**UNITEDSTATES SECURITIES AND EXCHANGE COMMISSION**

 

**Washington,D.C.  20549**

**FORM 10-Q**

 

**QUARTERLY REPORT PURSUANT TO SECTION13 OR 15(d) OF THE**

**SECURITIES EXCHANGE ACT OF 1934**

 

**Forthe quarterly period ended June 30, 2003**

**CommissionFile No. 0-20947**

 

| **ON-SITE  SOURCING, INC.**                                                         |
|-------------------------------------------------------------------------------------|
| (Exact name of registrant as specified in  its charter)                             |
|                                                                                |   |   |
| **DELAWARE**                                                                        |   | **54-1648470** |
| (State or other jurisdiction of  Incorporation or organization)                     |   | (I.R.S.   Employer Identification Number) |
|                                                                                |   |   |
| **832 North Henry Street, Alexandria,  Virginia 22314**                             |
| (Address of principal executive offices)                                            |
|                                                                                |
| **(703) 276-1123**                                                                  |
| (Registrant’s telephone number)                                                |
|                                                                                |
| **NONE**                                                                            |
| (Former name, former address and former  fiscal year, if changed since last report) |

 

Indicate by check mark whether the registrant (1) has filed all reportsrequired to be filed by Section 13 or 15(d) of the Securities Exchange Act of1934 during the preceding 12 months (or for such shorter period that theregistrant was required to file such reports), and (2) has been subject to suchfiling requirements for the past 90 days.

Yes ý  No o.

 

Indicate the number of shares outstanding of each of the issuer’sclasses of common stock, as of August 4, 2003:

 

| Common Stock, $.01 par value |   | 5,566,225 shares |
|------------------------------|--------|------------------|

 

 

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ON-SITE SOURCING, INC.

INDEX

 
| **Part I.**  |   | **Financial Information**                                                                                             |
|--------------|--------|-----------------------------------------------------------------------------------------------------------------------|
|         |   |                                                                                                                  |
| Item 1.      |   | Financial Statements:                                                                                                 |
|         |   | Balance  Sheets as of June 30, 2003 (unaudited) and December 31, 2002                                                 |
|         |   |                                                                                                                  |
|         |   | Statements of Operations for the Three and  Six Months Ended June 30, 2003 (unaudited) and 2002 (unaudited)           |
|         |   |                                                                                                                  |
|         |   | Condensed Statements of Cash Flows for the  Three and Six Months Ended June 30, 2003 (unaudited) and 2002 (unaudited) |
|         |   |                                                                                                                  |
|         |   | Notes to Financial Statements (unaudited)                                                                             |
|         |   |                                                                                                                  |
| Item 2.      |   | Management’s Discussion and Analysis of  Financial Condition and Results of Operations and Liquidity             |
|         |   |                                                                                                                  |
| Item 3.      |   | Quantitative and Qualitative Disclosures  About Market Risk                                                           |
|         |   |                                                                                                                  |
| Item 4.      |   | Controls and Procedures                                                                                               |
|         |   |                                                                                                                  |
| **Part II.** |   | **Other Information**                                                                                                 |
|         |   |                                                                                                                  |
| Item 1.      |   | Legal Proceedings                                                                                                     |
|         |   |                                                                                                                  |
| Item 2.      |   | Changes in Securities and Use of Proceeds                                                                             |
|         |   |                                                                                                                  |
| Item 3.      |   | Defaults Upon Senior Securities                                                                                       |
|         |   |                                                                                                                  |
| Item 4.      |   | Submission of Matters to a Vote of Security  Holders                                                                  |
|         |   |                                                                                                                  |
| Item 5.      |   | Other Information                                                                                                     |
|         |   |                                                                                                                  |
| Item 6.      |   | Exhibits and Reports on Form 8-K                                                                                      |

 

2

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ON-SITE SOURCING, INC.

BALANCE SHEETS

 
|                                                                                                                                                                                              |   | **June 30,  2003** |       | **December  31,  2002** |   |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|--------------------|------------|-------------------------|--------|
|                                                                                                                                                                                              |   | **(Unaudited)**    |       |                    |   |
| ASSETS                                                                                                                                                                                            |   |               |       |                    |   |
|                                                                                                                                                                                              |   |               |       |                    |   |
| CURRENT ASSETS:                                                                                                                                                                                   |   |               |       |                    |   |
| Cash                                                                                                                                                                                              |   | $                  | 4,729      |                    | $      | 4,279 |   |
| Accounts receivable, net                                                                                                                                                                          |   | 7,983,238          |       | 8,157,822               |   |
| Prepaid supplies                                                                                                                                                                                  |   | 459,103            |       | 503,693                 |   |
| Prepaid expenses                                                                                                                                                                                  |   | 294,960            |       | 288,469                 |   |
| Prepaid income taxes                                                                                                                                                                              |   | 47,173             |       | —                  |   |
| Deferred tax asset                                                                                                                                                                                |   | 104,608            |       | 104,608                 |   |
| Notes receivable                                                                                                                                                                                  |   | 24,671             |       | 48,442                  |   |
| Total current assets                                                                                                                                                                              |   | 8,918,482          |       | 9,107,313               |   |
|                                                                                                                                                                                              |   |               |       |                    |   |
| Property and equipment, net                                                                                                                                                                       |   | 13,803,193         |       | 14,894,103              |   |
|                                                                                                                                                                                              |   |               |       |                    |   |
| OTHER ASSETS                                                                                                                                                                                      |   |               |       |                    |   |
| Goodwill                                                                                                                                                                                          |   | 648,443            |       | 648,443                 |   |
| Income taxes refundable                                                                                                                                                                           |   | 136,800            |       | 606,134                 |   |
| Other assets                                                                                                                                                                                      |   | 137,069            |       | 152,767                 |   |
| Total assets                                                                                                                                                                                      |   | $                  | 23,643,987 |                    | $      | 25,408,760 |   |
|                                                                                                                                                                                              |   |               |       |                    |   |
| LIABILITIES AND STOCKHOLDERS’ EQUITY                                                                                                                                                         |   |               |       |                    |   |
|                                                                                                                                                                                              |   |               |       |                    |   |
| CURRENT LIABILITIES:                                                                                                                                                                              |   |               |       |                    |   |
| Line of credit                                                                                                                                                                                    |   | $                  | 2,321,406  |                    | $      | 2,861,414 |   |
| Current portion of long-term debt                                                                                                                                                                 |   | 7,440,129          |       | 1,101,706               |   |
| Accounts payable                                                                                                                                                                                  |   | 1,223,061          |       | 1,987,302               |   |
| Accrued and other liabilities                                                                                                                                                                     |   | 1,340,050          |       | 1,238,028               |   |
| Interest rate swap contract liability                                                                                                                                                             |   | 948,274            |       | —                  |   |
| Total current liabilities                                                                                                                                                                         |   | 13,272,920         |       | 7,188,450               |   |
|                                                                                                                                                                                              |   |               |       |                    |   |
| NONCURRENT LIABILITIES                                                                                                                                                                            |   |               |       |                    |   |
| Long-term debt, net of current portion                                                                                                                                                            |   | —             |       | 6,897,100               |   |
| Deferred rent                                                                                                                                                                                     |   | 260,503            |       | 257,747                 |   |
| Deferred tax liability                                                                                                                                                                            |   | 175,482            |       | 266,846                 |   |
| Interest rate swap contract liability                                                                                                                                                             |   | —             |       | 913,306                 |   |
| Total liabilities                                                                                                                                                                                 |   | 13,708,905         |       | 15,523,449              |   |
|                                                                                                                                                                                              |   |               |       |                    |   |
| Commitments and contingencies                                                                                                                                                                     |   |               |       |                    |   |
|                                                                                                                                                                                              |   |               |       |                    |   |
| STOCKHOLDERS’ EQUITY:                                                                                                                                                                        |   |               |       |                    |   |
| Common stock, $0.01 par value, 20,000,000 shares  authorized 5,679,815 and 5,589,240 shares issued and 5,566,225 and 5,475,650  outstanding, at June 30, 2003 and December 31, 2002, respectively |   | 56,798             |       | 55,892                  |   |
| Additional paid-in capital                                                                                                                                                                        |   | 8,024,822          |       | 7,882,313               |   |
| Other comprehensive loss                                                                                                                                                                          |   | (572,663           | )          | (551,545                | )      |
| Treasury stock (113,590 shares of common stock at  cost)                                                                                                                                          |   | (396,152           | )          | (396,152                | )      |
| Retained earnings                                                                                                                                                                                 |   | 2,822,277          |       | 2,894,803               |   |
| Total stockholders’ equity                                                                                                                                                                   |   | 9,935,082          |       | 9,885,311               |   |
| Total liabilities and stockholders’ equity                                                                                                                                                   |   | $                  | 23,643,987 |                    | $      | 25,408,760 |   |

 

The accompanying notes are an integral part of these financialstatements.

 

3

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ON-SITE SOURCING, INC.

STATEMENTSOF OPERATIONS

 
|                                 |   | **(Unaudited)**         |      | **(Unaudited)**       |   |
|--------------------------------------|--------|-------------------------|-----------|-----------------------|--------|
|                                 |   | **Three  Months Ended** |      | **Six Months  Ended** |   |
|                                 |   | **June 30,  2003**      |      | **June 30,  2002**    |   | **June 30,  2003** |   | **June 30,  2002** |   |
|                                 |   |                    |      |                  |   |   |   |   |   |
| Revenue                              |   | $                       | 9,241,608 |                  | $      | 10,314,192 |   | $ | 18,077,676 |   | $ | 19,164,427 |   |
|                                 |   |                    |      |                  |   |   |   |   |   |
| Costs and expenses:                  |   |                    |      |                  |   |   |   |   |   |
| Cost of sales                        |   | 6,109,249               |      | 5,680,992             |   | 12,136,454 |   | 11,209,851 |   |
|                                 |   | 3,132,359               |      | 4,633,200             |   | 5,941,222 |   | 7,954,576 |   |
|                                 |   |                    |      |                  |   |   |   |   |   |
| Sales and marketing                  |   | 1,127,352               |      | 1,321,339             |   | 2,202,344 |   | 2,381,144 |   |
| General and administrative           |   | 1,821,692               |      | 2,182,125             |   | 3,503,356 |   | 4,161,572 |   |
|                                 |   | 2,949,044               |      | 3,503,464             |   | 5,705,700 |   | 6,542,716 |   |
|                                 |   |                    |      |                  |   |   |   |   |   |
| Income from operations               |   | 183,315                 |      | 1,129,736             |   | 235,522 |   | 1,411,860 |   |
|                                 |   |                    |      |                  |   |   |   |   |   |
| Other income (expense):              |   |                    |      |                  |   |   |   |   |   |
| Other income (expense)               |   | 27,026                  |      | (3,734                | )      | 40,259 |   | 31,854 |   |
| Interest expense                     |   | (176,484                | )         | (219,528              | )      | (361,695 | ) | (429,334 | ) |
|                                 |   | (149,458                | )         | (223,262              | )      | (321,436 | ) | (397,480 | ) |
|                                 |   |                    |      |                  |   |   |   |   |   |
| Income (loss) before taxes           |   | 33,857                  |      | 906,474               |   | (85,914 | ) | 1,014,380 |   |
| Income tax provision (benefit)       |   | 25,544                  |      | 365,000               |   | (13,388 | ) | 352,930 |   |
|                                 |   |                    |      |                  |   |   |   |   |   |
| Net income (loss)                    |   | $                       | 8,313     |                  | $      | 541,474 |   | $ | (72,526 | ) | $ | 661,450 |   |
|                                 |   |                    |      |                  |   |   |   |   |   |
| Earnings (loss) per share:           |   |                    |      |                  |   |   |   |   |   |
| Basic                                |   | $                       | 0.00      |                  | $      | 0.10 |   | $ | (0.01 | ) | $ | 0.12 |   |
| Diluted                              |   | $                       | 0.00      |                  | $      | 0.10 |   | $ | (0.01 | ) | $ | 0.12 |   |
|                                 |   |                    |      |                  |   |   |   |   |   |
| Weighted-average shares outstanding: |   |                    |      |                  |   |   |   |   |   |
| Basic                                |   | 5,499,069               |      | 5,397,766             |   | 5,492,210 |   | 5,311,120 |   |
| Diluted                              |   | 5,542,742               |      | 5,696,192             |   | 5,492,210 |   | 5,641,182 |   |

 

The accompanying notes are an integral partof these financial statements.

 

4

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ON-SITE SOURCING, INC.

CONDENSEDSTATEMENTS OF CASH FLOWS

 
|                                    |   | **(Unaudited)**                  |      | **(Unaudited)**                |   |
|-----------------------------------------|--------|----------------------------------|-----------|--------------------------------|--------|
|                                    |   | **Three  Months Ended  June 30** |      | **Six Months  Ended  June 30** |   |
|                                    |   | **2003**                         |      | **2002**                       |   | **2003** |   | **2002** |   |
| Cash flows from operating activities:   |   |                             |      |                           |   |   |   |   |   |
| Net cash provided by operations         |   | $                                | 1,411,715 |                           | $      | 767,298 |   | $ | 1,087,277 |   | $ | 151,242 |   |
|                                    |   |                             |      |                           |   |   |   |   |   |
| Cash flows from investing activities:   |   |                             |      |                           |   |   |   |   |   |
| Acquisition of property and equipment   |   | (97,377                          | )         | (638,274                       | )      | (165,428 | ) | (1,710,741 |   |
| Receipt of payments on notes receivable |   | 17,569                           |      | 11,503                         |   | 23,771 |   | 56,756 |   |
| Proceeds from disposal of equipment     |   | 9,371                            |      | —                         |   | 10,099 |   | 15,777 |   |
|                                    |   |                             |      |                           |   |   |   |   |   |
| Net cash used in investing activities   |   | (70,437                          | )         | (626,771                       | )      | (131,558 | ) | (1,638,208 |   |
|                                    |   |                             |      |                           |   |   |   |   |   |
| Cash flows from financing activities:   |   |                             |      |                           |   |   |   |   |   |
| Proceeds from sale of common stock      |   | 116,332                          |      | 414,817                        |   | 143,415 |   | 738,497 |   |
| Payments of long-term debt              |   | (278,215                         | )         | (282,828                       | )      | (558,677 | ) | (571,860 |   |
| Borrowings under line of credit         |   | 4,201,793                        |      | 4,693,195                      |   | 9,077,203 |   | 9,846,782 |   |
| Payments on line of credit              |   | (5,380,738                       | )         | (4,965,211                     | )      | (9,617,210 | ) | (8,525,705 |   |
|                                    |   |                             |      |                           |   |   |   |   |   |
| Net cash used in financing activities   |   | (1,340,828                       | )         | (140,027                       | )      | (955,269 | ) | 1,487,714 |   |
|                                    |   |                             |      |                           |   |   |   |   |   |
| Net change in cash                      |   | 450                              |      | 500                            |   | 450 |   | 748 |   |
| Cash, beginning of period               |   | 4,279                            |      | 3,531                          |   | 4,279 |   | 3,283 |   |
| Cash, end of period                     |   | $                                | 4,729     |                           | $      | 4,031 |   | $ | 4,729 |   | $ | 4,031 |   |

 

The accompanying notes are an integral part of these financialstatements.

 

5

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**ON-SITESOURCING, INC.**

**NOTES TO FINANCIALSTATEMENTS**

**(unaudited)**

**1. Nature of Business**

 

On-Site Sourcing, Inc. (the Company) was incorporatedin the Commonwealth of Virginia in December 1992 and changed its state ofincorporation to Delaware in January 1996. The Company provides digital imaging, reprographics, and digitalprinting to law firms and other organizations throughout the United States.Services are primarily performed in the metropolitan areas of Philadelphia,Pennsylvania, Washington, D.C., Atlanta, Georgia, New York, New York,Gaithersburg, Maryland, and Tempe, Arizona (through October 15, 2002).  In August 2002, the Company expanded itsoperations to Chicago, Illinois and Wilmington, Delaware.  Effective October 15, 2002, the Companyceased production at its facility in Tempe, Arizona, as result of a strategicdecision to focus on larger geographic markets for growth.

 

**2. Basis of Presentation**

 

The accompanying unaudited financial statements and related footnoteshave been prepared in accordance with generally accepted accounting principlesfor interim financial information and Article 10 of Regulation S-X.  Accordingly, they do not include all theinformation and footnotes required by generally accepted accounting principlesfor annual reporting periods.  Theinterim financial information, in the opinion of management, reflects alladjustments of a normal recurring nature necessary for a fair statement of theresults for the interim periods.

 

The financial information presented should be read in conjunction withthe Company’s audited financial statements and the notes thereto for the yearended December 31, 2002, as filed with the Securities and Exchange Commissionon Form 10-K.  The results of operations for the three and six-monthperiods ended June 30, 2003 and 2002 may not be indicative of the results forthe full year.

 

**3. Summary of SignificantAccounting Policies**

 

Revenue Recognition

 

Revenue is primarily derived from providing reprographics, imaging, anddigital printing services.   The Companyrecognizes revenue from services rendered when the following four revenuerecognition criteria are met: persuasive evidence of an arrangement exists,services have been rendered or delivery has occurred, the selling price isfixed or determinable, and collectibility is reasonably assured.  Return and bad debt allowances are estimatedbased on specific identification and historical information.

 

For services that are completed but not delivered to the customers, norevenue is recognized and the associated costs are inventoriedaccordingly.  Such costs are included inresults of operation during the same period when the related services aredelivered and the revenue is recognized.

 

6

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Concentration of Credit Risks

 

Financial instruments that potentially subject theCompany to significant concentrations of credit risk consist principally ofaccounts receivable.  The Company generally sells its products to lawfirms and other commercial customers located in the United States.  TheCompany grants credit terms without collateral to its customers and has notexperienced any significant credit related losses.  Accounts receivableinclude allowances to record receivables at their estimated net realizablevalue.

 

Goodwill

 

The Company accounts for goodwill in accordance with Statement ofFinancial Accounting Standard (SFAS) No. 142, Goodwill and Other IntangibleAssets (SFAS No. 142).  SFAS No. 142 requires the Company to compare theestimated fair value of the reporting unit to the carrying amount of thereporting unit to determine if there is potential impairment on an annualbasis, unless measurement is required at interim periods.  If theestimated fair value of the reporting unit is less than its carrying value, animpairment loss is recorded to the extent that the fair value of the goodwillis less than its carrying value.  The Company determined there was noimpairment of goodwill during the periods reported.

 

Impairment of Long-Lived Assets 

 

Long-lived assets, primarily property and equipment, are reviewed forimpairment whenever events or changes in circumstances indicate that thecarrying amount of the assets might not be recoverable. The Company does notperform a periodic assessment of assets for impairment in the absence of suchinformation or indicators. Conditions that would necessitate an impairmentassessment include a significant decline in the observable market value of anasset, a significant change in the extent or manner in which an asset is used,or a significant adverse change that would indicate that the carrying amount ofan asset or group of assets is not recoverable. For long-lived assets to beheld and used, the Company recognizes an impairment loss only if its carryingamount is not recoverable through its undiscounted cash flows and measures theimpairment loss based on the difference between the carrying amount andestimated fair value.

 

Derivative Instrument and Hedging Activity

 

The Company uses an interest rate swap to convert its variable-rateinterest payments on its mortgage ($5,308,274 at June 30, 2003) to fixed-rateinterest payments. This interest rate swap has been designated and qualifies asa cash-flow hedge.

 

The Company carries all derivative financial instruments on the balancesheet at fair value.  Changes in fairvalue of designated, qualified and effective cash flow hedges are estimated andrecorded as a component of Other Comprehensive Income (Loss) until the hedged transactionoccurs, which at that time, is recognized in earnings (loss).  The Company has determined that its interestrate swap was highly effective upon adoption.

 

As of and for the six months ended June 30, 2003, the Company recordeda current liability of $948,274, which represented the estimated fair value ofthe interest rate swap, along with an unrealized after-tax loss of $572,663 inOther Comprehensive Loss, which is a component of Stockholders’ Equity.

 

7

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Stock-Based Compensation

 

The Company uses the intrinsic-value method in accounting for itsemployee stock options rather than the alternative fair value accountingmethod. Companies that follow the intrinsic-value method must provide pro formadisclosure of the impact of applying the fair-value method.

 

The following table summarizes relevant information as to reportedresults under the Company’s intrinsic-value method of accounting for stockawards, with supplemental information as if the fair value recognitionprovisions had been applied:

 
|                                          |   | **(Unaudited)  Three Months Ended  June 30,** |    | **(Unaudited)  Six Months Ended  June 30,** |   |
|-----------------------------------------------|--------|-----------------------------------------------|---------|---------------------------------------------|--------|
|                                          |   | **2003**                                      |    | **2002**                                    |   | **2003** |   | **2002** |   |
| Net income (loss), as reported                |   | $                                             | 8,313   |                                        | $      | 541,474 |   | $ | (72,526 | ) | $ | 661,450 |   |
| Less: stock-based compensation                |   | 70,439                                        |    | 97,249                                      |   | 162,848 |   | 196,765 |   |
| Adjusted net (loss) income                    |   | $                                             | (62,126 | )                                           | $      | 444,225 |   | $ | (235,374 | ) | $ | 464,685 |   |
|                                          |   |                                          |    |                                        |   |   |   |   |   |
| Basic earnings per share – as reported   |   | $                                             | 0.00    |                                        | $      | 0.10 |   | $ | (0.01 | ) | $ | 0.12 |   |
| Diluted earnings per share – as reported |   | $                                             | 0.00    |                                        | $      | 0.10 |   | $ | (0.01 | ) | $ | 0.12 |   |
| Basic earnings per share – as adjusted   |   | $                                             | (0.01   | )                                           | $      | 0.08 |   | $ | (0.04 | ) | $ | 0.09 |   |
| Diluted earnings per share – as adjusted |   | $                                             | (0.01   | )                                           | $      | 0.08 |   | $ | (0.04 | ) | $ | 0.08 |   |

 

The fair value for each option granted was estimated at the date ofgrant using the Black-Scholes option-pricing model, assuming no expecteddividends and the following weighted average assumptions:

 
|                             |   | **For Three  Months Ended  June 30,** |   | **For the  Six Months Ended  June 30,** |   |
|----------------------------------|--------|---------------------------------------|--------|-----------------------------------------|--------|
|                             |   | **2003**                              |   | **2002**                                |   | **2003** |   | **2002** |   |
| Average risk-free interest rate  |   | 4.21                                  | %      | 5.44                                    | %      | 4.94 | % | 5.44 | % |
| Average expected life (in years) |   | 5                                     |   | 5                                       |   | 5 |   | 5 |   |
| Volatility                       |   | 82                                    | %      | 68                                      | %      | 84 | % | 68 | % |

 

**4. Comprehensive Income**

 

SFAS No. 130, “Reporting Comprehensive Income”,requires that total comprehensive income (loss) be disclosed with equalprominence as net income (loss).  Comprehensive income (loss) is defined as changes in stockholders’equity exclusive of transactions with owners, such as capital contributions anddividends.  The Company’s totalcomprehensive income (loss) is comprised of net income (loss) and othercomprehensive loss, which consists of changes in the estimated fair value ofthe interest rate swap contract.   AtJune 30, 2003 and 2002, the components of comprehensive income (loss) were asfollows:

 

8

----

 
|                        |   | **(Unaudited)  Three Months Ended  June 30,** |    | **(Unaudited)  Six Months Ended  June 30,** |   |
|-----------------------------|--------|-----------------------------------------------|---------|---------------------------------------------|--------|
|                        |   | **2003**                                      |    | **2002**                                    |   | **2003** |   | **2002** |   |
| Net (loss) income           |   | $                                             | 8,313   |                                        | $      | 541,474 |   | $ | (72,526 | ) | $ | 661,450 |   |
| Other comprehensive loss:   |   |                                          |    |                                        |   |   |   |   |   |
| Interest rate swap contract |   | (33,254                                       | )       | (113,110                                    | )      | (21,118 | ) | (378,110 | ) |
|                        |   |                                          |    |                                        |   |   |   |   |   |
| Comprehensive loss          |   | $                                             | (24,941 | )                                           | $      | 428,364 |   | $ | (93,644 | ) | $ | 283,340 |   |

 

**5. Earnings (Loss) Per Share**

 

Basic earnings (loss) per share excludes dilution andis computed by dividing the net income (loss) by the weighted-average number ofcommon shares outstanding.  Dilutedearnings per share is computed by additionally reflecting the potentialdilution that could occur, using the treasury stock method, if options toacquire common stock were exercised and resulted in the issuance of commonstock. Diluted loss per share excludes the effect of common stock optionsbecause their inclusion would have been anti-dilutive.  A reconciliation of the weighted-average numberof common shares outstanding assuming dilution is as follows:

 
|                                                           |   | **(Unaudited)  Three Months Ended  June 30** |   | **(Unaudited)  Six Months Ended  June 30** |   |
|----------------------------------------------------------------|--------|----------------------------------------------|--------|--------------------------------------------|--------|
|                                                           |   | **2003**                                     |   | **2002**                                   |   | **2003** |   | **2002** |   |
|                                                           |   |                                         |   |                                       |   |   |   |   |   |
| Net income                                                     |   | $                                            | 8,313  |                                       | $      | 541,474 |   | $ | (72,526 | ) | $ | 661,450 |   |
|                                                           |   |                                         |   |                                       |   |   |   |   |   |
| Weighted average common shares outstanding                     |   | 5,499,069                                    |   | 5,397,766                                  |   | 5,492,210 |   | 5,311,120 |   |
| Dilutive effect of outstanding stockoptions                    |   | 43,673                                       |   | 298,426                                    |   | — |   | 330,062 |   |
|                                                           |   |                                         |   |                                       |   |   |   |   |   |
| Weighted average common shares outstanding,  assuming dilution |   | 5,542,742                                    |   | 5,696,192                                  |   | 5,492,210 |   | 5,641,182 |   |
|                                                           |   |                                         |   |                                       |   |   |   |   |   |
| Net income per share:                                          |   |                                         |   |                                       |   |   |   |   |   |
| Basic                                                          |   | $                                            | 0.00   |                                       | $      | 0.10 |   | $ | (0.01 | ) | $ | 0.12 |   |
| Diluted                                                        |   | $                                            | 0.00   |                                       | $      | 0.10 |   | $ | (0.01 | ) | $ | 0.12 |   |

 

For the six months ended June 30, 2003 and 2002,584,833 and 142,833 options respectively, were excluded from the abovereconciliation, as these options were anti-dilutive for these periods.  For the six months ended June 30, 2003 as aresult of a net loss, 32,850 stock options were excluded from the diluted lossper share calculation, as the shares were anti-dilutive.

 

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**6. Segment Information**

 

The Company is organized and operates in threesignificant segments: reprographics, imaging, and digital printingservices.  Until December 31, 2001, theCompany also had a facility management services segment. This segment wassignificantly reduced during the first quarter of 2002 as most of the servicecontracts were terminated by the Company. At June 30, 2003, the Company has one facilities management contract remaining.  Management does not view facility managementservices as a separate segment for the periods reported.  In the summary of the results of theCompany’s operating segments below, the results for the facility managementcontract are listed under the heading of other.

 

Reprographics involves the copying and management of large amounts ofdocuments extracted in their original format, from the offices and files ofcustomers.  Reprographic servicesinclude copying, binding, drilling, labeling, collating, assembling and qualityreview.  The Company’s reprographiccenters, currently located in Virginia, New York, Pennsylvania, Georgia,Illinois, Delaware, and Arizona (through October 15, 2002), are open 24 hours aday, seven days a week to handle the prompt turn-around time often requested bycustomers. A typical job ranges in size from single documents with a smallnumber of pages to multiple sets of documents, which can exceed a millionpages. A job is typically picked up by the Company’s in-house dispatch serviceand brought back to its production center. The jobs are then processed per thecustomer’s instructions and reviewed by the quality control staff. Documentsare returned to the client via the Company’s dispatch service. Reprographicjobs are generally billed on a job-by-job basis, based on the number of copiesand the level of difficulty in copying the original documents.

 

Imaging services involves the conversion or transferof the traditional paper and electronic documents into electronic media or vice-versa.Services provided in the imaging services division primarily cater to lawfirms. A typical job involves a law firm that is representing a client in alitigation matter. In order for the law firm to prepare for its case, it oftenmust review a large number of documents, emails, and email attachments. As aresult, the law firms often have a need to search and retrieve appropriatedocuments in a timely and efficient manner. In order to help meet this need,the imaging services division offers case management consulting, electronicscanning of documents, converting email, attachments and other electronic filesto images, indexing/coding, optical character recognition, electronicdiscovery, blowback printing, training, technical support and electronicdocument search and retrieval services. Imaging services are typically billedon a job-by-job basis, based on the number of images and complexity of theretrieval applications.

 

Digital printing services include both black and white and colordigital production of catalogs, brochures, postcards, stationary, direct mail,newsletters, and exhibit materials. Typical customers include organizations requiring print media. Inaddition, ancillary services, which include graphic design, mailing, specialfinishing, storage, fulfillment, and delivery services are provided through thedigital printing segment. Printing jobs are typically billed on a job-by-jobbasis depending on several factors, including quantity, number of colors,quality of paper, and graphic design time.

 

The Company’s chief operating decision maker is the Chief ExecutiveOfficer.  The Chief Executive Officerevaluates segment performance based on revenue and income before allocation ofcorporate administrative expenses and taxes. A summary of the results of the Company’s operating segments is asfollows:

 

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|                      |   | **(Unaudited)  Three Months Ended  June 30** |      | **(Unaudited)  Six Months Ended  June 30** |   |
|---------------------------|--------|----------------------------------------------|-----------|--------------------------------------------|--------|
|                      |   | **2003**                                     |      | **2002**                                   |   | **2003** |   | **2002** |   |
| Revenue:                  |   |                                         |      |                                       |   |   |   |   |   |
| Reprographics             |   | $                                            | 4,735,262 |                                       | $      | 5,210,674 |   | $ | 9,517,882 |   | $ | 9,631,017 |   |
| Imaging                   |   | 3,379,915                                    |      | 4,104,917                                  |   | 6,380,950 |   | 7,391,187 |   |
| Digital printing          |   | 876,461                                      |      | 772,969                                    |   | 1,703,135 |   | 1,684,785 |   |
| Other                     |   | 263,155                                      |      | 278,859                                    |   | 512,567 |   | 581,968 |   |
| Inter-segment elimination |   | (13,185                                      | )         | (53,227                                    | )      | (36,858 | ) | (124,530 | ) |
|                      |   |                                         |      |                                       |   |   |   |   |   |
| Total revenue             |   | $                                            | 9,241,608 |                                       | $      | 10,314,192 |   | $ | 18,077,676 |   | $ | 19,164,427 |   |

 
|                              |   | **(Unaudited)  Three Months Ended  June 30** |    | **(Unaudited)  Six Months Ended  June 30** |   |
|-----------------------------------|--------|----------------------------------------------|---------|--------------------------------------------|--------|
|                              |   | **2003**                                     |    | **2002**                                   |   | **2003** |   | **2002** |   |
| Income (Loss) before taxes:       |   |                                         |    |                                       |   |   |   |   |   |
| Reprographics                     |   | $                                            | 537,840 |                                       | $      | 1,244,461 |   | $ | 1,016,687 |   | $ | 1,908,528 |   |
| Imaging                           |   | 823,210                                      |    | 1,391,939                                  |   | 1,508,130 |   | 2,390,409 |   |
| Digital printing                  |   | (84,080                                      | )       | (100,813                                   | )      | (145,612 | ) | (85,708 | ) |
| Other                             |   | 24,219                                       |    | 14,623                                     |   | 37,523 |   | 122,873 |   |
| Corporate administrative expenses |   | (1,267,332                                   | )       | (1,643,736                                 | )      | (2,502,642 | ) | (3,321,722 | ) |
|                              |   |                                         |    |                                       |   |   |   |   |   |
| Total income before taxes         |   | $                                            | 33,857  |                                       | $      | 906,474 |   | $ | (85,914 | ) | $ | 1,014,380 |   |

 

**7.****              Lineof Credit and Other Debt**

 

The Company had a working capital line of credit with a bank in theamount of $7.0 million at June 30, 2003. The working capital line of credit is collateralized by accountsreceivable and certain equipment, and expires in May 2004.  The Company has the capacity to borrow, atany given time, the lesser of the established line of credit or eligibleaccounts receivable, generally defined as 75% of accounts receivable that areless than 120 days old.  The line ofcredit bears interest at the lesser of the bank’s prime rate or the 30-dayLIBOR plus 2.20% (3.31% at June 30, 2003).  At June 30, 2003, the Company had approximately $2.4 million availableto draw against the credit line.

 

The Company has a mortgage note and two term notes(the Notes) to the same bank.  At June30, 2003, the total borrowings under the line of credit and the Notes from thebank were approximately $9.7 million. The underlying agreements related to these debts provide cross-defaultprotection provisions to the lender, and require compliance with certainfinancial covenants.

 

A significant covenant requires the Company tomaintain an Interest Coverage Ratio, as defined, in excess of 2.0:1.  In May 2003, the Company obtained approvalfrom the bank to reduce the required Interest Coverage Ratio to 1.25:1 for thequarter ended June 30, 2003, after which the ratio reverts back to 2.0:1.  As of June 30, 2003, the Company was not incompliance with the amended covenants.

 

In July 2003 as a result of the Company not being incompliance with the Interest Coverage Ratio at June 30, 2003, the Companyrequested the bank to modify the terms of the revolving line of creditagreement, the mortgage note payable, and the two outstanding term notes.  The bank agreed to modify the terms of theagreements as of July 31, 2003.  Underthe modified loan agreements, the principal amount of the line

 

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of credit agreement has been reduced from $7.0 millionto $5.0 million and the interest rate increased to the 30-day LIBOR plus 2.30%,an increase of 0.10%.

 

The two term loans with remaining principal balancesof $1,068,000 and $938,000, at July 31, 2003, respectively, were consolidatedinto a single term note in the principal sum of $1,600,000 that matures on July31, 2005.  At the time the notes wereconsolidated, a single lump sum payment of approximately $406,000 is due tobring the combined principal balances of the original notes to $1,600,000.  Under the terms of the notes, the Company isrequired to make monthly principal and interest payments in the aggregate of$66,667.  The unpaid principal amountbears interest at a floating annual rate equal to the 1 — Month LIBOR plus2.35%.

 

The financial covenants the Company must be incompliance with were also modified.  Thedefinition of the Funds Flow Coverage Ratio was modified and the revised FundsFlow Coverage Ratio will initially be measured on September 30, 2003, and ateach subsequent quarter-end.  TheCompany must maintain a minimum Funds Flow Coverage Ratio of 1.5:1.  The Interest Coverage Ratio was deleted inits entirety.  The Tangible Net WorthCovenant was modified to increase the minimum tangible net worth of theCompany, at all times, to $8,500,000.  ANet Loss Covenant was added which states that the after tax net loss for anyfiscal quarter shall not exceed $200,000, and a maximum after tax net loss forfiscal year 2003 shall not exceed $350,000. The modified agreement states that the Company shall not make capitalexpenditures in excess of $125,000 in any fiscal quarter.  However, this amount may be increased by$150,000 if the company receives an equivalent amount of cash as a result ofstock options exercised by option holders of the Company. All modifiedfinancial covenants will first be measured on September 30, 2003.  The modified agreements are attached to thisfiling as exhibits.

 

Due to the uncertainty of future compliance with therevised financial covenants, the debt and interest rate swap liabilityassociated with the loan agreements have been classified as current liabilitieson the balance sheet as of June 30, 2003.

 

**Item2.  Management’s Discussion and Analysisof Financial Condition and Results of Operations**

 

On-Site Sourcing, Inc. (On-Site, the Company, we, us,or our) provides document and information management services through itsfacilities in the greater Atlanta, Baltimore, New York City, Philadelphia,Washington, D.C., Chicago, and Wilmington metropolitan areas, and servedclients on the West Coast through its Tempe, Arizona facility (through October15, 2002).  We help clients ininformation-intensive industries manage large volumes of documents andinformation, allowing them to concentrate on their core business operations.Our target clients typically generate large volumes of documents andinformation that require specialized processing, distribution, storage, andretrieval.  Our typical clients includelaw firms, insurance companies, healthcare organizations, non-profitorganizations, accounting, consulting and finance firms and other organizationsthroughout the United States.  We alsoprovide commercial printing services utilizing digital printing technology inour facilities in the Washington, D.C. area. Effective October 15, 2002, the Company ceased production at itsfacility in Tempe, Arizona as result of a strategic decision to focus on largergeographic markets for growth. The production facility represented a componentof the Imaging Services Segment.

 

On-Site wasoriginally incorporated in Virginia in December 1992, and changed its state ofincorporation to Delaware in March 1996.

 

**Forward Looking Disclosure**

 

Certain information included herein contains forward-looking statementswithin the meaning of the

 

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Private Securities Litigation Reform Act of 1995.  All statements other than statements ofhistorical fact, including statements regarding industry prospects, plans forfuture expansion and other business development activities as well as futureresults of operations or financial position and the effects of competition areforward looking.  Such forward-lookinginformation is subject to changes and variations which are not reasonablypredictable and which could significantly affect future results.  Accordingly, such results may differ fromthose expressed in any forward-looking statements made by or on behalf of theCompany.  The risks and uncertaintiesthat could significantly affect future results include, but are not limited to,those relating to the adequacy of operating and management controls, operatingin a competitive environment and a changing environment, including newtechnology and processes, existing and future vendor relationships, theCompany’s ability to access capital and meet its debt service requirements,dependence on existing management, general economic conditions, terroristattacks, and changes in federal or state laws or regulations.  These risks and uncertainties, along withthe following discussion, describe some, but not all, of the factors that couldcause actual results to differ significantly from management’s expectations.

 

**Critical Accounting Policies and Judgments**

 

The preparation offinancial statements in conformity with accounting principles generallyaccepted in the United States of America requires estimates and assumptionsthat affect the reported amounts of assets and liabilities, revenue andexpenses, and related disclosures of contingent assets and liabilities in thefinancial statements and accompanying notes. The U.S. Securities and Exchange Commission has defined a company’s mostcritical accounting policies as the ones that are most important to theportrayal of the Company’s financial condition and results of operations, andwhich require the Company to make its most difficult and subjective judgments,often as a result of the need to make estimates of matters that are inherentlyuncertain.  Based on this definition, wehave identified the critical accounting policies and judgments addressed below.  Although we believe that our estimates andassumptions are reasonable, they are based upon information presentlyavailable.  Actual results may differsignificantly from these estimates under different assumptions or conditions.

 

**Revenue Recognition**

 

Revenue is primarily derived from providing imaging, reprographics and digitalprinting services.   The Companyrecognizes revenue from services rendered when the following four revenuerecognition criteria are met: persuasive evidence of an arrangement exists,services have been rendered or delivery has occurred, the selling price isfixed or determinable, and collectibility is reasonably assured.  Return and bad debt allowances are estimatedbased on specific identification and historical information.

 

For services that are completed but not delivered to the customers, norevenue is recognized and the associated costs are inventoriedaccordingly.  Such costs are included inresults of operation during the same period when the related services aredelivered and the revenue is recognized.

 

Included in “Accounts receivable, net” on our Balance Sheets is anallowance for doubtful accounts.  Seniormanagement reviews the accounts receivable aging on a monthly basis todetermine if any receivables will potentially be uncollectable.  After all attempts to collect the receivablehave failed, the receivable is written off against the allowance.  Based on the information available to us, webelieve our allowance for doubtful accounts as of June 30, 2003 is adequate.  However, no assurances can be given thatactual write-offs will not exceed the recorded allowance.

 

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**Accounting for Goodwill**

 

The Company records impairment losses on goodwill when events andcircumstances indicate that such assets might be impaired and the estimatedfair value of the asset is less than its recorded amount. Conditions that wouldnecessitate an impairment assessment include material adverse changes inoperations, significant adverse differences in actual results in comparisonwith initial valuation forecasts prepared at the time of acquisition, adecision to abandon acquired products, services or technologies, or othersignificant adverse changes that would indicate the carrying amount of therecorded asset might not be recoverable. The fair value for goodwill is estimated using the discounted cash flowmodel, with the Company’s own assumptions. At June 30, 2003 the Company noted no conditions or change incircumstances that would render an impairment assessment.  Change in management’s judgment may lead tosignificantly different results.

 

**Accounting for Derivative Instrument andHedging Activity**

 

The Company uses an interest rate swap to convert its variable-rateinterest payments on its mortgage ($5,308,274 at June 30, 2003) to fixed-rateinterest payments. This interest rate swap was designated as a cash-flow hedgeand qualified for the short-cut method of assessing effectiveness.

 

The Company carries all derivative financial instruments on the balancesheet at fair value.  Fair value isobtained from the lending institution on a quarterly basis, and is based oninterest rates at the inception of the hedge, current interest rates, andremaining time period until maturity on the underlying debt. Changes in fairvalue of effective cash flow hedges are recorded as a component of OtherComprehensive Income (Loss) until the hedged transaction occurs, which at thattime is recognized in earnings (loss). The Company assumes the hedged transaction will occur during the term ofthe underlying agreement.  Results of operationsmay be materially affected if such transaction were not to occur.

 

**Long-lived Assets**

 

Long-lived assets (primarily property andequipment) are reviewed for impairment whenever events or changes incircumstances indicate the carrying amount of the assets might not berecoverable. The Company views the following as conditions that necessitateimpairment: a significant decline in the observable market value of an asset, asignificant change in the extent or manner in which an asset is used, or a significantadverse change that would indicate that the carrying amount of an asset orgroup of assets is not recoverable. For long-lived assets to be held and used,the Company measures fair value based on quoted market prices, discountedestimates of future cash flows or other methods. For the three and six monthsended June 30, 2003, the Company did not note any events or changes incircumstances indicating the carrying amount of long-lived assets were notrecoverable.  The carrying amount oflong-lived assets is based on management’s judgment as to estimated futureperformance of the business.  Changes injudgments regarding future performance may lead to a different result.

 

**Accountingfor Taxes**

 

The Company recognizes deferred tax assets and liabilities based ondifferences between the financial reporting and tax bases of assets andliabilities using the enacted tax rates and laws that are expected to be ineffect when the differences are expected to be reversed. The Company provides avaluation allowance for deferred tax assets for amounts it considersunrealizable.  As of June 30, 2003, theCompany did not provide any valuation allowance for the deferred taxassets.  This assessment is based onmanagement’s best estimate of forecasted taxable income.   There can be no guarantee that the actualresults will not be materially different from forecasted results.

 

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**Contingencies**

 

In the normal course of business, the Companyis subject to certain claims and legal proceedings.  We record an accrued liability for these matters when an adverseoutcome is probable and the amount of the potential liability is reasonablyestimable.  We do not believe theresolution of these matters will have a material effect upon our financialcondition, results of operations or cash flows for an interim or annual period.

 

**Recent Accounting Pronouncements**

 

In April 2003,the FASB issued SFAS No. 149, “Amendment of Statement 133 on DerivativeInstruments and Hedging Activities.” SFAS No. 149 amends and clarifiesaccounting for derivative instruments, including certain derivative instrumentsembedded in other contracts, and for hedging activities under SFAS No. 133. Thestatement requires that contracts with comparable characteristics be accountedfor similarly and clarifies when a derivative contains a financing componentthat warrants special reporting

in thestatement of cash flows. SFAS No. 149 is effective for contracts entered intoor modified after June 30, 2003, except in certain circumstances, and forhedging relationships designated after June 30, 2003. The Company does notexpect that the adoption of this standard will have a material effect on itsfinancial position, results of operations or cash flows.

 

In May 2003,the FASB issued SFAS No. 150, “Accounting for Certain Financial Instrumentswith Characteristics of both Liabilities and Equity.”  This Statement establishes standards for how an issuer classifiesand measures in its statement of financial position certain financial instrumentswith characteristics of both liabilities and equity. It requires that an issuerclassify a financial instrument that is within its scope as a liability (or anasset in some circumstances) because that financial instrument embodies anobligation of the issuer. This Statement is effective for financial instrumentsentered into or modified after May 31, 2003, and otherwise is effective at thebeginning of the first interim period beginning after June 15, 2003, except formandatorily redeemable financial instruments of nonpublic entities. The Companydoes not expect that the adoption of this standard will have a material effecton its

financialposition, results of operations or cash flows.

 

**Results of OperationsFor the Three and Six Months Ended June 30, 2003 and 2002.**

 

**Revenue**

 

Revenuereported for the three months ended June 30, 2003 was $9.2 million, a $1.1million, or 10.7% decrease from the $10.3 million reported in the comparableperiod in 2002.  Revenue reported forthe six months ended June 30, 2003 was $18.0 million, a $1.1 million, or 5.8%decrease from  $19.1 million reported inthe comparable period in 2002.  Thedecrease in revenue was partially attributable to reduced pricing on some ofthe services offered by the Company. This price reduction was incurred to counter the aggressive  pricing being offered by the Company’scompetitors.

 

Inaddition, the Company generates a large percentage of its revenue from lawfirms, which typically engage in large transactional matters involving businesscombinations.  Over the last 18 months,the Company has seen a significant decrease in these types of transactionalmatters, as a result of the overall state of the economy and businessenvironment.  In order to lessen itsdependence on law firms, the Company is actively pursuing additional sources ofrevenue from other market segments such as the government, healthcare,insurance and Fortune 1000 organizations.

 

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**Gross Profit**

 

Gross profit for the threemonths ended June 30, 2003 was $3.1 million, a $1.5 million, or 32.6%, decrease from the $4.6 million reported in thecomparable period in 2002.  Gross profitfor the six months ended June 30, 2003 was $5.9 million, a $2.0 million, or25.3%, decrease from the $7.9 million reported in the comparable period in2002.  Gross profit as a percentage ofsales was 33.9% and 44.9% for the three months ended June 30, 2003 and 2002,respectively.    Gross profit as apercentage of sales was 32.9% and 41.5% for the six months ended June 30, 2003and 2002, respectively.  Thesereductions in gross profit were mostly attributable to decreased revenues,increased price competition, and increased selling of labor-intensive servicesand less higher profit margin service offerings, such as Electronic FileProcessing and Blowback.

 

**Sales and MarketingExpenses**

 

Salesand marketing expense for the three months ended June 30, 2003 was $1.1million, a $0.2 million, or 15.4%, decrease from the $1.3 million reported inthe comparable period in 2002.  Salesand marketing expense as a percentage of sales was 12.2% and 12.8%  for the three months ended June 30, 2003 and2002, respectively.  Sales and marketingexpense for the six months ended June 30, 2003 was $2.2 million, a $0.2 million,or 8.3%, decrease from the $2.4 million reported in the comparable period in2002.  Sales and marketing expense as apercentage of sales was 12.2% and 12.4% for the six months ended June 30, 2003and 2002, respectively.

 

Thesales and marketing expense consists primarily of salaries, sales commissions,and other related costs associated with the selling of the Company’s services,such as travel and entertainment.  Salescommissions paid to the Company’s account executives are calculated per job andfluctuate depending on the profitability of the particular job.  Sales and marketing expense decreased forthe three and six months ended June 30, 2003 compared to the comparable periodin 2002 due to lower sales commissions paid to account executives as a resultof lower revenue.

 

**General andAdministrative Expenses**

 

Generaland administrative expenses for the three months ended June 30, 2003 was $1.8million, a $0.4 million or 18.2%, decrease from the $2.2 million reported inthe comparable period in 2002.  Generaland administrative expenses as a percentage of sales were 19.7% and 21.2% forthe three months ended June 30, 2003 and 2002, respectively.  General and administrative expenses for thesix months ended June 30, 2003 was $3.5 million, a $0.7 million or 16.7%,decrease from the  $4.2 million reportedin the comparable period in 2002. General and administrative expenses as a percentage of sales were 19.4%and 21.7% for the six months ended June 30, 2003 and 2002, respectively.  Significant factors that contributed to thedecreased expense for the three and six months ended June 30, 2003 include thefollowing:

 

Adecrease of approximately $165,000 and $305,000 for the three and six monthsended June 30, 2003, respectively, is attributable to the reduction in bonuspayments awarded to the divisional managers. This reduction  is due to amajority of the divisional managers not meeting their performance goals set intheir bonus plans for fiscal year 2003. Unlike prior years, the bonus plans for 2003 are based on theperformance of each segment; reprographics, imaging, and digital printing.  Prior year bonus plans were based on theperformance of each location.

 

Adecrease of approximately $62,000 and $109,000 for the three and six monthsended June 30, 2003, respectively, is attributable to the decreased travelincurred by executive and management level employees visiting the Company’svarious production locations.

 

Adecrease of approximately $39,000 and $61,000 for the three and six monthsended June 30, 2003, respectively, is attributable to the Company’s decrease indepreciation expense.  Over the

 

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pastnine months, the Company has made a significant effort to reduce  the amount of capital expendituresmade.  As a result, the company hasexperienced an insignificant increase in depreciation expense arising from newcapital expenditures.  Furthermore, theCompany’s depreciable base has been consistently decreasing as its existingassets have become fully depreciated and/or disposed of.  This, coupled with the Company’s decreasingcapital expenditures, has resulted in a noticeable reduction in depreciationexpense.

 

A decrease of approximately $30,000 and $82,000 for the three and sixmonths ended June 30, 2003, respectively, is attributable to  the Company’s decrease in officeexpense.  The Company’s office expensesinclude company-sponsored events, promotional items, building maintenance andpayroll processing fees.  The closing ofthe Arizona office and the increased cost reduction efforts have contributed tothe Company’s decrease in office and general and administrative expenses.

 

**Other Income**

 

Otherincome for the three months ended June 30, 2003 was approximately $27,000, a$31,000 increase from the amount reported in the comparable period in2002.  Other income for the six monthsended June 30, 2003 was approximately $40,000, a $9,000 increase from theapproximately $32,000 reported in the comparable period in 2002.  Other income consists primarily of rentalincome and the gain or loss  from fixedasset dispositions.  The Company’srental income is generated from subletting a portion of the property owned at832 North Henry Street, Alexandria, VA. The Company currently has one tenant at that location, whose leaseexpires in April 2004.  The increasedincome for the three and six-month periods ending June 30, 2003 was attributable to a gain on the sale of assets,whereas a loss was  recognized from thesale of assets in the comparable periods in 2002.

 

Interest expense for the three months ended June 30, 2003 wasapproximately $176,000, a $44,000 decrease from the approximate $220,000reported in the comparable period in 2002.  Interest expense for the sixmonths ended June 30, 2003 was approximate $362,000, a $67,000 decrease fromthe approximately $429,000 reported in the comparable period in 2002.  The reduction in interest expense is due tolower debt balances and overall lower interest rates related to borrowingsunder term notes and other similar debt arrangements. In addition, the Companyhas reduced its line of credit and term notes outstanding balances as comparedto 2002.  The Company’s line of creditbalance was $2,321,406 and $4,441,244 as of June 30, 2003 and 2002,respectively.

 

**Income Taxes**

 

Incometaxes for the three months ended June 30, 2003 and 2002 were $25,544 and$365,000, respectively.  This reductionis attributable to the Company’s decreased income before tax for the threemonths ended June 30, 2003.  The Companyhad an income tax benefit of $13,388 and income tax expense of $352,930 for thesix months ended June 30, 2003 and 2002, respectively.  This reduction is attributable to theCompany’s net loss before tax for the six months ended June 30, 2003, whereas anet gain before tax was incurred in the comparable period in 2002.

 

##### **Liquidityand Capital Resources**

 

The Company has funded its expansion through utilizing internallygenerated cash flow, long term financing, and a short-term commercial line ofcredit.  The Company anticipates that the cash flow from operations andthe credit facilities will be sufficient to meet the expected cash requirementsfor the next twelve months. However, the Company may experience an inability tomeet its capital requirements should any of the following events occur:significant loss from operations, significant decrease in revenue, creditcovenant defaults, and/or account receivable defaults by customers, or groupsof

 

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customers, whose balances are significant to the Company’s operations.In order to meet these unforeseen capital requirements, the Company may seekadditional resources, which could include collateral-based loans, capitalleases, and operating leases.

 

As of June 30, 2003, the Company had approximately $4,700 in cash(primarily petty cash).  To ensure thatworking capital is available to fund the Company’s operations, the Company hasa $7.0 million working capital line of credit (Credit) that expires May2004.  The Company has the capacity to borrow, at any given time, thelesser of 1) the established line of credit or 2) the eligible accountsreceivable - generally defined as 75% of accounts receivable less than 120 daysold.  As of June 30, 2003 the Company had approximately $2.4 million available under the Credit, bearinginterest at the lesser of the bank’s prime interest rate or the 30-day LIBORplus 2.20%.

 

As of  June 30, 2003, theCompany had an outstanding mortgage note payable (Mortgage) of $5,308,274.  The Mortgage was entered to fund thepurchase of property located at 832 North Henry Street,  Alexandria, Virginia.  In order to manage interest costs and hedgeexposure to changing interest rates, the Company also entered into an interestrate swap, whereby the interest rate is fixed at 9.48%.  Under the terms of the Mortgage and therelated interest rate swap agreement, the Company is required to make monthlyprincipal and interest payments of $60,495 for a period of seven years, and a lump-sumpayment of $4,155,254 at the Mortgage termination in October 2007.

 

As of June 30, 2003, the Company also had two term notes (Notes) ofprincipal amounts of $1,097,000 and $972,000 respectively. The notes bearinterest at a fluctuating annual rate equal to the 1 — Month LIBOR plus 2.50%.  The notes mature in October 2005 and August2006 respectively.

 

The Credit, Mortgage, and Notes were all obtained fromthe same bank.  As of June 30, 2003 thetotal bank borrowings were $9,761,535. The underlying agreements related to these borrowings require certainfinancial covenants and include cross-default provisions to protect thelender.  A significant covenant requiresthe Company to maintain an Interest Coverage Ratio in excess of 2.0:1.  In May 2003, the Company obtained approvalfrom the bank to reduce the required Interest Coverage Ratio to 1.25:1 for thequarter ended June 30, 2003, after which the ratio reverts back to 2.0:1.  The Company did not meet the InterestCoverage Ratio covenant at June 30, 2003.

 

As a result, the Company requested the bank to modifythe covenant terms underlying the revolving line of credit agreement, themortgage and the two outstanding term notes. The bank agreed to modify the terms of the agreements as of July 31,2003. Under the modified loan agreements, the principal amount of the line ofcredit has been reduced from $7.0 million to $5.0 million and the interest ratehas been increased from the 30-day LIBOR plus 2.20% to the 30-day LIBOR plus2.30%.  The two term loans withremaining principal balances of approximately $1,068,000 and $938,000,respectively, were consolidated into a single term note in the principal sum of$1,600,000 that matures on July 31, 2005. At the time the notes are consolidated, a single lump sum payment ofapproximately $406,000 is due to bring the combined principal balances of theoriginal notes down to $1,600,000. Under the terms of the notes, the Company is required to make monthlyprincipal and interest payments of $66,667. The unpaid principal amount bears interest at a floating annual rateequal to the 1 – Month LIBOR plus 2.35%.

 

The financial covenants that the Company must be incompliance with were also modified.  Thedefinition of the Funds Flow Coverage Ratio was modified and the revised FundsFlow Coverage Ratio will initially be measured on September 30, 2003 and ateach subsequent quarter-end.  TheCompany must maintain a minimum Funds Flow Coverage Ratio of 1.5:1.  The Interest Coverage Ratio was deleted inits entirety.  The Tangible Net WorthCovenant, as defined, was modified to increase the minimum tangible net worthof the Company, at all times, to $8,500,000. A Net Loss Covenant was added which states that the after tax net lossfor any fiscal quarter shall not exceed $200,000, and a maximum after tax

 

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net loss for fiscal year 2003 shall not exceed$350,000.  The modified agreement statesthat the Company shall not make capital expenditures in excess of $125,000 inany fiscal quarter. However, this amount may be increased by $150,000 if thecompany receives an equivalent amount of cash as a result of stock optionsexercised by option holders of the Company. The modified financial covenantsare attached to this filing as exhibits.

 

Due to the uncertainty of future compliance with thefinancial covenants, the debt and the interest rate swap liability associatedwith the loan agreements have been classified as current liabilities on thebalance sheet for the quarter ended June 30, 2003.

 

The following summarizes the Company’s payment (principal and interest)obligations and commitments under contract, including debt and leasearrangements, as of June 30, 2003.  TheCompany expects to fund such obligations from cash generated from the operatingactivities and the line of credit.

 
|                                |   |      |       | **Payments Due by Period** |   |
|-------------------------------------|--------|-----------|------------|----------------------------|--------|
| **Contractual  Obligations**        |   | **Total** |       | **Less than  1 Year**      |   | **1-3  Years** |   | **4-5  Years** |   | **After 5  Years** |   |
| Line  of Credit                     |   | $         | 2,321,406  |                       | $      | 2,321,406 |   | $ | — |   | $ | — |   | $ | — |   |
| Building  Mortgage                  |   | 7,300,995 |       | 725,940                    |   | 2,177,820 |   | 4,397,235 |   | — |   |
| Long-Term  Debt                     |   | 2,193,407 |       | 847,048                    |   | 1,346,359 |   | — |   | — |   |
| Lease  Commitments                  |   | 6,542,376 |       | 2,149,254                  |   | 3,783,029 |   | 412,109 |   | 197,984 |   |
| Total  Contractual Cash Obligations |   | $         | 18,358,184 |                       | $      | 6,043,648 |   | $ | 7,307,208 |   | $ | 4,809,344 |   | $ | 197,984 |   |

 

## ***Item 3.    Quantitativeand Qualitative Disclosures about Market Risk***

 

The Company’s activities expose it to market risks that are related tothe effects of changes in interest rates. The Company does not have cash flow exposure due to interest ratechanges for its mortgage note (approximately $5.3 million at June 30, 2003) asthe Company uses an interest rate swap to fix the variable interest rate on thenote (30 day LIBOR plus 2.5%) at 9.48%. Other debt arrangements, such as working capital line of credit andshort term notes are used to support general operation needs, including capitalexpenditures and working capital needs. The carrying amounts for cash and cash equivalents, accounts receivableand notes payable reported in the balance sheets approximate fair value.

 

The table below presents principal amounts and related average interestrates by year of maturity for our long term obligations at June 30, 2003:

 
|                                            |   | **2003**              |    | **2004** |   | **2005** |   | **2006** |    | **2007** |   |
|-------------------------------------------------|--------|-----------------------|---------|----------|--------|----------|--------|----------|---------|----------|--------|
| Mortgage note                                   |   | $                     | 110,757 |     | $      | 235,119  |   | $        | 260,184 |     | $      | 286,307 |   | $ | 4,415,906 |   |
| Average interest rate                           |   | 9.48                  | %       | 9.48     | %      | 9.48     | %      | 9.48     | %       | 9.48     | %      |
|                                            |   |                  |    |     |   |     |   |     |    |     |   |
| Term notes                                      |   | 442,785               |    | 788,521  |   | 703,161  |   | 207,684  |    |     |   |
| Average interest rate                           |   | 30 day LIBOR plus 2.5 | %       |     |   |     |   |     |    |     |   |
|                                            |   |                  |    |     |   |     |   |     |    |     |   |
| Interest rate swap (pay fixed/receive variable) |   | $                     | 110,757 |     | $      | 235,119  |   | $        | 260,184 |     | $      | 286,307 |   | $ | 4,415,906 |   |
| Average pay rate                                |   | 9.48                  | %       | 9.48     | %      | 9.48     | %      | 9.48     | %       | 9.48     | %      |
| Average receive rate                            |   | 3.62                  | %       | 3.94     | %      | 4.76     | %      | 5.72     | %       | 6.39     | %      |

 

The carrying amounts and fair value of our financial instruments are asfollows:

 

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|               |   | **June 30,  2003**   |      | **June 30,  2002** |   |
|--------------------|--------|----------------------|-----------|--------------------|--------|
|               |   | **Carrying  Amount** |      | **Fair Value**     |   | **Carrying  Amount** |   | **Fair Value** |   |
| Line of credit     |   | $                    | 2,321,406 |               | $      | 2,321,406 |   | $ | 4,441,244 |   | $ | 4,441,244 |   |
| Term notes         |   | 2,131,855            |      | 2,131,855          |   | 2,258,697 |   | 2,258,697 |   |
| Mortgage note      |   | 5,308,274            |      | 5,308,274          |   | 5,514,633 |   | 5,514,633 |   |
| Interest rate swap |   | (948,274             | )         | (948,274           | )      | (626,114 | ) | (626,114 | ) |
|                    |        |                      |           |                    |        |  |  |  |  |  |  |  |  |

 

Based upon the composition of the Company’s variable-rate debtoutstanding at June 30, 2003, which is primarily borrowings under the workingcapital line of credit and term notes, we do not believe that a hypotheticalincrease in the bank’s prime rate of interest or the 30-day LIBOR would bematerial to net income.

 

**Item4. Controls and Procedures**

 

Within 90 days prior to the filing date of this report, we evaluatedthe effectiveness of the design and operation of our disclosure controls andprocedures, which are designed to ensure the timeliness and accuracy of ourdisclosures and financial statements. This evaluation was under the supervision and with the participation ofmanagement, including our Chief Executive Officer and Chief FinancialOfficer.  The Company and managementalso recognized that all disclosure controls and procedures have certainlimitations based on cost-benefit considerations, and can only providereasonable assurances of achieving the desired control objectives.  Based upon the evaluation, our ChiefExecutive Officer and Chief Financial Officer concluded that our disclosurecontrols and procedures are effective in providing reasonable assurances thatthey are timely alerted to material information required to be included in ourperiod Securities and Exchange Commission filings.

 

There have been no significant changes in the Company’s internalcontrols or in other factors that could significantly affect these controlssubsequent to the date of their evaluation.

 

**Part II. Other Information**

 

**Item 1.   LegalProceedings**

 

None.

 

**Item 2.    Changesin Securities and Use of Proceeds**

 

None.

 

**Item 3.    DefaultsUpon Senior Securities**

 

None.

 

**Item 4.    Submissionof Matters to a Vote of Security Holders**

 

(a)     Theannual meeting of Share Owners of On-Site Sourcing, Inc. was held on April 30,2003.

 

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(b)     Alldirector nominees were elected.

 

(c)     Certainmatters voted upon at the meeting and the votes cast with respect to suchmatters are as follows:

 

**Proposals and Vote Tabulations**

 
|                                                          |   | **Votes  Cast** |   |        |   |
|---------------------------------------------------------------|--------|-----------------|--------|-------------|--------|
| **Management Proposals**                                      |   | **For**         |   | **Against** |   | **Abstain** |   |
|                                                          |   |            |   |        |   |   |   |
| Approval of the appointment of independent auditors  for 2003 |   | 4,567,587       |   | 11,400      |   | 200 |   |

 

**Election of Directors**

 
| **Director**          |   | **Votes  Received** |   | **Votes  Withheld** |   |
|-----------------------|--------|---------------------|--------|---------------------|--------|
| Christopher J. Weiler |   | 4,510,162           |   | 69,025              |   |
| Denis Seynhaeve       |   | 4,502,287           |   | 76,900              |   |
| Jorge R. Forgues      |   | 4,502,287           |   | 76,900              |   |
| Clifford Kendall      |   | 4,519,287           |   | 59,900              |   |
| Michael D. Brant      |   | 4,519,287           |   | 59,900              |   |
| Michael Meyer         |   | 4,519,287           |   | 59,900              |   |
| Robert W. Pivik       |   | 4,508,287           |   | 70,900              |   |

 

**Item 5.    OtherInformation**

 

None

 

**Item 6.    Exhibitsand Reports**

 

(A)          EXHIBITS

 

Exhibit10.27 Seventh Modification of Amended and Restated Revolving Line of CreditLoan Agreement, Term Loans Agreement and Security Agreement, dated July 31,2003 with Wachovia Bank.

 

Exhibit10.28 Third Modification of Amended and Restated Revolving Note, dated July 31,2003 with Wachovia Bank.

 

Exhibit10.29 Consolidated, Amended and Restated $1,600,000 Term Note, dated July 31,2003 with Wachovia Bank.

 

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Exhibit 31.1 Certification as Adopted Pursuant to Section 302(a) of theSarbanes-Oxley Act of 2002 by Chief Executive Officer

 

Exhibit 31.2 Certification as Adopted Pursuant to Section 302(a) of theSarbanes-Oxley Act of 2002 by Chief Financial Officer

 

Exhibit32.1 Certication Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant toSection 906 of the Sarbanes-Oxley Act of 2002 by Chief Executive Officer

Exhibit32.2 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant toSection 906 of the Sarbanes-Oxley Act of 2002 Chief Financial Officer

(B)                                REPORTS ON FORM 8-K

None

 

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**SIGNATURE**

 

 

Pursuant tothe requirements of the Securities Exchange Act of 1934, the registrant hasduly caused this report to be signed on its behalf by the undersigned thereuntoduly authorized.

 

 
|            |   | ON-SITE SOURCING, INC.                                                              |
|-----------------|--------|-------------------------------------------------------------------------------------|
|            |   | (Registrant)                                                                        |
|            |   |                                                                                |
|            |   |                                                                                |
|            |   |                                                                                |
|            |   | /s/ Jason Parikh                                                                    |
| Date       |   | Jason Parikh                                                                        |
| August 14, 2003 |   | Chief Financial Officer  (Duly Authorized Officer and Principal Financial  Officer) |

 

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