Special Note Regarding Forward-Looking Statements
This Quarterly Report on Form 10-Q and other documents incorporated herein by
reference include, and our officers and other representatives may sometimes make
or provide certain estimates and other forward-looking statements within the
meaning of the safe harbor provisions of the U.S. Private Securities Litigation
Reform Act of 1995, Section 27A of the Securities Act, and Section 21E of the
Exchange Act, including, among others, statements with respect to future
revenue, franchise sales, system-wide sales (a non-GAAP financial measure), and
the growth thereof; the impact of any global pandemic including the novel
coronavirus disease ("COVID-19"); operating results; anticipated benefits of the
merger with Command Center, Inc., or the conversion to the franchise model;
intended office openings or closings; expectations of the effect on our
financial condition of claims and litigation; strategies for customer retention
and growth; strategies for risk management; and all other statements that are
not purely historical and that may constitute statements of future expectations.
Forward-looking statements can be identified by words such as: "anticipate,"
"intend," "plan," "goal," "seek," "believe," "project," "estimate," "expect,"
"strategy," "future," "likely," "may," "should," "will," and similar references
to future periods.
While we believe these statements are accurate, forward-looking statements are
not historical facts and are inherently uncertain. They are based only on our
current beliefs, expectations, and assumptions regarding the future of our
business, future plans and strategies, projections, anticipated events and
trends, the economy, and other future conditions. We cannot assure you that
these expectations will occur, and our actual results may be significantly
different. Therefore, you should not place undue reliance on these
forward-looking statements. Important factors that may cause actual results to
differ materially from those contemplated in any forward-looking statements made
by us include the following: the level of demand and financial performance of
the temporary staffing industry; the financial performance of our franchisees;
the impacts of COVID-19 or other diseases or pandemics; changes in customer
demand; the extent to which we are successful in gaining new long-term
relationships with customers or retaining existing ones, and the level of
service failures that could lead customers to use competitors' services;
significant investigative or legal proceedings including, without limitation,
those brought about by the existing regulatory environment or changes in the
regulations governing the temporary staffing industry and those arising from the
action or inaction of our franchisees and temporary employees; strategic
actions, including acquisitions and dispositions and our success in integrating
acquired businesses including, without limitation, successful integration
following the merger with Command Center, Inc.; disruptions to our technology
network including computer systems and software; natural events such as severe
weather, fires, floods, and earthquakes, or man-made or other disruptions of our
operating systems; the factors discussed in the "Risk Factors" section herein
and in our most recent Annual Report on Form 10-K which we filed with the SEC on
March 30, 2020; and the other factors discussed in this Quarterly Report and our
Annual Report.
Any forward-looking statement made by us in this Quarterly Report on Form 10-Q
is based only on information currently available to us and speaks only as of the
date on which it is made. The Company disclaims any obligation to update or
revise any forward-looking statement, whether written or oral, that may be made
from time to time, based on the occurrence of future events, the receipt of new
information, or otherwise, except as required by law.
Overview
We are a nationwide franchisor of on-demand labor solutions providers in the
light industrial and blue-collar segments of the staffing industry. We were
formed through the merger between Hire Quest Holdings, LLC ("Hire Quest
Holdings") and Command Center, Inc. We refer to Hire Quest Holdings and its
wholly owned subsidiary, Hire Quest, LLC, collectively as Legacy HQ. We refer to
this merger, which closed on July 15, 2019 as the Merger. As of June 30, 2020,
we had 136 franchisee-owned offices in 30 states and the District of Columbia.
We provide employment for an estimated 80,000 individuals annually working for
thousands of clients in many industries including construction, recycling,
warehousing, logistics, auctioneering, manufacturing, disaster cleanup,
janitorial, special events, hospitality, landscaping, and retail.
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COVID-19
The coronavirus pandemic has significantly impacted our operations. With
widespread infection in the United States and abroad, national, state, and local
authorities recommended social distancing and took dramatic action, including
ordering the workforce to stay home, banning all non-essential businesses from
operating, refusing to issue new building permits, and invalidating current
building permits causing work to stop at many of our jobsites. These measures,
while intended to protect human life, have had, and are expected to continue to
have, serious adverse impacts on our business and the economy as a whole. While
several states have begun the reopening process, it is unclear when, or if, a
full economic recovery will occur. The long-term effectiveness of economic
stabilization efforts, including government payments to affected citizens and
industries, is also uncertain.
We entered 2020 with a strong balance sheet. Our assets exceeded liabilities by
more than $28 million. In the first six months of 2020, we significantly
improved our liquidity position, primarily by converting accounts receivable
into cash. Current assets improved from $46.9 million on December 31, 2019 to
$48.2 million on June 30, 2020. We have remained profitable throughout the first
six months of 2020. Still, the sweeping and persistent nature of the COVID-19
pandemic depressed our system-wide sales and resulting revenue. While we did not
see major impacts on system-wide sales and resulting revenue until the final few
weeks of the first quarter, these depressed sales have continued through our
second quarter. On a month-to-month basis, our system-wide sales have
consistently increased since April, however, they were lower than system-wide
sales in the second quarter of 2019, and we expect negative impacts on
system-wide sales and resulting revenue in the third quarter, and likely beyond.
It remains unclear how long we will stay at this comparatively reduced level of
sales, and the evolving nature of the pandemic makes reliable predictions
extremely difficult.
To date, our franchisees have closed or consolidated 13 offices at least, in
part, due to the financial impacts of COVID-19. Of these closures, 11 were in
metropolitan areas where our franchisees still maintain at least one office that
we expect can service customers of the closed or consolidated offices. The other
two offices did not historically produce significant amounts of system-wide
sales or resulting revenue. It is possible that other offices may still be
forced to close. Some of our franchisees may experience economic hardship or
even failure. In general, those franchisees whose businesses are oriented
towards construction, manufacturing, logistics, or waste services have been less
impacted to date than those whose businesses are more focused on hospitality,
catering, special events, or auto auction services.
In response to depressed economic conditions, we took measures to control and
reduce selling, general, and administrative expense ("SG&A"). In addition, we
placed a reserve of $1.6 million on the promissory notes we hold from our
franchisees and the purchaser of our previously owned California offices.
As discussed more fully below, our already strong liquidity position has
improved since December 31, 2019 because of decreased funding requirements for
temporary employees and the decrease in our accounts receivable balance as
amounts are collected and converted to cash. We increased our cash balance
approximately $9.5 million in the first half of 2020 from $4.2 million at year
end to $13.7 million. When combined with our borrowing capacity under our line
of credit and lack of debt, we expect that we have sufficient liquidity to
continue our operations for the foreseeable future, even under the current
circumstances presented by COVID-19. That said, the impact of the COVID-19
crisis on availability of capital or credit is difficult to predict and may be
significant.
Any of the above factors, or other cascading effects of the COVID-19 pandemic
that are not currently foreseeable, could materially negatively impact our
revenue, net income, and other results of operations, reduce system-wide sales,
cause office closings or cause us to lose franchisees, and impact our liquidity
position, possibly significantly. The duration of any such impacts cannot be
predicted at this time.
Results of Operations
Financial Summary
The following table displays our consolidated statements of operations for the
interim periods ended June 30, 2020 and June 30, 2019 (in thousands, except
percentages). Sales and expenses at company-owned offices are reflected on the
line item, "Income from discontinued operations, net of tax."
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Three months ended Six months ended
June 30, 2020 June 30, 2019 June 30, 2020 June 30, 2019
Franchise royalties $2,639 91.0% $2,981 92.1% $6,345 90.4% $6,138 91.5%
Service revenue 262 9.0% 257 7.9% 676 9.6% 573 8.5%
Total revenue 2,901 100.0% 3,239 100.0% 7,021 100.0% 6,711 100.0%
Selling, general and
administrative expenses 1,931 66.6% 871 26.9% 5,184 73.8% 2,424 36.1%
Depreciation and
amortization 32 1.1% 21 0.7% 64 0.9% 35 0.5%
Income from operations 938 32.3% 2,346 72.4% 1,772 25.2% 4,252 63.4%
Other miscellaneous income 289 10.0% 218 6.7% 540 7.7% 247 3.7%
Interest and other financing
expense
(18) -0.6% (230) -7.1% (29) -0.4% (415) -6.2%
Net income before income
taxes 1,208 41.7% 2,334 72.1% 2,283 32.5% 4,083 60.8%
Provision for income taxes 51 1.8% 48 1.5% 251 3.6% 100 1.5%
Income from continuing
operations 1,157 39.9% 2,286 70.6% 2,032 28.9% 3,983 59.4%
Income from discontinued
operations, net of tax - 0.0% 20 0.6% - 0.0% 40 0.6%
Net income $1,157 39.9% $2,306 71.2% $2,032 28.9% $4,024 60.0%
Three Months Ended June 30, 2020
Franchise Royalties
We charge our franchisees a royalty fee on gross billings to customers based on
one of two models: the HireQuest Direct model or the HireQuest model. Under the
HireQuest Direct model, the royalty fee charged ranges from 6% to 8% of gross
billings. Royalty fees are charged at 8% for the first $1,000,000 of annual
billing, with the royalty fee dropping ½ of 1% for every additional $1,000,000
of annual billing thereafter until the royalty fee is 6%. The smaller royalty
fee is charged only on the incremental billing, resulting in an actual royalty
fee at a blended rate between 6% and 8%. Under this model, we grant our
franchisees credits for low margin business. Under the HireQuest model, the
royalty fee is 4.5% of the temporary payroll we fund plus 18% of the gross
margin for the territory.
Franchise royalties for the three months ended June 30, 2020 were approximately
$2.6 million, a decrease of 11.5% from $3.0 million for the quarter ended June
30, 2019. Approximately $570,000 of royalties in the second quarter are
attributable to the offices acquired through the Merger. Royalty revenue
throughout the entire second quarter of 2020 was negatively impacted by
decreased economic activity related to COVID-19, though system-wide sales, and
resulting franchise royalties, have been slowly increasing since the beginning
of April.
Service Revenue
Service revenue consists of interest we charge our franchisees on overdue
customer accounts receivable and other miscellaneous fees for optional services
we provide. As accounts receivable age over 42 days, our franchisees pay us
interest on these accounts equal to 0.5% of the amount of the uncollected
receivable each 14-day period. Accounts that age over 84 days are charged back
to the franchisee and are no longer charged interest.
Service revenue for the three months ended June 30, 2020 was approximately
$262,000, essentially equal to approximately $257,000 for the three months ended
June 30, 2019.
Selling, General, and Administrative Expenses
SG&A expenses for the three months ended June 30, 2020 were approximately $1.9
million, an increase of 121.6% from $871,000 for the three months ended June 30,
2019. Approximately $293,000 of this increase was related to increased costs
associated with being a public company and includes stock-based compensation. As
COVID-19 continues to have a negative impact on our franchises' performance, we
increased the reserve on our notes receivable by approximately $151,000. We also
had increased computer related service and consulting costs of approximately
$116,000. Finally, there was a negative difference of approximately $495,000
related to charges associated with changes in workers' compensation estimates
and RMIP accruals that in 2019.
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Miscellaneous Income
Miscellaneous income for the three months ended June 30, 2020 was approximately
$289,000, an increase of 32.2% from $218,000 for the three months ended June 30,
2019. In 2020, miscellaneous income was comprised primarily of interest income
on notes receivable, while in 2019 it was related to gains on the sale of
property. The increase during the three months ended June 30, 2020 is directly
correlated to the increase in our notes receivable.
Six Months Ended June 30, 2020
Franchise Royalties
Franchise royalties for the six months ended June 30, 2020 were approximately
$6.3 million, an increase of 3.4% from $6.1 million for the six months ended
June 30, 2019. Included in this increase are approximately $1.4 million of
royalties attributable to the offices acquired through the Merger. Royalty
revenue in the last few weeks of March 2020 began to be negatively impacted by
decreased activity related to COVID-19. This negative impact continued
throughout the second quarter and into the third quarter. We expect decreased
royalty revenue for the remainder of 2020, and perhaps beyond, relative to
historical levels.
Service Revenue
Service revenue for the six months ended June 30, 2020 was approximately
$676,000, an increase of 18.0% from approximately $573,000 for the six months
ended June 30, 2019. This increase is related to the increase in franchised
offices due to the Merger.
Selling, General, and Administrative Expenses
SG&A exxpenses for the six months ended June 30, 2020 were approximately $5.2
million, an increase of 113.9% from $2.4 million for the six months ended June
30, 2019. The majority of this increase is due to a $1.6 million reserve placed
on notes receivable we issued to finance the sale of offices acquired in the
Merger. This reserve is directly related to the negative impact COVID-19 has had
on the economy, the financial condition of our borrowers, and the value of the
underlying collateral. We also had an increase in costs related to being a
public company of approximately $650,000, which includes stock-based
compensation, an increase in computer related service and consulting costs of
approximately $238,000, an increase in compensation costs of approximately
$144,000, and an increase in legal and professional fees of $106,000. These
increased costs were offset by a decrease in workers' compensation costs of
approximately $206,000. In the last few weeks of the first quarter, and again
during the beginning of the second quarter, we cut payroll costs at our
corporate headquarters due to decreased volume resulting from COVID-19 to
partially offset decreases in revenue.
Miscellaneous Income
Miscellaneous income for the six months ended June 30, 2020 was approximately
$540,000, an increase of 118.6% from $247,000 for the six months ended June 30,
2019. In 2020, miscellaneous income was comprised primarily of interest income
on notes receivable, while in 2019 approximately $190,000 of this amount was
related to gains on the sale of property. The increase during the six months
ended June 30, 2020 is directly correlated to the increase in our notes
receivable.
Liquidity and Capital Resources
Our major source of liquidity and capital is cash generated from our ongoing
operations. We also receive principal and interest payments on notes receivable,
most of which were issued in connection with the sale of offices acquired in the
Merger. In addition, we have the capacity to borrow under our line of credit
with Truist.
On June 30, 2020, our current assets exceeded our current liabilities by
approximately $28.2 million. Our current assets included approximately $13.7
million of cash and $19.6 million of accounts receivable, which our franchisees
have billed to customers and which we own in accordance with our franchise
agreements. Our largest current liabilities include approximately $2.9 million
related to our workers' compensation claims liability, $2.7 million due to our
franchisees on upcoming settlement statements, and $2.0 million accrued in
relation to our risk management incentive program.
Our working capital requirements are driven largely by temporary employee
payroll and accounts receivable from customers. Since receipts lag employee pay
- which is typically daily or weekly - our working capital requirements increase
as system-wide sales increase, and vice-versa. When the economy contracts, our
cash balance tends to increase in the short-term as payroll funding requirements
decrease and accounts receivable are converted to cash upon collection. We
witnessed this in the first half of 2020 as COVID-19 decreased our temporary
payroll requirements and our cash balance rose from $4.2 million at the end of
2019 to $13.7 million at the end of the second quarter.
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We believe that our current cash balance, together with the future cash
generated from operations, principal and interest payments on notes receivable,
and our borrowing capacity under our line of credit with Truist, will provide
adequate resources to meet our working capital needs and cash requirements for
at least the next 12 months. Our access to, and the availability of, financing
on acceptable terms in the future will be affected by many factors including
overall liquidity in the capital or credit markets, the state of the economy and
our credit strength as viewed by potential lenders. We cannot provide assurances
that we will have future access to the capital or credit markets on acceptable
terms. The impact of the COVID-19 crisis on availability of capital or credit is
difficult to predict and may be significant.
Operating Activities
Net cash provided by operating activities from continuing operations for the six
months ended June 30, 2020 was approximately $9.5 million. Operating activity
for the six months included net income of approximately $2.0 million, a decrease
in accounts receivable of approximately $8.6 million, and an increase in our
allowance for losses on notes receivable of approximately $1.6 million. These
provisions were offset by an increase in prepaid workers' compensation of
approximately $1.1 million, a decrease in deferred taxes of approximately $1.1
million, and an increase in prepaid expenses, deposits, and other assets of
approximately $909,000. Net cash provided by operating activities from
continuing operations for the six months ended June 30, 2019 was approximately
$5.5 million. Operating activity for the six months ended June 30, 2019 included
net income from continuing operations of approximately $4.0 million and an
increase of approximately $1.4 million due our franchisees. These provisions
were offset by a decrease in prepaid workers' compensation of approximately
$758,000.
Investing Activities
Net cash used by investing activities for the six months ended June 30, 2020 was
approximately $145,000. Investing activity for the six months included
approximately $976,000 related to the ongoing construction a new building
adjacent to our corporate headquarters and cash issued for notes receivable of
approximately $182,000. These uses were offset by net payments received on notes
receivable of approximately $1.0 million. Net cash provided by investing
activities for the six months ended June 30, 2019 was approximately $983,000 and
was primarily due to an increase in franchisee deposits of $705,000 and proceeds
from the sale of property of approximately $564,000. These provisions were
offset by the purchase of property and equipment of approximately $261,000.
Financing Activities
Net cash provided by financing activities for the six months ended June 30, 2020
was approximately $38,000 and was due to an increase in amounts due from
affiliates. Net cash used by financing activities for the six months ended June
30, 2019 was approximately $3.8 million and was due to payments to affiliates of
approximately $2.0 million and distributions to Legacy HQ members of
approximately $1.8 million.
Non-GAAP Financial Measure: System-Wide Sales
We refer to total sales generated by our franchisees as "franchise sales." We
refer to sales at company-owned and operated offices as "company-owned sales."
Company-owned sales are reflected net of costs, expenses, and taxes associated
with those sales on our financial statements as "Income from discontinued
operations, net of tax." We refer to the sum of franchise sales and
company-owned sales as "system-wide sales." In other words, system-wide sales
include sales at all offices, whether owned and operated by us or by our
franchisees. System-wide sales is a non-GAAP financial measure. While we do not
record system-wide sales as revenue, management believes that information on
system-wide sales is important to understanding our financial performance
because those sales are the basis on which we calculate and record franchise
royalty revenue, are directly related to interest charged on overdue accounts,
which we record under service revenue, and are indicative of the financial
health of our franchisee base. System-wide sales are not intended to represent
revenue as defined by U.S. GAAP, and such information should not be considered
as an alternative to revenue or any other measure of performance prescribed by
U.S. GAAP.
During the first half of 2020, all of our offices were franchised. As such,
system-wide sales for the three and six months ended June 30, 2020 were all
derived from franchised offices. The following table reflects our system-wide
sales broken into its components for the periods indicated:
Three months ended Six Months ended
June 30, June 30, June 30, June 30,
2020 2019 2020 2019
Franchise sales $44,073,695 $51,758,168 $100,536,300 $99,142,642
Company-owned sales -
202,579 - 382,326
System-wide sales $44,073,695 $51,960,747 $100,536,300 $99,524,968
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System-wide sales were $44.1 million for the second quarter of 2020, down $7.9
million or 15.2% compared to the second quarter of 2019. The decrease in
system-wide sales is a direct result of COVID-19.
System-wide sales were $100.1 million during the first half of 2020, up $1.0
million or 1.0% compared to the first half of 2019. This increase in system-wide
sales is related to the offices added in the Merger, but is almost entirely
offset by the negative impacts of COVID-19. In the closing weeks of the first
quarter of 2020, we experienced a substantial decline in week-over-week
system-wide sales. This depressed level of system-wide sales compared to
historical averages continued through the second quarter and into the third
quarter. The week-over-week system-wide sales stabilized at a decreased level in
the second quarter and began to slowly recover; however, we expect system-wide
sales to be lower than historical averages in the third quarter, and perhaps
beyond.
Number of Offices
We examine the number of offices we open and close every period. The number of
offices is directly tied to the amount of royalty and service revenue we earn.
Our franchisees opened one office in the second quarter and did not close or
consolidate any.
The following table accounts for the number of offices opened and closed or
consolidated in the first half of 2020.
Franchised Offices, December 31, 2019 147
Closed in 2020 (13)
Opened in 2020 2
Franchised Offices, June 30, 2020 136
Office closures and consolidations in the first quarter of 2020 were largely
related to the economic impacts of COVID-19. These closures were mostly in
metropolitan areas still serviced by other offices, accordingly we do not expect
such closures and consolidations in-and-of themselves to have a material impact
on our system-wide sales, revenue, or other results of operations. It is
difficult to predict whether the impacts of COVID-19 will cause more closures.
Off-Balance Sheet Arrangements
We do not engage in any off-balance sheet financing arrangements.
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