UNITED STATES


SECURITIES AND EXCHANGE COMMISSION


WASHINGTON, D.C. 20549




FORM 10-Q







ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THESECURITIES EXCHANGE ACT OF 1934For the quarterly period ended September 26, 2010ORo
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THESECURITIES EXCHANGE ACT OF 1934for the transition period from ________________ to ________________





Commission file number:  1-6081





COMFORCE Corporation


(Exact name of registrant as specified in its charter)





Delaware
36-2262248(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification No.)999 Stewart Avenue, Bethpage, NY
11714(Address of principal executive offices)
(Zip Code)





516.437.3300


(Registrant’s telephone number, including area code)







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




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


Yes ý     No o




Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).


Yes ý     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 o
Accelerated filer oNon-accelerated filer  o  (Do not check if a smaller reporting company)
Smaller reporting company  ý





Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).


Yes o     No ý




Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date.




Class

Outstanding at November 1, 2010Common Stock, $0.01 par value per share

17,387,702 shares





COMFORCE Corporation





INDEX











PageNumberPART I
FINANCIAL INFORMATION
3Item 1.
Financial Statements (unaudited)
3Condensed Consolidated Balance Sheets at September 26, 2010 and December 27, 2009
3Condensed Consolidated Statements of Income for the three and nine months ended September 26, 2010 and September 27, 2009
4Condensed Consolidated Statements of Cash Flows for the nine months ended September 26, 2010 and September 27, 2009
5Notes to Unaudited Condensed Consolidated Financial Statements
6Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
14Item 3.
Quantitative and Qualitative Disclosures about Market Risk
22Item 4T.
Controls and Procedures
22PART II
OTHER INFORMATION
22Item 1.
Legal Proceedings
22Item 1A.
Risk Factors
22Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds
22Item 3.
Defaults Upon Senior Securities
23Item 4.
[Reserved]
23Item 5.
Other Information
23Item 6.
Exhibits
23SIGNATURES
24





2


PART I - FINANCIAL INFORMATION




ITEM 1.FINANCIAL STATEMENTS




COMFORCE CORPORATION AND SUBSIDIARIES


CONDENSED CONSOLIDATED BALANCE SHEETS


(in thousands, except share and per share amounts)


(unaudited)




Assets

September 26, 2010


December 27, 2009Current assets:Cash and cash equivalents

$
4,089


$
2,986Accounts receivable, less allowance of $98 in 2010 and $94 in 2009


144,813



125,138Funding and service fees receivable, less allowance of $8 in 2010 and 2009


4,732



8,107Prepaid expenses and other current assets


2,970



3,003Deferred income taxes, net


707



707Total current assets


157,311



139,941Property and equipment, net


6,984



8,624Deferred financing costs, net


491



634Goodwill


15,973



15,973Other assets, net


256



113Total assets

$
181,015


$
165,285Liabilities and Stockholders’ DeficitCurrent liabilities:Accounts payable

$
3,033


$
2,491Accrued expenses


118,543



120,841Total current liabilities


121,576



123,332Long-term debt


69,000



56,600Deferred taxes, net


776



636Other liabilities


191



176Total liabilities


191,543



180,744Commitments and contingencies (see note 10)Stockholders’ deficit:Common stock, $.01 par value; 100,000,000 shares authorized; 17,387,665 and 17,387,663 shares issued and outstanding in 2010 and 2009, respectively


174



174Convertible preferred stock, $.01 par value:Series 2003A, 6,500 shares authorized; 6,148 shares issued and outstanding at September 26, 2010 and December 27, 2009, with an aggregate liquidation preference of $9,656 at September 26, 2010 and $9,311 at December 27, 2009


4,304



4,304Series 2003B, 3,500 shares authorized; 513 shares issued and outstanding at September 26, 2010 and December 27, 2009, with an aggregate liquidation preference of $781 at September 26, 2010 and $752 at December 27, 2009


513



513Series 2004A, 15,000 shares authorized; 6,737 shares issued and outstanding at September 26, 2010 and December 27, 2009, with an aggregate liquidation preference of $9,676 at September 26, 2010 and $9,296 at December 27, 2009


10,264



10,264Additional paid-in capital


48,776



48,700Accumulated other comprehensive loss


(167
)


(291
)Accumulated deficit


(74,392
)


(79,123
)Total stockholders’ deficit


(10,528
)


(15,459
)Total liabilities and stockholders’ deficit

$
181,015


$
165,285
 
 
 The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
  3





COMFORCE CORPORATION AND SUBSIDIARIES


CONDENSED CONSOLIDATED STATEMENTS OF INCOME


(in thousands except per share amounts)


(unaudited)





Three Months Ended


Nine Months EndedSeptember 26, 2010


September 27, 2009


September 26, 2010


September 27, 2009Net sales of services

$
171,598


$
139,710


$
478,977


$
419,428Costs and expenses:Cost of services


147,281



119,762



411,503



358,651Selling, general and administrative expenses


18,612



16,405



53,938



53,425Depreciation and amortization


792



920



2,506



2,633Total costs and expenses


166,685



137,087



467,947



414,709Operating income


4,913



2,623



11,030



4,719Other (expense) income:Interest expense


(835
)


(398
)


(2,410
)


(1,483
)Other (expense) income, net


(88
)


(286
)


(340
)


106(923
)


(684
)


(2,750
)


(1,377
)Income before income taxes


3,990



1,939



8,280



3,342Provision for income taxes


1,685



883



3,549



1,532Net income

$
2,305


$
1,056


$
4,731


$
1,810Dividends on preferred stock


252



252



754



754Net income available to common stockholders

$
2,053


$
804


$
3,977


$
1,056Basic income per common share

$
0.12


$
0.05


$
0.23


$
0.06Diluted income per common share

$
0.07


$
0.03


$
0.14


$
0.05Weighted average common shares outstanding, basic


17,388



17,388



17,388



17,388Weighted average common shares outstanding, diluted


33,533



33,834



33,129



28,209





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


4


COMFORCE CORPORATION AND SUBSIDIARIES


CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS


(in thousands)


(unaudited)




Nine Months EndedSeptember 26, 2010


September 27, 2009Cash flows from operating activities:Net income

$
4,731


$
1,810Adjustments to reconcile net income to net cash (used in) provided by operating activities:Depreciation and amortization of property and equipment


2,506



2,633Amortization of deferred financing fees


173



118Net  provision for bad debts


5



24Deferred income taxes


59



-Interest expense paid by the issuance of convertible notes


-



71Share-based payment compensation expense


76



46Changes in assets and liabilities:Accounts, funding and service fees receivable


(16,385
)


20,527Prepaid expenses and other current assets


(116
)


(161
)Accounts payable and accrued expenses


(1,391
)


(22,555
)Income tax receivable


6



23Net cash (used in) provided by operating activities


(10,336
)


2,536Cash flows from investing activities:Purchases of property and equipment


(866
)


(1,759
)Net cash used in investing activities


(866
)


(1,759
)Cash flows from financing activities:Net repayments under capital lease obligations


(82
)


(189
)Net borrowings (repayments) under line of credit agreements


12,400



(3,002
)Debt financing costs


(30
)


(1
)Net cash provided by (used in) financing activities


12,288



(3,192
)Net increase (decrease) in cash and cash equivalents


1,086



(2,415
)Effect of exchange rates on cash


17



97Cash and cash equivalents at beginning of period


2,986



6,137Cash and cash equivalents at end of period

$
4,089


$
3,819Supplemental disclosures:Cash paid for:Interest

$
2,099


$
1,314Income taxes


2,934



1,875




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




5


COMFORCE CORPORATION AND SUBSIDIARIES


NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS




1.   GENERAL




COMFORCE Corporation (“COMFORCE”) is a provider of outsourced staffing management services that enable Fortune 1000 companies and other large employers to consolidate, automate and manage staffing, compliance and oversight processes for their contingent workforces.  The Company also provides specialty staffing, consulting and other outsourcing services to Fortune 1000 companies and other large employers for their healthcare support services, technical and engineering, information technology, telecommunications and other staffing needs.  In addition, the Company provides funding and back office support services to independent consulting and staffing companies.




COMFORCE Operating, Inc. (“COI”), a wholly-owned subsidiary of COMFORCE, was formed for the purpose of facilitating certain of the Company’s financing transactions in November 1997.  Unless the context otherwise requires, the term the “Company” refers to COMFORCE, COI and all of their direct and indirect subsidiaries, all of which are wholly-owned.




The accompanying unaudited interim condensed consolidated financial statements of the Company have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”).  Certain information and footnote disclosures normally included in annual financial statements have been condensed or omitted pursuant to those rules and regulations.  In the opinion of management, all adjustments, consisting of normal recurring adjustments considered necessary for a fair presentation, have been included.  Management believes that the disclosures made are adequate to ensure that the information presented is not misleading; however, these 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 fiscal year ended December 27, 2009.  The results for the three and nine month periods ended September 26, 2010 are not necessarily indicative of the results of operations that might be expected for the entire year.







2.   ESTIMATES




The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.  Some of the significant estimates involved are the collectibility of receivables, the fair value of goodwill and share-based compensation expense, the recoverability of long-lived assets, deferred tax assets and tax uncertainties, accrued workers compensation liabilities and the assessment of litigation and contingencies.  Actual results could differ from those estimates.







3.   DEBT




Long-term debt at September 26, 2010 and December 27, 2009, consisted of (in thousands):




September 26, 2010


December 27, 2009Revolving line of credit, due November 2, 2012, with interest payable at a weighted average rate of 4.25% at September 26, 2010 and 4.3% at December 27, 2009*

$
69,000


$
56,600Total long-term debt

$
69,000


$
56,600




*    See “--Revolving Line of Credit,” below in this note 3 for a discussion of the method of calculating interest under the PNC Credit Facility.




6


Contractual maturities of long-term debt are as follows (in thousands):




2012

$
69,000Total

$
69,000





Revolving Line of Credit:  At September 26, 2010, COMFORCE, COI and various of their operating subsidiaries, as co-borrowers and guarantors, were parties to a Revolving Credit and Security Agreement (the “PNC Credit Facility”) with PNC Bank, National Association, as a lender and administrative agent (“PNC”), and other financial institutions participating as lenders to provide for a revolving line of credit with available borrowings based, generally, on 87.0% of the Company’s accounts receivable aged 90 days or less, subject to specified limitations and exceptions.  On November 2, 2009, the PNC Credit Facility was amended and restated, and various terms were modified.  The term was extended from July 24, 2010 to November 2, 2012, and, at the Company’s request, the maximum availability under the facility was reduced from $110.0 million to $95.0 million.




In addition, the interest rate was increased.  Prior to the effective date of the amendment, borrowings bore interest, at the Company’s option, at a per annum rate equal to (1) the higher of the federal funds rate plus 0.5% or the base commercial lending rate of PNC as announced from time to time, or (2) LIBOR plus a specified margin, ranging from 1.5% to 2.5% based upon the Company’s fixed charged ratio.  Beginning on the effective date of the amendment, the existing as well as new borrowings under the PNC Credit Facility bear interest, at the Company’s option:




·
for loans denominated as domestic rate loans, at a per annum rate equal to 1.75% plus the highest of




(1)
the federal funds open rate plus 0.5%,




(2)
the base commercial lending rate of PNC as announced from time to time, or




(3)
one-month LIBOR, as published each business day in The Wall Street Journal, adjusted to take into account any changes in the Federal Reserve requirements for bank eurocurrency fundings, plus 1.0%; or




·
for loans denominated aseurodollar rate loans, at a per annum rate equal to 2.75% plus the higher of




(1)
LIBOR, as it appears at a specified time each business day on Bloomberg Page BBAM1, adjusted to take into account any changes in the Federal Reserve requirements for bank eurocurrency fundings, or




(2)
1.50%.




The Company generally borrows at LIBOR with a minimum floor (1.50%) plus 2.75%.




The PNC Credit Facility also provides for a commitment fee of 0.375% (0.25% prior to the effective date of the amendment) of the unused portion of the facility. The obligations under the PNC Credit Facility are collateralized by a pledge of the capital stock of certain operating subsidiaries of the Company and by security interests in substantially all of the assets of the Company.  The PNC Credit Facility contains various financial and other covenants and conditions, including, but not limited to, a prohibition on paying cash dividends and limitations on engaging in affiliate transactions, making acquisitions and incurring additional indebtedness.  The PNC Credit Facility also limits capital expenditures to $6.0 million annually.




Under the PNC Credit Facility, the Company had outstanding $3.2 million of standby letters of credit, principally as security for the Company’s obligations under its workers compensation insurance policies and had remaining availability of $19.6 million as of September 26, 2010 based upon the borrowing base as defined in the loan agreement.  The Company was in compliance with all financial covenants under the PNC Credit Facility at September 26, 2010.




7


4.SHARE-BASED PAYMENTS




During the nine months ended September 26, 2010, the Company recorded $75,600 of compensation expense relating to the granting of stock options, which options immediately vested.  The compensation expense has been recorded within selling, general and administrative expenses.  In addition, the Company recorded an income tax benefit of approximately $30,000 in the accompanying statements of income related to these grants.  For the nine months ended September 27, 2009, $46,200 of compensation expense has been recorded within selling, general and administrative expense and the Company has recorded an income tax benefit of approximately $21,000 in the accompanying statements of income for options granted during the second quarter of 2009, which options immediately vested.




The Company estimates the fair value of share-based payments using the Black-Scholes option pricing model.  Estimates of fair value are not intended to predict actual future events or the value ultimately realized by the employees who receive equity awards.




The per share weighted average grant date fair value of stock options was $0.84 during the nine months ended September 26, 2010 and $0.66 during the nine months ended September 27, 2009.  In addition to the exercise and grant date prices of the awards, certain weighted average assumptions that were used to estimate the fair value of stock option grants in the nine month periods are listed in the table below:




Nine Months EndedSeptember 26, 2010

September 27, 2009Expected dividend yield


0.0%


0.0%Expected volatility


60.0%


55.7%Risk-free interest rate


2.68%


2.93%Expected term (years)


7


5




The Company estimates expected volatility based primarily on historical monthly price changes of the Company’s stock and other known or expected trends.  The risk-free interest rate is based on the United States (“U.S.”) treasury yield curve in effect at the time of grant.  The expected term of these awards was determined in 2009 using the “simplified method” prescribed in SEC Staff Accounting Bulletin (“SAB”) No. 107.  The Company used the historical option exercise to determine the expected term for the awards granted in 2010.







5.   FAIR VALUEMEASUREMENTS




The carrying amounts of cash equivalents, accounts receivable, funding and service fees receivable, accounts payable and accrued expenses are believed to approximate fair value due to the short-term maturity of these financial instruments.  The carrying amounts of the Company’s revolving line of credit obligations is believed to approximate its fair value since the interest rate fluctuates with market changes in interest rates.







6.   INCOME PER SHARE




Basic income per common share is computed by dividing net income available to common stockholders by the weighted average number of shares of common stock outstanding during each period.  Diluted income per share is computed assuming the exercise of stock options with exercise prices less than the average market value of the common stock during the period and the conversion of convertible debt and preferred stock into common stock to the extent such conversion assumption is dilutive.  The following represents a reconciliation of the numerators and denominators for the basic and diluted income per share computations (in thousands, except per share amounts):




8




Three Months Ended


Nine Months EndedSeptember 26, 2010


September 27, 2009


September 26, 2010


September 27, 2009Basic income per common share:Net income

$
2,305


$
1,056


$
4,731


$
1,810Dividends on preferred stock:Series 2003A


115



115



345



345Series 2003B


10



10



29



29Series 2004A


127



127



380



380252



252



754



754Income available to common stockholders

$
2,053


$
804


$
3,977


$
1,056Weighted average common shares outstanding


17,388



17,388



17,388



17,388Basic income per common share

$
0.12


$
0.05


$
0.23


$
0.06Diluted income per common share:Income available to common stockholders

$
2,053


$
804


$
3,977


$
1,056Dividends on preferred stock:Series 2003A


115



115



345



345Series 2003B


10



10



29



29Series 2004A


127



127



380



-252



252



754



374After tax equivalent of interest expense on 8% Subordinated Convertible Note


-



20



-



59Income for purposes of computing diluted income per common share

$
2,305


$
1,076


$
4,731


$
1,489Weighted average common shares outstanding


17,388



17,388



17,388



17,388Dilutive stock options


12



24



11



16Assumed Conversion of 8% Subordinated Convertible Note


-



1,095



-



1,053Assumed conversion of Preferred Stock:Series 2003A


9,087



8,648



8,868



8,428Series 2003B


1,430



1,360



1,395



1,324Series 2004A


5,616



5,319



5,467



-Weighted average common shares outstanding for purposes of computing diluted income per share


33,533



33,834



33,129



28,209Diluted income per common share

$
0.07


$
0.03


$
0.14


$
0.05




9


In addition, options and warrants to purchase 2.2 million and 1.7 million shares of common stock were outstanding as of the end of the third quarter of 2010 and 2009, respectively, but were not included in the computation of diluted income per share because their effect would be anti-dilutive.







7.   INDUSTRY SEGMENT INFORMATION




The Company’s reportable segments are distinguished principally by the types of services offered to the Company’s clients.  The Company manages its operations and reports its results through three operating segments -- Human Capital Management Services, Staff Augmentation and Financial Outsourcing Services.  The Human Capital Management Services segment primarily provides contingent workforce management services.  The Staff Augmentation segment provides healthcare support, technical and engineering, information technology (IT), telecommunications and other staffing services. The Financial Outsourcing Services segment provides funding and back office support services to independent consulting and staffing companies.




COMFORCE evaluates the performance of its segments and allocates resources to them based on operating contribution, which represents segment revenues less direct costs of operations, excluding the allocation of corporate general and administrative expenses.  Assets of the operating segments reflect primarily accounts receivable and goodwill associated with segment activities; all other assets are included as corporate assets.  The Company does not evaluate or account for expenditures for long-lived assets on a segment basis.




The table below presents information on revenues and operating contribution for each segment for the three and nine months ended September 26, 2010 and September 27, 2009, and items which reconcile segment operating contribution to COMFORCE’s reported income before income taxes (in thousands):




Three Months Ended


Nine Months EndedSeptember 26, 2010


September 27, 2009


September 26, 2010


September 27, 2009Net sales of services:Human Capital Management Services

$
129,534


$
99,877


$
360,975


$
287,986Staff Augmentation


41,659



39,301



116,589



129,931Financial Outsourcing Services


405



532



1,413



1,511$
171,598


$
139,710


$
478,977


$
419,428Operating contribution:Human Capital Management Services

$
7,264


$
5,113


$
18,389


$
12,228Staff Augmentation


3,856



2,448



9,468



7,759Financial Outsourcing Services


386



507



1,356



1,42611,506



8,068



29,213



21,413Consolidated expenses:Corporate general and administrative expenses


5,801



4,525



15,677



14,061Depreciation and amortization


792



920



2,506



2,633Interest expense


835



398



2,410



1,483Other expense (income), net


88



286



340



(106
)7,516



6,129



20,933



18,071Income before income taxes

$
3,990


$
1,939


$
8,280


$
3,342





10





At September 26, 2010


At December 27, 2009Total assets:Human Capital Management Services

$
123,245


$
106,123Staff Augmentation


37,541



34,988Financial Outsourcing Services


4,732



8,107Corporate


15,497



16,067$
181,015


$
165,285







8.   COMPREHENSIVE INCOME




The components of comprehensive income are as follows (in thousands):




Three Months Ended


Nine Months EndedSeptember 26, 2010


September 27, 2009


September 26, 2010


September 27, 2009Net income

$
2,305


$
1,056


$
4,731


$
1,810Foreign currency translation adjustment, net of tax


32



146



124



195Total comprehensive income

$
2,337


$
1,202


$
4,855


$
2,005







9.   ACCRUED EXPENSES




Accrued expenses as of September 26, 2010 and December 27, 2009 consisted of (in thousands):




September 26, 2010


December 27, 2009Payroll, payroll taxes and sub-vendor payments

$
103,366


$
97,979Book overdrafts


3,037



12,916Other


12,140



9,946$
118,543


$
120,841







10.   LITIGATION AND OTHER CONTINGENCIES




Lake Calumet Matter:  In November 2003, the Company received a general notice letter from the United States Environmental Protection Agency (the “U.S. EPA”) that it is a potentially responsible party at Chicago’s Lake Calumet Cluster Site, which for decades beginning in the late 19th/early 20th centuries had served as a waste disposal site. In December 2004, the U.S. EPA sent the Company and numerous other companies special notice letters requiring the recipients to make an offer by a date certain to perform a remedial investigation and feasibility study (RI/FS) to select a remedy to clean up the site.  The Company’s predecessor, Apeco Corporation (“Apeco”), a manufacturer of photocopiers, allegedly sent waste material to this site.  The State of Illinois and the U.S. EPA have proposed that the site be designated as a Superfund site.  The Company is one of over 500 potentially responsible parties most of which may no longer be in operation or viable to which notices were sent, and the Company has joined a working group of more than 175 members representing potentially responsible parties (the “PRP working group”) for the purpose of responding to the U.S. EPA and the Illinois Environmental Protection Agency (the “Illinois EPA”).




11


The U.S. EPA and Illinois EPA currently allege that combined past costs for work at the site are close to $20.0 million and estimates to finish the cover remedy at the landfill portion of the site range between $10.0 million and $16.0 million.  Although the total volume of waste at the site has not been finalized, a draft interim allocation lists the Company’s total contribution of waste at the site at 13,904 gallons representing slightly less than 0.5% of current total volume estimates.  The Company recorded accruals representing the probable losses in connection with this matter of $150,000 in the fourth quarter of 2009.




Presently, the Illinois EPA has taken the lead in negotiating with the PRP working group at the site.  The Illinois EPA has also begun but not completed remedial activities directed toward placing an engineered cover to cap the site.  Recent discussions between the PRP working group and the Illinois EPA indicate that the agency is seeking a settlement for past costs and either funds to complete the cover remedy at the landfill portion of the site or an agreement by the PRP working group that it will complete the remedy.  The U.S. EPA has recently expressed an interest in joining the Illinois EPA in the negotiations with the PRP working group, which has been welcomed by the working group to provide an avenue for a global settlement, which cannot be reached without U.S. EPA participation.




The Company has made inquiries of the insurance carriers for Apeco to determine if it has coverage under old insurance policies.  No assurance can be given that the costs to the Company to resolve this claim will be within management’s estimates, but the Company does not believe these costs will be material to the financial statements.




Contract Contingency:In 2006, COMFORCE Technical Services, Inc. (“CTS”) entered into a contract with a United States government agency (the “Agency”) to provide technical, operational and professional services in foreign countries throughout the world for humanitarian purposes.  Persons employed by CTS or its subsidiaries in the host countries include U.S. nationals, nationals of the host countries (local nationals) and nationals of other countries (third country nationals). The contract provides, generally, that the U.S. government will reimburse the Company for all direct labor properly chargeable to the contract plus fringe benefits, in some cases at specified rates and profit.




The contract did not directly address taxes payable to foreign jurisdictions, but the contracting officer advised CTS by letter that it should not make tax payments or withholdings in the host countries because the Agency had negotiated or would negotiate with the host countries and expected these discussions to lead to bilateral agreements exempting contractors and contractor personnel from all tax liability.  The contract provides that CTS will be reimbursed for “all fines, penalties, and reasonable litigation expenses incurred as a result of compliance with specific contract terms and conditions or written instructions from the Contracting Officer.”




The contracting officer subsequently advised CTS that the U.S. government has concluded its efforts to obtain bilateral agreements, and directed CTS to itself undertake mitigation efforts.  CTS engaged an independent accounting firm to assist it with these efforts, which have been substantially completed except in one country experiencing social unrest and government instability.  As a result of its analysis of host country tax laws and negotiations with host country governments, in most cases, CTS has either determined that no liability exists for wage tax liabilities or it has instituted procedures to withhold or pay applicable wage taxes for its employees.  As for any remaining host countries, management has concluded that it is not probable that wage tax assessments will be made against CTS.




State Tax Audit:  In January 2010, the Company settled, for $2.8 million, a long-running state tax examination of certain non-income related business taxes covering the period from January 2002 through December 2009.  In this examination, the Company vigorously defended its filed tax return positions, which it continues to believe were proper and supportable.  However, the Company incurred significant professional costs in the examination process over a period of approximately five years and, in the face of incurring significant additional professional costs and satisfying state bonding requirements, we decided to end the examination by accepting settlement terms.  The Company previously recorded accruals in cost of services in connection with this matter, including $2.7 million in 2009 and $100,000 in prior years.




Other Matters:The Company is also a party to contract and employment-related litigation matters, and audits of state and local tax returns arising in the ordinary course of its business.  In the opinion of Management, the aggregate liability, if any, with respect to such matters will not materially adversely affect our financial position,




12


results of operations, or cash flows.  The Company expenses legal costs associated with contingencies when incurred.  The Company maintains general liability insurance, property insurance, automobile insurance, fidelity insurance, professional liability insurance (errors and omissions), fiduciary insurance, and directors’ and officers’ liability insurance for domestic and foreign operations as management deems appropriate and prudent. The Company is generally self-insured with respect to workers compensation, but maintains excess workers compensation coverage to limit its maximum exposure to such claims.







11.   SUBSEQUENT EVENTS




On October 11, 2010, John C. Fanning’s employment with the Company as its Chief Executive Officer was terminated due to his health condition, which the Board determined to be a “disability” under his employment agreement with the Company.  On that date, the Board appointed Harry V. Maccarrone to serve as the Chief Executive Officer of the Company, and appointed Robert F. Ende to serve as the Company’s Chief Financial Officer, a position formerly held by Mr. Maccarrone.  Mr. Fanning concurred with these actions.




On November 1, 2010, COMFORCE entered into an Agreement and Plan of Merger (the “Merger Agreement”) with CFS Parent Corp., a Delaware corporation (“Parent”), and CFS Merger Sub Corp., a Delaware corporation and a wholly-owned subsidiary of Parent (“Merger Sub”), providing for the merger of Merger Sub with and into COMFORCE (the “Merger”), with COMFORCE surviving the Merger as a wholly-owned subsidiary of Parent. Parent and Merger Sub are affiliates of ABRY Partners, LLC (“ABRY”). The Merger Agreement was approved by COMFORCE’s Board of Directors.




At the effective time of the Merger, each share of COMFORCE common stock issued and outstanding immediately prior to the effective time (other than shares owned by (i) Parent, Merger Sub, COMFORCE or any of their subsidiaries, or (ii) stockholders who have properly exercised and not withdrawn appraisal rights under Delaware law) will be automatically cancelled and converted into the right to receive $2.50 in cash, without interest, less any applicable withholding taxes (collectively, the “Common Stock Consideration”).




At the effective time of the Merger, each issued and outstanding share of COMFORCE’s Series 2003A Convertible Preferred Shares, Series 2003B Convertible Preferred Shares and Series 2004A Convertible Preferred Shares will be converted into the right to receive the amount per share of Series 2003A Convertible Preferred Share, Series 2003B Convertible Preferred Share and Series 2004A Convertible Preferred Share, respectively, that represents in each such case $2.50 in cash, without interest, less any applicable withholding taxes, per share of common stock on an as-converted basis, assuming conversion of all of such preferred stock to common stock as of the closing date (and in each case other than shares owned by (i) Parent, Merger Sub, COMFORCE or any of their subsidiaries, or (ii) stockholders who have properly exercised appraisal rights under Delaware law) (collectively, the “Preferred Stock Consideration,” and together with the Common Stock Consideration, the “Merger Consideration”). As of the date of the merger agreement, the Series 2003A Convertible Preferred Shares outstanding, the Series 2003B Convertible Preferred Shares outstanding and the Series 2004A Convertible Preferred Shares outstanding, would be convertible in the aggregate into 9,236,655 shares of common stock, 1,456,168 shares of common stock, and 5,720,892 shares of common stock, respectively.




The consummation of the Merger is subject to customary conditions, including without limitation, (i) the approval by the holders of at least a majority of the outstanding shares of COMFORCE’s common stock entitled to vote on the Merger, (ii) the expiration or early termination of the waiting period to the extent applicable to the consummation of the Merger under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended, and (iii) the absence of any law, order or injunction prohibiting the Merger.




Parent has obtained from ABRY an equity financing commitment for the proposed transaction contemplated by the Merger Agreement, the proceeds of which will provide the necessary funds to pay the Merger Consideration. ABRY also has provided an equity financing commitment to fund the payment of certain monetary obligations that may be owed by Parent pursuant to the Merger Agreement in connection with the termination of the Merger Agreement by COMFORCE due to certain breaches by Parent or Merger Sub.




COMFORCE has agreed to operate its business in the ordinary course until the effective time of the Merger. COMFORCE has also agreed to refrain from engaging in certain activities. In addition, pursuant to the




13


Merger Agreement, COMFORCE is subject to certain customary “no-shop” restrictions on its ability to solicit alternative acquisition proposals from third parties and to provide information to and engage in discussions with third parties regarding alternative acquisition proposals. However, prior to the adoption of the Merger Agreement by COMFORCE’s stockholders, the no-shop provision is subject to a customary “fiduciary-out” provision which allows COMFORCE under certain circumstances to provide information to and participate in discussions with third parties with respect to unsolicited alternative acquisition proposals that the Board of Directors has determined are or are reasonably likely to result in a transaction more favorable to COMFORCE’s stockholders from a financial point of view than the proposed transaction contemplated by the Merger Agreement (each such proposal, a “Superior Proposal”).




COMFORCE may terminate the Merger Agreement if COMFORCE receives an acquisition proposal that the Board of Directors determines in good faith, after consultation with an independent financial advisor and outside legal counsel, constitutes a Superior Proposal and that failure to terminate would violate the Board of Directors’ fiduciary duties under Delaware law. In connection with such a termination, COMFORCE must pay Parent a termination fee of $3.8 million. COMFORCE also may be obligated to pay the termination fee in certain other circumstances, and may be obligated to pay up to $1.5 million of Parent’s expenses under certain other circumstances. Such termination fee will be Parent’s sole remedy in such circumstances. Each of the parties to the Merger Agreement is entitled to seek specific performance, and if COMFORCE validly terminates the Merger Agreement due to a breach by Parent or Merger Sub, then COMFORCE is entitled to pursue monetary damages. The maximum liability of Parent, Merger Sub and its affiliates, on the one hand, and COMFORCE and its affiliates, on the other hand, for monetary damages is limited to $3.8 million.




The Company has evaluated other subsequent events through the time of filing of these financial statements with the SEC, and noted there were no events that are subject to recognition or disclosure.




ITEM 2.   MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS




The discussion set forth below should be read together with the accompanying condensed consolidated financial statements and notes thereto and other information found in this Form 10-Q and in the audited consolidated financial statements and related notes of COMFORCE Corporation (“COMFORCE”) and its wholly-owned subsidiaries, including COMFORCE Operating, Inc. (“COI”) (collectively, the “Company”), included in our Form 10-K for the fiscal year ended December 27, 2009.







Overview




Staffing personnel placed by the Company are employees of the Company. The Company is responsible for employment related expenses for its employees, including workers compensation, unemployment compensation insurance, Medicare and Social Security taxes and general payroll expenses.  The Company offers health, dental, 401(k), disability and life insurance to its eligible employees.




The Company reports its results through three operating segments -- Human Capital Management Services, Staff Augmentation and Financial Outsourcing Services.  The Human Capital Management Services segment primarily provides staffing management services that enable Fortune 1000 companies and other large employers to consolidate, automate and manage staffing, compliance and oversight processes for their contingent workforces.  The Staff Augmentation segment provides healthcare support services, technical and engineering, information technology, telecommunications and other staffing needs.  The Financial Outsourcing Services segment provides funding and back office support services to independent consulting and staffing companies.







Recent Developments




As described in our Current Report on Form 8-K filed with the SEC on November 2, 2010 and in note 11 to our condensed consolidated financial statements included in this report, on November 1, 2010, COMFORCE entered into an Agreement and Plan of Merger with CFS Parent Corp. and CFS Merger Sub Inc., providing for the merger of Merger Sub Inc. with and into COMFORCE, with COMFORCE surviving the merger as a wholly owned subsidiary




14


of CFS Parent Corp.  The Merger Agreement was approved by COMFORCE’s Board of Directors but is subject to, among other conditions, the approval of COMFORCE’s stockholders.




As described in our Current Report on Form 8-K filed with the SEC on October 13, 2010, on October 11, 2010, John C. Fanning’s employment with the Company as its Chief Executive Officer was terminated due to his health condition, which the Board determined to be a “disability” under his employment agreement with the Company.  On that date, the Board appointed Harry V. Maccarrone to serve as the Chief Executive Officer of the Company, and appointed Robert F. Ende to serve as the Company’s Chief Financial Officer, a position formerly held by Mr. Maccarrone.  Mr. Fanning concurred with these actions.




As reported by the Bureau of Labor Statistics (U.S. Department of Labor) in a report released October 8, 2010, the unemployment rate for September 2010 stood at 9.6%.  Total nonfarm payroll employment declined by 95,000 in September 2010, principally as a result of the loss of 159,000 government jobs, partially offset by increases in private sector employment of 64,000.  The number of long-term unemployed as of September 2010 was 6.1 million, which represents a decline of 640,000 since May 2010.  While the staffing industry has been significantly and adversely affected by poor economic conditions and weak labor markets since 2008, employment in this sector has risen at modest levels in recent months, including in September 2010.  Staffing industry sources report staffing employment in the United States to be about 25% higher in June 2010 as compared to June 2009.  Management continues to closely monitor economic conditions and government responses.




In March 2010, the Hiring Incentives to Restore Employment (HIRE) Act was enacted.  Under the HIRE Act, two new tax benefits became available to employers, such as COMFORCE, that hire qualifying unemployed workers.  The first tax benefit, referred to as the payroll tax exemption, provides employers with an exemption from the employer’s 6.2% share of social security taxes on wages paid to qualifying employees, effective for wages paid from March 19, 2010 through December 31, 2010.  In addition, for each qualified employee retained for at least 52 consecutive weeks, businesses will also be eligible for a general business tax credit, referred to as the new hire retention credit, of 6.2% of wages paid to the qualified employee over the 52 week period, up to a maximum credit of $1,000.  COMFORCE is currently eligible for the payroll tax exemption, which contributed to its increase in gross profit in the second and third quarters of 2010, and will be eligible for the general business tax credit in 2011.







Results of Operations




Three months ended September 26, 2010 compared to three months ended September 27, 2009




Net sales of services for the three months ended September 26, 2010 were $171.6 million, which represents a 22.8% increase from the $139.7 million in net sales of services recorded for the three months ended September 27, 2009.  In the Human Capital Management Services segment net sales of services increased $29.7 million, or 29.7% due primarily to the addition of new clients and increased services provided to certain existing clients.  Management believes that such an increase is reflective of a trend over the past decade for companies to rely increasingly on providers of human capital management services, such as those provided by the Company’s PrO Unlimited subsidiary.  In addition, sales of services in the Staff Augmentation segment increased $2.4 million, or 6.0%, reflecting an increase in our clients’ demands for services in this segment.  Net sales of services in the Financial Outsourcing Services segment decreased $127,000 or 23.9% due primarily to a reduction in clients serviced.




Cost of services for the three months ended September 26, 2010 was 85.8% of net sales of services as compared to 85.7% for the three months ended September 27, 2009.  This slight increase in cost of services as a percentage of net sales is a result of several factors, including pricing pressures and lower sales volume on higher margin services which was partially offset by a decrease in payroll related tax expense as a result of the enactment in March 2010 of the HIRE Act (see “Recent Developments” in this Item 2) and to more favorable workers compensation claims experience.  In addition, the Company recorded an additional accrual in the third quarter of 2009 related to a state tax examination (see note 10 to our condensed consolidated financial statements).  Furthermore, Human Capital Services, which traditionally has a higher cost of services, represents a greater percentage of the Company’s revenues than in the third quarter of 2009.  Cost of services as a percentage of net sales of services in the Human Capital Management Services segment for the third quarter of 2010 was 88.2% as compared to 87.6% for the third quarter of 2009.  In the Staff Augmentation segment, cost of services as a




15


percentage of net sales of services for the third quarter of 2010 was 79.3% as compared to 82.2% for the third quarter of 2009.




Selling, general and administrative expenses as a percentage of net sales of services were 10.8% for the three months ended September 26, 2010, compared to 11.7% for the three months ended September 27, 2009.  The decrease in selling, general and administrative expenses as a percentage of net sales is primarily a result of increased net sales of services, discussed above, and our initiative beginning in 2009 to reduce or prevent increases in general and administrative expenses.  The increase of $2.2 million in selling, general and administrative expenses includes a $1.1 million disability accrual associated with John Fanning’s termination (see --“Recent Developments” in this Item 2, above).




Operating income for the three months ended September 26, 2010 was $4.9 million, or 2.9% of net sales, as compared to $2.6 million, or 1.9% of net sales, for the three months ended September 27, 2009.  The Company’s operating income for the third quarter of 2010 was higher than the 2009 period principally due to an increase in net sales of services in the Human Capital Management Services and Staff Augmentation segments which was partially offset by an increase in selling general and administrative expenses discussed above.




The Company’s interest expense was principally attributable to interest recorded on the PNC Credit Facility, and, prior to its repayment at maturity in December 2009, the 8.0% Subordinated Convertible Note due December 2, 2009 (the “Convertible Note”).  Interest expense of $835,000 for the third quarter of 2010 was higher than the interest expense of $398,000 for the third quarter of 2009.  This increase in interest expense was principally due to higher interest rates on higher borrowings under the PNC Credit Facility for the 2010 period, partially offset by the retirement of the $1.9 million principal amount Convertible Note at its maturity in December 2009.  Interest rates under the PNC Credit Facility were lower prior to its amendment in November 2009.




Other expense, net, for the three months ended September 26, 2010 of $88,000 principally consists of costs associated with the merger transaction process (see note 11 to our condensed consolidated financial statements), which costs were partially offset by gains on foreign activity, as compared to other expense, net of $286,000 for the three months ended September 27, 2009, which principally consists of losses on foreign activity.




The income tax provision for the three months ended September 26, 2010 was $1.7 million (a rate of 42.2%) on income before income taxes of $4.0 million.  The income tax provision for the three months ended September 27, 2009 was $883,000 (a rate of 45.5%) on income before income taxes of $1.9 million.  The lower effective tax rate for the three months ended September 26, 2010 is a result of lower non-deductible differences on higher annual projected income.




The Company’s total unrecognized tax benefit as of September 26, 2010 was approximately $1.0 million, which, if recognized, would affect the Company’s effective tax rate.  For the three months ended September 26, 2010, the Company had approximately $11,000 of accrued interest and penalties reflected in the tax provision.  As a result of the expiration of the statue of limitations for the three months ended September 26, 2010, the Company recorded a previously unrecorded tax benefit of $93,000.







Nine months ended September 26, 2010 compared to nine months ended September 27, 2009




Net sales of services for the nine months ended September 26, 2010 were $479.0 million, which represents a 14.2% increase from the $419.4 million in net sales of services recorded for the nine months ended September 27, 2009.  In the Human Capital Management Services segment net sales of services increased $73.0 million, or 25.3% due primarily to the addition of new clients and increased services provided to certain existing clients.  Management believes that such an increase is reflective of a trend over the past decade for companies to rely increasingly on providers of human capital management services, such as those provided by the Company’s PrO Unlimited subsidiary.  This increase was partially offset by a decrease in sales of services in the Staff Augmentation segment of $13.3 million, or 10.3%, reflecting a decrease in our clients’ demands for services in this segment, particularly by our largest client in this segment representing approximately $9.2 million of this decrease, and a reduction in clients serviced.  Net sales of services in the Financial Outsourcing Services segment decreased $98,000 or 6.5% due primarily to a reduction on clients serviced.




16


Cost of services for the nine months ended September 26, 2010 was 85.9% of net sales of services as compared to 85.5% for the nine months ended September 27, 2009.  This  increase in cost of services as a percentage of net sales is primarily a result of several factors, including pricing pressures, lower sales volume on higher margin services and an increase in payroll related tax expense, which was partially offset by a decrease in payroll related tax expense as a result of the enactment of the HIRE Act in March 2010 (see “--Recent Developments” in this Item 2, above) and more favorable workers compensation claims experience in the first nine months of 2010.  In addition, the Company recorded accruals in the second and third quarters of 2009 related to a state tax examination (see note 10 to our condensed consolidated financial statements).  In addition, Human Capital Management Services, which traditionally has a higher cost of services, represents a greater percentage of the Company’s revenues than in the first nine months of 2009.  Cost of services as a percentage of net sales of services in the Human Capital Management Services segment for the first nine months of 2010 was 88.2% as compared to 87.5% for the first nine months of 2009.  In the Staff Augmentation segment, cost of services as a percentage of net sales of services for the first nine months of 2010 was 79.8% as compared to 82.2% for the first nine months of 2009.




Selling, general and administrative expenses as a percentage of net sales of services were 11.3% for the nine months ended September 26, 2010, compared to 12.7% for the nine months ended September 27, 2009.  The $513,000 increase in selling, general and administrative expenses is primarily due to the $1.1 million disability accrual associated with John Fanning’s employment termination (see --“Recent Developments” in this Item 2, above) which was partially offset by lower personnel costs in the Staff Augmentation segment, principally as a result of our initiative beginning in 2009 to reduce general and administrative expenses as revenues declined (and continue to decline) in Staff Augmentation.




Operating income for the nine months ended September 26, 2010 was $11.0 million, or 2.3% of net sales, as compared to $4.7 million, or 1.1% of net sales, for the nine months ended September 27, 2009.  The Company’s operating income for the first nine-month period of 2010 was higher than the 2009 period principally due to an increase in net sales of services in the Human Capital Management Services segment which was partially offset by an increase in selling general and administrative expenses, and a decrease in net sales of services in the Staff Augmentation segment discussed above.




The Company’s interest expense was principally attributable to interest recorded on the PNC Credit Facility, and, prior to its repayment at maturity in December 2009, the 8.0% Subordinated Convertible Note due December 2, 2009 (the “Convertible Note”).  Interest expense of $2.4 million for the first nine months of 2010 was higher than the interest expense of $1.5 million for the first nine months of 2009.  This increase in interest expense was principally due to higher interest rates on higher borrowings under the PNC Credit Facility for the 2010 period, partially offset by the retirement of the $1.9 million principal amount Convertible Note at its maturity in December 2009.  Interest rates under the PNC Credit Facility were lower prior to its amendment in November 2009.




Other expense, net, for the nine months ended September 26, 2010 of $340,000 principally consists of losses on foreign activity and expenses related to the merger transaction process (see note 11 to our condensed consolidated financial statements), as compared to other income, net of $106,000 for the nine months ended September 27, 2009, which principally consists of gains on foreign activity.




The income tax provision for the nine months ended September 26, 2010 was $3.5 million (a rate of 42.9%) on income before income taxes of $8.3 million.  The income tax provision for the nine months ended September 27, 2009 was $1.5 million (a rate of 45.8%) on income before income taxes of $3.3 million.  The lower effective tax rate for the nine months ended September 26, 2010 is a result of lower non-deductible differences on higher annual projected income.




The Company’s total unrecognized tax benefit as of September 26, 2010 was approximately $1.0 million, which, if recognized, would affect the Company’s effective tax rate.  For the nine months ended September 26, 2010, the Company had approximately $32,000 of accrued interest and penalties reflected in the tax provision.  As a result of the expiration of the statute of limitations for the nine months ended September 26, 2010, the Company recorded a previously unrecorded tax benefit of $93,000.




17


Financial Condition, Liquidity and Capital Resources




Although the economic climate in the United States has improved in recent months, unemployment rates remain high, labor markets remain weak and credit markets, while improving, remain tight, which could affect our liquidity in future periods in a number of ways, including by:




·
depressing the demand for contingent staff, although recent government reports show an increase in jobs for contingent workers in recent months;




·
affecting our clients’ ability to timely make payment on our invoices, particularly if they are unable to obtain working capital financing or the costs of this financing increases; and




·
increasing our own interest expense under the PNC Credit Facility.




The Company generally pays its billable employees weekly or bi-weekly for their services, and remits certain statutory payroll and related taxes as well as other fringe benefits.  Invoices are generated to reflect these costs plus the Company’s markup.  These invoices are typically paid within 40 days.  Increases in the Company’s net sales of services, resulting from expansion of existing offices or establishment of new offices, will require additional cash resources.




Staffing personnel placed by the Company are employees of the Company. The Company is responsible for employment related expenses for its employees, including workers compensation, unemployment compensation insurance, Medicare and Social Security taxes and general payroll expenses.  The Company offers health, dental, 401(k), disability and life insurance to its eligible employees. Staffing and consulting companies, including the Company, typically pay their billable employees for their services before receiving payment from their customers, resulting in significant outstanding receivables.  To the extent the Company grows, these receivables will increase and there will be greater need for borrowing availability under the PNC Credit Facility.




At October 24, 2010, we had outstanding $69.0 million principal amount under the PNC Credit Facility with remaining availability of up to $19.6 million based upon the borrowing base, as defined under the PNC Credit Facility agreement, to fund operations.




Off-Balance Sheet and Contractual Obligations: As of September 26, 2010, we had no off-balance sheet arrangements other than operating leases entered into in the normal course of business, as indicated in the table below.  The table set forth below shows contractual commitments associated with operating lease agreements, employment agreements and principal repayments on debt obligations (excluding interest) calculated as of September 26, 2010:




Payments due by fiscal year (in thousands)2010


2011


2012


2013


ThereafterOperating Leases

$
605



2,399



1,970



1,236



6,497Employment Agreements


114



1,070



-



-



-PNC Credit Facility principal repayments


-



-



69,000



-



-Total

$
719



3,469



70,970



1,236



6,497





COMFORCE, COI and various of their operating subsidiaries, as co-borrowers and guarantors, are parties to the PNC Credit Facility with PNC, as a lender and administrative agent, and other financial institutions participating as lenders to provide for a revolving line of credit with available borrowings based, generally, on 87.0% of the Company’s accounts receivable aged 90 days or less, subject to specified limitations and exceptions.  The Company entered into the PNC Credit Facility in June 2003 and it has been subject to nine amendments, including an amendment and restatement effective November 2, 2009 under which the term was extended from July 24, 2010 to November 2, 2012 and the maximum availability was reduced to $95.0 million from $110.0 million.




18


In addition, reflective of current credit markets, the interest rate was increased.  Prior to the effective date of the amendment, borrowings bore interest, at the Company’s option, at a per annum rate equal to (1) the higher of the federal funds rate plus 0.5% or the base commercial lending rate of PNC as announced from time to time, or (2) LIBOR plus a specified margin, ranging from 1.5% to 2.5% based upon the Company’s fixed charged ratio.  Beginning on the effective date of the amendment, the existing as well as new borrowings under the PNC Credit Facility bear interest, at the Company’s option:




·
for loans denominated as domestic rate loans, at a per annum rate equal to 1.75% plus the highest of




(1)
the federal funds open rate plus 0.5%,




(2)
the base commercial lending rate of PNC as announced from time to time, or




(3)
one-month LIBOR, as published each business day in The Wall Street Journal, adjusted to take into account any changes in the Federal Reserve requirements for bank eurocurrency fundings, plus 1.0%; or




·
for loans denominated aseurodollar rate loans, at a per annum rate equal to 2.75% plus the higher of




(1)
LIBOR, as it appears at a specified time each business day on Bloomberg Page BBAM1, adjusted to take into account any changes in the Federal Reserve requirements for bank eurocurrency fundings, or




(2)
1.50%.




The Company generally borrows at LIBOR with a minimum floor (1.50%) plus 2.75%.




The PNC Credit Facility also provides for a commitment fee of 0.375% (0.25% prior to the November 2, 2009 restatement) of the unused portion of the facility.




The obligations under the PNC Credit Facility are collateralized by a pledge of the capital stock of certain operating subsidiaries of the Company and by security interests in substantially all of the assets of the Company.  The PNC Credit Facility contains various financial and other covenants and conditions, including, but not limited to, a prohibition on paying cash dividends and limitations on engaging in affiliate transactions, making acquisitions and incurring additional indebtedness.  The PNC Credit Facility also limits capital expenditures to $6.0 million annually.




At September 26, 2010, we had outstanding $69.0 million principal amount under the PNC Credit Facility bearing interest at a weighted average rate of 4.25% per annum.  The Company also had standby letters of credit outstanding under the PNC Credit Facility at September 26, 2010 in the aggregate amount of $3.2 million, principally as security for the Company’s obligations under its workers compensation insurance policies.




As reported in the accompanying cash flow statement, during the first nine months of 2010, our primary source of funds was $12.3 million provided by financing activities which was offset by $10.3 million used in operating activities.  We also used cash of $866,000 in investing activities due to the purchases of property and equipment.




Management of the Company believes that cash flow from operations and funds anticipated to be available under the PNC Credit Facility will be sufficient to service the Company’s indebtedness and to meet currently anticipated working capital requirements for the next 12 months.  The Company was in compliance with all covenants under the PNC Credit Facility at September 26, 2010 and expects to remain in compliance for the next 12 months.




19


Our Series 2003A, 2003B and 2004A Preferred Stock provide for dividends of 7.5% per annum and, at September 26, 2010 there were cumulated, unpaid and undeclared dividends of $3.5 million on the Series 2003A Preferred Stock, $270,000 on the Series 2003B Preferred Stock and $2.9 million on the Series 2004A Preferred Stock.  If such dividends and underlying instruments were converted to voting or non-voting common stock, the aggregate amount would equal 16.3 million shares at September 26, 2010 (as compared to 15.5 million shares at September 27, 2009).




The Company undergoes audits for certain state and local tax returns from time to time.  During 2009 and prior, the Company recorded a charge of $2.8 million relating to a settlement of a state tax examination related to certain non-income related business taxes, and we agreed to pay the settlement amount in installments.  The installments were $1.0 million that was due and paid in March 2010, $1.0 million that was due and paid in April 2010 and $800,000 that was due and paid in May 2010.  Except for this settlement, the possible effects of other audits are not expected to have a material adverse effect upon the Company’s results of operations.







Critical Accounting Policies and Estimates




As disclosed in the annual report on Form 10-K for the year ended December 27, 2009, the discussion and analysis of our financial condition and results of operations are based upon our condensed consolidated financial statements, which have been prepared in conformity with accounting principles generally accepted in the United States.  The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses reported in those financial statements.  These judgments can be subjective and complex, and consequently actual results could differ from those estimates.  Our most critical accounting policies relate to revenue recognition, allowance for doubtful accounts, accrued workers compensation liability, goodwill impairment, share-based compensation and income taxes.  Since December 27, 2009, there have been no changes in our critical accounting policies and no other significant changes to the methods used in the assumptions and estimates related to them.







Seasonality




Our quarterly results may fluctuate depending on, among other things, the number of billing and work days in a quarter and the seasonality of our clients’ businesses.  In the Human Capital Management Services segment, PrO Unlimited does not observe significant seasonal variations in its business.  In the Staff Augmentation segment, demand for services has historically been lower during the second half of the fourth quarter through the following first three months, and, generally shows gradual improvement until the second half of the fourth quarter.  Management has noted that the observance of seasonal trends has been limited in the current economic climate.







Forward Looking Statements




We have made statements under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations” under this Item 2, as well as in other sections of this report that are forward-looking statements.  In some cases, you can identify these statements by forward-looking words such as “may,” “might,” “will,” “should,” “could,” “expects,” “plans,” “anticipates,” “believes,” “estimates,” “forecasts,” “projects,” “predicts,” “intends,” “potential,” “continue,” the negative of these terms and other comparable terminology.  These forward-looking statements, which are subject to risks, uncertainties and assumptions about us, may include projections of our future financial performance, our anticipated growth strategies and anticipated trends in our business and industry. These statements are only predictions based on our current expectations and projections about future events.




Although we believe the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee our future results, level of activity, performance or achievements, particularly in light of the current global economic environment that has been marked by dramatic and rapid shifts in market conditions and government responses (see “Recent Developments” and “Financial Condition, Liquidity and Capital Resources,” each in this Item 2).  Moreover, neither we nor any other person assumes responsibility for the accuracy and completeness of any of these forward-looking statements. We undertake no obligation to update any of these forward-looking statements after the date of this report to conform our prior statements to actual results or revised expectations.




20


Factors which may cause our actual results, level of activity, performance or achievements to differ materially from the results, level of activity, performance or achievements expressed or implied by the forward-looking statements include the following:




·
unfavorable global, national or local economic conditions that cause our clients to defer hiring contingent workers or reduce spending on the human capital management services and staffing that we provide;




·
the current economic environment has created a tightening of the credit markets coupled with increasing interest rates, which, if these conditions persist or deteriorate, could potentially further increase our interest expense under the PNC Credit Facility;




·
in the current economic climate, some state taxing authorities are more strictly interpreting business tax laws and regulations and more aggressively seeking to enforce these laws and regulations to address shortfalls in state tax revenues;




·
increases in the effective rates of any payroll-related or business taxes or costs that we are unable to pass on to or recover from our clients, particularly in a climate of heightened competitive pressure;




·
increases in the costs of complying with the complex federal, state and foreign laws and regulations in which we operate, or our inability to comply with these laws and regulations;




·
our inability to collect fees due to the bankruptcy of our clients, including the amount of any wages we have paid to our employees for work performed for these clients;




·
our inability to keep pace with rapid changes in technology in our industry;




·
potential losses relating to the placement of our employees in other workplaces, including our employees’ misuse of client proprietary information, misappropriation of funds, discrimination, harassment, theft of property, accidents, torts or other claims;




·
our inability to successfully develop new services or enhance our existing services as the markets in which we compete grow more competitive;




·
continuing unfavorable developments in our business may result in the necessity of writing off goodwill in future periods, in addition to write-offs in 2009 and earlier periods;




·
as a result of covenants and restrictions in the agreements governing the PNC Credit Facility or any future debt instruments, our inability to use available cash in the manner management believes will maximize stockholder value;




·
unfavorable press or analysts’ reports concerning our industry or our company could negatively affect the perception investors have of our company and our prospects;




·
the risks and uncertainties associated with the merger include, among others, the failure of COMFORCE’s stockholders to adopt the merger agreement, the risk that competing offers will be made, and the possibility that various closing conditions to the merger may not be satisfied or waived, and the risk that stockholder litigation in connection with the merger may result in significant costs of defense, indemnification and liability; or




·
any of the other factors described under “Risk Factors” in Item 1A of our annual report on Form 10-K for the year ended December 27, 2009.




21


ITEM 3.   QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK




At September 26, 2010, we had $69.0 million outstanding under the PNC Credit Facility bearing variable rate interest at the weighted average rate of 4.25% per annum.  As described above in Item 2 under “Financial Condition, Liquidity and Capital Resources,” we may also elect to borrow based on domestic measures (subject to floors, including by reference to LIBOR).  Assuming an immediate 10.0% increase in the weighted average interest rate of 4.25% in variable rate obligations of $69.0 million, the impact to the Company in additional annualized interest expense would be approximately $293,000.




The Company has not entered into any swap agreements or other hedging transactions as a means of limiting exposure to interest rate or foreign currency fluctuations.  Although the Company provides its services in several countries, including Great Britain, Hong Kong and Japan, based upon the current level of investments in these countries, it does not believe that even a 25% change in foreign currency rates would have a material impact to the Company’s financial position.







ITEM 4T.   CONTROLS AND PROCEDURES




Our management has evaluated, with the participation of our chief executive officer and chief financial officer, the effectiveness of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”) as of September 26, 2010 based upon the procedures required under paragraph (b) of Rule 13a-15 under the Exchange Act.   On the basis of this evaluation, our management has concluded that as of September 26, 2010 our disclosure controls and procedures are effective in recording, processing, summarizing and reporting, on a timely basis, information required to be disclosed by us in the reports that we file or submit under the Exchange Act.  Our disclosure controls and procedures are designed to ensure that information required to be disclosed in the reports that we file or submit under the Exchange Act is accumulated and communicated to our management, including our chief executive officer and chief financial officer, to allow timely decisions regarding required disclosure.




There has been no change in the Company’s internal controls over financial reporting identified in connection with the evaluation required by paragraph (d) of Rule 13a-15 under the Exchange Act that occurred during the three or nine months ended September 26, 2010 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.







PART II - OTHER INFORMATION




ITEM 1.   LEGAL PROCEEDINGS.




Since the date of the filing of the Company’s annual report on Form 10-K for the year ended December 27, 2009, there have been no material new legal proceedings involving the Company or any material developments to the proceedings described in such Form 10-K, except as follows:  In the Lake Calumet matter (see note 10 to our condensed consolidated financial statements), the U.S. EPA has recently expressed an interest in joining the Illinois EPA in the negotiations with the PRP working group, which has been welcomed by the working group to provide an avenue for a global settlement, which cannot be reached without U.S. EPA participation.







ITEM 1A.   RISK FACTORS.




Since the date of the filing of the Company’s annual report on Form 10-K for the year ended December 27, 2009, there have been no material changes to the risk factors described under Item 1A in such Form 10-K.







ITEM 2.   UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS.




Not applicable.




22


ITEM 3.   DEFAULTS UPON SENIOR SECURITIES.




Not applicable.







ITEM 4.   [RESERVED]




Not applicable.







ITEM 5.   OTHER INFORMATION.




None.







ITEM 6.   EXHIBITS.




31.1
Rule 13a-14(a) certification of chief executive officer in accordance with section 302 of the Sarbanes-Oxley Act of 2002.31.2
Rule 13a-14(a) certification of chief financial officer in accordance with section 302 of the Sarbanes-Oxley Act of 2002.32.1
Section 1350 certification of chief executive officer in accordance with section 906 of the Sarbanes-Oxley Act of 2002.32.2
Section 1350 certification of chief financial officer in accordance with section 906 of the Sarbanes-Oxley Act of 2002.










23





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.









COMFORCE Corporation/s/ Harry V. MaccarroneHarry V. MaccarroneChief Executive OfficerDate:  November 5, 2010/s/ Robert F. EndeRobert F. EndeSenior Vice President and Chief Financial OfficerDate:  November 5, 2010









24