Management's discussion and analysis contains forward-looking statements that
are provided to assist in the understanding of anticipated future performance.
However, future performance involves risks and uncertainties which may cause
actual results to differ materially from those expressed in the forward-looking
statements. Item 7 should be read in conjunction with the information contained
in "Forward-Looking Statements" at the beginning of this report and with the
Consolidated Financial Statements and Notes thereto included in Item 8.
References such as the "Company," "we," "our" and "us" refer to
Overview
We specialize in the placement of information technology, engineering, and
accounting professionals for direct hire and contract staffing for our clients,
data entry assistants (medical scribes) who specialize in electronic medical
records (EMR) services for emergency departments, specialty physician practices
and clinics and provide temporary staffing services for our light industrial
clients. The acquisitions of
The Company markets its services using the trade names
Management has implemented a strategy which includes organic and acquisition growth components. Management's organic growth strategy includes seeking out and winning new client business, as well as expansion of existing client business and on-going cost reduction and productivity improvement efforts in operations. Management's acquisition growth strategy includes identifying strategic acquisitions, financed primarily through the issuance of equity and debt to improve the overall profitability and cash flows of the Company.
The Company's contract and placement services are principally provided under two
operating divisions or segments: Professional Staffing Services and
16 Table of Contents Results of Operations
Fiscal year ended
Net Revenues
Consolidated net revenues are comprised of the following:
Fiscal (in thousands) 2019 2018 $ Change % Change Professional contract services$ 111,433 $ 120,580 $ (9,147 ) (7.6 ) Industrial contract services 21,710 21,648 62 0.3 Total professional and industrial contract services 133,143 142,228 (9,085 ) (6.4 ) Direct hire placement services 18,531 23,056 (4,525 ) (19.6 ) Consolidated net revenues$ 151,674 $ 165,284 $ (13,610 ) (8.2 )
Contract staffing services contributed
The overall decrease in contract staffing services revenue of
Direct hire placement revenue for fiscal 2019 decreased by
Cost of Contract Services
Cost of contract services includes wages and related payroll taxes, employee
benefits of the Company's contract services employees, and certain other
employee-related costs, while they work on contract assignments. Cost of
contract services for fiscal 2019 decreased by approximately 6.3% to
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Gross Profit percentage by service:
Fiscal (in thousands) 2019 2018 Professional contract services 26.0 % 26.5 % Industrial contract services 20.8 % 17.9 %
Consolidated professional and industrial services 25.2 % 25.2 %
Direct hire placement services 100.0 % 100.0 % Combined gross profit margin %(1) 34.3 % 35.7 % (1) Includes gross profit from direct hire placements, for which all associated costs are recorded as selling, general and administrative expenses.
The Company's combined gross profit margin, including direct hire placement services (recorded at 100% gross margin) for fiscal 2019 was approximately 34.3% versus approximately 35.7% for the fiscal 2018. The change in the overall gross margin from the comparable prior fiscal year was primarily due to a decrease in amount and mix of direct hire placement services revenue.
In the professional contract staffing services segment, the gross margin (excluding direct placement services) was approximately 26.0% for fiscal 2019 compared to approximately 26.5% for fiscal 2018. The change in professional contract staffing services gross margin was primarily due to proportionally higher revenue from Vendor Management Systems ("VMS"), Managed Service Providers ("MSP"), Master Service Agreements ("MSA") and other volume corporate accounts that occurred in fiscal 2019, all of which typically have lower gross margins. Other differences in the composition of revenues among the specialties served by the Company (information technology, engineering, healthcare, finance and accounting and others) also contributed to the change in the professional contract services gross profit and margin.
The Company's industrial staffing services gross margin for fiscal 2019 was
approximately 20.8% versus approximately 17.9% for fiscal 2018. The increase in
gross margin for fiscal 2019 was principally due to increases in the estimated
amounts of return premiums and experience refunds the Company's light industrial
business is eligible to receive under the
Selling, General and Administrative Expenses
Selling, general and administrative expenses include the following categories:
· Compensation and benefits in the operating divisions, which includes salaries, wages and commissions earned by the Company's employment consultants, recruiters and branch managers on permanent and temporary placements; · Administrative compensation, which includes salaries, wages, payroll taxes and employee benefits associated with general management and the operation of the finance, legal, human resources and information technology functions; · Occupancy costs, which includes office rent, depreciation and amortization, and other office operating expenses; · Recruitment advertising, which includes the cost of identifying job applicants; and · Other selling, general and administrative expenses, which includes travel, bad debt expense, fees for outside professional services and other corporate-level expenses such as business insurance and taxes. 18 Table of Contents
In addition to depreciation and amortization, which are broken out and reported separately in the consolidated statement of operations from other selling, general and administrative expenses (SG&A), the Company separately reports expenses incurred that are related to acquisition, integration and restructuring activities. These include expenses associated with former closed and consolidated locations, personnel costs associated with eliminated positions, and other costs incurred related to acquisitions, including associated legal and professional costs. Management believes reporting these expenses separately from other SG&A provides useful information considering the Company's dual track growth strategy of internal (organic) growth and growth by acquisitions and when comparing and considering the Company's operating results and activities with other entities.
The Company's SG&A for fiscal 2019, decreased by approximately
Acquisition, Integration and Restructuring Expenses
The Company classifies and reports costs incurred related to acquisition,
integration and restructuring activities separately from other SG&A within its
operating expenses. These costs were
Depreciation Expense
Depreciation expense was
Amortization Expense
Amortization expense was
Goodwill Impairment Charge
In 2019, the Company early adopted ASU 2017-04, Intangibles -
Due to a sustained decline in the market capitalization of our common stock
during fiscal 2019, we performed an interim goodwill impairment test during our
third quarter in accordance with the provisions of ASU 2017-04. The outcome of
this goodwill impairment test resulted in a non-cash charge for the impairment
of goodwill of
Loss from Operations
As the net result of the matters discussed regarding revenues and operating
expenses above, income from operations decreased
Change in Acquisition Deposit for Working Capital Guarantee
As of
19 Table of Contents Interest Expense
Interest expense for fiscal 2019, increased by approximately
Provision for Income Taxes
The Company recognized a tax expense of approximately
Net Loss
As a result of the matters discussed regarding revenues and expenses above, the
Company incurred net losses for 2019 and 2018 of
The Company continues to pursue opportunities to selectively increase revenue producing headcount in key markets and industry verticals. The Company also seeks to organically grow its professional contract services revenue and direct hire placement revenue, including business from staff augmentation, permanent placement, statement of work (SOW) and other human resource solutions in the information technology, engineering, healthcare and finance and accounting higher margin staffing specialties. The Company's strategic plans to achieve this goal involve setting aggressive new business growth targets, including initiatives to increase services to existing customers, increasing its numbers of revenue producing core professionals, including primarily, business development managers and recruiters, changes to compensation, commission and bonus plans to better incentivize producers, and frequent interaction with the field to monitor and motivate growth. The Company's strategic plan contains both internal and acquisition growth objectives to increase revenue in the aforementioned higher margin and more profitable professional services sectors of staffing.
Liquidity and Capital Resources
The primary sources of liquidity for the Company are revenues earned and collected from its clients for the placement of contractors and permanent employment candidates and borrowings available under the Senior Credit Agreement. Uses of liquidity include primarily the costs and expenses necessary to fund operations, including payment of compensation to the Company's contract and permanent employees, operating costs and expenses, payment of taxes, payment of interest and principal under its debit agreements, and capital expenditures.
The Company experienced significant net losses in fiscal 2019 and fiscal 2018, which also have negatively impacted the Company's ability to generate liquidity. Management believes the Company can generate adequate liquidity to meet its obligations for the foreseeable future and has taken definitive actions to improve operations, reduce costs and improve profitability and liquidity, and position the Company for future growth. In addition, management has successfully negotiated amendments and waivers to the Credit Agreement with the Company's current senior lenders on six occasions to date as we work to improve the Company's operations and to refinance and restructure its current debt and equity capitalization. However, there can be no assurance that the Company will not fall into non-compliance with its loan covenants in the future or that its Lenders will continue to provide waivers or amendments to the Company in the event of future non-compliance with debt covenants or other possible events of default that could happen. There also can be no assurance that the Company will be successful in its efforts to refinance and restructure the Company's debt and equity capitalization under reasonable terms or at all, or that it will generate adequate liquidity to fund operations and meet its debt service obligations in the future.
20 Table of Contents The following table sets forth certain consolidated statements of cash flows data: Fiscal (in thousands) 2019 2018
Cash flows (used in) provided by operating activities
$ (209 ) $ (324 )
Cash flows provided by (used in) financing activities
At
Net cash (used in) provided by operating activities for fiscal 2019 and fiscal
2018 was approximately
The primary uses of cash for investing activities were for the acquisition of property and equipment in fiscal 2019 and fiscal 2018.
Cash flow provided by financing activities for fiscal 2019 was primarily from
the proceeds of the 8% Convertible Subordinated Notes issued to related parties
in
Minimum debt service payments (principal) for the twelve-month period commencing
after the close of business on
Revolving Credit Facility and Term Loan
After the close of business on
Under the terms of the Credit Agreement, the Company may borrow up to
The Credit Agreement, as amended, contains certain financial covenants, which are required to be maintained as of the last day of each fiscal quarter, including the following:
Fixed Charge Coverage Ratio ("FCCR"). This is the ratio of consolidated earnings
before interest, taxes, depreciation and amortization ("EBITDA") to Fixed
Charges, each of which is as defined in the Credit Agreement, as amended. The
minimum FCCR requirements are: 1.00 to 1.00 for the trailing two fiscal quarters
ending
21 Table of Contents
Minimum EBITDA. Minimum EBITDA, which is determined on a consolidated basis and
measured on a trailing four (4) quarter basis, as defined in the Credit
Agreement, as amended, are:
Senior Leverage Ratio. This is the ratio of maximum Indebtedness, which is
substantially comprised of consolidated senior indebtedness, to consolidated
EBITDA, each of which is as defined under the Credit Agreement, as amended. The
Senior Leverage Ratios are: 4.25 to 1.00 for the fiscal quarter ending
In addition to these financial covenants, the Credit Agreement includes other restrictive covenants. The Credit Agreement permits capital expenditures up to a certain level and contains customary default and acceleration provisions. The Credit Agreement also restricts, above certain levels, acquisitions, incurrence of additional indebtedness, and payment of dividends.
On
On
Pursuant to the First Amendment the Lenders also waived any Event of Default
arising out of the Loan Parties' failure to deliver, on or before
On
The Company did not meet its financial loan covenants at
22 Table of Contents
On
On
Following the Fifth Amendment, the Company has met its financial covenants, as
amended, for the quarters ended
The primary sources of liquidity for the Company are revenues earned and collected from its clients for the placement of contractors and permanent employment candidates and borrowings available under the Senior Credit Agreement. Uses of liquidity include primarily the costs and expenses necessary to fund operations, including payment of compensation to the Company's contract and permanent employees, payment of operating costs and expenses, payment of taxes, payment of interest and principal under its debt agreements, and capital expenditures.
The Company experienced significant net losses in fiscal 2019 and fiscal 2018, which also have negatively impacted the Company's ability to generate liquidity. Management believes the Company can generate adequate liquidity to meet its obligations for the foreseeable future and has taken definitive actions to improve operations, reduce costs and improve profitability and liquidity, and position the Company for future growth. In addition, management has successfully negotiated amendments and waivers to the Senior Credit Agreement with the Company's current senior lenders on six occasions to date as management works to improve the Company's operations and refinancing and restructuring its current debt and equity capitalization. However, there can be no assurance that the Company will not fall into non-compliance with its loan covenants in the future or that its Lenders will continue to provide waivers or amendments to the Company in the event of future non-compliance with debt covenants or other possible events of default that could happen. There also can be no assurance that the Company will be successful in its efforts to refinance and restructure the Company's debt and equity capitalization under reasonable terms or at all, or that it will generate adequate liquidity to fund operations and meet its debt service obligations in the future.
Subordinated Debt - Convertible and Non-Convertible
On
On
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On
On
On
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Series B Convertible Preferred Stock
On
None of the shares of Series B Preferred Stock issued to the SNIH Stockholders are registered under the Securities Act. Each of the SNIH Stockholders who received shares of Series B Preferred Stock is an accredited investor. The issuance of the shares of Series B Preferred Stock to such SNIH Stockholders is exempt from the registration requirements of the Act in reliance on an exemption from registration provided by Section 4(2) of the Act.
During fiscal 2019, the Company issued 250,000 shares of common stock for the conversion of approximately 250,000 shares of Series B Convertible Preferred Stock.
Series C Convertible Preferred Stock
On
During fiscal 2019, the Company issued approximately 60,400 shares of Series C
Preferred Stock to Investors related to interest of
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Off-Balance Sheet Arrangements
As of
Critical Accounting Policies and Estimates
The consolidated financial statements are prepared in conformity with accounting
principles generally accepted in
Management makes estimates and assumptions that can affect the amounts of assets and liabilities reported as of the date of the consolidated financial statements, as well as the amounts of reported revenues and expenses during the periods presented. Those estimates and assumptions typically involve expectations about events to occur subsequent to the balance sheet date, and it is possible that actual results could ultimately differ from the estimates. If differences were to occur in a subsequent period, the Company would recognize those differences when they became known.
Significant accounting and disclosure matters requiring the use of estimates and assumptions include, but may not be limited to, accounting for acquisitions, determining fair values of financial assets and liabilities, accounting for asset impairments, revenue recognition, accounts receivable allowances, deferred income tax valuation allowances, and accounting for derivative liabilities and beneficial conversion features. Management believes that its estimates and assumptions are reasonable, based on information that is available at the time they are made.
The following accounting policies are considered by management to be "critical" because of the judgments and uncertainties involved, and because different amounts would be reported under different conditions or using different assumptions.
Revenue Recognition
Revenues from contracts with customers are generated through the following services: direct hire placement services, temporary professional services staffing, and temporary light industrial staffing. Revenues are recognized when promised services are performed for customers, and in an amount that reflects the consideration the Company expects to be entitled to in exchange for those services. Our revenues are recorded net of variable consideration such as sales adjustments or allowances.
Direct hire placement service revenues from contracts with customers are recognized when employment candidates accept offers of employment, less a provision for estimated credits or refunds to customers as the result of applicants not remaining employed for the entirety of the Company's guarantee period (referred to as "falloffs"). The company's guarantee periods for permanently placed employees generally range from 60 to 90 days from the date of hire. Fees associated with candidate placement are generally calculated as a percentage of the new employee's annual compensation. No fees for permanent placement services are charged to employment candidates.
Temporary staffing service revenues from contracts with customers are recognized in amounts for which the Company has a right to invoice, as the services are rendered by the Company's temporary employees. The Company records temporary staffing revenue on a gross basis as a principal versus on a net basis as an agent in the presentation of revenues and expenses. The Company has concluded that gross reporting is appropriate because the Company controls the specified service before that service is performed for a customer. The Company has the risk of identifying and hiring qualified employees, has the discretion to select the employees and establish their price, and bears the risk for services that are not fully paid for by customers.
Falloffs and refunds during the period are reflected in the consolidated statements of operations as a reduction of placement service revenues. Expected future falloffs and refunds are reflected in the consolidated balance sheet as a reduction of accounts receivable.
See Note 13 for disaggregated revenues by segment.
Payment terms in our contracts vary by the type and location of our customer and the services offered. The terms between invoicing and when payments are due are not significant.
26 Table of Contents Accounts Receivable
The Company extends credit to its various customers based on evaluation of the customer's financial condition and ability to pay the Company in accordance with the payment terms. An allowance for placement fall-offs is recorded, as a reduction of revenues, for estimated losses due to applicants not remaining employed for the Company's guarantee period. An allowance for doubtful accounts is recorded, as a charge to bad debt expense, where collection is considered to be doubtful due to credit issues. These allowances together reflect management's estimate of the potential losses inherent in the accounts receivable balances, based on historical loss statistics and known factors impacting its customers. The nature of the contract service business, where companies are dependent on employees for the production cycle allows for a small accounts receivable allowance.
Fair Value Measurement
The Company follows the provisions of
The standard establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company's assumptions about the assumptions market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is described below:
Level 1: Quoted prices (unadjusted) in active markets that are accessible at the measurement date for assets or liabilities. The fair value hierarchy gives the highest priority to Level 1 inputs.
Level 2: Observable prices that are based on inputs not quoted on active markets, but corroborated by market data.
Level 3: Unobservable inputs are used when little or no market data is available. The fair value hierarchy gives the lowest priority to Level 3 inputs.
Income Taxes
We account for income taxes under the asset and liability method, which requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements. Under this method, we determine deferred tax assets and liabilities on the basis of the differences between the financial statement and tax bases of assets and liabilities by using enacted tax rates in effect for the year in which the differences are expected to reverse. The effect of a change in tax rates on deferred tax assets and liabilities is recognized in income in the period that includes the enactment date.
We recognize deferred tax assets to the extent that we believe that these assets are more likely than not to be realized. In making such a determination, we consider all available positive and negative evidence, including future reversals of existing taxable temporary differences, projected future taxable income, tax-planning strategies, and results of recent operations. If we determine that we would be able to realize our deferred tax assets in the future in excess of their net recorded amount, we would make an adjustment to the deferred tax asset valuation allowance, which would reduce the provision for income taxes.
We record uncertain tax positions in accordance with ASC 740 on the basis of a two-step process in which (1) we determine whether it is more likely than not that the tax positions will be sustained on the basis of the technical merits of the position and (2) for those tax positions that meet the more-likely-than-not recognition threshold, we recognize the largest amount of tax benefit that is more than 50 percent likely to be realized upon ultimate settlement with the related tax authority.
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We recognize and group interest and penalties, if any, with income tax expense
in the accompanying consolidated statement of operations. As of
Goodwill
Due to a sustained decline in the market capitalization of our common stock
during the third quarter of 2019, we performed an interim goodwill impairment
test in accordance with the provisions of ASU 2017-04. The outcome of this
goodwill impairment test resulted in a non-cash charge for the impairment of
goodwill of
Intangible Assets
Customer lists, non-compete agreements, customer relationships, management agreements and trade names were recorded at their estimated fair value at the date of acquisition and are amortized over their estimated useful lives ranging from two to ten years using both accelerated and straight-line methods.
Impairment of Long-lived Assets
The Company recognizes an impairment of long-lived assets used in operations, other than goodwill, when events or circumstances indicate that the asset might be impaired and the estimated undiscounted cash flows to be generated by those assets over their remaining lives are less than the carrying amount of those items. The net carrying value of assets not recoverable is reduced to fair value, which is typically calculated using the discounted cash flow method. The Company did not recognize and record any impairments of long-lived assets used in operations in fiscal 2019 and 2018, other than goodwill in fiscal 2019.
Beneficial Conversion Feature
The Company evaluates embedded conversion features within a convertible instrument under ASC 815 Derivatives and Hedging to determine whether the embedded conversion feature(s) should be bifurcated from the host instrument and accounted for as a derivative at fair value with changes in fair value recorded in earnings. If the conversion feature does not require treatment under ASC 815, the instrument is evaluated under ASC 470-20 Debt with Conversion and Other Options for consideration of any beneficial feature.
The Company records a beneficial conversion feature ("BCF") when the convertible instrument is issued with conversion features at fixed or adjustable rates that are below market value when issued. The BCF for convertible instruments is recognized and measured by allocating a portion of the proceeds equal to the intrinsic value of that feature to additional paid-in capital. The intrinsic value is generally calculated at the commitment date as the difference between the conversion price and the fair value of the common stock or other securities into which the security is convertible, multiplied by the number of shares into which the security is convertible. If certain other securities are issued with the convertible security, the proceeds are allocated among the different components. The portion of the proceeds allocated to the convertible security is divided by the contractual number of the conversion shares to determine the effective conversion price, which is used to measure the BCF. The effective conversion price is used to compute the intrinsic value. The value of the BCF is limited to the basis that is initially allocated to the convertible security.
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The BCF for the convertible instrument is recorded as a reduction, or discount, to the carrying amount of the convertible instrument equal to the fair value of the conversion feature. The discount is then amortized as interest or deemed dividends over the period from the date of the convertible instrument's issuance to the earliest redemption date, provided that the convertible instrument is not currently redeemable but probable of becoming redeemable in the future.
Stock-Based Compensation
The Company accounts for stock-based awards to employees in accordance with FASB ASC 718, "Compensation-Stock Compensation", which requires compensation expense related to share-based transactions, including employee stock options, to be measured and recognized in the financial statements based on a determination of the fair value of the stock options. The grant date fair value is determined using the Black-Scholes-Merton ("Black-Scholes") pricing model. For all employee stock options, we recognize expense on an accelerated basis over the employee's requisite service period (generally the vesting period of the equity grant). The Company's option pricing model requires the input of highly subjective assumptions, including the expected stock price volatility, expected term, and forfeiture rate. Any changes in these highly subjective assumptions significantly impact stock-based compensation expense.
Options awarded to purchase shares of common stock issued to non-employees in exchange for services are accounted for as variable awards in accordance with FASB ASC 718, "Compensation-Stock Compensation". Such options are valued using the Black-Scholes option pricing model.
Segment Data
The Company provides the following distinctive services: (a) direct hire placement services, (b) temporary professional services staffing in the fields of information technology, engineering, medical, and accounting, and (c) temporary light industrial staffing. These distinct services can be divided into two reportable segments, industrial staffing services and professional staffing services. Selling, general and administrative expenses are not completely separately allocated among light industrial services and professional staffing services.
Operating results are regularly reviewed by the chief operating decision maker to make decisions about resources to be allocated to the segment and to assess its performance. Other factors, including type of business, type of employee, length of employment and revenue recognition are considered in determining these operating segments.
Recent Accounting Pronouncements.
For a discussion of recent accounting pronouncements and their potential effect on our results of operations and financial condition, refer to Note 3 in the Notes to the Consolidated Financial Statements of this Annual Report on Form 10-K.
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