10-Q 1 job_10q.htm FORM 10-Q job_10q.htm

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

 

FORM 10-Q

 

x

QUARTERLY REPORT UNDER SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended June 30, 2019

 

OR

 

o

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934

 

Commission File Number 1-05707

 

GEE GROUP INC.

(Exact name of registrant as specified in its charter)

  

Illinois

36-6097429

(State or other jurisdiction of incorporation or organization)

(I.R.S. Employer Identification Number)

 

7751 Belfort Parkway, Suite 150, Jacksonville, FL 32256

(Address of principal executive offices)

 

(630) 954-0400

(Registrant’s telephone number, including area code)

 

_____________________________________________________________

(Former name, former address and former fiscal year, if changed since last report)

 

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each class 

Trading Symbol(s)

Name of each exchange on which registered

Common Stock, no par value

JOB

NYSE American

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes x No o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer

¨

Accelerated filer

¨

Non-accelerated filer

¨

Smaller reporting company

x

 

Emerging Growth Company

¨

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x

 

The number of shares outstanding of the registrant’s common stock as of August 8, 2019 was 12,538,411.

 

 
 
 
 

  

GEE GROUP INC.

Form 10-Q

For the Quarter Ended June 30, 2019

INDEX

 

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

 

3

 

 

PART I. FINANCIAL INFORMATION

 

Item 1.

Financial Statements (unaudited)

 

4

 

Condensed Consolidated Balance Sheets

 

4

 

Condensed Consolidated Statements of Operations

 

5

 

Condensed Consolidated Statements of Shareholders’ Equity

 

6

 

Condensed Consolidated Statements of Cash Flows

 

7

 

Notes to Condensed Consolidated Financial Statements

 

8

 

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

28

 

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

 

40

 

Item 4.

Controls and Procedures

 

40

 

 

PART II. OTHER INFORMATION

 

Item 1.

Legal Proceedings

 

41

 

Item 1A.

Risk Factors

 

41

 

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

 

41

 

Item 3.

Defaults Upon Senior Securities

 

41

 

Item 4.

Mine Safety Disclosures

 

41

 

Item 5.

Other Information

 

41

 

Item 6.

Exhibits

 

42

 

Signatures

 

43

 

 

 
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CAUTIONARY STATEMENT REGARDING FORWARD LOOKING STATEMENTS

 

As a matter of policy, the Company does not provide forecasts of future financial performance. The statements made in this quarterly report on Form 10-Q which are not historical facts are 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. Such forward-looking statements often contain or are prefaced by words such as "believe", "will" and "expect." These statements are based on current expectations, estimates and projections about our business based, in part, on assumptions made by management. These statements are not guarantees of future performance and involve risks, uncertainties and assumptions that are difficult to predict. As a result of a number of factors, our actual results could differ materially from those set forth in the forward-looking statements. Certain factors that might cause the Company's actual results to differ materially from those in the forward-looking statements include, without limitation, general business conditions, the demand for the Company's services, competitive market pressures, the ability of the Company to attract and retain qualified personnel for regular full-time placement and contract assignments, the possibility of incurring liability for the Company's business activities, including the activities of its contract employees and events affecting its contract employees on client premises, and the ability to attract and retain qualified corporate and branch management, as well as those risks discussed in the Company's Annual Report on Form 10-K for the year ended September 30, 2018, and in other documents which we file with the Securities and Exchange Commission. Any forward-looking statements speak only as of the date on which they are made, and the Company is under no obligation to (and expressly disclaims any such obligation to) and does not intend to update or alter its forward-looking statements whether as a result of new information, future events or otherwise.

 

 
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Part I -FINANCIAL INFORMATION

 

ITEM 1. FINANCIAL STATEMENTS (unaudited)

 

GEE GROUP INC.

CONDENSED CONSOLIDATED BALANCE SHEETS (unaudited)

(In Thousands)

 

 

June 30,

2019

 

 

September 30,

2018

 

ASSETS

 

 

 

 

 

 

CURRENT ASSETS:

 

 

 

 

 

 

Cash

 

$4,163

 

 

$3,213

 

Accounts receivable, less allowances ($302 and $302, respectively)

 

 

20,437

 

 

 

20,755

 

Prepaid expenses and other current assets

 

 

2,756

 

 

 

2,266

 

Total current assets

 

 

27,356

 

 

 

26,234

 

Property and equipment, net

 

 

832

 

 

 

891

 

Goodwill

 

 

72,293

 

 

 

76,593

 

Intangible assets, net

 

 

25,277

 

 

 

29,467

 

Other long-term assets

 

 

588

 

 

 

416

 

TOTAL ASSETS

 

$126,346

 

 

$133,601

 

LIABILITIES AND SHAREHOLDERS' EQUITY

 

 

 

 

 

 

 

 

CURRENT LIABILITIES:

 

 

 

 

 

 

 

 

Accounts payable and accrued compensation

 

$9,100

 

 

$7,735

 

Acquisition deposit for working capital guarantee

 

 

883

 

 

 

883

 

Short-term portion of subordinated debt

 

 

1,000

 

 

 

106

 

Short-term portion of term loan, net of discount

 

 

2,931

 

 

 

2,331

 

Other current liabilities

 

 

2,027

 

 

 

2,064

 

Total current liabilities

 

 

15,941

 

 

 

13,119

 

Deferred taxes

 

 

542

 

 

 

146

 

Revolving credit facility

 

 

13,865

 

 

 

11,925

 

Term loan, net of discount

 

 

38,064

 

 

 

40,253

 

Subordinated convertible debt (includes $1,195, net of discount, due to related parties)

 

 

17,880

 

 

 

17,685

 

Other long-term liabilities

 

 

613

 

 

 

583

 

Total long-term liabilities

 

 

70,964

 

 

 

70,592

 

 

 

 

 

 

 

 

 

 

Commitments and contingencies

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

MEZZANINE EQUITY

 

 

 

 

 

 

 

 

Preferred stock; no par value; authorized - 20,000 shares -

 

 

 

 

 

 

 

 

Preferred series A stock; authorized -160 shares; issued and outstanding - none

 

 

-

 

 

 

-

 

Preferred series B stock; authorized - 5,950 shares; issued and outstanding - 5,566 and 5,816 at June 30, 2019 and September 30, 2018, respectively; liquidation value of the preferred series B stock is approximately $27,050 and $28,255 at June 30, 2019 and September 30, 2018, respectively

 

 

27,551

 

 

 

28,788

 

Preferred series C stock; authorized - 3,000 shares; issued and outstanding - 20 and 0 at June 30, 2019 and September 30, 2018, respectively; liquidation value of the preferred series C stock is approximately $20 and $0 at June 30, 2019 and September 30, 2018, respectively

 

 

20

 

 

 

-

 

Total mezzanine equity

 

 

27,571

 

 

 

28,788

 

SHAREHOLDERS' EQUITY

 

 

 

 

 

 

 

 

Common stock, no-par value; authorized - 200,000 shares; issued and outstanding - 12,054 shares at June 30, 2019 and 10,783 shares at September 30, 2018, respectively

 

 

-

 

 

 

-

 

Additional paid in capital

 

 

49,064

 

 

 

44,120

 

Accumulated deficit

 

 

(37,194)

 

 

(23,018)

Total shareholders' equity

 

 

11,870

 

 

 

21,102

 

TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY

 

$126,346

 

 

$133,601

 

 

The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.

 

 
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GEE GROUP INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (unaudited)

(In Thousands)  

 

 

 

Three Months Ended

 

 

Nine Months Ended

 

 

 

June 30,

 

 

June 30,

 

 

 

2019

 

 

2018

 

 

2019

 

 

2018

 

NET REVENUES:

 

 

 

 

 

 

 

 

 

 

 

 

Contract staffing services

 

$33,217

 

 

$33,879

 

 

$99,057

 

 

$107,860

 

Direct hire placement services

 

 

4,884

 

 

 

6,388

 

 

 

13,764

 

 

 

17,496

 

NET REVENUES

 

 

38,101

 

 

 

40,267

 

 

 

112,821

 

 

 

125,356

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cost of contract services

 

 

24,521

 

 

 

25,546

 

 

 

74,093

 

 

 

81,235

 

GROSS PROFIT

 

 

13,580

 

 

 

14,721

 

 

 

38,728

 

 

 

44,121

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Selling, general and administrative expenses (including noncash stock-based compensation expense of $531 and $399, and $1,661 and $1,028 respectively)

 

 

10,995

 

 

 

12,111

 

 

 

31,547

 

 

 

35,839

 

Acquisition, integration and restructuring expenses

 

 

564

 

 

 

514

 

 

 

2,990

 

 

 

1,712

 

Depreciation expense

 

 

89

 

 

 

92

 

 

 

269

 

 

 

287

 

Amortization of intangible assets

 

 

1,396

 

 

 

1,409

 

 

 

4,189

 

 

 

4,199

 

Goodwill impairment charge

 

 

4,300

 

 

 

-

 

 

 

4,300

 

 

 

-

 

INCOME (LOSS) FROM OPERATIONS

 

 

(3,764)

 

 

595

 

 

 

(4,567)

 

 

2,084

 

Interest expense

 

 

(3,176)

 

 

(2,889)

 

 

(9,209)

 

 

(8,381)

LOSS BEFORE INCOME TAX PROVISION

 

 

(6,940)

 

 

(2,294)

 

 

(13,776)

 

 

(6,297)

Provision for income tax

 

 

106

 

 

 

407

 

 

 

(400)

 

 

(259)

NET LOSS

 

$(6,834)

 

$(1,887)

 

$(14,176)

 

$(6,556)

NET LOSS ATTRIBUTABLE TO COMMON

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

STOCKHOLDERS

 

$(6,834)

 

$(1,887)

 

$(14,176)

 

$(6,556)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

BASIC AND DILUTED LOSS PER SHARE

 

$(0.57)

 

$(0.18)

 

$(1.22)

 

$(0.64)

WEIGHTED AVERAGE NUMBER OF SHARES - BASIC AND DILUTED

 

 

12,041

 

 

 

10,526

 

 

 

11,609

 

 

 

10,177

 

 

The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.

 

 
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GEE GROUP INC.

CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY (unaudited)

(In Thousands)

 

 

 

Common

 

 

Additional

 

 

 

 

 

Total

 

 

 

Stock

 

 

Paid

 

 

Accumulated

 

 

Shareholders'

 

 

 

Shares

 

 

In Capital

 

 

Deficit

 

 

Equity

 

Balance, September 30, 2018

 

 

10,783

 

 

$44,120

 

 

$(23,018)

 

$21,102

 

Share-based compensation

 

 

-

 

 

 

581

 

 

 

-

 

 

 

581

 

Issuance of stock for interest

 

 

171

 

 

 

401

 

 

 

-

 

 

 

401

 

Conversion of preferred Series B to common stock

 

 

250

 

 

 

1,238

 

 

 

-

 

 

 

1,238

 

Net loss

 

 

-

 

 

 

-

 

 

 

(3,452)

 

 

(3,452)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, December 31, 2018

 

 

11,204

 

 

$46,340

 

 

$(26,470)

 

$19,870

 

Share-based compensation

 

 

-

 

 

 

549

 

 

 

-

 

 

 

549

 

Issuance of stock for interest

 

 

517

 

 

 

402

 

 

 

-

 

 

 

402

 

Net loss

 

 

-

 

 

 

-

 

 

 

(3,890)

 

 

(3,890)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, March 31, 2019

 

 

11,721

 

 

$47,291

 

 

$(30,360)

 

$16,931

 

Share-based compensation

 

 

-

 

 

 

531

 

 

 

-

 

 

 

531

 

Issuance of stock for interest

 

 

333

 

 

 

401

 

 

 

-

 

 

 

401

 

Beneficial conversion features on subordinated debt

 

 

-

 

 

 

841

 

 

 

-

 

 

 

841

 

Net loss

 

 

-

 

 

 

-

 

 

 

(6,834)

 

 

(6,834)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, June 30, 2019

 

 

12,054

 

 

$49,064

 

 

$(37,194)

 

$11,870

 

 

 

 

Common

 

 

Additional

 

 

 

 

 

Total

 

 

 

Stock

 

 

Paid

 

 

Accumulated

 

 

Shareholders'

 

 

 

Shares

 

 

In Capital

 

 

Deficit

 

 

Equity

 

Balance, September 30, 2017

 

 

9,879

 

 

$39,517

 

 

$(15,454)

 

$24,063

 

Share-based compensation

 

 

-

 

 

 

293

 

 

 

-

 

 

 

293

 

Issuance of stock for interest

 

 

136

 

 

 

595

 

 

 

-

 

 

 

595

 

Net loss

 

 

-

 

 

 

-

 

 

 

(1,791)

 

 

(1,791)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, December 31, 2017

 

 

10,015

 

 

$40,405

 

 

$(17,245)

 

$23,160

 

Share-based compensation

 

 

-

 

 

 

336

 

 

 

-

 

 

 

336

 

Issuance of stock for interest

 

 

321

 

 

 

999

 

 

 

-

 

 

 

999

 

Conversion of preferred Series B to common stock

 

 

110

 

 

 

545

 

 

 

-

 

 

 

545

 

Net loss

 

 

-

 

 

 

-

 

 

 

(2,878)

 

 

(2,878)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, March 31, 2018

 

 

10,446

 

 

$42,285

 

 

$(20,123)

 

$22,162

 

Share-based compensation

 

 

-

 

 

 

399

 

 

 

-

 

 

 

399

 

Issuance of stock for interest

 

 

163

 

 

 

401

 

 

 

-

 

 

 

401

 

Net loss

 

 

-

 

 

 

-

 

 

 

(1,887)

 

 

(1,887)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, June 30, 2018

 

 

10,609

 

 

$43,085

 

 

$(22,010)

 

$21,075

 

 

The accompanying notes are an integral part of the unaudited condensed consolidated financial statements. 

 
 
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GEE GROUP INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)

(In Thousands)

 

 

 

Nine Months Ended

 

 

 

June 30,

 

 

 

2019

 

 

2018

 

CASH FLOWS FROM OPERATING ACTIVITIES:

 

 

 

 

 

 

Net loss

 

$(14,176)

 

$(6,556)

Adjustments to reconcile net loss to cash (used in) provided by operating activities:

 

 

 

 

 

 

 

 

Depreciation and amortization

 

 

4,458

 

 

 

4,486

 

Goodwill impairment charge

 

 

4,300

 

 

 

-

 

Stock Compensation expense

 

 

1,661

 

 

 

1,028

 

Provision for doubtful accounts

 

 

-

 

 

 

(815)

Deferred income taxes

 

 

396

 

 

 

290

 

Amortization of debt discount

 

 

634

 

 

 

576

 

Interest expense paid with common and preferred stock

 

 

1,224

 

 

 

1,610

 

Changes in operating assets and liabilities:

 

 

 

 

 

 

 

 

Accounts receivable

 

 

318

 

 

 

2,827

 

Accrued interest

 

 

-

 

 

 

1,332

 

Accounts payable

 

 

1,390

 

 

 

(1,213)

Accrued compensation

 

 

(25)

 

 

(2,206)

Other current items, net

 

 

(531)

 

 

(594)

Long-term items, net

 

 

(200)

 

 

(67)

Net cash (used in) provided by operating activities

 

 

(551)

 

 

698

 

 

 

 

 

 

 

 

 

 

CASH FLOWS FROM INVESTING ACTIVITIES:

 

 

 

 

 

 

 

 

Acquisition of property and equipment

 

 

(108)

 

 

(224)

Net cash used in investing activities

 

 

(108)

 

 

(224)

 

 

 

 

 

 

 

 

 

CASH FLOWS FROM FINANCING ACTIVITIES:

 

 

 

 

 

 

 

 

Payment on term loan

 

 

(2,187)

 

 

(2,112)

Payments on subordinated debt

 

 

(107)

 

 

(806)

Payments on capital lease

 

 

(37)

 

 

-

 

Net proceeds from revolving credit

 

 

1,940

 

 

 

2,296

 

Net proceeds from subordinate note

 

 

2,000

 

 

 

-

 

Net cash provided by (used in) financing activities

 

 

1,609

 

 

 

(622)

 

 

 

 

 

 

 

 

 

Net change in cash

 

 

950

 

 

 

(148)

 

 

 

 

 

 

 

 

 

Cash at beginning of period

 

 

3,213

 

 

 

2,785

 

 

 

 

 

 

 

 

 

 

Cash at end of period

 

$4,163

 

 

$2,637

 

 

 

 

 

 

 

 

 

 

SUPPLEMENTAL CASH FLOW INFORMATION:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash paid for interest

 

$7,373

 

 

$6,435

 

Cash paid for taxes

 

$75

 

 

$-

 

Non-cash financing activities

 

 

 

 

 

 

 

 

Conversion of Series B Convertible Preferred Stock to common stock

 

$1,238

 

 

$545

 

Beneficial conversion features on subordinated debt

 

$841

 

 

$-

 

Issuance of stock for extinguishment of debt

 

$-

 

 

$385

 

Acquisition of equipment with capital lease

 

$102

 

 

$-

 

 

The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.

  

 
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1. Description of Business

 

GEE Group Inc. (the “Company”, “us”, “our” or “we”) was incorporated in the State of Illinois in 1962 and is the successor to employment offices doing business since 1893. We are a provider of permanent and temporary professional and industrial staffing and placement services in and near several major U.S cities. We specialize in the placement of information technology, accounting, finance, office, engineering, and medical professionals for direct hire and contract staffing for our clients and provide temporary staffing services for our commercial clients.

 

2. Significant Accounting Policies and Estimates

 

The accompanying unaudited condensed consolidated financial statements of the Company have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Article 8 of Regulation S-X. Accordingly, they do not include all of the information and notes required by accounting principles generally accepted in the United States of America for complete consolidated financial statements. In the opinion of management, all adjustments considered necessary for a fair presentation have been included. Operating results for the three and nine-month period ended June 30, 2019 are not necessarily indicative of the results that may be expected for the year ending September 30, 2019. The unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company's Annual Report on Form 10-K for the year ended September 30, 2018 as filed on December 27, 2018.

 

Liquidity

 

The Company experienced significant net losses for its most recent fiscal year ended September 30, 2018, and for the nine-month period ended June 30, 2019.

 

As of June 30, 2019, the Company had cash of approximately $4.2 million, which was an increase of approximately $1.0 million from approximately $3.2 million at September 30, 2018. Working capital at June 30, 2019 was approximately $11.4 million, as compared to working capital of approximately $13.1 million for September 30, 2018.

 

Management has taken definitive actions to improve operations, reduce costs and improve profitability, and position the Company for future growth. In addition, the Company’s senior lenders have worked with management in providing amendments and waivers to the Company’s senior credit facilities as management works towards improving the Company’s operations and restructuring its current debt and equity capitalization.

 

Based on its current projections, management expects that the Company can meet its future debt service requirements and comply with its financial covenants and other commitments, as amended, and will continue to seek reasonable assistance from the Company’s senior lenders, as necessary. However, the Company’s projections are based on assumptions and estimates about future performance and events, which are subject to change or other unforeseen conditions or uncertainties. As such, there can be no assurance that the Company will not fall into non-compliance with its loan covenants or that its Lenders will continue to provide waivers or amendments to the Company in the event of future non-compliance with debt covenants or other possible events of default that could happen in the future.

 

Principles of Consolidation

 

The unaudited condensed consolidated financial statements include the accounts and transactions of the Company and its wholly-owned subsidiaries. All significant inter-company accounts and transactions are eliminated in consolidation.

 

Estimates and Assumptions

 

Management makes estimates and assumptions that can affect the amounts of assets and liabilities reported as of the date of the unaudited condensed consolidated financial statements, as well as the amounts of reported revenues and expenses during the periods presented. Those estimates and assumptions typically involve expectations about events to occur subsequent to the balance sheet date, and it is possible that actual results could ultimately differ from the estimates.

 

 
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Revenue Recognition

 

Revenues from contracts with customers are generated through the following services: direct hire placement services, temporary professional services staffing, and temporary light industrial staffing. Revenues are recognized when promised services are performed for customers, and in an amount that reflects the consideration the Company expects to be entitled to in exchange for those services. Our revenues are recorded net of variable consideration such as sales adjustments or allowances.

 

Direct hire placement service revenues from contracts with customers are recognized when employment candidates accept offers of employment, less a provision for estimated credits or refunds to customers as the result of applicants not remaining employed for the entirety of the Company's guarantee period (referred to as “falloffs”). The Company’s guarantee periods for permanently placed employees generally range from 60 to 90 days from the date of hire. Fees associated with candidate placement are generally calculated as a percentage of the new employee’s annual compensation. No fees for permanent placement services are charged to employment candidates.

 

Temporary staffing service revenues from contracts with customers are recognized in amounts for which the Company has a right to invoice, as the services are rendered by the Company’s temporary employees. The Company records temporary staffing revenue on a gross basis as a principal versus on a net basis as an agent in the presentation of revenues and expenses. The Company has concluded that gross reporting is appropriate because the Company controls the specified service before that service is performed for a customer. The Company has the risk of identifying and hiring qualified employees, has the discretion to select the employees and establish their price, and bears the risk for services that are not fully paid for by customers.

 

Falloffs and refunds during the period are reflected in the unaudited condensed consolidated statements of operations as a reduction of placement service revenues and were approximately $0.5 million and $0.6 million, and $1.9 million and $1.6 million for the three and nine-month periods ended June 30, 2019 and 2018, respectively. Expected future falloffs and refunds are reflected in the unaudited condensed consolidated balance sheet as a reduction of accounts receivable as described under Accounts Receivable, below.

 

See Note 13 for disaggregated revenues by segment.

 

Payment terms in our contracts vary by the type and location of our customer and the services offered. The terms between invoicing and when payments are due are not significant.

 

Cost of Contract Staffing Services

 

The cost of contract services includes the wages and the related payroll taxes, employee benefits and certain other employee-related costs of the Company’s contract service employees, while they work on contract assignments.

 

Cash and Cash Equivalents

 

Highly liquid investments with a maturity of three months or less when purchased are considered to be cash equivalents. As of June 30, 2019 and September 30, 2018, there were no cash equivalents. The Company maintains deposits in financial institutions and, at times, balances may exceed federally insured limits. We have never experienced any losses related to these balances.

 

Accounts Receivable

 

The Company extends credit to its various customers based on evaluation of the customer’s financial condition and ability to pay the Company in accordance with the payment terms. An allowance for placement fall-offs is recorded, as a reduction of revenues, for estimated losses due to applicants not remaining employed for the Company’s guarantee period. An allowance for doubtful accounts is recorded, as a charge to bad debt expense, where collection is considered to be doubtful due to credit issues. These allowances together reflect management’s estimate of the potential losses inherent in the accounts receivable balances, based on historical loss statistics and known factors impacting its customers. The nature of the contract service business, where companies are dependent on employees for the production cycle allows for a relatively small accounts receivable allowance. As of each of June 30, 2019, and September 30, 2018, the allowance for doubtful accounts was $0.3 million. The Company charges off uncollectible accounts once the invoices are deemed unlikely to be collectible. The allowance also includes permanent placement falloffs of $0.2 million as of June 30, 2019 and September 30, 2018.

 

 
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Property and Equipment

 

Property and equipment are recorded at cost. Depreciation expense is calculated on a straight-line basis over estimated useful lives of five years for computer equipment and two to ten years for office equipment, furniture and fixtures. The Company capitalizes computer software purchased or developed for internal use and amortizes it over an estimated useful life of five years. The carrying value of property and equipment is reviewed for impairment whenever events or changes in circumstances indicate that it may not be recoverable. If the carrying amount of an asset group is greater than its estimated future undiscounted cash flows, the carrying value is written down to the estimated fair value. There was no impairment of property and equipment for the nine-month period ended June 30, 2019 and 2018.

 

Goodwill

 

In 2019, the Company early adopted ASU 2017-04, Intangibles — Goodwill and Other (Topic 350), Simplifying the Test for Goodwill Impairment, which simplifies the subsequent measurement of goodwill by eliminating the second step from the quantitative goodwill impairment test. Under this guidance, annual or interim goodwill impairment testing is performed by comparing the fair value of a reporting unit with its carrying amount. An impairment charge is recognized for the amount by which the carrying amount exceeds the reporting unit’s fair value, not to exceed the carrying value of goodwill.

 

Due to a sustained decline in the market capitalization of our common stock during the third quarter of 2019, we performed an interim goodwill impairment test in accordance with the provisions of ASU 2017-04. The outcome of this goodwill impairment test resulted in a non-cash charge for the impairment of goodwill of $4.3 million, which was recorded in the consolidated financial statements for the three and nine-month periods ended June 30, 2019. For purposes of performing this interim goodwill impairment assessment, management mainly considered recent trends in the Company’s stock price, estimated control or acquisition premium, and related matters, including other possible factors affecting the recent declines in the Company’s stock price and their effects on estimated fair value of the Company’s reporting units.

 

Fair Value Measurement

 

The Company follows the provisions of Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 820, “Fair Value Measurement”, which defines fair value, establishes a framework for measuring fair value and enhances fair value measurement disclosure. Under these provisions, fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (i.e., the “exit price”) in an orderly transaction between market participants at the measurement date.

 

The standard establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability developed based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions about the assumptions market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. The hierarchy is described below:

 

Level 1: Quoted prices (unadjusted) in active markets that are accessible at the measurement date for assets or liabilities. The fair value hierarchy gives the highest priority to Level 1 inputs.

 

Level 2: Observable prices that are based on inputs not quoted on active markets, but corroborated by market data.

 

Level 3: Unobservable inputs are used when little or no market data is available. The fair value hierarchy gives the lowest priority to Level 3 inputs.

 

 
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The fair value of the Company’s current assets and current liabilities approximate their carrying values due to their short-term nature. The fair value disclosures of the Company’s long-term liabilities approximates the fair value based on current yield for debt instruments with similar terms. The Company’s goodwill and other intangible assets are measured at fair value on a non-recurring basis using Level 3 inputs, as discussed in Note 5.

 

Earnings and Loss per Share

 

Basic loss per share is computed by dividing net loss attributable to common stockholders by the weighted average common shares outstanding for the period. Diluted loss per share is computed giving effect to all potentially dilutive common shares. Potentially dilutive common shares may consist of incremental shares issuable upon the exercise of stock options and warrants and the conversion of notes payable and preferred stock to common stock. In periods in which a net loss has been incurred, all potentially dilutive common shares are considered anti-dilutive and thus are excluded from the calculation.

 

Common stock equivalents, which are excluded because their effect is anti-dilutive, were 13.7 million and 12.4 million for the three and nine-month period ended June 30, 2019 and 10.5 million and 10.9 million for the three and nine-month period ended June 30, 2018, respectively.

 

Advertising Expenses

 

The Company expenses the costs of print and internet media advertising and promotions as incurred and reports these costs in selling, general and administrative expenses. For the three and nine-month periods ended June 30, 2019 and 2018, advertising expense totaled $0.6 and $1.7 million each, respectively.

 

Intangible Assets

 

Separately identifiable intangible assets held in the form of customer lists, non-compete agreements, customer relationships, management agreements and trade names were recorded at their estimated fair value at the date of acquisition and are amortized over their estimated useful lives ranging from two to ten years using both accelerated and straight-line methods.

 

Impairment of Long-lived Assets

 

The Company recognizes an impairment of long-lived assets used in operations, other than goodwill, when events or circumstances indicate that the asset might be impaired and the estimated undiscounted cash flows to be generated by those assets over their remaining lives are less than the carrying amount of those items. The net carrying value of assets not recoverable is reduced to fair value, which is typically calculated using the discounted cash flow method. The Company did not recognize and record any impairments of long-lived assets used in operations, other than goodwill during the nine-month period ended June 30, 2019 and 2018.

 

Beneficial Conversion Feature

 

The Company evaluates embedded conversion features within a convertible instrument under ASC 815 Derivatives and Hedging to determine whether the embedded conversion feature(s) should be bifurcated from the host instrument and accounted for as a derivative at fair value with changes in fair value recorded in earnings. If the conversion feature does not require treatment under ASC 815, the instrument is evaluated under ASC 470-20 Debt with Conversion and Other Options for consideration of any beneficial feature.

 

The Company records a beneficial conversion feature (“BCF”) when the convertible instrument is issued with conversion features at fixed or adjustable rates that are below market value when issued. The BCF for convertible instruments is recognized and measured by allocating a portion of the proceeds equal to the intrinsic value of that feature to additional paid-in capital. The intrinsic value is generally calculated at the commitment date as the difference between the conversion price and the fair value of the common stock or other securities into which the security is convertible, multiplied by the number of shares into which the security is convertible. If certain other securities are issued with the convertible security, the proceeds are allocated among the different components. The portion of the proceeds allocated to the convertible security is divided by the contractual number of the conversion shares to determine the effective conversion price, which is used to measure the BCF. The effective conversion price is used to compute the intrinsic value. The value of the BCF is limited to the basis that is initially allocated to the convertible security.

 

 
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The BCF for the convertible instrument is recorded as a reduction, or discount, to the carrying amount of the convertible instrument equal to the fair value of the conversion feature. The discount is then amortized as interest or deemed dividends over the period from the date of the convertible instrument’s issuance to the earliest redemption date, provided that the convertible instrument is not currently redeemable but probable of becoming redeemable in the future.

 

Stock-Based Compensation

 

The Company accounts for stock-based awards to employees in accordance with FASB ASC 718, “Compensation-Stock Compensation”, which requires compensation expense related to share-based transactions, including employee stock options, to be measured and recognized in the financial statements based on a determination of the fair value of the stock options. The grant date fair value is determined using the Black-Scholes-Merton ("Black-Scholes") pricing model. For all employee stock options, we recognize expense on an accelerated basis over the employee's requisite service period (generally the vesting period of the equity grant). The Company's option pricing model requires the input of highly subjective assumptions, including the expected stock price volatility, expected term, and forfeiture rate. Any changes in these highly subjective assumptions significantly impact stock-based compensation expense.

 

Options awarded to purchase shares of common stock issued to non-employees in exchange for services are accounted for as variable awards in accordance with FASB ASC 718, “Compensation-Stock Compensation”. Such options are valued using the Black-Scholes option pricing model.

 

See Note 9 for the assumptions used to calculate the fair value of stock-based employee and non-employee compensation. Upon the exercise of options, it is the Company's policy to issue new shares rather than utilizing treasury shares.

 

Income Taxes

 

We account for income taxes under the asset and liability method, which requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements. Under this method, we determine deferred tax assets and liabilities on the basis of the differences between the financial statement and tax bases of assets and liabilities by using enacted tax rates in effect for the year in which the differences are expected to reverse. The effect of a change in tax rates on deferred tax assets and liabilities is recognized in income in the period that includes the enactment date.

 

We recognize deferred tax assets to the extent that we believe that these assets are more likely than not to be realized. In making such a determination, we consider all available positive and negative evidence, including future reversals of existing taxable temporary differences, projected future taxable income, tax-planning strategies, and results of recent operations. If we determine that we would be able to realize our deferred tax assets in the future in excess of their net recorded amount, we would make an adjustment to the deferred tax asset valuation allowance, which would reduce the provision for income taxes.

 

We record uncertain tax positions in accordance with ASC 740 on the basis of a two-step process in which (1) we determine whether it is more likely than not that the tax positions will be sustained on the basis of the technical merits of the position and (2) for those tax positions that meet the more-likely-than-not recognition threshold, we recognize the largest amount of tax benefit that is more than 50 percent likely to be realized upon ultimate settlement with the related tax authority.

 

 
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We recognize and group interest and penalties, if any, with income tax expense in the accompanying consolidated statement of operations. As of June 30, 2019 and September 30, 2018, no material accrued interest or penalties are included on the related tax liability line in the consolidated balance sheet.

 

Segment Data

 

The Company provides the following distinctive services: (a) direct hire placement services, and (b) temporary professional contract services staffing in the fields of information technology, engineering, medical, and accounting, and (c) temporary contract light industrial staffing. The Company’s services can be divided into two reportable segments, Industrial Staffing Services and Professional Staffing Services. Selling, general and administrative expenses are not entirely allocated among Industrial and Professional Staffing Services. Operating results are regularly reviewed by the chief operating decision maker to make decisions about resources to be allocated to the segment and to assess its performance. Other factors, including type of business, type of employee, length of employment and revenue recognition are considered in determining the Company’s operating segments.

 

3. Recent Accounting Pronouncements

 

On May 28, 2014, the FASB issued Accounting Standards Update (“ASU”) No. 2014-09, Revenue from Contracts with Customers, which requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. The ASU superseded the existing revenue recognition guidance under U.S. GAAP. In August 2015, the FASB issued ASU No. 2015-14, Revenue from Contracts with Customers (Topic 606): Deferral of the Effective Date, which delayed the effective date of the new standard from January 1, 2017 to January 1, 2018. The FASB also agreed to allow entities to choose to adopt the standard as of the original effective date. This ASU permits the use of either the retrospective or cumulative effect transition method. The new standard was adopted by the Company under the modified retrospective approach effective October 1, 2018. The adoption of this standard did not have a material impact on the Company’s financial statements.

 

In February 2016 FASB issued ASU No. 2016-02, Leases (Topic 842), which supersedes the existing guidance for lease accounting, Leases (Topic 840). ASU 2016-02 requires lessees to recognize leases on their balance sheets, and leaves lessor accounting largely unchanged. The amendment in the ASU are effective for fiscal years beginning after December 15, 2018 and interim periods within those fiscal years. Early application is permitted for all entities. ASU 2016-02 requires a modified retrospective approach for all eases existing at, or entered into after, the date of initial application, with an option to elect to use certain transition relief. In July 2018, the FASB issued ASU No. 2018-10, “Codification of Improvement to Topic 842 Leases.” The amendments in ASU 2018-10 clarify, correct or remove inconsistencies in the guidance provided under ASU 2016-02 related to sixteen specific issues identified. Also, in July 2018, the FASB issued ASU No. 2018-11 “Leases (Topic 842): Targeted Improvement” which now allows entities the option of recognizing the cumulative effect of applying the new standard as an adjustment to the opening balance of retained earnings in the year of adoption while continuing to present all prior period under previous lease accounting guidance. The effective date and transition requirement for these two ASUs are the same as the effective date and transition requirement as ASU 2016-02. While the Company continues to assess all potential impacts of the standard, the Company currently believes the most significant impact relates to recording right-to-use assets and related operating lease liabilities on the condensed consolidated balance sheets.

   

In June 2018, the FASB issued ASU 2018-07, which simplifies the accounting for nonemployee share-based payment transactions. The amendments specify that Topic 718 applies to all share-based payment transactions in which a grantor acquires goods or services to be used or consumed in a grantor’s own operations by issuing share-based payment awards. The standard will be effective in the first quarter of fiscal year 2020, although early adoption is permitted (but no sooner than the adoption of Topic 606). The Company is currently evaluating the effect the adoption of this ASU will have on its consolidated financial statements.

 

No other recent accounting pronouncements were issued by FASB and the SEC that are believed by management to have a material impact on the Company’s present or future financial statements.

 

 
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4. Property and Equipment

 

Property and equipment, net consisted of the following:

 

 

 

June 30,

2019

 

 

September 30,

2018

 

(in thousands)

 

 

 

 

 

 

Computer software

 

$1,447

 

 

$1,447

 

Office equipment, furniture and fixtures and leasehold improvements

 

 

3,549

 

 

 

3,356

 

Total property and equipment, at cost

 

 

4,996

 

 

 

4,803

 

Accumulated depreciation and amortization

 

 

(4,164)

 

 

(3,912)

Property and equipment, net

 

$832

 

 

$891

 

  

Depreciation expense for three and nine-month periods ended June 30, 2019 and 2018 was approximately $0.1 million and $0.3 million each.

 

5. Intangible Assets

 

The following tables set forth the costs, accumulated amortization and net book value of the Company’s separately identifiable intangible assets as of June 30, 2019 and September 30, 2018, and estimated future amortization expense.

  

 

 

June 30, 2019

 

 

September 30, 2018

 

(in thousands)

 

Cost

 

 

Accumulated Amortization

 

 

Net Book Value

 

 

Cost

 

 

Accumulated Amortization

 

 

Net Book Value

 

Customer relationships

 

$29,070

 

 

$9,605

 

 

$19,465

 

 

$29,070

 

 

$7,459

 

 

$21,611

 

Trade name

 

 

8,329

 

 

 

3,604

 

 

 

4,725

 

 

 

8,329

 

 

 

2,537

 

 

 

5,792

 

Non-Compete agreements

 

 

4,331

 

 

 

3,244

 

 

 

1,087

 

 

 

4,331

 

 

 

2,267

 

 

 

2,064

 

Total

 

$41,730

 

 

$16,453

 

 

$25,277

 

 

$41,730

 

 

$12,263

 

 

$29,467

 

 

Estimated Amortization Expense

 

Remainder of Fiscal 2019

 

$1,397

 

Fiscal 2020

 

 

5,038

 

Fiscal 2021

 

 

4,088

 

Fiscal 2022

 

 

3,469

 

Fiscal 2023

 

 

2,879

 

Thereafter

 

 

8,406

 

 

 

$25,277

 

 

The trade names are amortized on a straight – line basis over the estimated useful life of between five and ten years. Intangible assets that represent customer relationships are amortized on the basis of estimated future undiscounted cash flows or using the straight – line basis over estimated remaining useful lives of five to ten years. Non-compete agreements are amortized based on a straight-line basis over the term of the respective noncompete agreements, which are typically five years in duration.

 

The intangible assets amortization expense was $1.4 million and $4.2 million for each three and nine-month periods ended June 30, 2019 and 2018, respectively.

 

 
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6. Revolving Credit Facility and Term Loan

 

Revolving Credit, Term Loan and Security Agreement

 

After the close of business on March 31, 2017, the Company and its subsidiaries, as borrowers, entered into a Revolving Credit, Term Loan and Security Agreement (the “Credit Agreement”) with PNC Bank National Association ("PNC"), and certain investment funds managed by MGG Investment Group LP ("MGG"). Initial funds were distributed on April 3, 2017 (the “Closing Date”) to repay existing indebtedness, pay fees and expenses relating to the Credit Agreement, and to pay a portion of the purchase price for the acquisition of the SNI Companies.

 

Under the terms of the Credit Agreement, the Company may borrow up to $73.8 million consisting of a four-year term loan in the principal amount of $48.8 million and revolving loans in a maximum amount up to the lesser of (i) $25.0 million or (ii) an amount determined pursuant to a borrowing base that is calculated based on the outstanding amount of the Company’s eligible accounts receivable, as described in the Credit Agreement. The loans under the Credit Agreement mature on March 31, 2021.

 

The Credit Agreement, as amended, contains certain financial covenants, which are required to be maintained as of the last day of each fiscal quarter, including the following:

 

Fixed Charge Coverage Ratio (“FCCR”). This is the ratio of consolidated earnings before interest, taxes, depreciation and amortization (“EBITDA”) to Fixed Charges, each of which is as defined in the Credit Agreement, as amended. The minimum FCCR requirements are: 1.00 to 1.00 for the trailing two fiscal quarters ending March 31, 2019; 0.60 to 1.00 for the trailing three fiscal quarters ending June 30, 2019; 0.70 to 1.00 for the trailing four fiscal quarters ending September 30, 2019; 0.75 to 1.00 for the trailing four fiscal quarters ending December 31, 2019; 0.85 to 1.00 for the trailing four fiscal quarters ending March 31, 2020; and 1.00 to 1.00 for each of the trailing four fiscal quarterly periods ending thereafter.

 

Minimum EBITDA. Minimum EBITDA, which is determined on a consolidated basis and measured on a trailing four (4) quarter basis, as defined in the Credit Agreement, as amended, are: $13 million for the fiscal quarter ending March 31, 2019; $10 million for the fiscal quarter ending June 30, 2019; $10.0 million for the fiscal quarter ending September 30, 2019; $10.0 million for the fiscal quarter ending December 31, 2019; and $11.0 million for the fiscal quarter ending March 31, 2020, and each fiscal quarter thereafter.

 

Senior Leverage Ratio. This is the ratio of maximum Indebtedness, which is substantially comprised of consolidated senior indebtedness, to consolidated EBITDA, each of which is as defined under the Credit Agreement, as amended. The Senior Leverage Ratios are: 4.25 to 1.00 for the fiscal quarter ending March 31, 2019; 5.50 to 1.00 for the fiscal quarter ending June 30, 2019; 5.50 to 1.00 for the fiscal quarter ending September 30, 2019; 5.60 to 1.00 for the fiscal quarter ending December 31, 2019; and 5.00 to 1.00 for the fiscal quarter ended March 31, 2020, and for each fiscal quarter thereafter.

 

In addition to these financial covenants, the Credit Agreement includes other restrictive covenants. The Credit Agreement permits capital expenditures up to a certain level and contains customary default and acceleration provisions. The Credit Agreement also restricts, above certain levels, acquisitions, incurrence of additional indebtedness, and payment of dividends.

 

On August 31, 2017, the Company entered into a Consent to Extension of Waiver to the Credit Agreement (the “Waiver”). Under the terms of the Waiver, the Lenders and the Agents agreed to extend to October 3, 2017 the deadline by which the Company must deliver updated financial information satisfactory to the lenders in order to amend the financial covenant levels, execute a fully executed amendment to the Credit Agreement, and any other terms and conditions required by the lenders in their sole discretion. Additionally, the Company paid a $0.07 million consent fee to the Agents for the pro rata benefit of the lenders, in connection with the Waiver. On August 31, 2017, an additional waiver to the Credit Agreement (“Additional Waiver”), pursuant to which the due date for the Company to deliver the subordination agreement and an amended subordinated note, executed by one of the Company’s subordinated lenders was extended from August 31, 2017 to October 3, 2017, also was obtained.

 

 
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On October 2, 2017, the Company, the other borrower entities and guarantor entities named therein (collectively, the “Loan Parties”), PNC, and certain investment funds managed by MGG (collectively the (“Lenders”) entered into a First Amendment and Waiver (the “First Amendment”) to the Revolving Credit, Term Loan and Security Agreement dated as of March 31, 2017 (the “Credit Agreement”) by and among the Loan Parties, and the Lenders. The First Amendment, which was effective as of October 2, 2017, modified the required principal repayment schedule with respect to the Term Loans. The Amendment also modified the ability of the Loan Parties to repay or make other payments with respect to certain other loans that are subordinated in right of payment to the indebtedness under the Credit Agreement.

 

Pursuant to the First Amendment the Lenders also waived any Event of Default arising out of the Loan Parties’ failure to deliver, on or before October 3, 2017, the materials satisfying the requirements of clauses (i) and (ii) of Section 5 of the Waiver to Revolving Credit, Term Loan and Security Agreement, dated as of August 14, 2017, as amended.

 

On November 14, 2017, the Company and its subsidiaries, as Borrowers, entered into a second amendment (the “Second Amendment”) to the Revolving Credit, Term Loan and Security Agreement, dated as of March 31, 2017 (the “Credit Agreement”). Pursuant to the Second Amendment the Borrowers agreed, among other things, to use commercially reasonable efforts to prepay, or cause to be prepaid, $10.0 million in principal amount of Advances (as defined in the Credit Agreement) outstanding, which amount shall be applied to prepay the Term Loans in accordance with the applicable terms of the Credit Agreement. Any prepayment to the term loan is contingent upon a future financing, non-operational cash flow or excess cash flow as defined in the agreement. The Company also agreed to certain amendments to the loan covenants required to be maintained.

 

The Company did not meet its financial loan covenants at September 30, 2018 or at June 30, 2018 or March 31, 2018, previously. On May 15, 2018, the Company obtained a temporary waiver from its lenders for the missed financial covenants at March 31, 2018. On August 10, 2018, the Company and its subsidiaries, as Borrowers, entered into a third amendment and waiver (the “Third Amendment and Waiver”) to the Credit Agreement. Pursuant to the Third Amendment and Waiver, the Lenders agreed to modify the definition of EBITDA in the Credit Agreement to allow for the recognition and exclusion of certain additional acquisition, integration and restructuring expenses not previously specified and to provide a temporary waiver for any Defaults and Events of Default under the Credit Agreement that have solely arisen by reason of the Company failing to comply with the financial covenants of the Credit Agreement for the period ending June 30, 2018.

 

On December 27, 2018, the Company and its subsidiaries, as Borrowers, entered into a fourth amendment and waiver (the “Fourth Amendment and Waiver”) to the Revolving Credit, Term Loan and Security Agreement, dated as of March 31, 2017 (the “Credit Agreement”). Under the Fourth Amendment and Waiver, the Company and its Lenders have negotiated and agreed to a waiver for non-compliance with the financial covenants under the Credit Agreement as of September 30, 2018, and amendments to the financial covenants and to the remaining scheduled principal payments.

 

On May 15, 2019, the Company and its subsidiaries, as Borrowers, entered into a fifth amendment and waiver (the “Fifth Amendment”) to the Revolving Credit, Term Loan and Security Agreement, dated as of March 31, 2017 (the “Credit Agreement”). Under the Fifth Amendment, the Company and its Lenders have negotiated and agreed to a waiver for non-compliance with the financial covenants under the Credit Agreement as of March 31, 2019, and amendments to the financial covenants and to the remaining scheduled principal payments.

 

Management has taken definitive actions to improve operations, reduce costs and improve profitability, and position the Company for future growth. In addition, the Company’s senior lenders have worked with management in providing amendments and waivers to the Company’s senior credit facilities as management works towards improving the Company’s operations and restructuring its current debt and equity capitalization.

 

Based on its current projections, management expects that the Company can meet its future debt service requirements and comply with its financial covenants and other commitments, as amended, and will continue to seek reasonable assistance from the Company’s senior lenders, as necessary. However, the Company’s projections are based on assumptions and estimates about future performance and events, which are subject to change or other unforeseen conditions or uncertainties. As such, there can be no assurance that the Company will not fall into non-compliance with its loan covenants or that its Lenders will continue to provide waivers or amendments to the Company in the event of future non-compliance with debt covenants or other possible events of default that could happen in the future.

 

 
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Revolving Credit Facility

 

As of June 30, 2019, the Company had $13.9 million in outstanding borrowings under the Revolving Credit Facility, of which approximately $12.7 million was at an interest rate of approximately 17.41%, approximately $0.8 million was at an interest rate of approximately 17.43%, and the remainder was at an interest rate of approximately 19.50%.

 

As of June 30, 2019, the Company had $1.0 million available on the Revolving Credit facility.

 

The Revolving Credit Facility is secured by all the Company’s property and assets, whether real or personal, tangible or intangible, and whether now owned or hereafter acquired, or in which it now has or at any time in the future may acquire any right, title or interests.

 

 Term Loan

 

The Company had outstanding balances under its Term Loan, as follows:

 

 

 

June 30,

2019

 

 

September 30,

2018

 

(in thousands)

 

 

 

 

 

 

Term loan

 

$42,405

 

 

$44,505

 

Unamortized debt discount

 

 

(1,410)

 

 

(1,921)

Term loan, net of discount

 

 

40,995

 

 

 

42,584

 

Short term portion of term loan, net of discount

 

 

2,931

 

 

 

2,331

 

Long term portion of term loan, net of discount

 

$38,064

 

 

$40,253

 

  

The Term Loan is payable as follows, subject to acceleration upon the occurrence of an Event of Default under the Credit Agreement or termination of the Credit Agreement and provided that all unpaid principal, accrued and unpaid interest and all unpaid fees and expenses shall be due and payable in full on March 31, 2021. Principal payments are required as follows: Remainder of Fiscal 2019 – $0.5 million, Fiscal 2020 – $5.5 million and Fiscal 2021 - $36.4 million.

 

The Company also is required to prepay the outstanding amount of the Term Loan in an amount equal to the Specified Excess Cash Flow Amount (as defined in the agreement) for the immediately preceding fiscal year, commencing with the fiscal year ending September 30, 2018. The Company does not owe any amount as of June 30, 2019.

 

Interest

 

The loans under the Credit Agreement for the period commencing on the Second Amendment Effective Date up to and including May 31, 2018, (i) so long as the Senior Leverage Ratio is equal to or greater than 3.75 to 1.00, an amount equal to prime plus 9.75% for Advances consisting of Domestic Rate Loans and LIBOR plus 10.75% for Advances consisting of LIBOR Rate Loans and (ii) so long as the Senior Leverage Ratio is less than 3.75 to 1.00, an amount equal to prime plus 9.00% for Advances consisting of Domestic Rate Loans and LIBOR plus 10.00% for Advances consisting of LIBOR Rate Loans.

 

Commencing on June 1, 2018 up to and including August 31, 2018, (i) so long as the Senior Leverage Ratio is equal to or greater than 4.00 to 1.00, interest on the loans is payable in an amount equal to prime plus 14.00% for Advances consisting of Domestic Rate Loans and LIBOR plus 15.00% for Advances consisting of LIBOR Rate Loans and (ii) so long as the Senior Leverage Ratio is less than 4.00 to 1.00, interest is payable in an amount equal to prime plus 9.75% for Advances consisting of Domestic Rate Loans and LIBOR plus 10.75% for Advances consisting of LIBOR Rate Loans.

 

Commencing on September 1, 2018 through the remainder of the Term, (i) so long as the Senior Leverage Ratio is equal to or greater than 3.50 to 1.00, interest on the loans is payable in an amount equal to prime plus 14.00% for Advances consisting of Domestic Rate Loans and LIBOR plus 15.00% for Advances consisting of LIBOR Rate Loans and (ii) so long as the Senior Leverage Ratio is less than 3.50 to 1.00, interest is payable in an amount equal to prime plus 9.00% for Advances consisting of Domestic Rate Loans and LIBOR plus 10.00% for Advances consisting of LIBOR Rate Loans.

 

 
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As of June 30, 2019, the Company had $42.4 million in outstanding borrowings under the Term Loan Facility, of which approximately $36.1 million was at an interest of approximately 17.41%, and approximately $6.3 million was at an interest of approximately 17.40%.

 

Loan Fees and Amortization

 

In connection with the Credit Agreement, the Company agreed to pay an original discount fee of approximately $0.9 million, a closing fee for the term loan of approximately $0.1 million, a finder’s fee of approximately $1.6 million and a closing fee for the revolving credit facility of approximately $0.5 million. The total of the loan fees paid is approximately $3.1 million. The Company has reported these direct loan-related costs in the form of a discount and reduction of the term loan in the accompanying consolidated balance sheets and is amortizing them as interest expense over the term of the loans. For the nine months ended June 30, 2019 and June 30, 2018, the Company amortized approximately $0.6 million of debt discount each.

 

7. Accrued Compensation

 

Accrued Compensation, which is included in Accounts Payable and Accrued Compensation, is comprised of accrued wages, the related payroll taxes, employee benefits of the Company's employees, including those working on contract assignments, commissions earned and not yet paid and estimated commissions and bonuses payable. 

 

8. Subordinated Debt – Convertible and Non-Convertible

 

The Company had outstanding balances under its Convertible and Non-Convertible Subordinated Debt agreements, as follows:

 

 

 

June 30,

 

 

September 30,

 

 

 

2019

 

 

2018

 

(in thousands)

 

 

 

 

 

 

10% Convertible Subordinated Note

 

$4,185

 

 

$4,185

 

Amended and Restated Non-negotiable promissory note

 

 

-

 

 

 

106

 

Subordinated Promissory Note

 

 

1,000

 

 

 

1,000

 

9.5% Convertible Subordinated Note

 

 

12,500

 

 

 

12,500

 

8% Convertible Subordinated Notes, due to related parties net

 

 

1,195

 

 

 

-

 

Total subordinated debt, convertible and non-convertible

 

 

18,880

 

 

 

17,791

 

Short term portion of subordinated debt, convertible and non-convertible

 

 

(1,000)

 

 

(106)

Long term portion of subordinated debt, convertible and non-convertible

 

$17,880

 

 

$17,685

 

  

10% Convertible Subordinated Note

 

The Company had a Subordinated Note payable to JAX Legacy – Investment 1, LLC (“JAX Legacy”), pursuant to a Subscription Agreement dated October 2, 2015, in the amount of $4.2 million, and which was scheduled to become due on October 2, 2018.

 

 
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On April 3, 2017, the Company and JAX Legacy amended and restated the Subordinated Note in its entirety in the form of a 10% Convertible Subordinated Note (the “10% Note”) in the aggregate principal amount of $4.2 million. The 10% Note matures on October 3, 2021 (the “Maturity Date”). The 10% Note is convertible into shares of the Company’s Common Stock at a conversion price equal to $5.83 per share. All or any portion of the 10% Note may be redeemed by the Company for cash at any time on or after April 3, 2018 that the average daily VWAP of the Company’s Common Stock reported on the principal trading market for the Common Stock exceeds the then applicable Conversion Price for a period of 20 trading days. The redemption price shall be an amount equal to 100% of the then outstanding principal amount of the 10% Note being redeemed, plus accrued and unpaid interest thereon. The Company agreed to issue to the investors in JAX Legacy approximately 77,775 shares of common stock, at a value of approximately $0.4 million which was expensed as loss on the extinguishment of debt during the year ended September 30, 2017.

 

Total discount recorded at issuance of the original JAX Legacy subordinated note payable was approximately $0.6 million. Total amortization of debt discount for the year ended September 30, 2017 was approximately $0.1 million, and the remaining $0.3 million was written off to loss on extinguishment of debt upon amendment and restatement resulting in the 10% Note.

 

The Company issued shares of common stock to JAX Legacy related to the conversion of the subordinated note and the interest approximately 87,172 and 276,232 for the three and nine-month period ended June 30, 2019 and 42,500 and 219,155 for the three and nine-month period ended June 30, 2018, respectively. The stock was valued at approximately $0.1 million and $0.3 million for the three and nine-month period ended June 30, 2019 and $0.1 million and $0.3 million for the three and nine-month period ended June 30, 2018, respectively.

 

On July 3, 2019 the Company issued 132,659 shares of common stock to Jax Legacy related to interest of $0.1 million on the 10% Note.

 

Amended and Restated Non-Negotiable Promissory Note

 

On October 4, 2017, the Company executed an Amended and Restated Non-Negotiable Promissory Note in favor of William Daniel Dampier and Carol Lee Dampier (sellers of Access Data Consulting Corporation) in the amount of approximately $1.2 million (the “Note”). This Note amends and, as so amended, restates in its entirety and replaces that certain Subordinated Nonnegotiable Promissory Note dated October 4, 2015, issued by the Company to William Daniel Dampier and Carol Lee Dampier in the original principal amount of $3.0 million. The Company agreed to pay William Daniel Dampier and Carol Lee Dampier 12 equal installments of approximately $107,675, commencing on November 4, 2017 and ending on October 4, 2018. The note was paid off during the three months ended December 31, 2018.

 

Subordinated Promissory Note

 

On January 20, 2017, the Company entered into Addendum No. 1 (the “Addendum”) to the Stock Purchase Agreement dated as of January 1, 2016 (the “Paladin Agreement”) by and among the Company and Enoch S. Timothy and Dorothy Timothy (collectively, the “Sellers”). Pursuant to the terms of the Addendum, the Company and the Sellers agreed (a) that the conditions to the “Earnouts” (as defined in the Paladin Agreement) had been satisfied or waived and (b) that the amounts payable to the Sellers in connection with the Earnouts shall be amended and restructured as follows: (i) the Company paid $250,000 in cash to the Sellers prior to January 31, 2017 (the “Earnout Cash Payment”) and (ii) the Company issued to the Sellers a subordinated promissory note in the principal amount of $1.0 million (the “Subordinated Note”), The Subordinated Note bears interest at the rate of 5.5% per annum. Interest on the Subordinated Note is payable monthly and principal can only be paid in stock until the term loan and Revolving Credit Facility are repaid. The Subordinated Note is due January 20, 2020 and may be prepaid without penalty. The principal of and interest on the Subordinated Note may be paid, at the option of the Company, either in cash or in shares of common stock of the Company or in any combination of cash and common stock. The Sellers have agreed that all payments and obligations under the Subordinated Note shall be subordinate and junior in right of payment to any “Senior Indebtedness” (as defined in the Paladin Agreement) now or hereafter existing to “Senior Lenders” (current or future) (as defined in the Paladin Agreement).

 

 
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9.5% Convertible Subordinated Notes

 

On April 3, 2017, the Company issued and paid to certain SNIH Stockholders as part of the acquisition of SNIH an aggregate of $12.5 million in the form of 9.5% Convertible Subordinated Notes (the “9.5% Notes”). The 9.5% Notes mature on October 3, 2021 (the “Maturity Date”). The 9.5% Notes are convertible into shares of the Company’s Common Stock at a conversion price equal to $5.83 per share. Interest on the 9.5% Notes accrues at the rate of 9.5% per annum and is payable quarterly in arrears on June 30, September 30, December 31 and March 31, beginning on June 30, 2017, on each conversion date with respect to the 9.5% Notes (as to that principal amount then being converted), and on the Maturity Date (each such date, an “Interest Payment Date”). At the option of the Company, interest may be paid on an Interest Payment Date either in cash or in shares of Common Stock of the Company, which Common Stock shall be valued based on the terms of the agreement, subject to certain limitations defined in the loan agreement. Each of the 9.5% Notes is subordinated in payment to the obligations of the Company under its Credit Agreement (see Note 6) pursuant to Subordination and Inter-creditor Agreements dated as of March 31, 2017 by and among the Company, the Credit Agreement lenders, and each of the holders of the 9.5% Notes.

 

Future minimum payments of all subordinated debt will total approximately as follows: fiscal 2019 - $0.0 million, fiscal 2020 - $1.0 million, fiscal 2021- $0.0 and fiscal 2022 - $18.7 million.

 

The Company issued shares of common stock to the SNI Sellers related to interest of $0.3 million on the 9.5% Notes approximately 246,156 and 744,606 for the three and nine-month period ended June 30, 2019 and 120,654 and 401,256 for the three and nine-month period ended June 30, 2018, respectively. The stock was valued at approximately $0.3 million and $0.9 million for the three and nine-month period ended June 30, 2019 and $0.3 million and $1.2 million for the three and nine-month period ended June 30, 2018, respectively.

 

On July 3, 2019 the Company issued approximately 351,181 shares of common stock to the SNI Sellers related to interest of $0.3 million on the 9.5% Notes.

 

8% Convertible Subordinated Notes to Related Parties

 

On May 15, 2019, the Company issued and sold to members of its executive management and Board of Directors (the “Investors”) $2.0 million in aggregate principal amount of its 8% Notes. The 8% Notes mature on October 3, 2021 (the “Maturity Date”). The 8% Notes are convertible into shares of the Company’s Series C 8% Cumulative Convertible Preferred Stock (“Series C Preferred Stock”) at a conversion price equal to $1.00 per share (subject to adjustment as provided in the 8% Notes upon any stock dividend, stock combination or stock split or upon the consummation of certain fundamental transactions) (the “Conversion Price”). Interest on the 8% Notes accrues at the rate of 8% per annum and shall be paid quarterly in non-cash payments-in-kind (“PIK”) in arrears on June 30, September 30, December 31 and March 31, beginning on June 30, 2019, on each conversion date with respect to the 8% Notes (as to that principal amount then being converted), and on the Maturity Date (each such date, an “Interest Payment Date”). Interest shall be paid on an Interest Payment Date in shares of Series C Preferred Stock of the Company, which Series C Preferred Stock shall be valued at its liquidation value. All or any portion of the 8% Notes may be redeemed by the Company for cash at any time. The redemption price shall be an amount equal to 100% of the then outstanding principal amount of the 8% Notes being redeemed, plus accrued and unpaid PIK interest thereon. The Company may, at its option, prepay any portion of the principal amount of the 8% Notes without the prior consent of the holders thereof; provided, however, that any prepayments of the 8% Notes shall be made on a pro rata basis to all holders of 8% Notes based on the aggregate principal amount of 8% Notes held by such holders. The Company shall be required to prepay the 8% Notes together with accrued and unpaid PIK interest thereon upon the consummation by the Company of any Change of Control. For purposes of the 8% Notes, a Change of Control of the Company shall mean any of the following: (A) the Company effects any sale of all or substantially all of its assets in one transaction or a series of related transactions or (B) the consummation of any transaction (including, without limitation, any merger or consolidation), the result of which is that any person or entity together with their affiliates, becomes the beneficial owner, directly or indirectly, of more than 50% of the Common Stock of the Company. Each of the 8% Notes is subordinated in payment to the obligations of the Company to the lenders parties to that certain Revolving Credit, Term Loan and Security Agreement, dated as of March 31, 2017, as amended, by and among the Company, the Company’s subsidiaries named as borrowers therein (collectively with the Company, the “Borrowers”), the senior lenders named therein and MGG Investment Group LP, as administrative agent and collateral agent (the “Agent”) for the senior lenders (the “Senior Credit Agreement”), pursuant to those certain Subordination and Intercreditor Agreements, each dated as of May 15, 2019 by and among the Company, the Borrowers, the Agent and each of the holders of the 8% Notes.

 

 
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On June 30, 2019 the Company issued approximately 20,000 shares of Series C Preferred Stock to Investors related to interest of $20,000 on the 8% Notes.

 

The BCF for the 8% Notes is recorded as a discount to their carrying value and is equal to the fair value of the conversion feature. The discount will be amortized as interest over the period from the date of issuance to maturity. The total BCF recorded was approximately $0.8 million. For the nine months ended June 30, 2019 and June 30, 2018, the Company amortized approximately $0.04 million and $0 of debt discount, respectively.

 

9. Equity

  

On January 25, 2018, the Company issued approximately 110,083 shares of common stock to a SNI Sellers for the conversion of approximately 110,083 shares of series B preferred shares.

 

On November 9, 2018 the Company issued 250,000 shares of common stock for the conversion of approximately 250,000 shares of Series B Convertible Preferred Stock, see Note 10.

 

Restricted Stock

 

During the nine months ended June 30, 2019 no restricted stock was granted or exercised. The restricted shares are to be earned over a three-year period and cliff vest at the end of the third year from the date of grant. Stock-based compensation expense attributable to restricted stock was $0.2 and $0.6 million, and $0.0 and $0.0 million for the three and nine months ended June 30, 2019 and 2018, respectively. As of June 30, 2019, there was approximately $1.6 million of unrecognized compensation expense related to restricted stock outstanding.

 

A summary of restricted stock activity is presented as follows:

 

 

Number of Shares

 

(in thousands)

 

 

 

Restricted stock outstanding as of September 30, 2018

 

 

1,100

 

Granted

 

 

-

 

Exercised

 

 

-

 

Restricted stock outstanding as of June 30, 2019

 

 

1,100

 

 

 
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Warrants

 

No warrants were granted or exercised during the nine months ended June 30, 2019.

  

(in thousands)

 

Number of Shares

 

 

Weighted Average Exercise Price Per Share ($)

 

 

Weighted Average Remaining Contractual Life

 

 

Total Intrinsic Value of Warrants ($)

 

Warrants outstanding as of September 30, 2018

 

 

497

 

 

 

3.84

 

 

 

2.87

 

 

 

67

 

Granted

 

 

-

 

 

 

-

 

 

 

 

 

 

 

 

 

Exercised

 

 

-

 

 

 

-

 

 

 

 

 

 

 

 

 

Forfeited

 

 

(58)

 

 

2.00

 

 

 

 

 

 

 

 

 

Warrants outstanding as of December 31, 2018

 

 

439

 

 

 

4.09

 

 

 

2.48

 

 

 

-

 

Granted

 

 

-

 

 

 

-

 

 

 

 

 

 

 

 

 

Exercised

 

 

-

 

 

 

-

 

 

 

 

 

 

 

 

 

Forfeited

 

 

 

 

 

 

-

 

 

 

 

 

 

 

 

 

Warrants outstanding as of March 31, 2019

 

 

439

 

 

 

4.09

 

 

 

2.27

 

 

 

-

 

Granted

 

 

-

 

 

 

-

 

 

 

 

 

 

 

 

 

Exercised

 

 

-

 

 

 

-

 

 

 

 

 

 

 

 

 

Forfeited

 

 

 

 

 

 

-

 

 

 

 

 

 

 

 

 

Warrants outstanding as of June 30, 2019

 

 

439

 

 

 

4.09

 

 

 

2.05

 

 

 

-

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Warrants exercisable as of September 30, 2018

 

 

497

 

 

 

3.84

 

 

 

2.87

 

 

 

67

 

Warrants exercisable as of June 30, 2019

 

 

439

 

 

 

4.09

 

 

 

2.05

 

 

 

-

 

  

Stock Options

 

As of June 30, 2019, there were stock options outstanding under the Company’s Second Amended and Restated 1997 Stock Option Plan and the Company’s Amended and Restated 2013 Incentive Stock Plan. Both plans were approved by the shareholders. The plans granted specified numbers of options to non-employee directors, and they authorized the Compensation Committee of the Board of Directors to grant either incentive or non-statutory stock options to employees. Vesting periods are established by the Compensation Committee at the time of grant. All stock options outstanding as of June 30, 2019 and September 30, 2018 were non-statutory stock options, had exercise prices equal to the market price on the date of grant, and had expiration dates ten years from the date of grant.

 

Stock-based compensation expense attributable to stock options and warrants was $0.3 million and $1.0 million, and 0.4 million and $1.0 million for the three and nine months ended June 30, 2019 and 2018, respectively. As of June 30, 2019 and June 30, 2018, there was approximately $1.9 million of unrecognized compensation expense related to unvested stock options outstanding each, and the weighted average vesting period for those options was 3.9 years. 

  

 
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A summary of stock option activity is as follows:

 

 

 

Number of Shares

 

 

Weighted Average Exercise Price per share ($)

 

 

Weighted Average Remaining Contractual Life (Years)

 

 

Total Intrinsic Value of Options ($)

 

(in thousands)

 

 

 

 

 

 

 

 

 

 

 

 

Options outstanding as of September 30, 2018

 

 

1,578

 

 

 

3.76

 

 

 

7.53

 

 

 

142

 

Granted

 

 

394

 

 

 

1.91

 

 

 

 

 

 

 

 

 

Forfeited/Expired

 

 

(178)

 

 

3.89

 

 

 

 

 

 

 

 

 

Options outstanding as of December 31, 2018

 

 

1,794

 

 

 

3.34

 

 

 

8.58

 

 

 

-

 

Granted

 

 

-

 

 

 

-

 

 

 

 

 

 

 

 

 

Exercised

 

 

-

 

 

 

-

 

 

 

 

 

 

 

 

 

Forfeited/Expired

 

 

(48)

 

 

5.03

 

 

 

 

 

 

 

 

 

Options outstanding as of March 31, 2019

 

 

1,746

 

 

 

3.29

 

 

 

8.34

 

 

 

-

 

Granted

 

 

-

 

 

 

-

 

 

 

 

 

 

 

 

 

Exercised

 

 

-

 

 

 

-

 

 

 

 

 

 

 

 

 

Forfeited/Expired

 

 

(37)

 

 

4.23

 

 

 

 

 

 

 

 

 

Options outstanding as of June 30, 2019

 

 

1,709

 

 

 

3.27

 

 

 

8.06

 

 

 

-

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Exercisable as of September 30, 2018

 

 

512

 

 

 

5.08

 

 

 

7.30

 

 

 

1

 

Exercisable as of June 30, 2019

 

 

686

 

 

 

4.25

 

 

 

6.76

 

 

 

-

 

 

The fair value of stock options granted was made using the Black-Scholes option pricing model and the following assumptions:

 

 

 

Nine Months Ended

 

 

 

June 30, 2019

 

Weighted average fair value of options

 

$1.75

 

Weighted average risk-free interest rate

 

 

3.03%

Weighted average dividend yield

 

$-

 

Weighted average volatility factor

 

 

104%

Weighted average expected life (years)

 

 

10

 

  

10. Mezzanine Equity

 

Series A Convertible Preferred Stock

 

On April 3, 2017, the Company filed a Statement of Resolution Establishing its Series A Preferred Stock with the State of Illinois. (the Resolution Establishing Series”). Pursuant to the Resolution Establishing Series, the Company designated 160,000 of its authorized preferred stock as Series A Preferred Stock. There are no shares issued and outstanding under this designation.

  

Series B Convertible Preferred Stock

 

On April 3, 2017, the Company issued an aggregate of approximately 5.9 million shares of no par value, Series B Convertible Preferred Stock to certain of the SNIH Stockholders as part of the SNIH acquisition. The no par value, Series B Convertible Preferred Stock has a liquidation preference equal to $4.86 per share and ranks senior to all "Junior Securities" (including the Company's Common Stock) with respect to any distribution of assets upon liquidation, dissolution or winding up of the Company, whether voluntary or involuntary.

 

 
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In the event that the Company declares or pays a dividend or distribution on its Common Stock, whether such dividend or distribution is payable in cash, securities or other property, including the purchase or redemption by the Company or any of its subsidiaries of shares of Common Stock for cash, securities or property, the Company is required to simultaneously declare and pay a dividend on the no par value, Series B Convertible Preferred Stock on a pro rata basis with the Common Stock determined on an as-converted basis assuming all shares had been converted as of immediately prior to the record date of the applicable dividend or distribution.

 

Except as set forth in the Resolution Establishing Series or as may be required by Illinois law, the holders of the no par value, Series B Convertible Preferred Stock have no voting rights. Pursuant to the Resolution Establishing Series, without the prior written consent of holders of not less than a majority of the then total outstanding Shares of no par value, Series B Convertible Preferred Stock, voting separately as a single class, the Company shall not create, or authorize the creation of, any additional class or series of capital stock of the Company (or any security convertible into or exercisable for any class or series of capital stock of the Company) that ranks pari passu with or superior to the no par value, Series B Convertible Preferred Stock in relative rights, preferences or privileges (including with respect to dividends, liquidation or voting).

 

Each share of Series B Convertible Preferred Stock is convertible at the option of the holder thereof into one share of Common Stock at an initial conversion price equal to $4.86 per share, which is subject to adjustment in the event of stock splits, stock combinations, capital reorganizations, reclassifications, consolidations, mergers or sales, as set forth in the Resolution Establishing Series.

 

None of the shares of no par value, Series B Preferred Stock issued to the SNIH Stockholders are registered under the Securities Act. Each of the SNIH Stockholders who received shares of Series B Preferred Stock is an accredited investor. The issuance of the shares of no par value, Series B Preferred Stock to such SNIH Stockholders is exempt from the registration requirements of the Act in reliance on an exemption from registration provided by Section 4(2) of the Act.

 

Based on the terms of the Series B Convertible Preferred Stock, if certain fundamental transactions were to occur, the Series B Convertible Preferred Stock would require redemption, which precludes permanent equity classification on the accompanying consolidated Balance Sheet.

 

During the nine months ended June 30, 2019 the Company issued 250,000 shares of common stock for the conversion of approximately 250,000 shares of Series B Convertible Preferred Stock.

 

Series C Convertible Preferred Stock

 

On May 17, 2019, the Company filed a Statement of Resolution Establishing its Series C Preferred Stock with the State of Illinois. (the Resolution Establishing Series”). Pursuant to the Resolution Establishing Series, the Company designated 3,000,000 of its authorized preferred stock as “Series C 8% Cumulative Convertible Preferred Stock”, without par value. The Series C Preferred Stock has a Liquidation Value equal to $1.00 per share and ranks pari passu with the Company’s Series B Convertible Preferred Stock (“Series B Preferred Stock”) and senior to all “Junior Securities” (including the Company’s Common Stock) with respect to any distribution of assets upon liquidation, dissolution or winding up of the Company, whether voluntary or involuntary. Holders of shares of Series C Preferred Stock are entitled to receive an annual non-cash (“PIK”) dividend of 8% of the Liquidation Value per share. Such dividend shall be payable quarterly on June 30, September 30, December 31 and March 31 of each year commencing on June 30, 2019, in preference to any dividend paid on or declared and set aside for the Series B Preferred Stock or any Junior Securities and shall be paid-in-kind in additional shares of Series C Preferred Stock. Except as set forth in the Resolution Establishing Series or as may be required by Illinois law, the holders of the Series C Preferred Stock have no voting rights. Pursuant to the Resolution Establishing Series, without the prior written consent of holders of not less than a majority of the then total outstanding Shares of Series C Preferred Stock, voting separately as a single class, the Company shall not create, or authorize the creation of, any additional class or series of capital stock of the Company (or any security convertible into or exercisable for any class or series of capital stock of the Company) that ranks superior to the Series C Preferred Stock in relative rights, preferences or privileges (including with respect to dividends, liquidation or voting). Each share of Series C Preferred Stock shall be convertible at the option of the holder thereof into one share of Common Stock at an initial conversion price equal to $1.00 per share, each as subject to adjustment in the event of stock splits, stock combinations, capital reorganizations, reclassifications, consolidations, mergers or sales, as set forth in the Resolution Establishing Series.

 

On June 30, 2019 the Company issued approximately 20,000 shares of Series C Preferred Stock to Investors related to interest of $20,000 on the 8% Notes.

 

 
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11. Income Tax

 

The following table presents the provision for income taxes and our effective tax rate for the three and nine months ended June 30, 2019 and 2018:

 

 

 

Three Months Ended,

June 30,

 

 

Nine Months Ended,

June 30,

 

(in thousands)

 

2019

 

 

2018

 

 

2019

 

 

2018

 

Provision for Income Taxes

 

 

(106)

 

 

(407)

 

 

400

 

 

 

259

 

Effective Tax Rate

 

 

2%

 

 

18%

 

 

-3%

 

 

 

-4%

 

 

The effective income tax rate on operations is based upon the estimated income for the year, and adjustments, if any, in the applicable quarterly periods for the potential tax consequences, benefits, resolutions of tax audits or other tax contingencies.

 

Our effective tax rate for the three and nine months ended June 30, 2019 is lower than the statutory tax rate primarily due to an increase in the deferred tax liability related to indefinite lived assets. Other than the deferred tax liability relating to indefinite lived assets, the Company is maintaining a full valuation allowance against the remaining net DTA position.

 

The effective tax rate for the three months ended June 30, 2018 is lower than the statutory tax rate primarily due to an increase in the deferred tax liability related to indefinite lived assets.

 

The effective tax rate for the nine months ended June 30, 2018 is lower than the statutory tax rate primarily due to an increase in the deferred tax liability related to indefinite lived assets being offset by a discrete tax benefit recorded for the impact from the US Tax Reform. The tax provision for the nine months ended June 30, 2018 includes discrete tax benefit totaling $0.4 million relating to the US Tax Reform that was recorded in the period ending December 31, 2017.

 

12. Commitments and Contingencies

 

Leases

 

The Company leases space for all its branch offices, which are generally located either in downtown or suburban business centers, and for its corporate headquarters. Branch offices are generally leased over periods ranging from three to five years. The corporate office lease expires in 2020. The leases generally provide for payment of basic rent plus a share of building real estate taxes, maintenance costs and utilities.

 

Rent expense was $0.7 million and $2.2 million, and $0.9 million and $2.4 million for the three and nine-month periods ended June 30, 2019 and 2018, respectively.

 

 
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As of June 30, 2019 future minimum lease payments due under non-cancelable lease agreements having initial terms in excess of one year, including certain closed offices are as follows:

 

(in thousands)

 

 

 

Remainder of Fiscal 2019

 

$490

 

Fiscal 2020

 

 

1,569

 

Fiscal 2021

 

 

1,038

 

Fiscal 2022

 

 

977

 

Fiscal 2023

 

 

769

 

Thereafter

 

 

872

 

Total

 

$5,715

 

  

Litigation and Claims

 

The Company and its subsidiaries are involved in various litigation that arises in the ordinary course of business. There are no pending significant legal proceedings to which the Company is a party for which management believes the ultimate outcome would have a material adverse effect on the Company’s financial position.

 

13. Segment Data

 

The Company provides the following distinctive services: (a) direct hire placement services, (b) temporary professional services staffing in the fields of information technology, accounting, finance, office, engineering, and medical, and (c) temporary light industrial staffing. These Company’s services can be divided into two reportable segments, Industrial Staffing Services and Professional Staffing Services. Some selling, general and administrative expenses are not fully allocated among light industrial services and professional staffing services.

 

Unallocated corporate expenses primarily include, certain executive compensation expenses and salaries, certain administrative salaries, corporate legal expenses, stock compensation expenses, consulting expenses, audit fees, corporate rent and facility costs, board fees, acquisition, integration and restructuring expenses, and interest expense.

 

 
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Three Months Ended

 

 

Nine Months Ended

 

 

June 30,

 

 

June 30,

 

(in thousands) 

 

2019

 

 

2018

 

 

2019

 

 

2018

 

Industrial Staffing Services

 

 

 

 

 

 

 

 

 

 

 

 

Industrial services revenue

 

$5,442

 

 

$5,166

 

 

$16,157

 

 

$16,165

 

Industrial services gross margin

 

 

26.8%

 

 

16.4%

 

 

22.5%

 

 

17.6%

Operating income

 

$1,572

 

 

$31

 

 

$1,908

 

 

$315

 

Depreciation & amortization

 

 

65

 

 

 

65

 

 

 

195

 

 

 

197

 

Accounts receivable – net

 

 

3,359

 

 

 

3,386

 

 

 

3,359

 

 

 

3,386

 

Intangible assets

 

 

302

 

 

 

526

 

 

 

302

 

 

 

526

 

Goodwill

 

 

1,084

 

 

 

1,084

 

 

 

1,084

 

 

 

1,084

 

Total assets

 

$4,745

 

 

$5,555

 

 

$4,745

 

 

$5,555

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Professional Staffing Services

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Permanent placement revenue

 

$4,884

 

 

$6,388

 

 

$13,764

 

 

$17,496

 

Placement services gross margin

 

 

100%

 

 

100%

 

 

100%

 

 

100%

Professional services revenue

 

$27,775

 

 

$28,713

 

 

$82,900

 

 

$91,695

 

Professional services gross margin

 

 

26.1%

 

 

26.1%

 

 

25.7%

 

 

25.9%

Operating income

 

$(3,333)

 

$2,301

 

 

$975

 

 

$5,861

 

Depreciation and amortization

 

 

1,420

 

 

 

1,436

 

 

 

4,263

 

 

 

4,289

 

Accounts receivable – net

 

 

17,078

 

 

 

17,780

 

 

 

17,078

 

 

 

17,780

 

Intangible assets

 

 

24,975

 

 

 

30,336

 

 

 

24,975

 

 

 

30,336

 

Goodwill

 

 

71,209

 

 

 

75,509

 

 

 

71,209

 

 

 

75,509

 

Total assets

 

$121,601

 

 

$128,806

 

 

$121,601

 

 

$128,806

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Unallocated Expenses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Corporate administrative expenses

 

$829

 

 

$686

 

 

$2,542

 

 

$1,065

 

Corporate facility expenses

 

 

79

 

 

 

139

 

 

 

257

 

 

 

287

 

Stock Compensation expense

 

 

531

 

 

 

399

 

 

 

1,661

 

 

 

1,028

 

Acquisition, integration and restructuring expenses

 

 

564

 

 

 

514

 

 

 

2,990

 

 

 

1,712

 

Total unallocated expenses

 

$2,003

 

 

$1,738

 

 

$7,450

 

 

$4,092

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Consolidated

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total revenue

 

$38,101

 

 

$40,267

 

 

$112,821

 

 

$125,356

 

Operating income (loss)

 

 

(3,764)

 

 

595

 

 

 

(4,567)

 

 

2,084

 

Depreciation and amortization

 

 

1,485

 

 

 

1,501

 

 

 

4,458

 

 

 

4,486

 

Total accounts receivables – net

 

 

20,437

 

 

 

21,166

 

 

 

20,437

 

 

 

21,166

 

Intangible assets

 

 

25,277

 

 

 

30,862

 

 

 

25,277

 

 

 

30,862

 

Goodwill

 

 

72,293

 

 

 

76,593

 

 

 

72,293

 

 

 

76,593

 

Total assets

 

$126,346

 

 

$134,361

 

 

$126,346

 

 

$134,361

 

 

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

 

Overview

 

We specialize in the placement of information technology, accounting, finance, office, and engineering professionals for direct hire and contract staffing for our clients, data entry assistants (medical scribes) who specialize in electronic medical records (EMR) services for emergency departments, specialty physician practices and clinics and provide temporary staffing services for our light industrial clients. The acquisitions of Agile Resources, Inc., a Georgia corporation (“Agile”), Access Data Consulting Corporation, a Colorado corporation (“Access”), Paladin Consulting Inc. (“Paladin”) and SNI Companies, a Delaware corporation (“SNI”) expanded our geographical footprint within the placement and contract staffing of information technology, accounting, finance, office and engineering professionals.

 

The Company markets its services using the trade names General Employment Enterprises, Omni One, Ashley Ellis, Agile Resources, Scribe Solutions Inc., Access Data Consulting Corporation, Paladin Consulting Inc., SNI Companies (including Staffing Now, Accounting Now, and Certes), Triad Personnel Services and Triad Staffing. As of June 30, 2019, we operated thirty-four branch offices in downtown or suburban areas of major U.S. cities across thirteen states. We have offices located in Arizona, Connecticut, Georgia, Minnesota, New Jersey, Virginia, Washington DC, Colorado, Illinois, Massachusetts, Texas, Ohio and Florida.

 

Management has implemented a strategy which includes cost reduction efforts as well as identifying strategic acquisitions, financed primarily through the issuance of equity and debt to improve the overall profitability and cash flows of the Company. The Company’s contract and placement services are principally provided under two operating divisions or segments: Professional Staffing Services and Industrial Staffing Services. We believe our current segments complement one another and position us for future growth.

 

Results of Operations

 

Three Months Ended June 30, 2019 Compared to the Three Months Ended June 30, 2018

 

Net Revenues

 

Consolidated net revenues are comprised of the following:

 

 

 

Three Months

 

 

 

 

 

 

 

 

 

Ended June 30,

 

 

 

 

 

 

 

(in thousands)

 

2019

 

 

2018

 

 

$ Change

 

 

% Change

 

Professional contract services

 

$27,775

 

 

$28,713

 

 

 

(938)

 

 

(3)

Industrial contract services

 

 

5,442

 

 

 

5,166

 

 

 

276

 

 

 

5

 

Total professional and industrial contract services

 

 

33,217

 

 

 

33,879

 

 

 

(662)

 

 

(2)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Direct hire placement services

 

 

4,884

 

 

 

6,388

 

 

 

(1,504)

 

 

(24)

Consolidated net revenues

 

$38,101

 

 

$40,267

 

 

 

(2,166)

 

 

(5)

 

Contract staffing services contributed $33.2 million or approximately 87% of consolidated revenue and direct hire placement services contributed $4.9 million, or approximately 13%, of consolidated revenue for the three months ended June 30, 2019. This compares to contract staffing services revenue of $33.9 million, or approximately 84%, of consolidated revenue and direct hire placement revenue of $6.4 million, or approximately 16%, of consolidated revenue for the three months ended June 30, 2018.

 

 
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The overall decrease in contract staffing services revenues of $0.7 million, or 2%, for the three months ended June 30, 2019 compared to the three months ended June 30, 2018 was primarily attributable to reductions in the temporary workforce requirements of a few key customers in the professional and industrial services divisions in the quarter ended June 30, 2019. In addition, the residual effects of office consolidations, office closures and other reductions in its core workforce that were undertaken by the Company beginning shortly after the SNI acquisition to maximize productivity, reduce overall field costs and improve profitability, contributed to the decrease.

 

Direct hire placement revenue for the three months ended June 30, 2019 decreased by $1.5 million over the three months ended June 30, 2018. The decrease in direct hire placement revenues also is attributable to the residual effects of office consolidations and office closures and other reductions in its core workforce that were undertaken by the Company to maximize productivity, reduce overall field costs and improve profitability.

 

Cost of Contract Services

 

Cost of contract services includes wages and related payroll taxes and employee benefits of the Company's contract services employees, and certain other contract employee-related costs, while working on contract assignments. Cost of contract services for the three months ended June 30, 2019 decreased by approximately 4% to $24.5 million compared to $25.5 million for the three months ended June 30, 2018. The $1.0 million overall decrease in cost of contract services for the three months ended June 30, 2019 compared to the three months ended June 30, 2018 was primarily attributable to and consistent with the corresponding declines in revenues, which is discussed further below.

 

 

 

Three Months Ended

 

 

 

June 30, 2019

 

 

June 30, 2018

 

Professional contract services

 

 

26.1%

 

 

26.1%

Industrial contract services

 

 

26.8%

 

 

16.4%

Professional and industrial services combined

 

 

26.2%

 

 

24.6%

 

 

 

 

 

 

 

 

 

Direct hire placement services

 

 

100.0%

 

 

100.0%

Combined gross profit margin %(1)

 

 

35.6%

 

 

36.6%

____________

(1)Includes gross profit from direct hire placements, for which all associated costs are recorded as selling, general and administrative expenses.

  

The Company’s combined gross profit margin, including direct hire placement services (recorded at 100% gross margin) for the three months ended June 30, 2019 was approximately 35.6% as compared with approximately 36.6% for the three months ended June 30, 2018.

 

In the professional contract staffing services segment, the gross margin (excluding direct placement services) was approximately 26.1% for three months ended June 30, 2019, which is consistent with the three months ended June 30, 2018.

 

The Company’s industrial staffing services gross margin for the three months ended June 30, 2019 was approximately 26.8% versus approximately 16.4% for the three months ended June 30, 2018. The significant increase in industrial staffing services gross margin is due to an increase in the estimated amounts of return premiums the Company’s light industrial business is eligible to receive under the Ohio Bureau of Workers’ Compensation retrospectively-rated insurance program, which accounted for approximately $0.6 million of the increase in gross profits and 11.5 percentage points (1,150 basis points) of the increase in gross margin for the three months ended June 30, 2019, as compared with the gross margin for three months ended June 30, 2018.

 

 
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Selling, General and Administrative Expenses

 

Selling, general and administrative expenses include the following categories:

 

 

¨

Compensation and benefits in the operating divisions, which includes salaries, wages and commissions earned by the Company’s employment consultants and branch managers on permanent and temporary placements.

 

¨

Administrative compensation, which includes salaries, wages, payroll taxes and employee benefits associated with general management and the operation of the finance, legal, human resources and information technology functions.

 

¨

Occupancy costs, which includes office rent, depreciation and amortization, and other office operating expenses.

 

¨

Recruitment advertising, which includes the cost of identifying job applicants.

 

¨

Other selling, general and administrative expenses, which includes travel, bad debt expense, fees for outside professional services and other corporate-level expenses such as business insurance and taxes.

 

In addition to depreciation and amortization, which are broken out and reported separately in the consolidated statement of operations from other selling, general and administrative expenses (SG&A), the Company separately reports SG&A expenses incurred that are related to acquisition, integration and restructuring activities. These include expenses associated with former closed and consolidated locations, personnel costs associated with eliminated positions, and other costs incurred related to acquisitions, including associated legal and professional costs. Management believes reporting these expenses separately from other SG&A provides useful information considering the Company’s dual track growth strategy of internal (organic) growth and growth by acquisitions and when comparing and considering the Company’s operating results and activities with other entities.

 

The Company’s SG&A for the three months ended June 30, 2019, excluding depreciation, amortization and acquisition, integration and restructuring expenses, was $11.0 compared to $12.1 for the three months ended June 30, 2018. SG&A for the three months ended June 30, 2019, excluding depreciation, amortization and acquisition, integration and restructuring expenses, as a percentage of revenues was approximately 29% compared to 30% for the three months ended June 30, 2018. The decline in SG&A expenses is consistent with the decline in revenue, while the 1 percentage point (100 bps) decrease in SG&A as a percentage of revenue is a function of the proportion of fixed expenses.

 

Acquisition, Integration and Restructuring Expenses

 

The Company classifies and reports costs incurred related to acquisition, integration and restructuring activities separately from other SG&A within its operating expenses. These costs were $0.6 million and $0.5 million for the three months ended June 30, 2019 and 2018, respectively. These costs include mainly expenses associated with former closed and consolidated locations, personnel costs associated with eliminated positions, costs incurred related to acquisitions and associated legal and professional costs.

 

Depreciation Expense

 

Depreciation expense was $0.1 for the three months ended June 30, 2019, which remained approximately level compared to the three months ended June 30, 2018.

 

Amortization Expense

 

Amortization expense was $1.4 for the three months ended June 30, 2019, which remained approximately level compared to the three months ended June 30, 2018.

 

 
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Goodwill Impairment Charge

 

In 2019, the Company early adopted ASU 2017-04, Intangibles — Goodwill and Other (Topic 350), Simplifying the Test for Goodwill Impairment, which simplifies the subsequent measurement of goodwill by eliminating the second step from the quantitative goodwill impairment test. Under this guidance, annual or interim goodwill impairment testing is performed by comparing the fair value of a reporting unit with its carrying amount. An impairment charge is recognized for the amount by which the carrying amount exceeds the reporting unit’s fair value, not to exceed the carrying value of goodwill.

 

Due to a sustained decline in the market capitalization of our common stock during the third quarter of 2019, we performed an interim goodwill impairment test in accordance with the provisions of ASU 2017-04. The outcome of this goodwill impairment test resulted in a non-cash charge for the impairment of goodwill of $4.3 million, which was recorded in the consolidated financial statements for the three months ended June 30, 2019. For purposes of performing this interim goodwill impairment assessment, management mainly considered recent trends in the Company’s stock price, estimated control or acquisition premium, and related matters, including other possible factors affecting the recent declines in the Company’s stock price and their effects on estimated fair value of the Company’s reporting units.

 

Loss from Operations

 

As the net result of the matters discussed regarding revenues and operating expenses above, income from operations decreased by approximately $4.4 million for the three months ended June 30, 2019 compared to the three months ended June 30, 2018.

 

Interest Expense

 

Interest expense for the three months ended June 30, 2019, increased by approximately $0.3 million or 10% compared to the three months ended June 30, 2018. The increase in interest expense is attributable to a scheduled increase in the required interest margin under the Company’s senior credit facilities of approximately 500 basis points (5%) annually, that began as of June 1, 2018.

 

Provision for Income Taxes

 

The Company recognized a tax provision benefit of approximately $0.1 million for the three months ended June 30, 2019. Our effective tax rate for the three months ended June 30, 2019 is lower than the statutory tax rate primarily due to an increase in the deferred tax liability related to indefinite lived assets. Other than the deferred tax liability relating to indefinite lived asset, the Company is maintaining a full valuation allowance against the remaining net DTA position.

 

The effective tax rate for the three months ended June 30, 2018 is lower than the statutory tax rate primarily due to an increase in the deferred tax liability related to indefinite lived assets.

 

Net Loss

 

As the net result of the matters discussed regarding revenues and expenses above, the Company incurred net losses for the three months ended June 30, 2019 and 2018 of $6.8 million and $1.9 million, respectively.

 

The Company continues to pursue opportunities to selectively increase revenue producing headcount in key markets and industry verticals. The Company also seeks to organically grow its professional contract services revenue and direct hire placement revenue, including business from staff augmentation, permanent placement, statement of work (SOW) and other human resource solutions in the information technology, engineering, healthcare and finance and accounting higher margin staffing specialties. The Company’s strategic plans to achieve this goal involve setting aggressive new business growth targets, including initiatives to increase services to existing customers, increasing its numbers of revenue producing core professionals, including primarily, business development managers and recruiters, changes to compensation, commission and bonus plans to better incentivize producers, and frequent interaction with the field to monitor and motivate growth. The Company’s strategic plan contains both internal and acquisition growth objectives to increase revenue in the aforementioned higher margin and more profitable professional services sectors of staffing.

 

 
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Nine Months Ended June 30, 2019 Compared to the Nine Months Ended June 30, 2018

 

Net Revenues

 

Consolidated net revenues are comprised of the following:

 

 

 

Nine Months

 

 

 

 

 

 

 

Ended June 30,

 

 

 

 

 

(in thousands)

 

2019

 

 

2018

 

 

$ Change

 

 

% Change

 

Professional contract services

 

$82,900

 

 

$91,695

 

 

 

(8,795)

 

 

(10)

Industrial contract services

 

 

16,157

 

 

 

16,165

 

 

 

(8)

 

 

-

 

Total professional and industrial contract services

 

 

99,057

 

 

 

107,860

 

 

 

(8,803)

 

 

(8)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Direct hire placement services

 

 

13,764

 

 

 

17,496

 

 

 

(3,732)

 

 

(21)

Consolidated net revenues

 

$112,821

 

 

$125,356

 

 

 

(12,535)

 

 

(10)

  

Contract staffing services contributed $99.1 million or approximately 88% of consolidated revenue and direct hire placement services contributed $13.8 million, or approximately 12%, of consolidated revenue for the nine months ended June 30, 2019. This compares to contract staffing services revenue of $107.9 million, or approximately 86%, of consolidated revenue and direct hire placement revenue of $17.5 million, or approximately 14%, of consolidated revenue for the nine months ended June 30, 2018.

 

The overall decrease in contract staffing services revenue of $8.8 million, or 8%, for the nine months ended June 30, 2019 compared to the nine months ended June 30, 2018 was primarily attributable to the decline in revenue is attributable to the residual effects of office consolidations and office closures and other reductions in its core workforce that were undertaken by the Company to maximize productivity, reduce overall field costs and improve profitability. In addition, reductions in the temporary workforce requirements of a few key customers in the professional and industrial services divisions, and to a lesser extent, higher incidences of bad weather in mid-west and northeastern markets, an additional holiday workdays in the nine months ended June 30, 2019, as compared with the nine months ended June 30, 2018.

 

Direct hire placement revenue for the nine months ended June 30, 2019 decreased by $3.7 million or 21% over the nine months ended June 30, 2018. The decrease in direct hire placement revenues also is attributable to the residual effects of office consolidations and office closures and other reductions in its core workforce that were undertaken by the Company to maximize productivity, reduce overall field costs and improve profitability. In addition, management believes market speculation of an impending recession in the U.S economy during the first fiscal quarter of 2019 had a cooling effect on hiring, especially around the holiday season.

 

Cost of Contract Services

 

Cost of contract services includes wages and related payroll taxes and employee benefits of the Company's contract services employees, and certain other contract employee-related costs, while working on contract assignments. Cost of contract services for the nine months ended June 30, 2019 decreased by approximately 9% to $74.1 million compared to $81.2 million for the nine months ended June 30, 2018. The $7.1 million overall decrease in cost of contract services for the nine months ended June 30, 2019 compared to the nine months ended June 30, 2018 was primarily attributable to and consistent with the corresponding declines in revenues, which is discussed further below.

 

Gross Profit percentage by service:

 

 

 

Nine Months Ended

 

 

 

June 30, 2019

 

 

June 30, 2018

 

Professional contract services

 

 

25.7%

 

 

25.9%

Industrial contract services

 

 

22.5%

 

 

17.6%

Professional and industrial services combined

 

 

25.2%

 

 

24.7%

 

 

 

 

 

 

 

 

 

Direct hire placement services

 

 

100.0%

 

 

100.0%

Combined gross profit margin %(1)

 

 

34.3%

 

 

35.2%

__________  

(1)Includes gross profit from direct hire placements, for which all associated costs are recorded as selling, general and administrative expenses.

 

 
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The Company’s combined gross profit margin, including direct hire placement services (recorded at 100% gross margin) for the nine months ended June 30, 2019 was approximately 34.3% versus approximately 35.2% for the nine months ended June 30, 2018. The change in the overall gross margin from the comparable prior nine months ended period was principally due to the greater reduction in direct hire placement services revenue proportionally and which have 100% gross margin than the reduction in contract professional services.

 

In the professional contract staffing services segment, the gross margin (excluding direct placement services) was approximately 25.7% for nine months ended June 30, 2019 compared to approximately 25.9% for the nine months ended June 30, 2018. The change in professional contract staffing services gross margin was primarily due to proportionally higher revenue from Vendor Management Systems (“VMS”), Managed Service Providers (“MSP”), Master Service Agreements (“MSA”) and other volume corporate accounts that occurred in the nine months ended June 30, 2019, all of which typically have lower gross margins. Other differences in the composition of revenues among the specialties served by the Company (information technology, engineering, healthcare, finance and accounting and others) also contributed to the change in the professional contract services gross profit and margin.

 

The Company’s industrial staffing services gross margin for the nine months ended June 30, 2019 was approximately 22.5% as compared with approximately 17.6% for the nine months ended June 30, 2018. The increase in gross margin for the nine months ended June 30, 2019 was principally due to increases in the estimated amounts of return premiums and experience refunds the Company’s light industrial business is eligible to receive under the Ohio Bureau of Workers’ Compensation retrospectively-rated insurance program, which accounted for approximately $1.3 million of the increase in gross profits and 8.2 percentage points (820 basis points) of the increase in gross margin for the nine months ended June 30, 2019, as compared with the gross margin for nine months ended June 30, 2018.

 

Selling, General and Administrative Expenses

 

Selling, general and administrative expenses include the following categories:

 

 

¨

Compensation and benefits in the operating divisions, which includes salaries, wages and commissions earned by the Company’s employment consultants and branch managers on permanent and temporary placements.

 

¨

Administrative compensation, which includes salaries, wages, payroll taxes and employee benefits associated with general management and the operation of the finance, legal, human resources and information technology functions.

 

¨

Occupancy costs, which includes office rent, depreciation and amortization, and other office operating expenses.

 

¨

Recruitment advertising, which includes the cost of identifying job applicants.

 

¨

Other selling, general and administrative expenses, which includes travel, bad debt expense, fees for outside professional services and other corporate-level expenses such as business insurance and taxes.

 

In addition to depreciation and amortization, which are broken out and reported separately in the consolidated statement of operations from other selling, general and administrative expenses (SG&A), the Company separately reports SG&A expenses incurred that are related to acquisition, integration and restructuring activities. These include expenses associated with former closed and consolidated locations, personnel costs associated with eliminated positions, and other costs incurred related to acquisitions, including associated legal and professional costs. Management believes reporting these expenses separately from other SG&A provides useful information considering the Company’s dual track growth strategy of internal (organic) growth and growth by acquisitions and when comparing and considering the Company’s operating results and activities with other entities.

 

 
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The Company’s SG&A for the nine months ended June 30, 2019, excluding depreciation, amortization and acquisition, integration and restructuring expenses, decreased by approximately $4.3 million as compared to the nine months ended June 30, 2018. SG&A for the nine months ended June 30, 2019, excluding depreciation, amortization and acquisition, integration and restructuring expenses, as a percentage of revenue was approximately 28%, which is consistent with the nine months ended June 30, 2018. The decline in SG&A expenses is consistent with the decline in revenue, while the consistency as a percentage of revenue is a function of a reduction in SG&A expenses, including fixed expenses, attributable to the office consolidations and office closures and other reductions in its core workforce that were undertaken by the Company to maximize productivity, reduce overall field costs and improve profitability.

 

Acquisition, Integration and Restructuring Expenses

 

The Company classifies and reports costs incurred related to acquisition, integration and restructuring activities separately from other SG&A within its operating expenses. These costs were $3.0 million and $1.7 for the nine months ended June 30, 2019 and 2018, respectively. These costs include mainly expenses associated with former closed and consolidated locations, personnel costs associated with eliminated positions, costs incurred related to acquisitions and associated legal and professional costs. The increase in acquisition, integration and restructuring expenses for the nine months ended June 30, 2019 were primarily due to increases in acquisition-related activities and expenses.

 

Depreciation Expense

 

Depreciation expense was $0.3 for the nine months ended June 30, 2019, which remained approximately level compared to the nine months ended June 30, 2018.

 

Amortization Expense

 

Amortization expense was $4.2 million for the nine months ended June 30, 2019, remained approximately level compared to the nine months ended June 30, 2018.

 

Goodwill Impairment Charge

 

In 2019, the Company early adopted ASU 2017-04, Intangibles — Goodwill and Other (Topic 350), Simplifying the Test for Goodwill Impairment, which simplifies the subsequent measurement of goodwill by eliminating the second step from the quantitative goodwill impairment test. Under this guidance, annual or interim goodwill impairment testing is performed by comparing the fair value of a reporting unit with its carrying amount. An impairment charge is recognized for the amount by which the carrying amount exceeds the reporting unit’s fair value, not to exceed the carrying value of goodwill.

 

Due to a sustained decline in the market capitalization of our common stock during the third quarter of 2019, we performed an interim goodwill impairment test in accordance with the provisions of ASU 2017-04. The outcome of this goodwill impairment test resulted in a non-cash charge for the impairment of goodwill of $4.3 million, which was recorded in the consolidated financial statements for the nine months ended June 30, 2019. For purposes of performing this interim goodwill impairment assessment, management mainly considered recent trends in the Company’s stock price, estimated control or acquisition premium, and related matters, including other possible factors affecting the recent declines in the Company’s stock price and their effects on estimated fair value of the Company’s reporting units.

 

Loss from Operations

 

As the net result of the matters discussed regarding revenues and operating expenses above, income from operations decreased $6.7 million, to a loss of approximately $4.6 million for the nine months ended June 30, 2019 from income of approximately $2.1 million for the nine months ended June 30, 2018.

 

Interest Expense

 

Interest expense for the nine months ended June 30, 2019, increased by approximately $0.8 million or 9% compared to the nine months ended June 30, 2018. The increase in interest expense is attributable to a scheduled increase in the required interest margin under the Company’s senior credit facilities of approximately 500 basis points (5%) annually, that began as of June 1, 2018.

 

 
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Provision for Income Taxes

 

The Company recognized a tax expense of approximately $0.4 million for the nine months ended June 30, 2019. Our effective tax rate for the nine months ended June 30, 2019 is lower than the statutory tax rate primarily due to an increase in the deferred tax liability related to indefinite lived assets. Other than the deferred tax liability relating to indefinite lived asset, the Company is maintaining a full valuation allowance against the remaining net DTA position.

 

The effective tax rate for the nine months ended June 30, 2018 is lower than the statutory tax rate primarily due to an increase in the deferred tax liability related to indefinite lived assets being offset by a discrete tax benefit recorded for the impact from the US Tax Reform. The tax provision for the nine months ended June 30, 2018 includes discrete tax benefit totaling $0.4 million relating to the US Tax Reform that was recorded in the period ending December 31, 2017.

 

Net Loss

 

As a result of the matters discussed regarding revenues and expenses above, the Company incurred net losses for the nine months ended June 30, 2019 and 2018 of $14.2 million and $6.6 million, respectively.

 

The Company continues to pursue opportunities to selectively increase revenue producing headcount in key markets and industry verticals. The Company also seeks to organically grow its professional contract services revenue and direct hire placement revenue, including business from staff augmentation, permanent placement, statement of work (SOW) and other human resource solutions in the information technology, engineering, healthcare and finance and accounting higher margin staffing specialties. The Company’s strategic plans to achieve this goal involve setting aggressive new business growth targets, including initiatives to increase services to existing customers, increasing its numbers of revenue producing core professionals, including primarily, business development managers and recruiters, changes to compensation, commission and bonus plans to better incentivize producers, and frequent interaction with the field to monitor and motivate growth. The Company’s strategic plan contains both internal and acquisition growth objectives to increase revenue in the aforementioned higher margin and more profitable professional services sectors of staffing.

 

Liquidity and Capital Resources

 

The following table sets forth certain consolidated statements of cash flows data:

 

 

 

 

Nine Months Ended

 

(in thousands)

 

June 30, 2019

 

 

June 30, 2018

 

Cash flows provided by (used in) operating activities

 

$(551)

 

$698

 

Cash flows used in investing activities

 

$(108)

 

$(224)

Cash flows provided by (used in) financing activities

 

$1,609

 

 

$(622)

  

As of June 30, 2019, the Company had $4.2 million of cash which was an increase of approximately $1.0 million from approximately $3.2 million as of September 30, 2018. As of June 30, 2019, the Company had working capital of $11.4 million compared to $13.1 million of working capital as of September 30, 2018.

 

Net cash provided by (used in) operating activities for the nine months ended June 30, 2019 and 2018 was approximately $(0.6) and $0.7, respectively. The negative operating cash flow in the fiscal nine months period ended June 30, 2019 corresponds with negative income from operations and other net changes in working capital.

 

The primary uses of cash for investing activities were for the acquisition of property and equipment in the nine months ended June 30, 2019 and 2018.

 

Cash flow provided by financing activities for the nine months ended June 30, 2019 was primarily from the proceeds of the 8% Convertible Subordinated Notes issued in May 2019 and borrowings under the Company’s Revolving Credit Facility, offset by payments on the Company’s debt, principally its Term Loan. Cash flow used in financing activities for the nine months ended June 30, 2018 was primarily from net borrowings on the Revolving Credit Facility offset by payments on the Company’s debt, principally its Term Loan.

 

 
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Minimum debt service payments (principal) for the twelve-month period commencing after the close of business on June 30, 2019, are approximately $4.7 million. All the Company’s office facilities are leased. Minimum lease payments under all the Company’s lease agreements for the twelve-month period commencing after the close of business on June 30, 2019, are approximately $1.8 million.

 

In recent years, the Company has incurred significant net losses. Management has taken definitive actions to improve operations, reduce costs and improve profitability, and position the Company for future growth. In addition, the Company’s senior lenders have worked with management in providing amendments and waivers to the Company’s senior credit facilities as management works towards improving the Company’s operations and restructuring its current debt and equity capitalization.

 

Based on its current projections, management expects that the Company can meet its future debt service requirements and comply with its financial covenants and other commitments, as amended, and will continue to seek reasonable assistance from the Company’s senior lenders, as necessary. However, the Company’s projections are based on assumptions and estimates about future performance and events, which are subject to change or other unforeseen conditions or uncertainties. As such, there can be no assurance that the Company will not fall into non-compliance with its loan covenants or that its Lenders will continue to provide waivers or amendments to the Company in the event of future non-compliance with debt covenants or other possible events of default that could happen in the future.

 

Revolving Credit Facility and Term Loan

 

On March 31, 2017, the Company and its subsidiaries, as borrowers, entered into a Revolving Credit, Term Loan and Security Agreement (the “Credit Agreement”) with PNC Bank National Association (“PNC”), and certain investment funds managed by MGG Investment Group LP (“MGG”). Initial funds were distributed on April 3, 2017, the closing date to repay the existing indebtedness, pay fees and expenses relating to the Credit Agreement, and to pay a portion of the purchase price for the acquisition of the SNI Companies.

 

Under the terms of the Credit Agreement, the Company may borrow up to $73.8 million consisting of a four-year term loan in the principal amount of $48.8 million and revolving loans in a maximum amount up to the lesser of (i) $25.0 million or (ii) an amount determined pursuant to a borrowing base that is calculated based on the outstanding amount of the Company’s eligible accounts receivable, as described in the Credit Agreement. The loans under the Credit Agreement mature on March 31, 2021.

 

On the closing date of the Credit Agreement, the Company borrowed $48.8 million from term loans and borrowed approximately $7.5 million from the Revolving Credit Facility for a total of $56.2 million, which was used by the Company to repay existing indebtedness, to pay fees and expenses relating to the Credit Agreement, and to pay a portion of the purchase price for the acquisition of all of the outstanding stock of SNI Holdco Inc. pursuant to the Merger Agreement. Amounts borrowed under the Credit Agreement also may be used by the Company to partially fund capital expenditures, provide for on-going working capital needs and general corporate needs, and to fund future acquisitions subject to certain customary conditions of the lenders.

 

The Credit Agreement contains certain covenants applicable to both the Revolving Credit Facility and Term Loan. In addition to the financial covenants, the Credit Agreement includes other restrictive covenants. The Credit Agreement permits capital expenditures up to a certain level and contains customary default and acceleration provisions. The Credit Agreement also restricts, above certain levels, acquisitions, incurrence of additional indebtedness, and payment of dividends.

 

The Company did not meet its financial loan covenants at September 30, 2018 or at June 30, 2018 or March 31, 2018, previously. On May 15, 2018, the Company obtained a temporary waiver from its lenders for the missed financial covenants at March 31, 2018. On August 10, 2018, the Company and its subsidiaries, as Borrowers, entered into a third amendment and waiver (the “Third Amendment and Waiver”) to the Credit Agreement. Pursuant to the Third Amendment and Waiver, the Lenders agreed to modify the definition of EBITDA in the Credit Agreement to allow for the recognition and exclusion of certain additional acquisition, integration and restructuring expenses not previously specified and to provide a temporary waiver for any Defaults and Events of Default under the Credit Agreement that have solely arisen by reason of the Company failing to comply with the financial covenants of the Credit Agreement for the period ending June 30, 2018.

 

 
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On December 27, 2018, the Company and its subsidiaries, as Borrowers, entered into a fourth amendment and waiver (the “Fourth Amendment and Waiver”) to the Revolving Credit, Term Loan and Security Agreement, dated as of March 31, 2017 (the “Credit Agreement”). Under the Fourth Amendment and Waiver, the Company and its Lenders negotiated and agreed to a temporary waiver for non-compliance with the financial covenants under the Credit Agreement as of September 30, 2018, and amendments to the financial covenants and to the remaining scheduled principal payments.

 

On May 15, 2019, the Company and its subsidiaries, as Borrowers, entered into a fifth amendment and waiver (the “Fifth Amendment”) to the Revolving Credit, Term Loan and Security Agreement, dated as of March 31, 2017 (the “Credit Agreement”). Under the Fifth Amendment, the Company and its Lenders have negotiated and agreed to a waiver for non-compliance with the financial covenants under the Credit Agreement as of March 31, 2019, and amendments to the financial covenants and to the remaining scheduled principal payments.

 

Subordinated Debt – Convertible and Non-Convertible

 

On October 2, 2015, the Company issued and sold a Subordinated Note in the aggregate principal amount of $4,185,000 to JAX Legacy – Investment 1, LLC (“JAX”) pursuant to a Subscription Agreement dated October 2, 2015 between the Company and Jax. On April 3, 2017, the Company and JAX amended and restated the Subordinated Note in its entirety in the form of the 10% Convertible Subordinated Note (the “10% Note”) in the aggregate principal amount of $4,185,000. The 10% Note matures on October 3, 2021. The 10% Note is convertible into shares of the Company’s Common Stock at a conversion price equal to $5.83 per share (subject to adjustment as provided in the 10% Note upon any stock dividend, stock combination or stock split or upon the consummation of certain fundamental transactions) (the “Conversion Price”). The 10% Note is subordinated in payment to the obligations of the Company to the lending parties to the Credit Agreement, pursuant to a Subordination and Inter-creditor Agreements, dated as of March 31, 2017 by and among the Company, the Borrowers, the Agent and JAX. The 10% Note issued to JAX is not registered under the Securities Act of 1933, as amended (the “Securities Act”). JAX is an accredited investor. The issuance of the 10% Note to JAX is exempt from the registration requirements of the Act in reliance on an exemption from registration provided by Section 4(2) of the Act.

 

On October 4, 2017, the Company executed an Amended and Restated Non-Negotiable Promissory Note in favor of William Daniel Dampier and Carol Lee Dampier in the amount of $1,202,405 (the “Note”). This Note amends and, as so amended, restates in its entirety and replaces that certain Subordinated Nonnegotiable Promissory Note dated October 4, 2015, issued by the Company to William Daniel Dampier and Carol Lee Dampier in the original principal amount of $3,000,000. The Company agreed to pay William Daniel Dampier and Carol Lee Dampier 12 equal installments of $107,675, commencing on November 4, 2017 and ending on October 4, 2018.

 

 On January 20, 2017, the Company entered into Addendum No. 1 (the “Addendum”) to the Paladin Agreement Pursuant to the terms of the Addendum, the Company and the Sellers agreed (a) that the conditions to the “Earnouts” (as defined in the Paladin Agreement) had been satisfied or waived and (b) that the amounts payable to the Sellers in connection with the Earnouts shall be amended and restructured as follows: (i) the Company shall pay $250,000 in cash to the Sellers on or prior to January 31, 2017 (the “Earnout Cash Payment”) and (ii) the Company shall issue to the Sellers a subordinated promissory note in the principal amount of $1,000,000 (the “Subordinated Note”), The Subordinated Note shall bear interest at the rate of 5.5% per annum. Interest on the Subordinated Note shall be payable monthly. The Subordinated Note shall have a term of three years and may be prepaid without penalty. The principal of and interest on the Subordinated Note may be paid, at the option of the Company, either in cash or in shares of common stock of the Company or in any combination of cash and common stock. The Sellers have agreed that all payments and obligations under the Subordinated Note shall be subordinate and junior in right of payment to any “Senior Indebtedness” (as defined in the Paladin Agreement) now or hereafter existing to “Senior Lenders” (current or future) (as defined in the Paladin Agreement). The Company has paid the $250,000 cash payment to the Sellers.

 

 
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On April 3, 2017, the Company issued and paid to certain SNIH Stockholders as part of the SNIH acquisition an aggregate of $12.5 million in aggregate principal amount of its 9.5% Notes. The 9.5% Notes mature on October 3, 2021 (the “Maturity Date”). The 9.5% Notes are convertible into shares of the Company’s Common Stock at a conversion price equal to $5.83 per share. Interest on the 9.5% Notes accrues at the rate of 9.5% per annum and shall be paid quarterly in arrears on June 30, September 30, December 31 and March 31, beginning on June 30, 2017, on each conversion date with respect to the 9.5% Notes (as to that principal amount then being converted), and on the Maturity Date (each such date, an “Interest Payment Date”). At the option of the Company, interest may be paid on an Interest Payment Date either in cash or in shares of Common Stock of the Company, which Common Stock shall be valued based on the terms of the agreement, subject to certain limitations defined in the loan agreement. Each of the 9.5% Notes is subordinated in payment to the obligations of the Company to the lending parties to the Credit Agreement, pursuant to those certain Subordination and Inter-creditor Agreements, each dated as of March 31, 2017 by and among the Company, the other borrowers under the Credit Agreement, the Agent under the Credit Agreement and each of the holders of the 9.5% Notes.

 

On May 15, 2019, the Company issued and sold to members of its executive management and Board of Directors (the “Investors”) $2.0 million in aggregate principal amount of its 8% Notes. The 8% Notes mature on October 3, 2021 (the “Maturity Date”). The 8% Notes are convertible into shares of the Company’s Series C 8% Cumulative Convertible Preferred Stock (“Series C Preferred Stock”) at a conversion price equal to $1.00 per share (subject to adjustment as provided in the 8% Notes upon any stock dividend, stock combination or stock split or upon the consummation of certain fundamental transactions) (the “Conversion Price”). Interest on the 8% Notes accrues at the rate of 8% per annum and shall be paid quarterly in non-cash payments-in-kind (“PIK”) in arrears on June 30, September 30, December 31 and March 31, beginning on June 30, 2019, on each conversion date with respect to the 8% Notes (as to that principal amount then being converted), and on the Maturity Date (each such date, an “Interest Payment Date”). Interest shall be paid on an Interest Payment Date in shares of Series C Preferred Stock of the Company, which Series C Preferred Stock shall be valued at its liquidation value. All or any portion of the 8% Notes may be redeemed by the Company for cash at any time. The redemption price shall be an amount equal to 100% of the then outstanding principal amount of the 8% Notes being redeemed, plus accrued and unpaid PIK interest thereon. The Company may, at its option, prepay any portion of the principal amount of the 8% Notes without the prior consent of the holders thereof; provided, however, that any prepayments of the 8% Notes shall be made on a pro rata basis to all holders of 8% Notes based on the aggregate principal amount of 8% Notes held by such holders. The Company shall be required to prepay the 8% Notes together with accrued and unpaid PIK interest thereon upon the consummation by the Company of any Change of Control. For purposes of the 8% Notes, a Change of Control of the Company shall mean any of the following: (A) the Company effects any sale of all or substantially all of its assets in one transaction or a series of related transactions or (B) the consummation of any transaction (including, without limitation, any merger or consolidation), the result of which is that any person or entity together with their affiliates, becomes the beneficial owner, directly or indirectly, of more than 50% of the Common Stock of the Company. Each of the 8% Notes is subordinated in payment to the obligations of the Company to the lenders parties to that certain Revolving Credit, Term Loan and Security Agreement, dated as of March 31, 2017, as amended, by and among the Company, the Company’s subsidiaries named as borrowers therein (collectively with the Company, the “Borrowers”), the senior lenders named therein and MGG Investment Group LP, as administrative agent and collateral agent (the “Agent”) for the senior lenders (the “Senior Credit Agreement”), pursuant to those certain Subordination and Intercreditor Agreements, each dated as of May 15, 2019 by and among the Company, the Borrowers, the Agent and each of the holders of the 8% Notes.

 

 
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Series B Convertible Preferred Stock

 

On April 3, 2017, the Company agreed to issue to certain SNIH Stockholders upon receipt of duly executed letters of transmittal as part of the SNIH acquisition, an aggregate of approximately 5,926,000 shares of its Series B Convertible Preferred Stock. The Series B Convertible Preferred Stock has a liquidation preference equal to $4.86 per share and ranks senior to all “Junior Securities” (including the Company’s Common Stock) with respect to any distribution of assets upon liquidation, dissolution or winding up of the Company, whether voluntary or involuntary. In the event that the Company declares or pays a dividend or distribution on its Common Stock, whether such dividend or distribution is payable in cash, securities or other property, including the purchase or redemption by the Company or any of its subsidiaries of shares of Common Stock for cash, securities or property, the Company is required to simultaneously declare and pay a dividend on the Series B Convertible Preferred Stock on a pro rata basis with the Common Stock determined on an as-converted basis assuming all Shares had been converted as of immediately prior to the record date of the applicable dividend or distribution. On April 3, 2017, the Company filed a Statement of Resolution Establishing its Series B Convertible Preferred Stock with the State of Illinois. (the “Resolution Establishing Series”). Except as set forth in the Resolution Establishing Series, the holders of the Series B Convertible Preferred Stock have no voting rights. Pursuant to the Resolution Establishing Series, without the prior written consent of holders of not less than a majority of the then total outstanding Shares of Series B Convertible Preferred Stock, voting separately as a single class, the Company shall not create, or authorize the creation of, any additional class or series of capital stock of the Company (or any security convertible into or exercisable for any class or series of capital stock of the Company) that ranks pari passu with or superior to the Series B Convertible Preferred Stock in relative rights, preferences or privileges (including with respect to dividends, liquidation or voting). Each share of Series B Convertible Preferred Stock is convertible at the option of the holder thereof into one share of Common Stock at an initial conversion price equal to $4.86 per share, each as subject to adjustment in the event of stock splits, stock combinations, capital reorganizations, reclassifications, consolidations, mergers or sales, as set forth in the Resolution Establishing Series.

  

None of the shares of Series B Preferred Stock issued to the SNIH Stockholders are registered under the Securities Act. Each of the SNIH Stockholders who received shares of Series B Preferred Stock is an accredited investor. The issuance of the shares of Series B Preferred Stock to such SNIH Stockholders is exempt from the registration requirements of the Act in reliance on an exemption from registration provided by Section 4(2) of the Act.

 

During the nine months ended June 30, 2019, the Company issued 250,000 shares of common stock for the conversion of approximately 250,000 shares of Series B Convertible Preferred Stock.

 

Series C Convertible Preferred Stock

 

On May 17, 2019, the Company filed a Statement of Resolution Establishing its Series C Preferred Stock with the State of Illinois. (the Resolution Establishing Series”). Pursuant to the Resolution Establishing Series, the Company designated 3,000,000 of its authorized preferred stock as “Series C 8% Cumulative Convertible Preferred Stock”, without par value. The Series C Preferred Stock has a Liquidation Value equal to $1.00 per share and ranks pari passu with the Company’s Series B Convertible Preferred Stock (“Series B Preferred Stock”) and senior to all “Junior Securities” (including the Company’s Common Stock) with respect to any distribution of assets upon liquidation, dissolution or winding up of the Company, whether voluntary or involuntary. Holders of shares of Series C Preferred Stock shall be entitled to receive an annual non-cash (“PIK”) dividend of 8% of the Liquidation Value per share. Such dividend shall be payable quarterly on June 30, September 30, December 31 and March 31 of each year commencing on June 30, 2019, in preference to any dividend paid on or declared and set aside for the Series B Preferred Stock or any Junior Securities and shall be paid-in-kind in additional shares of Series C Preferred Stock. Except as set forth in the Resolution Establishing Series or as may be required by Illinois law, the holders of the Series C Preferred Stock have no voting rights. Pursuant to the Resolution Establishing Series, without the prior written consent of holders of not less than a majority of the then total outstanding Shares of Series C Preferred Stock, voting separately as a single class, the Company shall not create, or authorize the creation of, any additional class or series of capital stock of the Company (or any security convertible into or exercisable for any class or series of capital stock of the Company) that ranks superior to the Series C Preferred Stock in relative rights, preferences or privileges (including with respect to dividends, liquidation or voting). Each share of Series C Preferred Stock shall be convertible at the option of the holder thereof into one share of Common Stock at an initial conversion price equal to $1.00 per share, each as subject to adjustment in the event of stock splits, stock combinations, capital reorganizations, reclassifications, consolidations, mergers or sales, as set forth in the Resolution Establishing Series.

 

On June 30, 2019 the Company issued approximately 20,000 shares of Series C Preferred Stock to Investors related to interest of $20,000 on the 8% Notes.

 

 
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Off-Balance Sheet Arrangements

 

As of June 30, 2019, there were no transactions, agreements or other contractual arrangements to which an unconsolidated entity was a party, under which the Company (a) had any direct or contingent obligation under a guarantee contract, derivative instrument or variable interest in the unconsolidated entity, or (b) had a retained or contingent interest in assets transferred to the unconsolidated entity.

 

Item 3. Quantitative and Qualitative Disclosures About Market Risk.

 

Not applicable.

 

Item 4. Controls and Procedures.

 

Disclosure Controls and Procedures

 

As of June 30, 2019, the Company's management evaluated, with the participation of its principal executive officer and its principal financial officer, the effectiveness of the Company's disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended (the Exchange Act"). Based on that evaluation, the Company's principal executive officer and its principal financial officer concluded that the Company's disclosure controls and procedures were effective as of June 30, 2019.

 

Changes in Internal Control over Financial Reporting

 

There were no changes in the Company's internal control over financial reporting or in any other factors that could significantly affect these controls, during the Company's three and nine months ended June 30, 2019, that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting.

 

 
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PART II – OTHER INFORMATION.

 

Item 1. Legal Proceedings.

 

None.

 

Item 1A. Risk Factors.

 

Not required.

 

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.

 

Not required.

 

Item 3.  Defaults Upon Senior Securities.

  

None.

 

Item 4.  Mine Safety Disclosures.

 

Not Applicable

 

Item 5.  Other Information.

 

None.

 

 
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Item 6. Exhibits

  

The following exhibits are filed as a part of Part I of this report:

 

No.

 

Description of Exhibit

 

31.01*

 

Certifications of the principal executive officer required by Rule 13a-14(a) or Rule 15d-14(a) of the Exchange Act.

 

31.02*

 

Certifications of the principal financial officer required by Rule 13a-14(a) or Rule 15d-14(a) of the Exchange Act.

 

32.01**

 

Certifications of the principal executive officer required by Rule 13a-14(a) or Rule 15d-14(a) of the Exchange Act and Section 1350 of Title 18 of the United States Code.

 

32.02**

 

Certifications of the principal financial officer required by Rule 13a-14(a) or Rule 15d-14(a) of the Exchange Act and Section 1350 of Title 18 of the United States Code.

 

101.INS

 

Instance Document

 

101.SCH

 

XBRL Taxonomy Extension Schema Document

 

101.CAL

 

XBRL Taxonomy Extension Calculation Linkbase Document

 

101.DEF

 

XBRL Taxonomy Extension Definition Linkbase Document

 

101.LAB

 

XBRL Taxonomy Extension Label Linkbase Document

 

101.PRE

 

XBRL Taxonomy Extension Presentation Linkbase Document

__________ 

*

Filed herewith.

 

**

Furnished herewith. This certification is being furnished solely to accompany this report pursuant to 18 U.S.C. Section 1350, and is not being filed for purposes of Section 18 of the Exchange Act of 1934, as amended, and is not to be incorporated by reference into any filings of the Company, whether made before or after the date hereof, regardless of any general incorporation language in such filing.

 

 
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SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

GEE GROUP INC.

 

(Registrant)

 

 

 

Date: August 14, 2019

By:

/s/ Derek Dewan

 

 

Derek Dewan

 

 

Chief Executive Officer

 

 

(Principal Executive Officer)

 

 

 

 

 

 By:

/s/ Kim Thorpe

 

 

Kim Thorpe

 

 

Chief Financial Officer

(Principal Financial and Accounting Officer)

 

 

 

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