UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended February 28, 2003
OR
[ ] 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 001-15503
WORKSTREAM INC.
- --------------------------------------------------------------------------------
(Exact name of Registrant as specified in its charter)
Canada N/A
- ---------------------------------- --------------------------------
(State or Other Jurisdiction of (IRS Employer Identification No.)
Incorporation or Organization)
495 March Road, Suite 300, Ottawa, Ontario K2K 3G1
- ------------------------------------------- -------
(Address of Principal Executive Offices) (Zip Code)
(613) 270-0619
- --------------------------------------------------------------------------------
(Registrant's Telephone Number, Including Area Code)
- --------------------------------------------------------------------------------
(Former Name, Former Address and Former Fiscal Year,
if Changed Since Last Report)
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 [X] No [ ]
As of April 7, 2003, there were 19,684,904 common shares, without par
value, outstanding.
* Excluding 654,204 common shares held in escrow under acquisition agreements.
WORKSTREAM INC.
TABLE OF CONTENTS
Page No.
-------
Part I. Financial Information
Item 1. Unaudited Financial Statements
Unaudited Consolidated Balance Sheets as of
February 28, 2003 and May 31, 2002.............................................2
Unaudited Consolidated Statements of Operations for
each of the Three and Nine Months Ended
February 28, 2003 and 2002.....................................................3
Unaudited Consolidated Statements of Comprehensive Loss
for each of the Three and Nine Months Ended
February 28, 2003 and 2002.....................................................4
Unaudited Consolidated Statements of Cash Flows
for the Nine Months Ended February 28, 2003 and 2002...........................5
Notes to Unaudited Consolidated Financial Statements...............................6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations.............................................18
Item 3. Quantitative and Qualitative Disclosures About Market Risk.........................24
Item 4. Controls and Procedures .........................................................25
Part II. Other Information
Item 2. Changes in Securities and Use of Proceeds..........................................25
Item 6. Exhibits and Reports on Form 8-K ..................................................25
Signatures .....................................................................................................26
Certifications .................................................................................................27
1
PART I - FINANCIAL INFORMATION
ITEM 1. UNAUDITED FINANCIAL STATEMENTS
WORKSTREAM INC.
CONSOLIDATED BALANCE SHEETS
(UNITED STATES DOLLARS)
FEBRUARY 28, 2003
(UNAUDITED) MAY 31, 2002
------------- --------------
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 393,476 $ 1,297,656
Restricted cash 1,325,960 1,957,090
Short-term investments 52,622 345,206
Accounts receivable, net of allowance for doubtful accounts of
$280,755 (May 31, 2002 - $165,870) 1,505,785 1,314,958
Prepaid expenses 194,193 144,400
Deferred tax asset 135,000 135,000
Other assets 304,021 91,188
------------- --------------
3,911,057 5,285,498
CAPITAL ASSETS 1,418,709 1,557,303
DEFERRED TAX ASSET 694,148 694,148
OTHER ASSETS 166,136 146,605
ACQUIRED INTANGIBLE ASSETS 10,403,271 2,853,871
GOODWILL 19,871,813 12,738,172
------------- --------------
$ 36,465,134 $ 23,275,597
============= ==============
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable $ 2,263,465 $ 1,136,662
Accrued liabilities 1,284,023 839,078
Accrued exit costs 298,762 -
Line of credit 547,948 1,364,723
Accrued compensation 1,387,652 900,360
Current portion of long-term obligations 26,951 26,175
Current portion of related party obligations 172,852 1,116,943
Deferred income tax liability - 490,862
Current portion of capital lease obligations 116,484 48,411
Deferred revenue 1,588,112 1,038,886
------------- --------------
7,686,249 6,962,100
DEFERRED INCOME TAX LIABILITY 4,157,435 650,686
CAPITAL LEASE OBLIGATIONS 83,307 119,939
LEASEHOLD INDUCEMENTS 135,434 143,866
CONVERTIBLE NOTES 329,406 131,597
LONG-TERM OBLIGATIONS 85,346 102,521
RELATED PARTY OBLIGATIONS 1,643,961 408,070
------------- --------------
14,121,138 8,518,779
------------- --------------
COMMITMENTS AND CONTINGENCIES
SHAREHOLDERS' EQUITY
CAPITAL STOCK
Issued and outstanding - 19,684,904 common shares
(May 31, 2002 - 14,851,905) 47,046,583 33,135,734
Additional paid-in capital 4,641,516 4,792,887
Accumulated other comprehensive loss (895,917) (885,961)
Accumulated deficit (28,448,186) (22,285,842)
------------- --------------
22,343,996 14,756,818
------------- --------------
$ 36,465,134 $ 23,275,597
============= ==============
The accompanying notes are an integral part of these unaudited financial
statements.
2
WORKSTREAM INC.
UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNITED STATES DOLLARS)
THREE THREE NINE NINE
MONTHS MONTHS MONTHS MONTHS
ENDED ENDED ENDED ENDED
FEBRUARY FEBRUARY FEBRUARY FEBRUARY
28, 2003 28, 2002 28, 2003 28, 2002
-------------- ------------ -------------- -------------
REVENUE $4,142,244 $4,332,903 $13,763,386 $10,574,025
COST OF REVENUES 688,953 795,664 2,586,675 2,225,608
-------------- ------------ -------------- -------------
GROSS PROFIT 3,453,291 3,537,239 11,176,711 8,348,417
-------------- ------------ -------------- -------------
EXPENSES
Selling and marketing 1,156,644 1,838,230 4,860,608 4,719,953
General and administrative 2,229,713 2,007,577 7,292,871 4,593,156
Research and development 249,979 87,241 970,557 622,150
Amortization and depreciation 1,735,166 696,339 4,733,651 1,400,095
-------------- ------------ -------------- -------------
5,371,502 4,629,387 17,857,687 11,335,354
-------------- ------------ -------------- -------------
OPERATING LOSS (1,918,211) (1,092,148) (6,680,976) (2,986,937)
-------------- ------------ -------------- -------------
OTHER INCOME AND EXPENSES
Interest and other income 1,814 11,068 38,340 112,055
Interest and other expense (464,587) (19,912) (806,830) (86,665)
-------------- ------------ -------------- -------------
(462,773) (8,844) (768,490) 25,390
-------------- ------------ -------------- -------------
LOSS BEFORE INCOME TAXES (2,380,984) (1,100,992) (7,449,466) (2,961,547)
Recovery of deferred income taxes 491,488 3,252 1,287,120 179,880
-------------- ------------ -------------- -------------
NET LOSS FOR THE PERIOD $(1,889,496) $(1,097,740) $(6,162,346) $(2,781,667)
============== ============ ============== =============
WEIGHTED AVERAGE NUMBER
OF COMMON SHARES
OUTSTANDING DURING THE
PERIOD 19,174,247 14,178,438 18,241,912 12,263,281
============== ============ ============== =============
BASIC AND DILUTED NET LOSS
PER COMMON SHARE $ (0.10) $ (0.08) $ (0.34) $ (0.23)
============== ============ ============== =============
The accompanying notes are an integral part of these unaudited financial
statements.
3
WORKSTREAM INC.
UNAUDITED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
(UNITED STATES DOLLARS)
THREE THREE NINE NINE
MONTHS MONTHS MONTHS MONTHS
ENDED ENDED ENDED ENDED
FEBRUARY 28, FEBRUARY 28, FEBRUARY 28, FEBRUARY 28,
2003 2002 2003 2002
-------------------------------------------------------
Net loss for the period $(1,889,496) $(1,097,740) $(6,162,346) $(2,781,667)
Other comprehensive income:
Cumulative translation
adjustment (net of
tax of $nil) (4,165) (13,927) (9,956) (191,425)
-------------------------------------------------------
Comprehensive loss
for the period $(1,893,661) $(1,111,667) $(6,172,302) $(2,973,092)
=======================================================
The accompanying notes are an integral part of these unaudited financial
statements.
4
WORKSTREAM INC.
UNAUDITED CONSOLIDATED STATEMENT OF CASH FLOWS
(UNITED STATES DOLLARS)
NINE MONTHS NINE MONTHS
ENDED ENDED
FEBRUARY 28, FEBRUARY 28,
2003 2002
----------- -----------
CASH USED IN OPERATING ACTIVITIES
Net loss for the period $(6,162,346) $(2,781,667)
Items not involving cash:
Amortization and depreciation 4,721,563 1,375,633
Shares issued to service providers -- 26,040
Non-cash interest on convertible notes and notes payable 538,141 --
Recovery of deferred income taxes (1,274,733) (234,414)
Non-cash compensation expense -- 216,125
Write-off of deferred charges -- 17,993
Gain on sale of capital asset (8,545) --
Net change in operating components of working capital (450,662) 668,066
----------- -----------
(2,636,582) (712,224)
----------- -----------
CASH FROM INVESTING ACTIVITIES
Proceeds from sale of capital assets 14,950 --
Acquisition of capital assets (43,707) (73,221)
Cash acquired in (paid for) business acquisitions
(2002 net of acquired cash of $569,566) 1,914,884 (1,824,272)
Acquisition of intangible assets -- (68,810)
Decrease in restricted cash 671,366 --
Sale of short-term investments 222,359 2,170,422
----------- -----------
2,779,852 204,119
----------- -----------
CASH FROM (USED IN) FINANCING ACTIVITIES
Proceeds from exercise of options 53,534 19,269
Costs related to issuance of convertible debt (112,401) --
Repayment of line of credit and note payable (1,272,423) (1,568,268)
Shareholder loan proceeds 500,000 750,000
Shareholder loan repayments (339,100) (411,476)
Capital lease payments (284,474) (50,051)
Proceeds from bank financing 392,002 2,587,361
----------- -----------
(1,062,862) 1,326,835
----------- -----------
EFFECT OF EXCHANGE RATE CHANGES 15,412 (102,402)
----------- -----------
INCREASE (DECREASE) IN CASH AND CASH
EQUIVALENTS FOR THE PERIOD (904,180) 716,328
CASH AND CASH EQUIVALENTS,
BEGINNING OF THE PERIOD 1,297,656 65,483
----------- -----------
CASH AND CASH EQUIVALENTS,
END OF THE PERIOD $ 393,476 $ 781,811
=========== ===========
The accompanying notes are an integral part of these unaudited financial
statements
5
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Note 1: NATURE OF OPERATIONS
Workstream Inc. ("Workstream" or the "Company"), formerly known as
E-Cruiter.com, is a provider of Web-enabled tools and professional services for
human capital management (HCM). The Company offers a diversified suite of
high-tech and high-touch services aimed at addressing the full life cycle of the
employer-employee relationship. Workstream's HCM technology backbone enables
companies to streamline the management of enterprise human processes, including
recruitment, assessment, retention, deployment and career transitions.
Note 2: BASIS OF PRESENTATION
The consolidated interim unaudited financial statements included herein
have been prepared by Workstream, without audit, in accordance with United
States generally accepted accounting principles. The consolidated financial
statements include the accounts of the Company and its wholly owned
subsidiaries. The earnings of the subsidiaries are included from the date of
acquisition. At February 28, 2003, the Company's subsidiaries are Paula Allen
Holdings, Inc. ("PAH"), OMNIpartners, Inc. ("OMNI"), RezLogic, Inc.
("RezLogic"), 6FigureJobs.com, Inc. ("6Figures"), Icarian Inc. ("Icarian") and
Xylo, Inc. ("Xylo").
These unaudited financial statements should be read in conjunction with the
Company's most recent annual financial statements for the year ended May 31,
2002. These interim unaudited financial statements are prepared following
accounting policies consistent with the Company's financial statements for the
year ended May 31, 2002. In management's opinion, all adjustments necessary for
a fair presentation are reflected in the interim periods presented. All
adjustments are of a normal, recurring nature.
Note 3: ACQUISITION TRANSACTIONS
Acquisition of Icarian Inc.
On June 28, 2002, the Company acquired 100% of the outstanding stock of
Icarian Inc., a California based company. As consideration for the purchase, the
Company issued to the shareholders of Icarian 2,800,000 common shares valued at
approximately $9.9 million. Icarian is a provider of HCM Web-enabled solutions
and professional services.
Management has prepared a valuation of the net tangible and intangible
assets acquired. The excess of the purchase price over the value of the net
tangible and identifiable intangible assets acquired has been allocated to
goodwill. The acquired current liabilities included $1,373,123 for exit costs
associated with employee severance pay and elimination of office space. In March
2003, the Company and Icarian entered into an agreement with the landlord of
certain property being leased by Icarian to terminate the lease between Icarian
and the landlord. The landlord agreed to terminate the lease and release Icarian
from its financial obligations under the lease in exchange for certain furniture
and equipment previously used at the property, cash in an amount equal to
$290,000, of which $220,000 is payable in the form of a promissory note, and
275,000 common shares of Workstream. The costs associated with the termination
of this lease were applied against the accrual for exit costs.
The goodwill resulting from the transaction has been allocated to the
Recruiting Services business segment.
6
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
The purchase price has been allocated as follows:
Share consideration . . . . . . . . . . . . . . . . $9,908,640
Cash consideration . . . . . . . . . . . . . . . . . 10,000
Acquisition costs . . . . . . . . . . . . . . . . . 232,559
------------
10,151,199
------------
Current assets . . . . . . . . . . . . . . . . . . . 2,281,512
Tangible long-term assets . . . . . . . . . . . . . 1,187,907
Current liabilities . . . . . . . . . . . . . . . . (3,934,229)
Long-term liabilities assumed . . . . . . . . . . . 121,682
Intangible assets:
Acquired technology . . . . . . . . . . . . 7,670,000
Customer base. . . . . . . . . . . . . . . . . 723,337
Deferred income tax liability . . . . . . . . (3,357,300)
------------
Total net identifiable assets . . . . . . . . . . . 4,692,909
------------
Goodwill . . . . . . . . . . . . . . . . . . . . . . $ 5,458,290
============
Acquisition of PureCarbon, Inc.
On July 1, 2002, the Company acquired certain assets and liabilities of
PureCarbon, Inc., a California based company ("PureCarbon"). As consideration
for the purchase, the Company issued to the shareholders of PureCarbon 263,158
common shares, valued at approximately $1,000,000. PureCarbon is the provider of
Internet software (JobPlanet) designed to integrate with behind-the-scenes human
resources and recruiting technology. As additional contingent consideration, the
Company will issue to PureCarbon shareholders the number of shares equal to
$500,000 divided by the closing price of the Company's common shares on or prior
to August 15, 2003 should certain revenue targets for the twelve month period
ending June 30, 2003 be realized. The issuance of any additional common shares
will result in additional goodwill being recorded.
Management prepared a valuation of the net tangible and intangible
assets acquired. The excess of the purchase price over the value of the net
tangible and identifiable intangible assets acquired has been allocated to
goodwill.
The goodwill resulting from the transaction has been allocated to the
Recruiting Services business segment.
The purchase price has been allocated as follows:
Share consideration ........................ $ 1,000,000
Acquisition costs .......................... 38,000
-------------
1,038,000
-------------
Current assets ............................. 152,627
Tangible long-term assets .................. 144,819
Current liabilities assumed ................ (148,000)
Intangible assets:
Acquired technology ................. 667,000
Customer base ....................... 344,000
Trademarks, domain names ............ 8,350
Deferred income tax liability ....... (408,807)
-------------
Total net identifiable assets .............. 759,989
-------------
Goodwill ................................... $ 278,011
=============
7
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Acquisition of Xylo, Inc.
On September 13, 2002, the Company acquired 100% of the outstanding
stock of Xylo, Inc., a Washington based company. As consideration for the
purchase, the Company issued to the shareholders of Xylo 702,469 common shares
valued at approximately $1.7 million. Xylo is a provider of Web-based Employee
Retention Management (ERM) solutions. Pursuant to the merger agreement with
Xylo, an additional 330,579 common shares may be released from escrow subject to
achievement of certain revenue targets for the twelve month period ending
September 30, 2003. The issuance of any additional common shares will result in
additional goodwill being recorded.
Management has prepared a valuation of the net tangible and intangible
assets acquired. The excess of the purchase price over the value of the net
tangible and identifiable intangible assets acquired has been allocated to
goodwill.
The goodwill resulting from the transaction has been allocated to the Recruiting
Services business segment.
The purchase price has been allocated as follows:
Share consideration....................................... $ 1,700,000
Acquisition costs......................................... 150,000
--------------
1,850,000
--------------
Current assets............................................ 352,691
Tangible long-term assets................................. 447,572
Current liabilities ...................................... (384,371)
Intangible assets:
Acquired technology................................... 1,125,000
Customer base ....................................... 186,282
Deferred income tax liability ....................... (524,513)
--------------
Total net identifiable assets............................ 1,202,661
--------------
Goodwill.................................................. $ 647,339
==============
Contingent consideration relating to prior acquisitions
As at February 28, 2003 a total of 654,204 common shares were held in
escrow relating to prior acquisitions as further described below. This total
includes 323,625 common shares relating to 6Figures which management believes
will not be issued and excludes an estimated number of 458,716 common shares
relating to PureCarbon.
In March 2003, the Board of Directors of the Company approved the
release of the final 500,000 shares from escrow related to the purchase of PAH
following the achievement of certain targets at December 31, 2002. As a result,
capital stock increased by $750,000 representing the value of 500,000 shares at
$1.50 per share and goodwill also increased by $750,000 in the period ended
February 28, 2003 recognizing the achievement of these targets. The escrow
shares were distributed to the former owners of PAH, which included Michael
Mullarkey, the Company's Chief Executive Officer, who owned a majority of the
outstanding shares of PAH. Mr. Mullarkey's portion of the total escrow shares
distributed is 437,500 shares.
Pursuant to the purchase agreement for OMNI, an additional 500,000
common shares were held in escrow pending the achievement of certain revenue
targets for the twelve months ended June 30, 2002. Management has evaluated
revenue results and has determined that the targets were not achieved.
Therefore, the 500,000 common shares held in escrow were cancelled in September
2002.
8
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Pursuant to the purchase agreement for RezLogic, an additional 297,021
common shares were held in escrow pending the achievement of certain revenue and
profit targets for the twelve months ending June 30, 2002. Management has
evaluated results achieved and has determined that the targets were not met.
Therefore, the 297,021 common shares held in escrow were cancelled in November
2002.
Pursuant to the purchase agreement for 6Figures, an additional 323,625
common shares may be released from escrow and issued to the former shareholders
of 6Figures provided that certain revenue and profit targets for the twelve
month period ending September 30, 2002 are achieved. The Company has determined
that the revenue and profit targets were not achieved. However, the
representative of the former shareholders of 6Figures has requested an audit to
review the Company's calculations used in determining that the revenue and
profit targets were not achieved. Management believes that the targets were not
met and that the shares currently held in escrow will be cancelled once the
audit is completed.
Pursuant to the purchase agreement for Xylo, an additional 330,579
common shares may be released from escrow subject to achievement of certain
revenue targets for the twelve month period ending September 30, 2003. The
issuance of any additional common shares will result in additional goodwill
being recorded.
Pursuant to the purchase agreement for PureCarbon, the Company may
issue additional shares equal to $500,000 divided by the closing price of the
Company's common shares on or prior to August 15, 2003 should certain revenue
targets for the twelve month period ended June 30, 2003 be realized. As at
February 28, 2003, based on a market price per common share of $1.09, 458,716
common shares are contingently issuable.
UNAUDITED PRO FORMA FINANCIAL INFORMATION
The following unaudited pro forma financial information gives effect to
the acquisitions made by Workstream as if the transactions occurred at the
beginning of each of the nine month periods ended February 28, 2003 and February
28, 2002.
Nine Months Ended Nine Months Ended
February 28, 2003 February 28, 2002
-----------------------------------------
Revenues $ 14,770,135 $ 21,409,712
Cost of revenues 2,771,945 6,843,029
-----------------------------------------
Gross profit 11,998,190 14,566,683
Expenses 20,178,096 40,341,100
-----------------------------------------
Operating loss (8,179,906) (25,774,417)
Interest and other income and expense (757,219) (831,630)
Recovery of deferred income taxes 1,435,378 1,362,104
-----------------------------------------
$ (7,501,747) $ (25,243,943)
=========================================
Weighted average number of common shares 19,207,172 19,183,127
=========================================
Pro forma loss per share $ (0.39) $ (1.32)
=========================================
9
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Note 4: CAPITAL ASSETS
February 28, 2003 May 31, 2002
-------------------------------------------------
Furniture, equipment and leaseholds $ 1,325,663 $ 1,441,436
Office equipment 229,320 222,518
Computers and software 3,295,404 2,254,455
-------------------------------------------------
4,850,387 3,918,409
Less: accumulated amortization (3,431,678) (2,361,106)
-------------------------------------------------
$ 1,418,709 $ 1,557,303
=================================================
Note 5: ACQUIRED INTANGIBLE ASSETS
February 28, 2003 May 31, 2002
------------------------------ ------------------------------
Customer base $ 3,741,619 $ 2,488,000
Acquired technologies 10,281,632 819,632
Trademarks, domain names and intellectual
property 457,760 449,410
Other - 2,260
------------------------------ ------------------------------
Total cost 14,481,011 3,759,302
------------------------------ ------------------------------
Accumulated amortization:
Customer base (1,504,669) (619,611)
Acquired technologies (2,433,025) (212,039)
Trademarks, domain names and intellectual (140,046) (71,521)
Property
Other - (2,260)
------------------------------ ------------------------------
Total accumulated amortization (4,077,740) (905,431)
------------------------------ ------------------------------
Net acquired intangible assets $ 10,403,271 $ 2,853,871
============================== ==============================
Note 6: LINES OF CREDIT, RESTRICTED CASH AND SHORT-TERM INVESTMENTS
At February 28, 2003, the Company had $547,948 outstanding on a line of
credit from Bank of Montreal. Certain assets of the Company, including
short-term investments, property and receivables, are pledged as collateral for
this facility.
February 28, 2003 May 31, 2002
------------------------- -------------------------
Line of credit - Suntrust $ - $ 992,892
Line of credit - Bank of Montreal 547,948 221,831
Line of credit - Harris Bank - 150,000
------------------------- -------------------------
Total line of credit $ 547,948 $ 1,364,723
========================= =========================
10
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Certain of the Company's short-term investments were provided as
collateral for the SunTrust line of credit. That line of credit bore interest at
the rate of return on these short-term investments of 1.39% plus 1.5%. During
the period, the line of credit had an effective interest rate of 2.89%. The
Company was permitted to draw up to $1,000,000 against this facility. In
December 2002, the Company paid down the line of credit to $nil with restricted
cash that had been used as collateral for the credit line and subsequently
cancelled the facility.
The operating line of credit with Harris Bank was authorized for up to
$150,000. The interest rate on this line of credit was subject to change from
time to time based on changes in the lender's prime rate. The line of credit was
paid down to $nil in June 2002 and was subsequently cancelled.
The Company has a line of credit with the Bank of Montreal at an
effective interest rate of 5.5%. The Company is permitted to draw up to
$1,000,000 (Canadian dollars) against this facility based on compensating
balances on deposit with the bank. The Company has drawn CDN $813,156 as of
February 28, 2003. The Company has provided collateral of CDN $830,000, leaving
CDN $16,844 available to be drawn on this line.
At February 28, 2003 and May 31, 2002, a total of $1,325,960 and
$1,957,090, respectively, of cash and short-term deposits were pledged as
collateral for these facilities and the Company's leases and are therefore
restricted from the Company's use. The breakdown of such amounts is as follows:
February 28, 2003 May 31, 2002
--------------------------------------------------
SunTrust Bank - line of credit $ - $ 992,892
SunTrust Bank - credit card department 13,891 37,086
Bank of America - credit card reserve 399,883 399,883
Bank of Montreal - Term loan, line of credit and
letter of credit for facility lease 912,186 527,229
--------------------------------------------------
$ 1,325,960 $ 1,957,090
==================================================
Note 7: RELATED PARTY OBLIGATIONS
February 28, 2003 May 31, 2002
----------------------------------------------------
Notes payable $ 33,838 $ 115,437
Shareholder loans 1,782,975 1,409,576
----------------------------------------------------
1,816,813 1,525,013
Less: current portion 172,852 1,116,943
----------------------------------------------------
$ 1,643,961 $ 408,070
====================================================
During the third quarter of fiscal year 2003, the Company restructured the loans
made by Michael Mullarkey, the Company's Chief Executive Officer, to the Company
along with the interest accrued thereon into a five year term loan. The
restructured loan at February 28, 2003 is $1,287,901 and bears interest at 8%
per annum. The Company is required to make monthly interest only payments during
the first 24 months and monthly interest and principal payments thereafter. In
addition, Mr. Mullarkey has agreed to provide the Company with a $1,200,000
credit facility containing terms that are comparable to the consolidated term
loan. The Company will be allowed to draw against this credit facility as
needed. Mr. Mullarkey has also agreed to defer a total of $700,000 in
11
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
compensation earned as of December 31, 2002 until December 2003. At that time
Mr. Mullarkey and the Company will mutually agree on a definitive plan regarding
repayment of his deferred compensation.
Note 8: CAPITAL LEASE OBLIGATIONS
February 28, 2003 May 31, 2002
------------------------- ---------------------
Capital leases $ 199,791 $ 168,350
Less: current portion 116,484 48,411
------------------------- ---------------------
$ 83,307 $ 119,939
========================= =====================
Capital lease obligations relate to office equipment, computers and
software, and bear interest at rates that range from 7.5% to 15% per annum.
These leases mature at various times through October 2005.
Note 9: CONVERTIBLE NOTES
February 28, 2003 May 31,2002
--------------------------------
Convertible notes, face value at issue date $ 2,900,000 $ 2,900,000
Less: Amount allocated to detachable warrants (1,038,380) (1,038,380)
Amount allocated to beneficial conversion
Feature (1,763,387) (1,763,387)
--------------------------------
Discounted value of convertible notes 98,233 98,233
Note conversion (200,000) -
Amortization of discount 431,173 33,364
--------------------------------
Convertible notes $ 329,406 $ 131,597
================================
During April and May of 2002, the Company issued 8% Senior Subordinated
Convertible Notes (the "Convertible Notes") with detachable warrants as further
described below. The total gross proceeds received upon issuance of the
convertible notes totaling $2,900,000 was allocated between the convertible debt
and warrants based on their relative fair values. The fair value of the
detachable warrants was calculated using the Black Scholes pricing model.
Additionally, the Convertible Notes have a non-detachable conversion feature
where the fair value of the underlying equity securities exceeds the conversion
price of the debt ("beneficial conversion feature"). The value ascribed to the
beneficial conversion feature is recorded as paid-in capital. The total discount
on the Convertible Notes relating to both the detachable warrants and the
beneficial conversion feature is recognized as interest expense using the
effective yield method over the two year term to maturity of the Convertible
Notes.
The detachable warrants entitle the Convertible Note holders to
purchase 658,000 common shares at an exercise price of $3.70 per share, subject
to adjustment upon the occurrence of certain events. The Convertible Notes are
convertible into a class of preferred shares designated Series A Convertible
12
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Preferred Shares. At the election of the holder, the Convertible Notes may be
converted directly into our common shares, provided that a registration
statement registering such common shares has been declared effective by the
Securities and Exchange Commission prior to such conversion, at a conversion
price equal to a 20% discount of the average closing price of our common shares
for the five day period before such conversion. On November 27, 2002, the
Company filed a registration statement with the Securities and Exchange
Commission seeking to register for resale the common shares of certain
shareholders, including the common shares issuable upon conversion of the
Convertible Notes and exercise of the warrants issued by the Company in April
and May of 2002. On January 17, 2003, the Securities and Exchange Commission
declared the registration statement registering the resale of the common shares
effective.
During the third quarter of fiscal year 2003, certain holders of the
Company's 8% Senior Subordinated Convertible Notes exercised their option to
convert a portion of the Convertible Notes. This resulted in a conversion of
$200,000 of the Convertible Notes into Series A Convertible Preferred Shares,
which were immediately converted into common shares. As a result of the
foregoing conversions, 210,525 common shares were issued at a conversion price
equal to a 20% discount to the average market price of the Company's common
shares for the five days prior to conversion, resulting in a conversion price of
$0.95 per share.
Note 10: COMMON SHARES AND WARRANTS
The authorized share capital consists of an unlimited number of no par
value common shares, an unlimited number of no par value Class A Preferred
Shares and an unlimited number of no par value Series A Convertible Preferred
Shares. There were 19,684,904 common shares outstanding as of February 28, 2003
(May 31, 2002 - 14,851,905). As of February 28, 2003 an additional 654,204
common shares were being held in escrow as a result of the terms of acquisitions
and an estimated 458,716 common shares are contingently issuable related to the
PureCarbon acquisition (see note 3). These shares may be released from escrow if
certain profit and/or revenue targets are achieved. The periods covered by the
escrow agreements extend until September 30, 2003. As of February 28, 2003,
there were no Class A Preferred Shares or Series A Convertible Preferred Shares
outstanding.
During the third quarter of fiscal year 2003, certain holders of the
Company's 8% Senior Subordinated Convertible Notes converted $200,000 of the
Convertible Notes into Series A Convertible Preferred Shares, which were
immediately converted into common shares. As a result of the foregoing
conversions, 210,525 common shares were issued at a conversion price equal to a
20% discount to the average market price of the Company's common shares for the
five days prior to conversion, resulting in a conversion price of $0.95 per
share.
In March 2003, the former Icarian landlord was issued 275,000 common
shares as part of the lease termination agreement.
In March 2003, the Board of Directors of the Company approved the
release of the final 500,000 shares from escrow related to the PAH acquisition
to the former shareholders of PAH.
During the nine months ended February 28, 2003, 50,000 previously
issued underwriter warrants were exercised on a cashless basis resulting in the
issuance of 35,674 common shares.
Note 11: SEGMENTED AND GEOGRAPHIC INFORMATION
The following is a summary of the Company's operations by business
segment and by geographic region for the three and nine month periods ended
February 28, 2003 and 2002.
13
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
ENTERPRISE CAREER
RECRUITING TRANSITION
SERVICES SERVICES TOTAL
-------------- ------------ --------------
BUSINESS SEGMENT
THREE MONTHS ENDED
FEBRUARY 28, 2003
Revenue $ 2,682,947 $ 1,459,297 $ 4,142,244
Expenses 3,010,762 1,564,958 4,575,720
-------------- ------------ --------------
Business segment loss $ (327,815) $ (105,661) (433,476)
============== ============
Corporate overhead, other revenues
and expenses (1,456,020)
--------------
Net loss $(1,889,496)
==============
NINE MONTHS ENDED
FEBRUARY 28, 2003
Revenue $ 8,182,521 $ 5,580,865 $13,763,386
Expenses 10,605,009 6,155,003 16,760,012
-------------- ------------ --------------
Business segment loss $(2,422,488) $ (574,138) (2,996,626)
============== ============
Corporate overhead, other revenues
and expenses (3,165,720)
-------------
Net loss $(6,162,346)
=============
AS AT FEBRUARY 28, 2003
Business segment assets $ 5,006,470 $ 431,204 $ 5,437,674
Intangible assets 9,832,354 570,917 10,403,271
Goodwill 12,048,729 7,823,084 19,871,813
-------------- ------------ --------------
$26,887,553 $ 8,825,205 35,712,758
============== ============
Assets not allocated to business segments 752,376
--------------
Total assets $36,465,134
==============
THREE MONTHS ENDED
FEBRUARY 28, 2002
Revenue $ 2,015,764 $ 2,317,139 $ 4,332,903
Expenses 2,222,917 2,497,925 4,720,842
-------------- ------------ --------------
Business segment loss $ (207,153) $ (180,786) (387,939)
============== ============
Corporate overhead, other revenues
and expenses (709,801)
--------------
Net loss $(1,097,740)
=============
14
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
NINE MONTHS ENDED
FEBRUARY 28, 2002
Revenue $ 4,704,327 $ 5,869,698 $10,574,025
Expenses 6,516,867 6,143,318 12,660,185
-------------- ------------ --------------
Business segment loss $(1,812,540) $ (273,620) (2,086,160)
============== ============
Corporate overhead, other revenues
and expenses (695,507)
--------------
Net loss $(2,781,667)
==============
AS AT FEBRUARY 28, 2002
Business segment assets $ 4,108,067 $ 496,228 $ 4,604,295
Intangible assets 4,575,670 1,476,122 6,051,792
Goodwill 4,775,307 6,832,568 11,607,875
-------------- ------------ --------------
$13,459,044 $ 8,804,918 22,263,962
============== ============
Assets not allocated to business segments 1,028,656
--------------
Total assets $23,292,618
==============
CANADA USA TOTAL
-------------- ------------ --------------
GEOGRAPHY
THREE MONTHS ENDED
FEBRUARY 28, 2003
Revenue $ 545,752 $ 3,596,492 $ 4,142,244
Expenses 1,181,880 4,878,575 6,060,455
-------------- ------------ --------------
Geographical loss $ (636,128) $(1,282,083) (1,918,211)
============== ============
Other revenues and expenses 28,715
--------------
Net loss $(1,889,496)
==============
NINE MONTHS ENDED
FEBRUARY 28, 2003
Revenue $ 1,940,599 $11,822,787 $13,763,386
Expenses 3,485,273 16,959,089 20,444,362
-------------- ------------ --------------
Geographical loss $(1,544,674) $(5,136,302) (6,680,976)
============== ============
Other revenues and expenses 518,630
--------------
Net loss $(6,162,346)
==============
AS AT FEBRUARY 28, 2003
Geographic segment assets excluding
goodwill and intangibles $ 3,330,724 $ 2,106,950 $ 5,437,674
============== ============
Assets not allocated to specific geographic
segments 31,027,460
--------------
Total assets $36,465,134
==============
15
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
THREE MONTHS ENDED
FEBRUARY 28, 2002
Revenue $ 667,137 $ 3,665,766 $ 4,332,903
Expenses 973,753 4,451,297 5,425,050
-------------- ------------ --------------
Geographical loss $ (306,616) $ (785,531) (1,092,147)
============== ============
Other revenues and expenses (5,593)
--------------
Net loss $(1,097,740)
==============
NINE MONTHS ENDED
FEBRUARY 28, 2002
Revenue $ 1,992,117 $ 8,581,908 $10,574,025
Expenses 3,572,568 9,988,393 13,560,961
-------------- ------------ --------------
Geographical loss $(1,580,451) $(1,406,485) (2,986,936)
============== ============
Other revenues and expenses 205,269
--------------
Net loss $(2,781,667)
==============
AS AT FEBRUARY 28, 2002
Geographic segment assets excluding
goodwill and intangibles $ 2,014,943 $ 2,589,352 $ 4,604,295
============== ============
Assets not allocated to specific geographic
segments 18,688,323
--------------
Total assets $23,292,618
==============
Note 12: RECENT ACCOUNTING PRONOUNCEMENTS
In June 2001, the FASB approved the issuance of SFAS No. 143,
Accounting for Asset Retirement Obligations, which is effective for fiscal years
beginning after June 15, 2002, which for the Company is the fiscal year
beginning June 1, 2003. This standard establishes accounting standards for the
recognition and measurement of legal obligations associated with the retirement
of tangible long-lived assets. The Company has not yet assessed the impact of
the adoption of this new standard on its financial statements.
Note 13: EARNINGS PER SHARE
For all the periods presented, diluted net loss per share equals basic
net loss per share due to the antidilutive effect of employee stock options,
warrants and escrowed shares. The following outstanding instruments could
potentially dilute basic earnings per share in the future:
FEBRUARY 28, 2003
Stock options 1,786,795
Escrowed shares 654,204
PureCarbon contingent shares 458,716
Convertible notes 3,081,876
Warrants issued with convertible notes 658,000
Underwriter warrants 440,000
----------
Potential increase in number of shares
from dilutive instruments 7,079,591
==========
16
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
The weighted average price of the options exercisable at February 28,
2003 was $3.07.
On November 7, 2002, the shareholders of the Company approved an
increase in the maximum number of shares issuable under the Company's stock
option plan from 2,500,000 to 3,000,000.
Note 14: STOCK BASED COMPENSATION PLANS
Pro forma information regarding compensation expense related to
employee stock options is required by SFAS No. 123 and SFAS No. 148, and has
been determined as if the Company had accounted for its employee stock options
under the fair value method of those statements. The fair value of options
granted was estimated at the date of grant using the Black Scholes option
pricing model with the following assumptions: weighted average risk-free
interest rate of 2.99% and 3.01% for the three and nine months ended February
28, 2003, respectively, and 4.01% and 3.12% for the three and nine months ended
February 28, 2002, respectively; no expected dividends; volatility factors of
115% for the three and nine months ended February 28, 2003, and 50% for the
three and nine months ended February 28, 2002; and expected life of 3.5 years
for all periods.
For purposes of pro forma disclosures, the estimated fair value of the
options is amortized to expense ratably over the option's vesting period.
Because the determination of the fair value of all options is based on the
assumptions described in the preceding paragraph, and because additional option
grants are expected to be made in future periods, this pro forma information is
not likely to be representative of the pro forma effects on reported net income
or loss for future years.
The following reflects the impact on results of operations if the
Company had recorded additional compensation expense relating to the employee
stock options:
THREE MONTHS THREE MONTHS NINE MONTHS NINE MONTHS
ENDED ENDED ENDED ENDED
FEBRUARY 28, FEBRUARY 28, FEBRUARY 28, FEBRUARY 28,
2003 2002 2003 2002
------------- ------------- --------------- ------------
Net loss, as reported $ (1,889,496) $ (1,097,740) $ (6,162,346) $ (2,781,667)
Estimated incremental share based
compensation expense (200,627) (286,683) (599,760) (767,541)
------------- ------------- --------------- ------------
Pro forma net loss $ (2,090,123) $ (1,384,423) $ (6,762,106) $ (3,549,208)
============= ============= =============== ============
Weighted average common shares
outstanding during the period 19,174,247 14,178,438 18,241,912 12,263,281
============= ============= =============== ============
Basic and diluted loss per share, as
reported $ (0.10) $ (0.08) $ (0.34) $ (0.23)
============= ============= =============== ============
Pro forma basic and diluted loss
per share $ (0.11) $ (0.10) $ (0.37) $ (0.29)
============= ============= =============== ============
17
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
FORWARD LOOKING STATEMENTS
Certain statements discussed in Item 2 (Management's Discussion and
Analysis of Financial Condition and Results of Operations), Item 3 (Quantitative
and Qualitative Disclosures About Market Risk) and elsewhere in this Form 10-Q
constitute "forward-looking statements" within the meaning of the Private
Securities Litigation Reform Act of 1995. Such forward-looking statements
concerning Management's expectations, strategic objectives, business prospects,
anticipated economic performance and financial condition and other similar
matters involve known and unknown risks, uncertainties and other important
factors that could cause the actual results, performance or achievements of
results to differ materially from any future results, performance or
achievements discussed or implied by such forward-looking statements. Such
risks, uncertainties and other important factors include, among others:
inability to offer services that are superior and cost effective when compared
to the services being offered by our competitors; we have no assurance that a
client will remain a long term client as we generally enter into subscription
agreements with our Ecruiter Enterprise clients for terms of one year or less;
inability to further identify, develop and achieve success for new products,
services and technologies; increased competition and its effect on pricing,
spending, third-party relationships and revenues; as well as the inability to
enter into successful strategic relationships and various other matters, many of
which are beyond our control and other factors as are described in Item 7
(Management's Discussion and Analysis of Financial Condition and Results of
Operations) of our Annual Report on Form 10-K for the fiscal year ended May 31,
2002. The words "estimate," "project," "intend," "believe," "plan" and similar
expressions are intended to identify forward-looking statements. Forward-looking
statements speak only as of the date of the document in which they are made. We
disclaim any obligation or undertaking to provide any updates or revisions to
any forward-looking statement to reflect any change in our expectations or any
change in events, conditions or circumstances on which the forward-looking
statement is based.
The following discussion and analysis should be read in conjunction
with our unaudited consolidated financial statements and accompanying notes for
the three and nine month periods ended February 28, 2003. All figures are in
United States dollars, except as otherwise noted.
Management has prepared unaudited pro forma financial information which
can be found in Note 3 of the unaudited financial statements. Management's
discussion and analysis refers to this information. All pro forma financial
information gives effect to the acquisitions made by us as if the transactions
had occurred at the beginning of the nine month periods ended February 28, 2003
and February 28, 2002.
OVERVIEW
We are a leading provider of human capital management (HCM) services.
We offer a combination of high-tech and high-touch services, giving customers
the ability to manage their complete recruiting, retention and outplacement
needs on a single Workstream platform.
The past nine months have resulted in significant changes in the
business. During the first quarter of fiscal year 2003, we completed the
acquisition of Icarian Inc. and PureCarbon, Inc. On September 13, 2002 we
completed the acquisition of Xylo, Inc. These acquisitions increased our service
offerings and revenue streams. During the last nine months we focused on
integrating the acquired entities and expanding the reach of the existing
business. We have also made efforts to reduce costs by consolidating operations,
resulting in staff reductions of redundant positions and related overhead and
reducing research and development expenditures. In certain instances actions
taken to reduce costs have also caused reductions in revenues.
18
CRITICAL ACCOUNTING POLICIES
Our most critical accounting policies relate to the assessment of
goodwill impairment, impairments in intangible assets and the valuation of net
deferred tax assets. Management applies judgment to value these assets. Changes
in assumptions used would impact our financial results.
Goodwill is assessed for impairment on an annual basis or more
frequently if circumstances warrant. We assess goodwill by comparing the
carrying value of goodwill to the estimated future cash flows over a five year
period and discount these cash flows back to a present value, using a 15%
discount rate. Changes in the discount rate used, or in other assumptions in the
model, would result in wide fluctuations in the value of goodwill that is
supported. Any such changes may result in impairment write-downs.
We value intangible assets, such as a customer base acquired in an
acquisition, based on estimated future income applying historical customer
retention rates. If the customer base acquired discontinues using our service
earlier than historical experience, we may be required to record an impairment
of intangible assets. The valuation of acquired technology is based on the cost
incurred to develop the software that is then licensed to our clients.
Consideration is also given to the useful life and its demand in the
marketplace. Changes in circumstances impacting other assumptions used to value
intangible assets could also lead to future impairments.
We apply significant judgment in recording net deferred tax assets,
which has resulted from the loss carry forwards of companies that we acquired.
The recording of deferred tax assets requires estimates of future profits from
the acquired company to be forecast. Actual results may differ from amounts
estimated.
REVENUES
Consolidated revenues were $4,142,244 for the three months ended
February 28, 2003 ("third quarter 2003") compared to $4,332,903 for the three
months ended February 28, 2002 ("third quarter 2002"). The decline in revenues
is attributed to lower Career Transition Services revenues caused by our
consolidation of office locations and the continued softness in the overall
economy which we believe has led to fewer companies hiring additional staff.
Revenues from companies we acquired during fiscal year 2003 contributed
$1,351,046 during this quarter.
Career Transition Services revenues for third quarter 2003 were
$1,459,297 compared to $2,317,139 for third quarter 2002. The major reason for
the decline in Career Transition Service revenues was due to the closure of six
office locations with poor sales performance during fiscal 2003. These closures
are a result of our plan to consolidate sales locations and develop larger
centers in fewer locations in order to leverage management costs and improve
internal controls.
Enterprise Recruiting Services revenues for third quarter 2003 were
$2,682,947 compared to $2,015,764 for third quarter 2002. The increase in
revenues was primarily due to the acquisition of Icarian Inc., PureCarbon, Inc.
and Xylo Inc. in fiscal 2003. This increase was partially offset by a decline in
recruiting research and some sectors of recruiting software sales which we
believe is due to the weak economy.
Consolidated revenues for nine months ended February 28, 2003 were
$13,763,386 compared to $10,574,025 for the same period last year. Acquisitions
completed during the first nine months of this fiscal year contributed
$3,679,374 of this growth.
Pro forma revenues for the nine months ended February 28, 2003 were
$14,770,135 compared to $21,409,712 for the same period last year. Pro forma
revenues include the revenues of all acquisitions for the full reporting
periods, instead of from their acquisition date. The decrease in pro forma
revenues is largely attributable to the impact of clients that Icarian lost
19
subsequent to November 30, 2001 but prior to being acquired by us. The majority
of these clients produced little or no profit margins due to extensive customer
service needs. Additionally, we believe that the economic downturn has continued
to impact our recruiting research services. We closed two underperforming Career
Transition Services offices in fiscal 2002 and four in the first six months of
fiscal 2003, causing some loss of revenues. We are in the process of hiring
additional sales staff in our larger locations which we believe will improve
future revenues.
Management believes that the acquisitions completed in fiscal 2002 and
the first three quarters of fiscal 2003 will have a significant impact on future
revenues by allowing us to deliver a full range of recruiting and outplacement
products and services through our 15 offices across North America.
COST OF REVENUES
Consolidated cost of revenues were $688,953 for third quarter 2003
compared to $795,664 for third quarter 2002. Career Transition Services cost of
revenues accounted for $232,391 and Enterprise Recruiting Services was $456,562
of the total cost of revenues for the quarter. The decline in cost of revenues
is in part due to the reduction in revenues and the consolidation of costs.
Consolidated cost of revenues for nine months ended February 28, 2003
were $2,586,675 compared to $2,225,608 for the same period last year. The
increase is due to the acquisitions completed during the fiscal year. On a pro
forma basis, cost of revenues were $2,771,945 for nine months ended February 28,
2003 compared to $6,843,029 for the same period last year. The decline in pro
forma cost of revenues is due to the decline in revenues and the consolidation
of redundant costs post acquisition.
Cost of revenues includes the cost of network operations, client
support and charges related to third-party services.
GROSS PROFITS
Consolidated gross profits were $3,453,291 for third quarter 2003
compared to $3,537,239 for third quarter 2002.
Career Transition Services gross profit was $1,226,906 or 84% of Career
Transition Services revenues while Enterprise Recruiting Services gross profit
represented $2,226,385 or 83% of Enterprise Recruiting Services revenues for
third quarter 2003.
Consolidated gross profits for the nine months ended February 28, 2003
were $11,176,711 compared to $8,348,417 for the same period last year. On a pro
forma basis gross profits were $11,998,190 or 81% of revenues for nine months
ended February 28, 2003 compared to $14,566,683 or 68% of revenues for the same
period last year. As mentioned above, reduction in redundant costs has improved
gross profit margins compared to the prior year. Additionally, the loss of low
margin clients that were acquired with the Icarian business has resulted in
improved margin percentages.
OPERATING EXPENSES
Total operating expenses were $5,371,502 for third quarter 2003
compared to $4,629,387 for third quarter 2002. Acquisitions completed in fiscal
year 2003 accounted for $2,433,709 of the increase in total operating expense
for third quarter 2003 compared to third quarter 2002. Operating expenses were
$17,857,687 for nine months ended February 28, 2003 compared to $11,335,354 for
the same period last year. On a pro forma basis operating expenses were
$20,178,096 for the nine months ended February 28, 2003 compared to $40,341,100
for the nine months ended February 28, 2002. The decline in pro forma operating
expense is due to the elimination of redundant costs, disposal of purchased
intangibles and restructuring charges recorded by the acquired companies prior
to their acquisition.
20
SELLING AND MARKETING
Selling and marketing expenses were $1,156,644 for third quarter 2003
compared to $1,838,230 for third quarter 2002. This decrease is attributed to a
reduction in marketing management and advertising expense. Advertising expense
has been reduced primarily in the Enterprise Recruiting Services segment, by
implementing a more direct sales approach, versus an indirect approach used by
prior management of the acquired operations. We have also reduced advertising
costs in the Career Transition Services segment by shifting advertising from
newspapers and print media to the internet.
Consolidated selling and marketing expenses for the nine months ended
February 28, 2003 were $4,860,608 compared to $4,719,953 for the same period in
2002. The increase is due to the acquisitions completed during fiscal 2003,
partially offset by the reduction in marketing management and advertising costs
mentioned above.
On a pro forma basis, selling and marketing expenses were $5,062,213
for nine months ended February 28, 2003 compared to $13,566,487 for the nine
months ended February 28, 2002. The decline is a result of the consolidation of
marketing advertising and public relations programs. Additionally, we have
significantly reduced the sales and marketing staff in the acquired companies as
part of the consolidation and integration into Workstream. Additional reductions
were realized in sales commissions as a decline in revenues occurred in some of
the acquired companies compared to the prior year.
GENERAL AND ADMINISTRATIVE
General and administrative expenses were $2,229,713 for third quarter
2003 compared to $2,007,577 for third quarter 2002. The $222,136 increase in
expenses was a combination of a $982,520 increase due to acquisitions and a
$760,384 reduction associated with the elimination of redundant general and
administrative expenses.
For the nine months ended February 28, 2003 consolidated general and
administrative expenses were $7,292,871 compared to $4,593,156 for the same
period last year. On a pro forma basis, general and administrative expenses were
$8,209,472 for the nine months ended February 28, 2003 compared to $8,498,151
for the same period last year. Reductions in general and administrative cost are
expected as redundant costs such as excess office space that is associated with
acquisitions completed in fiscal 2003 are eliminated.
RESEARCH AND DEVELOPMENT
Research and development costs were $249,979 for third quarter 2003
compared to $87,241 for third quarter 2002. Acquisitions during fiscal 2003
contributed $133,475 of the overall increase compared to the prior period.
For the nine months ended February 28, 2003 consolidated research and
development costs were $970,557 compared to $622,150 for the same period last
year. The acquisitions completed during fiscal 2003 accounted for $574,683 in
research and development costs. On a pro forma basis, research and development
expenses were $1,435,284 for the nine months ended February 2003 compared to
$5,713,578 for the same period last year. Significant reductions have been made
in research and development staff, most notably relating to the Icarian
operations.
DEPRECIATION/AMORTIZATION EXPENSE
Depreciation and amortization expenses were $1,735,166 for third
quarter 2003 compared to $696,339 for third quarter 2002. Amortization of
acquired intangibles arising from acquisitions accounted for the majority of the
increase in amortization.
21
Consolidated depreciation and amortization expenses for the nine months
ended February 28, 2003 were $4,733,651 compared to $1,400,095 for the same
period last year. This increase was primarily caused by the acquisitions
completed during fiscal 2002 and the first half of fiscal 2003. On a pro forma
basis, depreciation and amortization expense was $5,399,990 for nine months
ended February 2003 compared to $7,064,927 for the same period last year. The
substantial decline in depreciation and amortization expense was due primarily
to the write-down of software licenses and website development costs associated
with the Icarian and Xylo acquisitions prior to and at the time of acquisition.
INTEREST INCOME/EXPENSE
Interest income was $1,814 for third quarter 2003 compared to $11,068
for third quarter 2002. Interest income was $38,340 for nine months ended
February 2003 compared to $112,055 for the same period last year. The decline
for the nine months ended February 28, 2003 was primarily due to the reduction
in short-term investments held and the decline in interest rates.
Interest expense was $464,587 and $806,830 for the three and nine
months ended February 28, 2003, respectively. Interest expense was $19,912 and
$86,665 for the three and nine months ended February 28, 2002, respectively. The
increase in interest expense was due primarily to the issuance of convertible
notes in April and May 2002 in the amount of $2,900,000. It is anticipated that
non-cash interest charges on our convertible notes will increase significantly
in the future as the interest discount is amortized to expense over their term
to maturity or as a result of interest discount charged to expense upon early
conversion.
LIQUIDITY AND CAPITAL RESOURCES
At February 28, 2003 we had $1,772,058 in cash, cash equivalents,
restricted cash and short-term investments. We have made significant investments
in acquiring new service lines which have reduced available cash. Furthermore,
capital requirements have exceeded cash flows from operations in the nine months
ended February 28, 2003. At February 28, 2003, $1,325,960 of cash and short-
term investment balances were restricted from use because they were collateral
for debt, leases, credit card merchant agreements and a letter of guarantee.
These restricted cash balances could be reduced in the future by lease payments
and any repayments on lines of credit and improvement in the return rate on
credit card charges accepted by us for our services. In December 2002, we fully
repaid the SunTrust line of credit by releasing restricted cash of $992,892 to
the bank.
For the nine months ended February 28, 2003, cash used in operations
totaled $2,636,582, consisting primarily of the net loss for the period of
$6,162,346 offset by non-cash expenses such as depreciation, amortization, and
non-cash interest. Our working capital deficiency increased to $3,775,192 at
February 28, 2003, an increase of $2,098,590 from May 31, 2002 resulting
primarily from cash used in operations and the increase in current liabilities
resulting from the acquisitions completed this fiscal year. During the quarter,
our working capital deficiency declined by $1,432,315 due to the restructuring
of certain related party current debt into long-term debt and the non-cash
settlement of some accrued exit costs.
Net cash provided by investing activities during the nine months ended
February 28, 2003, was $2,779,852. Cash acquired in the Icarian and Xylo
acquisitions of $1,914,884 provided the majority of cash from investing
activities.
Net cash used by financing activities was $1,062,862 for the nine
months ended February 28, 2003. Financing outflows consisted primarily of the
repayment of capital leases of $284,474, repayment of loans to shareholders of
$339,100 and the repayment of a bank line of credit and note payable of
$1,272,423.
We have had operating losses since our inception and have had negative
cash flow from operations for the nine months ended February 28, 2003. However,
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management believes the elimination of redundancies in the companies acquired in
fiscal 2002 and 2003, the consolidation of ongoing operations and reductions in
research and development efforts previously discussed, will improve cash flow in
the future. Michael Mullarkey, our Chief Executive Officer, loaned us an
additional $200,000 in December 2002 and $300,000 in January 2003. The
additional loans were consolidated into a term loan maturing in five years. The
consolidated term loan also includes $750,000, plus interest, previously loaned
to us by Mr. Mullarkey in fiscal 2002. The consolidated term loan is secured by
certain inventory, equipment, accounts receivable and other assets and bears
interest at 8.0% per annum. Under the consolidated term loan, we are required to
make monthly interest only payments during the first 24 months and monthly
interest and principal payments thereafter. As at February 28, 2003, the total
amount of the consolidated term loan was $1,287,901. In addition, Mr. Mullarkey
has agreed to provide us with a $1,200,000 credit facility containing terms that
are comparable to the consolidated term loan. We will be allowed to draw against
this credit facility as needed. Mr. Mullarkey has also agreed to defer a total
of $700,000 in compensation earned as of December 31, 2002 until December 2003.
At that time Mr. Mullarkey and Workstream will mutually agree on a definitive
plan regarding repayment of his deferred compensation. Management believes these
additional loans and credit facility provided by Mr. Mullarkey, and the changes
made in fiscal 2002 and for the first nine months of fiscal 2003, along with
further consolidation of cost centers and elimination of redundancies will
result in cash flows from operations which, together with current cash reserves,
will be sufficient to meet our working capital and capital expenditure
requirements until February 28, 2004.
ACQUISITIONS
We constantly endeavor to increase our share of, and strengthen our
position in, the HCM market. A key component of our business strategy is to
continue to acquire companies offering services similar or complementary to
ours. The HCM market has experienced significant consolidation in the last
several months as companies attempt to expand their service offerings and
broaden their revenue bases to achieve rapid growth and profitability. By
implementing our business strategy and identifying the consolidation trend in
its relatively early stages, we have been able to complete acquisitions of
several companies which we believe compliment our current business.
On June 28, 2002, we acquired 100% of the outstanding shares of Icarian
Inc., a California based company. As consideration for the sale, we issued to
the shareholders of Icarian 2,800,000 common shares valued at approximately $9.9
million. Icarian is a provider of Web-enabled solutions and professional
services. Icarian's Recruitment Management Suite is Web-native software, offered
on an ASP basis, with a user interface that provides functionality for
management of the hiring process. Icarian's Connectivity, Interactive Job Site
and Reporting modules offer HR Professionals the capability to integrate with
human resource management systems, candidates and campaign management, and
reporting for both compliance and cost reporting for a corporation's employee
acquisition process. Icarian had revenues of approximately $5.7 million for the
twelve months ended December 31, 2001 and recorded a net loss of approximately
$25.8 million. We recorded $8,393,337 in intangible assets and $5,458,290 in
goodwill related to the acquisition of Icarian. In total, we have incurred
approximately $1.4 million in exit costs which were primarily associated with
severance pay and facility closure costs to integrate the Icarian acquisition.
In March 2003, we entered into an agreement with the landlord of certain
property being leased by Icarian to terminate the lease between Icarian and the
landlord. The landlord agreed to terminate the lease and release Icarian from
its financial obligations under the lease in exchange for certain furniture and
equipment previously used at the property, cash in an amount equal to $290,000,
of which $220,000 is payable in the form of a promissory note, and 275,000 of
our common shares. The costs associated with the termination of this lease were
applied against the accrual for exit costs.
On July 1, 2002, we acquired certain assets and liabilities of
PureCarbon Inc., a California based company. As consideration for the sale, we
issued to the shareholders of PureCarbon 263,158 common shares valued at
$1,000,000. Under this agreement, additional common shares valued at $500,000
may be issued if PureCarbon achieves certain revenue targets for the twelve
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months ending June 30, 2003. Any contingent consideration issued will be
recorded as additional goodwill resulting from the acquisition. PureCarbon is
the provider of award-winning Internet software (JobPlanet) designed to
integrate easily with behind-the-scenes human resources and recruiting
technology. JobPlanet is built on a technology platform that enables clients to
build and implement an employment web site that mirrors the client's corporate
brand image. We believe this front-end platform fits well with our back-end
Hiring Management Systems to create a compelling end-to-end solution that our
corporate clients desire. We have recorded $1,019,350 in intangible assets and
$278,011 in goodwill related to the acquisition of PureCarbon.
On September 13, 2002, we acquired 100% of the outstanding shares of
Xylo, Inc. a Washington-based provider of Web-based Employee Retention
Management (ERM) solutions focused on providing customized retention solutions
to Fortune 500 companies. Xylo's work/life customizable software offers employee
programs in one externally-hosted platform, giving clients control over content
and applications. As consideration for the purchase, we issued to the
shareholders of Xylo, Inc. 702,469 common shares, valued at approximately $1.7
million. Under this agreement, an additional 330,579 common shares may be issued
if certain revenue targets are met for the twelve month period ending September
30, 2003. Xylo had revenues of $3.4 million for the twelve months ended December
31, 2001 and recorded a net loss of approximately $18 million. We recorded
$1,311,282 in intangible assets and $647,339 in goodwill related to the
acquisition of Xylo.
We believe that these acquisitions are important to our evolution from
a recruitment application service provider into an HCM business process
aggregator. We believe that these additions will broaden our revenue base and
diversify our product offerings.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are primarily exposed to market risks associated with fluctuations
in interest rates and foreign currency exchange rates.
INTEREST RATE RISKS
Our exposure to interest rate fluctuations relates primarily to our
short-term investment portfolio and our bank credit. We invest our surplus cash
in an investment trust established by a Canadian chartered bank and in a
Certificate of Deposit in a bank in the United States. The investment trust
holds various short-term, low-risk instruments, and can be withdrawn without
penalty at any time. The interest income from these investments is subject to
interest rate fluctuations which our management believes will not have a
material impact on our financial position.
We have established a CDN $1,000,000 line of credit with the Bank of
Montreal which bears interest at 5.50%. We have drawn CDN $813,156 on this
facility as of February 28, 2003. We can draw an additional CDN $16,844 before
additional collateral would be required.
The majority of our interest rates are fixed, therefore we have
limited exposure to risks associated with interest rate fluctuations.
The impact on net interest income of a 100 basis point adverse change
in interest rates for the quarter ended February 28, 2003 would have been less
than $11,000.
FOREIGN CURRENCY RISK
We have monetary assets and liability balances denominated in Canadian
Dollars. As a result, fluctuations in the exchange rate of the Canadian dollar
against the U.S. dollar will impact our reported net asset position. A 10%
adverse change in foreign exchange rates would result in an increase in the
reported net asset position of approximately $103,000.
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ITEM 4. CONTROLS AND PROCEDURES
Within the 90-day period prior to the filing of this quarterly report,
an evaluation was carried out under the supervision and with the participation
of our Chief Executive Officer and Chief Financial Officer of the effectiveness
of our disclosure controls and procedures. Based on that evaluation, the Chief
Executive Officer and Chief Financial Officer have concluded that our disclosure
controls and procedures are effective to ensure that information required to be
disclosed by us in reports that we file or submit under the Securities Exchange
Act of 1934 is recorded, processed, summarized and reported within the time
periods specified in the Securities and Exchange Commission rules and forms.
Subsequent to the date of their evaluation, there were no significant changes in
our internal controls or in other factors that could significantly affect the
disclosure controls, including any corrective actions with regard to significant
deficiencies and material weaknesses.
PART II - OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
On February 4, 2003, Crestview Capital Fund, L.P. and its affiliates
that hold our 8% Senior Subordinated Convertible Notes converted an aggregate of
$200,000 of the notes into 2,000 of our Series A Convertible Preferred Shares,
no par value per share (the "Series A Shares"), at a conversion price of $100
per Series A Share. Immediately upon converting the notes into Series A Shares,
Crestview Capital Fund, L.P. and its affiliates converted all 2,000 Series A
Shares into an aggregate of 210,525 common shares. The common shares were issued
at a conversion price equal to a 20% discount to the average market price of
Workstream's common shares for the five days prior to conversion, resulting in a
conversion price of $0.95 per share. The Series A Shares and the common shares
were issued to Crestview Capital Fund, L.P. and its affiliates, consisting of a
limited number of accredited investors, in reliance on the exemption from
registration provided by Rule 506 promulgated under the Securities Act of 1933.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit No. Description
10.1 Term Note dated January 31, 2003 by Workstream Inc., Workstream USA, Inc.,
6FigureJobs.com, Inc., Icarian, Inc., RezLogic, Inc., the Omni Partners, Inc.
and Xylo, Inc. in favor of Michael Mullarkey.
10.2 Security Agreement dated January 31, 2003 by and among Michael Mullarkey, Workstream Inc.,
Workstream USA, Inc., 6FigureJobs.com, Inc., Icarian, Inc., RezLogic, Inc., the Omni Partners,
Inc. and Xylo, Inc.
10.3 General Security Agreement dated January 31, 2003 between Workstream Inc. and
Michael Mullarkey.
99.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
99.2 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
(b) Reports on Form 8-K
On January 15, 2003, we filed a Current Report on Form 8-K with respect
to Item 5.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of
1934, the registrant has duly caused this report to be signed on its behalf by
the undersigned thereunto duly authorized.
Workstream Inc.
(Registrant)
DATE: April 11, 2003 By: /s/ Michael Mullarkey
-----------------------------------------
Michael Mullarkey,
Chairman of the Board and Chief Executive
Officer (Principal Executive Officer)
DATE: April 11, 2003 By: /s/ Paul Haggard
---------------------------------------
Paul Haggard,
Chief Financial Officer and Secretary
(Principal Financial Officer)
26
CERTIFICATIONS
I, Michael Mullarkey, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Workstream Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated subsidiaries,
is made known to us by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: April 11, 2003
/s/ Michael Mullarkey
---------------------------
Michael Mullarkey
Chief Executive Officer
27
I, Paul Haggard, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Workstream Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated subsidiaries,
is made known to us by others within those entities, particularly during the
period in which this quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
/s/ Paul Haggard
Date: April 11, 2003 -----------------------
Paul Haggard
Chief Financial Officer
28