UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

(Mark One)

þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended October 3, 2008

or

o		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                      to                     

Commission File Number: 001-32869

DYNCORP INTERNATIONAL INC.

(Exact name of registrant as specified in its charter)

Delaware		01-0824791
(State or other jurisdiction of		(I.R.S. Employer
incorporation or organization)		Identification No.)

3190 Fairview Park Drive, Suite 700, Falls Church, Virginia 22042
(571) 722-0210
(Address, including zip code, and telephone number, including area code,
of registrant’s principal executive offices)

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 þ No o

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

Large accelerated filer o		Accelerated filer þ		Non-accelerated filer o		Smaller reporting company o

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

As of November 3, 2008, the registrant had 57,000,000 shares of its Class A common stock, par value $0.01 per share, outstanding.

 

 

DYNCORP INTERNATIONAL INC.
TABLE OF CONTENTS

		Page
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (unaudited)
Unaudited Condensed Consolidated Statements of Income—Three Months Ended October 3, 2008 and September 28, 2007			3
Unaudited Condensed Consolidated Statements of Income—Six Months Ended October 3, 2008 and September 28, 2007			4
Unaudited Condensed Consolidated Balance Sheets—October 3, 2008 and March 28, 2008			5
Unaudited Condensed Consolidated Statements of Cash Flows—Six Months Ended October 3, 2008 and September 28, 2007			6
Notes to Condensed Consolidated Financial Statements (unaudited)			7
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations			24
Item 3. Quantitative and Qualitative Disclosures About Market Risk			39
Item 4. Controls and Procedures			39
PART II. OTHER INFORMATION
Item 1. Legal Proceedings			39
Item 1A. Risk Factors			40
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds			40
Item 3. Defaults Upon Senior Securities			40
Item 4. Submission of Matters to a Vote of Security Holders			40
Item 5. Other Information			41
Item 6. Exhibits			41
Exhibit 3.1
Exhibit 31.1
Exhibit 31.2
Exhibit 32.1
Exhibit 32.2

PART I — FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

DYNCORP INTERNATIONAL INC.

		For the Three Months Ended
		October 3, 2008				September 28, 2007
Revenue		$	779,151			$	495,109
Cost of services			(696,519	)			(425,633	)
Selling, general and administrative expenses			(25,994	)			(24,928	)
Depreciation and amortization expense			(10,005	)			(10,601	)
Operating income			46,633				33,947
Interest expense			(14,905	)			(13,705	)
Loss on early extinguishment of debt			(4,443	)			—
Earnings from affiliates			1,523				1,176
Interest income			677				430
Other income, net			960				—
Income before income taxes			30,445				21,848
Provision for income taxes			(9,131	)			(7,895	)
Income before minority interest			21,314				13,953
Minority interest			(8,443	)			—
Net income		$	12,871			$	13,953
Basic and diluted earnings per share		$	0.23			$	0.24

See notes to condensed consolidated financial statements.

DYNCORP INTERNATIONAL INC.

		For the Six Months Ended
		October 3, 2008				September 28, 2007
Revenue		$	1,495,945			$	1,043,782
Cost of services			(1,334,908	)			(905,721	)
Selling, general and administrative expenses			(53,845	)			(51,463	)
Depreciation and amortization expense			(20,565	)			(20,991	)
Operating income			86,627				65,607
Interest expense			(29,120	)			(28,195	)
Loss on early extinguishment of debt			(4,443	)			—
Earnings from affiliates			2,640				2,067
Interest income			1,021				1,680
Other income, net			1,665				—
Income before income taxes			58,390				41,159
Provision for income taxes			(18,447	)			(14,948	)
Income before minority interest			39,943				26,211
Minority interest			(9,092	)			—
Net income		$	30,851			$	26,211
Basic and diluted earnings per share		$	0.54			$	0.46

See notes to condensed consolidated financial statements.

DYNCORP INTERNATIONAL INC.

		As of
		October 3, 2008				March 28, 2008
ASSETS
Current assets:
Cash and cash equivalents		$	132,779			$	85,379
Restricted cash			20,550				11,308
Accounts receivable, net of allowances of $592 and $268, respectively			577,589				513,312
Prepaid expenses and other current assets			132,720				109,027
Deferred income taxes			28,254				17,341
Total current assets			891,892				736,367
Property and equipment, net			17,866				15,442
Goodwill			420,180				420,180
Tradename			18,318				18,318
Other intangibles, net			160,226				176,146
Deferred income taxes			11,367				18,168
Other assets, net			28,868				18,088
Total assets		$	1,548,717			$	1,402,709
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Current portion of long-term debt		$	—			$	3,096
Accounts payable			158,436				148,787
Accrued payroll and employee costs			135,305				85,186
Other accrued liabilities			141,084				129,240
Income taxes payable			11,443				8,245
Total current liabilities			446,268				374,554
Long-term debt, less current portion			615,835				590,066
Other long-term liabilities			14,125				13,804
Commitments and contingencies
Minority interest			5,786				—
Shareholders’ equity:
Common stock, $0.01 par value - 232,000,000 shares authorized; 57,000,000 shares issued and outstanding			570				570
Additional paid-in capital			365,413				357,026
Retained earnings			104,454				73,603
Accumulated other comprehensive loss			(3,734	)			(6,914	)
Total shareholders’ equity			466,703				424,285
Total liabilities and shareholders’ equity		$	1,548,717			$	1,402,709

See notes to condensed consolidated financial statements.

DYNCORP INTERNATIONAL INC.

		For the Six Months Ended
		October 3, 2008				September 28, 2007
Cash flows from operating activities
Net income		$	30,851			$	26,211
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization			21,087				21,632
Amortization of deferred loan costs			1,723				1,507
(Recovery) for losses on accounts receivable			(173	)			(1,066	)
Earnings from affiliates			(1,255	)			(511	)
Deferred income taxes			(4,112	)			(1,957	)
Equity-based compensation			1,225				2,263
Minority interest			9,092				—
Loss on early extinguishment of debt			4,443				—
Other			(304	)			116
Changes in assets and liabilities:
Restricted cash (see Note 1)			7,326				2,597
Accounts receivable			(64,104	)			6,062
Prepaid expenses and other current assets			(26,070	)			(9,227	)
Accounts payable and accrued liabilities			54,096				7,671
Income taxes payable			4,128				(5,388	)
Net cash provided by operating activities			37,953				49,910
Cash flows from investing activities
Purchase of property and equipment			(2,303	)			(2,114	)
Purchase of computer software			(1,212	)			(1,264	)
Change in cash restricted as collateral on letters of credit (see Note 1)			(16,568	)			—
Other assets			365				158
Net cash used in investing activities			(19,718	)			(3,220	)
Cash flows from financing activities
Borrowings under debt agreements (see Note 5)			323,751				—
Repayments on debt agreements (see Note 5)			(301,129	)			(36,285	)
Net borrowings (payments) under other financing arrangements			16,158				(2,860	)
Payments of deferred financing cost			(9,645	)			—
Other net financing activities			30				62
Net cash provided by (used in) financing activities			29,165				(39,083	)
Net increase in cash and cash equivalents			47,400				7,607
Cash and cash equivalents, beginning of period			85,379				102,455
Cash and cash equivalents, end of period		$	132,779			$	110,062
Income taxes paid (net of refunds)		$	18,965			$	21,297
Interest paid		$	30,054			$	27,234
Non-cash purchase of property, equipment and computer software		$	2,458				—
Non-cash sale of DIFZ including related financing (see Note 8)		$	8,264			$	—

See notes to condensed consolidated financial statements.

DYNCORP INTERNATIONAL INC.

Note 1—Basis of Presentation and Accounting Policies

Basis of Presentation

DynCorp International Inc., through its subsidiaries, is a leading provider of specialized mission-critical professional and support services outsourced by the U.S. military, non-military U.S. governmental agencies and foreign governments. Our specific global expertise is in law enforcement training and support, security services, base and logistics operations, construction management, aviation services and operations and linguist services. We also provide logistics support for all our services. References herein to “DynCorp International”, the “Company”, “we”, “our”, or “us” refer to DynCorp International Inc. and its subsidiaries unless otherwise stated or indicated by the context.

The condensed consolidated financial statements include the accounts of the Company and its domestic and foreign subsidiaries. These condensed consolidated financial statements have been prepared by the Company, without audit, pursuant to accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X.

Certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations. However, the Company believes that all disclosures are adequate to make the information presented not misleading. These condensed consolidated financial statements should be read in conjunction with the Company’s audited consolidated financial statements and the related notes thereto included in the Company’s 2008 Annual Report on Form 10-K, filed with the Securities and Exchange Commission (the “SEC”) on June 10, 2008.

The Company reports its results on a 52/53-week fiscal year with the fiscal year ending on the Friday closest to March 31 of such year (April 3, 2009 for fiscal year 2009 which is a 53-week fiscal year). The six-month fiscal period ended October 3, 2008 was a 27-week period from March 29, 2008 to October 3, 2008. The six-month fiscal period ended September 28, 2007 was a 26-week period from March 31, 2007 to September 28, 2007.

In the opinion of management, all adjustments necessary to fairly present the Company’s financial position at October 3, 2008 and March 28, 2008, the results of operations for the three and six months ended October 3, 2008 and September 28, 2007, and cash flows for the six months ended October 3, 2008 and September 28, 2007, have been included and are of a normal and recurring nature. The results of operations for the three and six months ended October 3, 2008 are not necessarily indicative of the results to be expected for the full fiscal year or for any future periods. The Company uses estimates and assumptions required for preparation of the financial statements. The estimates are primarily based on historical experience and business knowledge and are revised as circumstances change. However, actual results could differ from the estimates.

For purposes of comparability, certain prior year, specifically our segment report structure as further discussed in Note 14, amounts have been reclassified to conform to the current year presentation. Such reclassifications have no impact on previously reported net income.

Principles of Consolidation

The consolidated financial statements include the accounts of the Company and its domestic and foreign subsidiaries. All intercompany transactions and balances have been eliminated in consolidation. Generally, investments in which the Company owns a 20% to 50% ownership interest are accounted for by the equity method. These investments are in business entities in which the Company does not have control, but has the ability to exercise significant influence over operating and financial policies and is not the primary beneficiary as defined in Financial Accounting Standards Board (the “FASB”) Interpretation No. 46R (Revised 2003), “Consolidation of Variable Interest Entities” (“FIN No. 46R”). The Company has no investments in business entities of less than 20%.

The following table sets forth the Company’s ownership in joint ventures and companies that are not consolidated into the Company’s financial statements as of October 3, 2008, and are accounted for by the equity method. Economic rights are indicated by the ownership percentages listed below.

DynEgypt LLC			50.0	%
Dyn Puerto Rico Corporation			49.9	%
Contingency Response Services LLC			45.0	%
Babcock DynCorp Limited			44.0	%
Partnership for Temporary Housing LLC			40.0	%
DCP Contingency Services LLC			40.0	%

On July 31, 2008, the Company sold 50% of its ownership interest in its previously wholly owned subsidiary, DynCorp International Free Zone LLC (“DIFZ”), for approximately $8.2 million. DIFZ was previously a wholly owned subsidiary and therefore consolidated into the Company’s financial statements. No gain has been recognized on the sale as of October 3, 2008 as the Company completely financed the transaction by issuing three notes receivable to the purchaser. As a result, the sale was accounted for as a capital transaction reflected in additional paid in capital (“APIC”). Repayment of the notes to the Company is to be made through a single cash payment of $500,000 with the remainder to be repaid through the purchaser’s portion of DIFZ quarterly dividends. The sale price is contingent upon a revaluation based on actual DIFZ results through January 31, 2009, with any adjustments to the purchase price to be reflected by an increase or decrease in the notes. Additionally, the interest component of the three notes receivable held by the Company will also increase APIC due to the structure of this transaction and will not impact the Company’s consolidated statements of income. After the transaction, it was determined that the Company was the primary beneficiary as defined in FIN No. 46R.

The following table sets forth the Company’s ownership in joint ventures that are consolidated into the Company’s financial statements as of October 3, 2008. For the entities list below, the Company is the primary beneficiary as defined in FIN No. 46R.

Global Linguist Solutions LLC			51.0	%
DynCorp International Free Zone LLC			50.0	%

Minority Interest

We record the impact of our joint venture partners’ interests in consolidated joint ventures as minority interest. Minority interest is presented on the face of the income statement as an increase or reduction in arriving at net income. The presentation of minority interest on the balance sheet is typically located in a mezzanine account between liabilities and equity. As of March 28, 2008, the minority interest balance related to Global Linguist Solutions LLC (“GLS”) was recorded as an asset within prepaid expenses and other current assets, due to cumulative losses incurred. As of October 3, 2008, all minority interest, including minority interest related to DIFZ, were recorded as mezzanine equity.

Restricted Cash

Restricted cash represents cash restricted by certain contracts in which advance payments are not available for use except to pay specified costs and vendors for work performed on the specific contract and cash restricted as collateral as required by our letters of credit. Changes in restricted cash related to our contracts are included as operating activities whereas changes in restricted cash for funds invested as collateral are included as investing activities in the consolidated statements of cash flows.

The following table reconciles our restricted cash to the cash flow statement:

		As of								Cash provided
(Amounts in thousands)		March 28, 2008				October 3, 2008				by/(used in)
Type of restricted cash
Contract related		$	11,308			$	3,982			$	7,326
Required as collateral			—				16,568				(16,568	)
Total		$	11,308			$	20,550			$	(9,242	)

Accounting Policies

There have been no material changes to our significant accounting policies as detailed in Note 1 of our 2008 Annual Report on Form 10-K filed with the SEC on June 10, 2008.

Accounting Developments

Pronouncements Implemented

In September 2006, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standard (“SFAS”) No. 157, “Fair Value Measurements” (“SFAS No. 157”). SFAS No. 157 establishes a single definition of fair value and a framework for measuring fair value under GAAP and expands disclosures about fair value measurements. SFAS No. 157 applies under other accounting pronouncements that require or permit fair value measurements; however, it does not require any new fair value measurements. SFAS No. 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007. In February 2008, the FASB issued FASB Staff Position No. 157-2, “Effective Date of FASB Statement No. 157”, which provides a one year deferral of the effective date of SFAS No. 157 for non-financial assets and non-financial liabilities, except those that are recognized or disclosed in the financial statements at fair value at least annually. Therefore, the Company has adopted the provisions of SFAS No. 157 with respect to its financial assets and liabilities only. The adoption of SFAS No. 157 did not have a material impact on our consolidated financial condition and results of operations. See Note 12 for the applicable fair value disclosures.

In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities — Including an amendment of FASB Statement No. 115” (“SFAS No. 159”). SFAS No. 159 permits entities to choose to measure many financial instruments and certain other items at fair value that are not currently required to be measured at fair value. It provides entities with the opportunity to mitigate volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions. SFAS No. 159 is effective for fiscal years beginning after November 15, 2007. The adoption of SFAS No. 159 did not impact our consolidated financial condition and results of operations as we did not elect to apply the fair value option to items that have previously been measured at historical cost.

Pronouncements Not Yet Implemented

In December 2007, the FASB issued SFAS No. 141 (revised 2007), “Business Combinations” (“SFAS No. 141R”). This statement replaces FASB Statement No. 141, “Business Combinations” (“SFAS No. 141”). This statement retains the fundamental requirements in SFAS No. 141 that the acquisition method of accounting (which SFAS No. 141 called the purchase method) be used for all business combinations and for an acquirer to be identified for each business combination. This statement defines the acquirer as the entity that obtains control of one or more businesses in the business combination and establishes the acquisition date as the date that the acquirer achieves control. This statement requires an acquirer to recognize the assets acquired, the liabilities assumed, and any noncontrolling interest in the acquiree at the acquisition date, measured at their fair values as of that date, with limited exceptions specified in the statement. This statement applies prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008, with the exception of the accounting for valuation allowances on deferred taxes and acquired tax contingencies associated with acquisitions. SFAS No. 141R amends SFAS No. 109, “Accounting for Income Taxes” such that adjustments made to valuation allowances on deferred taxes and acquired tax contingencies associated with acquisitions that closed prior to the effective date of SFAS No. 141R would also apply the provisions of SFAS No. 141R.

In December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in Consolidated Financial Statements”, which is an amendment of Accounting Research Bulletin No. 51. This statement clarifies that a noncontrolling interest in a subsidiary is an ownership interest in the consolidated entity that should be reported as equity in the consolidated financial statements. This statement changes the way the consolidated income statement is presented, thus requiring consolidated net income to be reported at amounts that include the amounts attributable to both parent and the noncontrolling interest. This statement is effective for the fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2008. We are currently assessing the impact of the statement.

In March 2008, the FASB issued Statement of Financial Accounting Standards No. 161, “Disclosures about Derivative Instruments and Hedging Activities” (“SFAS No. 161”). SFAS No. 161 is intended to improve financial reporting about derivative instruments and hedging activities by requiring enhanced disclosures to enable investors to better understand their effects on an entity’s financial position, financial performance, and cash flows. The provisions of SFAS No. 161 are effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early application encouraged. We do not expect the provisions of SFAS No. 161 to have a material impact on our consolidated financial statements.

In May 2008, the FASB issued Statement of Financial Accounting Standards No. 162, “The Hierarchy of Generally Accepted Accounting Principles” (“SFAS No. 162”). SFAS No. 162 identifies the sources of accounting principles and the framework for selecting the principles to be used in the preparation of financial statements of nongovernmental entities that are presented in conformity with GAAP. SFAS 162 is effective 60 days following the SEC’s approval of the Public Company Accounting Oversight Board amendments to AU Section 411, “The Meaning of Present Fairly in Conformity With Generally Accepted Accounting Principles”. We do not expect the provisions of SFAS No. 162 to have a material impact on our consolidated financial statements.

Note 2—Earnings Per Share

Basic earnings per share is based on the weighted average number of common shares outstanding during each period. Diluted earnings per share is based on the weighted average number of common shares outstanding and the effect of all dilutive common stock equivalents during each period. As of October 3, 2008, the only common stock equivalent was restricted stock units. These restricted stock units may be dilutive and included or anti-dilutive and excluded in future earnings per share calculations as they are liability awards as defined by SFAS 123R. The following table reconciles the numerators and denominators used in the computations of basic and diluted earnings per share:

		For the Three Months Ended								For the Six Months Ended
(Amounts in thousands, except per share data)		October 3, 2008				September 28, 2007				October 3, 2008				September 28, 2007
Numerator
Net income		$	12,871			$	13,953			$	30,851			$	26,211
Denominator
Weighted average common shares — basic			57,000				57,000				57,000				57,000
Weighted average effect of dilutive securities:
Restricted stock units			61				—				40				—
Weighted average common shares — diluted			57,061				57,000				57,040				57,000
Basic earnings per share		$	0.23			$	0.24			$	0.54			$	0.46
Diluted income per share		$	0.23			$	0.24			$	0.54			$	0.46

Note 3—Goodwill and Other Intangible Assets

The changes in the carrying amount of goodwill for the six months ended October 3, 2008 are as follows:

(Amounts in thousands)		ISS(1)				LCM				MTSS				Total
Balance as of March 28, 2008		$	340,029			$	—			$	80,151			$	420,180
Transfer between reporting segments(2)			(39,935	)			39,935				—				—
Balance as of October 3, 2008		$	300,094			$	39,935			$	80,151			$	420,180

The following tables provide information about changes relating to intangible assets:

		October 3, 2008
		Weighted
		Average
		Useful Life				Gross				Accumulated
(Amounts in thousands, except years)		(Years)				Carrying Value				Amortization				Net
Finite-lived intangible assets:
Customer-related intangible assets			8.5			$	290,716			$	(137,842	)		$	152,874
Other			5.2				14,557				(7,205	)			7,352
						$	305,273			$	(145,047	)		$	160,226
Indefinite-lived intangible assets — Tradename						$	18,318			$	—			$	18,318

		March 28, 2008
		Weighted
		Average
		Useful Life				Gross				Accumulated
(Amounts in thousands, except years)		(Years)				Carrying Value				Amortization				Net
Finite-lived intangible assets:
Customer-related intangible assets			8.5			$	290,716			$	(119,997	)		$	170,719
Other			4.2				10,887				(5,460	)			5,427
						$	301,603			$	(125,457	)		$	176,146
Indefinite-lived intangible assets — Tradename						$	18,318			$	—			$	18,318

Amortization expense for customer-related and other intangibles was $9.5 million and $10.0 million for the three months ended October 3, 2008 and September 28, 2007, respectively, and $19.6 million and $20.0 million for the six months ended October 3, 2008 and September 28, 2007, respectively.

The following schedule outlines an estimate of future amortization based upon the finite-lived intangible assets owned at October 3, 2008:

		Amortization
(Amounts in thousands)		Expense
Six month period ended April 3, 2009		$	18,973
Estimate for fiscal year 2010			37,466
Estimate for fiscal year 2011			33,173
Estimate for fiscal year 2012			22,587
Estimate for fiscal year 2013			19,010
Thereafter			29,017

Note 4— Accounts Receivable

Accounts Receivable, net consisted of the following:

(Amounts in thousands)		October 3, 2008				March 28, 2008
Billed		$	214,816			$	193,337
Unbilled			362,773				319,975
Total		$	577,589			$	513,312

Unbilled receivables at October 3, 2008 and March 28, 2008 include $37.0 million and $52.8 million, respectively, related to costs incurred on projects for which the Company has been requested by the customer to begin work under a new contract or extend work under an existing contract, and for which formal contracts or contract modifications have not been executed at the end of the fiscal period. These amounts include $5.3 million related to contract claims at October 3, 2008 and March 28, 2008. The balance of unbilled receivables consists of costs and fees billable on contract completion or other specified events, substantially all of which is expected to be billed and collected within one year.

Note 5—Long-Term Debt

Long-term debt consisted of the following:

(Amounts in thousands)		October 3, 2008				March 28, 2008
Term loans		$	200,000			$	301,130
9.5% Senior subordinated notes(1)			415,835				292,032
			615,835				593,162
Less current portion of long-term debt			—				(3,096	)
Total long-term debt		$	615,835			$	590,066

Future maturities of long-term debt for the six months ending April 3, 2009 and each of the fiscal years subsequent to April 3, 2009 were as follows:

(Amounts in thousands)
Six months ending April 3, 2009		$	—
2010			16,875
2011			50,625
2012			55,000
2013			493,335
Thereafter			—
Total long-term debt (including current portion)		$	615,835

Senior Secured Credit Facility

On July 28, 2008 the Company entered into a senior secured credit facility (the “Credit Facility”) consisting of a revolving credit facility of $200.0 million (including a letter of credit sub facility of $125.0 million) (the “Revolving Facility”) and a senior secured term loan facility of $200.0 million (the “Term Loan Facility”). The maturity date of the Revolving Facility and the Term Loan Facility is August 15, 2012. Quarterly principal payments will begin on September 22, 2009 and end on the maturity date of August 15, 2012. This first $5.6 million scheduled Term Loan Facility payment on September 22, 2009, is considered long term since the Company has the intent and ability to make a revolver borrowing equal to or greater than this first quarterly payment in order to maintain hedge accounting on the full $200.0 million through May 22, 2010, as disclosed in Note 10. The Credit Facility is subject to various financial covenants, including a total leverage ratio, an interest coverage ratio, maximum capital expenditures and certain limitations based upon eligible accounts receivable. Borrowings under the Credit Facility are secured by substantially all the assets of the Company and the capital stock of its subsidiaries.

On July 28, 2008, the Company borrowed $200.0 million under the Term Loan Facility at the applicable 3-month LIBOR (“London Interbank Offered Rate”) plus the applicable margin then in effect to refinance certain existing indebtedness and pay certain transaction costs related to the Credit Facility and the offering of additional senior subordinated notes, as described below. The applicable margin for LIBOR as of October 3, 2008 was 2.75% per annum, resulting in an effective interest rate under the Term Loan Facility of 5.96% per annum. This rate is fully hedged through the Company’s swap agreements as disclosed in Note 10.

Borrowings under the Revolving Facility bear interest at a rate per annum equal to either the Alternate Base Rate plus an applicable margin determined by reference to the leverage ratio, as set forth in the Credit Facility (“Applicable Margin”) or LIBOR plus the Applicable Margin. As of both October 3, 2008 and March 28, 2008, the Company had no outstanding borrowings under the Revolving Facility.

Our available borrowing capacity under the Revolving Facility totaled $187.6 million at October 3, 2008, which gives effect to $12.4 million of outstanding letters of credit under the letter of credit sub facility. With respect to each letter of credit, a quarterly commission in an amount equal to the face amount of such letter of credit multiplied by the Applicable Margin and a nominal fronting fee are required to be paid. The combined rate as of October 3, 2008 was 2.875%.

As of October 3, 2008, the Company also had $15.7 million of letters of credit outstanding that were not part of the Revolving Facility. These letters of credit are collateralized by $16.6 million of restricted cash, which is recorded as such in the Company’s consolidated balance sheet as of October 3, 2008.

The Company is required, under certain circumstances as defined in the Credit Facility, to use a percentage of excess cash generated from operations to reduce the outstanding principal of the Term Loan Facility in the year after the excess cash flow is generated. As of October 3, 2008, the Company cannot reasonably predict if excess cash flows will exist at fiscal year end.

On July 28, 2008, upon entering in to the Credit Facility, the Company’s pre-existing Senior Secured Credit Facility was extinguished. Deferred financing fees totaling $4.4 million were expensed in the current reporting period. Deferred financing fees associated with the Credit Facility totaling $5.0 million were recorded in other assets on the Company’s consolidated balance sheet.

9.5% Senior Subordinated Notes

In February 2005, the Company completed an offering of $320.0 million in aggregate principal amount of its 9.5% senior subordinated notes due 2013. Interest is payable semi-annually on February 15 and August 15 of each year. Proceeds from the original issuance of the senior subordinated notes, net of fees, were $310.0 million and were used to pay the consideration for, and fees and expenses relating to our 2005 formation as an independent company from Computer Science Corporation. The senior subordinated notes are general unsecured obligations of the Company’s subsidiary, DynCorp International LLC, and certain guarantor subsidiaries of DynCorp International LLC.

In July 2008, the Company completed an offering in a private placement pursuant to Rule 144A under the Securities Act of 1933, as amended, of $125.0 million in aggregate principal amount of additional 9.5% senior subordinated notes under the same indenture as the senior subordinated notes issued in February 2005. Net proceeds from the additional offering of senior subordinated notes were used to refinance the then existing Senior Secured Credit Facility, to pay related fees and expenses and for general corporate purposes. The additional senior subordinated notes mature on February 15, 2013. The additional senior subordinated notes were issued at approximately a 1.0% discount totaling $1.2 million. Deferred financing fees associated with this offering totaled $4.6 million.

Prior to February 15, 2009, the Company may redeem the senior subordinated notes, in whole or in part, at a price equal to 100% of the principal amount of the senior subordinated notes plus a defined make-whole premium, plus accrued interest to the redemption date. After February 15, 2009, the Company can redeem the senior subordinated notes, in whole or in part, at defined redemption prices, plus accrued interest to the redemption date. The holders of the senior subordinated notes may require the Company to repurchase the senior subordinated notes at defined prices in the event of certain specified triggering events, including but not limited to certain asset sales, change-of-control events, and debt covenant violations.

The fair value of the senior subordinated notes is based on their quoted market value. As of October 3, 2008, the quoted market value of the senior subordinated notes was 99% of stated value.

Note 6—Commitments and Contingencies

Commitments

The Company has operating leases for the use of real estate and certain property and equipment, which are either non-cancelable, cancelable only by the payment of penalties or cancelable upon one month’s notice. All lease payments are based on the lapse of time but include, in some cases, payments for insurance, maintenance and property taxes. There are no purchase options on operating leases at favorable terms, but most leases have one or more renewal options. Certain leases on real estate are subject to annual escalations for increases in base rents, utilities and property taxes. Lease rental expense amounted to $10.1 million and $9.6 million for the three months ended October 3, 2008 and September 28, 2007, respectively, and $23.8 million and $25.5 million for the six months ended October 3, 2008 and September 28, 2007, respectively.

Contingencies

General Legal Matters

The Company and its subsidiaries and affiliates are involved in various lawsuits and claims that have arisen in the normal course of business. In most cases, the Company has denied, or believes it has a basis to deny any liability. Related to these matters, the Company has recorded a reserve of approximately $20.5 million for pending litigation and claims. While it is not possible to predict with certainty the outcome of litigation and other matters discussed below, it is the opinion of the Company’s management that recorded reserves are sufficient to cover known matters based on information available as of this Quarterly Report.

Pending Litigation and Claims

On May 14, 2008 a jury in the Eastern District of Virginia found against the Company in a case brought by a former subcontractor, Worldwide Network Services (“WWNS”), on two State Department contracts, in which WWNS alleged racial discrimination, tortious interference and certain other claims. The jury awarded WWNS approximately $15.7 million in compensatory and punitive damages and awarded the Company approximately $200,000 on a counterclaim. In addition to the jury award, the court awarded WWNS approximately $3.0 million in connection with certain contract claims. On September 22, 2008, WWNS was awarded approximately $1.8 million in attorneys’ fees. The Company has filed a notice of appeal with respect to this matter. As of October 3, 2008, the Company believes it has adequate reserves recorded for this matter.

On April 24, 2007, March 14, 2007, December 29, 2006 and December 4, 2006, four lawsuits were served, seeking unspecified monetary damages against DynCorp International LLC and several of its former affiliates in the U.S. District Court for the Southern District of Florida, concerning the spraying of narcotic plant crops along the Colombian border adjacent to Ecuador. Three of the lawsuits, filed on behalf of the Providences of Esmeraldas, Sucumbíos, and Carchi in Ecuador, allege violations of Ecuadorian law, international law, and the statutes and common law of Florida, including negligence, trespass, and nuisance. The fourth lawsuit, filed on behalf of citizens of the Ecuadorian provinces of Esmeraldas and Sucumbíos, alleges personal injury, various counts of negligence, trespass, battery, assault, intentional infliction of emotional distress, violations of the Alien Tort Claims Act, and various violations of international law. The four lawsuits were consolidated, and based on the Company’s motion granted by the court, the case was subsequently transferred to the U.S. District Court for the District of Columbia. On March 26, 2008, a First Amended Consolidated Complaint was filed that identified 3,266 individual plaintiffs. The amended complaint does not demand any specific monetary damages, however, a court decision against the Company, although believed by the Company to be remote, could have a material adverse effect on its results of operations and financial condition. The aerial spraying operations were and continue to be managed by the Company under a Department of State (“DoS”) contract in cooperation with the Colombian government. The DoS contract provides indemnification to the Company against third-party liabilities arising out of the contract, subject to available funding.

A lawsuit filed on September 11, 2001, and amended on March 24, 2008, seeking unspecified damages on behalf of twenty-six residents of the Sucumbíos Province in Ecuador, was brought against the Company and several of its former affiliates in the U.S. District Court for the District of Columbia. The action alleges violations of the laws of nations and United States treaties, negligence, emotional distress, nuisance, battery, trespass, strict liability, and medical monitoring arising from the spraying of herbicides near the Ecuador-Colombia border in connection with the performance of the DoS, International Narcotics and Law Enforcement contract for the eradication of narcotic plant crops in Colombia. The terms of the DoS contract provide that the DoS will indemnify DynCorp International LLC against third-party liabilities arising out of the contract, subject to available funding. The Company is also entitled to indemnification by Computer Sciences Corporation in connection with this lawsuit, subject to certain limitations. Additionally, any damage award would have to be apportioned between the other defendants and the Company. The Company believes that the likelihood of an unfavorable judgment in this matter is remote and that, even if that were to occur, the judgment is unlikely to result in a material adverse effect on the results of operations or financial condition of the Company as a result of the third party indemnification and apportionment of damages described above.

On May 29, 2003, Gloria Longest, a former accounting manager for the Company, filed suit against DynCorp International LLC and a subsidiary of Computer Sciences Corporation under the False Claims Act and the Florida Whistleblower Statute, alleging that the defendants submitted false claims to the U.S. government under the International Narcotics & Law Enforcement contract with the DoS. The U.S. Department of Justice approved the terms of the confidential settlement between the parties and the court entered an order of dismissal on September 26, 2008. The terms of the settlement did not have a material adverse effect on the Company’s results of operations or financial condition.

U.S. Government Investigations

We also are occasionally the subject of investigations by various agencies of the U.S. government. Such investigations, whether related to our U.S. government contracts or conducted for other reasons, could result in administrative, civil or criminal liabilities, including repayments, fines or penalties being imposed upon us, or could lead to suspension or debarment from future U.S. government contracting.

On January 30, 2007, the Special Inspector General for Iraq Reconstruction (“SIGIR”) issued a report on one of our task orders concerning the Iraqi Police Training Program. Among other items, the report raises questions about our work to establish a residential camp in Baghdad to house training personnel. Specifically, the SIGIR report recommends that DoS seek reimbursement from us of $4.2 million paid by the DoS for work that the SIGIR maintains was not contractually authorized. In addition, the SIGIR report recommends that the DoS request the Defense Contract Audit Agency (“DCAA”) to review two of our invoices totaling $19.1 million. On June 28, 2007, we received a letter from the DoS contracting officer requesting our repayment of approximately $4.0 million for work performed under this task order, which the letter claims was unauthorized. We responded to the DoS contracting officer in letters dated July 7, 2007 and September 4, 2007, explaining that the work for which we were paid by DoS was appropriately performed and denying DoS’ request for repayment of approximately $4.0 million. By letter dated April 30, 2008, the DoS contracting officer responded to our July 7, 2007 and September 4, 2007 correspondence by taking exception to the explanation set forth in our letters and reasserting the DoS’ request for a refund of approximately $4.0 million. On May 8, 2008, we replied to the DoS letter dated April 30, 2008 and provided additional support for our position.

On September 17, 2008, the U.S. Department of State Office of Inspector General (“OIG”) served us with a records subpoena for the production of documents relating to our Civilian Police Program in Iraq. Among other items, the subpoena seeks documents relating to our business dealings with a former subcontractor, Corporate Bank. We are cooperating with the OIG’s investigation and, based on information currently known to management, do not believe this matter will have a material adverse effect on our operating performance.

U.S. Government Audits

Our contracts are regularly audited by the DCAA and other government agencies. These agencies review our contract performance, cost structure and compliance with applicable laws, regulations and standards. The DCAA also reviews the adequacy of, and our compliance with, our internal control systems and policies, including our purchasing, property, estimating, compensation and management information systems. Any costs found to be improperly allocated to a specific contract will not be reimbursed. In addition, government contract payments received by us for allowable direct and indirect costs are subject to adjustment after audit by government auditors and repayment to the government if the payments exceed allowable costs as defined in the government contracts.

The Defense Contract Management Agency (“DCMA”) formally notified the Company of non-compliance with Cost Accounting Standard 403, Allocation of Home Office Expenses to Segments, on April 11, 2007. The Company issued a response to the DCMA on April 26, 2007 with a proposed solution to resolve the non-compliance, which related to the allocation of corporate general and administrative costs between the Company’s divisions. On August 13, 2007, the DCMA notified the Company that additional information would be necessary to justify the proposed solution. The Company issued responses on September 17, 2007 and April 28, 2008 and the matter is pending resolution. In management’s opinion and based on facts currently known, the above-described matters will not have a material adverse effect on the Company’s consolidated financial condition, results of operations or liquidity.

Contract Matters

During the first fiscal quarter we terminated for cause a contract to build the Akwa Ibom International Airport for the State of Akwa Ibom in Nigeria. Consequently, we terminated certain subcontracts and purchase orders the customer advised us it did not want to assume. Based on our experience with this particular Nigerian state government customer, we believe it likely the customer will challenge our termination of the contract for cause and initiate legal action against us. Our termination of certain subcontracts not assumed by the customer, including our actions to recover against advance payment and performance guarantees established by the subcontractors for our benefit, is being challenged in certain instances.

Note 7— Income Taxes

The provision for income taxes consists of the following:

		Three Months Ended
(Amounts in thousands)		October 3, 2008				September 28, 2007
Current portion:
Federal		$	11,024			$	9,256
State			842				568
Foreign			1,271				1,464
			13,137				11,288
Deferred portion:
Federal			(3,874	)			(3,236	)
State			(130	)			(189	)
Foreign			(2	)			32
			(4,006	)			(3,393	)
Provision for income taxes		$	9,131			$	7,895

		Six Months Ended
(Amounts in thousands)		October 3, 2008				September 28, 2007
Current portion:
Federal		$	20,610			$	15,145
State			1,650				902
Foreign			3,811				2,071
			26,071				18,118
Deferred portion:
Federal			(7,370	)			(3,052	)
State			(246	)			(182	)
Foreign			(8	)			64
			(7,624	)			(3,170	)
Provision for income taxes		$	18,447			$	14,948

Deferred tax assets and liabilities are reported as:

(Amounts in thousands)		October 3, 2008				March 28, 2008
Current deferred tax assets		$	28,254			$	17,341
Non-current deferred tax assets			11,367				18,168
Deferred tax assets, net		$	39,621			$	35,509

As of October 3, 2008 and March 28, 2008, we have $4.0 million and $2.7 million, respectively, of total unrecognized tax benefits. The amount of unrecognized tax benefits that, if recognized, would affect the effective tax rate was $1.4 million and $1.2 million for October 3, 2008 and March 28, 2008, respectively.

It is reasonably possible that in the next 12 months the gross amount of unrecognized tax benefits will decrease by $1.0 million due to settlements with taxing authorities. However, the Company does not expect any material changes to its effective tax rate as a result of such settlements.

The Company recognizes interest accrued related to uncertain tax positions in interest expense and penalties in income tax expense in its unaudited Condensed Consolidated Statements of Income, which is consistent with the recognition of these items in prior periods. The Company has recorded a liability of approximately $0.8 million and $0.6 million for the payment of interest and penalties for the periods ended October 3, 2008 and March 28, 2008, respectively.

The Company and its subsidiaries file income tax returns in U.S. federal and state jurisdictions and in various foreign jurisdictions. The Company currently is under audit by the Internal Revenue Service for fiscal years 2005 through 2007. In addition, the statute of limitations is open for federal and state examinations for the Company’s fiscal year 2005 forward and, with few exceptions, foreign income tax examinations for the calendar year 2004 forward.

For the three and six months ended October 3, 2008, the Company’s effective tax rate was 30.0% and 31.6%, respectively, as compared to 36.1% and 36.3% for the respective three and six months ended September 28, 2007. The reduction in the effective tax rate was primarily due to the impact of GLS and DIFZ, which are consolidated joint ventures for financial reporting purposes but are unconsolidated entities for U.S. income tax purposes.

Note 8— Shareholders’ Equity

Shareholders’ Equity — The following table presents the changes to shareholders’ equity during the six months ended October 3, 2008:

																		Accumulated
										Additional								Other				Total
		Common Stock								Paid-In				Retained				Comprehensive				Shareholders’
(Amounts in thousands)		Shares				Amount				Capital				Earnings				(Loss) Income				Equity
Balance at March 28, 2008			57,000			$	570			$	357,026			$	73,603			$	(6,914	)		$	424,285
Comprehensive income:
Net income											—				30,851				—				30,851
Interest rate swap, net of tax $2.1 million																			3,619				3,619
Currency translation adjustment, net of tax											—				—				(439	)			(439	)
Comprehensive income											—				30,851				3,180				34,031
Equity-based compensation											93				—				—				93
Tax benefit associated with equity-based compensation											30				—				—				30
Sale of non-controlling interest of DIFZ											8,190				—				—				8,190
DIFZ financing, net of tax											74				—				—				74
Balance at October 3, 2008			57,000			$	570			$	365,413			$	104,454			$	(3,734	)		$	466,703

As described in Note 1, on July 31, 2008, the Company sold 50% of its ownership interest in DIFZ for approximately $8.2 million. No gain has been recognized on the sale as of October 3, 2008, as the Company completely financed the transaction by issuing three notes receivable to the purchaser. As a result, the sale was accounted for as a capital transaction reflected in APIC. Additionally, the interest component of the three notes receivable held by the Company is also reflected in APIC, shown above as “DIFZ financing”, and will not impact the Company’s consolidated statements of income.

Common Stock Repurchase — The Board of Directors of the Company (the “Board”) has authorized the Company to repurchase up to $25.0 million of its outstanding common stock. The shares may be repurchased from time to time in open market conditions or through privately negotiated transactions at the Company’s discretion, subject to market conditions, and in accordance with applicable federal and state securities laws and regulations. Shares of common stock repurchased under this plan will be held as treasury shares. The share repurchase program does not obligate the Company to acquire any particular amount of common stock and may be modified or suspended at any time at the Company’s discretion. The purchases will be funded from available working capital. No shares have been repurchased under this program through October 3, 2008.

Note 9—Equity-Based Compensation

As of October 3, 2008, the Company had provided equity-based compensation through the grant of Class B interests in DIV Holding LLC, the majority holder of the Company’s common stock and the grant of Restricted Stock Units (“RSUs”) under the Company’s 2007 Omnibus Incentive Plan (the “2007 Plan”). All of the Company’s equity-based compensation is accounted for under SFAS No. 123(R), “Share-Based Payment”. Under this method, the Company recorded equity-based compensation expense of $1.4 million and $1.1 million for the three months ended October 3, 2008 and September 28, 2007, respectively, and $1.2 million and $2.3 million for the six months ended October 3, 2008 and September 28, 2007, respectively.

Class B Interests

During the first fiscal quarter of 2009, the Company’s former CEO, Herbert J. Lanese, was terminated without cause in accordance with the conditions of his employment agreement, which resulted in the forfeiture of his unvested Class B interests in DIV Holding LLC granted to him as an employee of the Company. Mr. Lanese was subsequently issued additional Class B interests for his continued service on the Board. In addition, his separation resulted in severance liabilities of approximately $4.1 million recorded in the first fiscal quarter of 2009, which will be paid in installments over the twelve months following the date of his termination.

A summary of Class B interest activity during the second quarter of fiscal year 2009 is as follows:

		% Interest in				Grant Date
(Dollar amounts in thousands)		DIV Holding				Fair Value
Balance March 28, 2008			6.24	%		$	13,248
First Quarter Fiscal Year 2009 Grants			0.20	%			867
First Quarter Fiscal Year 2009 Forfeitures			(1.20	%)			(2,530	)
Balance July 4, 2008			5.24	%		$	11,585
Second Quarter Fiscal Year 2009 Grants			0.00	%			—
Second Quarter Fiscal Year 2009 Forfeitures			0.00	%			—
Balance October 3, 2008			5.24	%		$	11,585
March 28, 2008 Vested			2.82	%		$	4,641
First Quarter Fiscal Year 2009 Vesting			0.12	%			520
July 4, 2008 Vested			2.94	%			5,161
Second Quarter Fiscal Year 2009 Vesting			0.05	%			73
October 3, 2008 Vested			2.99	%		$	5,234
March 28, 2008 Nonvested			3.42	%		$	8,607
October 3, 2008 Nonvested			2.25	%		$	6,351

Assuming each grant outstanding, net of estimated forfeitures, as of October 3, 2008 fully vests, the Company will recognize the related non-cash compensation expense as follows (amounts in thousands):

Six month period ended April 3, 2009		$	910
Fiscal year ended April 2, 2010			1,102
Fiscal year ended April 1, 2011 and thereafter			616
Total		$	2,628

Restricted Stock Units

During the first six months of fiscal year 2009, the Company awarded service-based and performance-based RSUs to certain key employees (“Participants”). The grants were made pursuant to the terms and conditions of the 2007 Plan and are subject to award agreements between the Company and each Participant.

During the first six months of fiscal year 2009, 186,800 performance-based RSUs were granted to certain key employees. These performance-based awards, which we are currently accruing at 100%, are tied to the Company’s financial performance, specifically fiscal year 2011 EBITDA (earnings before interest, taxes, depreciation and amortization), and cliff vest upon achievement of this target. In addition to employee grants, 22,425 service-based RSUs were granted to Board members. These awards vest within one year of grant, but include a post-vesting restriction of six months after the applicable directors’ Board service ends. The RSUs have assigned value equivalent to the Company’s common stock and may be settled in cash or shares of the Company’s common stock at the discretion of the Compensation Committee of the Board.

As of October 3, 2008, 100,000 RSUs have been awarded to our current CEO. Half of these awards are service-based and vest ratably over a three year period on the anniversary of the CEO’s employment commencement date. The remaining 50,000 RSUs are performance-based and are tied to specific performance goals for fiscal year 2009. If the performance measures are achieved for fiscal year 2009, the awards will cliff vest over a three-year service period with one third vesting each year on the anniversary of the CEO’s employment commencement date. We are currently accruing for these performance awards at 100%.

The RSUs have been determined to be liability awards; therefore, the fair value of the RSUs are re-measured at each financial reporting date as long as they remain liability awards. The estimated fair value of all RSUs was approximately $7.4 million, net of estimated forfeitures, based on the closing market price of the Company’s stock on the grant date of each respective award, and was approximately $7.0 million, net of estimated forfeitures, based on the closing market price of the Company’s stock on October 3, 2008. No RSU awards have vested as of October 3, 2008.

A summary of RSU activity during the six months ended October 3, 2008 is as follows:

						Weighted
						Average
		Outstanding				Grant
		Restricted				Date
		Stock Units				Fair Value
Outstanding, March 28, 2008			159,600			$	21.49
Units granted			309,225				15.42
Units cancelled			(7,650	)			14.60
Units vested			—				—
Outstanding, October 3, 2008			461,175			$	17.54

Assuming each grant outstanding as of October 3, 2008, net of estimated forfeitures, fully vests (assuming 100% for performance-based awards), the Company will recognize the related equity-based compensation expense as follows based on the value of these liability awards as of October 3, 2008 (amounts in thousands):

Six month period ended April 3, 2009		$	1,477
Fiscal year ended April 2, 2010			2,175
Fiscal year ended April 1, 2011 and thereafter			1,739
Total		$	5,391

Note 10—Interest Rate Derivatives

At October 3, 2008, the Company’s derivative instruments consisted of two interest rate swap agreements, designated as cash flow hedges, that effectively fix the interest rate on the applicable notional amounts of the Company’s variable rate debt as follows (dollar amounts in thousands):

Fixed

Variable

Notional

Interest

Interest Rate

Date Entered

Amount

Rate Paid(1)

Received

Expiration Date

April 2007

$

168,620

4.975

%

3-month LIBOR

May 2010

April 2007

$

31,380

4.975

%

3-month LIBOR

May 2010

The fair value of the interest rate swap agreements was a liability of $5.7 million at October 3, 2008, of which $3.3 million was considered long term. Unrealized net loss from the changes in fair value of the interest rate swap agreements of $3.6 million, net of tax, for the six months ended October 3, 2008 is included in other comprehensive income (loss). There was no material impact on earnings due to hedge ineffectiveness for the three and six months ended October 3, 2008.

Note 11—Composition of Certain Financial Statement Captions

The following tables present financial information of certain consolidated balance sheet captions.

Prepaid expense and other current assets — Prepaid expense and other current assets were:

(Amounts in thousands)		October 3, 2008				March 28, 2008
Prepaid expenses		$	63,657			$	43,205
Inventories			9,254				8,463
Work-in-process			38,485				45,245
Minority interest			—				3,306
Joint venture receivables			12,844				2,076
Other current assets			8,480				6,732
		$	132,720			$	109,027

Prepaid expenses include prepaid insurance, prepaid vendor deposits, and prepaid rent, none of which individually exceed 5% of current assets. As of March 28, 2008, the minority interest resulted in a net debit balance due to the accumulated net loss in GLS.

Accrued payroll and employee costs — Accrued payroll and employee costs were:

(Amounts in thousands)		October 3, 2008				March 28, 2008
Wages, compensation and other benefits		$	107,340			$	57,940
Accrued vacation			24,958				24,760
Accrued contributions to employee benefit plans			3,007				2,486
		$	135,305			$	85,186

Other accrued liabilities — Accrued liabilities were:

(Amounts in thousands)		October 3, 2008				March 28, 2008
Deferred revenue		$	36,459			$	53,083
Accrued insurance			30,220				36,260
Accrued interest			5,964				9,885
Contract losses			18,966				134
Legal matters			20,491				19,851
Short-term swap liability			2,382				5,783
Other notes payable			16,533				374
Other			10,069				3,870
		$	141,084			$	129,240

Deferred revenue is primarily due to payments in excess of services provided for certain contracts in addition to payments received for services that must be deferred as a result of multiple element arrangements being recorded as a single unit of accounting.

Note 12—Fair Value of Financial Assets and Liabilities

Effective March 29, 2008, the Company adopted SFAS No. 157. In February 2008, the FASB issued FASB Staff Position No. 157-2, “Effective Date of FASB Statement No. 157”, which provides a one year deferral of the effective date of SFAS No. 157 for non-financial assets and non-financial liabilities, except those that are recognized or disclosed in the financial statements at fair value at least annually. Therefore, the Company has adopted the provisions of SFAS No. 157 with respect to its financial assets and liabilities only. Although the adoption of SFAS No. 157 did not materially impact the Company’s financial condition, results of operations, or cash flow, the Company is required to provide additional disclosures as part of its financial statements.

SFAS No. 157 establishes a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value. These tiers include:

	•		Level 1, defined as observable inputs such as quoted prices in active markets;
	•		Level 2, defined as inputs other than quoted prices in active markets that are either directly or indirectly observable; and
	•		Level 3, defined as unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its own assumptions.

As of October 3, 2008, the Company held certain assets and had incurred certain liabilities that are required to be measured at fair value on a recurring basis. These included cash equivalents (including restricted cash) and interest rate derivatives. Cash equivalents consist of petty cash, cash in-bank and short-term, highly liquid, income-producing investments with original maturities of 90 days or less. The Company’s interest rate derivatives, as further described in Note 10, consist of interest rate swap contracts. The fair values of the interest rate swap contracts are determined based on inputs that are readily available in public markets or can be derived from information available in publicly quoted markets. Therefore, the Company has categorized these interest rate swap contracts as Level 2. The Company has consistently applied these valuation techniques in all periods presented.

The Company’s assets and liabilities measured at fair value on a recurring basis subject to the disclosure requirements of SFAS 157 at October 3, 2008, were as follows:

Fair Value Measurements at Reporting Date Using

		Book value of
		financial				Quoted Prices in
		assets/(liabilities)				Active Markets				Significant Other				Significant
		as of October 3,				for Identical				Observable Inputs				Unobservable
(amounts in thousands)		2008				Assets (Level 1)				(Level 2)				Inputs (Level 3)
Assets
Cash equivalents(1)		$	153,329			$	153,329			$	—			$	—
Total assets measured at fair value		$	153,329			$	153,329			$	—			$	—
Liabilities
Interest rate derivatives		$	5,729			$	—			$	5,729			$	—
Total liabilities measured at fair value		$	5,729			$	—			$	5,729			$	—

Note 13—Joint Ventures and Related Parties

Amounts due from the Company’s unconsolidated joint ventures totaled $12.8 million and $2.1 million as of October 3, 2008 and March 28, 2008, respectively. These receivables are a result of items purchased and services rendered by the Company on behalf of the Company’s unconsolidated joint ventures. The Company has assessed these receivables as having minimal collection risk based on the historic experience with these joint ventures and the Company’s inherent influence through its ownership interest. The change in these receivables from March 28, 2008 to October 3, 2008 resulted in a use of operating cash for the six months ended October 3, 2008 of $10.7 million. The related revenue associated with the Company’s unconsolidated joint ventures totaled $11.4 million and $14.1 million for the three and six months ended October 3, 2008, respectively, and $2.1 million and $2.1 million for the three and six months ended September 28, 2007, respectively.

As discussed in Note 1, the Company sold half of its previously wholly owned subsidiary, DIFZ, on July 31, 2008 to Palm Trading Investment Corp. (“Palm”). DIFZ provides leased contract employees, back office staff and outsourced payroll and human resource support services through its approximately 4,100 employees. Currently, all DIFZ revenue and costs are eliminated through the Company’s consolidation process.

As a result of the DIFZ sale, the Company currently holds three notes receivable from Palm for the purchase price which totaled $8.2 million. As of October 3, 2008, the loan balance outstanding with Palm was $8.4 million, including accrued interest of $0.2 million. As indicated in Note 8, accrued interest is recorded in APIC.

Note 14—Segment Information

On April 1, 2008, the Company announced it would change from reporting financial results on two segments, GS and MTSS, to reporting three segments, beginning with the first fiscal quarter of 2009. This was accomplished by splitting GS into two distinct reporting segments.

The three segments are as follows:

International Security Services, or ISS segment, which consists of the Law Enforcement and Security, or LES, business unit, the Specialty Aviation and Counter Drug , or SACD, business unit, and Global Linguist Solutions, or GLS.

Logistics and Construction Management, or LCM segment, and is comprised of the Contingency and Logistics Operations, or CLO, business unit and the Operations, Maintenance, and Construction Management, or OMCM, business unit. This segment is also responsible for winning and performing new work on our LOGCAP IV contract.

Maintenance and Technical Support Services, or MTSS segment consists of its original components in addition to DynMarine Services and DynAustralia, both of which were previously reported under the GS segment.

The following is a summary of the financial information of the reportable segments reconciled to the amounts reported in the condensed consolidated financial statements. All prior periods presented have been recast to reflect the new segment reporting.

		Three Months Ended
(Amounts in thousands)		October 3, 2008				September 28, 2007
Revenue
International Security Services		$	472,335			$	270,847
Logistics and Construction Management			85,466				47,623
Maintenance and Technical Support Services			222,730				176,794
Other/elimination			(1,380	)			(155	)
Total revenue		$	779,151			$	495,109
Operating Income
International Security Services		$	49,949			$	32,975
Logistics and Construction Management			(23,057	)			(2,728	)
Maintenance and Technical Support Services			19,741				3,700
Total operating income		$	46,633			$	33,947
Depreciation and amortization
International Security Services		$	6,448			$	7,061
Logistics and Construction Management			682				652
Maintenance and Technical Support Services			2,875				2,888
Total depreciation and amortization		$	10,005			$	10,601

		Six Months Ended
(Amounts in thousands)		October 3, 2008				September 28, 2007
Revenue
International Security Services		$	877,709			$	559,412
Logistics and Construction Management			178,928				110,751
Maintenance and Technical Support Services			441,607				373,619
Other/elimination			(2,299	)			—
Total revenue		$	1,495,945			$	1,043,782
Operating Income
International Security Services		$	75,378			$	57,134
Logistics and Construction Management			(16,987	)			(431	)
Maintenance and Technical Support Services			28,236				8,904
Total operating income		$	86,627			$	65,607
Depreciation and amortization
International Security Services		$	13,118			$	13,624
Logistics and Construction Management			1,461				1,300
Maintenance and Technical Support Services			5,986				6,067
Total depreciation and amortization		$	20,565			$	20,991

		As of
(Amounts in thousands)		October 3, 2008				March 28, 2008
Assets
International Security Services		$	786,316			$	725,775
Logistics and Construction Management			208,515				199,088
Maintenance and Technical Support Services			312,192				336,721
Corporate/other(1)			241,694				141,125
Total assets		$	1,548,717			$	1,402,709

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

The following discussion and analysis of our consolidated financial condition and results of operations should be read in conjunction with the condensed consolidated financial statements, and the notes thereto, and other data contained elsewhere in this Quarterly Report. The following discussion and analysis should also be read in conjunction with our audited consolidated financial statements, and notes thereto, and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in our Annual Report on Form 10-K filed with the SEC on June 10, 2008. References herein to “DynCorp International”, the “Company”, “we”, “our”, or “us” refer to DynCorp International Inc. and its subsidiaries unless otherwise stated or indicated by the context.

COMPANY OVERVIEW

We are a provider of specialized mission-critical professional and support services outsourced by the U.S. military, non-military U.S. governmental agencies and foreign governments. Our specific global expertise is in law enforcement training and support, security services, base and logistics operations, construction management, aviation services and operations, and linguist services. We also provide logistics support for all our services, through approximately 47 active contracts ranging in duration from three to ten years and over 100 task orders. As of October 3, 2008, we had approximately 23,000 employees in approximately 30 countries. DynCorp International and its predecessors have provided essential services to numerous U.S. government departments and agencies since 1951.

We operate our business through three segments: ISS; LCM; and MTTS. Each of these segments is described below.

International Security Services

ISS provides various outsourced services primarily to government agencies worldwide. ISS consists of the following strategic business units:

Law Enforcement and Security — This operating unit provides international policing and police training, judicial support, immigration support and base operations. In addition, it provides security and personal protection for diplomats.

Specialty Aviation and Counter-drug Operations — This operating unit’s services include drug eradication and host nation pilot and crew training.

Global Linguist Solutions — This consolidated joint venture between DynCorp International and McNeil Technologies provides rapid recruitment, deployment and on-site management of interpreters and translators in-theatre to the U.S. Army for a wide range of foreign languages.

Logistics and Construction Management

LCM provides technical support services to government agencies and commercial customers worldwide. LCM consists of the following strategic business units:

Contingency and Logistics Operations — This operating unit provides peace-keeping support, humanitarian relief, de-mining, worldwide contingency planning and other rapid response services. In addition, it offers inventory procurement and tracking services, equipment maintenance, property control, data entry and mobile repair services.

Operations Maintenance and Construction Management — This operating unit provides facility and equipment maintenance and control and custodial and administrative services. In addition, it provides civil, electrical, infrastructure, environmental and mechanical engineering and construction management services.

Maintenance & Technical Support Services

MTSS provides a wide range of technical, engineering, logistics and maintenance support services primarily to government agencies worldwide. MTSS consists of the following strategic business areas:

Contract Logistics Support — Provides worldwide support of U.S. Army, Air Force and Navy fixed wing assets. Aircraft are deployed throughout the U.S., Europe, Asia, South America and the Middle East. Contract Logistics Support (“CLS”) provides flight line and depot level maintenance, consisting of scheduled and unscheduled events. Specific functions include repair, overhaul and procurement of components, procurement of consumable materials and transportation of materials to and from the operating sites. In addition, the team is responsible for obsolescence engineering, quality control, inventory management, avionics upgrades and recovery of downed aircraft.

Field Service Operations — Provides worldwide maintenance, modification, repair and logistics support on aircraft, weapons systems, and related support equipment to the Department of Defense (“DoD”) and other U.S. government agencies. Contract Field Teams (“CFT”) is the most significant program in our Field Service Operations SBA. Our company and its predecessors have provided CFT service for over 55 consecutive years. This program deploys highly mobile, quick-response field teams to customer locations to supplement a customer’s workforce.

Aviation & Maintenance Services — Provides aircraft fleet maintenance and modification services, ground vehicle maintenance and modification services, marine services, pilot and maintenance training, logistics support, air traffic control services, base and depot operations, program management and engineering services. These services are offered on a domestic and international basis.

CURRENT OPERATING CONDITIONS AND OUTLOOK

External Factors

Over most of the last two decades, the U.S. government has been increasing its reliance on the private sector for a wide range of professional and support services. This increased use of outsourcing by the U.S. government has been driven by a variety of factors, including: lean-government initiatives launched in the 1990s; surges in demand during times of national crisis; the increased complexity of missions conducted by the U.S. military and the Department of State (“DoS”); the increased focus of the U.S. military on war-fighting efforts; and the loss of skills within the government caused by workforce reductions and retirements. These factors lead us to believe that the U.S. government’s growing mission and continued human capital challenges have combined to create a new market dynamic, one that is less directly reflective of overall government budgets and more reflective of the ongoing shift of service delivery from the federal workforce to competent, efficient private sector providers.

We believe the following industry trends will result in continued strong demand in our target markets for the types of outsourced services that we provide:

	•		The continued transformation of military forces, leading to increased outsourcing of non-combat functions, including life-cycle asset management functions ranging from organizational to depot level maintenance;
	•		An increase in the level and frequency of overseas deployments and peace-keeping operations for the DoS, DoD and United Nations;
	•		Increased maintenance, overhaul and upgrade needs to support aging military platforms;
	•		Increased outsourcing by foreign militaries of maintenance, supply support, facilities management and construction management-related services; and
	•		The shift from single award to more multiple award indefinite delivery, indefinite quantity (“IDIQ”) contracts, which may offer us an opportunity to increase revenues under these contracts by competing for task orders with the other contract awardees.

The $700 billion financial rescue plan, the possibility of Congress approving a second economic stimulus package and other initiatives undertaken by the Federal government in connection with the current economic crisis will likely have an eventual impact on the defense budget. We believe, however, that within the defense budget, weapon system acquisitions will be the most likely initial target for budget reductions, and operations and maintenance budgets will remain robust, driven by (i) the need to reset equipment coming out of Iraq, (ii) the logistics and support chain associated with repositioning of forces and eventual draw down in Iraq and (iii) deployments into Afghanistan.

Subject to the outcome of negotiations between the U.S. and Iraqi governments, many industry observers believe that President-elect Obama will seek to withdraw troops from Iraq, specifically the withdrawal of U.S. combat forces by December 31, 2011, if not sooner, and that he will support an expanded presence in Afghanistan of approximately 20,000 additional U.S. troops. As a result, we expect our level of business involving Iraq to be relatively stable over the next few years, with demand remaining strong for logistics, equipment reset, training and mentoring of Iraqi forces and government agencies and translation services to support security and peacekeeping activities. In Afghanistan, we believe we are well positioned to capitalize on any increased U.S. government focus through many of our service offerings, including police training and mentoring, aircraft logistics and operations, infrastructure development, mine resistant and ambush protected (“MRAP”) services, poppy eradication and logistics services under LOGCAP IV.

Current Economic Conditions

We believe that our industry and customer base are less likely to be affected by many of the factors affecting business and consumer spending generally. Accordingly, we believe that we continue to be well positioned in the current economic environment as a result of historic demand factors affecting our industry, the nature of our contracts and our sources of liquidity. However, we cannot be certain that the economic environment or other factors will not adversely impact our business, financial condition or results of operations in the future.

Furthermore, we believe that our current sources of liquidity will enable us to continue to perform under our existing contracts and further grow our business. However, a longer term credit crisis could adversely affect our ability to obtain additional liquidity or refinance existing indebtedness on acceptable terms or at all, which could adversely affect our business, financial condition and results of operations.

See “Part II — Other Information — Item 1A. Risk Factors — Current or worsening economic conditions could impact our business.”

Internal Factors

Our internal focus for success centers around five key principles:

	•		Performance — Through a relentless mind set in meeting our commitments to our customers every day and in operating with absolute integrity and in accordance with our Code of Ethics and Business Conduct in all that we do.
	•		Lean Infrastructure — In order to further fuel our growth and invest in our people, we must generate additional investment capacity by ensuring that our infrastructure is as efficient as possible without jeopardizing our ability to perform.
	•		Strategic Investment — We must have clarity in our strategic priorities, and we must properly focus our investments in people, new program pursuits and efforts to penetrate new segments of the market.
	•		New Business — Growing our business profitably starts with winning new business. This involves having a winning attitude across our enterprise, particularly in satisfying our customers and competing for business.
	•		People — We must be the employer of choice, with strong, trusted leadership, an employee-focused environment and a culture of mutual respect in which our employees are empowered and rewarded for serving our customers and ensuring their success.

We apply these key principles continuously as we assess our operational and administrative performance.

Current Events

The results of our operations for the three and six months ended October 3, 2008 exceeded expectations across our core business areas with the exception of our Afghanistan construction contracts, within our LCM segment, which encountered cost overruns due to significant challenges in the operational environment, specifically the deteriorating security situation. Management has determined that several of our Afghanistan construction contracts will operate at a loss or at margins approaching zero over their contract terms and that we are unlikely to bid any similar contracts without revised terms and conditions.

See the Results of Operations section below for further information regarding the financial impact of our construction business on our consolidated financial results.

CONTRACT TYPES

Our business generally is performed under fixed-price, time-and-materials or cost-reimbursement contracts. Each of these is described below.

	•		Fixed-Price Type Contracts: In a fixed-price contract, the price is not subject to adjustment based on costs incurred, which can favorably or adversely impact our profitability depending upon our execution in performing the contracted service. Fixed-price types received by us include firm fixed-price, fixed-price with economic adjustment and fixed-price incentive.
	•		Time-and-Materials Type Contracts: A time-and-materials type contract provides for acquiring supplies or services on the basis of direct labor hours at fixed hourly/daily rates plus materials at cost.
	•		Cost-Reimbursement Type Contracts: Cost-reimbursement type contracts provide for payment of allowable incurred costs, to the extent prescribed in the contract, plus a fixed-fee, award-fee or incentive-fee. Award-fees or incentive-fees are generally based upon various objective and subjective criteria, such as aircraft mission capability rates and meeting cost targets.

Our historical contract mix by type, as a percentage of revenue, is indicated in the table below.

		Three Months Ended								Six Months Ended
		October 3, 2008				September 28, 2007				October 3, 2008				September 28, 2007
Fixed Price			28.3	%			39.7	%			29.8	%			40.0	%
Time-and-Materials			24.3	%			35.6	%			25.1	%			35.4	%
Cost-Reimbursement			47.4	%			24.7	%			45.1	%			24.6	%
			100	%			100	%			100	%			100	%

BACKLOG

We track backlog in order to assess our current business development effectiveness and to assist us in forecasting our future business needs and financial performance. Our backlog consists of funded and unfunded amounts under contracts. Funded backlog is equal to the amounts actually appropriated by a customer for payment of goods and services less actual revenue recognized as of the measurement date under that appropriation. Unfunded backlog is the actual dollar value of unexercised priced contract options.

Most of our U.S. government contracts allow the customer the option to extend the period of performance of a contract for a period of one or more years. These priced options may or may not be exercised at the sole discretion of the customer. Historically, it has been our experience that customers have typically exercised contract options.

Firm funding for our contracts is usually made for one year at a time, with the remainder of the contract period consisting of a series of one-year options. As is the case with the base period of our U.S. government contracts, option periods are subject to the availability of funding for contract performance. The U.S. government is legally prohibited from ordering work under a contract in the absence of funding. Our historical experience has been that the government has typically funded the option periods of our contracts.

The following table sets forth our approximate contracted backlog as of the dates indicated:

(in millions)		October 3, 2008				March 28, 2008
Funded Backlog		$	1,330			$	1,164
Unfunded Backlog			5,161				4,797
Total Backlog		$	6,491			$	5,961

Total backlog as of October 3, 2008 was $6.5 billion, as compared to $6.0 billion as of March 28, 2008, primarily due to the award of the War Reserve Materiel recompete during the first quarter of the fiscal year. As of October 3, 2008 and March 28, 2008, total backlog related to GLS was $3.2 billion and $3.5 billion, respectively, and is incorporated in the table above.

ESTIMATED REMAINING CONTRACT VALUE

Our estimated remaining contract value represents total backlog plus management’s estimate of future revenue under IDIQ contracts for task or delivery orders that have not been awarded. Future revenue represents management’s estimate of revenue that will be recognized from future task or delivery orders through the end of the term and is based on our experience under such IDIQ contracts and management judgments and estimates as to future performance. Although we believe our estimates are reasonable, there can be no assurance that our existing contracts will result in actual revenue in any particular period or at all. Our estimated remaining contract value could vary or even change significantly depending upon various factors, including government policies, government budgets and appropriations, the accuracy of our estimates of work to be performed under time and material contracts and whether we successfully compete with any multiple bidders in IDIQ contracts. The Company’s estimated remaining contract value as of October 3, 2008 increased to $10.1 billion from $7.5 billion as of March 28, 2008, primarily due to the successful recompete of the Contract Field Teams contract.

RESULTS OF OPERATIONS

The Company reports its results on a 52/53-week fiscal year, with the fiscal year ending on the Friday closest to March 31 of such year (April 3, 2009 for fiscal year 2009, which is a 53-week fiscal year). The six-month fiscal period ended October 3, 2008 was a 27-week period from March 29, 2008 to October 3, 2008. The six-month fiscal period ended September 28, 2007 was a 26-week period from March 31, 2007 to September 28, 2007.

Consolidated

The following tables set forth, for the periods indicated, our consolidated results of operations, both in dollars and as a percentage of revenues:

		Three Months Ended
(Amounts in thousands)		October 3, 2008								September 28, 2007
Revenue		$	779,151				100.0	%		$	495,109				100.0	%
Cost of services			(696,519	)			-89.4	%			(425,633	)			-86.0	%
Selling, general and administrative expenses			(25,994	)			-3.3	%			(24,928	)			-5.0	%
Depreciation and amortization expense			(10,005	)			-1.3	%			(10,601	)			-2.1	%
Operating income			46,633				6.0	%			33,947				6.9	%
Interest expense			(14,905	)			-1.9	%			(13,705	)			-2.8	%
Loss on early extinguishment of debt			(4,443	)			-0.6	%			—				0.0	%
Earnings from affiliates			1,523				0.2	%			1,176				0.2	%
Interest income			677				0.1	%			430				0.1	%
Other income, net			960				0.1	%			—				0.0	%
Income before taxes			30,445				3.9	%			21,848				4.4	%
Provision for income taxes			(9,131	)			-1.2	%			(7,895	)			-1.6	%
Income before minority interest			21,314				2.7	%			13,953				2.8	%
Minority interest			(8,443	)			-1.1	%			—				0.0	%
Net income		$	12,871				1.7	%		$	13,953				2.8	%

		Six Months Ended
(Amounts in thousands)		October 3, 2008								September 28, 2007
Revenue		$	1,495,945				100.0	%		$	1,043,782				100.0	%
Cost of services			(1,334,908	)			-89.2	%			(905,721	)			-86.8	%
Selling, general and administrative expenses			(53,845	)			-3.6	%			(51,463	)			-4.9	%
Depreciation and amortization expense			(20,565	)			-1.4	%			(20,991	)			-2.0	%
Operating income			86,627				5.8	%			65,607				6.3	%
Interest expense			(29,120	)			-1.9	%			(28,195	)			-2.7	%
Loss on early extinguishment of debt			(4,443	)			-0.3	%			—				0.0	%
Earnings from affiliates			2,640				0.2	%			2,067				0.2	%
Interest income			1,021				0.1	%			1,680				0.2	%
Other income, net			1,665				0.1	%			—				0.0	%
Income before taxes			58,390				3.9	%			41,159				3.9	%
Provision for income taxes			(18,447	)			-1.2	%			(14,948	)			-1.4	%
Income before minority interest			39,943				2.7	%			26,211				2.5	%
Minority interest			(9,092	)			-0.6	%			—				0.0	%
Net income		$	30,851				2.1	%		$	26,211				2.5	%