UNITED STATES SECURITIES AND EXCHANGE COMMISSION

 

Washington, D.C.  20549

 

FORM 10-Q

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended March 31, 2003

 

Commission File No. 0-20947

 

ON-SITE SOURCING, INC.

(Exact name of registrant as specified in its charter)

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

 

Yes ý  No o.

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of May 12, 2003:

 

 

 

ON-SITE SOURCING, INC.

INDEX

 

Part I.	Financial Information
Item 1.	Financial Statements:
	Balance Sheets as of March 31, 2003 (unaudited) and December 31, 2002
	Statements of Operations for the Three Months Ended March 31, 2003 (unaudited) and 2002 (unaudited)
	Condensed Statements of Cash Flows for the Three Months Ended March 31, 2003 (unaudited) and 2002 (unaudited)
	Notes to Financial Statements
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations and Liquidity
Item 3.	Quantitative and Qualitative Disclosures About Market Risk
Item 4.	Controls and Procedures
Part II.	Other Information
Item 1.	Legal Proceedings
Item 2.	Changes in Securities and Use of Proceeds
Item 3.	Defaults Upon Senior Securities
Item 4.	Submission of Matters to a Vote of Security Holders
Item 5.	Other Information
Item 6.	Exhibits and Reports on Form 8-K

 

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ON-SITE SOURCING, INC.

BALANCE SHEETS

 

		March 31, 2003			December 31, 2002
		(Unaudited)
ASSETS
CURRENT ASSETS:
Cash		$	4,279		$	4,279
Accounts receivable, net		8,466,078			8,157,822
Prepaid supplies		466,069			503,693
Prepaid expenses		341,497			288,469
Income taxes refundable		419,815			—
Deferred tax asset		104,608			104,608
Notes receivable		42,240			48,442
Total current assets		9,844,586			9,107,313
Property and equipment, net		14,323,372			14,894,103
OTHER ASSETS
Goodwill		648,443			648,443
Income taxes refundable		191,553			606,134
Other assets		139,681			152,767
Total assets		$	25,147,635		$	25,408,760
LIABILITIES AND STOCKHOLDERS’ EQUITY
CURRENT LIABILITIES:
Line of credit		$	3,500,352		$	2,861,414
Current portion of long-term debt		1,082,432			1,101,706
Accounts payable		1,434,976			1,987,302
Accrued and other liabilities		1,269,478			1,238,028
Total current liabilities		7,287,238			7,188,450
NONCURRENT LIABILITIES
Long-term debt, net of current portion		6,635,913			6,897,100
Deferred rent		259,125			257,747
Deferred tax liability		228,458			266,846
Interest rate swap contract liability		893,210			913,306
Total liabilities		15,303,944			15,523,449
Commitments and contingencies
STOCKHOLDERS’ EQUITY:
Common stock, $0.01 par value, 20,000,000 shares authorized 5,607,815 and 5,589,240 shares issued and 5,494,225 and 5,475,650 outstanding, respectively		56,078			55,892
Additional paid-in capital		7,909,210			7,882,313
Other comprehensive loss		(539,409		)	(551,545		)
Treasury stock (113,590 shares of common stock at cost)		(396,152		)	(396,152		)
Retained earnings		2,813,964			2,894,803
Total stockholders’ equity		9,843,691			9,885,311
Total liabilities and stockholders’ equity		$	25,147,635		$	25,408,760

 

The accompanying notes are an integral part of these financial statements.

 

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ON-SITE SOURCING, INC.

STATEMENTS OF OPERATIONS

 

		(Unaudited) Three Months Ended
		March 31, 2003			March 31, 2002
Revenue		$	8,836,068		$	8,850,235
Costs and expenses:
Cost of sales		6,027,205			5,528,859
		2,808,863			3,321,376
Sales and marketing		1,074,992			1,059,805
General and administrative		1,681,664			1,979,447
		2,756,656			3,039,252
Income from operations		52,207			282,124
Other income (expense):
Other income		13,233			35,588
Interest expense		(185,211		)	(209,806		)
		(171,978		)	(174,218		)
(Loss) Income before taxes		(119,771		)	107,906
Income tax benefit		(38,932		)	(12,069		)
Net (loss) income		$	(80,839	)	$	119,975
(Loss) Earnings per share:
Basic		$	(0.01	)	$	0.02
Diluted		$	(0.01	)	$	0.02
Weighted-average shares outstanding:
Basic		5,485,350			5,224,474
Diluted		5,485,350			5,584,174

 

The accompanying notes are an integral part of these financial statements.

 

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ON-SITE SOURCING, INC.

CONDENSED STATEMENTS OF CASH FLOWS

 

		Unaudited Three Months Ended March 31
		2003			2002
Cash flows from operating activities:
Net cash used in operations		$	(324,437	)	$	(616,054	)
Cash flows from investing activities:
Acquisition of property and equipment		(68,052		)	(1,072,467		)
Receipt of payments on notes receivable		6,202			45,253
Proceeds from disposal of equipment		728			15,777
Net cash used in investing activities		(61,122		)	(1,011,437		)
Cash flows from financing activities:
Proceeds from sale of common stock		27,083			323,679
Payments of long-term debt		(280,462		)	(289,032		)
Borrowings under line of credit		4,875,410			5,153,587
Payments on line of credit		(4,236,472		)	(3,560,494		)
Net cash provided by financing activities		385,559			1,627,740
Net change in cash		—			249
Cash, beginning of period		4,279			3,282
Cash, end of period		$	4,279		$	3,531

 

The accompanying notes are an integral part of these financial statements.

 

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ON-SITE SOURCING, INC.

NOTES TO FINANCIAL STATEMENTS

(unaudited)

1. Nature of Business

 

On-Site Sourcing, Inc. (the Company) was incorporated in the Commonwealth of Virginia in December 1992 and changed its state of incorporation to Delaware in January 1996.  The Company provides digital imaging, reprographics, and color and digital printing to law firms and other organizations throughout the United States. Services are primarily performed in the metropolitan areas of Philadelphia, Pennsylvania, Washington, D.C., Atlanta, Georgia, New York, New York, Gaithersburg, Maryland, and Tempe, Arizona (through October 15, 2002).  In August 2002, the Company expanded its operations to Chicago, Illinois and Wilmington, Delaware.

 

Effective October 15, 2002, the Company ceased production at its facility in Tempe, Arizona, as result of a strategic decision to focus on larger geographic markets for growth, and to minimize current losses. The production facility represented a component of the imaging services segment.

 

2. Basis of Presentation

 

The accompanying unaudited financial statements and related footnotes have been prepared in accordance with generally accepted accounting principles for interim financial information and Article 10 of Regulation S-X.  Accordingly, they do not include all the information and footnotes required by generally accepted accounting principles for annual reporting periods.  The interim financial information, in the opinion of management, reflects all adjustments of a normal recurring nature necessary for a fair statement of the results for the interim periods.

 

The financial information presented should be read in conjunction with the Company’s audited financial statements and the notes thereto for the year ended December 31, 2002, as filed with the Securities and Exchange Commission on Form 10-K.  The results of operations for the three-month periods ended March 31, 2003 and 2002 may not be indicative of the results for the full year.

 

3. Summary of Significant Accounting Policies

 

Revenue Recognition

 

Revenue is primarily derived from providing reprographics, imaging, and digital printing services.   The Company recognizes revenue from services rendered when the following four revenue recognition criteria are met: persuasive evidence of an arrangement exists, services have been rendered or delivery has occurred, the selling price is fixed or determinable, and collectibility is reasonably assured.  Return and bad debt allowances are estimated based on specific identification and historical information.

 

For services that are completed but not delivered to the customers, no revenue is recognized and the associated costs, estimated based on average unit costs, are inventoried accordingly.  Such costs are included in results of operation during the same period when the related services are delivered and the revenue is recognized.

 

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Concentration of Credit Risks

 

Financial instruments that potentially subject the Company to significant concentrations of credit risk consist principally of accounts receivable.  The Company generally sells its products to law firms and other commercial customers located in the United States.  The Company grants credit terms without collateral to its customers and has not experienced any significant credit related losses.  Accounts receivable include allowances to record receivables at their estimated net realizable value.

 

Goodwill

 

The Company accounts for goodwill in accordance with Statement of Financial Accounting Standard (SFAS) No. 142, Goodwill and Other Intangible Assets (SFAS No. 142).  SFAS No. 142 requires the Company to compare the estimated fair value of the reporting unit to its carrying amount to determine if there is potential impairment.  If the estimated fair value of the reporting unit is less than its carrying value, an impairment loss is recorded to the extent that the fair value of the goodwill is less than its carrying value.  If the carrying value of the goodwill exceeds its fair value, an impairment loss is recognized.  The Company determined there was no impairment of goodwill during the periods reported.

 

Impairment of Long-Lived Assets

 

Long-lived assets, primarily property and equipment, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of the assets might not be recoverable. The Company does not perform a periodic assessment of assets for impairment in the absence of such information or indicators. Conditions that would necessitate an impairment assessment include a significant decline in the observable market value of an asset, a significant change in the extent or manner in which an asset is used, or a significant adverse change that would indicate that the carrying amount of an asset or group of assets is not recoverable. For long-lived assets to be held and used, the Company recognizes an impairment loss only if its carrying amount is not recoverable through its undiscounted cash flows and measures the impairment loss based on the difference between the carrying amount and estimated fair value.

 

Derivative Instrument and Hedging Activity

 

The Company uses an interest rate swap to convert its variable-rate interest payments on its mortgage ($5,361,747 at March 31, 2003) to fixed-rate interest payments. This interest rate swap has been designated and qualifies as a cash-flow hedge under SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities” (SFAS No. 133).

 

SFAS No.133 requires the Company to carry all derivative financial instruments on the balance sheet at fair value.  Changes in fair value of designated, qualified and effective cash flow hedges are estimated and recorded as a component of Other Comprehensive Income (Loss) until the hedged transaction occurs, which at that time, is recognized in earnings (loss).  The Company has determined that its interest rate swap was highly effective upon adopting SFAS No. 133.

 

As of and for the three months ended March 31, 2003, the Company recorded a non-current liability of $893,210, which represented the estimated fair value of the interest rate swap, along with an unrealized after-tax loss of $539,409 in Other Comprehensive Loss, which is a component of Stockholders’ Equity.

 

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Stock-Based Compensation

 

The Company uses the intrinsic-value method in accounting for its employee stock options rather than the alternative fair value accounting method. Companies that follow the intrinsic-value method must provide pro forma disclosure of the impact of applying the fair-value method.

 

The following table summarizes relevant information as to reported results under the Company’s intrinsic-value method of accounting for stock awards, with supplemental information as if the fair value recognition provisions had been applied:

 

 

The fair value for each option granted was estimated at the date of grant using the Black-Scholes option-pricing model, assuming no expected dividends and the following weighted average assumptions:

 

		For the Three Months Ended March 31,
		2003		2002
Average risk-free interest rate		4.94	%	5.45	%
Average expected life (in years)		5		5
Volatility		82.78	%	81.17	%

 

Reclassifications

 

Certain prior year balances have been reclassified to conform to the current year presentation.

 

4. Comprehensive Income

 

SFAS No. 130, “Reporting Comprehensive Income”, requires that total comprehensive income (loss) be disclosed with equal prominence as net income (loss).   Comprehensive income (loss) is defined as changes in stockholders’ equity exclusive of transactions with owners, such as capital contributions and dividends.  The Company’s total comprehensive income (loss) is comprised of net income (loss) and other comprehensive loss, which consists of changes in the estimated fair value of the interest rate swap contract.   At March 31, 2003 and 2002, the components of comprehensive income (loss) were as follows:

 

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5. Earnings (Loss) Per Share

 

Basic earnings (loss) per share excludes dilution and is computed by dividing the net income (loss) by the weighted-average number of common shares outstanding.  Diluted earnings per share is computed by additionally reflecting the potential dilution that could occur, using the treasury stock method, if options to acquire common stock were exercised and resulted in the issuance of common stock. Diluted loss per share excludes the effect of common stock options because their inclusion would have been anti-dilutive.  A reconciliation of the weighted-average number of common shares outstanding assuming dilution is as follows:

 

 

For the three months ended March 31, 2003 and 2002, 790,083 and 133,500 options respectively, were excluded from the above reconciliation, as these options were anti-dilutive for these periods.  For the three months ended March 31, 2003 as a result of a net loss, 22,028 stock options were excluded from the diluted loss per share calculation, as the shares were anti-dilutive.

 

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6. Segment Information

 

The Company is organized and operates in three significant segments: reprographics, imaging, and digital printing services.  Until December 31, 2001, the Company also had a facility management services segment. This segment was significantly reduced during the first quarter of 2002; as most of the service contracts were terminated by the Company.  At March 31, 2003, the Company has one such contract remaining.  Management does not view facility management services as a separate segment for the periods reported.  In the summary of the results of the Company’s operating segments below, the results for the remaining facility management contract are listed under the heading other.

 

Reprographics involves the copying and management of large amounts of documents extracted in their original format, from the offices and files of customers.  Reprographic services include copying, binding, drilling, labeling, collating, assembling and quality review.  The Company’s reprographic centers, currently located in Virginia, New York, Pennsylvania, Georgia, Illinois, Delaware, and Arizona (through October 15, 2002), are open 24 hours a day, seven days a week to handle the prompt turn-around time often requested by customers. A typical job ranges in size from single documents with a small number of pages to multiple sets of documents, which can exceed a million pages. A job is typically picked up by the Company’s in-house dispatch service and brought back to its production center. The jobs are then processed per the customer’s instructions and reviewed by the quality control staff. Documents are returned to the client via the Company’s dispatch service. Reprographic jobs are generally billed on a job-by-job basis, based on the number of copies and the level of difficulty in copying the original documents.

 

Imaging services involves the conversion or transfer of the traditional paper and electronic documents into electronic media or vice-versa. Services provided in the imaging services division primarily cater to law firms. A typical job involves a law firm that is representing a client in a litigation matter. In order for the law firm to prepare for its case, it often must review a large number of documents, emails, and email attachments. As a result, the law firms often have a need to search and retrieve appropriate documents in a timely and efficient manner. In order to help meet this need, the imaging services division offers case management consulting, electronic scanning of documents, converting email, attachments and other electronic files to images, indexing/coding, optical character recognition, electronic discovery, blowback printing, training, technical support and electronic document search and retrieval services. Imaging services are typically billed on a job-by-job basis, based on the number of images and complexity of the retrieval applications.

 

Digital printing services include both black and white and color digital production of catalogs, brochures, postcards, stationary, direct mail, newsletters, and exhibit materials.  Typical customers include organizations requiring print media. In addition, ancillary services, which include graphic design, mailing, special finishing, storage, fulfillment, and delivery services are provided through the digital printing segment. Printing jobs are typically billed on a job-by-job basis depending on several factors, including quantity, number of colors, quality of paper, and graphic design time.

 

The Company evaluates its segments’ performance based on revenue and results from operations before allocation of corporate administrative expenses and income taxes.  A summary of the results of the Company’s operating segments is as follows:

 

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7.              Line of Credit and Other Debt

 

The Company had a working capital line of credit with a bank in the amount of $7 million at March 31, 2003.  The working capital line of credit is collateralized by accounts receivable and certain equipment as described in the underlying agreement.  The Company has the capacity to borrow, at any given time, the lesser of the established line of credit or eligible accounts receivable, generally defined as 75% of accounts receivable that are less than 120 days old.  On March 24, 2003 the Company extended the term of the line of credit agreement to May 2004.  The line of credit bears interest at the lesser of the bank’s prime rate or the 30-day LIBOR plus 2.20% (3.46% at March 31, 2003).   At March 31, 2003, the Company had approximately $1.8 million available to draw against the credit line.

 

The Company has a mortgage note and two term notes (the Notes) to the same bank.  At March 31, 2003, the total borrowings under the line of credit and the Notes from the bank were approximately $11 million.  The underlying agreements related to these debts provide cross-default protection provisions to the lender, and require compliance with certain financial covenants.

 

A significant covenant requires the Company to maintain an Interest Coverage Ratio, as defined, in excess of 2.0:1. During the quarter ended September 30, 2002, due to a significant quarterly net loss, the Company was not in compliance with this covenant.  As a result, the Company obtained a waiver of the covenant for the third and fourth quarters of 2002.  The Company met all other financial covenants throughout the year in 2002 and was in compliance with all covenants at December 31, 2002.  During the first quarter of 2003, upon the Company’s request, the bank modified and reduced the Interest Coverage

 

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Ratio requirement to 1.75:1 for the quarters ending March 31, 2003 and June 30, 2003, after which the ratio reverts back to 2.0:1. The modification also allows the exclusion of certain charges, deemed as one time in nature, from the computation of the Interest Coverage Ratio, with advance approval from the bank.  The Company has received approval to exclude certain one-time charges.

 

At March 31, 2003, the Company met all its financial covenants, as modified.  Based on the results of the first quarter of 2003 and future unpredictability of profitability, in May 2003, the Company obtained approval from the bank to reduce the required Interest Coverage Ratio to 1.25:1 for the quarter ending June 30, 2003, after which the ratio reverts back to 2.0:1.

 

The Company believes it will be in compliance with all of the covenants, as modified, within the next twelve months following March 31, 2003.  In the event the Company is not in compliance with the debt covenants, the bank has the right to call for immediate payments on some or all debt borrowings covered under the debt agreements with the bank (approximately $11 million at March 31, 2003).  If such an event were to occur, the Company may be forced to seek alternative sources of funding.  The Company does not believe such an event is likely to occur.

 

Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

On-Site Sourcing, Inc. (On-Site, the Company, we, us, or our) provides document and information management services through its facilities in the greater Atlanta, Baltimore, New York City, Philadelphia, Washington, D.C., Chicago, and Wilmington metropolitan areas, and served clients on the West Coast through its Tempe, Arizona facility (through October 15, 2002).  We help clients in information-intensive industries manage large volumes of documents and information, allowing them to concentrate on their core business operations. Our target clients typically generate large volumes of documents and information that require specialized processing, distribution, storage, and retrieval.  Our typical clients include law firms, insurance companies, healthcare organizations, non-profit organizations, accounting, consulting and finance firms and other organizations throughout the United States.  We also provide commercial printing services utilizing digital printing technology in our facilities in the Washington, D.C. area.  As noted in Footnote 1 to the financial statements, effective October 15, 2002, the Company ceased production at its facility in Tempe, Arizona as result of a strategic decision to focus on larger geographic markets for growth, and to minimize current losses. The production facility represented a component of the Imaging Services Segment.

 

On-Site was originally incorporated in Virginia in December 1992, and changed its state of incorporation to Delaware in March 1996.

 

Forward Looking Disclosure

 

Certain information included herein contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.  All statements other than statements of historical fact, including statements regarding industry prospects, plans for future expansion and other business development activities as well as future results of operations or financial position and the effects of competition are forward looking.  Such forward-looking information is subject to changes and variations which are not reasonably predictable and which could significantly affect future results.  Accordingly, such results may differ from those expressed in any forward-looking statements made by or on behalf of the Company.  The risks and uncertainties that could significantly affect future results include, but are not limited to, those relating to the adequacy of operating and management controls, operating in a competitive environment and a changing environment, including new technology and processes, existing and future vendor relationships, the Company’s ability to access capital and meet its debt service

 

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requirements, dependence on existing management, general economic conditions, terrorist attacks, and changes in federal or state laws or regulations.  These risks and uncertainties, along with the following discussion, describe some, but not all, of the factors that could cause actual results to differ significantly from management’s expectations.

 

Critical Accounting Policies and Judgments

 

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires estimates and assumptions that affect the reported amounts of assets and liabilities, revenue and expenses, and related disclosures of contingent assets and liabilities in the financial statements and accompanying notes.  The U.S. Securities and Exchange Commission has defined a company’s most critical accounting policies as the ones that are most important to the portrayal of the Company’s financial condition and results of operations, and which require the Company to make its most difficult and subjective judgments, often as a result of the need to make estimates of matters that are inherently uncertain.  Based on this definition, we have identified the critical accounting policies and judgments addressed below.  Although we believe that our estimates and assumptions are reasonable, they are based upon information presently available.  Actual results may differ significantly from these estimates under different assumptions or conditions.

 

Revenue Recognition

 

Revenue is primarily derived from providing imaging, reprographics and digital printing services.   The Company recognizes revenue from services rendered when the following four revenue recognition criteria are met: persuasive evidence of an arrangement exists, services have been rendered or delivery has occurred, the selling price is fixed or determinable, and collectibility is reasonably assured.  Return and bad debt allowances are estimated based on specific identification and historical information.

 

For services that are completed but not delivered to the customers, no revenue is recognized and the associated costs, estimated based on average unit costs, are inventoried accordingly.  Such costs are included in results of operation during the same period when the related services are delivered and the revenue is recognized.

 

Included in “Accounts receivable, net” on our Balance Sheets is an allowance for doubtful accounts.  Senior management reviews the accounts receivable aging on a monthly basis to determine if any receivables will potentially be uncollectable.  After all attempts to collect the receivable have failed, the receivable is written off against the allowance.  Based on the information available to us, we believe our allowance for doubtful accounts as of March 31, 2002 is adequate.  However, no assurances can be given that actual write-offs will not exceed the recorded allowance.

 

Accounting for Goodwill

 

Effective January 1, 2002, the Company adopted the full provisions of SFAS No. 142.  In accordance with SFAS No.142, the Company records impairment losses on goodwill when events and circumstances indicate that such assets might be impaired and the estimated fair value of the asset is less than its recorded amount. Conditions that would necessitate an impairment assessment include material adverse changes in operations, significant adverse differences in actual results in comparison with initial valuation forecasts prepared at the time of acquisition, a decision to abandon acquired products, services or technologies, or other significant adverse changes that would indicate the carrying amount of the recorded asset might not be recoverable.  The fair value for goodwill is estimated using the discounted cash flow model, with the Company’s own assumptions.  At March 31, 2003 the Company noted no conditions or

 

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change in circumstances that would render an impairment assessment.  Change in management’s judgment may lead to significantly different results.

 

Accounting for Derivative Instrument and Hedging Activity

 

The Company uses an interest rate swap to convert its variable-rate interest payments on its mortgage ($5,361,747 at March 31, 2003) to fixed-rate interest payments. This interest rate swap was designated as a cash-flow hedge and qualified for the short-cut method of assessing effectiveness under SFAS No. 133 , “Accounting for Derivative Instruments and Hedging Activities” (SFAS No. 133).

 

SFAS No.133 requires the Company to carry all derivative financial instruments on the balance sheet at fair value.  Fair value is obtained from the lending institution on a quarterly basis, and is based on interest rates at the inception of the hedge, current interest rates, and remaining time period until maturity on the underlying debt. Changes in fair value of effective cash flow hedges are recorded as a component of Other Comprehensive Income (Loss) until the hedged transaction occurs, which at that time is recognized in earnings (loss).  The Company assumes the hedged transaction will occur during the term of the underlying agreement.  Results of operations may be materially affected if such transaction were not to occur.

 

Long-lived Assets

 

Long-lived assets (primarily property and equipment) are reviewed for impairment whenever events or changes in circumstances indicate the carrying amount of the assets might not be recoverable. The Company views the following as conditions that necessitate impairment: a significant decline in the observable market value of an asset, a significant change in the extent or manner in which an asset is used, or a significant adverse change that would indicate that the carrying amount of an asset or group of assets is not recoverable. For long-lived assets to be held and used, the Company measures fair value based on quoted market prices, discounted estimates of future cash flows or other methods. For the three months ended March 31, 2003, the Company did not note any events or changes in circumstances indicating the carrying amount of long-lived assets were not recoverable.  The carrying amount of long-lived assets is based on management’s judgment as to estimated future performance of the business.  Changes in judgments regarding future performance may lead to a different result.

 

Accounting for Taxes

 

The Company recognizes deferred tax assets and liabilities based on differences between the financial reporting and tax bases of assets and liabilities using the enacted tax rates and laws that are expected to be in effect when the differences are expected to be reversed. The Company provides a valuation allowance for deferred tax assets for amounts it considers unrealizable.  As of March 31, 2003, the Company did not provide any valuation allowance for the deferred tax assets.  This assessment is based on management’s best estimate of forecasted taxable income.   There can be no guarantee that the actual results will not be materially different from forecasted results.

 

Contingencies

 

In the normal course of business, the Company is subject to certain claims and legal proceedings.  We record an accrued liability for these matters when an adverse outcome is probable and the amount of the potential liability is reasonably estimable.  We do not believe that the resolution of these matters will have a material effect upon our financial condition, results of operations or cash flows for an interim or annual period.

 

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RESULTS OF OPERATIONS

 

Three Months Ended March 31, 2003 Compared with Three Months Ended March 31, 2002

 

REVENUE

 

Revenue for the three months ended March 31, 2003 decreased by $14,167, to $8,836,068 from $8,850,235 in the comparable period in 2002.  Due to inclement weather in New York, Pennsylvania, Delaware, and the Washington, DC area in February 2003, our production facilities lost several days of production time, resulting in lost revenue.  The decrease in revenue was also the result of reduced pricing on some of the services offered due to competitive pricing being offered by competitors.

 

The Company generates a large percentage of its revenue from law firms, which typically engage in large transactional matters involving business combinations. Over the last 18 months the Company has seen a significant decrease in these types of transactional matters as a result of the overall state of the economy and business environment.  The Company, in order to lessen its dependence on law firms, is actively pursuing other sources of revenue, including other market segments such as government, healthcare, insurance and Fortune 1000 organizations.

 

Revenue by reporting segment is included in the Notes to Financials Statements in this quarterly report on Form 10Q.

 

GROSS PROFIT

 

Gross profit decreased approximately $513,000, or 15.4%, to $2.8 million for the three months ended March 31, 2003 as compared to the comparable period in 2002.  Gross profit as a percentage of sales decreased from 37.5% for the three months ended March 31, 2002 to 31.8% for the comparable period in 2003.  Gross profit was negatively impacted as a result of a competitive pricing environment and a service mix that was more heavily weighted on labor-intensive services rather than Electronic File Processing and other automated services.

 

SALES AND MARKETING EXPENSES

 

Sales and marketing expense increased approximately $15,000, or 1.4%, to approximately $1.1 million for the three months ended March 31, 2003 as compared to the comparable period in 2002.  Sales and marketing expenses for the three months ended March 31, 2003, as a percentage of sales, increased to approximately 12.2% from approximately 12.0% in the comparable period in 2002.  Sales and marketing expense primarily consists of sales commissions, salaries and related costs, travel and entertainment, and other costs related to our sales staff.  Commissions to our account executives are paid on an individual

 

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job-by-job basis, depending on profitability of the particular job.  Selling expense fluctuates with the number of  “house” account sales, on which no commissions are paid, and “commissioned” accounts on which sales commissions are paid.  The Company has hired additional account executives with commissioned accounts since the comparable period in 2002, causing sales and marketing expense to increase.

 

GENERAL AND ADMINISTRATIVE EXPENSES

 

General and administrative expenses decreased approximately $300,000 or 15.0%, to approximately $1.7 million for the three months ended March 31, 2003 from approximately $2.0 million in the comparable period in 2002.  General and administrative expenses as a percentage of sales decreased from 22.4% for the three months ended March 31, 2002 to 19.0% in the comparable period in 2003.  Significant factors that contributed to the decreased expense for the three months ended March 31, 2003 include the following:

 

Approximately $140,000 of the decrease for the three months ended March 31, 2003 compared to the three months ended March 31, 2002 is due to a reduction of bonus payments awarded to divisional managers.  The decrease is due to the majority of the divisional managers not meeting the goals set in their bonus plans for 2003.  The bonus plans for 2003 are based on the performance of each segment, reprographics, imaging, and digital printing.  In 2002 the bonus plans were based on the performance of each individual location.

 

Approximately $50,000 of the decrease for the three months ended March 31, 2003 compared to the three months ended March 31, 2002 is due to decreased travel between cities by executive and management level employees.

 

Approximately $20,000 of the decrease for the three months ended March 31, 2003, compared to the three months ended March 31, 2002 is due to a decrease in depreciation costs.  We have experienced a significant decrease in capital expenditures in the last six months, resulting in only a minimal increase in related monthly depreciation cost.  This increase has been offset by a decrease in depreciation costs as a result of assets reaching the end of their depreciable lives and the disposal of certain non-performing assets.

 

Approximately $30,000 of the decrease for the three months ended March 31, 2003, compared to the three months ended March 31, 2002 is due to a decrease in outside and professional fees expense.  The decrease in expense is primarily due to a reduction in legal fees and placement fees.

 

Approximately $50,000 of the decrease for the three months ended March 31, 2003 compared to the three months ended March 31, 2002 is due to a decrease in office expense.  Office expense includes non-production related office supplies, cleaning supplies, break room supplies and payroll processing fees.  The closing of the Arizona office and the increased cost reduction efforts have contributed to the decrease in office expense and the overall decrease in general and administrative expense.

 

OTHER INCOME AND EXPENSE

 

Other income for the three months ended March 31, 2003 was approximately $13,000 compared to approximately $36,000 in the comparable period in 2002, a decrease of approximately $23,000.  The higher income in the three-month period in 2002 was attributable to rental income generated from subletting portions of the building purchased by the Company in Alexandria, Virginia.  The Company

 

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currently is using parts of the building for the corporate headquarters that were sublet in 2002, causing the decrease in other income.  The Company continues to collect rental income from one tenant whose lease expires in April 2004.

 

Interest expense for the three months ended March 31, 2003 totaled approximately $185,000 compared to approximately $210,000 for the comparable period in 2002, a decrease of approximately $25,000.  The decrease is due to reduced overall market rates of interest related to borrowings under term notes and certain other current debt arrangements, and lower utilization of the Company’s line of credit. The Company also currently has less outstanding in term notes as of March 31, 2003 than at March 31, 2002.  The Company’s line of credit balance as of March 31, 2003 was $3,500,352 compared to $4,713,259 as of March 31, 2002.

 

INCOME TAXES

 

For the three months ended March 31, 2003 the Company recorded income tax benefit of $38,932, compared to $12,069 for the comparable period in 2002.  The increase in tax benefit was the result of a net loss for the quarter ended March 31, 2003.

 

LIQUIDITY AND CAPITAL RESOURCES

 

We have funded our expansion by utilizing internally generated cash flow, long term financing, and a short-term commercial line of credit. For our short-term liquidity, we rely on our line of credit, the availability of which depends on the Company’s accounts receivable balances, and cash flows from operations.  The Company may experience an inability to meet its capital requirements if any one or a combination of the following occur: significant losses from operations, significant decrease in revenues, default of certain line of credit covenants, causing the line of credit to be due on demand, or the default by customers, or a group of customers, with significant accounts receivable balances owed to the Company.

 

We anticipate the cash flow from operations and credit facilities will be sufficient to meet the expected cash requirements for the next twelve months. There can be no assurances that unforeseen events may require more working capital than we have at our disposal.  In order to meet its capital requirements, the Company may seek additional sources of financing.  These may include collateral-based loans, capital leases, and operating leases.

 

As of March 31, 2003 we had approximately $4,300 in cash, and working capital of approximately $2.6 million.  In order to ensure additional working capital is available to fund our operations, we had available a $7 million working capital line of credit as of March 31, 2003 and through May 2004.  The Company has the capacity to borrow, at any given time, the lesser of the established line of credit or eligible accounts receivable, generally defined as 75% of accounts receivable that are less than 120 days old.  As of March 31, 2003 we had available approximately $1.8 million under the line of credit.  The working capital line of credit bears interest at the lesser of the bank’s prime rate of interest or the 30-day LIBOR plus 2.20%.

 

At March 31, 2003, the Company had a mortgage note payable (Mortgage) with a carrying amount of $5,361,747.  The mortgage was to fund the purchase of the Alexandria, Virginia property.  In order to manage interest costs and exposure to changing interest rates on the mortgage loan, the Company entered into an interest rate swap agreement in which the interest rate is fixed at 9.48%.  Under the terms of the note and related interest rate swap agreements, the Company is required to make monthly principal and interest payments in the aggregate of $60,495 for a period of seven years, and a lump-sum payment of $4,155,254 when the note becomes due in October 2007.

 

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In September 2002, the Company entered into a note payable in the amount of $1,250,000 (the Note).  The note was obtained to create additional borrowing capacity, in the event it is needed, under the current line of credit agreement.  Under the terms of the Note, the Company is required to make monthly principal and interest payments in the aggregate of $34,722 for a period of three years.  The unpaid principal amount bears interest at a fluctuating annual rate equal to the 1 — Month LIBOR plus 2.50%.

 

The Company has obtained financing for certain equipment (Equipment Financing) in the aggregate amount of $1,780,300 as of March 31, 2003.   The underlying notes are secured by the underlying equipment and accrues interest at the rate of the 30-day LIBOR plus 2.50% and matures in August 2006.

 

The Mortgage, the Note, the Equipment Financing, and the line of credit arrangements were obtained from the same bank.  As of March 31, 2003 the total borrowing from the bank was $11,125,348.  The underlying agreements related to this debt provide cross-default protection provisions to the lender and require certain financial covenants.

 

A significant covenant requires the Company to maintain an Interest Coverage Ratio, as defined, in excess of 2.0:1. During the quarter ended September 30, 2002, due to a significant quarterly net loss, the Company was not in compliance with this covenant.  As a result, the Company obtained a waiver of the covenant for the third and fourth quarters of 2002.  The Company met all other financial covenants throughout the year in 2002 and was in compliance with all covenants at December 31, 2002.  During the first quarter of 2003, upon the Company’s request, the bank reduced the Interest Coverage Ratio requirement to 1.75:1 for the quarters ended March 31, 2003 and June 30, 2003, after which the ratio reverts back to 2.0:1. The modification also allows the exclusion of certain charges, deemed as one time in nature, from the computation of the Interest Coverage Ratio, with advance approval from the bank.  The Company has received approval to exclude certain one-time charges.

 

At March 31, 2003, the Company met all its financial covenants, as modified.  Based on the results of the first quarter of 2003 and future unpredictability of profitability, in May 2003, the Company obtained approval from the bank to reduce the required Interest Coverage Ratio to 1.25:1 for the quarter ending June 30, 2003, after which the ratio reverts back to 2.0:1.

 

The Company believes it will be in compliance with all of the covenants, as modified, within the next twelve months following March 31, 2003.  In the event the Company is not in compliance with the debt covenants, the bank has the right to call for immediate payments on some or all debt borrowings covered under the debt agreements with the bank (approximately $11 million at March 31, 2003).  If such an event were to occur, the Company may be forced to seek alternative sources of funding.  The Company does not believe such an event is likely to occur.

 

The following summarizes, as of March 31, 2003, our obligations and commitments to make future payments (principal and interest) under contracts, including debt and lease arrangements.  We expect to fund such obligations from cash generated from operating activities and funding from our line of credit.

 

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Item 3. Quantitative and Qualitative Disclosures about Market Risk

 

The Company’s activities expose it to market risks that are related to the effects of changes in interest rates.  The Company maintains an interest rate risk management strategy that uses a derivative instrument to minimize significant, unanticipated earnings fluctuations that may arise from volatility in interest rates.

 

However, by using a derivative financial instrument to hedge exposures to changes in interest rates, the Company exposes itself to credit risk.  The Company minimizes its credit (or repayment) risk in derivative instruments by 1) entering into transactions with a high-quality counter-party and 2) monitoring the financial condition of its counter-party.

 

Based upon the composition of the Company’s variable-rate debt outstanding at March 31, 2003, which is primarily borrowings under the working capital line of credit and promissory notes, we do not believe that a hypothetical increase in the bank’s prime rate of interest or the 30-day LIBOR would be material to net income.

 

Item 4. Controls and Procedures

 

Within 90 days prior to the filing date of this report, we evaluated the effectiveness of the design and operation of our disclosure controls and procedures, which are designed to ensure the timeliness and accuracy of our disclosures and financial statements.  This evaluation was under the supervision and with the participation of management, including our Chief Executive Officer and Chief Financial Officer.  The Company and management also recognized that all disclosure controls and procedures have certain limitations based on cost-benefit considerations, and can only provide reasonable assurances of achieving the desired control objectives.  Based upon the evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures are effective in providing reasonable assurances that they are timely alerted to material information required to be included in our period Securities and Exchange Commission filings.

 

There have been no significant changes in the Company’s internal controls or in other factors that could significantly affect these controls subsequent to the date of their evaluation.

 

Part II.   Other Information
Item 1.	Legal Proceedings
None.

 

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Item 2.	Changes in Securities and Use of Proceeds
	None.
Item 3.	Defaults Upon Senior Securities
	None.
Item 4.	Submission of Matters to a Vote of Security Holders
	None
Item 5.	Other Information
	None
Item 6.	Exhibits and Reports
(A)	EXHIBITS
	Exhibit 10.26 Sixth Modification of Amended and Restated Revolving Line of Credit Loan Agreement, Term Loans Agreement and Security Agreement.  Dated May 6, 2003 with Wachovia Bank.
	Exhibit 99.1 Certication Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
	Exhibit 99.2 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
(B)	REPORTS ON FORM 8-K
None

 

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SIGNATURE

 

                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.

 

 

		ON-SITE SOURCING, INC.
		(Registrant)
May 15, 2003		/s/ Jason Parikh
Date		Jason Parikh Chief Financial Officer
		(Duly Authorized Officer and Principal Financial Officer)

 

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CERTIFICATIONS

 

I, Christopher Weiler, certify that:

 

1. I have reviewed this quarterly report on Form 10-Q of On-Site Sourcing, Inc.;

 

2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;

 

3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;

 

4. The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

 

a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;

 

b) evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the “Evaluation Date”); and

 

c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

 

5. The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):

 

a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and

 

b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and

 

6. The registrant’s other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

 

 

/s/ Christopher Weiler

Christopher Weiler

Chief Executive Officer

May 15, 2003

 

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CERTIFICATIONS

 

I, Jason Parikh, certify that:

 

1. I have reviewed this quarterly report on Form 10-Q of On-Site Sourcing, Inc.;

 

2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;

 

3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;

 

4. The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

 

a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;

 

b) evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the “Evaluation Date”); and

 

c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

 

5. The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):

 

a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and

 

b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and

 

6. The registrant’s other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

 

/s/ Jason Parikh

Jason Parikh

Chief Financial Officer

May 15, 2003

 

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