KFRC

Business Context and Reporting Period

Kforce Inc. is a national provider of professional and technical specialty staffing services operating in 74 locations across 43 U.S. markets. The company serves clients through three primary segments: Technology (Tech), Finance and Accounting (FA), and Health and Life Sciences (HLS). Services are delivered via Flexible Staffing (Flex) and Search (permanent placement) models. This Form 10-Q covers the quarterly period ended September 30, 2006.

Key Financial Metrics

Note: Debt figures include $38.3 million in long-term credit facility debt and $3.6 million in other current debt. Cash equivalents dropped significantly from $37.1 million at year-end 2005 to $0.8 million at September 30, 2006.

Material Changes vs. Prior Period

• Revenue Growth: Net service revenues increased 15.2% year-over-year (YoY) for the quarter and 16.2% for the nine-month period. This growth was driven by a 29.7% increase in Tech Flex revenue and a 54.8% increase in Tech Search revenue.
• Profitability: Net income rose 31.7% YoY for the quarter. Gross profit margins improved to 35.8% from 33.0% in the prior year quarter, attributed to higher bill rates and improved "Flex Rate" (spread between bill and pay rates).
• Acquisition Impact: The January 2006 acquisition of PCCI Holdings, Inc. (approx. $60 million purchase price) contributed significantly to revenue growth and goodwill, which increased to $173.2 million from $125.0 million at year-end 2005.
• Expense Increases: Selling, General, and Administrative (SG&A) expenses increased to 28.0% of revenue (from 26.3% YoY) due to integration costs from the PCCI acquisition and investments in sales personnel and infrastructure.
• Liquidity Shift: Cash and cash equivalents decreased by $36.3 million during the nine-month period, primarily due to $64.6 million in cash used for the PCCI acquisition.

Outlook, Risks, and Subsequent Events

• Subsequent Acquisition: On October 1, 2006, Kforce acquired Bradson Corporation for $73 million. Bradson specializes in Finance and Accounting services for the Federal Government. This acquisition is not reflected in the September 30 financials.
• Credit Facility Amendment: On October 2, 2006, Kforce amended its credit facility, increasing maximum borrowings to $140 million (from $100 million) to support operations and acquisitions. The facility includes a $25 million additional revolving tranche that will be reduced monthly starting November 2006.
• Government Contracting Risk: With the acquisitions of PCCI and Bradson, Kforce has increased exposure to Federal Government contracting risks, including potential contract terminations, suspension of payments, or debarment.
• Stock Repurchases: The company repurchased approximately 190,000 shares for $2.9 million during the nine months ended September 30, 2006. Approximately $17.2 million remained available under the board authorization.
• Management Commentary: Management highlighted 15 consecutive quarters of profitability and believes the integration of acquisitions has positively impacted results. They anticipate continued growth in Tech, FA, and HLS segments.

Investor Verification Checklist

• Acquisition Integration: Verify the ongoing integration costs and revenue contribution of PCCI Holdings and the newly acquired Bradson Corporation.
• Liquidity Position: Monitor the low cash balance ($0.8 million) relative to the $38.3 million outstanding on the credit facility and the upcoming reduction of the additional availability tranche.
• Government Exposure: Assess the concentration of revenue from Federal Government contracts and the associated compliance and payment risks.
• Margin Sustainability: Confirm if the improved gross margins (35.8%) are sustainable given the competitive staffing market and potential wage inflation.
• Debt Covenants: Review the specific fixed charge coverage and minimum availability requirements under the amended $140 million credit facility.