UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM10-Q

(Mark One)

For the quarterly period ended June 30, 2018March 31, 2019

Commission File Number001-34099

MASTECH DIGITAL, INC.

(Exact name of registrant as specified in its charter)

Registrant’s telephone number, including area code:(412) 787-2100

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

Indicate by check mark whether the registrant has submitted electronically, and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of RegulationS-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ☒    No  ☐

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

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

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

Securities registered pursuant to Section 12(b) of the Act:

The number of shares of the registrant’s Common Stock, par value $.01 per share, outstanding as of July 31, 2018April 30, 2019 was 5,477,300.11,000,946.

MASTECH DIGITAL, INC.

QUARTERLY REPORT ON FORM10-Q

FOR THE QUARTER ENDED JUNE 30, 2018MARCH 31, 2019

TABLE OF CONTENTS

PART I. FINANCIAL INFORMATION

MASTECH DIGITAL, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Amounts in thousands, except per share data)

(Unaudited)

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

MASTECH DIGITAL, INC.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Amounts in thousands)

(Unaudited)

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

MASTECH DIGITAL, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(Amounts in thousands, except share and per share data)

(Unaudited)

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

MASTECH DIGITAL, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWSSHAREHOLDERS’ EQUITY

(Amounts in thousands)

(Unaudited)

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

MASTECH DIGITAL, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Amounts in thousands)

(Unaudited)

The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.

MASTECH DIGITAL, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

JUNE 30,MARCH 31, 2019 AND 2018 AND 2017

(Unaudited)

1.

Basis of Presentation

References in this Quarterly Report on Form10-Q to “we”, “our”, “Mastech Digital”, “Mastech” or “the Company” refer collectively to Mastech Digital, Inc. and its wholly-owned operating subsidiaries, which are included in these Condensed Consolidated Financial Statements (the “Financial Statements”).

Description of Business

We are a provider of Digital Transformation IT Services.

Our portfolio of offerings includes data management and analytics services; other digital transformation services such asaround Salesforce.com SAP HANA, and Digital Learning services;Learning; and IT staffing services that span acrossfor both digital and mainstream technologies.

Reflective of our recent2017 acquisition of the services division of Canada-based InfoTrellis,InfoTrelllis, Inc., we have added specialized capabilities in delivering data management and analytics services to our customers globally. This business offers project-based consulting services in the areas of Master Data Management, Enterprise Data Integration, Big Data, and Analytics and Digital Transformation, with such services delivered usingon-site and offshore resources.

Our IT staffing business combines technical expertise with business process experience to deliver a broad range of staffing services in digital and mainstream technologies. Our digital technologies include data management, analytics, cloud, mobility, social and artificial intelligence. We work with businesses and institutions with significant IT spending and recurring staffing service needs. We also support smaller organizations with their “project focused” temporary IT staffing requirements.

Accounting Principles

The accompanying Financial Statements have been prepared by management in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and applicable rules and regulations of the Securities and Exchange Commission (the “SEC”). Accordingly, they do not include all of the information and disclosures required by U.S. GAAP for complete consolidated financial statements. In the opinion of management, all adjustments, consisting principally of normal recurring adjustments, considered necessary for a fair presentation have been included. The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the Financial Statements and the accompanying notes. Actual results could differ from these estimates. These Financial Statements should be read in conjunction with the Company’s audited consolidated financial statements and accompanying notes for the year ended December 31, 2017,2018, included in our Annual Report on Form10-K filed with the SEC on March 23, 2018.29, 2019. Additionally, our operating results for the three and six months ended June 30, 2018March 31, 2019 are not necessarily indicative of the results that can be expected for the year ending December 31, 20182019 or for any other period.

Principles of Consolidation

The Financial Statements include the accounts of the Company and its wholly-owned subsidiaries. All material intercompany transactions and balances have been eliminated in consolidation.

Critical Accounting Policies

Please refer to Note 1 “Summary of Significant Accounting Policies” of the Consolidated Financial Statements and “Management’s Discussion and Analysis of Financial Condition and Results of Operations–Critical Accounting Policies and Estimates” in our Annual Report on Form10-K for the year ended December 31, 20172018 for a more detailed discussion of our significant accounting policies and critical accounting estimates. There were no material changes to these critical accounting policies during the sixthree months ended June 30, 2018.March 31, 2019, except for the adoption of Accounting Standards Update (“ASU”)No. 2016-02, “Leases (Topic 842)” on January 1, 2019 using the additional transition method noted in ASU2018-11. See Note 4, herein for further disclosures.

Segment Reporting

The Company has two reportable segments, in accordance with ASCAccounting Standards Committee (“ASC”) Topic 280 “Disclosures About Segments of an Enterprise and Related Information”: Data and Analytics Services and IT Staffing Services.

2. Revenue from Contracts with Customers

As of January 1, 2018, the Company adopted Accounting Standards Update (“ASU”)2014-09, “Revenue

2.

Revenue from Contracts with Customers” using the modified retrospective method. The core principle of the new standard is that a company should recognize revenue to depict the transfer of promised services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those services. The implementation of the new standard had no impact on the measurement of recognition of revenue of prior periods and we expect the impact of this new standard to be immaterial to us on an ongoing basis. Additional disclosures have been added in accordance with the ASU.

The Company recognizes revenue ontime-and-material contracts as services are performed and expenses are incurred.Time-and-material contracts typically bill at an agreed-upon hourly rate, plusout-of-pocket expense reimbursement.Out-of-pocket expense reimbursement amounts vary by assignment, but on average represent less than 2% of total revenues. Revenue is earned on a per transaction or labor hour basis, as that amount directly corresponds to the value of the Company’s performance. Revenue recognition is negatively impacted by holidays and consultant vacation and sick days.

In certain situations related to client direct hire assignments, where the Company’s fee is contingent upon the hired resources continued employment with the client, revenue is not fully recognized until such employment conditions are satisfied.

The Company recognizes revenue on fixed price contracts as services are rendered and uses a cost-based input method to measure progress. Determining a measure of progress requires management to make judgments that affect the timing of revenue recognized. Under the cost-based input method, the extent of progress towards completion is measured based on the ratio of costs incurred to date to the total estimated costs at completion of the performance obligation. Revenues, including estimated fees or profits, are recorded proportionally as costs are incurred. The Company has determined that the cost-based input method provides a faithful depiction of the transfer of goods or services to the customer. Estimated losses are recognized immediately in the period in which current estimates indicate a loss. We record deferred revenues when cash payments are received or due in advance of our performance, including amounts which may be refundable.

We do not sell, lease or otherwise market computer software or hardware, and essentially 100% of our revenue is derived from the sale of data and analytics, IT staffing and digital transformation services. We expense sales commissions in the same period in which revenues are realized. These costs are recorded within sales general and administrativemarketing expenses.

Our data and analytics services segment provides specialized capabilities in delivering data management and analytics services to customers globally. This business offers project-based consulting services in the areas of Master Data Management, Enterprise Data Integration, Data and Analytics and Digital Transformation, which can be delivered using onsite and offshore resources.

Our IT staffing business combines technical expertise with business process experience to deliver a broad range of services in digital and mainstream technologies. Our digital technology stack includes data management and analytics, cloud, mobility, social and automation. Our mainstream technologies include business intelligence / data warehousing; web services; enterprise resource planning & customer resource management; ande-Business solutions. We work with businesses and institutions with significantIT-spend and recurring staffing needs. We also support smaller organizations with their “project focused” temporary IT staffing requirements.

The following table depicts the disaggregation of our revenues by contract type and operating segment:

The Company’s top ten clients represented approximately 49%46% and 49%45% of total revenues for the three months ended June 30,March 31, 2019 and 2018, and 2017, respectively. For the six months ended June 30, 2018 and 2017, the Company’s top ten clients represented approximately 48% and 48% of total revenues, respectively.

The following table presents our revenue from external customers disaggregated by geography, based on the work location of our customers:

3. Business Combinations

On July 7, 2017, Mastech Digital, Inc., through its wholly-owned subsidiaries Mastech InfoTrellis, Inc., Mastech InfoTrellis Digital, Ltd., Mastech Digital Data, Inc. and Mastech Digital Private Limited (collectively, the “Company Entities”), entered into two Asset Purchase Agreements and a Share Purchase Agreement (collectively, the “Purchase Agreements”) to acquire substantially all of the assets comprising the consulting services business in the areas of master data management, data integration and big data (the “Acquired Business”) of InfoTrellis Inc., InfoTrellis, Inc. and 2291496 Ontario Inc., including all outstanding shares of InfoTrellis India Private Limited (collectively, “InfoTrellis”). The aforementioned transaction was closed on July 13, 2017.

Under the terms of the Purchase Agreements, the Company Entities paid at the closing of the acquisition $35.75 million in cash, less certain working capital adjustments which totaled $861,000. The Purchase Agreements also provided for contingent consideration of $19.25 million in deferred cash payments, with up to $8.25 million payable if the EBIT of the Acquired Business for the12-month period beginning on August 1, 2017 (the “Actual Year 1 EBIT”) equals $10.0 million and up to $11.0 million payable if the EBIT of the Acquired Business for the12-month period beginning on August 1, 2018 (the “Actual Year 2 EBIT”) equals $10.7 million. The deferred amount payments are subject to adjustments under the terms of the Purchase Agreements based upon, among other items, the amount of the Actual Year 1 EBIT and the amount of the Actual Year 2 EBIT.

To fund the acquisition, the Company entered into a new credit agreement on July 13, 2017 (the “Credit Agreement”) with PNC Bank, National Association, as administrative agent, swing loan lender and issuing lender, PNC Capital Markets LLC, as sole lead arranger and sole book runner, and certain financial institutions party thereto as lenders. Prior to the Company entering into the April 20, 2018 amendment described below, the Credit Agreement provided for a total aggregate commitment of $65.0 million, consisting of (i) a revolving credit facility in an aggregate principal amount not to exceed $27.5 million, subject to increases to an aggregate amount not to exceed $37.5 million upon satisfaction of certain conditions; (ii) a $30.5 million term loan facility; and (iii) a $7.0 million delayed draw term loan facility to be used exclusively toward contingent consideration payments. In addition, the Company entered into Securities Purchase Agreements with Ashok Trivedi and Sunil Wadhwani (collectively, the “Investors”) on July 7, 2017 pursuant to which the Company issued and sold an aggregate 857,144 shares (the “Shares”) of its common stock, par value $0.01 per share (the “Common Stock”), to the Investors on July 13, 2017 for $6.0 million in aggregate gross proceeds (the “Private Placement Transactions”). The Company used the proceeds from the Private Placement Transactions to fund a portion of the cash paid at the closing of the acquisition.

The Company is amortizing the identifiable intangible assets on a straight-line basis over estimated average lives ranging from 3 to 12 years. Identifiable intangible assets were comprised of the following as of June 30, 2018March 31, 2019 and December 31, 2017:2018:

Amortization expense for the three months ended March 31, 2019 and six month periods ended June 30, 2018 was $689,000totaled $672,000 and $1.4 million,$693,000, respectively and is included in selling, general and administrative expenses in the Condensed Consolidated StatementsStatement of Operations. For the three and six month periods ended June 30, 2017, amortization expense was $204,000 and $407,000, respectively.

The discount rate used to calculate the present value of future lease payments was 5.4%.

We recognize rent expense for these leases on a three-year officestraight-line basis over the lease in Chennai, India to replace a previous lease commitment which expired. The aggregate lease commitment on the new facility totaled $0.8 million. Exceptterm. Rental expense for the Chennai lease, total lease commitments have not materially changed from the amounts disclosed in the Company’s Annual Report on Form10-K for the yearthree months ended DecemberMarch 31, 2017.2019 and 2018 totaled $0.4 million and $0.3 million, respectively.

Contingencies

In the ordinary course of our business, the Company is involved in a number of lawsuits and administrative proceedings. While uncertainties are inherent in the final outcome of these matters, the Company’s management believes, after consultation with legal counsel, that the disposition of these proceedings should not have a material adverse effect on our financial position, results of operations or cash flows.

6.

The Company provides an Employee Retirement Savings Plan (the “Retirement Plan”) under Section 401(k) of the Internal Revenue Code of 1986, as amended (the “Code”), that covers substantially all U.S. based salaried employees. Concurrent with the 2015 acquisition of Hudson IT, the Company expanded employee eligibility under the Retirement Plan to include all U.S. basedW-2 hourly employees. Employees may contribute a percentage of eligible compensation to the Retirement Plan, subject to certain limits under the Code. For Hudson IT employees enrolled in the Hudson Employee Retirement Savings Plan under the Code at the acquisition date, the Company provides a matching contribution of 50% of the first 6% of the participant’s contributed pay, subject to vesting based on the combined tenure with Hudson and Mastech Digital. For all other employees, the Company did not provide for any matching contributions for the sixthree months ended June 30, 2018March 31, 2019 and 2017.2018. Mastech Digital’s total contributions to the Retirement Plan for the three and six months ended June 30,March 31, 2019 and 2018 related to the former Hudson IT employees totaled approximately $22,000$19,000 and $43,000, respectively. Mastech Digital’s total contributions to the Retirement Plan for the three and six months ended June 30, 2017 related to the former Hudson IT employees totaled approximately $24,000 and $54,000,$21,000, respectively.

7.

In 2008, the Company adopted a Stock Incentive Plan (the “Plan”) which, as amended, provides that up to 1,400,0003,600,000 shares of the Company’s Common Stock shall be allocated for issuance to directors, officers and key personnel. On May 16, 2018, the Plan was further amended to increase the number of shares of common stock that may be issued pursuant to the Plan by 400,000 shares, to a total of 1,800,000. Grants under the Plan can be made in the form of stock options, stock appreciation rights, performance shares or stock awards. During the three months ended June 30, 2018,March 31, 2019, the Company granted no shares under the Plan. During the six months ended June 30, 2018,restricted share units of 16,365 and 498,000 stock option grants at an average strike price of $6.66. Additionally, the Company granted 12,690 restricted share units and 90,000another 55,000 stock options at a strike price of $14.92.$6.79, which are contingent upon shareholder approval to increase the number of shares of Common Stock of the Company that may be issued pursuant to the Plan by 300,000 shares, to a total of 3,900,000. Shareholders will vote on this matter at the Company’s Annual Meeting of Shareholders on May 15, 2019. During the three and six months ended June 30, 2017,March 31, 2018, the Company granted no shares25,380 restricted share units and 180,000 stock options at a strike price of $7.46 under the Plan. AsExclusive of June 30, 2018 and Decemberthe contingent grant referenced above, at March 31, 2017,2019, there were 429,00025,000 shares and 132,000, respectively available for future grantgrants under the Plan.

Stock-based compensation expense for the three months ended June 30,March 31, 2019 and 2018 was $236,000 and 2017 was $120,000 and $108,000,$105,000, respectively, and for the six months ended June 30, 2018 and 2017 was $225,000 and $215,000, respectively. Stock-based compensation expense is included in selling, general and administrative expenses in the Condensed Consolidated Statements of Operations.

During the three and six months ended June 30,March 31, 2019 and 2018, the Company issued 5,125 shares8,460 and 6,2382,226 shares, respectively, related to the vesting of restricted stockshares and the exercise of stock options. During the three and six months ended June 30, 2017, the Company issued 94,138 shares related to the vesting of restricted stock and the exerciseexercising of stock options.

Amounts borrowed under the Term Loan are required to be repaid in consecutive quarterly installments commencing on October 1, 2017 through and including July 1, 2022 and on the maturity date of July 13, 2022. The principal amount of each quarterly installment payable on the Term Loan equals the product of $30.5 million, multiplied by (i) 3.125% for quarterly installments due on October 1, 2017 through and including July 1, 2018; (ii) 3.75% for quarterly installments payable on October 1, 2018 through and including July 1, 2021; and (iii)(ii) 5.00% for quarterly installments payable on October 1, 2021 through and including the maturity date, with the maturity date payment equal to the outstanding amount of the loan on that date. The Delayed Draw Term Loan may be used through the date of the final contingent consideration payment (referred to as the final “Deferred Amount Payment” in the Credit Agreement) on no more than two separate occasions in borrowing multiples of $1.0 million up to the lesser of contingent consideration earned or $7.0 million. Amounts borrowed under the Delayed Draw Term Loan will be payable in consecutive quarterly installments commencing on the first payment date after disbursement of such borrowings. The principal amount of each quarterly installment payable of each Delayed Draw Term Loan equals the product of the original balance of such Loan, multiplied by (i) 3.75% for quarterly installments due on October 1, 2018 through and including July 1, 2021; and (ii) 5.00% for quarterly installments payable on October 1, 2021 through and including the maturity date, with the maturity date payment equal to the outstanding amount of the loan on that date.

Borrowings under the Revolver the Term Loan and the Delayed Draw Term Loan,term loans, at the Company’s election, bear interest at either (a) the higher of PNC’s prime rate or the federal funds rate plus 0.50%, plus an applicable margin determined based upon the Company’s senior leverage ratio or (b) an adjusted London Interbank Offered Rate (“LIBOR”), plus an applicable margin determined based upon the Company’s senior leverage ratio. The applicable margin on the base rate is between 0.50% and 1.25% on Revolver borrowings and between 1.75% and 2.50% on Term Loan and Delayed Term Loan borrowings.term loans. The applicable margin on the adjusted LIBOR is between 1.50% and 2.25% on Revolverrevolver borrowings and between 2.75% and 3.50% on Term Loan and Delayed Term Loan borrowings.term loans. A 20 to 30 basis point per annum commitment fee on the unused portion of the Revolver facility and the Delayed Draw Term Loan is charged and due monthly in arrears. The applicable commitment fee is determined based upon the Company’s senior leverage ratio.

The Company pledged substantially all of its assets in support of the Credit Agreement. The Credit Agreement contains standard financial covenants, including, but not limited to, covenants related to the Company’s senior leverage ratio and fixed charge ratio (as defined under the Credit Agreement) and limitations on liens, indebtedness, guarantees, contingent liabilities, loans and investments, distributions, leases, asset sales, stock repurchases and mergers and acquisitions. As of June 30, 2018,March 31, 2019, the Company was in compliance with all provisions under the facility.

The components of income before income taxes, as shown in the accompanying Financial Statements, consisted of the following for the three and six months ended June 30, 2018March 31, 2019 and, 2017:2018:

The Company has foreign subsidiaries in Canada and India, both of which generate revenues from foreign clients. Additionally, thesethe Company has foreign subsidiaries in Canada and India which provide services to the Company’sits U.S. operations. Accordingly, the Company allocates a portion of its income to these subsidiaries based on a “transfer pricing” model and reports such income as foreign in the above table.

The provision for income taxes, as shown in the accompanying Financial Statements, consisted of the following for the three and six months ended June 30, 2018March 31, 2019 and 2017:2018: