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Management's Discussion and Analysis of Financial Condition and Results of Operations


This Annual Report to Shareholders contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Words such as "expects," "anticipates," "intends," "plans," "estimates," or similar expressions are intended to identify these forward-looking statements. These statements are based on the Company's current plans and expectations and involve risks and uncertainties that could cause actual future activities and results of operations to be materially different from those set forth in the forward-looking statements. Important factors that could cause actual future activities and results to differ include, among others, the need to attract and retain professional staff, the Company's ability to manage growth, possible variations in the Company's quarterly operating results, the Company's dependence on renewals of its membership-based research services and on key personnel, and risks associated with the Company's ability to anticipate market trends and offer new products and services, and competition. The Company undertakes no obligation to update publicly any forward-looking statements, whether as a result of new information, future events, or otherwise. For further information, please refer to the Company's reports and filings with the Securities and Exchange Commission.

Forrester has experienced year-to-year revenue growth every year since its inception in 1983, and the Company's total revenues increased to $25.0 million in 1996 from $14.6 million in 1995. Forrester attributes its growth to the Company's continuing reputation for quality research and services, accurate analysis of technology industry developments, the introduction of new products and services, and the expansion of the Company's sales and marketing organization. In addition, the Company believes the speed of technology change and the increasingly participatory nature of technology decisions have led to a growing market need for independent research and analysis on the impact of technology on large enterprises, consumers, and society.

Revenues from core research also increased to $18.2 million in 1996 from $10.1 million in 1995 and increased as a percentage of total revenues to 73% in 1996 from 70% in 1995. Forrester attributes this growth to, in addition to the factors cited above, an increase in total Strategy Research Services offered - from six in 1995 to a total of 10 Strategy Research Services as of December 31, 1996.

Memberships to Forrester's Strategy Research Services are renewable contracts, typically annual and payable in advance. Accordingly, a substantial portion of the Company's billings are initially recorded as deferred revenue and recognized pro rata on a monthly basis over the contract period. The Company's other revenues are derived from advisory services rendered pursuant to Forrester's Partners Program and Strategy Review Program and from the Forrester Technology Management Forum (the "Forum"). The Company's advisory service clients purchase such services in conjunction with the purchase of core research memberships to Strategy Research Services, and the contracts for such purchases are also generally payable in advance. Billings attributable to advisory services are initially recorded as deferred revenues and recognized as revenue when performed. Similarly, Forum billings are initially recorded as deferred revenues and are recognized upon completion of the event.

The Company's operating expenses consist of cost of services and fulfillment, selling and marketing expenses, general and administrative expenses, and depreciation and amortization. Cost of services and fulfillment represent the costs associated with production and delivery of the Company's products and services, and include the costs of salaries, bonuses, and related benefits for research personnel, and all associated editorial, travel, and support services. Selling and marketing expenses include salaries, employee benefits, travel expenses, promotional costs, and sales commissions, which are deferred when paid and expensed as the related revenue is recognized. General and administrative expenses include the costs of the finance, operations, and corporate IT groups, and other administrative functions of the Company.

The Company has had income from operations in each of the last six years from 1991 through 1996. Income from operations rose 129% to $4.1 million in 1996 from $1.8 million in 1995.

The Company was an S corporation under section 1362 of the Internal Revenue Code of 1986, as amended, until prior to the closing of its initial public offering. As an S corporation, the taxable income of the Company was passed through to the sole stockholder and was reported on his individual federal and state income tax returns. The Company is now taxed as a C corporation and accordingly is subject to federal and state income taxes at prevailing corporate rates. The statements for each of the three years ended December 31, 1994, 1995, and 1996 include a pro forma income tax adjustment for the income taxes that would have been recorded if the Company had been a C corporation for those periods. The Company has calculated these amounts based on an estimated effective tax rate for the respective periods. Upon termination of the S corporation election, the Company recorded a net deferred income tax liability, reflecting the tax effect of cumulative differences between the financial reporting and tax bases of certain assets and liabilities, of approximately $510,000 as a one-time increase in the actual tax provision during 1996.

The Company believes that the "agreement value" of contracts to purchase core research and advisory services provides a significant measure of the Company's business volume. Forrester calculates agreement value as the annualized fees payable under all core research and advisory services contracts in effect at a given point in time, without regard to the remaining duration of such contracts. Agreement value increased 69% to $30.0 million at December 31, 1996 from $17.8 million at December 31, 1995. The Company's experience is that a substantial portion of client companies renew expiring contracts for an equal or higher level of total core research and advisory service fees each year. Approximately 74% and 71% of Forrester's client companies with memberships expiring during 1996 and 1995, respectively, renewed one or more memberships for the Company's products and services, although these renewal rates are not necessarily indicative of the rate of future retention of the Company's revenue base. The number of client companies increased to 885 at December 31, 1996 from 799 at December 31, 1995, and no single client company accounted for over 3% of the Company's revenues in 1996 or over 4% of the Company's revenues in 1995.

Results of Operations The following table sets forth certain financial data as a percentage of total revenues for the periods indicated:

Year Ended December 31, 1994 1995 1996

Core research 66% 70% 73%
Advisory services and other 34 30 27

Total revenues 100 100 100
Cost of services and fulfillment 35 37 35
Selling and marketing 37 39 36
General and administrative 10 9 10
Depreciation and amortization 2 2 3

Income from operations 16 13 16
Interest income 1 2 3

Income before state income tax provision 17 15 19
Provision for income taxes 1 1 3

Net income 16% 14% 16%

Pro forma income tax adjustment 6 5 5

Pro forma net income 10% 9% 11%