarterly revenue and operating results may lead to reduced prices for our stock . Our quarterly revenue and operating results can sometimes be volatile. We believe comparisons of prior period operating results cannot be relied upon as indicators of future performance. If our revenue or our operating results in any future period fall below the expectations of securities analysts and investors, the market price of our securities would likely decline.

Factors that may cause our quarterly results to fluctuate in the future include the following:

·                   Unanticipated termination of a major engagement, a customer’s decision not to proceed with an engagement we anticipated or the completion or delay during a quarter of several major customer engagements;

·                   Efficiency with which we utilize our employees, or utilization, including our ability to transition employees from completed engagements to new engagements;

·                   Our ability to manage our operating costs, a large portion of which are fixed in advance of any particular quarter;

·                   Changes in pricing policies by us or our competitors;

·                   Seasonality and cyclicality, including the effects of lower utilization rates during periods with disproportionately high holiday and vacation usage experience;

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Anti-takeover provisions in our charter documents, our stockholder rights plan and/or Delaware law could prevent or delay a change in control of our Company . Our Board of Directors can issue preferred stock in one or more series without stockholder action. The existence of this “blank-check” preferred stock provision could render more difficult or discourage an attempt to obtain control by means of a tender offer, merger, proxy contest or otherwise. In addition, our Company has a stockholder rights plan, commonly referred to as a “poison pill,” that may discourage an attempt to obtain control by means of a tender offer, merger, proxy contest or otherwise. If a person acquires 20% or more of our outstanding shares of common stock, except for certain institutional stockholders, who may acquire up to 25% of our outstanding shares of common stock, then rights under this plan would be triggered, which would significantly dilute the voting rights of any such acquiring person. Certain provisions of the Delaware General Corporation Law may also discourage someone from acquiring or merging with us.

If clients view offshore development as a viable alternative to our service offerings, our pricing, revenue, margins and profitability may be negatively affected . A trend has developed whereas international IT service firms have been founded in countries such as India, which have well-educated and technically-trained workforces available at wage rates that are substantially lower than U.S. wage rates. While traditionally we have not competed with offshore development, presently this form of software development is experiencing rapid and increasing acceptance in the market. To counteract this trend, we are moving to provide premium service offerings, including design and strategy consulting engagements, which are more difficult for offshore development firms to replicate. If we are unable to continually evolve our service offerings or the rate of acceptance of offshore development advances even faster than we expect, then our pricing and revenue could be adversely affected.

We may be required to record additional goodwill impairment charges in future quarters . As of March 31, 2006, we had recorded goodwill and related intangible assets with a net book value of $28.6 million related to prior acquisitions. We test for impairment at least annually and whenever evidence of impairment exists. We performed our annual goodwill impairment test as of December 2, 2005 and determined that the goodwill and related intangible assets were not impaired. We have in the past recorded impairments to our goodwill, however. In January 2002, we recorded as a change in accounting principle, a non-cash impairment charge of $12.5 million related to our goodwill. We recorded an additional non-cash charge of $7.4 million, related to a further impairment in December 2002. See “Item 8 — Financial Statements and Supplementary Data - Notes 2 and 8” in our 2005 Annual Report on Form 10-K as filed with the SEC on March 23, 2006. As goodwill values are measured using a variety of factors, including values of comparable companies and using overall stock market and economic data, in addition to our own future financial performance, we may be required in the future to record additional impairment charges that could have a material adverse effect on our reported results.

We may not generate enough income this year or in future periods to maintain the current net carrying value of our deferred tax asset. We have a deferred tax asset of approximately $21.2 million, net of an applicable valuation allowance, as of March 31, 2006. If we are unable to generate enough income this year or in future periods, the valuation allowance relating to our deferred tax asset may have to be revised upward, which would reduce the carrying value of this asset on our balance sheet under generally accepted accounting principles. An increase in the valuation allowance and a related reduction in the carrying value of this asset would increase our provision for income taxes, thereby reducing net income or increasing net loss, and could reduce our total assets (depending on the amount of any such change or changes). An increase in the valuation allowance could otherwise have a material adverse effect on our results of operations and/or our stockholders’ equity and financial position.

Our business could be negatively affected by material changes to our strategic relationship with Hyperion . The Ranzal business, which we acquired in October of 2004, derives a substantial portion of its revenue from a channel relationship with Hyperion Solutions Corporation. This relationship involves Hyperion assisted lead generation support with respect to the BI services provided by Ranzal. This relationship is governed by a Consulting Reseller Partner Agreement, which is subject to annual renewal and is scheduled to expire in October of 2006. A failure to renew this relationship, or a material modification or change in Hyperion’s partner approach or its contract terms, for any reason, could have a material adverse impact on our results of operations.

We rely on sales to a related party who is also a significant customer. The Synapse Group, Inc. (“Synapse”) is considered both a significant customer and a related party. Revenue from Synapse amounted to $2.2 million, or 16.6% of service revenue, and $2.2 million, or 25.2% of service revenue, for the three months ended March 31, 2006 and 2005, respectively. The Company provides services to Synapse related to infrastructure support, custom software development, and systems integration. Services are provided on both a fixed-fee and time and materials basis. Our contracts with Synapse, including all terms and conditions, are consistent with those we have with our other customers and are negotiated on an annual

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basis. In April of 2006, our Company entered into a one-year services contract with Synapse. Consistent with 2005, it is anticipated that Synapse will purchase at least $8.5 million in professional services during 2006. There are no commitments beyond the twelve-month term of the agreement. There is no guarantee that the Company will be able to successfully negotiate a new contract with Synapse at the end of the current contract period. Additionally, there is no guarantee that revenue related to Synapse services will be comparable to those generated in the past.

Off Balance Sheet Arrangements, Contractual Obligations and Contingent Liabilities and Commitments

We lease office space and certain equipment under noncancelable operating lease arrangements through 2013. Rent expense, including amounts paid to related parties for discontinued operations, was approximately $0.3 million for the three months ended March 31, 2006 and 2005.

On May 4, 2006, the Company executed and made effective an amendment to its Second Amendment to Lease agreement with Harvard Mills Limited Partnership (the “Third Amendment to Lease Agreement”). The Third Amendment to Lease Agreement pertains to the Company expanding its current office space at its corporate headquarters in Wakefield, Massachusetts by an additional 35,568 square feet (the “New Space”). The lease term related to the New Space will commence on August 1, 2006 (the “New Premises Commencement Date”), subject to the satisfaction of certain occupancy conditions. Additionally, the Third Amendment to Lease Agreement extends the lease expiration date, as described in the Second Amendment to Lease agreement, from December 31, 2013 to July 31, 2016.

As of the New Premises Commencement Date, base rent for the entire premises under the Third Amendment to Lease Agreement, inclusive of the existing space, as described in the Second Amendment to Lease agreement, and the New Space, will be $1.2 million per year for the first three-year period ending July 31, 2009, $1.3 million per year for the subsequent four-year period ending July 31, 2013 and $1.4 million per year for the final three-year period ending July 31, 2016. The Third Amendment to Lease Agreement also provides for the payment of certain common operating expenses.

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SPECIAL NOTE REGARDING FORWARD LOOKING STATEMENTS

Some of the statements in this Quarterly Report on Form 10-Q and elsewhere constitute forward-looking statements under Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, including statements made with respect to significant customers, revenue, backlog, competitive and strategic initiatives, growth plans, potential stock repurchases, future results, tax consequences and liquidity needs. These statements involve known and unknown risks, uncertainties and other factors that may cause results, levels of activity, growth, performance, tax consequences or achievements to be materially different from any future results, levels of activity, growth, performance, tax consequences or achievements expressed or implied by such forward-looking statements. Such factors include, among other things, those listed below, as well as those further set forth under the heading “Business — Factors Affecting Finances, Business Prospects and Stock Volatility” in our 2005 Annual Report on Form 10-K as filed with the SEC on March 23, 2006.

The forward-looking statements included in this Form 10-Q and referred to elsewhere are related to future events or our strategies or future financial performance. In some cases, you can identify forward-looking statements by terminology such as “may,” “should,” “believe,” “anticipate,” “future,” “forward,” “potential,” “estimate,” “encourage,” “opportunity,” “goal,” “objective,” “quality,” “growth,” “leader,” “could”, “expect,” “intend,” “plan,” “planned” “expand,” “focus,” “build,” “through,” “strategy,” “expiration,” “provide,”  “offer,” “maximize,” “allow,” “allowed,” “represent,” “commitment,” “create,” “implement,” “result,” “seeking,” “increase,” “add,” “establish,” “pursue,” “feel,” “work,” “perform,” “make,” “continue,”  “can,” “will,” “ongoing,” “include” or the negative of such terms or comparable terminology. These forward-looking statements inherently involve certain risks and uncertainties, although they are based on our current plans or assessments which are believed to be reasonable as of the date of this Form 10-K. Factors that may cause actual results, goals, targets or objectives to differ materially from those contemplated, projected, forecasted, estimated, anticipated, planned or budgeted in such forward-looking statements include, among others, the following possibilities: (1) inability to execute upon growth objectives, including growth in entities acquired by our Company; (2) failure to obtain new customers or retain significant existing customers; (3) the loss of one or more key executives and/or employees; (4) changes in industry trends, such as a decline in the demand for Business Intelligence and Corporate Performance Management (“CPM”) solutions, custom development and system integration services and/or delays in industry-wide information technology (“IT”) spending, whether on a temporary or permanent basis and/or delays by customers in initiating new projects or existing project milestones; (5) adverse developments and volatility involving geopolitical or technology market conditions; (6) unanticipated events or the occurrence of fluctuations or variability in the matters identified under “Critical Accounting Policies”; (7) failure of our sales pipeline to be converted to billable work and recorded as revenue; (8) failure of the middle market and the needs of middle-market enterprises for business services to develop as anticipated; (9) inability to recruit and retain professionals with the high level of information technology skills and experience needed to provide our services; (10) failure to expand outsourcing services to generate additional revenue; (11) any changes in ownership of the Company or otherwise that would result in a limitation of the net operating loss carryforward under applicable tax laws; and (12) the failure of the marketplace to embrace CPM or BI services. In evaluating these statements, you should specifically consider various factors described above as well as the risks outlined under Item I “Business — Factors Affecting Finances, Business Prospects and Stock Volatility” in our 2005 Annual Report on Form 10-K filed with the SEC on March 23, 2006. These factors may cause our actual results to differ materially from those contemplated, projected, anticipated, planned or budgeted in any such forward-looking statements.

Although we believe that the expectations in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance, growth, earnings per share or achievements. However, neither we nor any other person assumes responsibility for the accuracy and completeness of such statements. We are under no duty to update any of the forward-looking statements after the date of this Form 10-Q to conform such statements to actual results.

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