GEE Group Inc. — Form 10-Q Summary
Reporting period: Fiscal first quarter ended December 31, 2018; financial statements are unaudited. Amounts below are in U.S. dollars. Comparisons are with the three months ended December 31, 2017 unless otherwise stated.
Business context and financial performance
GEE Group provides temporary and permanent staffing and placement services, including professional staffing in IT, engineering, medical, and accounting, and light industrial staffing. It reported two segments: Professional Staffing Services and Industrial Staffing Services.
| Metric | Q1 FY2019 | Prior-year quarter |
|---|---|---|
| Revenue | $38.5 million | $45.2 million |
| Gross profit | $12.7 million | $15.8 million |
| Combined gross margin | 33.0% | 34.9% |
| Operating income | $19,000 | $1.5 million |
| Interest expense | $2.9 million | $3.3 million |
| Net loss | $3.5 million | $1.8 million |
| Basic and diluted loss per share | $0.32 | $0.18 |
| Operating cash flow | $779,000 provided | $249,000 used |
Contract staffing generated $34.0 million, or about 88% of revenue; direct-hire placement generated $4.5 million. Professional contract revenue was $28.4 million, industrial contract revenue $5.6 million, and placement revenue $4.5 million. Reported professional contract gross margin was 26.1% versus 27.0%; industrial gross margin was 13.9% versus 15.6%. The filing does not provide a consolidated operating margin percentage.
Liquidity, debt, and balance sheet
- At December 31, 2018, cash was $3.5 million and working capital was $11.5 million, down from $13.1 million at September 30, 2018. Total current assets were $25.0 million and current liabilities $13.5 million.
- Cash increased $287,000 during the quarter. Investing activities used $36,000, while financing activities used $456,000, mainly for term-loan and subordinated-debt repayments, partly offset by revolving-credit borrowings.
- Outstanding borrowings included $12.7 million under the revolver, $43.5 million of term-loan principal, and $17.7 million of subordinated debt. The term loan’s carrying amount, net of discount, was $41.7 million. Revolver availability was approximately $600,000.
- Borrowing rates reported at quarter-end were approximately 17.3%–19.5% on revolver borrowings and 17.45%–17.53% on term-loan borrowings. The company paid $2.6 million of interest in the quarter.
- Term-loan maturity is March 31, 2021. Scheduled term-loan principal payments were $2.1 million for the remainder of fiscal 2019, $8.3 million in fiscal 2020, and $33.1 million in fiscal 2021. Management estimated approximately $4 million of minimum debt-service principal payments and $1.9 million of lease payments over the 12 months after December 31, 2018.
- Total assets were $130.9 million, including $76.6 million of goodwill and $28.1 million of net intangible assets. Shareholders’ equity was $19.9 million; Series B preferred stock was classified as mezzanine equity at $27.6 million.
Material changes and management commentary
- Revenue declined 15% year over year. Contract staffing revenue fell 14%, primarily due to workforce reductions among recruiters, sales staff, and support personnel; customer staffing reductions; office consolidations and closures; additional weekday holidays; and management-cited economic uncertainty. Direct-hire revenue fell 22%, which management attributed to softer hiring and higher candidate falloffs.
- Gross margin decreased 1.9 percentage points. Management cited a larger proportional decline in higher-margin direct-hire revenue, a greater mix of lower-margin professional volume accounts, and lower-margin industrial accounts.
- SG&A, excluding depreciation, amortization, and acquisition/integration/restructuring expenses, declined approximately $2.7 million; as a share of revenue it fell to 26.1% from 28.2%. Acquisition, integration, and restructuring expenses rose to $1.2 million from $40,000. Stock-based compensation was $581,000 versus $293,000.
- Management said cost reductions, operating consolidation, and selective growth in higher-margin professional staffing are part of its strategy. It is also seeking replacement financing to reduce borrowing costs. The company does not provide forecasts of future financial performance.
- Management expected operating cash flow together with revolver availability to provide sufficient liquidity for the next 12 months, and expected compliance with amended debt covenants. It cautioned that projections depend on assumptions and that future covenant compliance or lender waivers cannot be assured.
Guidance, contingencies, and unusual items
- The company had previously failed to meet financial covenants for the quarters ended March 31, June 30, and September 30, 2018. A December 27, 2018 amendment waived September 2018 covenant non-compliance and changed covenants and scheduled principal payments. The company reported meeting its covenants for the December 2018 quarter.
- Debt covenants, high borrowing costs, limited revolver availability, and the possibility of future covenant breaches are key financing risks. The credit agreement is secured by substantially all company assets and restricts certain acquisitions, additional debt, and dividends.
- The quarter’s $523,000 income-tax provision reflected, among other items, an increase in deferred tax liability related to indefinite-lived assets; the company maintained a full valuation allowance on its remaining net deferred tax asset position.
- During the quarter, 250,000 Series B preferred shares converted into common shares. The company also issued common shares for interest on convertible subordinated notes. In January 2019, additional shares were issued for note interest. These payments in shares and outstanding convertible securities may dilute common shareholders.
- Subsequent to quarter-end, Kim Thorpe entered a four-year employment agreement and was appointed CFO; the agreement provides for a $200,000 annual base salary and up to 150,000 options subject to performance and other criteria. The first 50,000-option grant was issued at $2.21 per share and vests over five years.
- Management reported no legal proceedings and no material changes to internal control over financial reporting; disclosure controls were judged effective as of December 31, 2018.
Important facts for investors to verify
- Whether revenue and margins stabilize after staff reductions, customer demand changes, and office consolidations.
- Future covenant compliance, remaining term-loan payment obligations, revolver availability, and progress on replacement financing.
- Whether operating cash flow can support debt service and lease commitments given the quarter’s net loss and limited revolver capacity.
- The effect of continued stock-based compensation, preferred conversions, stock-paid interest, and convertible debt on common-share dilution.
- Whether goodwill and intangible-asset carrying values remain supportable amid declining revenue and profitability.