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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[x] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the quarterly period ended September 30, 2004 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 000-21465
TALX CORPORATION
(Exact name of registrant as specified in its charter)
MISSOURI 43-0988805
(State or other jurisdiction of incorporation (I.R.S. Employer
or organization) Identification No.)
1850 BORMAN COURT, ST. LOUIS, MO 63146
(Address of principal executive offices) (Zip Code)
(314) 214-7000
(Registrant's telephone number,
including area code)
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. [x] Yes [ ]No
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). [x] Yes [ ]No
As of October 28, 2004 there were 13,757,682 shares of the Registrant's Common
Stock outstanding, net of treasury shares held by the Registrant.
Exhibit Index is on page 37.
TALX CORPORATION AND SUBSIDIARIES
TABLE OF CONTENTS
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements:
Consolidated Balance Sheets as of March 31, 2004 and September 30, 2004...................... 3
Consolidated Statements of Earnings for the Three and Six Months Ended
September 30, 2003 and 2004.................................................................. 4
Consolidated Statements of Cash Flows for the Three and Six Months Ended
September 30, 2003 and 2004.................................................................. 5
Notes to Unaudited Consolidated Financial Statements ........................................ 6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations .......... 14
Item 3. Quantitative and Qualitative Disclosures about Market Risk ..................................... 33
Item 4. Controls and Procedures ........................................................................ 33
PART II - OTHER INFORMATION
Item 1. Legal Proceedings .............................................................................. 34
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds .................................... 34
Item 4. Submission of Matters to a Vote of Security Holders............................................. 34
Item 6. Exhibits ....................................................................................... 35
Signatures ........................................................................................... 36
2
TALX CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(dollars in thousands, except share information)
MARCH 31, SEPTEMBER 30,
2004 2004
---- ----
(UNAUDITED)
ASSETS
Current assets:
Cash and cash equivalents $ 8,568 $ 3,762
Short term investments 1,475 7,105
Accounts receivable, net 15,456 17,349
Work in progress, less progress billings 1,714 1,697
Prepaid expenses and other current assets 10,406 4,557
Deferred tax assets, net 30 248
--------- ---------
Total current assets 37,649 34,718
Restricted cash 38,645 -
Property and equipment, net 8,966 10,779
Capitalized software development costs, net 3,186 3,213
Goodwill 106,739 124,157
Other intangibles, net 17,387 38,791
Other assets 1,418 1,292
--------- ---------
$ 213,990 $ 212,950
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 1,374 $ 1,379
Accrued expenses and other current liabilities 16,794 14,870
Dividends payable 682 824
Current portion of long term debt 10,000 10,000
Deferred revenue 2,803 3,510
--------- ---------
Total current liabilities 31,653 30,583
Deferred tax liabilities, net 5,912 6,886
Long term debt, less current portion 40,000 35,000
Other non-current liabilities 2,608 2,580
--------- ---------
Total liabilities 80,173 75,049
--------- ---------
Commitments and contingencies
Shareholders' equity:
Preferred stock, $.01 par value; authorized 5,000,000 shares and no
shares issued or outstanding at March 31, 2004 and September 30, 2004 - -
Common stock, $.01 par value; authorized 30,000,000 shares, issued
13,948,542 shares at March 31, 2004 and September 30, 2004 140 140
Additional paid-in capital 163,190 163,546
Accumulated deficit (25,536) (22,761)
Accumulated other comprehensive income:
Unrealized loss on interest rate swap contract, net of tax of $33
at March 31, 2004 and $151 at September 30, 2004 (51) (232)
Treasury stock, at cost, 301,041 shares at March 31, 2004 and
211,825 shares at September 30, 2004 (3,926) (2,792)
--------- ---------
Total shareholders' equity 133,817 137,901
--------- ---------
$ 213,990 $ 212,950
========= =========
See accompanying notes to consolidated financial statements.
3
TALX CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
(dollars in thousands, except share information)
(unaudited)
THREE MONTHS ENDED SEPTEMBER 30, SIX MONTHS ENDED SEPTEMBER 30,
------------------------------ -----------------------------
2003 2004 2003 2004
---- ---- ---- ----
Revenues:
The Work Number services $ 11,627 $ 14,188 $ 22,570 $ 28,605
Unemployment cost management services 18,701 21,662 36,885 42,562
Maintenance and support 1,220 780 2,235 1,524
------------ ------------ ------------ ------------
Total revenues 31,548 36,630 61,690 72,691
------------ ------------ ------------ ------------
Cost of revenues:
The Work Number services 3,093 3,931 6,426 8,123
Unemployment cost management services 10,035 10,873 19,759 22,007
Maintenance and support 328 232 659 464
------------ ------------ ------------ ------------
Total cost of revenues 13,456 15,036 26,844 30,594
------------ ------------ ------------ ------------
Gross profit 18,092 21,594 34,846 42,097
------------ ------------ ------------ ------------
Operating expenses:
Selling and marketing 5,895 6,618 11,920 13,638
General and administrative 6,623 7,779 12,639 15,449
------------ ------------ ------------ ------------
Total operating expenses 12,518 14,397 24,559 29,087
------------ ------------ ------------ ------------
Operating income 5,574 7,197 10,287 13,010
------------ ------------ ------------ ------------
Other income (expense), net:
Interest income 13 33 37 56
Interest expense (239) (734) (534) (1,283)
Reserve for contingent claim - - - (3,000)
Other, net 1 (1) 4 (1)
------------ ------------ ------------ ------------
Total other income (expense), net (225) (702) (493) (4,228)
------------ ------------ ------------ ------------
Earnings from continuing operations before
income tax expense 5,349 6,495 9,794 8,782
Income tax expense 2,086 2,565 3,796 4,654
------------ ------------ ------------ ------------
Earnings from continuing operations 3,263 3,930 5,998 4,128
Discontinued operations, net of income taxes:
Earnings from discontinued operations, net 22 23 100 7
Gain on disposal of discontinued operations, net - 106 - 280
------------ ------------ ------------ ------------
Earnings from discontinued operations 22 129 100 287
------------ ------------ ------------ ------------
Net earnings $ 3,285 $ 4,059 $ 6,098 $ 4,415
============ ============ ============ ============
Basic earnings per share:
Continuing operations $ 0.24 $ 0.29 $ 0.44 $ 0.30
Discontinued operations - 0.01 0.01 0.02
------------ ------------ ------------ ------------
Net earnings $ 0.24 $ 0.30 $ 0.45 $ 0.32
============ ============ ============ ============
Diluted earnings per share:
Continuing operations $ 0.23 $ 0.27 $ 0.42 $ 0.29
Discontinued operations - 0.01 0.01 0.02
------------ ------------ ------------ ------------
Net earnings $ 0.23 $ 0.28 $ 0.43 $ 0.31
============ ============ ============ ============
Weighted average number of shares outstanding - basic 13,528,326 13,732,393 13,518,042 13,701,345
============ ============ ============ ============
Weighted average number of shares outstanding - diluted 14,300,567 14,353,299 14,162,222 14,346,777
============ ============ ============ ============
See accompanying notes to consolidated financial statements.
4
TALX CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(dollars in thousands)
(unaudited)
SIX MONTHS ENDED SEPTEMBER 30,
-----------------------------
2003 2004
---- ----
Cash flows from operating activities:
Net earnings $ 6,098 $ 4,415
Adjustments to reconcile net earnings to net
cash provided by operating activities:
Depreciation and amortization 4,012 5,074
Deferred taxes 927 756
Net assets of business held for sale (101) -
Change in assets and liabilities, excluding those acquired:
Accounts receivable, net 1,690 (823)
Work in progress, less progress billings (456) 17
Prepaid expenses and other current assets (428) 6,100
Other assets (3) 78
Accounts payable (627) 5
Accrued expenses and other current liabilities 171 (2,519)
Deferred revenue (297) (1,213)
Other non-current liabilities (72) (81)
-------- --------
Net cash provided by operating activities 10,914 11,809
-------- --------
Cash flows from investing activities:
Additions to property and equipment (2,242) (3,734)
Decrease in restricted cash - 38,645
Acquisitions, net of cash received (1,626) (39,891)
Purchases of short-term investments (3,975) (5,630)
Proceeds from sale of short-term investments 1,700 -
Capitalized software development costs (501) (997)
-------- --------
Net cash used in investing activities (6,644) (11,607)
-------- --------
Cash flows from financing activities:
Issuance of common stock 1,113 1,359
Purchase of common stock (1,795) -
Repayments under long-term debt facility (8,263) (5,000)
Dividends paid (1,080) (1,367)
-------- --------
Net cash used in financing activities (10,025) (5,008)
-------- --------
Net decrease in cash and cash equivalents (5,755) (4,806)
Cash and cash equivalents at beginning of period 9,409 8,568
-------- --------
Cash and cash equivalents at end of period $ 3,654 $ 3,762
======== ========
See accompanying notes to consolidated financial statements.
5
TALX CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - BASIS OF PRESENTATION
Our consolidated balance sheet at March 31, 2004 was obtained from our audited
balance sheet as of that date, as set forth in our Annual Report on Form 10-K
for the year ended March 31, 2004. All other financial statements contained
herein are unaudited and, in the opinion of management, contain all adjustments
(consisting of normal recurring accruals) considered necessary for a fair
presentation. Operating results for the three and six months ended September 30,
2004 are not necessarily indicative of the results that may be expected for the
year ending March 31, 2005. Our accounting policies and certain other
disclosures are set forth in the notes to our audited consolidated financial
statements as of and for the year ended March 31, 2004.
NOTE 2 - EARNINGS PER SHARE AND STOCK-BASED COMPENSATION
Basic earnings per share is computed using the weighted average number of common
shares outstanding during the period. Diluted earnings per share reflects the
incremental increase in common shares outstanding assuming the exercise of all
employee stock options and warrants that would have had a dilutive effect on
earnings per share. The weighted average number of shares is based on common
stock outstanding for basic earnings per share and common stock outstanding and
common stock options and warrants for diluted earnings per share in periods when
such common stock options and warrants are not antidilutive.
THREE MONTHS ENDED SEPTEMBER 30, SIX MONTHS ENDED SEPTEMBER 30,
------------------------------- -----------------------------
2003 2004 2003 2004
------------ ------------ ------------ ------------
BASIC EARNINGS PER SHARE:
Net earnings:
Continuing operations............................... $ 3,263,000 $ 3,930,000 $ 5,998,000 $ 4,128,000
Discontinued operations............................. 22,000 129,000 100,000 287,000
------------ ------------ ------------ ------------
Net earnings $ 3,285,000 $ 4,059,000 $ 6,098,000 $ 4,415,000
============ ============ ============ ============
Weighted average number of common shares outstanding.. 13,948,542 13,948,542 13,948,542 13,948,542
Less: weighted average number of treasury shares...... (420,216) (216,149) (430,500) (247,197)
------------ ------------ ------------ ------------
Weighted average number of common and common
equivalent shares outstanding..................... 13,528,326 13,732,393 13,518,042 13,701,345
============ ============ ============ ============
Basic earnings per common share:
Continuing operations............................... $ 0.24 $ 0.29 $ 0.44 $ 0.30
Discontinued operations............................. - 0.01 0.01 0.02
------------ ------------ ------------ ------------
Net earnings...................................... $ 0.24 $ 0.30 $ 0.45 $ 0.32
============ ============ ============ ============
6
THREE MONTHS ENDED SEPTEMBER 30, SIX MONTHS ENDED SEPTEMBER 30,
------------------------------- -----------------------------
2003 2004 2003 2004
---- ---- ---- ----
DILUTED EARNINGS PER SHARE:
Net earnings:
Continuing operations ................................. $ 3,263,000 $ 3,930,000 $ 5,998,000 $ 4,128,000
Discontinued operations ............................... 22,000 129,000 100,000 287,000
------------ ------------ ------------ ------------
Net earnings ........................................ $ 3,285,000 $ 4,059,000 $ 6,098,000 $ 4,415,000
============ ============ ============ ============
Weighted average number of common shares outstanding ........ 13,948,542 13,948,542 13,948,542 13,948,542
Weighted average of shares issuable under employee
stock plans.................................................. 6,795 6,751 10,947 6,751
Dilutive effect of the exercise of stock options ............ 729,198 578,690 599,215 602,906
Dilutive effect of the exercise of warrants ................. 36,248 35,465 34,018 35,775
Less: weighted average number of treasury shares ............ (420,216) (216,149) (430,500) (247,197)
------------ ------------ ------------ ------------
Weighted average number of common and common
equivalent shares outstanding ....................... 14,300,567 14,353,299 14,162,222 14,346,777
============ ============ ============ ============
Diluted earnings per common share:
Continuing operations ................................. $ 0.23 $ 0.27 $ 0.42 $ 0.29
Discontinued operations ............................... - 0.01 0.01 0.02
------------ ------------ ------------ ------------
Net earnings ........................................ $ 0.23 $ 0.28 $ 0.43 $ 0.31
============ ============ ============ ============
We have historically accounted for stock-based compensation using the intrinsic
value method in accordance with Accounting Principles Board (APB) Opinion No.
25, "Accounting for Stock Issued to Employees," and related interpretations, as
permitted by Financial Accounting Standards Board Statement of Financial
Accounting Standards ("SFAS") No. 123, "Accounting for Stock-Based
Compensation."
Since all of our options are granted with an option price equal to the market
price at the time of grant, we have not recognized any stock-based employee
compensation cost under our stock option plans. SFAS No. 123 requires pro forma
disclosure of the impact on earnings as if the compensation expense for these
plans had been determined using the fair value method. Compensation cost is
calculated on a straight line basis. The following table presents our net
earnings and earnings per share as reported and the pro forma amounts that would
have been reported using the fair value method under SFAS 123 for the periods
presented:
THREE MONTHS ENDED SEPTEMBER 30, SIX MONTHS ENDED SEPTEMBER 30,
------------------------------- -----------------------------
2003 2004 2003 2004
---- ---- ---- ----
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Net earnings, as reported ............................. $ 3,285 $ 4,059 $ 6,098 $ 4,415
Stock-based employee compensation cost, net of taxes... 405 277 813 721
--------- --------- --------- ----------
Net earnings, pro forma ............................ $ 2,880 $ 3,782 $ 5,285 $ 3,694
========= ========= ========= ==========
Basic earnings per share:
As reported ........................................ $ 0.24 $ 0.30 $ 0.45 $ 0.32
Pro forma .......................................... 0.21 0.28 0.39 0.27
Diluted earnings per share:
As reported ........................................ $ 0.23 $ 0.28 $ 0.43 $ 0.31
Pro forma .......................................... 0.20 0.26 0.37 0.26
No options were granted in the second quarter of fiscal 2005. The fair value of
options granted in the first quarter of fiscal 2005 was estimated on the date of
the grant using the Black-Scholes option-pricing model with the following
weighted-average assumptions: expected volatility of 65%, risk-free interest
rate of 3.75%, expected life of 7.0 years, and an expected dividend yield of
0.90%. The fair value of option grants for the three- and six-month periods
ended September 30, 2003 was estimated on the date of the grant using the
Black-Scholes option-pricing model with
7
the following weighted-average assumptions: expected volatility of 80%,
risk-free interest rate of 3.25%, expected life of 7.5 years, and an expected
dividend yield of 0.90%.
NOTE 3 - COMPREHENSIVE INCOME
Comprehensive income for the three months ended September 30, 2003 and 2004 was
$3.4 million and $3.9 million, respectively, and for the six months ended
September 30, 2003 and 2004 was $6.2 million and $4.2 million, respectively. The
difference between comprehensive income and net income arose from unrealized
holding gains (losses) on our interest rate swap contract.
NOTE 4 - SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash paid for income taxes totaled $2.9 million and $3.7 million for the six
months ended September 30, 2003 and 2004, respectively. Cash paid for interest
totaled $467,000 and $1.1 million for the six months ended September 30, 2003
and 2004, respectively.
We declared a $0.06 per share cash dividend, totaling $824,000, on September 9,
2004. The dividend was payable October 15, 2004 to shareholders of record on
September 20, 2004.
NOTE 5 - ACQUISITION
Effective April 1, 2004, we acquired substantially all of the assets and assumed
certain liabilities of the unemployment compensation, employment verification
and applicant screening businesses (collectively, the "Sheakley Businesses") of
Sheakley-Uniservice, Inc. and its wholly owned subsidiary, Sheakley Interactive
Services, LLC, for approximately $40 million, including transaction costs,
subject to certain post-closing adjustments. The purchase price was determined
based on arms'-length negotiations and was paid in cash. In order to finance the
acquisition, we borrowed approximately $40 million under our Term Loan A, as
further discussed in Note 8 below. As a result of this transaction, the Sheakley
Businesses were consolidated with TALX effective April 1, 2004.
The following table summarizes the preliminary purchase price allocation of the
estimated fair value of the assets acquired and liabilities assumed for the
acquired Sheakley Businesses as of April 1, 2004, the effective date of the
acquisition.
(IN THOUSANDS)
Accounts receivable, net................................... $ 1,304
Other current assets....................................... 17
Property and equipment, net................................ 665
Goodwill and intangible assets............................. 40,193
Other non-current assets................................... 75
---------
Total assets acquired................................... 42,254
---------
Deferred revenue........................................... 1,920
Current liabilities........................................ 393
Other non-current liabilities.............................. 53
---------
Total liabilities assumed............................... 2,366
---------
Net assets acquired..................................... $ 39,888
=========
8
The table below reflects unaudited pro forma combined results of TALX and the
Sheakley Businesses as if the acquisition had occurred on April 1, 2003:
THREE MONTHS ENDED SEPTEMBER 30, SIX MONTHS ENDED SEPTEMBER 30,
------------------------------- -----------------------------
2003 2004 2003 2004
---- ---- ---- ----
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Revenues................................... $ 36,029 $ 36,630 $ 71,422 $ 72,691
Net earnings............................... 3,551 4,059 6,922 4,415
Basic earnings per share................... 0.26 0.30 0.51 0.32
Diluted earnings per share................. 0.25 0.28 0.49 0.31
These unaudited pro forma amounts are not necessarily indicative of what the
actual combined results of operations might have been if the acquisition had
been effective at the beginning of fiscal year 2004.
NOTE 6 - GOODWILL AND OTHER INTANGIBLE ASSETS
In connection with the acquisitions of the Sheakley Businesses, as discussed in
Note 5 above; Ti3, Inc.; Johnson & Associates; the unemployment cost management
services business (the "GM Unemployment Compensation Business") of Gates,
McDonald & Company, a subsidiary of Nationwide Mutual Insurance Company; and
James E. Frick, Inc., d/b/a The Frick Company, TALX acquired certain
identifiable intangible assets. These assets were recorded in accordance with
the Financial Accounting Standards Board Statement of Financial Accounting
Standards ("SFAS") No. 141, "Business Combinations."
Effective April 1, 2002, we adopted SFAS No. 142, "Goodwill and Other Intangible
Assets." SFAS No. 142 addresses the initial recognition and measurement of
intangible assets acquired outside of a business combination and the accounting
for goodwill and other intangible assets subsequent to their acquisition. SFAS
No. 142 provides that intangible assets with finite useful lives be amortized
and that goodwill and intangible assets with indefinite lives will not be
amortized, but will rather be tested at least annually for impairment. Through
the use of an independent business appraiser, we reviewed our goodwill and
intangible assets as of December 31, 2003 and determined that no impairment
existed.
The following table summarizes goodwill and other intangible asset activity for
the six months ended September 30, 2004 (dollars in thousands).
OTHER INTANGIBLE ASSETS
--------------------------------------------------------
CUSTOMER CUSTOMER NON-
GOODWILL RELATIONSHIPS RECORDS COMPETE TOTAL
-------- ------------- ------- ------- -----
GROSS CARRYING VALUES:
March 31, 2004 .................................. $ 106,739 $ 17,838 $ 2,184 $ 212 $ 20,234
Acquisition of the Sheakley Businesses ........ 17,432 22,100 -- 700 22,800
Adjustment of prior acquisition costs ...... (14) -- -- -- --
--------- --------- --------- --------- ---------
September 30, 2004 .............................. $ 124,157 $ 39,938 $ 2,184 $ 912 $ 43,034
========= ========= ========= ========= =========
ACCUMULATED AMORTIZATION:
March 31, 2004 .................................. $ -- $ 2,415 $ 293 $ 139 $ 2,847
Amortization .................................. -- 1,253 73 70 1,396
--------- --------- --------- --------- ---------
September 30, 2004 .............................. $ -- $ 3,668 $ 366 $ 209 $ 4,243
========= ========= ========= ========= =========
Weighted average lives (in years) .................. 16.04 15.00 8.26 15.82
========= ========= ========= =========
Amortization of other intangible assets was $1.4 million for the six months
ended September 30, 2004 and is projected to be $2.8 million for the fiscal year
ended March 31, 2005 and $2.7 million for each of the fiscal years ended March
31, 2006 through 2009.
9
NOTE 7 - LONG-TERM DEBT
During the quarter ended September 30, 2004, we amended our amended and restated
loan agreement in order to increase our dividend, to allow for the SEC
settlement discussed below, and in connection with our acquisitions of TBT
Enterprises, Incorporated, UI Advantage, Inc. and Net Profit Inc. Among other
things, the amendments increased the maximum amount of permitted cash dividends
to six cents per share per calendar quarter, without increasing the annual
maximum permitted amount of $3.5 million per fiscal year. The amendments also
extended the period of time during which we could make additional draws under
Term Loan A and Term Loan B from September 30, 2004 to December 31, 2004. See
Note 11 for more information regarding availability under the Loan Agreement at
October 25, 2004.
As discussed in Note 9 below, the SEC is investigating certain of our prior
financial statements, which have previously been restated. The amendments to our
Loan Agreement permit us to make payment of up to $3.0 million in settlement of
the SEC investigation. Due to the inherent uncertainties of matters of this
nature, we cannot predict the ultimate outcome of the SEC investigation. If we
are not able to reach a settlement, the SEC could initiate regulatory
proceedings or an enforcement action against us. An unfavorable outcome could
trigger an event of default under our Loan Agreement and could have a material
adverse impact on our business, consolidated financial condition, liquidity and
results of operations.
NOTE 8 - DERIVATIVE FINANCIAL INSTRUMENT
We have entered into two interest rate swap agreements designed to effectively
fix the interest rate on $23.5 million of borrowings under our $45.0 million
borrowed under Term Loan A. Under these agreements, we pay a fixed rate of 3.45%
as to $4.5 million of borrowings and 3.72% as to $19.0 million of borrowings and
receive a variable rate of LIBOR, which is equal to the LIBOR rate utilized on
Term Loan A. The notional amounts of our interest rate swap agreements step down
according to the same schedule as our Term Loan. All payment dates and maturity
dates are the same as our term loan.
The interest rate swaps and related gains and losses arising on the contracts
are accounted for as cash flow hedges in accordance with SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities." Specifically,
changes in the fair value of derivative instruments designated as cash flow
hedges are deferred and recorded in other comprehensive income. These deferred
gains or losses are recognized in income when the transactions being hedged are
completed.
As of September 30, 2004, the fair value of the interest rate swaps in the
amount of $383,000 is included in accrued expenses and other liabilities.
We do not use financial instruments for trading or speculative purposes.
NOTE 9 - COMMITMENTS AND CONTINGENCIES
We are a defendant from time to time in lawsuits. Except to the extent described
below, based on information currently available, we believe that no current
proceedings, individually or in the aggregate, will have a material adverse
effect upon us or our consolidated subsidiaries.
As previously disclosed in our Annual Report on Form 10-K for the year ended
March 31, 2004 and in our Quarterly Report on Form 10-Q for the quarter ended
June 30, 2004, on December 26, 2001, a purported class action lawsuit was filed
in the United States District Court for the Eastern District of Missouri (Civil
Action No. 4:01CV02014DJS) by Matt L. Brody, an alleged shareholder of TALX,
against TALX, certain of our executive officers and directors (William W.
Canfield, Craig N. Cohen and Richard F. Ford) (collectively, the "Individual
Defendants"), and two underwriters (Stifel, Nicolaus & Company, Incorporated and
A.G. Edwards & Sons, Inc.) in our August 2001 secondary common stock offering
("Secondary Offering"). The case purportedly is brought on behalf of all persons
who purchased or otherwise acquired shares of Company common stock between July
18, 2001 and October 1, 2001 ("Putative Class Period"), including as part of the
Secondary Offering. The complaint alleges, among other things, that certain
statements in the registration statement and prospectus for the Secondary
Offering,
10
as well as other statements made by us and/or the Individual Defendants during
the Putative Class Period, were materially false and misleading because they
allegedly did not properly account for certain software and inventory, did not
reflect certain write-offs, and did not accurately disclose certain business
prospects. The complaint alleges violations of Sections 10(b) and 20(a) of the
Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder against
TALX and the Individual Defendants, violations of Section 11 of the Securities
Act of 1933 against TALX, the Individual Defendants and the underwriters, and
violation of Section 15 of the Securities Act of 1933 against Mr. Canfield.
Three additional purported class action lawsuits were filed in the same court,
against the same defendants and making substantially the same allegations: on
January 8, 2002 by Donald Metzger (Civil Action No. 4:02CV00031DJS); on January
9, 2002 by Anna Goodman (Civil Action No. 4:02CV00033DJS); and on January 30,
2002 by Al Hinton (Civil Action No. 4:02CV00168DJS) each of whom allegedly were
shareholders of TALX during the Putative Class Period. On February 15, 2002,
these three lawsuits were consolidated with and into the Brody lawsuit (Civil
Action No. 4:01CV02014DJS) for all purposes ("Consolidated Complaint").
The Consolidated Complaint seeks, among other things, an award of unspecified
money damages, including interest, for all losses and injuries allegedly
suffered by the putative class members as a result of the defendants' alleged
conduct and unspecified equitable/injunctive relief as the Court deems proper.
On May 5, 2004 we reached an agreement with the plaintiffs to settle all pending
class action lawsuits. The settlement called for payment of $5.75 million, which
was made by our insurance carriers and did not impact earnings. As of the year
ended March 31, 2004, we recorded a liability for $5.75 million in accrued
expenses and other liabilities representing the amount we owed under the
settlement agreement. Additionally, we recorded $5.75 million in prepaid
expenses and other current assets representing the amount we expected to receive
from our insurance companies. On May 28, 2004, we received $5.75 million from
our insurance companies, and on June 1, 2004, we paid the $5.75 million
settlement.
On October 6, 2004, the Court entered a Final Judgment and Order of Dismissal
with Prejudice, approving the proposed settlement in all respects. The Court
simultaneously issued an Order Approving Allocation of Settlement Proceeds. The
Court's Final Judgment provides that the claims of the named plaintiffs and all
members of the class are dismissed with prejudice; that any claims that were or
could have been alleged by the named plaintiffs or members of the class are
released and forever discharged; and that the action is dismissed subject to the
Court's continuing jurisdiction with regard to implementation of the settlement
and distribution of the settlement fund to the class.
As previously disclosed, the Securities and Exchange Commission initially
commenced an investigation into our second fiscal quarter 2001 financial
results. We are cooperating fully with the investigation. On November 12, 2002,
the staff of the Central Regional Office of the Commission sent us a "Wells
letter" indicating the staff's plans to recommend to the Commission that it
institute an enforcement action against us and two of our executive officers,
William Canfield and Craig Cohen (who has resigned from the Company) related to
two matters, and requesting that we and such executive officers submit responses
to the letter. The Wells letter states that the SEC staff will allege, among
other things, that our financial statements were misleading as a result of
capitalizing instead of expensing $1.6 million related to a patent technology
license agreement executed in March 2001 and expensing approximately $158,000 in
bonus payments to executive officers in the first quarter of fiscal 2002 instead
of the fourth fiscal quarter of 2001. Those items are among those that are the
subject of our prior restatement, as disclosed in our Annual Report on Form
10-K/A for the year ended March 31, 2002. We and the individuals have filed
separate responses to the Wells letter. Since the time of the Wells submissions,
the Commission is continuing its investigation of our accounting for certain
items, including those which were the subject of the restatements discussed in
our Annual Report on Form 10-K for the year ended March 31, 2004 and in our
Quarterly Report on Form 10-Q for the quarter ended June 30, 2004. The remedies
the Commission may consider, if appropriate, include an injunction against us
and the individuals and an officer and director bar and disgorgement and civil
money penalties against us and/or the individuals.
In anticipation of a settlement with the SEC, we recorded a reserve of $3.0
million in the first quarter of fiscal year 2005. This charge was included in
"other income (expense), net" in the consolidated statement of earnings for the
11
quarter ended June 30, 2004. On August 12, 2004, we announced an agreement in
principle with the staff of the Securities and Exchange Commission to settle our
ongoing investigation. Under the agreement in principle, we would pay a fine of
$2.5 million. In connection with the agreement in principle, we will consent,
without admitting or denying any wrongdoing, not to violate certain specified
provisions of U.S. securities laws in the future. The agreement with the SEC
staff is subject to final approval by the SEC.
Due to the inherent uncertainties of matters of this nature, we cannot
accurately predict the ultimate outcome of the SEC investigation and have not
adjusted our reserve. If the SEC decides not to finally approve the proposed
settlement, it could initiate regulatory proceedings or an enforcement action
against us. An unfavorable outcome could trigger an event of default under our
Loan Agreement and could have a material adverse impact on our business,
consolidated financial condition, liquidity and results of operations.
Separately, William W. Canfield, our president and chief executive officer, has
reached an agreement in principle with the SEC staff to settle its ongoing
investigation against him in a related matter.
In the settlement of the civil suit referred to above, we released our insurance
providers from related claims against our applicable insurance policies. Any
fines or penalties assessed by the SEC against us, along with any further
defense costs incurred by us in connection with the SEC investigation, either on
our own behalf or as indemnification on behalf of William W. Canfield or Craig
N. Cohen, and any future related litigation will be borne by us and will not be
covered by insurance. In addition, to the extent that we are required to
indemnify Messrs. Canfield or Cohen against any fines or penalties assessed
against either of them, those amounts will be borne by us and will not be
covered by insurance. The application of any of the foregoing remedies, or the
commencement of any regulatory proceeding or enforcement action, could harm our
business and financial condition.
As previously disclosed, we have filed restated financial statements for the
fiscal years ended March 31, 1999 through March 31, 2003 and for each of the
first two quarters of fiscal 2004. In December 2002, we filed restated financial
statements for each of the quarters ended June 30, 2000 through June 30, 2002
and for the fiscal years ended March 31, 2001 and 2002.
As required under our articles of incorporation, we are obligated to indemnify
and advance expenses of William W. Canfield, a current officer, and Craig N.
Cohen, a former officer, to the fullest extent permitted by Missouri law, in
connection with the above matters, subject to their obligations to repay amounts
advanced under certain circumstances.
Regardless of the outcome of any litigation or regulatory proceeding, litigation
and regulatory proceedings of these types are expensive and, until settled or
otherwise resolved, will require that we devote substantial resources and
executive time to defend these proceedings.
In addition to matters set forth above, we are also party to other lawsuits and
claims that arise in the ordinary course of conducting our business. In the
opinion of management, after taking into account recorded liabilities, the
outcome of these other lawsuits and claims will not have a material adverse
effect on our consolidated financial position or results of operations.
NOTE 10 - DISCONTINUED OPERATIONS
On April 21, 2003, the Board of Directors granted management the authority to
dispose of the human resources and benefits application services business.
Accordingly, it was determined that this business met the requirements to be
presented as a discontinued operation.
On April 22, 2003 we transferred substantially all of the assets of our human
resources and benefits application services business to Workscape, Inc., a
Framingham, Massachusetts-based provider of benefits and workforce management
solutions. The primary product of this line of services, the benefits enrollment
business, provides a customized solution for clients' employees to enroll in an
employer's benefits programs and make changes to their personal information and
benefits elections, all by means of the Internet or by telephone. Workscape,
Inc. hired all of the employees directly related to the benefits enrollment
business.
12
The transaction was structured as a transfer of assets under contract for sale
with no initial down-payment and the purchase price to be paid over a three-year
period, based on a client retention formula. Proceeds are anticipated to be
between $2.0 million and $6.0 million. While the contract did not specify a
minimum guaranteed amount, we secured a $2.0 million note from Workscape, Inc.,
and as of October 22, 2004 we had received $1.5 million of principal and
$124,000 of interest payments in connection with the note.
All assets and liabilities of this business, both the portion of the business
transferred under contract to Workscape, Inc. (approximately 90% of the assets)
and the portion that has not yet been sold, along with related transaction
costs, were recorded on our consolidated balance sheet as net assets of business
held for sale. We first recorded cash received under the asset purchase
agreement to reduce the recorded value of net assets of business held for sale.
All subsequent cash received under the asset purchase agreement has been
recorded as a gain on the sale of the business.
In connection with the transfer, we are providing Workscape, Inc., for
agreed-upon fees, with various transition services related to the operation of
the benefits enrollment business until December 31, 2005, or until certain
transferred client contracts have expired or been terminated. These fees, offset
by costs to deliver the service, were recorded first to reduce the recorded
value of net assets of business held for sale and then to reflect gain on the
sale of the business.
The historical results of operations for this business have been reclassified to
earnings from discontinued operations on our consolidated statement of earnings.
The results of operations for this business for the three and six months ended
September 30, 2003 and 2004 were as follows:
THREE MONTHS ENDED SEPTEMBER 30, SIX MONTHS ENDED SEPTEMBER 30,
-------------------------------- ------------------------------
2003 2004 2003 2004
---- ---- ---- ----
(IN THOUSANDS)
Revenues ......................................... $ -- $ -- $ -- $ --
===== ===== ===== =====
Earnings from discontinued operations ............ $ 35 $ 38 $ 163 $ 11
Gain on disposal of discontinued operations ...... -- 175 -- 463
----- ----- ----- -----
Earnings from discontinued operations ....... 35 213 163 474
Income tax expense ............................... 13 84 63 187
----- ----- ----- -----
Net earnings from discontinued operations.... $ 22 $ 129 $ 100 $ 287
===== ===== ===== =====
NOTE 11 - SUBSEQUENT EVENTS
On October 15, 2004, we closed on the acquisition of the stock of TBT
Enterprises, Incorporated and UI Advantage, Inc., headquartered in Gaithersburg,
Maryland, which we collectively refer to as "TBT Enterprises". On October 25,
2004, we closed on the acquisition of Net Profit Inc., headquartered in
Greenville, South Carolina. The acquisitions were structured as stock purchases
for cash. The purchase prices for the acquisitions were determined based on
arms'-length negotiations and totaled approximately $19 million. Additionally,
both acquisition agreements include provisions for potential earn-out payments
if certain future financial performance measures are achieved before October
2006. The acquisitions were financed through $18.0 million in borrowings under
Term Loan A and Term Loan B to our loan agreements and the remainder in cash.
The businesses purchased enhance our existing UC eXpress tax services offerings
by allowing us to offer clients expanded services of processing of the work
opportunity ("WOTC") and welfare to work ("WTW") tax credits, as well as
assisting clients in calculating certain other federal and state tax credits
which were not previously a part of our service offerings. Following the
completion of these acquisitions, unless we further amend our loan agreement, we
no longer will have any availability under either of Term Loan A or Term Loan B.
We have not borrowed under our $15.0 million revolving credit facility and it
remains available.
13
TALX CORPORATION AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
You should read this discussion together with the financial statements and other
financial information included in this Quarterly Report on Form 10-Q and in our
Annual Report on Form 10-K for the year ended March 31, 2004.
OVERVIEW
We are the leading provider of automated employment and income verification and
unemployment cost management services and a leader in providing payroll and
human resources business process outsourcing. Our services use web access,
interactive voice response, fax, document imaging and other technologies to
enable mortgage lenders, pre-employment screeners, credit issuers, social
service agencies and other information verifiers to obtain payroll and human
resources information and to allow employees and their managers to review and
modify information in payroll and human resources management information systems
on a self-service basis. Further, we provide unemployment insurance claims
processing, unemployment tax planning and management services, and assistance in
obtaining hiring tax credits and other federal, state and local tax credits and
incentives to a broad range of employers. We provide services that enable both
large and mid-size corporations, including approximately two-thirds of the
Fortune 500 companies, as well as government agencies, to outsource the
performance of business processes that would otherwise be performed by their own
payroll or human resources department. Our focus is on eliminating paper and
manual steps from routine payroll and human resources-related processes. We
interact with various payroll systems and payroll services, but are virtually
independent of the payroll solutions our clients select.
As discussed in Note 5 of Notes to Unaudited Consolidated Financial Statements,
effective April 1, 2004, we acquired substantially all of the assets and assumed
certain liabilities of the unemployment compensation, employment verification
and applicant screening businesses of Sheakley-Uniservice, Inc. and its wholly
owned subsidiary, Sheakley Interactive Services, LLC, which we refer to
collectively as the "Sheakley Businesses".
We recognized second quarter fiscal 2005 revenues of $36.6 million, a 16.1%
increase over the $31.5 million in revenue reported in the comparable period in
fiscal 2004. The Work Number services revenue increased 22.0% as compared to the
comparable period in fiscal 2004, while revenues in our unemployment cost
management services business increased 15.8% compared to the comparable period.
Our gross profit grew to $21.6 million, or 59.0% of revenues, compared to $18.1
million, or 57.3% of revenues, in the comparable period in fiscal 2004. Earnings
from continuing operations were $3.9 million, or 27 cents per diluted share,
compared to $3.3 million, or 23 cents per diluted share, in the comparable
period in fiscal 2004.
For the six months ended September 30, 2004, we recognized revenues of $72.7
million, a 17.8% increase over the $61.7 million in revenue reported in the
comparable period in fiscal 2004. The Work Number services revenue increased
26.7% as compared to the comparable period in fiscal 2004, while revenues in our
unemployment cost management services business increased 15.4% compared to the
comparable period. Our gross profit grew to $42.1 million, or 57.9% of revenues,
compared to $34.8 million, or 56.5% of revenues in the first half of fiscal
2004. Earnings from continuing operations were $4.1 million, or 29 cents per
diluted share, including a $3.0 million non-operating charge recognized in the
fiscal 2005 first quarter related to the potential SEC settlement. Excluding
this non-operating charge, earnings from continuing operations would have been
$7.1 million, or 50 cents per diluted share, compared to $6.0 million, or 42
cents per diluted share in the first half of fiscal 2004. See "Non-GAAP
Financial Measures" below for a reconciliation of differences from the
comparable GAAP measure.
SERVICES AND PRODUCTS
Our services and products fall within three general categories: The Work Number
services, unemployment cost management services and maintenance and support
related to our former customer premises systems business. We discontinued the
operation of our human resources and benefits application services business in
the first fiscal quarter of 2004, retaining certain contracts to administer
other human resources services for three clients, which we expect will either
terminate or be assigned to another service provider within the next 6 months.
See Note 10 of
14
Notes to Unaudited Consolidated Financial Statements for more information
regarding this business.
THE WORK NUMBER SERVICES
The Work Number. Lenders, pre-employment screeners, credit issuers, social
service agencies and other information verifiers often request organizations to
verify employment and income information that has been provided by employees or
former employees. For example, the Federal National Mortgage Association and the
Federal Home Loan Mortgage Corporation, leading purchasers of residential
mortgages in the United States, usually require independent verification of
employment and income data for the past two calendar years and a current payroll
period in connection with mortgages they will purchase. The Work Number is an
outsourced service that enables employers to direct the third-party verifiers to
our website or to a toll-free telephone number to confirm the employee's
employment status and income for the most recent past three years of employment.
Additionally, we maintain a 1-900 service with MCI for the small customer base
that prefers the 1-900 number method of access.
We generate substantially all of The Work Number revenues from transaction-based
fees charged to lenders, pre-employment screeners, credit issuers, social
service agencies and other information verifiers for verification of income and
employment information. Revenue is recognized on these transaction-based fees in
the period that the transactions occur and are billed. We also generate revenues
from employer data conversion, employer transaction fees and ongoing maintenance
fees, and record this revenue on a monthly basis as billed. Lastly, we derive
revenues from one-time, up-front set-up fees. These fees are recognized as
revenue on a straight-line basis over the initial contract period, beginning on
the date the client's employee information is available for use by TALX clients,
or "live," on our system.
W-2 eXpress. W-2 eXpress is a suite of services relating to the initial
distribution (either printed or electronic), reissue and correction of W-2 wage
and tax statement forms that we offer to existing clients of The Work Number and
other large employers. Using data provided by employers, we distribute original
W-2 forms (both electronically and in paper form through a business alliance) to
the employees of our clients and provide an automated process to enable these
employees to request corrections to their W-2 forms and obtain additional copies
via the web, telephone or direct download into their tax software. Through our
T4 eXpress service, we offer similar functionality for Canadian employees of our
W-2 eXpress clients. The majority of W-2 eXpress clients are billed based upon
either the number of unique W-2s or the number of employees, generally pursuant
to multi-year contracts. Revenue is recognized on a straight-line basis from the
time the service is available for use by TALX clients through the end of the
service period. Additionally, we have some W-2 eXpress clients that are billed
on a transactional basis. For these clients, we recognize revenue on a monthly
basis, as transactions occur.
ePayroll. ePayroll (or Paperless Pay) is a suite of payroll self-service
applications that enables employees, via the web or by telephone, to receive pay
statement information, to access current and historical payroll information, to
review and change direct deposit account or paycard information, to review and
change W-4 information, and to enroll in selected paycard services chosen by
their employer.
We charge ePayroll clients on a per-employee per-month basis, plus an initial
set-up fee, generally pursuant to multi-year contracts. Revenue for the initial
set-up fees is recognized on a straight-line basis over the initial contract
period, beginning with the date the client is "live" on our system.
Per-employee, per-month fees are recognized as revenue in the months billed.
FasTime. FasTime services are integrated time capture and reporting solutions
that work from any phone or the web and are used by employers within the
temporary staffing industry and other large employers. FasTime clients are
billed for initial set-up fees, monthly maintenance fees and per transaction
fees, generally pursuant to multi-year contracts. Revenue is recognized on a
straight-line basis from the time the service is available for use by our
clients through the end of the service period for set-up and maintenance fees
and as services are performed for transaction-based fees.
HireXpress. The HireXpress service was added to our portfolio through our
acquisition of the businesses from Sheakley-Uniservice, Inc., as noted above.
HireXpress is a candidate screening service that is designed to electronically
provide clients a steady stream of qualified job candidates. Job candidates
provide their responses to job requirements over the web or telephone. Using
HireXpress, employers can specify job requirements, screen
15
potential workers, schedule candidate interviews, capture candidate responses,
automate the hiring process workflow and maintain all required documentation. We
believe this service is particularly valuable to our clients in high turnover
industries. HireXpress clients are billed for initial set-up fees and per
transaction fees or monthly fees. Revenue is recognized on a straight-line basis
from the time the service is available for use by our clients through the end of
the service period for set-up fees and as services are performed for
transaction-based or monthly fees.
UNEMPLOYMENT COST MANAGEMENT SERVICES
We also provide unemployment cost management services under the names UC eXpress
and TALX Employer Services (through our recent acquisition of the Sheakley
Businesses). UC eXpress offers a broad suite of services designed to reduce the
cost of processing unemployment claims by human resource departments and to
better manage the tax rate that employers are assessed for unemployment taxes.
UC eXpress services utilize document imaging, web access, fax and interactive
voice response to speed the processing of unemployment claims, with the goal of
resisting unmeritorious or illegitimate claims for unemployment compensation
that have been filed with state agencies by separated employees. These services
are aimed at relieving human resource departments of the administrative burden
of managing unemployment claims. Following an employee separation, UC eXpress
services respond on behalf of our client to an unemployment claim filed by the
separated employee. This includes reviewing employment records to preserve the
clients' rights as an employer. If an employment hearing is required, these UC
eXpress services include client conferences with our hearing
consultants/attorneys and, upon client request, attendance at the hearing with
the employer's representative. In addition, our UC eXpress services field-based
account management team and hearing consultants bring state-specific
unemployment tax knowledge to the client.
UC eXpress also offers comprehensive employer tax services. Clients who choose
UC eXpress for tax services collaborate with a UC eXpress tax analyst to monitor
the clients' unemployment tax accounts, verify tax rates and contribution
reports and identify voluntary contribution opportunities. Following the
acquisition of Johnson and Associates, which was effective July 1, 2003, our UC
eXpress tax services offerings were expanded to include processing of the work
opportunity ("WOTC") and welfare to work ("WtW") tax credits, which are designed
to provide incentives to employers for hiring individuals who have traditionally
faced difficulties in securing employment. Our services include assisting
employers with integrating WOTC/WtW processing into the current hiring process
as well as processing all necessary forms to identify all potential qualifiers
for hiring tax credits. Effective in the fiscal 2005 third quarter, through the
acquisition of Net Profit, Inc. and TBT Enterprises, Inc., we have expanded our
existing tax services offerings, including the expansion of our capabilities to
process WOTC/WtW credits, as well as assisting clients in calculating certain
other federal and state tax credits which were not previously a part of our
service offerings, such as enterprise zone credits and training credits.
We charge clients fees pursuant to multi-year contracts, generally billed
monthly or quarterly. Many contracts allow for additional charges if transaction
activity exceeds a certain threshold. Some unemployment tax planning contracts
call for contingent fees based upon actual tax savings realized. Revenues from
UC eXpress are recognized in the period that they are earned, evenly over the
life of the contract. Transaction fees are recorded as the services are
provided. Revenue which is contingent upon achieving certain performance
criteria, including our hiring tax credit consulting and administration
business, is recognized when those criteria are met.
MAINTENANCE AND SUPPORT SERVICES RELATED TO OUR FORMER CUSTOMER PREMISES
SYSTEMS BUSINESS
We previously offered our products and services exclusively through licensed
software specifically developed for each customer, and installed these systems
at the customer's site. In 2000 we discontinued sales to new customers. Today,
we provide system enhancements to existing customers and customer support 7-days
per week, 24-hours per day, through a toll-free hotline, email and our website.
We sold these systems under licenses and generate additional revenues by
providing ongoing maintenance and support. During 2003, we notified our
maintenance clients of our intention to discontinue all support services
effective June 2005. In the second quarter of fiscal 2005, as a result of
requests from a number of our clients, we agreed to extend these support
services until December 2005.
16
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The preparation of consolidated financial statements requires us to make
estimates and judgments that affect the reported amounts of assets, liabilities,
revenue and expenses, and related disclosure of contingent assets and
liabilities. See Item 7 of our Annual Report on Form 10-K for the year ended
March 31, 2004 for a discussion of these estimates and judgments.
FORWARD-LOOKING STATEMENTS
This report contains certain statements regarding future results, performance,
expectations, or intentions that may be considered forward-looking statements
("forward-looking statements") within the meaning of Section 27A of the
Securities Act of 1933, as amended, and Section 21E of the Securities Exchange
Act of 1934, as amended. These statements relate to, among other things,
business trends and prospects, potential future profitability, revenue growth
and cash flows. All statements other than statements of historical facts
included in this Quarterly Report on Form 10-Q are forward-looking statements.
Although we believe that the expectations reflected in such forward-looking
statements are reasonable, we can give no assurance that such expectations will
prove to be correct. Actual results could differ materially from those projected
in the forward-looking statements as a result of risks facing us. Such risks
include, but are not limited to:
(1) risks related to our ability to increase the size and range of
applications for The Work Number database and successfully market
current and future services and our dependence on third party
providers to do so;
(2) the risk that our revenues from The Work Number may fluctuate in
response to changes in certain economic conditions such as
residential mortgage activity and employment trends;
(3) risks relating to the dependence of the market for The Work Number
on mortgage documentation requirements in the secondary market and
the risk that our revenues and profitability would be significantly
harmed if those requirements were relaxed or eliminated;
(4) risks associated with our ability to prevent breaches of
confidentiality as we perform large-scale processing of
verifications;
(5) risks associated with our ability to maintain the accuracy, privacy
and confidentiality of our clients' employee data;
(6) risks associated with changes in economic conditions or unemployment
compensation laws; (7) the risk to our future growth due to our
dependence on our ability to effectively integrate acquired
companies and capitalize on cross-selling opportunities;
(8) risks associated with future challenges regarding applicability of
the Fair Credit Reporting Act;
(9) risks relating to the applicability of any new privacy legislation
or interpretation of existing laws;
(10) risks relating to the applicability of the SUTA Dumping Prevention
Act of 2004 to our tax planning services; and
(11) the risk of interruption of our computer network and telephone
operations, including potential slow-down or loss of business as
potential clients review our operations.
See "--Risk Factors" below for a more detailed description of many of these and
other risk factors. You should read this report completely and with the
understanding that our actual results may be materially different from what we
expect. We do not undertake any obligation to update these forward-looking
statements, even though our situation may change in the future. We qualify all
of our forward-looking statements by these cautionary statements.
17
RESULTS OF OPERATIONS
The following tables set forth (1) revenues and gross profit, (2) the gross
margin percentage by revenue category, and (3) certain items from our
consolidated statements of operations as a percentage of revenues for the
periods indicated:
THREE MONTHS SIX MONTHS
ENDED SEPT. 30, ENDED SEPT. 30,
--------------- ---------------
2003 2004 2003 2004
---- ---- ---- ----
(IN THOUSANDS)
(UNAUDITED)
(RESTATED FOR ALL PERIODS PRESENTED)
REVENUES AND GROSS PROFIT:
Revenues:
The Work Number services........................ $ 11,627 $ 14,188 $ 22,570 $ 28,605
Unemployment cost management services........... 18,701 21,662 36,885 42,562
Maintenance and support ........................ 1,220 780 2,235 1,524
--------- --------- --------- ---------
Total revenues................................ $ 31,548 $ 36,630 $ 61,690 $ 72,691
========= ========= ========= =========
Gross profit:
The Work Number services........................ $ 8,534 $ 10,257 $ 16,144 $ 20,482
Unemployment cost management services........... 8,666 10,789 17,126 20,555
Maintenance and support ........................ 892 548 1,576 1,060
--------- --------- --------- ---------
Total gross profit............................ $ 18,092 $ 21,594 $ 34,846 $ 42,097
========= ========= ========= =========
GROSS MARGIN PERCENTAGE BY REVENUE CATEGORY:
The Work Number services........................... 73.4% 72.3% 71.5% 71.6%
Unemployment cost management services.............. 46.3 49.8 46.4 48.3
Maintenance and support............................ 73.1 70.3 70.5 69.6
PERCENTAGE OF TOTAL REVENUES:
Revenues:
The Work Number services........................ 36.9% 38.7% 36.6% 39.3%
Unemployment cost management services........... 59.3 59.2 59.8 58.6
Maintenance and support......................... 3.8 2.1 3.6 2.1
--------- --------- --------- ---------
Total revenues................................ 100.0 100.0 100.0 100.0
Cost of revenues................................... 42.7 41.0 43.5 42.1
--------- --------- --------- ---------
Gross profit....................................... 57.3 59.0 56.5 57.9
--------- --------- --------- ---------
Operating expenses:
Selling and marketing........................... 18.7 18.1 19.3 18.8
General and administrative...................... 21.0 21.3 20.5 21.2
--------- --------- --------- ---------
Total operating expenses...................... 39.7 39.4 39.8 40.0
--------- --------- --------- ---------
Operating income................................... 17.6 19.6 16.7 17.9
Other income (expense), net........................ (0.7) (1.9) (0.8) (5.8)
--------- --------- --------- ---------
Earnings from continuing operations before
income tax.................................... 16.9 17.7 15.9 12.1
Income tax expense................................. 6.6 7.0 6.2 6.4
--------- --------- --------- ---------
Earnings from continuing operations............ 10.3 10.7 9.7 5.7
Earnings from discontinued operations, net of
tax ............................................. 0.1 0.4 0.2 0.4
--------- --------- --------- ---------
Net earnings ...................................... 10.4% 11.1% 9.9% 6.1%
========= ========= ========= =========
PERCENTAGE CHANGE
-----------------
THREE MONTHS SIX MONTHS
ENDED SEPT. 30, ENDED SEPT. 30,
2004 OVER 2003 2004 OVER 2003
-------------- --------------
REVENUES AND GROSS PROFIT:
Revenues:
The Work Number services........................ 22.0% 26.7%
Unemployment cost management services........... 15.8 15.4
Maintenance and support ........................ (36.1) (31.8)
Total revenues................................ 16.1 17.8
Gross profit:
The Work Number services........................ 20.2% 26.9%
Unemployment cost management services........... 24.5 20.0
Maintenance and support ........................ (38.6) (32.7)
Total gross profit............................ 19.4 20.8
GROSS MARGIN PERCENTAGE BY REVENUE CATEGORY:
The Work Number services...........................
Unemployment cost management services..............
Maintenance and support............................
PERCENTAGE OF TOTAL REVENUES:
Revenues:
The Work Number services........................ 22.0% 26.7%
Unemployment cost management services........... 15.8 15.4
Maintenance and support......................... (36.1) (31.8)
Total revenues................................ 16.1 17.8
Cost of revenues................................... 11.7 14.0
Gross profit....................................... 19.4 20.8
Operating expenses:
Selling and marketing........................... 12.3 14.4
General and administrative...................... 17.5 22.2
Total operating expenses...................... 15.0 18.4
Operating income................................... 29.1 26.5
Other income (expense), net........................ 212.0 757.6
Earnings from continuing operations before
income tax.................................... 21.4 (10.3)
Income tax expense................................. 23.0 22.6
Earnings from continuing operations............ 20.4 (31.2)
Earnings from discontinued operations, net of
tax .............................................. 486.4 187.0
Net earnings ...................................... 23.6% (27.6)
* - not meaningful
18
THREE AND SIX MONTHS ENDED SEPTEMBER 30, 2004 COMPARED TO THREE AND SIX MONTHS
ENDED SEPTEMBER 30, 2003
Revenues. Total revenues increased 16.1% to $36.6 million in the second quarter
of fiscal 2005 from $31.5 million in the second quarter of fiscal 2004. Total
revenues increased 17.8% to $72.7 million in the first half of fiscal 2005 from
$61.7 million in the first half of fiscal 2004.
Revenues from The Work Number services increased 22.0% to $14.2 million in the
second quarter of fiscal 2005 from $11.6 million in the second quarter of fiscal
2004. Revenues from The Work Number services increased 26.7% to $28.6 million in
the first half of fiscal 2005 from $22.6 million in the first half of fiscal
2004. The increases were due primarily to an increase in transaction volume
resulting from marketing efforts directed to verifiers and employers and
additional records added to the database. Additionally, fiscal 2005 includes
revenues related to the acquisition of the employment verification business and
applicant screening business - - which we call "HireXpress" - - from
Sheakley-Uniservice, Inc., as described in Note 5 of Notes to Unaudited
Consolidated Financial Statements.
The mortgage industry, pre-employment screeners, and consumer finance businesses
are the primary revenue generators for The Work Number. The balance between
mortgage-related and pre-employment-related verification revenues began to shift
back from its widest historical spread in the first quarter of fiscal 2004
toward a more traditional balance near the end of fiscal 2004 and into fiscal
2005. Additionally, beginning in fiscal 2004, we gradually increased revenues
from social services agencies. The table below indicates the percentage of The
Work Number revenues contributed by pre-employment screeners, mortgage
businesses, consumer finance businesses, social services, other businesses, and
other Work Number services during the last eight quarters.
FISCAL 2003 FISCAL 2004 FISCAL 2005
------------------ ------------------------------------- ----------------
REVENUE SOURCE 3RD QTR 4TH QTR 1ST QTR 2ND QTR 3RD QTR 4TH QTR 1ST QT 2ND QTR
------- ------- ------- ------- ------- ------- ------ -------
Pre-Employment ........... 27% 19% 20% 21% 22% 17% 18% 19%
Mortgage ................. 38 33 41 40 34 29 35 34
Consumer Finance ......... 16 16 15 16 16 17 16 21
Social Services .......... 5 5 6 7 10 8 13 8
Other .................... 3 3 5 5 5 4 5 5
Other Work Number
Services ................. 11 24 13 11 13 25 13 13
As of the end of the second fiscal quarter of 2005, we had 100.2 million records
"live" on The Work Number service, a 21.1% increase from the second quarter of
fiscal 2004. This marked the first time our number of "live" records has
exceeded 100 million records. Our "live" and backlog accounts totaled 105.8
million records as of September 30, 2004.
Revenue from the ePayroll service increased 42.0% in the second quarter of
fiscal 2005 compared to the second quarter of fiscal 2004, as several large
clients have begun using this service. Revenue from the ePayroll service
increased 45.8% in the first half of fiscal 2005 compared to the first half of
fiscal 2004. During the first half of fiscal 2005, both contracted business and
the sales pipeline appeared to have gained momentum. We believe that the revenue
run-rate will continue to increase over the next six to nine months. Surveys of
major employers indicate that they are focused on eliminating pay-stubs and
paper checks and replacing them with web-based pay-statements and paycards. We
believe we are well-positioned to play a key role in that expected trend.
Revenues from unemployment cost management services increased 15.8% to $21.7
million in the second quarter of fiscal 2005 from $18.7 million in the second
quarter of fiscal 2004. Revenues from unemployment cost management services
increased 15.4% to $42.6 million in the first half of fiscal 2005 from $36.9
million in the first half of fiscal 2004. The increases were due primarily to
the acquisition of the unemployment compensation business of
Sheakley-Uniservice, Inc. effective April 1, 2004, as part of the Sheakley
Businesses as described in Note 5 of Notes to Unaudited Consolidated Financial
Statements.
19
As expected, revenues from maintenance and support decreased 36.1% to $780,000
in the second quarter of 2005 from $1.2 million in the second quarter of fiscal
2004. Revenues from maintenance and support decreased 31.8% to $1.5 million in
the first half of 2005 from $2.2 million in the first half of fiscal 2004. The
decreases were primarily a result of lower standard maintenance revenues caused
by a shrinking client base as supported systems approach the end of their life
cycles. During 2003, we notified our maintenance clients of our intention to
discontinue all support services effective June 2005. In the second quarter of
fiscal 2005, as a result of requests from a number of our clients, we agreed to
extend these support services until December 2005. We anticipate revenues from
maintenance and support will continue to decrease over time from current quarter
levels.
Gross Profit. Total gross profit increased 19.4% to $21.6 million in the second
quarter of fiscal 2005 from $18.1 million in the second quarter of fiscal 2004.
Gross margin increased to 59.0% in the second quarter of fiscal 2005 from 57.3%
in the second quarter of fiscal 2004. Total gross profit increased 20.8% to
$42.1 million in the first half of fiscal 2005 from $34.8 million in the first
half of fiscal 2004. Gross margin increased to 57.9% in the first half of fiscal
2005 from 56.5% in the first half of fiscal 2004.
The Work Number services gross profit increased 20.2% to $10.3 million, or 72.3%
of corresponding revenue, in the second quarter of fiscal 2005 from $8.5
million, or 73.4% of corresponding revenue, in the second quarter of fiscal
2004. The Work Number services gross profit increased 26.9% to $20.5 million, or
71.6% of corresponding revenue, in the first half of fiscal 2005 from $16.1
million, or 71.5% of corresponding revenue, in the first half of fiscal 2004.
The increases in gross profit were due primarily to revenue increases.
Additionally, more transactions were performed over the web, which has a lower
average transaction cost compared to transactions performed through either our
900 or 800 telephone services.
Unemployment cost management services gross profit increased 24.5% to $10.8
million, or 49.8% of corresponding revenue, in the second quarter of fiscal 2005
from $8.7 million, or 46.3% of corresponding revenue, in the second quarter of
fiscal 2004. Unemployment cost management services gross profit increased 20.0%
to $20.6 million, or 48.3% of corresponding revenue, in the first half of fiscal
2005 from $17.1 million, or 46.4% of corresponding revenue, in the first half of
fiscal 2004. The increases in gross profit were due primarily to higher
revenues. The increases in gross margin were due to cost savings realized
through our consolidation of the operational infrastructure, partially offset by
a lower gross margin in the Sheakley Businesses. We expect to continue to
realize improvements in the gross margin of this line of business as we continue
to identify and implement process improvement initiatives.
Maintenance and support gross profit decreased 38.6% to $548,000, or 70.3% of
corresponding revenue, in the second quarter of fiscal 2005, from $892,000, or
73.1% of corresponding revenue, in the second quarter of fiscal 2004.
Maintenance and support gross profit decreased 32.7% to $1.1 million, or 69.6%
of corresponding revenue, in the first half of fiscal 2005, from $1.6 million,
or 70.5% of corresponding revenue, in the first half of fiscal 2004. The
decreases in gross profit were due to the decline in revenues. The decline in
gross margin was due to the fixed nature of personnel and infrastructure costs
even as our installed base continues to shrink.
Selling and Marketing Expenses. Selling and marketing expenses increased 12.3%
to $6.6 million in the second quarter of fiscal 2005 from $5.9 million in the
second quarter of fiscal 2004. As a percentage of revenues, such expenses
declined to 18.1% in the second quarter of fiscal 2005 from 18.7% in the second
quarter of fiscal 2004. Selling and marketing expenses increased 14.4% to $13.6
million in the first half of fiscal 2005 from $11.9 million in the first half of
fiscal 2004. As a percentage of revenues, such expenses declined to 18.8% in the
first half of fiscal 2005 from 19.3% in the first half of fiscal 2004. The
increases in expenses were primarily due to increased commissions, which
resulted from our higher revenues. Selling and marketing expenses as a
percentage of revenues improved as a result of the higher revenue levels,
improved leveraging of our selling and marketing infrastructure and our
continued focus on expense control.
General and Administrative Expenses. General and administrative expenses
increased 17.5% to $7.8 million in the second quarter of fiscal 2005 from $6.6
million in the second quarter of fiscal 2004. As a percentage of revenues, such
expenses increased to 21.3% in the second quarter of fiscal 2005 compared to
21.0% in the second quarter of fiscal 2004. General and administrative expenses
increased 22.2% to $15.4 million in the first half of fiscal 2005 from $12.6
million in the first half of fiscal 2004. As a percentage of revenues, such
expenses increased to 21.2% in the first half of fiscal 2005 compared to 20.5%
in the first half of fiscal 2004. The increased expenses and higher
20
expenses as a percentage of revenues resulted primarily from expanding our
infrastructure to accommodate our growing business and the financial
consolidation of the Sheakley Businesses.
Other Income (Expense), Net. Other income (expense), net decreased to $702,000
of net other expense in the second quarter of fiscal 2005 from $225,000 in the
second quarter of fiscal 2004. Other income (expense), net decreased to $4.2
million of net other expense in the first half of fiscal 2005 from $493,000 in
the first half of fiscal 2004. Interest expense increased in fiscal 2005 due to
higher outstanding borrowings to fund the acquisition of the Sheakley
Businesses. In the first quarter of fiscal 2005, we recorded a $3.0 million
charge related to a potential SEC settlement, as discussed in Note 9 of Notes to
Unaudited Consolidated Financial Statements.
Income Tax Expense. Our effective income tax rate was 39.5% in the second
quarter of fiscal 2005 compared to 39.0% in the second quarter of fiscal 2004.
Our effective income tax rate in the first half of fiscal 2005 was 52.3%
compared to 38.8% in the year-earlier period. The $3.0 million charge related to
a potential SEC settlement, as discussed in other income (expense), net, above,
is not tax deductible.
LIQUIDITY AND CAPITAL RESOURCES
In recent years, we have financed our operations through cash flows from
operating activities, except as described below. In addition to cash provided by
operating activities, we have access to our $15.0 million revolving credit
facility.
Net cash provided by operating activities increased to $11.8 million in the
first half of fiscal 2005 compared to $10.9 million in the first half of fiscal
2004. The increase in cash provided by operating activities was primarily due to
improved operating results, as well as to changes in working capital.
Net cash used in investing activities increased to $11.6 million in the first
half of fiscal 2005 from $6.6 million in the first half of fiscal 2004. In the
first half of fiscal 2005, our restricted cash balance of $38.6 million was used
to fund the approximately $40 million acquisition of the Sheakley Businesses, as
discussed in Note 5 of Notes to Unaudited Consolidated Financial Statements. In
the first half of fiscal 2005, capital expenditures and capitalized software
development costs totaled $4.7 million, compared to $2.7 million in the first
half of fiscal 2004. These capital expenditures were principally for computer
equipment and software. At September 30, 2004, we had no significant capital
spending or purchase commitments other than normal purchase commitments and
commitments under facilities and operating leases.
Net cash used in financing activities decreased to $5.0 million in the first
half of fiscal 2005 compared to $10.0 million in the first half of fiscal 2004.
The decrease in fiscal 2005 is primarily due to a $3.3 million "excess cash
flow" payment made during the first half of fiscal 2004 as required under our
Loan Agreement. Additionally, in the first half of fiscal 2004, we repurchased
$1.8 million in stock.
Our working capital was $4.1 million at September 30, 2004 compared to $6.0
million at March 31, 2004. Working capital decreased in the first half of fiscal
2005 primarily due to the accrual for the potential SEC settlement, as described
in Note 9 of Notes to Unaudited Consolidated Financial Statements.
As discussed above, the SEC is investigating certain of our prior financial
statements, which have previously been restated. We have been in discussions
with the SEC regarding a potential settlement. On August 12, 2004, we announced
that we had reached an agreement in principle with the Securities and Exchange
Commission's Enforcement Division, under which we would pay a fine of $2.5
million and would consent, without admitting any wrongdoing, to the entry of an
SEC order prohibiting us from violating certain securities laws in the future.
The agreement in principle was reached with the SEC staff and must be approved
by the Commission in Washington, D.C. before it becomes final. We recorded a
reserve of $3.0 million related to the potential SEC settlement in the first
fiscal quarter of 2005. Due to the inherent uncertainties of matters of this
nature, we cannot accurately predict the ultimate outcome of the SEC
investigation. If we are not able to reach a final settlement, the SEC could
initiate regulatory proceedings, an enforcement action, or other remedies
against us. An unfavorable outcome could trigger an event of default under our
Loan Agreement and could have a material adverse impact on our business,
consolidated financial condition, liquidity and results of operations.
21
Currently, based on cash and cash equivalents on hand, together with anticipated
cash flows from operating activities, we believe we have sufficient liquidity to
pay our obligations as they become due, for at least the next 12 months. Our
strategy contemplates that we will consider acquisitions from time to time. We
expect that such acquisitions may require that we access additional credit.
Following the completion of the recent acquisitions as discussed in Note 11 of
Notes to Unaudited Consolidated Financial Statements, unless we further amend
our loan agreement, we no longer will have any availability under either of Term
Loan A or Term Loan B. We cannot assure that additional credit would be
available on acceptable terms. Any such additional credit would increase the
risks associated with leverage, including our ability to service indebtedness
and volatility of interest rates.
Our accounts receivable increased to $17.3 million at September 30, 2004 from
$15.5 million at March 31, 2004 due primarily to a higher level of billings
during the second quarter of fiscal 2005 compared to the fourth quarter of
fiscal 2004.
On September 5, 2002, our board of directors authorized us to repurchase up to
one million shares of our stock in the open market, or through privately
negotiated transactions, during the 36 month period ending September 30, 2005,
subject to market conditions and other factors. Under this plan, we have
repurchased a cumulative total of 306,211 shares of our common stock. Except for
the 211,825 shares remaining in the treasury at September 30, 2004, all shares
repurchased have been reissued in connection with employee stock option
exercises and employee stock purchase plan purchases.
During the quarter ended September 30, 2004, we continued our quarterly dividend
program, declaring a $0.06 per share cash dividend, totaling $824,000, on
September 9, 2004. The dividend was paid on October 15, 2004 to shareholders of
record on September 20, 2004. In order to declare this dividend, we amended the
Loan Agreement to increase the maximum amount of permitted cash dividends to six
cents per share per calendar quarter, without increasing the annual maximum
permitted amount of $3.5 million per fiscal year.
We are a party to a Loan Agreement, described more fully in Note 7 of Notes to
Unaudited Consolidated Financial Statements. We have entered into two interest
rate swap agreements totaling $23.5 million of the $45.0 million outstanding
under our Term Loan as a means of reducing our interest rate exposure. As of
September 30, 2004, the fair value of the interest rate swaps in the amount of
$383,000 is included in accrued expenses and other liabilities. The interest
rate swaps are described more fully in Note 8 of Notes to Unaudited Consolidated
Financial Statements.
We do not use financial instruments for trading or speculative purposes.
OTHER MATTERS
We are cooperating with a pending SEC investigation and are a defendant in
pending lawsuits which are described in Note 9 of Notes to Unaudited
Consolidated Financial Statements.
As previously reported, we announced on January 5, 2004 that we were restating
financial statements for the fiscal years ended March 31, 1999 through March 31,
2003 and for the first two quarters of fiscal 2004. As a result of this
restatement, we could become subject to additional litigation. As of the date
hereof, we are not aware of any litigation having been commenced against us
related to this new restatement. However, such litigation could be commenced
against us in the future and the plaintiffs who have filed lawsuits against us
previously could amend their complaints to include claims related to this new
restatement. We cannot predict the outcome of any such litigation at this time.
If an unfavorable result occurred in any such action, our business and financial
condition could be materially harmed.
Regardless of the outcome of any litigation, litigation matters of this type are
expensive and, until settled or otherwise resolved, will require that we devote
substantial resources and executive time to defend these proceedings.
On October 4, 2004, President Bush signed the Working Families Tax Relief Act of
2004, which extended the provisions for the Work Opportunity Tax Credit and the
Welfare to Work Tax Credit available to employers through December 31, 2005. The
companies that we acquired in October 2004, as discussed in Note 11 of Notes to
Unaudited Consolidated Financial Statements, specialize in obtaining federal and
state tax credits and incentives for
22
their clients. Following the completion of these acquisitions, our expanded tax
service capabilities should help employers obtain credits under these
reauthorized programs. See "Risk Factors - - Risks Related to Our Business - -
Changes in tax laws could adversely impact our business and results of
operations" for more information about these programs.
23
NON-GAAP FINANCIAL MEASURES
We sometimes use information derived from consolidated financial information but
not presented in our financial statements prepared in accordance with generally
accepted accounting principles ("GAAP"). Specifically, in this Quarterly Report
on Form 10-Q we have used non-GAAP financial measures to eliminate the effect on
earnings from continuing operations and diluted earnings per share of a $3.0
million charge we recorded in connection with the potential SEC settlement
described above.
The following table presents a reconciliation of earnings from continuing
operations and diluted earnings per share, which exclude a non-operating charge
related to the potential SEC settlement, to the comparable GAAP measures for the
six months ended September 30, 2004:
Reconciliation of Adjusted Earnings from Continuing Operations to GAAP Earnings
from Continuing Operations:
Adjusted earnings from continuing operations $ 7.1 million
Less: Reserve for contingent claim 3.0 million
-------
GAAP earnings from continuing operations $ 4.1 million
=======
Reconciliation of Adjusted Diluted Earnings Per Share to GAAP Diluted Earnings
Per Share:
Adjusted diluted EPS from continuing operations $ 0.50
Less: Reserve for contingent claim 0.21
------
GAAP diluted EPS from continuing operations $ 0.29
======
Non-GAAP financial measures should not be considered as a substitute for, or
superior to, measures of financial performance prepared in accordance with GAAP.
We use these non-GAAP measures internally to evaluate the performance of our
businesses, including to allocate resources and to evaluate results relative to
incentive compensation targets. We believe that presentation of these non-GAAP
financial measures provides useful information to investors because these
measures exclude elements that we do not consider to be indicative of our
results from operations and allow for an equivalent comparison to prior period
results.
RISK FACTORS
RISKS RELATED TO OUR BUSINESS
Some of the risks and uncertainties that may cause our operating results to vary
from anticipated results or that may adversely affect our operating results are
as follows:
OUR FUTURE GROWTH IS SUBSTANTIALLY DEPENDENT ON OUR ABILITY TO INCREASE THE SIZE
AND RANGE OF APPLICATIONS FOR THE WORK NUMBER DATABASE.
In order to successfully grow our business, we will have to make The Work Number
and related business process outsourcing services increasingly attractive to a
greater number of large organizations, their employees and verifiers. To achieve
this goal, we believe that we will need to increase the number of employee
records contained in The Work Number database, the amount and type of
information contained in those records and the number of services that make use
of those records. Our strategy for increasing the size of The Work Number
database is based in part on strategic alliances with several providers of
payroll and human resources outsourcing services. Our success will depend on the
interest and commitment of these providers, which is entirely at their
discretion. Some of these companies compete with us in certain service areas.
Our strategy is also based in part on strategic acquisitions of businesses with
databases of employee information, such as our acquisition of the Sheakley
Businesses. If we are unable to attract and retain a sufficient number of
employer clients, if we cannot persuade them to include a greater amount of
information in the employee records they provide us, or if we fail to develop
additional applications to use this information, we may not achieve our growth
objectives.
24
OUR REVENUES FROM THE WORK NUMBER MAY FLUCTUATE IN RESPONSE TO CERTAIN ECONOMIC
CONDITIONS SUCH AS RESIDENTIAL MORTGAGE ACTIVITY AND EMPLOYMENT TRENDS.
A significant portion of our revenues from The Work Number depends on
residential mortgage-related and employment-related activity. We charge a fee
for each request from mortgage lenders and pre-employment screeners to verify
employment and income information. Therefore, a decrease in activity within
either of these segments would reduce our overall number of transactions per
record in the database. This reduction in transactions, whether due to increases
in interest rates or otherwise, could cause our revenues and profitability to be
harmed. For example, during a portion of fiscal year 2004, revenues for The Work
Number services were adversely affected by a slowdown in the refinancing segment
of the mortgage loan market.
THE MARKET FOR THE WORK NUMBER DEPENDS IN PART ON THE REQUIREMENTS ESTABLISHED
BY PURCHASERS IN THE SECONDARY MORTGAGE MARKET, AND OUR REVENUES AND
PROFITABILITY WOULD BE SIGNIFICANTLY HARMED IF THESE REQUIREMENTS WERE RELAXED
OR ELIMINATED.
We believe that residential mortgage lenders are among the most active users of
The Work Number. They utilize our services to verify employment, income and
related information. The demand for this verification is driven in part by the
requirements of the Federal National Mortgage Association, which is also known
as Fannie Mae, and the Federal Home Loan Mortgage Corporation, which is also
known as Freddie Mac, the leading purchasers of residential mortgages in the
United States. These agencies currently require specific information, including
independent verification of employment and income data for the past two calendar
years and a current payroll period in connection with mortgages they purchase
having a loan-to-value ratio in excess of 75%. Accordingly, most lenders seek
this information from mortgage applicants. If Fannie Mae or Freddie Mac were to
reduce the requirement for employment and income data or eliminate the
requirement for independent verification thereof, our revenues and profitability
would be significantly harmed.
AS WE PERFORM LARGE-SCALE PROCESSING OF VERIFICATIONS, THERE IS AN INCREASED
RISK OF BREACH OF CONFIDENTIALITY, WHICH MAY RESULT IN DAMAGE CLAIMS AND LOSS OF
CUSTOMERS.
As we seek to increase the use of The Work Number database by verifiers with
frequent need of verification, we plan to use new methods of verification. These
verifiers may be large mortgage lenders, pre-employment screeners, social
services agencies, child support enforcement agencies or other volume verifiers.
These volume verifiers may obtain verifications in large volume or "batch"
transactions using different means and requiring less proof of authorization
than smaller verifiers. We expect that these volume verifiers will enter into
contracts by which they agree that they will not use the income verification
service unless they have been authorized by the employee to do so, or have legal
authority to obtain the information. Many of the industries that utilize The
Work Number for large scale processing of verifications have high turnover which
may lead to the verifier failing to terminate access privileges to The Work
Number in a timely manner. We have the ability to conduct regular audits of
these volume verifiers to ensure compliance with documentation requirements.
However, there is a risk that the verifier may not have the requisite authority,
and that there may be claims for breach of privacy or confidentiality against
TALX, claims for damages by employees and employers and resulting loss of
employer relationships, which could significantly harm our results of
operations.
IF WE ARE UNABLE TO MAINTAIN THE ACCURACY, PRIVACY AND CONFIDENTIALITY OF
EMPLOYEE INFORMATION IN THE WORK NUMBER AND OUR OTHER DATABASES, WE MAY FACE
SIGNIFICANT CLAIMS AND OUR REPUTATION COULD BE HARMED.
The Work Number services depend on the accuracy of highly confidential
employment and income history and other information which employers provide to
us and which we convert for use in The Work Number and our other services.
Although we have a number of protective measures in place, any inaccuracies in
such information - - whether in the recording of such information, the
unauthorized access to information, or otherwise - - or our inability to keep
such information confidential, may give rise to claims against us and adversely
affect market acceptance of The Work Number and our other services. Our
financial condition, results of operations and reputation may be significantly
harmed if any asserted claims were ultimately decided against us.
25
CHANGES IN ECONOMIC CONDITIONS OR CHANGES TO UNEMPLOYMENT COMPENSATION LAWS
COULD LIMIT UNEMPLOYMENT COMPENSATION CLAIMS, CAUSING EMPLOYERS TO QUESTION THE
VALUE OF UNEMPLOYMENT COMPENSATION MANAGEMENT AND LIMITING OPPORTUNITIES FOR TAX
PLANNING.
The difficult economic environment and consequent staff reductions by many
employers have resulted in an increase in unemployment compensation claims, and
employers have more readily recognized the value of our unemployment
compensation management and unemployment compensation tax planning services. As
economic conditions improve, and claims decrease, employers may question the
value of these services. If economic conditions do not improve, states with
significant budget challenges may take legislative or regulatory steps to reduce
unemployment benefits or to close tax-planning opportunities, which could reduce
the opportunities for service to employers. In such situations, our revenues
could be harmed. For example, as a result of uncertain economic conditions we
experienced lower revenue levels in our unemployment cost management services
business during fiscal year 2004. The UC eXpress revenue stream is characterized
by annual retainers that provide a revenue base with upside potential through
contingency billings from tax consulting or through additional billings if
claims processed, or the performance measures, exceed contractually set levels.
For example, during fiscal year 2004, uncertain economic conditions contributed
to a reduction in activity in our unemployment tax consulting business and
current claims activity was less than expected.
If new statutes or regulations were adopted that restricted our business or the
ability of others to provide us with payroll and HR information, or existing
statutes or regulations were deemed to apply to us or such third parties, we may
be required to change our activities and revise or eliminate our services, which
could significantly harm our revenues and operations.
OUR FUTURE PERFORMANCE WILL BE DEPENDENT ON SUCCESSFUL INTEGRATION OF
ACQUISITIONS.
We expect a portion of our growth to come from business acquisitions which we
recently consummated or which we may consummate in the future. Such acquisitions
involve certain operational, legal and financial risks. Operational risks
include the possibility that an acquisition does not ultimately provide the
benefits originally anticipated by our management, while we continue to incur
operating expenses to provide the services formerly provided by the acquired
company. Legal risks involve contract and regulatory issues. For example, some
employers may not consent to the transfer of ownership of their contracts by
which the unemployment cost management services are provided, and some states'
unemployment compensation commissions may require changes to powers of attorney
by which the employer authorizes processing of claims. In the event of any loss
of employer-customers or our inability to appear before state unemployment
commissions, our business and results of operations may be materially adversely
affected. Financial risks involve the incurrence of indebtedness as a result of
the acquisitions and the consequent need to service that indebtedness. In
addition, the issuance of stock in connection with acquisitions dilutes the
voting power and may dilute the economic interests of existing shareholders. In
carrying out our acquisition strategy, we attempt to minimize the risk of
unexpected liabilities and contingencies associated with acquired businesses
through planning, investigation and negotiation, but there can be no assurance
that we will be successful in doing so, nor can there be any assurance that we
will be successful in identifying attractive acquisition candidates or
completing additional acquisitions on favorable terms.
IF THE FAIR CREDIT REPORTING ACT APPLIES TO THE WORK NUMBER SERVICES, OUR
BUSINESS AND REVENUES COULD BE HARMED.
The Fair Credit Reporting Act, which we refer to as the FCRA, applies to
"consumer reporting agencies" that engage in the practice of "assembling or
evaluating" certain information relating to consumers. It is unclear whether the
FCRA applies to The Work Number services. It is our position that The Work
Number services do not cause us to be a consumer reporting agency and that the
FCRA does not apply to The Work Number services. Although there is no conclusive
legal authority concerning whether the FCRA applies to The Work Number services,
recent public concerns relating to privacy and identity theft issues may
increase the risk of action by consumers through litigation or by the Federal
Trade Commission, or the "FTC," or state regulatory authority, which enforce the
FCRA. If a court or the FTC or state regulatory authority were to determine that
the FCRA applies to the Work Number services, we could be subject to claims for
damages, penalties and attorneys' fees and may experience negative publicity and
reputational harm. Additionally, we could incur increased operational costs and
need to change the manner in which we administer The Work Number services. For
example, the FCRA requires that a consumer reporting agency
26
determine that there be a "permissible purpose" before disclosing a consumer
report and furnish certain notices and information in writing to consumers as
consumer reports are used. If required, we could have difficulty complying with
these procedures for certain types of transactions; The Work Number services are
designed to operate via the web and interactive voice response, instead of
paper. We would need to incur capital expenditures which could be significant in
an effort to make our systems compliant with the FCRA. Further, we might have to
eliminate certain types of transactions, resulting in loss of revenue. As a
result, while it is difficult to estimate the ultimate impact on us in the event
the FCRA were deemed to apply to The Work Number services, our business,
operations, results of operations and financial condition could be significantly
harmed.
PRIVACY LEGISLATION OR INTERPRETATIONS OF EXISTING LAWS COULD RESTRICT OUR
BUSINESS.
Personal privacy has become a significant issue in the United States. Some
commentators, privacy advocates and government bodies have recommended
limitations on, or taken actions to limit, the use of personal information by
those collecting this information. For example, in 1999, Congress enacted the
Gramm-Leach-Bliley Act, which contains provisions protecting the privacy of
consumer non-public personal information collected by financial institutions.
Additionally, federal privacy regulations relating to the use and disclosure of
individually identifiable health information were issued by the Department of
Health and Human Services pursuant to the Health Insurance Portability and
Accountability Act of 1996, or "HIPAA." Additional regulations under HIPAA are
scheduled to become effective on April 15, 2005. These privacy regulations could
impose additional costs and could limit our use and disclosure of such
information. Some states have also enacted consumer and health information
privacy protection laws.
If new statutes or regulations were adopted that restricted our business, or
existing statutes or regulations were deemed to apply to us, we may be required
to change our activities and revise or eliminate our services, which could
significantly harm our revenues and operations.
CHANGES IN TAX LAWS COULD ADVERSELY IMPACT OUR BUSINESS AND RESULTS OF
OPERATIONS.
Certain of our revenues and profits from continuing operations were derived from
our tax services businesses. Moreover, as discussed in Note 11 of Notes to
Unaudited Consolidated Financial Statements, we believe that the businesses that
we acquired in October 2004 will add to these revenues and profits.
At any time, the tax laws or the administrative interpretations of those laws
may be amended. Any of those new laws or interpretations could adversely affect
us. For example, on October 22, 2004, the President signed the "American Jobs
Creation Act of 2004." While we do not believe this Act contains any provisions
that are likely to have an adverse effect on our business, we are currently
evaluating its impact. On October 4, 2004, the President signed the "Working
Families Tax Relief Act of 2004," which extended the provisions of the Work
Opportunity Tax Credit and the Welfare to Work Tax Credit available to employers
through December 31, 2005, after which date, without further Congressional
action, these programs would again lapse and no longer be available to our
clients. This law additionally made the extension retroactive to January 1,
2004, allowing employers with qualified employees hired during the hiatus period
that followed the former expiration of the programs on December 31, 2003 to
access these tax credits for 2004.
The businesses that we acquired in October 2004 assist employers in identifying
employment-related tax incentive programs available to them under both federal
and state tax legislation. Although these programs have been historically
renewed retroactively by Congress following their lapsing in accordance with
their terms, Congress may not similarly renew such programs in the future.
Moreover, if programs lapse, any future renewals may not be retroactive, which
means that the value of such programs to our clients could be reduced to such an
extent that they no longer desire our tax credit services. Any non-renewal of
these tax credit programs, the renewal of such programs without retroactive
effect, or other adverse change in tax legislation could adversely affect our
business and results of operations.
IF THE SUTA DUMPING PREVENTION ACT OF 2004 APPLIES TO OUR TAX PLANNING SERVICES,
OUR BUSINESS AND REVENUES COULD BE HARMED.
On August 9, 2004 the President signed the "SUTA Dumping Prevention Act of
2004." In the past, some employers found ways to manipulate state experience
rating systems so that these employers paid lower state employment compensation
taxes than their unemployment experience would otherwise allow. This practice is
referred to as
27
"SUTA dumping." "SUTA" refers to state unemployment tax acts, but has also been
referred to "state unemployment tax avoidance." Most frequently these avoidance
tactics involved mergers, acquisitions or corporate restructurings, the legality
of which depended upon state laws. The SUTA Dumping Prevention Act of 2004
established a nationwide minimum standard to curb SUTA dumping. The law also
established penalties for employers and their advisors who knowingly violate
those state law provisions.
Our unemployment cost management services include advising clients as to
unemployment compensation taxes. We fully support the measures enacted in the
SUTA dumping legislation, and we believe the advice we have given does not
include advice to clients to take any action which would be prohibited under the
legislation. However, there can be no assurance that we have not and will not
provide advice to clients or that our clients have not taken or will not take
action which runs afoul of the SUTA Dumping Prevention Act of 2004. We could be
subject to "meaningful civil and criminal penalties," as the statute provides,
for violations of the law. We could also be subject to negative publicity, harm
to our reputation, and strained relationships with state agencies which are
important to our business if we were accused of advising clients to take actions
in violation of the SUTA dumping guidelines, or if clients took such actions at
a time when we were providing advice on unemployment compensation taxes. The new
law has not been interpreted or applied, and, as a consequence, it is difficult
to predict the impact of the new law on our tax planning services.
INTERRUPTIONS TO OUR COMPUTER NETWORK OR TELEPHONE OPERATIONS COULD
SIGNIFICANTLY HARM OUR REVENUES AND INDUSTRY REPUTATION.
Significant portions of our operations depend on our ability to protect our
computer equipment and the information stored in our data processing centers
against damage from fire, power loss, telecommunications failures, unauthorized
intrusion and other events. We have data processing centers located in St.
Louis, Missouri; Columbus, Ohio; Cleveland, Ohio; and Plano, Texas, which areas
have historically been vulnerable to natural disasters and other risks, such as
floods, earthquakes and tornadoes. We back-up software and related data files
regularly and store the back-up files off-site at a nearby secure facility. A
portion of the data is also replicated to an off-site storage area network for
high availability. We cannot assure you that these measures will eliminate the
risk of extended interruption of our operations. We also rely on local and
long-distance telephone companies to provide dial-up access, Web and corporate
intranet access to our services. We have not established an alternative disaster
recovery facility, which would serve to protect us from losses of employee
record information due to damage to our data storage facilities. Any damage or
failure that interrupts our operations or destroys some or all of our database
of employee records could have a material adverse effect on our revenues,
profitability and industry reputation.
OUR QUARTERLY AND ANNUAL OPERATING RESULTS MAY FLUCTUATE SIGNIFICANTLY, WHICH
COULD CAUSE OUR STOCK PRICE TO DECLINE SIGNIFICANTLY.
Our revenues, margins and results from operations have fluctuated in the past,
and may continue to fluctuate in the future due to a number of factors.
For The Work Number, these factors include residential mortgage activity and
interest rate levels. Revenues generated from our W-2 eXpress service are
affected by seasonality, as revenues are primarily earned in our fourth fiscal
quarter. For all of our service offerings, other factors that can cause our
operating results to fluctuate include:
- new product introductions or announcements by us or our competitors;
- market acceptance of new services;
- pricing pressure;
- the hiring and training of additional staff;
- the length of the sales cycle; and
- general economic conditions.
We cannot assure you that we will be able to sustain our level of total revenue
or our historical rate of revenue growth on a quarterly or annual basis. It is
likely that, in some future quarters, our operating results will fall below our
targets and the expectations of stock market analysts and investors. In such
event, the price of the notes and our common stock could decline significantly.
28
WE MAY BE SUBJECT TO ADDITIONAL REGULATORY PROCEEDINGS AS A RESULT OF OUR RECENT
FINANCIAL STATEMENT RESTATEMENTS.
In January 2004, we filed restated financial statements for the fiscal years
ended March 31, 1999 through March 31, 2003 and for the first two quarters of
fiscal 2004. In addition, we announced the resignation of Executive Vice
President Craig N. Cohen. Mr. Cohen had previously served as chief financial
officer from January 1994 to May 2003 and as vice president of application
services and software from May 1999 to May 2003.
In December 2002, we filed restated financial statements for each of the
quarters ended June 30, 2000 through June 30, 2002 and for the fiscal years
ended March 31, 2001 and 2002.
On August 12, 2004, we announced that we have reached an agreement in principle
with the Securities and Exchange Commission's Enforcement Division, under which
we would pay a fine of $2.5 million and would consent, without admitting any
wrongdoing, to the entry of an SEC order prohibiting us from violating certain
securities laws in the future. The agreement in principle was reached with the
SEC staff and must be approved by the Commission in Washington, D.C. before it
becomes final. We recorded a reserve of $3.0 million related to the potential
SEC settlement in the first fiscal quarter of 2005. Due to the inherent
uncertainties of matters of this nature, we cannot accurately predict the
ultimate outcome of the SEC investigation. If we are not able to reach a final
settlement, the SEC could initiate regulatory proceedings, an enforcement
action, or other remedies against us. An unfavorable outcome could trigger an
event of default under our Loan Agreement and could have a material adverse
impact on our business, consolidated financial condition, liquidity and results
of operations.
IF WE ARE UNABLE TO SUCCESSFULLY INTRODUCE NEW BUSINESS PROCESS OUTSOURCING
SERVICES AND ENHANCED FUNCTIONALITY TO KEEP PACE WITH RAPID TECHNOLOGICAL
CHANGES THAT CHARACTERIZE OUR MARKETS, OUR RESULTS OF OPERATIONS WOULD BE
SIGNIFICANTLY HARMED.
The business process outsourcing industry is characterized by rapidly changing
technology and our future success will depend upon our ability to keep pace with
technological developments. In particular, the market for self-service
applications through the Web and corporate intranets using browser software is
rapidly evolving.
To remain competitive, we must continually change and improve our services in
response to changes in operating systems, application software, computer and
telephony hardware, communications, database and networking systems, programming
tools and computer language technology. Additionally, we must also introduce new
business process outsourcing services and add functionality to existing services
in response to changing market conditions and client demand.
The development of new, technologically advanced services is a complex and
uncertain process requiring high levels of innovation and highly skilled
engineering and development personnel, as well as the accurate anticipation of
technology and market trends.
If we are unable, for technical or other reasons, to develop and market new
business process outsourcing services or enhancements to existing services in a
timely and cost-effective manner, or if new business process outsourcing
services do not achieve market acceptance, we could lose revenues and our
competitive position could suffer.
WE DEPEND ON THIRD-PARTY SOFTWARE AND HARDWARE, WHICH EXPOSES US TO DISRUPTION
IF THOSE PRODUCTS ARE NO LONGER SUPPORTED OR DEVELOP DEFECTS.
Our services involve integration with both operating systems and products
developed by others. If any third-party software or hardware, such as Microsoft
Windows server products, Microsoft development tools, Oracle database software,
Sun Solaris, Informix database software, Intel Media processing hardware or
Sybase Power Builder development tools, become unavailable for any reason, fail
to integrate with our services or fail to be supported by their respective
vendors or to operate properly, we would have to redesign our services. We
cannot assure you that we could accomplish any redesign in a cost-effective or
timely manner. Further, if third-parties release new versions of these systems
or products before we develop services compatible with such new releases, demand
for our services might decline, thereby harming our revenues and profitability.
29
We believe that if any supplier agreement expires or is canceled or otherwise
terminated, or if a third-party supplier refuses to sell to us, we could locate
any number of different suppliers. However, it would require a significant
amount of time to integrate the relevant technology from the new supplier, which
would result in a significant delay in our ability to offer the particular
enhancement. We could also experience difficulties integrating the new
supplier's technology with our services. We cannot assure you we could
accomplish any such integration in a cost-effective manner. Significant delays
in the offering of service or product enhancements due to integration of
technology from new suppliers could significantly harm our revenues and
profitability.
OUR SERVICES MAY CONTAIN DEFECTS OR LACK ADEQUATE SECURITY, WHICH MAY CAUSE US
TO INCUR SIGNIFICANT COSTS, DIVERT OUR ATTENTION FROM PRODUCT DEVELOPMENT
EFFORTS AND RESULT IN A LOSS OF CUSTOMERS.
As a result of their complexity, business process outsourcing services and
hardware and software may contain undetected errors or failures when first
introduced or as new versions are released. We cannot assure you that, despite
testing by us and our clients, errors will not occur in services and systems
after implementation. The occurrence of such errors could result in potential
security issues or loss or delay in market acceptance of our services, which
could significantly harm our revenues and our reputation.
Web or other users could access without authorization or otherwise disrupt our
web and corporate intranet services. Such unauthorized access and other
disruptions could jeopardize the security of information stored in and
transmitted through the computer systems of our clients, which could result in
significant liability to us, could cause the loss of existing clients and could
discourage potential new clients.
THE LOSS OF KEY MANAGEMENT WOULD ADVERSELY AFFECT OUR BUSINESS.
Our success depends in large part on the retention of key management, especially
William W. Canfield, the Chairman of our board of directors and our President
and Chief Executive Officer, who has served in that capacity for more than 15
years. We would likely undergo a difficult transition period if we were to lose
the services of our key management, including Mr. Canfield, which would
materially and adversely affect our business and prospects.
BECAUSE OF INTENSE COMPETITION FOR TRAINED PERSONNEL, WE MAY NOT BE ABLE TO
RECRUIT OR RETAIN NECESSARY PERSONNEL ON A COST-EFFECTIVE BASIS.
Our success depends in large part upon our ability to identify, hire, retain and
motivate highly-skilled employees. Competition for highly-skilled employees in
our industry is intense. In addition, employees may leave our company and
subsequently compete against us. Our failure to attract and retain these
qualified employees could significantly harm our ability to develop new services
and maintain customer relationships.
Moreover, companies in our industry whose employees accept positions with
competitors frequently claim that those competitors have engaged in unfair
hiring practices. We may be subject to such claims as we seek to retain or hire
qualified personnel, some of whom may currently be working for our competitors.
Some of these claims may result in material litigation. We could incur
substantial costs in defending ourselves against these claims, regardless of
their merits. Such claims could also discourage potential employees who
currently work for our competitors from joining us.
CLAIMS THAT WE INFRINGE THIRD-PARTY INTELLECTUAL PROPERTY RIGHTS COULD RESULT IN
SIGNIFICANT EXPENSES OR RESTRICTIONS ON OUR ABILITY TO SELL OUR SERVICES.
Other parties have asserted in the past, and may assert in the future, patent,
copyright, trademark and other intellectual property rights to technologies that
are important to our business. For example, we have entered into a license to
use various interactive voice response and computer telephony technologies that
required us to make an initial payment and to pay future royalties. Further, we
have not conducted a search to determine whether the technology we have used in
our services infringes or misappropriates intellectual property held by other
third-parties. We cannot provide assurance that others will not claim that we
are infringing their intellectual property rights or that we do not in fact
infringe those intellectual property rights.
30
Any claims asserting that our services infringe or may infringe proprietary
rights of third-parties, if determined adversely to us, could significantly harm
our results of operations. Any claims, with or without merit, could:
- be time-consuming;
- result in costly litigation;
- divert the efforts of our technical and management personnel;
- require us to develop alternative technology, thereby resulting in
delays and the loss or deferral of revenues;
- require us to cease marketing business process outsourcing services
containing the infringing intellectual property;
- require us to pay substantial damage awards;
- damage our reputation; or
- require us to enter into royalty or licensing agreements which may
not be available on acceptable terms, if at all.
In the event a claim against us were successful and we could not obtain a
license to the relevant technology on acceptable terms or license a substitute
technology or redesign our services to avoid infringement, our revenues, results
of operations and competitive position would be harmed.
OUR FAILURE TO PROTECT OUR INTELLECTUAL PROPERTY MAY SIGNIFICANTLY HARM OUR
RESULTS OF OPERATIONS AND REPUTATION.
Our success and ability to compete is dependent in part on our ability to
protect and maintain our proprietary rights to our intellectual property. We
currently rely on a combination of trade secret, trademark and copyright laws to
establish and protect our intellectual property.
We generally enter into confidentiality agreements with our officers, employees
and consultants. We also generally limit access to and distribution of our
source code, access to our databases and the disclosure and use of our other
proprietary information. However, these measures provide only limited protection
of our intellectual property rights. In addition, we may not have signed
agreements containing adequate protective provisions in every case, and the
contractual provisions that are in place may not provide us with adequate
protection in all circumstances. Further, we have not included copyright notices
on all of our copyrightable intellectual property. Any infringement of our
proprietary rights could result in significant litigation costs, and any failure
to adequately protect our proprietary rights could result in our competitors
offering similar services, potentially resulting in the loss of one or more
competitive advantages and decreased revenues.
Despite our efforts to protect our proprietary rights, existing trade secret,
copyright, patent and trademark laws afford us only limited protection. Others
may attempt to copy or reverse engineer aspects of our services or to obtain and
use information that we regard as proprietary. Accordingly, we may not be able
to prevent misappropriation of our technologies or to deter others from
developing similar technologies. Further, monitoring the unauthorized use of our
products and other proprietary rights is difficult. Litigation may be necessary
to enforce our intellectual property rights or to determine the validity and
scope of the proprietary rights of others. Litigation of this type could result
in substantial costs and diversion of resources and could significantly harm our
results of operations and reputation.
WE FACE COMPETITION FROM A BROAD RANGE OF COMPANIES.
The markets for our services are extremely competitive and subject to rapid
technological change.
We consider the primary competitors to The Work Number and the unemployment cost
management business to be Employers Unity and Jon-Jay Associates, which are
unemployment cost management providers offering employment and income
verification services. Additionally, we are aware of a number of employers and
some software and service providers who have established systems similar to
ePayroll and W-2 eXpress for their internal use and believe additional
competitors may emerge.
31
Increased competition could result in price reductions, reduced gross margins
and loss of market share, any of which could significantly harm our results of
operations. Additionally, we may be required to increase spending in response to
competition in order to pursue new market opportunities or to invest in research
and development efforts, and, as a result, our operating results in the future
may be adversely affected. We cannot assure you that we will be able to compete
successfully against current and future competitors or that competitive
pressures we face will not significantly harm our results of operations.
WE MAY BE EXPOSED TO POTENTIAL RISKS RESULTING FROM NEW REQUIREMENTS THAT WE
EVALUATE OUR INTERNAL CONTROL OVER FINANCIAL REPORTING UNDER SECTION 404 OF THE
SARBANES-OXLEY ACT OF 2002.
Pursuant to Section 404 of the Sarbanes-Oxley Act of 2002, we will be required,
beginning with our fiscal year ending March 31, 2005, to include in our annual
report our assessment of the effectiveness of our internal control over
financial reporting and our audited financial statements as of the end of fiscal
2005. Furthermore, our independent registered public accounting firm, KPMG LLP,
will be required to attest to whether our assessment of the effectiveness of our
internal control over financial reporting is fairly stated in all material
respects and separately report on whether it believes we maintained, in all
material respects, effective internal control over financial reporting as of
March 31, 2005. We have not yet completed our assessment of the effectiveness of
our internal control over financial reporting. We expect to incur additional
expenses and diversion of management's time as a result of performing the system
and process evaluation, testing and remediation required in order to comply with
the management certification and auditor attestation requirements. If we fail to
timely complete this assessment, or if our independent registered public
accounting firm cannot timely attest to our assessment, we could be subject to
regulatory sanctions and a loss of public confidence in our internal control. In
addition, any failure to implement required new or improved controls, or
difficulties encountered in their implementation, could harm our operating
results or cause us to fail to timely meet our regulatory reporting obligations.
PROVISIONS OF OUR ARTICLES OF INCORPORATION AND BYLAWS AND MISSOURI LAW MAY MAKE
IT DIFFICULT FOR A THIRD PARTY TO ACQUIRE US, DESPITE THE POSSIBLE BENEFITS TO
OUR SHAREHOLDERS.
A number of provisions of our articles of incorporation and bylaws and Missouri
law could make it difficult for a third party to acquire, or discourage a third
party from attempting to acquire control of us. These provisions:
- provide for a classified board of directors;
- limit the right of shareholders to remove directors or change the
size of the board of directors;
- limit the right of shareholders to fill vacancies on the board of
directors;
- limit the right of shareholders to act by written consent and to
call a special meeting of shareholders or propose other actions;
- provide that the bylaws may be amended only by the majority vote of
the board of directors, and shareholders will not be able to amend
the bylaws without first amending the articles of incorporation;
- require a higher percentage of shareholders than would otherwise be
required to amend, alter, change or repeal certain provisions of our
articles of incorporation and bylaws;
- authorize the issuance of preferred stock with any voting rights,
dividend rights, conversion privileges, redemption rights and
liquidation rights, and other rights, preferences, privileges,
powers, qualifications, limitations or restrictions as may be
specified by our board of directors, without shareholder approval;
and
- restrict specified types of "business combinations" and "control
share acquisitions," as well as regulate some tender offers.
These provisions may:
- have the effect of delaying, deferring or preventing a change in our
control despite possible benefits to our shareholders;
- discourage bids at a premium over the market price of our common
stock; and
- harm the market price of our common stock and the voting and other
rights of our shareholders.
32
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our Term Loan A bears interest at rates we select under the terms of the Loan
Agreement, including a base rate or eurodollar rate, plus an applicable margin.
The applicable margin for eurodollar rate loans under Term Loan A varies from
1.75% to 3.25%, and the applicable margin for base rate loans under Term Loan A
will be either 0.00% or 0.25%, in each case based upon our ratio of total
indebtedness to EBITDA (earnings before interest, taxes, depreciation and
amortization).
As of September 30, 2004, we had $45.0 million principal outstanding on Term
Loan A, of which $23.5 million was hedged with interest rate swap contracts. On
an annual basis, a 100 basis point change in interest rates would result in an
approximate $215,000 change to our annual interest expense, based on net
variable borrowings of $21.5 million.
ITEM 4. CONTROLS AND PROCEDURES
As of the end of the period covered by this report, management, including our
Chairman, President and Chief Executive Officer and our Chief Financial Officer
and Assistant Secretary, evaluated the effectiveness of the design and operation
of our disclosure controls and procedures with respect to the information
generated for use in this Quarterly Report. Based upon, and as of the date of
that evaluation, the Chairman, President and Chief Executive Officer and the
Chief Financial Officer and Assistant Secretary concluded that the disclosure
controls and procedures were effective to provide reasonable assurance that
information required to be disclosed in the reports we file or submit under the
Securities Exchange Act of 1934 is recorded, processed, summarized and reported
within the time periods specified in the Commission's rules and forms.
There was no change in our internal control over financial reporting during the
quarter ended September 30, 2004 that has materially affected, or is reasonably
likely to materially affect, our internal control over financial reporting.
It should be noted that while our management, including the Chairman, President
and Chief Executive Officer and the Chief Financial Officer and Assistant
Secretary, believes our disclosure controls and procedures provide a reasonable
level of assurance, they do not expect that our disclosure controls and
procedures or internal controls will prevent all error and all fraud. A control
system, no matter how well conceived or operated, can provide only reasonable,
not absolute, assurance that the objectives of the control system are met.
Further, the design of a control system must reflect the fact that there are
resource constraints, and the benefits of controls must be considered relative
to their costs. Because of the inherent limitations in all control systems, no
evaluation of controls can provide absolute assurance that all control issues
and instances of fraud, if any, within the Company have been detected. These
inherent limitations include the realities that judgments in decision-making can
be faulty, and that breakdowns can occur because of simple error or mistake.
Additionally, controls can be circumvented by the individual acts of some
persons, by collusion of two or more people, or by management override of the
controls. The design of any system of controls is based in part upon certain
assumptions about the likelihood of future events, and there can be no assurance
that any design will succeed in achieving its stated goals under all potential
future conditions; over time, controls may become inadequate because of changes
in conditions, or the degree of compliance with the policies or procedures may
deteriorate. Because of the inherent limitations in a cost-effective control
system, misstatements due to error or fraud may occur and not be detected.
33
TALX CORPORATION AND SUBSIDIARIES
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The information contained in Note 10 of Notes to Unaudited Consolidated
Financial Statements is incorporated by reference herein.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
The following table provides information about purchases of our Company or any
affiliated purchasers during the quarter ended September 30, 2004 of equity
securities that are registered by us pursuant to Section 12 of the Exchange Act:
ISSUER PURCHASES OF EQUITY SECURITIES
TOTAL NUMBER OF MAXIMUM NUMBER
SHARES PURCHASED OF SHARES THAT
AS PART OF MAY YET BE
TOTAL NUMBER PUBLICLY PURCHASED UNDER
OF SHARES AVERAGE PRICE ANNOUNCED PLANS THE PLANS OR
PERIOD PURCHASED (1) PAID PER SHARE OR PROGRAMS (1) PROGRAMS
- ------------------------------------------ ------------- -------------- --------------- --------
July 1, 2004 to July 31, 2004............. -- -- -- 693,789
August 1, 2004 to August 31, 2004......... -- -- -- 693,789
September 1, 2004 to September 30, 2004... -- -- -- 693,789
----- ----- -----
Total................................ -- -- -- 693,789
===== ===== =====
(1) On September 5, 2002, our Board of Directors authorized us to repurchase up
to one million shares of our common stock in the open market or through
privately negotiated transactions during the 36 month period ending September
30, 2005, subject to market conditions and other factors. Under this plan, no
shares were repurchased during the quarter ended June 30, 2004. Cumulative
shares repurchased under this plan as of September 30, 2004 amount to 306,211.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The annual meeting of shareholders of TALX Corporation was held at 2:00 p.m.
local time, on Thursday, September 9, 2004, in St. Louis, Missouri. Of the total
13,727,291 shares of common stock issued, outstanding and eligible to be voted
at the meeting, 13,120,173 shares, representing the same number of votes, were
represented in person or by proxy at the meeting. Four matters were submitted to
a vote of the shareholders at the meeting.
ELECTION OF DIRECTORS. The shareholders elected Tony G. Holcombe, a nominee of
the Board of Directors, to hold office for a term expiring in 2007. The voting
results are set forth below:
NOMINEE FOR WITHHELD BROKER NON-VOTE
- ----------------------- --- -------- ---------------
Tony G. Holcombe 12,466,233 653,940 0
ELECTION OF DIRECTORS. The shareholders elected Craig E. LeBarge , a nominee of
the Board of Directors, to hold office for a term expiring in 2007. The voting
results are set forth below:
NOMINEE FOR WITHHELD BROKER NON-VOTE
- ------------------------ --- -------- ---------------
Craig E. LeBarge 12,637,763 482,410 0
34
AMENDMENT OF THE TALX CORPORATION OUTSIDE DIRECTORS' STOCK OPTION PLAN. The
shareholders approved the second amendment to the TALX Corporation Outside
Directors' Stock Option Plan. The voting results are set forth below:
FOR AGAINST ABSTAIN BROKER NON-VOTE
- ------------------ ------- ------- ---------------
9,800,152 1,141,255 173,185 2,005,581
RATIFICATION OF SELECTION OF INDEPENDENT AUDITORS. The shareholders ratified
KPMG LLP as the Company's independent auditors to perform the audit of the
Company's financial statements for the year ending March 31, 2005. The voting
results are set forth below:
FOR AGAINST ABSTAIN
- ------------------ ------- -------
12,359,653 512,309 248,211
In addition to the directors elected at the meeting, Eugene M. Toombs, M.
Stephen Yoakum, William W. Canfield and Richard F. Ford are directors whose
terms continued after the meeting.
Under the Articles of Incorporation and Bylaws of TALX Corporation, for purposes
of determining whether votes have been cast, abstentions and broker "non-votes"
are counted as present for purposes of determining the number of shares
represented by proxy at the meeting and have the same effect as if the shares
represented thereby were voted against the nominee or the approval or
ratification of the subject matter of the proposal.
ITEM 5. OTHER INFORMATION.
None
ITEM 6. EXHIBITS
See Exhibit Index.
35
TALX CORPORATION AND SUBSIDIARIES
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.
TALX CORPORATION
Date: November 2, 2004 By: /s/ WILLIAM W. CANFIELD
--------------------------------------------
William W. Canfield
Chairman, President and
Chief Executive Officer
(Principal Executive Officer)
Date: November 2, 2004 By: /s/ L. KEITH GRAVES
--------------------------------------------
L. Keith Graves
Chief Financial Officer and
Assistant Secretary
(Principal Financial and Accounting Officer)
36
TALX CORPORATION AND SUBSIDIARIES
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION
------ -----------
2.1 Asset Purchase Agreement by and among TALX Corporation and
Sheakley-Uniservice, Inc., Sheakley Interactive Services, LLC and
Larry Sheakley dated as of March 22, 2004 and incorporated by
reference to Exhibit 2.1 to our Current Report on Form 8-K filed
April 15, 2004+
2.2 Escrow Agreement by and among TALX Employer Services, LLC, TALX
Corporation, Sheakley-Uniservice, Inc., Sheakley Interactive
Services, LLC and LaSalle Bank National Association dated as of
March 31, 2004 incorporated by reference to Exhibit 2.2 to our
Current Report on Form 8-K filed April 15, 2004
2.3 Transition Services Agreement by and between TALX Employer Services,
LLC, TALX Corporation, Sheakley-Uniservice, Inc., Sheakley
Interactive Services, LLC dated as of March 31, 2004 incorporated by
reference to Exhibit 2.3 to our Current Report on Form 8-K filed
April 15, 2004+
3.1 Restated Articles of Incorporation, as amended, incorporated by
reference from Exhibit 3.1 to our Form 10-K for the fiscal year
ended March 31, 1997 (File No. 000-21465)
3.2 Bylaws, as amended and restated, incorporated by reference to
Exhibit 3.2 to our Quarterly Report on Form 10-Q for the period
ended December 31, 2001 (File No. 000-21465)
10.1 Amended and Restated Loan Agreement among LaSalle Bank National
Association, as Administrative Agent, the Lenders named therein and
TALX Corporation dated as of March 31, 2004 incorporated by
reference from Exhibit 10.1 to our Current Report on Form 8-K Filed
April 15, 2004+
10.2 First Amendment to Amended and Restated Loan Agreement among LaSalle
Bank National Association, as Administrative Agent, the Lenders
named therein and TALX Corporation dated as of September 9, 2004
10.3 Second Amendment to Amended and Restated Loan Agreement among
LaSalle Bank National Association, as Administrative Agent, the
Lenders named therein and TALX Corporation dated as of September 30,
2004
10.4 Second Amendment to TALX Corporation Outside Directors' Stock Option
Plan incorporated by reference to Exhibit 4.3 to our Registration
Statement on Form S-8 (File No. 333-119933) filed on October 25,
2004*
11 Computation of Earnings Per Share
31.1 Chief Executive Officer Certification pursuant to Rule 13a-14(a)
under the Securities Exchange Act of 1934.
31.2 Chief Financial Officer Certification pursuant to Rule 13a-14(a)
under the Securities Exchange Act of 1934.
32.1 Chief Executive Officer Certification pursuant to Rule 13a-14(b)
under the Exchange Act and 18 U.S.C. Section 1350.
32.2 Chief Financial Officer Certification pursuant to Rule 13a-14(b)
under the Exchange Act and 18 U.S.C. Section 1350.
37
+ TALX Corporation undertakes to furnish supplementally a copy of any
schedule to the Securities Exchange Commission upon request.
* Indicates a compensatory plan or arrangement.
38