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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 November 30, 2002
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)
N/A Canada
- -------------------------------- --------------------------------
(IRS Employer Identification No.) (State or Other Jurisdiction of
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 November 30, 2002, there were 18,699,379 common shares, without
par value, outstanding.
* Excluding 1,154,204 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
November 30, 2002 and May 31, 2002..............................................2
Unaudited Consolidated Statements of Operations for
each of the Three and Six Months Ended
November 30, 2002 and 2001......................................................3
Unaudited Consolidated Statements of Comprehensive Loss
for each of the Three And Six Months Ended
November 30, 2002 and 2001 .....................................................4
Unaudited Consolidated Statements of Cash Flows
for the Six Months Ended November 30, 2002 and 2001.............................5
Notes to Unaudited Consolidated Financial Statements................................6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations.............................................17
Item 3. Quantitative and Qualitative Disclosures About Market Risk..........................23
Item 4. Controls and Procedures ..........................................................23
Part II. Other Information
Item 2. Changes in Securities and Use of Proceeds...........................................24
Item 4. Submission of Matters to a Vote of Security Holders.................................25
Item 6. Exhibits and Reports on Form 8-K ...................................................26
Signatures ......................................................................................................27
Certifications...................................................................................................28
1
PART I - FINANCIAL INFORMATION
ITEM 1. UNAUDITED FINANCIAL STATEMENTS
WORKSTREAM INC.
CONSOLIDATED BALANCE SHEETS
(UNITED STATES DOLLARS)
November 30, 2002
(UNAUDITED) May 31, 2002
----------- ------------
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 162,563 $ 1,297,656
Restricted cash 2,292,481 1,957,090
Short-term investments 62,209 345,206
Accounts receivable, net of allowance for doubtful accounts of
$223,494 (May 31, 2002 - $165,870) 2,014,958 1,314,958
Prepaid expenses 171,842 144,400
Deferred tax asset 135,000 135,000
Other receivables 111,072 91,188
----------- ------------
4,950,125 5,285,498
CAPITAL ASSETS 2,356,957 1,557,303
DEFERRED TAX ASSET 694,148 694,148
OTHER ASSETS 285,865 146,605
ACQUIRED INTANGIBLE ASSETS 11,597,150 2,853,871
GOODWILL 18,856,459 12,738,172
----------- ------------
$38,740,704 $ 23,275,597
=========== ============
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable $ 2,194,786 $ 1,136,662
Accrued liabilities 1,508,206 839,078
Accrued exit costs 738,509 -
Line of credit 1,521,208 1,364,723
Accrued compensation 1,266,023 900,360
Current portion of long-term obligations 41,609 26,175
Current portion of related party obligations 989,787 1,116,943
Deferred income tax liability - 490,862
Current portion of capital lease obligations 240,596 48,411
Deferred revenue 1,656,908 1,038,886
----------- ------------
10,157,632 6,962,100
DEFERRED INCOME TAX LIABILITY 4,636,536 650,686
CAPITAL LEASE OBLIGATIONS 94,266 119,939
LEASEHOLD INDUCEMENTS 116,385 143,866
CONVERTIBLE NOTES 244,349 131,597
LONG-TERM OBLIGATIONS 89,448 102,521
RELATED PARTY OBLIGATION 333,931 408,070
----------- ------------
15,672,547 8,518,779
----------- ------------
COMMITMENTS AND CONTINGENCIES
SHAREHOLDERS' EQUITY
CAPITAL STOCK
Issued and outstanding - 18,699,379 common shares
(May 31, 2002 - 14,851,905) 45,843,584 33,135,734
Additional paid-in capital 4,675,015 4,792,887
Accumulated other comprehensive loss (891,752) (885,961)
Accumulated deficit (26,558,690) (22,285,842)
----------- ------------
23,068,157 14,756,818
----------- ------------
$38,740,704 $ 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 Months Three Months Six Months Six Months
Ended Ended Ended Ended
November 30, November 30, November 30, November 30,
2002 2001 2002 2001
------------ ----------- ----------- ------------
REVENUE $ 4,975,429 $ 4,391,844 $ 9,621,143 $ 6,241,122
COST OF REVENUES 1,018,725 846,568 1,897,722 1,429,944
------------ ----------- ----------- ------------
GROSS PROFIT 3,956,704 3,545,276 7,723,421 4,811,178
------------ ----------- ----------- ------------
EXPENSES
Selling and marketing 1,651,329 1,870,996 3,702,478 2,881,723
General and administrative 2,510,700 2,050,783 5,064,644 2,585,579
Research and development 412,339 189,846 720,579 534,909
Amortization and depreciation 1,742,119 389,678 2,998,485 703,756
------------ ----------- ----------- ------------
6,316,487 4,501,303 12,486,186 6,705,967
------------ ----------- ----------- ------------
OPERATING LOSS (2,359,783) (956,027) (4,762,765) (1,894,789)
------------ ----------- ----------- ------------
OTHER INCOME AND EXPENSES
Interest and other income 23,595 38,522 36,527 100,987
Interest and other expense (183,634) (27,152) (342,242) (66,753)
------------ ----------- ----------- ------------
(160,039) 11,370 (305,715) 34,234
------------ ----------- ----------- ------------
LOSS BEFORE INCOME TAX (2,519,822) (944,657) (5,068,480) (1,860,555)
Recovery of deferred income taxes 463,763 30,090 795,632 176,628
------------ ----------- ----------- ------------
NET LOSS FOR THE PERIOD $ (2,056,059) $ (914,567) $(4,272,848) $ (1,683,927)
============ =========== =========== ============
WEIGHTED AVERAGE NUMBER OF COMMON SHARES
OUTSTANDING DURING THE PERIOD 18,582,012 13,297,943 17,783,387 11,418,688
============ =========== =========== ============
BASIC AND DILUTED NET LOSS PER SHARE $ (0.11) $ (0.07) $ (0.24) $ (0.15)
============ =========== =========== ============
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
MONTHS MONTHS SIX MONTHS SIX MONTHS
ENDED ENDED ENDED ENDED
NOVEMBER 30, NOVEMBER 30, NOVEMBER 30, NOVEMBER 30,
2002 2001 2002 2001
----------- --------- ----------- -----------
Net loss for the period $(2,056,059) $(914,567) $(4,272,848) $(1,683,927)
Other comprehensive income:
Cumulative translation
adjustment (net of
tax of $nil) (4,143) 20,635 (5,791) (177,498)
----------- --------- ----------- -----------
Comprehensive loss for the
period $(2,060,202) $(893,932) $(4,278,639) $(1,861,425)
=========== ========= =========== ===========
The accompanying notes are an integral part of these unaudited financial
statements.
4
WORKSTREAM INC.
UNAUDITED CONSOLIDATED STATEMENT OF CASH FLOWS
(UNITED STATES DOLLARS)
SIX MONTHS SIX MONTHS
ENDED ENDED
NOVEMBER 30, NOVEMBER 30,
2002 2001
------------ ------------
CASH FLOWS USED IN OPERATING ACTIVITIES
Net loss for the period $(4,272,848) $(1,683,927)
Items not involving cash:
Amortization and depreciation 2,987,448 695,556
Shares issued to service providers - 26,040
Non-cash interest on notes 121,757 -
Amortization of note discount 17,907 -
Recovery of deferred income taxes (795,632) (176,628)
Non-cash compensation expense - 216,125
Amortization of other long-term assets - 18,134
Net change in operating components of working capital (643,836) 480,189
----------- -----------
(2,585,204) (424,511)
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES
Acquisition of capital assets (18,839) (39,047)
Cash acquired in (paid for) business acquisitions
(2001 net of acquired cash of $569,566) 1,921,028 (1,824,272)
Acquisition of intangible assets - (38,789)
Increase in restricted cash (322,160) -
Sale of short-term investments 296,181 2,976,159
----------- -----------
1,876,210 1,074,051
----------- -----------
CASH FLOWS USED IN FINANCING ACTIVITIES
Proceeds from exercise of options 53,838 -
Costs related to issuance of convertible debt (82,197) -
Repayment of bank debt (168,962) (723,111)
Shareholder loan repayments (256,000) (47,147)
Capital lease payments (230,036) (50,303)
Proceeds from bank financing 306,485 541,391
----------- -----------
(376,872) (279,170)
----------- -----------
EFFECT OF EXCHANGE RATE CHANGES (49,227) (224,204)
----------- -----------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
FOR THE PERIOD (1,135,093) 146,166
CASH AND CASH EQUIVALENTS,
BEGINNING OF THE PERIOD 1,297,656 65,483
----------- -----------
CASH AND CASH EQUIVALENTS,
END OF THE PERIOD $ 162,563 $ 211,649
=========== ===========
The accompanying notes are an integral part of these unaudited financial
statements.
5
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
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 November 30, 2002, 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 Human Capital Management
(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 $1,115,340 for exit costs
associated with employee severance pay and elimination of office space.
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...................................... $ 9,908,640
Cash consideration....................................... 10,000
Acquisition costs........................................ 232,559
-----------
10,151,199
-----------
Current assets........................................... 2,310,587
Tangible long-term assets................................ 1,187,907
Current liabilities...................................... (3,705,446)
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............................ 4,950,767
-----------
Goodwill................................................. $ 5,200,432
===========
6
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
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.
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............................................ 160,122
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............................. 767,484
-----------
Goodwill.................................................. $ 270,516
===========
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. Any additional common shares will result in additional
goodwill being recorded.
7
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
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 November 30, 2002 a total of 1,154,204 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 253,807 common shares
relating to PureCarbon.
Pursuant to the purchase agreement for PAH, a balance of 500,000
additional common shares may be released from escrow subject to the achievement
of targets for the twelve month period ending December 31, 2002. If issued, the
500,000 common shares would result in additional goodwill being recorded.
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 during
September 2002.
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 subject to achievement of certain
revenue and profit targets for the twelve month period ending September 30,
2002. Management has determined that targets were not met, and therefore the
shares will be cancelled in January 2003.
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. 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
November 30, 2002 based on a market price per common share of $1.97, 253,807
common shares are contingently issuable.
8
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
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 six month periods ended November 30, 2002 and November
30, 2001.
Six Months Ended Six Months Ended
November 30, 2002 November 30, 2001
----------------- -----------------
Revenues $10,627,891 $ 14,809,190
Cost of revenues 2,082,992 5,250,092
----------- ------------
Gross profit 8,544,899 9,559,098
Expenses 14,806,595 27,288,944
----------- ------------
Operating loss (6,261,696) (17,729,846)
Interest and other income and expense (294,444) (1,923,539)
Recovery of deferred income taxes 943,889 999,270
----------- ------------
Net loss $(5,612,251) $(18,654,115)
=========== ============
Weighted average number of common shares 18,659,437 17,717,932
=========== ============
Pro forma loss per share $ (0.30) $ (1.05)
=========== ============
Note 4: CAPITAL ASSETS
November 30, 2002 May 31, 2002
----------------- ------------
Furniture, equipment and leaseholds $ 2,022,507 $ 1,441,436
Office equipment 221,753 222,518
Computers and software 3,460,296 2,254,455
----------- ------------
5,704,556 3,918,409
Less: accumulated amortization (3,347,599) (2,361,106)
----------- ------------
$ 2,356,957 $ 1,557,303
=========== ============
9
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Note 5: ACQUIRED INTANGIBLE ASSETS
November 30, 2002 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 (1,192,868) (619,611)
Acquired technologies (1,573,835) (212,039)
Trademarks, domain names and intellectual
property (117,158) (71,521)
Other - (2,260)
------------------------------------------------------------
Total accumulated amortization (2,883,861) (905,431)
------------------------------------------------------------
Net acquired intangible assets $ 11,597,150 $ 2,853,871
============================================================
Note 6: LINES OF CREDIT, RESTRICTED CASH AND SHORT-TERM INVESTMENTS
At November 30, 2002, the Company had $1,521,208 outstanding on two
lines of credit from SunTrust Bank and Bank of Montreal. Certain assets of the
Company, including short-term investments, property and receivables, are pledged
as collateral for these facilities.
November 30, 2002 May 31, 2002
--------------------------------------------------
Line of credit - SunTrust $ 992,892 $ 992,892
Line of credit - Bank of Montreal 528,316 221,831
Line of credit - Harris Bank - 150,000
--------------------------------------------------
Total line of credit $ 1,521,208 $ 1,364,723
==================================================
Certain of the Company's short-term investments have been provided as
collateral for the SunTrust line of credit. That line of credit bears 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 is permitted to draw up to $1,000,000 against this facility. The Company
paid down the line of credit in December 2002 to $nil with restricted cash that
had been used as collateral for this credit line.
The operating line of credit with Harris Bank is authorized for up to
$150,000. The interest rate on this line of credit is subject to change from
time to time based on changes in the lender's prime rate. During the period, the
line of credit had an effective interest rate of 4.75%. The line of credit was
paid down to $nil in June 2002 and subsequently cancelled.
10
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
The Company has a line of credit with the Bank of Montreal at an
effective rate of 5.50%. 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 $826,814 Cdn as of November 30,
2002. The Company has provided collateral of $830,000 Cdn, leaving $3,186 Cdn
available to be drawn on this line.
At November 30, 2002, and May 31, 2002, a total of $2,292,481 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:
November 30, 2002 May 31, 2002
-------------------------------------------------
SunTrust Bank $ 992,892 $ 992,892
SunTrust Bank - credit card department 13,861 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 885,845 527,229
-------------------------------------------------
$ 2,292,481 $ 1,957,090
=================================================
Note 7: RELATED PARTY OBLIGATIONS
November 30, 2002 May 31, 2002
----------------------------------------------------
Notes payable $ 64,438 $ 115,437
Shareholder loans 1,259,280 1,409,576
----------------------------------------------------
1,323,718 1,525,013
Less: current portion 989,787 1,116,943
----------------------------------------------------
$ 333,931 $ 408,070
====================================================
Note 8: CAPITAL LEASE OBLIGATIONS
November 30, 2002 May 31, 2002
---------------------------------------------
Capital leases $334,862 $ 168,350
Less: current portion 240,596 48,411
----------------------------------------------
$ 94,266 $ 119,939
==============================================
Capital lease obligations relate to office equipment, computers and
software, and bear interest at rates that range from 7.5% to 16% per annum.
These leases mature at various times through December 2006.
11
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
Note 9: CONVERTIBLE NOTES
November 30, 2002 May 31, 2002
--------------------------------------------
Convertible notes, face value $ 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
Amortization of discount 146,116 33,364
------------------------------------------
Convertible notes $ 244,349 $ 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
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. The Securities and Exchange Commission has not declared the
registration statement effective.
The proceeds from the sale of the Convertible Notes and warrants are
being used for general working capital purposes.
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 19,853,583 common shares outstanding as of November 30, 2002
(May 31, 2002 - 14,851,905). As of November 30, 2002, 1,154,204 common shares
were being held in escrow as a result of the terms of acquisitions (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. At the November 7, 2002 Annual and Special Meeting for
Shareholders the shareholders authorized the creation of the Class A Preferred
Shares and the Series A Convertible Preferred Shares. As of November 30, 2002,
there were no Class A Preferred Shares or Series A Convertible Preferred Shares
outstanding.
12
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
During the six months ended November 30, 2002, 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 six month periods ended
November 30, 2002 and 2001.
ENTERPRISE CAREER
RECRUITING TRANSITION
SERVICES SERVICES TOTAL
-------------- ------------------- ---------------
BUSINESS SEGMENT
THREE MONTHS ENDED
NOVEMBER 30, 2002
Revenue $ 3,195,813 $ 1,779,616 $ 4,975,429
Expenses 4,095,516 2,094,185 6,189,701
------------- -------------- --------------
Business segment loss $ (899,703) $ (314,569) (1,214,272)
============= ==============
Corporate overhead, other revenues
and expenses (841,787)
--------------
Net loss $ (2,056,059)
==============
SIX MONTHS ENDED
NOVEMBER 30, 2002
Revenue $ 5,499,574 $ 4,121,569 $ 9,621,143
Expenses 7,694,406 4,596,981 12,291,387
------------- -------------- --------------
Business segment loss $ (2,194,832) $ (475,412) (2,670,244)
============= ==============
Corporate overhead, other revenues
and expenses (1,602,604)
--------------
Net loss $ (4,272,848)
==============
AS AT NOVEMBER 30, 2002
Business segment assets $ 6,550,352 $ 439,356 $ 6,989,708
Intangible assets 10,946,660 650,490 11,597,150
Goodwill 11,783,375 7,073,084 18,856,459
------------- -------------- --------------
$ 29,280,387 $ 8,162,930 37,443,317
============= ==============
Assets not allocated to business segments 1,297,387
--------------
Total assets $ 38,740,704
==============
13
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
THREE MONTHS ENDED
NOVEMBER 30, 2001
Revenue $ 1,845,692 $ 2,546,152 $ 4,391,844
Expenses 2,621,165 2,167,728 4,788,893
------------ -------------- --------------
Business segments income (loss) $ (775,473) $ 378,424 (397,049)
============ ==============
Corporate overhead, other revenues
and expenses (517,518)
--------------
Net loss $ (914,567)
==============
SIX MONTHS ENDED
NOVEMBER 30, 2001
Revenue $ 2,692,062 $ 3,549,060 $ 6,241,122
Expenses 4,242,518 3,079,415 7,321,933
------------ -------------- --------------
Business segments income (loss) $ (1,550,456) $ 469,645 (1,080,811)
============ ==============
Corporate overhead, other revenues
and expenses (603,116)
--------------
Net loss $ (1,683,927)
==============
AS AT NOVEMBER 30, 2001
Business segment assets $ 4,337,720 $ 265,305 $ 4,603,025
Intangible assets 4,891,159 1,568,231 6,459,390
Goodwill 4,762,610 6,136,068 10,898,678
------------ -------------- --------------
$ 13,991,489 $ 7,969,604 21,961,093
============ ==============
Assets not allocated to business segments 1,000,000
--------------
Total assets $ 22,961,093
==============
GEOGRAPHY
THREE MONTHS ENDED
NOVEMBER 30, 2002
CANADA USA TOTAL
Revenue $ 636,431 $ 4,338,998 $ 4,975,429
Expenses 1,069,901 6,265,310 7,335,211
------------ ------------- ----------------
Geographical loss $ (433,470) $ (1,926,312) (2,359,782)
============ =============
Other revenues and expenses 303,723
----------------
Net loss $ (2,056,059)
================
SIX MONTHS ENDED
NOVEMBER 30, 2002
Revenue $ 1,394,848 $ 8,226,295 $ 9,621,143
Expenses 2,153,826 12,230,083 14,383,909
------------ ------------- ----------------
Geographical loss $ (758,978) $ (4,003,788) (4,762,766)
============ =============
Other revenues and expenses 489,918
----------------
Net loss $ (4,272,848)
================
AS AT NOVEMBER 30, 2002
Geographic segment assets excluding goodwill
and intangibles $ 3,892,493 $ 3,097,215 $ 6,989,708
============ =============
Assets not allocated to specific geographic
segments 31,750,996
----------------
Total assets $ 38,740,704
================
14
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
THREE MONTHS ENDED
NOVEMBER 30, 2001
Revenue $ 693,766 $ 3,698,078 $ 4,391,844
Expenses 963,663 3,825,230 4,788,893
------------ ------------- ----------------
Geographical loss $ (269,897) $ (127,152) (397,049)
============ =============
Other revenues and expenses (517,518)
----------------
Net loss $ (914,567)
================
SIX MONTHS ENDED
NOVEMBER 30, 2001
Revenue $ 1,326,618 $ 4,914,504 $ 6,241,122
Expenses 1,722,293 5,599,640 7,321,933
------------ ------------- ----------------
Geographical loss $ (395,675) $ (685,136) (1,080,811)
============ =============
Other revenues and expenses (603,116)
----------------
Net loss $ (1,683,927)
================
AS AT NOVEMBER 30, 2001
Geographic segment assets excluding goodwill
and intangibles $ 1,869,262 $ 20,091,831 $ 21,961,093
============ =============
Assets not allocated to specific geographic
segments 1,000,000
----------------
Total assets $ 22,961,093
================
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.
In December 2001, the FASB issued SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets. SFAS No. 144 addresses financial
accounting and reporting for the impairment or disposal of long-lived assets.
This standard replaces FAS 121, but retains its fundamental provisions with
respect to the recognition and measurement of the impairment of long-lived
assets to be held and used and the measurement of long-lived assets to be
disposed of by sale. This standard is effective for fiscal years beginning after
December 15, 2001, which for the Company is the fiscal year beginning June 1,
2002. The Company has adopted this new standard and it has not had an impact on
its financial statements.
In July 2002, the FASB issued SFAS No. 146, Accounting for Costs
Associated with Exit or Disposal Activities. SFAS No. 146 changes the accounting
and reporting for costs associated with exit or disposal activities, termination
benefits and other costs to exit an activity, including certain costs incurred
in a restructuring. The provisions of this statement are effective for exit or
disposal activities that are initiated after December 31, 2002, with early
application encouraged. The Company will apply this standard to transactions
arising after December 31, 2002.
In December 2002, the FASB issued SFAS No. 148, Accounting for
Stock-Based Compensation--Transition and Disclosure--an amendment of FASB
Statement No. 123. SFAS No. 148 amends SFAS No. 123, Accounting for Stock-Based
Compensation, to provide alternative methods of transition for a voluntary
change to the fair value based method of accounting for stock-based employee
compensation. In addition, SFAS No. 148 amends the disclosure requirements of
SFAS No. 123 to require prominent disclosures in both annual and interim
financial statements about the method of accounting for stock-based employee
compensation and the effect of the method used on reported results. The
transition guidance and annual disclosure provisions of SFAS No. 148 are
effective for fiscal years ending after December 15, 2002, with earlier
application permitted in certain circumstances, which for the Company is the
year ending May 31, 2003. The interim disclosure provisions are effective for
financial reports containing financial statements for interim periods beginning
after December 15, 2002, which for the Company is the quarter ending February
28, 2003.
15
WORKSTREAM INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
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:
SIX MONTHS ENDED
NOVEMBER 30, 2002
Stock options 1,542,295
Escrowed shares 1,154,204
PureCarbon contingent shares 253,807
Convertible Notes 966,667
Warrants issued with Convertible Notes 658,000
Underwriter warrants 440,000
---------
Potential increase in number of shares
from dilutive instruments 5,014,973
=========
The weighted average price of the options exercisable at November 30,
2002 was $2.80.
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.
16
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 the Company's competitors; we have no assurance
that a client will remain a long term client as we generally enter into
subscription agreements with the Company's 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 the Company's control and other factors as are
described in Item 7 (Management's Discussion and Analysis of Financial Condition
and Results of Operations) of the Company's 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. The Company disclaims any obligation or undertaking to provide
any updates or revisions to any forward-looking statement to reflect any change
in the Company's 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 six month period ended November 30, 2002. 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 six month periods ended November 30, 2002
and November 30, 2001.
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 and outplacement needs on a
single Workstream platform.
The past six months have resulted in significant changes in the
business. During the quarter ended August 31, 2002 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 six 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.
17
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 $4,975,429 for the three months ended
November 30, 2002 ("second quarter 2003") compared to $4,391,844 for the three
months ended November 30, 2001("second quarter 2002"). The growth in revenues is
attributed to the companies that we acquired during fiscal 2003. Revenues from
companies we acquired after second quarter 2002 contributed $1,561,875 during
this quarter.
Career Transition service revenues for second quarter 2003 were
$1,779,616 compared to $2,546,152 for second quarter 2002. The major reason for
the decline in Career Transition Service revenues was due to the closure of six
locations with poor sales performance. 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 Service revenues for second quarter 2003 were
$3,195,813 compared to $1,845,692 for second 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
the recruiting research and some sectors of recruiting software sales due to the
weak economy.
Consolidated revenues for six months ended November 30, 2002 were
$9,621,143 compared to $6,241,122 for the same period last year. Acquisitions
completed during the first six months of this fiscal year contributed $2,328,327
of this growth.
Pro forma revenues for the six months ended November 30, 2002 were
$10,627,891 compared to $14,809,190 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
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, the economic downturn has continued to impact our
recruiting research services. We have also closed two underperforming Career
Transition 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.
18
Management believes that the acquisitions completed in fiscal 2002 and
the first two 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 17 offices across North America.
COST OF REVENUES
Consolidated cost of revenues were $1,018,725 for second quarter 2003
compared to $846,568 for second quarter 2002. Career Transition cost of revenues
accounted for $332,950 and Enterprise Recruiting Services was $685,775 of the
total cost of revenues for the quarter. Total cost of revenues has increased due
to the acquisitions completed during the first six months of fiscal 2003.
Consolidated cost of revenues for six months ended November 30, 2002
were $1,897,722 compared to $1,429,944 for the same period last year. On a pro
forma basis, cost of revenues were $2,082,992 for six months ended November 30,
2002 compared to $5,250,092 for the same period last year. The decline in 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 $3,956,704 for second quarter 2003
compared to $3,545,276 for second quarter 2002.
Career Transition Services gross profit was $1,446,666 or 81% of Career
Transition Services revenues and Enterprise Recruiting Services gross profit
represented $1,343,607 or 78% of Enterprise Recruiting Services revenues for
second quarter 2003.
Consolidated gross profits for the six months ended November 30, 2002
were $7,723,421 compared to $4,811,178 for the same period last year. On a pro
forma basis gross profits were $8,544,899 or 80% of revenues for six months
ended November 30, 2002 compared to $9,559,098 or 65% 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.
OPERATING EXPENSES
Total operating expenses were $6,316,467 for second quarter 2003
compared to $4,501,303 for second quarter 2002. Acquisitions accounted for
$2,073,357 of the increase in total operating expense for second quarter 2003
compared to second quarter 2002. Operating expenses were $12,486,186 for six
months ended November 30, 2002 compared to $6,705,967 the same period last year.
On a pro forma basis operating expenses were $14,806,595 for the six months
ended November 30, 2002 compared to $27,288,944 for the six months ended
November 30, 2001. The elimination of redundant costs associated with the
acquisitions is the major reason for the decline in pro forma operating
expenses. The overall reduction in proforma operating expenses has resulted
primarily from the elimination of redundant costs relating to Icarian,
PureCarbon and Xylo, since November 2001.
19
SELLING AND MARKETING
Selling and marketing expenses were $1,651,329 for second quarter 2003
compared to $1,870,996 for second quarter 2002. This decrease is attributed to a
reduction in marketing management and advertising expense. Advertising expense
has been reduced primarily in the recruiting segment, by implementing a more
direct sales approach, versus an indirect approach used in prior management of
the acquired operations.
Consolidated selling and marketing expenses for the six months ended
November 30, 2002 were $3,702,478 compared to $2,881,723 for the same period in
2001. The increase is due to the acquisitions completed during fiscal 2003,
partially offset by the reduction in marketing management and advertising
mentioned above.
On a pro forma basis, selling and marketing expenses were $3,904,083
for six months ended November 30, 2002 compared to $10,702,608 for the six
months ended November 30, 2001. 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 the decline in revenues occurred in some
of the acquired companies from the prior year.
GENERAL AND ADMINISTRATIVE
General and administrative expenses were $2,510,700 for second quarter
2003 compared to $2,050,783 for second quarter 2002. The increase of $459,917
reflected increased costs related to the acquisitions made in fiscal 2003. The
acquisitions completed during fiscal 2003 contributed $442,957 of the increase
over the prior year.
For the six months ended November 30, 2002 consolidated general and
administrative expenses were $5,064,644 compared to $2,585,579 for the same
period last year. On a pro forma basis, general and administrative expenses were
$5,981,245 for the six months ended November 30, 2002 compared to $5,877,865 for
the same period last year. Reductions in general and administrative cost are
expected as redundant costs such as space that is associated with acquisitions
completed in fiscal 2003 are eliminated.
RESEARCH AND DEVELOPMENT
Research and development costs were $412,339 for second quarter 2003
compared to $189,846 for second quarter 2002. Acquisitions during fiscal 2003
contributed $256,587 of the overall increase compared to prior year.
For the six months ended November 30, 2002 consolidated research and
development costs were $720,579 compared to $534,909 for the same period last
year. The acquisitions completed during fiscal 2003 accounted for $441,207 in
research and development costs. On a pro forma basis, research and development
expenses were $1,185,306 for the six months ended November 2002 compared to
$4,548,818 for the same period last year. Significant reductions have been made
in research and development staff, most notably in the Icarian acquisition.
DEPRECIATION/AMORTIZATION EXPENSE
Depreciation and amortization expenses were $1,742,119 for second
quarter 2003 compared to $389,678 for second quarter 2002. Amortization of
acquired intangibles arising from acquisitions accounted for most of the
increase in amortization.
Consolidated depreciation and amortization expenses for the six months
ended November 30, 2002 were $2,998,485 compared to $703,756 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 $3,664,824 for six months ended
November 2002 compared to $4,841,488 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.
20
INTEREST INCOME/EXPENSE
Interest income was $23,595 for second quarter 2003 compared to $38,522
for second quarter 2002. Interest income was $36,527 for six months ended
November 2002 compared to $100,987 for the same period last year. The decline
for the six months ended November 30, 2002 was primarily due to the reduction in
short-term investments and the decline in interest rates.
Interest expense was $183,634 and $342,242 for the three and six months
ended November 30, 2002 respectively. Interest expense was $27,152 and $66,753
for the three and six months ended November 30, 2001 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 should the notes not be converted into equity securities.
LIQUIDITY AND CAPITAL RESOURCES
At November 30, 2002, we had $2,517,523 in cash, cash equivalents,
restricted cash and short-term investments. We have made significant investment
in acquiring new service lines which has reduced available cash. Furthermore,
capital requirements have exceeded cash flows from operations in the quarter. At
November 30, 2002, $2,292,481 of these 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, 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 six months ended November 30, 2002, cash used in operations
totaled $2,585,204, consisting primarily of the net loss for the period of
$4,272,848, offset by non-cash expenses such as depreciation, amortization, and
non-cash interest. Our working capital deficiency increased to $5,207,507 as at
November 30, 2002, an increase of $3,530,905 from May 31, 2002 as a result of
the cash used in operations and the remaining balance of a provision of $738,509
made for exit costs for employee severance and elimination of office space
related to the Icarian acquisition.
Net cash provided by investing activities during the six months ended
November 30, 2002, was $1,876,210. Cash acquired in the Icarian and Xylo
acquisitions of $1,921,028 provided the cash from investing activities.
Net cash used by financing activities was $376,872 for the six months
ended November 30, 2002. Financing outflows consisted primarily of the repayment
of capital leases of $230,036, repayment of a loan to a shareholder of an
acquired company of $256,000 and the repayment of a bank line of credit of
$168,962.
We have had operating losses since our inception and have had negative
cash flow from operations for the six months ended November 30, 2002. However,
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. Mr. Mullarkey, our Chief Executive Officer, has loaned us an
additional $200,000 in December 2002 and $300,000 in January 2003. The
additional loans will be consolidated into a term loan maturing five years after
the completion and execution of the necessary loan documentation. The
consolidated term loan will also include $750,000, plus interest, previously
loaned to us by Mr. Mullarkey in fiscal 2002. The consolidated term loan will be
secured by certain accounts receivable and certain fixed assets, subject to the
consent of certain other creditors, and will bear interest at 8.0% per annum.
Under the consolidated term loan, we will be required to make monthly interest
only payments during the first 24 months and monthly interest and principal
payments thereafter. The total amount of the consolidated term loan will be
$1,284,932. 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, subject to completion of documentation satisfactory to
us and Mr. Mullarkey. 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 the Company will mutually agree on a definitive plan regarding
his deferred compensation. This deferral is subject to approval of the Board of
Directors. Management believes these additional loans and credit facility
provided by Mr. Mullarkey, and the changes made in fiscal 2002 and for the first
half 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 November 30, 2003.
21
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 $5,200,432 in
goodwill from the acquisition. In total, we will incur approximately $1.1
million in exit costs which are primarily associated with severance pay and
facility closure costs to integrate the Icarian acquisition. As at November 30,
2002 a balance of $738,509 remains in liabilities regarding these 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
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
$270,516 in goodwill from the acquisition.
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 from the acquisition.
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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 a revolving line of credit with SunTrust Bank, which bears
interest at a rate of 2.89%, the rate of return on the short-term investments
provided as collateral plus 1.5%. As of November 30, 2002, $992,892 had been
drawn on the line of credit. The Sun Trust line of credit was fully repaid in
December 2002 by releasing amounts previously pledged as collateral to SunTrust
Bank. We have also established a CDN$1,000,000 line of credit with the Bank of
Montreal which bears interest at 5.50%. We have drawn CDN$826,814 on this
facility as of November 30, 2002. We can draw an additional CDN$3,186 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 November 30, 2002 would have been less
than $10,000.
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 a decrease in the
reported net asset position of approximately $195,000.
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.
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PART II - OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
On September 13, 2002, we acquired 100% of the outstanding shares of
Xylo, Inc. via the merger of Workstream Acquisition II, Inc., a wholly-owned
subsidiary of ours, with and into Xylo, Inc. As consideration for the
acquisition, we issued the former shareholders of Xylo 702,479 of our common
shares valued at approximately $1.7 million. The common shares were sold to the
former shareholders of Xylo, 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.
At our annual and special meeting of shareholders on November 7, 2002,
our shareholders voted to authorize an amendment to our Articles of
Incorporation to provide for the creation of an unlimited number of Class A
Preferred Shares, no par value per share (the "Class A Preferred Shares"), and
an unlimited number of Series A Convertible Preferred Shares, no par value per
share (the "Series A Shares").
As a result of the amendment to our Articles of Incorporation, our
Board of Directors is authorized, without further action by our shareholders, to
issue Class A Preferred Shares in one or more series and to set the number of
shares, the designation and rights to be attached to the shares of such series.
In addition, the Class A Preferred Shares are entitled to priority over the
common shares in the distribution of assets in the event of our liquidation,
dissolution or winding-up, or any other distribution of our assets among our
shareholders for the purpose of winding-up our affairs. As of November 30, 2002,
there were no Class A Preferred Shares issued and outstanding.
On April 18, 2002 and May 14, 2002, we sold Sands Brothers Venture
Capital III LLC, Crestview Capital Fund, L.P. and their respective affiliated
entities an aggregate of $2,900,000 principal amount of our 8% Senior
Subordinated Convertible Notes. The notes are convertible into our newly created
Series A Shares at a conversion price of $100 per share, subject to adjustment
upon the occurrence of certain events. As of November 30, 2002, there were no
Series A Shares issued and outstanding.
When issued, the Series A Shares will have certain rights which are
senior to the common shares. The holders of Series A Share have the right to
receive, if declared by the Board of Directors, non-cumulative dividends of $8
per Series A Share per year. In addition, upon liquidation, dissolution or other
similar events, the holders of Series A Shares are entitled to receive
distributions before the holders of the common shares. In such event, the
holders of Series A Shares are entitled to receive an amount equal to two times
the original issue price of the Series A Shares ($100) for each Series A Share
held (subject to adjustment), plus all declared but unpaid dividends on the
Series A Shares. If after such distributions are made there are any remaining
funds, such funds will be distributed to the holders of the Class A Preferred
Shares and our common shares, ratably.
The holders of the Series A Shares may also delay or prevent us from
effecting certain transactions because the approval of at least two-thirds of
the outstanding Series A Shares, voting separately as a class, may be required
to effect the transaction. For instance, approval of the holders of the Series A
Shares is required for us to (a) engage in any fundamental transaction, such as
a merger or a sale of substantially all of our assets, (b) authorize or issue
any securities having liquidation or dividend rights superior to or on a parity
with the Series A Shares, or (c) declare or pay any dividend on any security or
redeem any shares, subject to certain exceptions. The holders of the Series A
Shares, voting separately as a class, are also entitled to elect one additional
director to our Board of Directors. The holders of the Series A Shares also vote
together with the holders of the common shares on all matters which are
submitted to a vote of the shareholders on the basis of one vote for each common
share issuable upon conversion of the Series A Shares, subject to certain
limitations on the maximum number of votes for each Series A Share.
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The common shares may be diluted if the Series A Share are converted
into common shares. The number of common shares into which each Series A Share
is convertible is determined by dividing the original issue price of the Series
A Shares ($100) by a conversion price of $3.00 per share. The conversion price
gets adjusted to avoid dilution as a result of certain events such as a stock
split or an issuance of common shares or equivalents below the conversion price
then in effect. The conversion price also gets adjusted for any declared but
unpaid dividends on the Series A Shares. Finally, the conversion price cannot
exceed 80% of the market price of the common shares for the five day period
immediately preceding conversion. However, shareholder approval is required if
the aggregate number of common shares issued upon conversion of the Series A
Shares exceeds certain thresholds.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
At the Company's annual and special meeting of shareholders on November
7, 2002, the shareholders of the Company voted on the following matters:
1. The authorization of the Board of Directors of the Company
to fix the remuneration of the Company's auditors;
2. The approval of amendments to the Company's 2001 Amended
and Restated Stock Option Plan to increase the number of shares authorized under
the plan from 2,500,000 to 3,000,000;
3. The approval of an amendment to the Company's Articles of
Incorporation to create an unlimited number of Class A Preferred Shares;
4. The approval of the minutes of the Annual Meeting of
Shareholders of October 3, 2001 and the Special Meeting of Shareholders of
November 6, 2001;
5. The election of a Board of Directors consisting of six
directors, with each director to serve until the next annual meeting of
shareholders or until the election and qualification of his respective
successor; and
6. The ratification of the appointment of
PricewaterhouseCoopers LLP as auditors of the Company.
The shareholders authorized the Board of Directors of the Company to
fix the remuneration of the Company's auditors. The results of the voting were:
7,092,895 For; 5,615 Against; and 2,300 Abstentions.
The shareholders approved amendments to the Company's 2001 Amended and
Restated Stock Option Plan to increase the number of shares authorized under the
plan from 2,500,000 to 3,000,000. The results of the voting were: 7,085,390 For;
11,420 Against; and 4,000 Abstentions.
The shareholders approved an amendment to the Articles of Incorporation
to create an unlimited number of Class A Preferred Shares. The results of the
voting were: 7,042,049 For; 27,704 Against; and 31,057 Abstentions.
The shareholders approved the meeting minutes of the Annual Meeting of
Shareholders of October 3, 2001 and the Special Meeting of Shareholders of
November 6, 2001. The results of the voting were: 7,086,154 For; 4,415 Against;
and 10,241 Abstentions.
25
All six nominees for director recommended by management were elected.
The shareholders elected Michael Mullarkey, Thomas Danis, Matthew Ebbs, Michael
Gerrior, Arthur Halloran and Cholo Manso as directors of the Company. The
results of the voting were: 7,083,647 For; 579 Against; and 16,584 Abstentions.
The shareholders ratified the appointment of PricewaterhouseCoopers LLP
as auditors of the Company. The results of the voting were: 7,084,226 For; 1,500
Against; and 15,084 Abstentions.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit No. Description
----------- -----------
3.1 Articles of Incorporation, as amended (incorporated by
reference to Exhibit 3.1 to the Registration Statement
on Form F-1 (File No. 333-87537).
3.2 Articles of Amendment, dated July 26, 2001
(incorporated by reference to Exhibit 1.2 of Form 20-F
of Workstream Inc. for the fiscal year ended May 31,
2001).
3.3 Articles of Amendment, dated November 6, 2001
(incorporated by reference to Exhibit 1.3 of Form 20-F
of Workstream Inc. for the fiscal year ended May 31,
2001).
3.4 Articles of Amendment dated November 7, 2002
(incorporated by reference to Exhibit 3.1 to the
Registration Statement on Form F-3 (File No.
333-101502).
10.1 Workstream Inc. 2002 Amended and Restated Stock Option
Plan.
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
We filed the following reports on Form 8-K during the last quarter of
the period covered by this report:
(1) Current Report on Form 8-K with respect to Item 5 filed on
October 16, 2002; and
(2) Current Report on Form 8-K with respect to Item 5 filed on
October 18, 2002.
26
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: January 14, 2003 By: /s/ Michael Mullarkey
----------------------------------------------
Michael Mullarkey,
Chairman of the Board and Chief Executive Officer
(Principal Executive Officer)
DATE: January 14, 2003 By: /s/ Paul Haggard
---------------------------------------------
Paul Haggard,
Chief Financial Officer and Secretary
(Principal Financial Officer)
27
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: January 14, 2003 /s/ Michael Mullarkey
-------------------------
Michael Mullarkey
Chief Executive Officer
28
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.
Date: January 14, 2003 /s/ Paul Haggard
---------------------------------
Paul Haggard
Chief Financial Officer
29