##### 



SECURITIES AND EXCHANGE COMMISSION
 WASHINGTON, D.C. 20549
   Form 10-Q
    x
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR
15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
  OR o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR
15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
 For the transition period from _______________ to _____________ Commission file number 001-13956 VENTURI PARTNERS, INC. (Exact name of Registrant as specified in its charter) Delaware
    
    7363
    
    56-1930691(State or other jurisdiction of
incorporation or organization)
    
    (Primary Standard
Industrial
ClassificationCode
number)
    
    (I.R.S. employer
identification number)
 Five LakePointe Plaza
2709 Water Ridge Parkway, 2nd Floor
Charlotte, North Carolina 28217
(Address, including zip code, of
Registrants principal executive offices)   (704) 442-5100 
    x o
 Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Securities Exchange Act of
1934).Yes o No x As of July 31, 2004, 6,089,938 shares of the registrants Common Stock,
$.01 par value, were outstanding.




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##### 



VENTURI PARTNERS, INC. TABLE OF CONTENTS  
 PagePART I - FINANCIAL INFORMATIONItem 1. Financial Statements (unaudited)Unaudited Consolidated Statements of Operations
    
    
    3Unaudited Consolidated Balance Sheets
    
    
    4Unaudited Consolidated Statements of Shareholders Equity
    
    
    5Unaudited Consolidated Statements of Cash Flows
    
    
    6Notes to Unaudited Consolidated Financial Statements
    
    
    7Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    15Item 3. Quantitative and Qualitative Disclosures About Market Risk
    
    

    25Item 4. Controls and Procedures
    
    
    26PART II - OTHER INFORMATIONItem 6. Exhibits and Reports on Form 8-K
    
    
    26Signatures
    
    
    27Exhibit Index
    
    
    28
  2




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##### 



ITEM 1. FINANCIAL STATEMENTS Venturi Partners, Inc. and Subsidiaries 
 Unaudited Consolidated Statements of Operations
For the Periods Ended June 27, 2004 and June 29, 2003
(in thousands, except per share data)
 Three months ended
    
    Six months endedJune 27,
    
    June 29,
    
    June 27,
    
    June 29,2004
    
    2003
    
    2004
    
    2003Revenues
    
    $
    136,494
    
    
    $
    122,509
    
    
    $
    265,750
    
    
    $
    243,225Direct costs of services
    
    
    107,708
    
    
    
    95,871
    
    
    
    210,822
    
    
    
    191,512Gross profit
    
    
    28,786
    
    
    
    26,638
    
    
    
    54,928
    
    
    
    51,713Operating expenses:Selling, general and administrative
    
    
    24,358
    
    
    
    24,125
    
    
    
    48,478
    
    
    
    49,495Depreciation and amortization
    
    
    1,025
    
    
    
    1,341
    
    
    
    2,107
    
    
    
    2,753Goodwill impairment
    
    
    41,700
    
    
    
    
    
    
    
    41,700
    
    
    
    Restructuring and rationalization charges
    
    
    
    
    
    
    2,016
    
    
    
    
    
    
    
    2,115Stock option compensation (income)
    
    
    (89
    )
    
    
    
    
    
    
    824
    
    
    
    Operating loss
    
    
    (38,208
    )
    
    
    (844
    )
    
    
    (38,181
    )
    
    
    (2,650
    )Interest expense
    
    
    300
    
    
    
    744
    
    
    
    491
    
    
    
    5,136Gain on financial restructuring, net
    
    
    
    
    
    
    84,634
    
    
    
    
    
    
    
    83,132Income (loss) before income taxes
    
    
    (38,508
    )
    
    
    83,046
    
    
    
    (38,672
    )
    
    
    75,346Provision (benefit) for income taxes
    
    
    (864
    )
    
    
    
    
    
    
    (888
    )
    
    
    Net income (loss)
    
    $
    (37,644
    )
    
    $
    83,046
    
    
    $
    (37,784
    )
    
    $
    75,346Basic and diluted earnings per common
share
    
    $
    (6.18
    )
    
    $
    15.61
    
    
    $
    (6.20
    )
    
    $
    23.57Weighted average basic and diluted common
shares outstanding
    
    
    6,089,938
    
    
    
    5,319,005
    
    
    
    6,089,938
    
    
    
    3,197,127
 The accompanying notes are an integral part of these statements. 3




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##### 



Venturi Partners, Inc. and Subsidiaries 
 Unaudited Consolidated Balance Sheets
June 27, 2004 and December 28, 2003
(in thousands, except share data)
 June 27,
    
    December 28,2004
    
    2003AssetsCurrent Assets:Cash and cash equivalents
    
    $
    41
    
    
    $
    508Accounts receivable, net of allowance for doubtful accounts of
$3,573 and $3,487 in 2004 and 2003, respectively
    
    
    76,877
    
    
    
    75,702Prepaid expenses and other current assets
    
    
    4,232
    
    
    
    4,527Recoverable income taxes
    
    
    
    
    
    
    35Total current assets
    
    
    81,150
    
    
    
    80,772Property and equipment, net
    
    
    7,446
    
    
    
    9,271Goodwill
    
    
    61,832
    
    
    
    103,532Other assets
    
    
    1,288
    
    
    
    785Total assets
    
    $
    151,716
    
    
    $
    194,360Liabilities and Shareholders EquityCurrent liabilities:Current portion of long-term debt
    
    $
    58,784
    
    
    $
    370Accounts payable
    
    
    11,655
    
    
    
    15,471Accrued wages, benefits and other
    
    
    40,281
    
    
    
    39,737Total current liabilities
    
    
    110,720
    
    
    
    55,578Long-term debt -Convertible subordinated notes
    
    
    
    
    
    
    5,339Revolving credit facility
    
    
    
    
    
    
    55,264Other long-term liabilities
    
    
    13,275
    
    
    
    13,498Total liabilities
    
    
    123,995
    
    
    
    129,679Commitments and contingenciesShareholders equity:Preferred stock, $.01 par value; shares authorized 5,000;
no shares issued and outstanding
    
    
    
    
    
    
    Common stock, $.01 par value; shares authorized 95,000;
6,090 shares issued and outstanding
    
    
    61
    
    
    
    61Additional paid-in capital
    
    
    297,105
    
    
    
    296,281Retained earnings (accumulated deficit)
    
    
    (269,445
    )
    
    
    (231,661
    )Total shareholders equity
    
    
    27,721
    
    
    
    64,681Total liabilities and shareholders equity
    
    $
    151,716
    
    
    $
    194,360
 The accompanying notes are an integral part of these balance sheets. 4




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##### 



Venturi Partners, Inc. and Subsidiaries 
 Unaudited Consolidated Statements of Shareholders Equity
For the Period Ended June 27, 2004
(in thousands)
 RetainedAdditional
    
    EarningsCommon Stock
    
    Paid-In
    
    (AccumulatedShares
    
    Amount
    
    Capital
    
    Deficit)
    
    TotalBalance, December 28, 2003
    
    
    6,090
    
    
    $
    61
    
    
    $
    296,281
    
    
    ($
    231,661
    )
    
    $
    64,681Stock option compensation
    
    
    
    
    
    
    
    
    
    
    824
    
    
    
    
    
    
    
    824Net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (37,784
    )
    
    
    (37,784
    )Balance, June 27, 2004
    
    
    6,090
    
    
    $
    61
    
    
    $
    297,105
    
    
    ($
    269,445
    )
    
    $
    27,721
 The accompanying notes are an integral part of these statements. 5




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##### 



Venturi Partners, Inc. and Subsidiaries 
 Unaudited Consolidated Statements of Cash FlowsFor the Six Months Ended June 27, 2004 and June 29, 2003
(in thousands)
 Six months endedJune 27,
    
    June 29,2004
    
    2003Cash flows from operating activities:Net income (loss)
    
    $
    (37,784
    )
    
    $
    75,346Adjustments to reconcile net income (loss) to net cash
provided by operating activities:Depreciation and amortization
    
    
    2,107
    
    
    
    2,753Amortization of deferred gain on financial restructuring, net
    
    
    (1,974
    )
    
    
    (824
    )Goodwill impairment
    
    
    41,700
    
    
    
    Stock option compensation
    
    
    824
    
    
    
    Gain on financial restructuring, net
    
    
    
    
    
    
    (83,132
    )Deferred income taxes
    
    
    (1,042
    )
    
    
    Changes in assets and liabilities:Accounts receivable
    
    
    (1,175
    )
    
    
    7,700Recoverable income taxes
    
    
    35
    
    
    
    25,118Accounts payable and accrued liabilities
    
    
    (2,345
    )
    
    
    (2,279
    )Other, net
    
    
    38
    
    
    
    2Net cash provided by operating activities
    
    
    384
    
    
    
    24,684Cash flows from investing activities:Purchase of property and equipment, net
    
    
    (282
    )
    
    
    (505
    )Net cash used in investing activities
    
    
    (282
    )
    
    
    (505
    )Cash flows from financing activities:Repayments under credit facility
    
    
    (11,900
    )
    
    
    (41,985
    )Borrowings under credit facility
    
    
    11,900
    
    
    
    3,000Credit facility amendment fees
    
    
    (354
    )
    
    
    (1,680
    )Repayments of other debt, net
    
    
    (215
    )
    
    
    (648
    )Restructuring payments to bondholders
    
    
    
    
    
    
    (1,314
    )Net cash used in financing activities
    
    
    (569
    )
    
    
    (42,627
    )Net decrease in cash and cash equivalents
    
    
    (467
    )
    
    
    (18,448
    )Cash and cash equivalents at beginning of period
    
    
    508
    
    
    
    22,623Cash and cash equivalents at end of period
    
    $
    41
    
    
    $
    4,175Supplemental cash flow information:Cash
payments during the period for Interest
    
    $
    2,291
    
    
    $
    8,343Income taxes
    
    
    37
    
    
    
    
 The accompanying notes are an integral part of these statements. 6




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##### 



Venturi Partners, Inc. and Subsidiaries 
 Notes to Unaudited Consolidated
Financial Statements
(dollars in thousands, except per share data)
 (1) General The unaudited consolidated financial statements included herein have been
prepared in accordance with the instructions to Form 10-Q and do not include
all the information and footnotes required by generally accepted accounting
principles; however, they do include all adjustments of a normal recurring
nature that, in the opinion of management, are necessary to present fairly the
results of operations of Venturi Partners, Inc. and its subsidiaries
(collectively, the Company) for the interim periods presented. These interim
financial statements should be read in conjunction with the Companys audited
consolidated financial statements and related notes included in the Companys
Annual Report on Form 10-K for the year ended December 28, 2003. The results
of operations for the interim periods presented are not necessarily indicative
of the results to be expected for the entire year. (2) Subsequent Events On July 19, 2004, the Company and certain of its subsidiaries entered into
an agreement and plan of merger (the Merger Agreement) with COMSYS
Information Technology Services, Inc., its parent corporation, COMSYS Holding,
Inc. (together with its subsidiaries, COMSYS), and each
holder of capital stock of COMSYS Holding, Inc. party thereto (the COMSYS
Stockholders). The Merger Agreement contemplates that a subsidiary of the
Company will merge with and into COMSYS Holding, Inc. (the Merger), and COMSYS will
continue as the surviving entity and will be a wholly owned subsidiary of the
Company. In the Merger, the COMSYS Stockholders will receive new shares of the
Companys common stock, and holders of shares of Company common stock held
immediately prior to the Merger will continue to hold their shares immediately
after the Merger. The completion of the Merger is subject to several
conditions, including approval by the Companys stockholders,
the availability of financing for the combined company, the expiration or
termination of the applicable waiting period under the Hart-Scott-Rodino
Antitrust Improvements Act of 1976, as amended, and the sale of the Companys
Staffing Services business, either on the terms described below or on other
terms acceptable to COMSYS. Upon completion of the Merger, the COMSYS
Stockholders will own in the aggregate approximately 55.4% of the common stock
of the combined company, on a fully diluted basis, subject to certain
adjustments set forth in the Merger Agreement. The Merger is intended to
qualify as a tax-free reorganization under the Internal Revenue Code of 1986,
as amended. The Company may be required to pay certain termination fees if the
transactions are not consummated as planned. In addition, on July 19, 2004, the Company, one of its subsidiaries and
Compass CS Inc. (Compass) entered into a stock purchase agreement (the Stock
Purchase Agreement) pursuant to which the Company agreed to sell its Staffing
Services business to Compass for $30,300 in cash. The Company expects the sale
transaction to yield approximately $25,500 in cash proceeds, after expenses of
the transaction and payment of certain retained liabilities of the Staffing
Services business. The completion of the sale of the Staffing Services
business is subject to several conditions, including the simultaneous
completion of the Merger and the approval of the sale by the Companys
stockholders as well as each beneficial owner of 5% or more of the Companys
common stock. The purchaser in this transaction, Compass, is affiliated with
The Compass Group International LLC, the parent entity of two significant
stockholders of the Company. A member of the Companys board of directors is a
director of Compass CS, as well as a principal of The Compass Group
International LLC. The Companys unaudited financial statements as of June 27, 2004 do not
reflect any adjustments relating to the Merger Agreement or the Stock Purchase
Agreement except as relates to the interim goodwill impairment provision for
Staffing Services discussed further in Note 6, Goodwill. In connection with the Merger Agreement, the Company entered into a second
amendment (the Second Rights Agreement Amendment) to its Amended and Restated
Rights Agreement dated as of April 14, 2003 (the 7




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##### 



Rights Agreement). The Second Rights Agreement Amendment generally
provides that the Rights (as defined in the Rights Agreement) will not become
exercisable as a result of execution of the Merger Agreement and completion of
the transactions contemplated thereby. The Second Rights Agreement Amendment
also provides that the Rights Agreement will terminate immediately prior to the
effective time of the Merger. (3) Comprehensive Financial Restructuring In April 2003, the Company completed a comprehensive financial
restructuring with its senior lenders and the holders of $109,661 outstanding
principal amount of its 5.75% Convertible Subordinated Notes due 2004 (the
5.75% Notes) in which it issued new shares of the Companys capital stock to
the participating noteholders in exchange for their 5.75% Notes (the Exchange
Transaction). In the Exchange Transaction, the participating noteholders in
the aggregate received $3,153 in cash and 5,015,349 shares of common stock
(after conversion of preferred stock initially issued in the Exchange
Transaction), which represented approximately 82% of the Companys outstanding
capital stock immediately after the Exchange Transaction. The Companys
existing shareholders retained ownership of their outstanding 1,075,248 shares
of common stock, which represented approximately 18% of the outstanding capital
stock. To facilitate the closing of the Exchange Transaction, the Company also
restructured its senior debt (the Senior Debt Restructuring). In the Senior
Debt Restructuring, the senior lenders forgave indebtedness in the amount of
$10,300, eliminated existing equity appreciation rights associated with the
revolving credit facility and agreed to certain further amendments. As a
result of the Exchange Transaction and the Senior Debt Restructuring, the
Company used substantially all of its cash on hand, after payment of
transaction expenses, to repay $37,985 of its outstanding credit facility and
eliminated an additional $119,961 of its outstanding indebtedness, which
resulted in substantial reductions in the Companys interest expense. No
provision for income taxes was recorded in 2003 since the gain from financial
restructuring was not subject to income tax. The amended revolving credit facility (the Credit Facility) provides for
a $70,700 revolving line of credit due November 1, 2004 and may be extended for
an additional six-month period through May 1, 2005, assuming the Company is in
compliance with its covenants. Availability of borrowings under the Credit
Facility is subject to a borrowing base calculated as specified percentages of
the Companys eligible accounts receivable (as defined) in the aggregate. The
Credit Facilitys financial covenants include monthly maintenance of cumulative
EBITDA levels and an interest coverage ratio (both as defined in the amended
agreement). The Credit Facility also contains restrictions on the payment of
cash dividends on the Companys capital stock and places additional limitations
on share repurchases, acquisitions and capital expenditures. Finally, the
Company issued common stock purchase warrants to the lenders under the Credit
Facility entitling them to purchase a total of 768,997 shares of common stock,
or 10% of the outstanding common stock on a fully diluted basis as of the
closing date of the financial restructuring. The Company engaged an
independent valuation firm to assist in the determination of the fair value of
these warrants and recorded $1,538 as additional shareholders equity with a
corresponding reduction in the related outstanding senior debt. These warrants
are exercisable in whole or part over a 10-year period at an exercise price of
$7.8025 per share, which was based on an assumed equity valuation for the
Company of $60,000. The exercise price for these warrants exceeded the
estimated fair value of the underlying equity at the issuance date. Interest
rates payable under the Credit Facility are set at prime plus 450 basis points
through December 2004 and at prime plus 500 basis points through May 1, 2005. The Company entered into an agreement with each of the former noteholders
participating in the Exchange Transaction and each of its senior lenders to
provide them with registration rights with respect to the shares of common
stock issued in the financial restructuring and the shares of common stock
issuable upon exercise of the warrants, as applicable. 8




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(4) Stock Options The Company has adopted Statement of Financial Accounting Standards No.
148, Accounting for Stock-Based Compensation  Transition and Disclosure.
The Company plans to continue using the intrinsic-value method of accounting
for stock-based awards granted to employees and, accordingly, does not
currently recognize compensation expense for its stock-based awards to
employees in the Consolidated Statements of Operations, except primarily for
the variable options described below. In March 2000, the FASB issued Financial Accounting Interpretation No. 44
(FIN 44), Accounting for Certain Transactions involving Stock Compensation,
an interpretation of APB Opinion No. 25, Accounting for Stock Issued to
Employees. FIN 44 requires that stock options issued within six months of the
cancellation date of prior options be accounted for as variable stock options.
Because most of the options granted by the Company under the 2003 Equity
Incentive Plan prior to December 28, 2003 were granted within six months from
the date that options granted to the same recipients under the 1995 Stock
Option Plan were cancelled, these new stock options are subject to variable
accounting until they are exercised, forfeited or expire unexercised. The following disclosures are presented to reflect the Companys pro forma
net income (loss) for the periods ended June 27, 2004 and June 29, 2003 as if
the Company had applied the fair value recognition provision of FASB Statement
No. 123, Accounting for Stock-Based Compensation, to stock-based employee
compensation. In preparing these disclosures, the Company has determined the
value of all outstanding stock options granted under the 1995 Stock Option
Plan, which was terminated, and the Companys 2003 Equity Incentive Plan, in
each case using the Black-Scholes model and based on the following weighted
average assumptions used for grants: Period Ended
    
    Period EndedJune 27, 2004
    
    June 29, 2003Risk-free interest rate
    
    
    3.1
    %
    
    
    3.0
    %Expected divident yield
    
    
    0.0
    %
    
    
    0.0
    %Expected life
    
    
    5
    
    
    
    5Expected volatility
    
    
    82.3
    %
    
    
    83.9
    %
 The fair value of stock options granted under the 2003 Equity Plan in the
first half of 2004 and the first half of 2003 was approximately $24 and $1,274,
respectively. Had compensation expense been determined consistent with the
fair value method, utilizing the assumptions set forth above and the
straight-line amortization method over the vesting period, the Companys net
income (loss) would have reflected the following pro forma amounts: 9




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##### 



Three months ended
    
    Six months endedJune 27,
    
    June 29,
    
    June 27,
    
    June 29,2004
    
    2003
    
    2004
    
    2003Net income (loss), as reported
    
    $
    (37,644
    )
    
    $
    83,046
    
    
    $
    (37,784
    )
    
    $
    75,346Add: Stock option compensation included in
reported net income
    
    
    (89
    )
    
    
    
    
    
    
    824
    
    
    
    Deduct: Stock option compensation determined
using a fair value based method for all awards
    
    
    (264
    )
    
    
    (222
    )
    
    
    (549
    )
    
    
    (444
    )Tax effect
    
    
    141
    
    
    
    89
    
    
    
    (110
    )
    
    
    177Pro forma net income (loss)
    
    $
    (37,856
    )
    
    $
    82,913
    
    
    $
    (37,619
    )
    
    $
    75,079Basic and diluted earnings per share, as reported
    
    $
    (6.18
    )
    
    $
    15.61
    
    
    $
    (6.20
    )
    
    $
    23.57Pro forma basic and diluted earnings per share
    
    $
    (6.22
    )
    
    $
    15.59
    
    
    $
    (6.18
    )
    
    $
    23.48
 (5) Restructuring and Rationalization Charges During the years 2001 through 2003, the Company implemented a plan to
restructure and rationalize certain operations. In the second quarter of 2003,
the Company recorded charges totaling $2,016, primarily related to lease
termination and employee severance costs. Following is a summary of the accrued liability for cash restructuring and
rationalization charges for the period ended June 27, 2004: Employee
    
    LeaseSeverance
    
    Costs
    
    TotalAccrued liability at December 28, 2003
    
    $
    26
    
    
    $
    4,733
    
    
    $
    4,759Cash payments
    
    
    (20
    )
    
    
    (525
    )
    
    
    (545
    )Accrued liability at March 28, 2004
    
    
    6
    
    
    
    4,208
    
    
    
    4,214Cash payments
    
    
    
    
    
    
    (452
    )
    
    
    (452
    )Accrued liability at June 27, 2004
    
    $
    6
    
    
    $
    3,756
    
    
    $
    3,762
 Of the remaining accrued liability at June 27, 2004, the Company expects
to pay approximately $1,563 over the next 12 months and the balance, primarily
lease payments, over the following seven years. (6) Goodwill The Company completed its annual impairment assessment in the fourth
quarter of 2003 and determined there was no further impairment at that time.
In order to assess the fair value of its goodwill, the Company engaged an
independent valuation firm to assist in determining the fair value. The fair
value of each of the Companys two reporting units was calculated as of
December 28, 2003 on an enterprise value basis using the market multiple and
discounted cash flow approaches. Under the market multiple approach, market
ratios and
performance fundamentals relating to similar public companies stock
prices or enterprise values were applied to the reporting units to determine
their enterprise value. Under the discounted cash flow approach, the indicated
enterprise value was determined using the present value of the projected future
cash flows to be generated considering appropriate discount rates. The
discount rates used in the calculation reflected all associated risks of
realizing the projected future cash flows. Certain of the valuation
assumptions were based on managements expectations for future performance of
the Technology Services and Staffing Services reporting units. These
assumptions include the expected time frame of technology spending and broader
economic recoveries as well as future growth rates in the Technology Services
and Staffing Services businesses. A discount rate of 16-17% was 10




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##### 



utilized in
the discounted cash flow valuation approach due principally to the inherent
uncertainties associated with these assumptions. Subsequent to March 28, 2004, the Company entered into substantive
negotiations with Compass for the sale of its Staffing Services division. The
negotiations were concluded in July 2004. As discussed in Note 2, the sale
of Staffing Services pursuant to the Stock Purchase Agreement will occur only
if the Companys Merger transaction with COMSYS is consummated. Based on the
estimated proceeds to be received in connection with the Stock Purchase
Agreement, the Company recognized an impairment loss of $41,700 associated with
Staffing Services goodwill in the second fiscal quarter of 2004. The primary
reasons for impairment were, among other factors, the downward adjustment in
projected results of the Staffing Services division, caused in part by the loss
of certain key customers, and increased discounting of those future results
based on the current assessment of risk inherent in the business. (7) Debt The Companys debt consisted of the following at June 27, 2004 and
December 28, 2003: June 27,
    
    December 28,2004
    
    20035.75% Notes due July 2004
    
    $
    5,339
    
    
    $
    5,339Revolving credit facility
    
    
    50,000
    
    
    
    50,000Deferred gain on financial restructuring, net
    
    
    3,290
    
    
    
    5,264Other
    
    
    155
    
    
    
    37058,784
    
    
    
    60,973Less current portion
    
    
    58,784
    
    
    
    370$
    
    
    
    $
    60,603
 The 5.75% Notes were due in July 2004, and were paid in full at their
stated maturity subsequent to period end. As a result of the completion of the Companys financial restructuring and
the execution of amendments and maturity date extensions, the Credit Facility
provides for a $70,700 revolving line of credit due November 1, 2004 and may be
extended through May 1, 2005 subject to specified conditions. The Companys ability to continue operating is largely dependent upon its
ability to maintain compliance with the financial covenants of the Credit
Facility. The financial covenants include a cumulative monthly EBITDA
requirement and a monthly interest coverage ratio (both as defined). The
amended Credit Facility defines consolidated EBITDA as consolidated net income
before interest expense, income taxes, depreciation and amortization, non-cash
impairment charges, restructuring and rationalization charges, professional
fees relating to the debt restructuring and non-cash compensation expense for
the stock options. For 2003 and the first six months of 2004, the Company
complied with these covenants. Based on the
Companys fiscal 2004 projections, which reflect slightly improving
economic conditions, management believes the Company will be able to maintain
compliance with the financial covenants for the remainder of the credit
facility term. The Company also believes that the operating trends in the
first six months of 2004 support the key assumptions in its operating plan.
However, there can be no assurance that the economy or the Company will perform
as expected or that further economic declines will not adversely impact the
Companys results of operations or its ability to comply with the financial
covenants. Additionally, while the Company believes financial results in 2004
will be better than 2003 results, in the event that economic conditions weaken
and/or the Companys 2004 results fall below 2003 levels, the Company may not
meet these financial covenants. If the Company does violate future covenants,
it would seek waivers and amendments from its lenders, but can give no
assurance that any such waivers and amendments would be available at all or on
acceptable terms. If the Company were unable to obtain a waiver of future
covenant violations, the lenders 11




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##### 



would be entitled to require immediate
repayment of all amounts outstanding under the Credit Facility. In the event
of a default, the Companys ongoing viability would be seriously threatened,
and it would be forced to evaluate a number of strategic alternatives,
including a further debt restructuring or other reorganization, the closure of
certain operating locations or the sale of certain or all of its assets in
order to continue to fund its operations. In the event that we attempted to
sell assets in order to continue to fund our operations, there can be no
assurance that the proceeds of any such sales would be sufficient to satisfy
the Companys liabilities For the three months and six months ended June 27, 2004, interest expense
was $300 and $491, respectively, which was net of amortization of deferred gain
on financial restructuring of $987 and $1,974, respectively. Interest rates
payable under the Credit Facility are currently set at prime plus 450 basis
points through December 31, 2004. Four former noteholders, now significant shareholders, also are senior
lenders under the Credit Facility, and held 90% of the facility commitments as
of August 5, 2004. (8) Earnings Per Share The following table reconciles net income (loss) and weighted average
shares outstanding to the amounts used to calculate basic and diluted earnings
per share for each of the three- and six-month periods ended June 27, 2004 and June 29, 2003: Three months ended
    
    Six months endedJune 27,
    
    June 29,
    
    June 27,
    
    June 29,2004
    
    2003
    
    2004
    
    2003Basic and diluted earnings per share:Net income (loss)
    
    $
    (37,644
    )
    
    $
    83,046
    
    
    $
    (37,784
    )
    
    $
    75,346Add: Interest expense on 5.75% Notes, net of tax
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Diluted income (loss)
    
    $
    (37,644
    )
    
    $
    83,046
    
    
    $
    (37,784
    )
    
    $
    75,346Weighted average common shares outstanding
    
    
    6,089,938
    
    
    
    5,319,005
    
    
    
    6,089,938
    
    
    
    3,197,127Add: Dilutive stock options and warrants
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Add: Assumed conversion of 5.75% Notes
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Diluted weighted average common shares outstanding
    
    
    6,089,938
    
    
    
    5,319,005
    
    
    
    6,089,938
    
    
    
    3,197,127Basic and diluted earnings per share:
    
    $
    (6.18
    )
    
    $
    15.61
    
    
    $
    (6.20
    )
    
    $
    23.57
 Stock options to purchase 684,033 and 526,083 shares of Common Stock were
outstanding under the 2003 Equity Incentive Plan and the 1995 Stock Option Plan
during the quarters ended June 27, 2004 and June 29, 2003, respectively, but
were excluded from the computation of earnings per diluted share because their
effect was antidilutive. The conversion of the remaining outstanding 5.75% Notes
into 11,989 common shares was also excluded from the computation of earnings
per diluted share because its effect was antidilutive. The common stock
purchase warrants issued in 2003, which entitle the lenders under the Credit
Facility to purchase a total of 768,997 shares of common stock, were also
excluded from the computation of earnings per diluted shares because their
effect was antidilutive. (9) Commitments and Contingencies The Company is involved in various legal actions and claims. In the
opinion of management, after considering appropriate legal advice, the future
resolutions of all actions and claims are not expected to have a material
adverse effect on the Companys consolidated financial position, results of
operations or cash flows. 12




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##### 



During the first quarter of 2004, the Company entered into a significant
new lease agreement for its Corporate offices with rent (approximately $257 per
year and escalating annually) commencing December 1, 2004 and ending December
31, 2014. (10) Segment Information: The Company is organized in two segments: Technology Services and
Staffing Services. Technology Services provides technical staffing, training
and information technology consulting services and technology tools for human
capital management. Staffing Services provides temporary staffing services,
placement of full-time employees and on-site management of temporary employees.
The Company evaluates segment performance based on income from operations
before unallocated corporate expenses, restructuring and rationalization
charges, stock option compensation, amortization of goodwill and intangible
assets, interest expense, gain (loss) on financial restructuring, net, and
income taxes. Because of the Companys substantial goodwill, management does
not consider total assets by segment an important management tool and,
accordingly, the Company does not report this information separately. The
table below presents segment information for Technology Services and Staffing
Services for the three- and six-month periods ended June 27, 2004 and June 29, 2003: Three months ended
    
    Six months endedJune 27,
    
    June 29,
    
    June 27,
    
    June 29,2004
    
    2003
    
    2004
    
    2003Total revenuesTechnology Services
    
    $
    67,679
    
    
    $
    59,829
    
    
    $
    135,157
    
    
    $
    120,388Staffing Services
    
    
    68,815
    
    
    
    62,680
    
    
    
    130,593
    
    
    
    122,837Total revenues
    
    
    136,494
    
    
    
    122,509
    
    
    
    265,750
    
    
    
    243,225Gross profitTechnology Services
    
    
    15,388
    
    
    
    14,189
    
    
    
    30,202
    
    
    
    27,575Staffing Services
    
    
    13,398
    
    
    
    12,449
    
    
    
    24,726
    
    
    
    24,138Total gross profit
    
    
    28,786
    
    
    
    26,638
    
    
    
    54,928
    
    
    
    51,713Operating incomeTechnology Services
    
    
    3,635
    
    
    
    2,548
    
    
    
    6,432
    
    
    
    3,780Staffing Services
    
    
    3,134
    
    
    
    2,186
    
    
    
    4,947
    
    
    
    3,214Total segment operating income, as defined
    
    
    6,769
    
    
    
    4,734
    
    
    
    11,379
    
    
    
    6,994Unallocated corporate expenses
    
    
    3,366
    
    
    
    3,510
    
    
    
    7,036
    
    
    
    7,389Goodwill impairment
    
    
    41,700
    
    
    
    
    
    
    
    41,700
    
    
    
    Restructuring and rationalization charges
    
    
    
    
    
    
    2,016
    
    
    
    
    
    
    
    2,115Stock option compensation expense (income)
    
    
    (89
    )
    
    
    
    
    
    
    824
    
    
    
    Amortization of intangible assets
    
    
    
    
    
    
    52
    
    
    
    
    
    
    
    140Interest expense
    
    
    300
    
    
    
    744
    
    
    
    491
    
    
    
    5,136Gain on financial restructuring, net
    
    
    
    
    
    
    84,634
    
    
    
    
    
    
    
    83,132Income (loss) before income taxes
    
    $
    (38,508
    )
    
    $
    83,046
    
    
    $
    (38,672
    )
    
    $
    75,346
 13




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##### 



The following table sets forth identifiable assets by segment at June 27,
2004 and December 28, 2003: June 27,
    
    December 28,2004
    
    2003Accounts receivable, netTechnology Services
    
    $
    50,561
    
    
    $
    49,849Staffing Services
    
    
    26,316
    
    
    
    25,853Total accounts receivable, net
    
    $
    76,877
    
    
    $
    75,702
 14




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##### 



ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS INTRODUCTION The following discussion and analysis should be read in conjunction with
the Companys unaudited consolidated financial statements and related notes
appearing elsewhere in this report. Our fiscal year ends on the Sunday nearest
to December 31, and our fiscal quarters end on the Sunday nearest to the end of
each calendar quarter. THE COMPANY The Company is organized into two Divisions: the Technology Services
division (Technology Services), which provides information technology
staffing and consulting services in a range of computer-related disciplines and
technology tools for human capital management, and the Staffing Services
division (Staffing Services), which provides a variety of temporary office,
clerical, accounting and finance, light technical and light industrial staffing
services. Approximately 50% of the Companys second quarter 2004 revenues came
from Technology Services and 50% came from Staffing Services. Each of our business lines depends in large part on our ability to recruit
skillful people and put them to work on temporary assignments for our
customers, making our primary revenue drivers billable hours and hourly bill
rates. Although we employ fewer billable employees in Technology Services and
those employees tend to work on longer assignments at higher pay rates, in each
of our businesses we generate revenue primarily by billing our customers based
on pre-agreed bill rates for the number of hours that each of our associates
works on assignment. We describe the types of business that we do for our
customers as either retail or vendor-on-premise (VOP) business. Our retail
business includes our smaller accounts and involves more local relationship
building and selling. Our VOP business tends to be our larger accounts or
business with larger customers that may have needs in multiple cities. Most of
our billings are on a time and materials basis. We also provide permanent
placement services to certain of our customers primarily in Staffing Services,
which results in fee revenue to us generally based on a percentage of the
candidates first year salary. Direct costs of services are our actual costs related to our billable
employees and include the pay rate and payroll taxes, benefits and insurance
costs and other similar expenses. Gross margin is influenced by the
utilization rate for each billable employee, our business mix, seasonal trends
as we move through each calendar year and our ability to manage other
employment related costs, such as workers compensation costs. The Technology
Services business is affected by the timing of holidays and seasonal vacation
patterns, generally resulting in lower revenues and gross margins in the fourth
quarter of each year. The Staffing Services business is also subject to the
seasonal impact of summer and holiday employment trends. Typically, the
Staffing Services business is stronger in the second half of each calendar year
than in the first half. EXECUTIVE OVERVIEW We
believe our revenue trends in the first six months of 2004 continue to provide
evidence of the slightly improving economy. Consistent with normal seasonal influences,
Staffing Services revenues continued to strengthen in the second quarter of
2004. Technology Servicess net billable headcount remained fairly constant
during the quarter. Although significant increases in state unemployment
insurance rates, workers compensation costs and increased medical costs had
unfavorable impacts on profits in both divisions, we believe that our first
half results have positioned the Company well for the balance of the year.
However, our second half results for Staffing Services will be negatively
impacted by the loss of certain key customers as discussed further below. In April 2003, we completed a comprehensive financial restructuring in
which we converted $109.7 million of outstanding 5.75%
convertible subordinated notes due 2004 to equity and
refinanced our senior revolving credit facility. The credit facility, as
amended in connection with the financial restructuring, now provides for a
$70.7 million revolving line of credit due November 1, 2004, subject to a
maturity date extension through May 1, 2005 if we are in
compliance with our covenants. As the result 15




---



##### 



of the debt elimination produced by the restructuring and the accounting
treatment requiring the deferred gain related to the senior debt to be
amortized into interest over the term of our credit facility, we greatly
reduced our interest expense from $5.1 million in the first half of 2003 to
$0.5 million for the first half of 2004. In connection with the restructuring,
we also effected a 1-for-25 reverse stock split of our common stock. All
common stock share and per share amounts contained in this report, including
the number of shares of common stock issued in connection with our financial
restructuring, have been restated to reflect this reverse stock split as if it
had occurred at the beginning of the periods presented. On July 19, 2004, we entered into a merger agreement with COMSYS
Information Technology Services, Inc., its parent corporation, COMSYS Holding,
Inc. (together with its subsidiaries, COMSYS), and each
holder of capital stock of COMSYS Holding, Inc. party thereto. This merger
agreement contemplates that a newly formed subsidiary of our corporation will
merge with and into COMSYS Holding, Inc., and COMSYS will continue as the surviving entity
and will be one of our wholly owned subsidiaries. In the merger, the
stockholders of COMSYS will receive new shares of our common stock, and holders
of shares of our common stock held immediately prior to the merger will
continue to hold their shares immediately after the merger. The completion of
the merger is subject to several conditions, including approval by our
stockholders, the availability of financing for the combined company, the expiration or termination of the applicable waiting period
under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended, and
the sale of the Staffing Services business, either on the terms described below
or on other terms acceptable to COMSYS. Upon completion of the merger, the
stockholders of COMSYS will own in the aggregate approximately 55.4% of the
common stock of the combined company, on a fully diluted basis, subject to
certain adjustments set forth in the merger agreement. The merger is intended
to qualify as a tax-free reorganization under the Internal Revenue Code of
1986, as amended. In addition, on July 19, 2004, we entered into a stock purchase agreement
with Compass CS Inc. (or, Compass) pursuant to which we agreed to sell the
Staffing Services business to Compass for $30.3 million in cash. We expect the
sale transaction to yield approximately $25.5 million in cash proceeds, after
expenses of the transaction and payment of certain retained liabilities of the
Staffing Services business. The completion of the sale of the Staffing
Services business is subject to several conditions, including the simultaneous
completion of the merger and the approval of the sale by our stockholders as
well as each beneficial owner of 5% or more of our common stock. The purchaser
in this transaction, Compass, is affiliated with The Compass Group
International LLC, the parent entity of two of our significant stockholders. A
member of our board of directors is a director of Compass CS, as well as a
principal of The Compass Group International LLC. In connection with the merger agreement, we entered into an amendment to
our Amended and Restated Rights Agreement dated as of April 14, 2003. The
amendment generally provides that the Rights (as defined in the Amended and
Restated Rights Agreement) will not become exercisable as a result of execution
of the merger agreement and completion of the transactions contemplated by the
merger agreement. The amendment also provides that the Amended and Restated
Rights Agreement will terminate immediately prior to the effective time of the
merger. 16




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##### 



RESULTS OF OPERATIONS Quarter Ended June 27, 2004 Versus Quarter Ended June 29, 2003 Operating Results Revenues
increased 11.4% to $136.5 million in the second quarter of
2004 from $122.5 million in the second quarter of 2003. Direct costs,
consisting of payroll and related expenses of consultants and temporary
workers, increased 12.3% to $107.7 million in the second quarter of 2004 on the
higher revenues and increases in state unemployment taxes and workers
compensation and medical costs. Gross profit increased 8.1% to $28.8 million
primarily on the higher revenues. Gross profit as a percentage of
revenues decreased to 21.1% in the second quarter of 2004 from 21.7% in the second
quarter of 2003, primarily as the result of higher state unemployment tax rates
and increased workers compensation and medical costs. Operating expenses, consisting of selling, general and administrative
expenses and depreciation and amortization expense, decreased 0.3% to $25.4
million in the second quarter of 2004 from $25.5 million in the second quarter
of 2003. This decrease was primarily due to the Companys continuing
aggressive cost management program, offset by increases in its state
unemployment tax rates and medical costs. As a percentage of revenues,
selling, general and administrative expenses decreased to 17.8% in the second
quarter of 2004 from 19.7% in the second quarter of 2003. In addition,
depreciation and amortization expense decreased to 0.8% of revenues in the
second quarter of 2004 from 1.1% in the second quarter of 2003. Technology Services Division Technology
Services revenues increased 13.1% to $67.7 million in the
second quarter of 2004 from $59.8 million in the second quarter of 2003.
Technology Services billable consultants on assignment increased only slightly
for the quarter from approximately 1,980 at the end of the first quarter to
1,987 at the end of the second quarter of 2004. The following table summarizes the
quarterly revenue and billable headcount (as of the end of each period) for the
Technology Services operations for the second quarter of 2004 and 2003
(revenues in thousands): 2004
    
    2003Q2
    
    Q2Revenues
    
    $
    67,679
    
    
    $
    59,829Billable headcount
    
    
    1,987
    
    
    
    1,800
 We are encouraged by our revenue trends in the first half of 2004, but the
Company cannot assure you that Technology Services revenues will continue to
increase if the broader economy strengthens or other uncertainties subside. Gross margin percentage in Technology Services was 22.7% for the second
quarter of 2004, down 100 basis points from the second quarter of 2003,
primarily as a result of the higher state unemployment tax rates. We believe
our gross margins are stabilizing after several years of margin compression
from customer pressure on bill rates and a market driven shift in mix of
business away from higher margin new systems development work. Operating
income rose to $3.6 million, or 5.4% of revenues, for the Technology Services
operations in the second quarter of 2004 compared to $2.5 million, or 4.3% of
revenues, in the second quarter of 2003, primarily due to our ongoing efforts
to aggressively manage costs. 17




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##### 



Staffing Services Division Staffing Services revenues increased 9.8% to $68.8 million in the second
quarter of 2004 primarily due to improvement in the retail component of the
Companys temporary staffing business and permanent placement revenues, which
were partially offset by a decline in the Companys VOP business. Operating
income rose to $3.1 million, or 4.6% of revenues, for the Staffing Services
operations in the second quarter of 2004, up from $2.2 million, or 3.5% of
revenues, in the second quarter of 2003. The following table summarizes the
quarterly revenues and billable hours for the Staffing Services operations for
the second quarter of 2004 and 2003 (in thousands): 2004
    
    2003Q2
    
    Q2Revenues
    
    $
    68,815
    
    
    $
    62,680Billable hours
    
    
    3,998
    
    
    
    3,691
 The change in business mix discussed above also impacts the divisions
gross margins, as the VOP business typically carries higher volume and lower
gross margins compared to the higher margin retail and permanent placement
business. The following table summarizes the quarterly business mix for the
Staffing Services division for the second quarter of 2004 and 2003: 2004
    
    2003Q2
    
    Q2Retail
    
    
    64.4
    %
    
    
    60.7
    %VOP
    
    
    32.9
    %
    
    
    37.0
    %Permanent placement
    
    
    2.7
    %
    
    
    2.3
    %Total
    
    
    100.0
    %
    
    
    100.0
    %
 The Company expects to see moderate improvements in demand for its
commercial staffing services, including our retail and permanent placement
operations, for the remainder of 2004 if the predicted employment and economic
environment strengthen. However, Staffing Services will be adversely affected
by the loss of certain key customers which will principally begin to affect our
results in the third quarter. This impact relates to two customers that
accounted for approximately 4.1% and 7.3% of our Staffing Services revenues in
the first six months of 2004 and the last six months of 2003, respectively. Goodwill Impairment Subsequent to March 28, 2004, the Company entered into substantive
negotiations with Compass for the sale of its Staffing Services division. The
negotiations were concluded in July 2004. As further discussed above under
Executive Overview, the sale of Staffing Services pursuant to the stock
purchase agreement will occur only if the Companys merger transaction with
COMSYS is consummated. Based on the estimated proceeds to be received in
connection with the stock purchase agreement, the Company recognized an
impairment loss of $41.7 million associated with Staffing Services goodwill in
the second fiscal quarter of 2004. The primary reasons for impairment were,
among other factors, the downward adjustment in projected results of the
Staffing Services division, caused in part by the loss of certain key
customers, and increased discounting of those future results based on the current
assessment of risk inherent in the business. Restructuring and Rationalization Charges During the years 2001 through 2003, the Company implemented a plan to
restructure and rationalize certain operations. In the second quarter of 2003,
the Company recorded charges totaling $2.0 million, primarily related to lease
termination and employee severance costs. Following is a summary of the accrued liability for cash restructuring and
rationalization charges for the three months ended June 27, 2004 (in
thousands): 18




---



##### 



Employee
    
    LeaseSeverance
    
    Costs
    
    TotalAccrued liability at March 28, 2004
    
    $
    6
    
    
    $
    4,208
    
    
    $
    4,214Cash payments
    
    
    
    
    
    
    (452
    )
    
    
    (452
    )Accrued liability at March 28, 2004
    
    $
    6
    
    
    $
    3,756
    
    
    $
    3,762
 Of the remaining accrued liability at June 27, 2004, the Company expects
to pay approximately $1.6 million over the next 12 months and the balance,
primarily lease payments, over the following seven years. Stock Option Compensation Expense (Income) Stock option compensation expense (income) represents the non-cash charge
associated with certain stock options that were issued within a six-month
period after cancellation of old stock options and subsequently are accounted
for as variable stock options under FASB Interpretation No. 44 (FIN 44),
Accounting for Certain Transactions involving Stock Compensation. The share
price at June 27, 2004 was lower than the share price at the end of the first
quarter, resulting in a small income adjustment in the second quarter of 2004.
We expect to continue to record adjustments to income from stock option
compensation in future periods due to continued vesting of such stock options
and any subsequent changes in the price of our common stock. Interest Expense Interest expense decreased 59.7% to $0.3 million in the second quarter of
2004 from $0.7 million in the second quarter of 2003, primarily as a result of
the comprehensive financial restructuring completed in April 2003. The
reported interest expense of $0.3 million for the second quarter of 2004 is net
of amortization of deferred gain on financial restructuring of $1.0 million.
The average interest rate on borrowings was 8.4% in the second quarter of 2004,
up 80 basis points from the second quarter of 2003. Gain on Financial Restructuring, Net The gain on financial restructuring that resulted from the conversion of
$109.7 million of the Companys 5.75% convertible
subordinated notes to equity is net of professional
fees incurred in connection with the financial restructuring. Fees incurred in
the second quarter of 2003 totaled $1.5 million, and all prior year costs were
previously classified in restructuring and rationalization charges. These fees
have been reclassified for all periods presented. Provision (Benefit) for Income Taxes The Company recorded an income tax benefit of $0.9 million in the second
quarter of 2004, comprised of a non-cash deferred income tax benefit related to
the goodwill impairment charge recorded in the second quarter offset by a 15%
effective tax rate related to its operating income. The estimated effective
tax rate of 15% in the second quarter of 2004 was lower than the U.S. federal
statutory rate of 35% primarily due to the impact of non-deductible expenses
and the provision of valuation allowances against deferred income tax assets.
No provision or benefit for income taxes was recorded in the second quarter of
2003 since the gain from the financial restructuring will not be subject to
income tax and the Company had incurred operating losses which can be carried
forward to offset future taxable income. Because of the changes in ownership of
the Company that occurred in connection with the financial restructuring on
April 14, 2003, the utilization of net operating losses generated prior to that
date will not be available to offset future taxable income. The
Company has deferred tax assets relating to deductible temporary
differences and NOL carryforwards generated since April 14, 2003 which are
fully reserved through a valuation allowance to the extent they are not offset
by deferred tax liabilities. 19




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##### 



Six Months Ended June 27, 2004 Versus Six Months Ended June 29, 2003 Operating Results Revenues
increased 9.3% to $265.8 million in the first half of 2004
from $243.2 million in the first half of 2003. Direct costs, consisting of
payroll and related expenses of consultants and temporary workers, increased
10.1% to $210.8 million in the first half of 2004 on the higher revenues.
Gross profit increased 6.2% to $54.9 million primarily on the higher revenues.
Gross profit as a percentage of revenues decreased to 20.7% in the first six
months of 2004 from 21.3% in the first six months of 2003, primarily as the
result of higher state unemployment tax rates and increased workers
compensation and medical costs. Operating expenses, consisting of selling, general and administrative
expenses and depreciation and amortization expense, decreased 3.2% to $50.6
million in the first half of 2004 from $52.2 million in the first half of 2003.
This decrease was primarily due to the Companys aggressive cost management
program, offset by increases in its state unemployment tax rates and medical
costs. As a percentage of revenues, selling, general and administrative
expenses decreased to 18.2% in the first half of 2004 from 20.3% in the first
half of 2003. In addition, depreciation and amortization expense decreased to
0.8% of revenues in the first six months of 2004 from 1.1% in the first six
months of 2003. Technology Services Division Technology Services revenues increased 12.3% to $135.2 million in the
first six months of 2004 from $120.4 million in the first six months of 2003.
Technology Services billable consultants on assignment began to climb again
early in 2004, and increased from approximately 1,950 at year-end 2003 to 1,987
at the end of the second quarter of 2004. The following table summarizes the quarterly
revenue and billable headcount (as of the end of each period) for the
Technology Services operations for the first six months of 2004 and 2003
(revenues in thousands): 2004
    
    
    
    
    
    
    
    
    
    2003Q1
    
    Q2
    
    YTD
    
    Q1
    
    Q2
    
    YTDRevenues
    
    $
    67,478
    
    
    $
    67,679
    
    
    $
    135,157
    
    
    $
    60,559
    
    
    $
    59,829
    
    
    $
    120,388Billable headcount
    
    
    1,980
    
    
    
    1,987
    
    
    
    N/A
    
    
    
    1,830
    
    
    
    1,800
    
    
    
    N/A
 We are encouraged by the revenue trends in the first half of 2004, but the
Company cannot assure you that Technology Services revenues will continue to
increase if the broader economy strengthens or other uncertainties subside. Gross margin percentage in Technology Services was 22.3% for the first
half of 2004, down 60 basis points from the first half of 2003, primarily as a
result of the higher state unemployment tax rates. We believe our gross
margins are stabilizing after several years of margin compression from customer
pressure on bill rates and a market driven shift in mix of business away from
higher margin new systems development work. Operating income rose to $6.4
million, or 4.8% of revenues, for the Technology Services operations in the
first half of 2004 compared to $3.8 million, or 3.1% of revenues, in the first
half of 2003, primarily due to our ongoing efforts to aggressively manage
costs. Staffing Services Division Staffing Services revenues increased 6.3% to $130.6 million in the first
half of 2004 primarily due to improvement in the retail component of the
Companys temporary staffing business and permanent placement revenues, which
were partially offset by a decline in the Companys VOP business. Operating
income rose to
$4.9 million, or 3.8% of revenues, for the Staffing Services operations in
the first half of 2004, up from $3.2 20




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##### 



million, or 2.6% of revenues, in the first
half of 2003. The following table summarizes the quarterly revenues and
billable hours for the Staffing Services operations for the first six months of
2004 and 2003 (in thousands): 2004
    
    
    
    
    
    
    
    
    
    2003Q1
    
    Q2
    
    YTD
    
    Q1
    
    Q2
    
    YTDRevenues
    
    $
    61,778
    
    
    $
    68,815
    
    
    $
    130,593
    
    
    $
    60,157
    
    
    $
    62,680
    
    
    $
    122,837Billable hours
    
    
    3,568
    
    
    
    3,998
    
    
    
    7,566
    
    
    
    3,574
    
    
    
    3,691
    
    
    
    7,265
 The change in business mix discussed above also impacts the divisions
gross margins, as the VOP business typically carries higher volume and lower
gross margins compared to the higher margin retail and permanent placement
business. The following table summarizes the quarterly business mix for the
Staffing Services division for the first half of 2004 and 2003: 2004
    
    
    
    
    
    
    
    
    
    2003Q1
    
    Q2
    
    YTD
    
    Q1
    
    Q2
    
    YTDRetail
    
    
    63.5
    %
    
    
    64.4
    %
    
    
    64.0
    %
    
    
    60.6
    %
    
    
    60.7
    %
    
    
    60.6
    %VOP
    
    
    33.9
    %
    
    
    32.9
    %
    
    
    33.4
    %
    
    
    37.4
    %
    
    
    37.0
    %
    
    
    37.2
    %Permanent placement
    
    
    2.6
    %
    
    
    2.7
    %
    
    
    2.6
    %
    
    
    2.0
    %
    
    
    2.3
    %
    
    
    2.2
    %Total
    
    
    100.0
    %
    
    
    100.0
    %
    
    
    100.0
    %
    
    
    100.0
    %
    
    
    100.0
    %
    
    
    100.0
    %
 Goodwill Impairment Based on the estimated proceeds to be received in connection with the
Companys stock purchase agreement, the Company recognized an impairment loss
of $41.7 million associated with Staffing Services goodwill in the second
fiscal quarter of 2004. See Results of Operations  Quarter Ended June 27,
2004 Versus Quarter Ended June 29, 2003  Goodwill Impairment. Restructuring and Rationalization Charges During the years 2001 through 2003, the Company implemented a plan to
restructure and rationalize certain operations. In the first half of 2003, the
Company recorded charges totaling $2.1 million, primarily related to lease
termination costs and employee severance costs. Following is a summary of the accrued liability for cash restructuring and
rationalization charges for the six months ended June 27, 2004 (in thousands): Employee
    
    LeaseSeverance
    
    Costs
    
    TotalAccrued liability at December 28, 2003
    
    $
    26
    
    
    $
    4,733
    
    
    $
    4,759Cash payments
    
    
    (20
    )
    
    
    (525
    )
    
    
    (545
    )Accrued liability at March 28, 2004
    
    
    6
    
    
    
    4,208
    
    
    
    4,214Cash payments
    
    
    
    
    
    
    (452
    )
    
    
    (452
    )Accrued liability at June 27, 2004
    
    $
    6
    
    
    $
    3,756
    
    
    $
    3,762
 Of the remaining accrued liability at June 27, 2004, the Company expects
to pay approximately $1.6 million over the next 12 months and the balance,
primarily lease payments, over the following seven years. Interest Expense Interest expense decreased 90.4%, to $0.5 million in the first six months
of 2004 from $5.1 million in the first six months of 2003, primarily as a
result of the comprehensive financial restructuring completed in April 2003.
The reported interest expense of $0.5 million for the first six months of 2004
is net of 21




---



##### 



amortization of deferred gain on financial restructuring of $2.0
million. The average interest rate on borrowings was 8.4% in the first six
months of 2004, up 100 basis points from the first six months of 2003. Gain on Financial Restructuring, Net The gain on financial restructuring that resulted from the conversion of
$109.7 million of the Companys 5.75% convertible
subordinated notes to equity is net of professional
fees incurred in connection with the financial restructuring. Fees incurred in
the first six months of 2003 totaled $3.0 million, and all prior year costs
were previously classified in restructuring and rationalization charges. These
fees have been reclassified for all periods presented. Provision (Benefit) for Income Taxes The Company recorded an income tax benefit of $0.9 million in the first
six months of 2004, comprised of a non-cash deferred income tax benefit related
to the goodwill impairment charge recorded in the second quarter offset by a
15% effective tax rate related to its operating income. The estimated
effective tax rate of 15% in the first six months of 2004 was lower than the
U.S. federal statutory rate of 35% primarily due to the impact of
non-deductible expenses and the provision of valuation allowances against
deferred income tax assets. No provision or benefit for income taxes was
recorded in the first half of 2003 since the gain from the financial
restructuring will not be subject to income tax and the Company had incurred
operating losses which can be carried forward to offset future taxable income.
Because of the changes in ownership of the Company that occurred in connection
with the financial restructuring on April 14, 2003, the utilization of net
operating losses generated prior to that date will not be available to offset
future taxable income. The Company has deferred tax assets relating to
deductible temporary differences and NOL carryforwards generated since April
14, 2003 which are fully reserved through a valuation allowance to the extent
they are not offset by deferred tax liabilities. LIQUIDITY AND CAPITAL RESOURCES Overview Revenues
in Technology Services and Staffing Services improved in
the first six months of 2004 as compared to the first six months of
2003, and we expect improvements in demand for our services to continue in 2004 in light of
the slightly improving, but somewhat uncertain, economic climate. In light of these
expectations, we have continued our focus on aggressive management of expenses,
limiting capital expenditures to only the highest priority projects and
managing our accounts receivable very closely. As a result of the reduced need
for working capital and these priorities, our cash needs were lower in the
first six months of 2004 than in the same period in prior years and should be only moderately
higher for quarterly periods in the next 12 months. Prior to the comprehensive financial restructuring in April 2003, our
primary sources of cash were cash from operations and income tax refunds. As a
result of the completion of the financial restructuring and the related
execution of amendments and maturity date extensions to the
Companys revolving credit facility (the Credit
Facility), the Companys sources of cash now also include available borrowings under the
Credit Facility. At June 27, 2004, we had $12.7 million of available
borrowings under the Credit Facility. Our principal uses of cash are to repay
debt, fund working capital and meet our requirements for capital
expenditures. We believe, subject to the conditions and
contingencies described in Debt Compliance and Forward-Looking Information, that cash flow from
operations, borrowings under our Credit Facility and the proceeds of additional
debt or equity offerings will be adequate to meet our ongoing debt repayment
objectives and needs for working capital and capital expenditures. In connection with our financial restructuring, the Company used
substantially all of its cash on hand, after payment of transaction expenses,
to repay $38.0 million outstanding under its Credit Facility and eliminated an
additional $120.0 million of its outstanding indebtedness. These actions
resulted in substantial reductions in the Companys interest expense. The
Credit Facility, as amended in connection with the financial restructuring, 22




---



##### 



now
provides for a $70.7 million revolving line of credit due November 1, 2004,
subject to a maturity date extension through May 1, 2005 if the Company is in
compliance with its covenants. The Company paid $0.4 million on April 30, 2004
to extend the Credit Facility from May 1, 2004 through November 1, 2004.
Availability of borrowings under the Credit Facility is subject to a borrowing
base calculated as specified percentages of the Companys eligible accounts
receivable (as defined) in the aggregate. The Credit Facilitys covenants
include a requirement for monthly maintenance of cumulative EBITDA levels and
an interest coverage ratio (both as defined in the amended agreement). The
Credit Facility also contains restrictions on the payment of cash dividends on
the Companys capital stock and places additional limitations on share
repurchases, acquisitions and capital expenditures. Interest rates payable
under the Credit Facility are set at prime plus 450 basis points through
December 2004 and at prime plus 500 basis points through May 1, 2005. The Company is subject to periodic review by federal, state and local
taxing authorities in the ordinary course of business, and is currently engaged
in certain audits that may result in assessments for certain deficiencies. In
any of these cases or in other audits of our income, payroll or other tax
returns, the appropriate taxing authority could challenge certain tax positions
that we have taken and propose adjustments that could result in assessments for
additional taxes payable, together with penalties and interest. The Company
believes that its tax positions comply with applicable tax laws and we would
vigorously defend these positions if challenged. In addition, although the
Company believes that it has adequately accrued for any foreseeable payments
resulting from tax examinations, there can be no assurance that any such
additional taxes, penalties or interest payable would not have a material
effect on the Companys liquidity or financial condition. Six Months Ended June 27, 2004 Versus June 29, 2003 The following table summarizes our cash flow activity for the six months
ended June 27, 2004 and June 29, 2003 (in thousands): Six months endedJune 27,
    
    June 29,2004
    
    2003Net cash provided by operating activities
    
    $
    384
    
    
    $
    24,684Net cash used in investing activities
    
    
    (282
    )
    
    
    (505
    )Net cash used in financing activities
    
    
    (569
    )
    
    
    (42,627
    )Net decrease in cash and cash equivalents
    
    $
    (467
    )
    
    $
    (18,448
    )
 For the six months ended June 27, 2004, cash provided by operating
activities was $0.4 million compared with $24.7 million in the first six months
of 2003, primarily due to the income tax refunds received in 2003. In the
first six months of 2004, cash was used for accounts receivable due to
increasing business activity levels, offset somewhat by a reduction in days
sales outstanding. In the aggregate, days sales outstanding decreased to 48
days at June 27, 2004 from 51 days at December 28, 2003. Cash used in
investing activities related to the Companys capital spending and was $0.3
million in the first six months of 2004
compared with $0.5 million during the first six months of 2003. Cash used
in financing activities was $0.6 million in the first six months of 2004,
compared to $42.6 million in the first six months of 2003 as the Company used
substantially all of its cash on hand to pay down the Credit Facility in
connection with the financial restructuring in April 2003. The Company had accrued restructuring and rationalization charges of $3.8
million at June 27, 2004 and expects to pay approximately $1.6 million of such
charges during the next 12 months and the balance, primarily lease payments,
over the following seven years. 23




---



##### 



Debt Compliance The Companys ability to continue operating is largely dependent upon its
ability to maintain compliance with the financial covenants of the Credit
Facility. The financial covenants include a cumulative monthly EBITDA
requirement and a monthly interest coverage ratio (both as defined). The
amended Credit Facility defines consolidated EBITDA as consolidated net income
before interest expense, income taxes, depreciation and amortization, non-cash
impairment charges, restructuring and rationalization charges, professional
fees relating to the debt restructuring and non-cash compensation expense for
the stock options. For 2003 and the first six months of 2004, the Company
complied with these covenants. Based on the Companys fiscal 2004 projections,
which reflect slightly improving economic conditions, management believes the
Company will be able to maintain compliance with the financial covenants for
the remainder of the credit facility term. The Company also believes that the
operating trends in the first six months of 2004 support the key assumptions in
its operating plan. However, there can be no assurance that the economy or the
Company will perform as expected or that further economic declines will not
adversely impact the Companys results of operations or its ability to comply
with the financial covenants. Additionally, while the Company believes
financial results in 2004 will be better than 2003 results, in the event that
economic conditions weaken and/or the Companys 2004 results fall below 2003
levels, the Company may not meet these financial covenants. If the Company
does violate future covenants, it would seek waivers and amendments from its
lenders, but can give no assurance that any such waivers and amendments would
be available at all or on acceptable terms. If the Company were unable to
obtain a waiver of future covenant violations, the lenders would be entitled to
require immediate repayment of all amounts outstanding under the Credit
Facility. In the event of a default, the Companys ongoing viability would be
seriously threatened, and it would be forced to evaluate a number of strategic
alternatives, including a further debt restructuring or other reorganization,
the closure of certain operating locations or the sale of certain or all of its
assets in order to continue to fund its operations. In the event that we
attempted to sell assets in order to continue to fund our operations, there can
be no assurance that the proceeds of any such sales would be sufficient to
satisfy the Companys liabilities. If we complete the proposed merger with COMSYS, we will refinance our and
COMSYS current debt with a portion of the proceeds of a new $183 million
secured credit facility. Absent the merger, our ability to repay or to
refinance our current debt would depend on our future operating performance,
which could in turn be affected by general economic, financial, competitive,
regulatory, business and other factors beyond our control, including those
discussed elsewhere in this document. Based on preliminary discussions we have
had over the last several months with other prospective lenders about
refinancing our senior credit facility, we believe that our ability to
refinance our existing debt in light of our current financial position will be
very limited unless we are able to make significant changes to our capital
structure. In addition, we cannot assure you that future borrowings or equity
financing would be available for the payment or refinancing of this debt. If
we were unable to service this debt, whether in the ordinary course of business
or upon acceleration, we would be forced to pursue one or more alternative
strategies, including restructuring or refinancing debt, selling assets,
reducing or delaying capital expenditures or seeking additional equity capital.
There can be no assurances that any of these strategies could be executed on
satisfactory terms, if at all. The Companys common stock has traded since May 13, 2004 on The NASDAQ
National Market under the symbol (NASDAQ:VENP). CONTRACTUAL AND COMMERCIAL COMMITMENTS During the first quarter of 2004, we entered into a significant new lease
agreement for our corporate offices with rent (approximately $0.3 million per
year and escalating annually) commencing December 1, 2004 and ending December
31, 2014. FORWARD-LOOKING INFORMATION In addition to historical information, this report, including
Managements Discussion and Analysis of Financial Condition and Results of
Operations, contains certain statements that are forward-looking statements
regarding events and financial trends that may affect the Companys future
operating results or financial position. These statements may be identified by
words such as estimate, forecast, plan, intend, believe, should,
expect, anticipate, or variations or negatives thereof, or by similar or
comparable words or phrases. Forward-looking statements are subject to risks
and uncertainties that could cause actual results to differ materially from
those expected in such statements. These risks and uncertainties include, but
are not limited to, the following:  
    
    changes in levels of unemployment and other economic
conditions in the United States, or in particular regions or
industries; 24




---



##### 




    
    changes or reductions in corporate information technology
spending levels;  
    
    our ability to maintain existing client relationships and
attract new clients in the context of changing economic or
competitive conditions;  
    
    the impact of competitive pressures, including any change in
the demand for our services, or our ability to maintain or improve
our operating margins;  
    
    a federal, state or local government audit of our income,
payroll or other tax returns and the risk that assessments for
additional taxes, penalties and interest could be levied against the
Company, which could affect our liquidity;  
    
    the entry of new competitors into the marketplace or
expansion by existing competitors;  
    
    the Companys success in attracting, training and retaining
qualified management personnel and other staff employees;  
    
    reductions in the supply of qualified candidates for
temporary employment or our ability to attract qualified candidates;  
    
    the possibility of the Company incurring liability for the
activities of our temporary employees or for events impacting our
temporary employees on clients premises;  
    
    the risk in an uncertain economic environment of increased
incidences of employment disputes, employment litigation and
workers compensation claims;  
    
    the risk that further cost cutting or restructuring
activities undertaken by the Company could cause an adverse impact
on certain of our operations;  
    
    further economic declines that could affect our liquidity or
ability to comply with our loan covenants;  
    
    the risks of defaults under the Companys credit agreements;  
    
    our ability to obtain financing or refinancing on
favorable terms;  
    
    adverse changes to managements periodic estimates of future
cash flows that may affect our assessment of our ability to fully
recover our goodwill;  
    
    whether governments will impose additional regulations or
licensing requirements on staffing services businesses in particular
or on employer/employee relationships in general;  
    
    our ability to obtain the stockholder and regulatory
approvals required for the merger contemplated with COMSYS and the
sale of the Staffing Services business;  
    
    the impact of uncertainty surrounding the merger and sale of
the Staffing Services business on the business of our Company;  
    
    the impact of delays in satisfying the conditions to the
transactions, including the right of COMSYS to terminate the merger
agreement if the merger is not completed by December 31, 2004, and
of Compass to terminate the stock purchase agreement if the sale of
the Staffing Services business is not completed by October 31, 2004;  
    
    uncertainties regarding the net cash proceeds of the sale of
the Staffing Services business and the right of COMSYS under the
merger agreement to elect not to proceed with the merger if the net
cash proceeds are not at least $25 million; and  
    
    other matters discussed in this report and the Companys
other SEC filings. Because long-term contracts are not a significant part of our business, future
results cannot be reliably predicted by considering past trends or
extrapolating past results. We undertake no obligation to update
forward-looking information contained in this report. 
 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Our outstanding debt under the Credit Facility at June 27, 2004, was $50.0
million. Interest on borrowings under that facility was based on the prime
rate plus a variable margin. Based on the outstanding balance at June 27,
2004, a change of 1% in the interest rate would cause a change in interest
expense of approximately $0.5 million on an annual basis. 25




---



##### 



ITEM 4. CONTROLS AND PROCEDURES Based on their evaluation as of the end of the period covered by this Form
10-Q, the Companys Chief Executive Officer and Chief Financial Officer have
concluded that the Companys 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)) are effective to provide reasonable assurance that information
required to be disclosed by the Company in reports that it files or submits
under the Exchange Act is recorded, processed, summarized and reported within
the time periods specified in Securities and Exchange Commission rules and
forms. There were no changes in the Companys internal controls over financial
reporting that occurred during the Companys second fiscal quarter that have
materially affected, or are reasonable likely to materially affect, the
Companys internal control over financial reporting. It should be noted that while the Companys management, including the
Chief Executive Officer and the Chief Financial Officer, believe that the
Companys disclosure controls and procedures provide a reasonable level of
assurance, they do not expect that the disclosure controls and procedures or
internal controls will prevent all errors and all fraud. A control system, no
matter how well conceived or operated, can provide only reasonable, not
absolute, assurance that the objectives of the control system are met.
Further, the design of a control system must reflect the fact that there are
resource constraints, and the benefits of controls must be considered relative
to their costs. Because of the inherent limitations in all control systems, no
evaluation of controls can provide absolute assurance that all control issues
and instances of fraud, if any, within the Company have been detected. These
inherent limitations include the realities that judgments in decision-making
can be faulty, and that breakdowns can occur because of simple error or
mistake. Additionally, controls can be circumvented by the individual acts of
some persons, by collusion of two or more people, or by management override of
the controls. The design of any system of controls is based in part upon
certain assumptions about the likelihood of future events, and there can be no
assurance that any design will succeed in achieving its stated goals under all
potential future conditions; over time, controls may become inadequate because
of changes in conditions, or the degree of compliance with the policies or
procedures may deteriorate. Because of the inherent limitations in a
cost-effective control system, misstatements due to error or fraud may occur
and not be detected. 
 PART II - OTHER INFORMATION 
 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K  (a)
    
    Exhibits - The exhibits filed with or incorporated by
reference into this Form 10-Q are set forth in the Exhibit Index,
which immediately precedes the exhibits to this report.(b)
    
    Reports on Form 8-K The Company furnished a report on Form 8-K on April 30, 2004,
announcing the Companys financial results for the quarter ended
March 28, 2004.The Company filed a report on Form 8-K on May 13, 2004, announcing
that its shares will begin trading on the NASDAQ National Market
under the trading symbol VENP. 26




---



##### 



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. VENTURI PARTNERS, INC.
(Registrant)Date: August 10, 2004
    By:
    /s/ Larry L. EnterlineLarry L. EnterlineChairman and Chief Executive Officer Date: August 10, 2004
    By:
    /s/ James C. HuntJames C. HuntPresident and Chief Financial Officer 27




---



##### 



EXHIBIT INDEX Filed or FurnishedHerewith(*), orIncorporated byReference fromExhibit
    
    
    
    Previous Exhibit
    
    Company Reg. No.Number
    
    Description
    
    Number
    
    or Report3.1
    
    Restated
Certificate of
Incorporation of
the Company
    
    
    99.2
    
    
    8-K filed 8/5/033.2
    
    Certificate of
Designation,
Preferences and
Rights of Series A
Junior
Participating
Preferred Stock
    
    
    99.6
    
    
    8-K filed 4/25/033.4
    
    Amended and
Restated Bylaws of
the Company
    
    
    99.7
    
    
    8-K filed 4/25/0331.1
    
    Rule
13a-14(a)/15d-14(a)
Certification of
Larry L. Enterline,
Chief Executive
Officer of the
Company
    
    
    *31.2
    
    Rule
13a-14(a)/15d-14(a)
Certification of
James C. Hunt,
Chief Financial
Officer of the
Company
    
    
    *32.1
    
    Section 1350
Certification of
Larry L. Enterline,
Chief Executive
Officer of the
Company
    
    
    *32.2
    
    Section 1350
Certification of
James C. Hunt,
Chief Financial
Officer of the
Company
    
    
    *
 28