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| WSTF > SEC Filings for WSTF > Form 10-Q on 16-Mar-2009 | All Recent SEC Filings |
16-Mar-2009
Quarterly Report
The following discussion is intended to assist in the understanding and assessment of significant changes and trends related to the results of operations and financial condition of Westaff, Inc., together with its consolidated subsidiaries. This discussion and analysis should be read in conjunction with the condensed consolidated financial statements and notes thereto included elsewhere in this Quarterly Report on Form 10-Q and the audited consolidated financial statements and notes thereto included in the 2008 Form 10-K.
References in this Quarterly Report on Form 10-Q to the "Company," "Westaff," "we," "our," and "us" refer to Westaff, Inc., its predecessor and their respective subsidiaries, unless the context otherwise requires.
Cautionary Statement Regarding Forward-Looking Statements
This Quarterly Report on Form 10-Q contains forward-looking statements within the "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995. Except for statements that are purely historical, all statements included in this Quarterly Report on Form 10-Q are forward-looking statements, and readers are cautioned not to place undue reliance on those statements. You can also identify these statements by the fact that they do not relate strictly to current facts and use words such as "will," "anticipate," "estimate," "expect," "project," "intend," "plan," "believe," "target," "forecast," and other words and terms of similar meaning in connection with any discussion of future operating or financial performance. The forward-looking statements include, without limitation our ability to achieve better people and process efficiencies as a result of changes to our operational structure, our ability to enhance the profitability of our accounts through hiring industry-proven placement consultants, and our ability to reduce selling and administrative costs. These statements are only predictions, and actual events or results may differ materially. The forward-looking statements provide our current expectations or forecasts of future events. These forward-looking statements are made based on information available as of the date of this report and are subject to a number of risks and uncertainties that could cause the Company's actual results and financial position to differ materially from those expressed or implied in forward-looking statements and to be below the expectations of public market analysts and investors. Investors should bear this in mind as they consider forward-looking statements.
These risks and uncertainties include, but are not limited to, those discussed in Part II, Item 1A, "Risk Factors" and elsewhere in this Quarterly Report on Form 10-Q. You should understand that it is not possible to predict or identify all such factors. Consequently, you should not consider any such list to be a complete set of all potential risks or uncertainties faced by us.
The Company undertakes no obligation to publicly release the results of any revisions to these forward-looking statements to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events, except as required by applicable laws and regulations.
Company Overview
We provide staffing services primarily in suburban and rural markets ("secondary markets"), as well as in the downtown areas of certain major urban centers ("primary markets") in the United States ("US") through our network of Company-owned and franchise agent offices. On March 31, 2008, the Company sold its former United Kingdom operations and related subsidiary. On November 10, 2008, the Company sold its former Australia and New Zealand subsidiaries as described in Note 4 to the condensed consolidated financial statements included elsewhere in this Quarterly Report on Form 10-Q.
We offer a wide range of staffing solutions, including permanent placement, replacement, supplemental and on-site temporary programs to businesses and government agencies. Our primary focus is on recruiting and placing clerical/administrative and light industrial personnel. We have 60 years of experience in the staffing industry and currently operate through a network of 152 offices in 41 states. 60% of these offices are Company-owned and operated and 40% are operated by franchise agents. Our corporate headquarters provides support services to the field offices, in areas such as marketing, human resources, risk management, legal, strategic sales, accounting, and information technology.
To complement our service offerings, which include temporary staffing, permanent placement, temp-to-hire services, payroll services and on-location programs, we utilize a number of tools focused on increasing our pool of qualified candidates. Additionally, we employ a robust, targeted marketing program as well as a consultative sales process, and both of these tools assist in our sales efforts to new and existing customers. Management believes all of these tools enhance our competitive edge and position us to effectively pursue high growth market niches.
The staffing industry is highly competitive with generally few barriers to entry, which contributes to significant price competition as competitors attempt to maintain or gain market share. On a prospective basis, we believe our focus on increasing clerical and administrative sales, improving results from underperforming field offices and prudently managing costs will permit us to improve our operating margins.
Our business tends to be seasonal, with sales for the first fiscal quarter typically lower than other fiscal quarters. This decrease results from the traditional holidays that are included within the first fiscal quarter, as well as other customer closures for the holiday season. These closures and post-holiday season declines in business activity negatively impact orders received from customers, particularly in the light industrial sector. Demand for staffing services historically tends to grow during the second and third fiscal quarters and has historically been greatest during the fourth fiscal quarter due largely to customers' planning and business cycles. The recent economic downturn in the fiscal year 2008 and the first quarter of fiscal year 2009 has negatively impacted this expected historical growth, reducing demand for temporary employees and adversely affecting our sales. We anticipate that we may continue to experience weaker demand for temporary employees through the remainder of fiscal year 2009.
Payroll taxes and related benefits fluctuate with the level of payroll costs, but tend to represent a smaller percentage of revenue and payroll costs later in our fiscal year as federal and state statutory wage limits for unemployment are exceeded on a per employee basis. Workers' compensation expense generally varies with both the frequency and severity of workplace injury claims reported during a quarter. Adverse and positive loss development of prior period claims during a subsequent quarter may also contribute to the volatility in our estimated workers' compensation expense.
Critical Accounting Policies
The preparation of financial statements in conformity with generally accepted accounting principles in the United States of America requires management to make certain estimates and assumptions affecting the amounts and disclosures reported within those financial statements. These estimates are evaluated on an ongoing basis by management and generally affect revenue recognition, workers' compensation costs, collectability of accounts receivable, impairment of goodwill and intangible assets, contingencies, litigation and income taxes. Management's estimates and assumptions are based on historical experiences and other factors believed to be reasonable under the circumstances. Actual results under circumstances and conditions different than those assumed could result in differences from the estimated amounts in the financial statements.
Our critical accounting policies are described in the notes to the audited consolidated financial statements included in the 2008 Form 10-K. During the first quarter of fiscal year 2008, we adopted the provisions of FIN 48 effective November 4, 2007. Please see Note 3 to the condensed consolidated financial statements included elsewhere in this Quarterly Report on Form 10-Q. There were no changes to these policies during the 12-week period ended January 24, 2009.
Executive Overview
Our gross revenues for the 12-week period ended January 24, 2009 were $51.5 million, which represents a decline of $29.5 million, or 36.4%, from the same period last year. The decline in revenues was primarily due to the economic downturn that began in early fiscal year 2008 and the loss of two large customers which together made up 9.2% of revenues for the first quarter of the fiscal year 2008.
Our net loss for the first quarter of fiscal year 2009 was $4.3 million compared with a net loss of $1.9 million for the same period last year. The loss for the first fiscal quarter of 2009 includes the gain on the sale of the Company's former Australia and New Zealand subsidiaries of $1.7 million and a loss of $0.4 million for the discontinued operations for the same period. Additionally, the loss includes $0.3 million of personnel expense related to a reduction in workforce and legal fees related to the potential merger of $0.2 million both which occurred in the first quarter of fiscal year 2009.
We have made changes in our operational structure in an effort to achieve better people and process efficiencies. We are committed to improving the profitability of our organization and increasing our market share. We have had success in reducing our selling and administrative costs in total, including, among other things, reducing our headcount by approximately 66 positions in the first quarter of fiscal year 2009, and we are evaluating and implementing additional opportunities for savings. Further, we have divested our international subsidiaries in order to concentrate on our core domestic business.
Merger Agreement
On January 28, 2009, we entered into the Merger Agreement with Koosharem and Merger Sub, pursuant to which Merger Sub will be merged with and into the Company, with the Company continuing after the merger as the surviving corporation and a wholly-owned subsidiary of Koosharem, in accordance with and subject to the terms and conditions set forth in the Merger Agreement. For additional information regarding the Merger Agreement and the proposed Merger, please refer to the definitive proxy statement that the Company filed with the SEC on February 23, 2009 and mailed to the Company's stockholders in connection with the planned special meeting of stockholders to be held on March 17, 2009 and at which the Company's stockholders will be asked to consider and vote upon a proposal to adopt the Merger Agreement and the transactions contemplated thereby.
Going Concern Considerations
The Company has incurred operating losses since the second quarter of fiscal year 2007, offset by slight operating income in the fourth quarter of fiscal year 2007. The Company may incur additional losses in the future, particularly because of the current significant economic downturn and recession.
The Company's operations, even if they perform in accordance with management's expectations, may not generate sufficient cash flow or accounts receivables to finance the Company's operations at current levels, collateralize workers' compensation liabilities, or permit the Company to expand its business. As a result, the Company expects to continue to rely on operational cash flow to fund operations because alternative sources of capital may be unavailable.
As discussed in Note 8 to the consolidated financial statements included elsewhere in this Quarterly Report on Form 10-Q, we are currently in default under certain covenants of the Financing Agreement, which provides for our primary credit facility, and we have entered into a Third Amended and Restated Forbearance Agreement, subject to the terms and conditions of which, among other things: (1) U.S. Bank and Wells Fargo agreed to forbear from exercising their default rights and remedies under the Financing Agreement during a forbearance period ending on April 7, 2009, (2) certain outstanding letters of credit expiring on February 28, 2009 (including the outstanding letter of credit in favor of Travelers) previously issued by U.S. Bank under the Financing Agreement were extended to April 7, 2009 and (3) the Company's ability to borrow under the Financing Agreement (other than forced loans due to draws upon the outstanding letters of credit) was terminated. Because the Company no longer has any right to borrow under the Financing Agreement (other than forced loans due to draws upon the outstanding letters of credit), if the Company's available cash is insufficient to satisfy the Company's liquidity requirements and the Company is unable to find alternative sources of capital, the Company may be unable to continue its operations as a going concern. Under these circumstances, unless the proposed Merger with Koosharem is completed, the Company may be required to seek alternative transactions and/or consider filing for bankruptcy protection. There can be no assurance that any alternative sources of capital and/or alternative transactions would be available to us on acceptable terms or at all in the current challenging economic environment. While we were able to obtain a forbearance under the Third Amended and Restated Forbearance Agreement, there can be no assurances that we will be able to continue to satisfy the conditions required for the forbearance or that waivers or additional forbearances can be obtained by us on acceptable terms in the future. If we are unable to obtain waivers or additional forbearances from U.S. Bank and Wells Fargo on acceptable terms in the future, U.S. Bank and Wells Fargo would be able to elect at any time to pursue further remedies available to them under the Financing Agreement, including (1) electing not to renew or extend letters of credit issued under the Financing Agreement or (2) under specified conditions and at certain times, limiting our ability to use our cash to pay ordinary course expenses and possibly disrupting our business operations. In addition, while we were able to obtain an extension of the letters of credit under the Third Amended and Restated Forbearance Agreement, there can be no assurances that the Company will be able to continue to satisfy the conditions required for the extension and thereby obtain sufficient workers' compensation coverage to support our operations. Our workers' compensation carrier has the right to draw on the letter of credit supporting our workers' compensation insurance prior to its expiration. If our workers' compensation carrier draws on this letter of credit, U.S. Bank may require us to fund the draw in cash which would force us to borrow under the Financing Agreement. If no waiver or forbearance is then currently effective and U.S. Bank and Wells Fargo elect to pursue remedies under the Financing Agreement, such as calling the loan, there can be no assurance that we would be able to find alternative sources of capital to repay the loan, in which case we may be unable to continue our operations as a going concern.
In response to the continued default, the Company secured a $3.0 million subordinated loan facility during the fourth quarter of fiscal year 2008. As of January 24, 2009, loans in an aggregate principal amount of $2.7 million, including a $0.2 million facility fee, were outstanding under this facility, the proceeds of which were used by the Company for working capital and general business purposes. On January 29, 2009, the Company was advanced an additional loan in an aggregate principal amount of $500,000 from DelStaff. No additional borrowings are available to the Company under this facility. See Note 18.
The Company has extended its workers' compensation insurance through April 1, 2009 which required $1.0 million in cash collateral as of November 1, 2008 and $0.3 million paid by February 28, 2009. The collateral is included in other current assets. In addition, the letter of credit for the workers' compensation insurance expired on February 28, 2009. However on February 18, 2009, the Company entered into a Third Amended and Restated Forbearance Agreement which extended the letter of credit to April 7, 2009. There can be no assurance that the Company will be able to renew or extend its current workers' compensation policy or negotiate a new policy with a new carrier on terms acceptable to the Company.
Among other things, the Company has responded to these issues by selling its foreign operations in Australia and New Zealand, reducing operating costs, and reducing its headcount by approximately 60 positions in the corporate and field offices during fiscal year 2008 and 66 positions in the first quarter of fiscal year 2009. This was accomplished by a combination of attrition and a planned reduction in force. Total severance amounts related to headcount reductions recorded in the first quarter of fiscal year 2009 were $0.3 million and are included as part of selling and administrative expenses. The Company continues to look for and act on additional cost savings measures within the organization while it is exploring alternative financing arrangements and strategic partnering alternatives. See Note 18.
The audit report contained in the 2008 Form 10-K included an explanatory paragraph from the Company's independent registered public accounting firm expressing substantial doubt about the Company's ability to continue as a going concern due to the fact that the Company has suffered recurring losses, is out of compliance with its bank covenants and may be unable to obtain an extension of its workers' compensation policy.
Results of Operations - Fiscal Quarter ended January 24, 2009 and Fiscal Quarter ended January 26, 2008
Revenue
Gross revenue from continuing operations declined by $29.5 million or 36.4% to $51.5 million for the 12 weeks ended January 24, 2009 as compared to the same period in the prior year.
Revenue from franchise operations declined from $32.2 million or 42.4% to $18.5 million driven largely by a 45.6% decrease in billed hours due to the economic downturn. Revenue from company-owned operations declined from $48.7 million or 32.0% to $33.1 million driven largely by a 34.8% decrease in billed hours due to the economic downturn. Total billings for the top 20 customers in the 12 weeks ended January 24, 2009 declined by $8.7 million or 40.2% to $12.9 million compared to the same period for fiscal year 2008.
The decrease was offset slightly by an increase in our average bill rate. Our average bill rate on a per hour basis for temporary services increased 4.9% in the first quarter of fiscal year 2009 compared with the first quarter of fiscal year 2008.
However, revenue from permanent placement and transition fees declined by 56.3% or $0.4 million to $0.3 million for the 12 weeks ended January 24, 2009 as compared to the same period in the prior year.
Costs of services and gross margin
Costs of services include hourly wages of temporary employees, employer payroll taxes, state unemployment and workers' compensation costs and other temporary employee-related costs. Costs of services from continuing operations decreased $23.7 million or 35.6% to $42.8 million for the 12 weeks ended January 24, 2009 as compared to the same period in the prior year.
The major component in our costs of services is the pay rate of our temporary workers. Our average pay rate on a per hour basis for temporary workers increased 2.5% in the first quarter of fiscal year 2009 compared with the first quarter of fiscal year 2008. Additionally the Company adjusted its workers' compensation reserves with a charge of $0.6 million in the first quarter of fiscal year 2009. The workers' compensation insurance as a percentage of direct labor was 7.3% in the current fiscal quarter compared to 5.5% in the first quarter of fiscal year 2008.
The gross margin percentage declined from 17.9% in the prior fiscal year to 17.0% for the 12 weeks ended January 24, 2009. The pay-bill spread on temporary services in the first quarter has increased 10.8% in the 12 weeks ended January 24, 2009 over the same period in the prior year. The change in the pay-bill spread is a result of the continued focus of our sales efforts on opportunities yielding a higher gross margin. The increase in the average pay-bill rate was offset by an increase in the average pay rate and the charge to workers' compensation to adjust the Company's reserves in the first quarter of fiscal year 2009. Additionally, the significant reduction in permanent placement and transition fees negatively effected gross margin.
Franchise agents' share of gross profit
Franchise agents' share of gross profit represents the net distribution paid to franchise agents based either on a percentage of the sales or gross profit generated by the franchise agents' operations. Franchise agents' share of gross profit decreased $1.2 million or 35.2% to $2.2 million. The decrease is a direct result of the 42.4% decrease in franchise operations revenue and the 37.9% decrease in gross margin for the first quarter of fiscal year 2009 compared to same period in the prior fiscal year. As a percentage of consolidated revenue, franchise agents' share of gross profit increased slightly to 4.3% for the first quarter of fiscal year 2009 quarter, from 4.2% for the first quarter of fiscal year 2008.
Selling and administrative expenses
Selling and administrative expenses decreased $1.7 million or 13.8% to $10.4 million for the 12 weeks ended January 24, 2009 as compared to the same period in the prior year. This decrease is primarily attributable to decreased salary and related costs of $1.4 million as a result of the Company's reductions in headcount in 2008 and the recent reduction in workforce in the first quarter of fiscal 2009, offset by severance and other non-recurring personnel costs related to the reduction in work force that incurred during the first quarter of fiscal year 2009.
We achieved cost savings in the areas of advertising and promotion, travel, and professional fees totaling $0.6 million as we consciously looked at opportunities to reduce spending in light of the significant decline in gross revenue. In addition, we incurred lower communications and services costs of $0.2 million, largely due to improvements made in our information systems infrastructure.
Offsetting these savings, the Company expensed legal fees related to the potential merger of $0.2 million in the first quarter of fiscal year 2009.
As a percentage of revenue, selling and administrative expenses were 20.3% for the 12 weeks ended January 24, 2009, compared to 14.9% for same period in the prior year. The increase as a percent of sales is primarily due to the decreased level of sales as total selling and administrative costs declined at a slower rate for the 12 weeks ended January 24, 2009 as compared to the same period in the prior year. In addition, there are certain fixed costs that do not correspond to fluctuations in revenue such as rent, utilities, and taxes and licenses. We have also experienced a slight increase in bad debt expense due to the downturn of the economy.
Restructuring
We recorded charges in the third and fourth quarter of fiscal year 2007 related to reduction in force and closure of several branch offices. In connection with the closures we recorded an expense in the third and fourth quarter of fiscal 2007 for severance payments and an estimate for lease termination costs calculated for the remainder of the lease term reduced by an estimate for sublease income. During the first quarter of fiscal year 2009, we adjusted the accrual for the recalculation of the rent due on one office. As of January 24, 2009, the Company is responsible for lease payments on six locations totaling $0.3 million. The restructuring accrual, representing rent payments under non-cancellable leases with lease terms that extend through fiscal year 2012 has been reduced by the current estimated future sublease income under contractual agreements.
Depreciation and amortization
Depreciation and amortization remained consistent at $1.1 million for the first quarter of fiscal year 2009, as compared to the first quarter of fiscal year 2008. The Company has decreased its capital expenditures during fiscal year 2008 and the first quarter of fiscal year 2009.
Net interest expense
Net interest expense for the 12 week period ended January 24, 2009 remained consistent at $0.6 million compared to the same period for the prior fiscal year. Lower interest rates during the first quarter were offset by an increase in average borrowings.
Income taxes
For the 12-weeks ended January 24, 2009, we recorded an income tax provision of nil on a pre-tax loss from continuing operations of $5.7 million. The decrease from the prior year provision of $0.5 million is primarily the result of the establishment of a full valuation allowance against deferred tax assets relating to current period losses.
Net loss
The result of the aforementioned items plus the gain on the sale of the Australia and New Zealand subsidiaries of $1.7 million and the net loss from discontinued operations of $0.4 million, was a total net loss of $4.3 million, or $0.26 per share, for the 12-week period ended January 24, 2009, as compared with a net loss of $1.9 million, or $0.11 per share for the same period in fiscal year 2008.
Liquidity and Capital Resources
We require significant amounts of working capital to operate our business and to pay expenses relating to employment of temporary employees. Our traditional use of cash is for financing of accounts receivable, particularly during periods of economic upswings and growth when sales are seasonally high. In periods of economic contraction or recession, the Company builds cash collected from accounts receivable and uses this cash to fund operations as necessary. Temporary personnel are typically paid on a weekly basis while payments from customers are generally received 30 to 60 days after billing.
We finance our operations primarily through cash generated by our operating activities. Net cash provided by operations was $2.9 million for the first quarter of 2009, compared to cash used of $3.4 million for the first quarter of fiscal year 2008, an increase of $6.3 million. Changes in accounts receivable due to decreased sales and increased cash collections was the largest significant source of cash providing $12.3 million during the first quarter of fiscal year 2009 as compared to $4.0 million for the first quarter of fiscal year 2008. Cash provided by accounts receivable was offset by cash used to pay accounts payable and accrued expenses of $4.2 million during the first quarter of fiscal year 2009. The company used $5.5 million of cash for accounts payable and accrued expenses in the first quarter of the prior year. For the first quarter of fiscal year 2009, the net loss of $4.3 million includes $1.1 million in non-cash depreciation and amortization, compared with a net loss of $1.9 million and $1.4 million in non-cash depreciation and amortization for the same period of fiscal year 2008. Additionally, included in the Company's net loss for the first quarter of fiscal year 2009, is a recorded gain, net of tax, . . .
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