UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC  20549

FORM 10-Q

(Mark One)

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended August 31, 2008

OR

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from       to 

Commission file number 001-15503

WORKSTREAM INC.

(Exact name of Registrant as specified in its charter)

Canada	N/A
(State or Other Jurisdiction of Incorporation or Organization)	(IRS Employer Identification No.)

495 March Road, Suite 300, Ottawa, Ontario	K2K 3G1
(Address of Principal Executive Offices)	(Zip Code)

(613) 270-0619

(Registrant’s Telephone Number, Including Area Code)

(Former Name, Former Address and Former Fiscal Year,

if Changed Since Last Report)

Indicate by check mark whether the registrant:  (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company.   See definition of “accelerated filer,” “large accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act (check one):

Large accelerated filer  oAccelerated filer  oNon-accelerated filer o Smaller Reporting Company x

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

As of December 15, 2008, there were 56,079,178 common shares, no par value, outstanding, excluding 108,304 common shares held in escrow.

WORKSTREAM INC.  

TABLE OF CONTENTS

			Page No.
Part I.	Financial Information
	Item 1.	Unaudited Consolidated Financial Statements
		Unaudited Consolidated Balance Sheets as of August 31, 2008 and May 31, 2008	2
		Unaudited Consolidated Statements of Operations for the Three Months Ended August 31, 2008 and 2007	3
		Unaudited Consolidated Statements of Cash Flows for the Three Months Ended August 31, 2008 and 2007	4
		Notes to Unaudited Consolidated Financial Statements	5
	Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	18
	Item 4T.	Controls and Procedures	25
Part II.	Other Information
	Item 1.	Legal Proceedings	26
	Item 1A.	Risk Factors	26
	Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	28
	Item 3.	Defaults Upon Senior Securities	28
	Item 4.	Submission of Matters to a Vote of Security Holders	28
	Item 5.	Other Information	28
	Item 6.	Exhibits	29
	Signatures		29

1

PART 1 – FINANCIAL INFORMATION

ITEM 1: UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

WORKSTREAM INC.

UNAUDITED CONSOLIDATED BALANCE SHEETS

	August 31, 2008			May 31, 2008
ASSETS
Current assets:
Cash and cash equivalents	$	1,309,951		$	3,435,337
Restricted cash		425,800			391,415
Short-term investments		58,892			67,983
Accounts receivable, net		3,576,470			3,293,279
Prepaid expenses and other assets		402,754			501,970
Assets held-for-sale		3,770,859			3,890,865
Total current assets		9,544,726			11,580,849
Equipment, net		1,722,809			1,955,887
Other assets		15,823			75,737
Acquired intangible assets, net		310,921			449,975
Goodwill		14,324,734			14,324,734
TOTAL ASSETS	$	25,919,013		$	28,387,182
LIABILITIES AND STOCKHOLDERS’ EQUITY (CAPITAL DEFICIENCY)
Current liabilities:
Accounts payable	$	2,833,481		$	3,114,565
Accrued liabilities		3,384,113			2,971,645
Accrued compensation		724,177			1,124,384
Current portion of long-term obligations		556,683			541,141
Deferred revenue		2,183,540			2,396,002
Liabilities related to assets held-for-sale		830,185			823,371
Total current liabilities		10,512,179			10,971,108
Long-term obligations less current portion		169,140			272,300
Deferred revenue – long term		160,904			113,000
Common stock warrant liability		-			19,000,000
Note payable		19,000,000			-
Total liabilities		29,842,223			30,356,408
Contingencies (Note 4)
STOCKHOLDERS’ EQUITY (CAPITAL DEFICIENCY)
Preferred stock, no par value		-			-
Common stock, no par value: 52,442,818 and 52,442,818
shares issued and outstanding, respectively		112,588,378			112,588,378
Additional paid-in capital		18,355,229			18,261,543
Accumulated other comprehensive loss		(795,278	)		(799,190	)
Accumulated deficit		(134,071,539	)		(132,019,957	)
Total stockholders’ equity (capital deficiency)	$	(3,923,210	)	$	(1,969,226	)
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY (capital deficiency)	$	25,919,013		$	28,387,182

See accompanying notes to these consolidated financial statements.

2

WORKSTREAM INC.

UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS

	Three Months Ended August 31,
	2008			2007
Revenues:
Software	$	1,791,457		$	2,546,459
Professional services		721,971			975,132
Rewards and discount products		1,518,915			1,370,280
Career networks		903,091			1,642,779
Revenues, net		4,935,434			6,534,650
Cost of revenues:
Rewards and discount products		1,174,012			1,015,377
Other		427,202			718,405
Cost of revenues (exclusive of amortization
and depreciation expense noted below)		1,601,214			1,733,782
Gross profit		3,334,220			4,800,868
Operating expenses:
Selling and marketing		993,779			2,413,056
General and administrative		2,667,492			4,727,084
Research and development		1,302,102			1,484,636
Amortization and depreciation		480,008			1,299,663
Total operating expenses		5,443,381			9,924,439
Operating loss		(2,109,161	)		(5,123,571	)
Interest and other income		140,256			1,541,191
Interest and other expense		(73,832	)		(1,981,039	)
Other income (expense), net		66,424			(439,848	)
Loss before income tax expense		(2,042,737	)		(5,563,419	)
Current income tax expense		(10,679	)		(49,908	)
Net loss from continuing operations		(2,053,416	)		(5,613,327	)
Income from discontinued operations net of taxes		1,834			112,292
NET LOSS	$	(2,051,582	)	$	(5,501,035	)
Weighted average number of common shares outstanding -basic and diluted		52,442,818			51,532,456
Basic and diluted loss per share from continuing operations	$	(0.04	)	$	(0.11	)
Basic and diluted earnings per share from discontinued operations	$	0.00		$	0.00
Total basic and diluted earnings (loss) per share	$	(0.04	)	$	(0.11	)

See accompanying notes to these consolidated financial statements.

3

WORKSTREAM INC.

UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS

	Three Months Ended
	August 31,
	2008			2007
Cash flows used in operating activities:
Net loss for the period		(2,051,582	)		(5,501,035	)
Adjustments to reconcile net loss to net cash used in
operating activities:
Amortization and depreciation		480,774			1,300,417
Leasehold inducement amortization		(13,582	)		(8,971	)
Provision for bad debt		168,608			289,206
Loss on sale or disposal of fixed asset		-			12,623
Stock related compensation		93,687			571,065
Non-cash interest expense		-			(1,494,255	)
Change in long-term portion of deferred revenue		48,865			-
Net change in components of working capital:
Accounts receivable		(327,661	)		(1,753,180	)
Prepaid expenses and other assets		154,231			161,843
Accounts payable and accrued expenses		212,540			(320,693	)
Accrued compensation		(394,542	)		105,391
Deferred revenue		(287,525	)		109,366
Net cash used in operating activities		(1,916,187	)		(6,528,223	)
Cash flows used in investing activities:
Purchase of property and equipment		(8,641	)		(182,731	)
Increase in restricted cash		(34,385	)		(4,886	)
(Increase)/decrease in short-term investments		9,091			(490	)
Net cash used in investing activities		(33,935	)		(188,107	)
Cash flows provided by (used in) financing activities:
Proceeds from exercise of options and warrants		-			39,200
Repayment of long-term obligations		(78,979	)		(164,594	)
Payment of guaranteed financing costs		-			(550,000	)
Proceeds from warrant financing		-			19,875,000
Net repayments on line of credit		-			(4,498,619	)
Net cash provided by (used in) financing activities		(78,979	)		14,700,987
Effect of exchange rate changes on cash and cash equivalents		(96,284	)		(14,175	)
Net increase / (decrease) in cash and cash equivalents		(2,125,386	)		7,970,482
Cash and cash equivalents, beginning of period		3,435,337			2,752,601
Cash and cash equivalents, end of period	$	1,309,951		$	10,723,083
Supplemental disclosure of cash flow information:
Cash paid during the period for interest	$	15,009		$	21,774
Supplemental schedule of non-cash investing and financing activities:
Equipment acquired under capital leases	$	-		$	6,694
Convert warrant liability into note payable	$	19,000,000			-

See accompanying notes to these consolidated financial statements

4

WORKSTREAM INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1.  DESCRIPTION OF THE COMPANY AND SIGNIFICANT ACCOUNTING POLICIES

Unaudited Interim Financial Information

The accompanying consolidated balance sheet as of August 31, 2008, the consolidated statements of operations for the three months ended August 31, 2008 and 2007, and the consolidated statements of cash flows for the three months ended August 31, 2008 and 2007 are unaudited but include all adjustments (consisting of normal recurring adjustments) that are, in the opinion of management, necessary for a fair presentation of our financial position at such dates and our results of operations and cash flows for the periods then ended, in conformity with accounting principles generally accepted in the United States (“GAAP”).  The consolidated balance sheet as of May 31, 2008 has been derived from the audited consolidated financial statements at that date but, in accordance with the rules and regulations of the United States Securities and Exchange Commission (“SEC”), does not include all of the information and notes required by GAAP for complete financial statements.  Operating results for the three months ended August 31, 2008 are not necessarily indicative of results that may be expected for the entire fiscal year. The consolidated financial statements should be read in conjunction with the consolidated financial statements and notes for the fiscal year ended May 31, 2008 included in the Company’s amended Form 10-K/A filed with the SEC on November 17, 2008.

Description of the Company

Workstream Inc. (“Workstream” or the “Company”), is a provider of services and software for Human Capital Management (“HCM”).  HCM is the process by which companies recruit, train, evaluate, motivate and retain their employees.  Workstream offers software and services that address the needs of companies to more effectively manage their human capital management function.  Workstream has two distinct reportable segments: Enterprise Workforce Services and Career Networks.  The Enterprise Workforce Services segment offers a suite of HCM software solutions, which includes performance management, compensation management, development, recruitment, benefits administration and enrollment, succession planning, and employee awards and discounts programs.  The Career Networks segment offers recruitment research, resume management and career transition services.  In addition, Career Networks provides services through a web-site where job-seeking senior executives can search job databases and post their resumes, and companies and recruiters can post position openings and search for qualified senior executive candidates.  Workstream conducts its business primarily in the United States and Canada.

On August 4, 2008, the Board of Directors of Workstream actively engaged an investment bank to sell 6FigureJobs.com which is reported under the Career Networks segment of the business (see Note7).

Management Assessment of Liquidity

The opinion of our independent registered public accountants on the audited financial statements as of and for the year ended May 31, 2008 contained an explanatory paragraph regarding substantial doubt about our ability to continue as a going concern.

We have had operating losses since our inception, and during fiscal 2009, we have had an operating loss of approximately $2,052,000 and cash used in operating activities of approximately $2,016,000.  Cash and cash equivalents, restricted cash and short-term investments on hand as of August 31, 2008 totaled approximately $1,795,000.  These trends raise concerns about the sufficiency of the Company’s liquidity levels to be able to support its operations in the near term.  Due to significant reductions in operating expenses in the fourth quarter of fiscal 2008 and again in October 2008, management believes the current liquidity will be sufficient to meet its anticipated working capital and capital expenditure requirements.  The current operating loss was the result of current economic conditions and is a reflection of the overall health of the economy as a whole.  As it relates to the Career Networks segment of the business management believes that the career transition services will gain strength in this type of economy as it has in the past .   Based on an analysis of our current contracts, forecasted new business, our current backlog and current expense level, management believes the Company will meet its cash flow needs for fiscal 2009.  If these measures fall short, management will consider cost savings measures, including cutting back new product development initiatives and further reducing general and administrative expenses and reducing sales and marketing expenditures.  We recognize that there are no assurances that the Company will be successful in meeting its cash flow requirements, however, management is confident that, if necessary, there are other alternatives available to fund operations and meet cash requirements during fiscal 2009.

5

WORKSTREAM INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

While management believes that the anticipated improvement in operating cash flows together with our current cash reserves will be sufficient to meet our working capital and capital expenditure requirements through at least May 31, 2009, we are exploring other alternatives to assist in the funding of our business.  Workstream has actively engaged an investment bank to value and divest 6Figuresjobs.com.  The move is designed to infuse the Company with cash, as well as to reduce the senior secured notes payable.  In accordance with the aggregate $19 million notes, Workstream is to receive 25% of any proceeds from the sale of any assets and the senior secured note holders are to receive 75% of any proceeds.  Workstream is continuing to consider other opportunities to raise capital and align the Company’s business operations with its strategic focus.

Use of Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions affecting the amounts reported in the consolidated financial statements and the accompanying notes.  Changes in these estimates and assumptions may have a material impact on the financial statements and accompanying notes.

Significant estimates and assumptions made by management include the assessment of goodwill impairment.  When assessing goodwill for possible impairment, significant estimates include future cash flow projections, future revenue growth rates, the appropriate discount rate reflecting the risk inherent in future cash flows, the interpretation of current economic indicators and market valuations and our strategic plans with regard to our operations.  It is reasonably possible that those estimates may change in the near-term and may materially affect future assessments of goodwill impairment.  Other significant estimates include the determination of the provision for doubtful accounts, valuing and estimating useful lives of intangible assets, valuing assets and liabilities acquired through business acquisitions, and estimating future taxable income and the probability that net operating loss carryforwards will be utilized.

Principles of Consolidation

The consolidated financial statements include the accounts of Workstream Inc. and its wholly-owned subsidiaries.  All intercompany accounts and transactions have been eliminated in consolidation.

Recent Accounting Pronouncements

In September 2006, the FASB issued Statement No. 157, Fair Value Measurements. Statement 157 which defines fair value, establishes a framework for measuring fair value and requires enhanced disclosures about fair value measurements . SFAS 157 requires companies to disclose the fair value of their financial instruments according to a fair value hierachy, as defined.  SFAS 157 was to be effective for financial statements issued for fiscal years beginning after November 15, 2007 and interim periods within those fiscal years.  In february 2008, the FASB issued staff position 157-2, Effective Date of FASB Statement No. 157 (“FSP 157-2”), which delayed for one year the applicability of SFAS 157’s fair-value measurements to certain nonfinancial assets and liabilities.  We adopted SFAS 157 as of June 1, 2008, except as it applies to those nonfinancial assets and liabilities affected by the one-year delay.  The partial adoption of SFAS 157 did not have a material impact on the Company’s consolidated financial position or results of operations.  We are currently evalutaing the potential impact of adopting the remaining provisions of SFAS 157 on our consolidated  financial position and results of operations..

6

WORKSTREAM INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

In December 2007, the FASB issued Statement No. 141, Business Combinations-Revised (“SFAS No. 141(R)”).  SFAS No. 141(R) establishes principles and requirements for how an acquirer in a business combination:  recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, and any  non-controlling interests in the acquiree;  recognizes and measures goodwill acquired in the business combination or a gain from a bargain purchase price;  and, determines what information to disclose to enable users of the consolidated financial statements to evaluate the nature and financial effects of the business combination.  Statement 141 (R) applies prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008.  The application of Statement 141 (R) will cause management to evaluate future transaction returns under different conditions, particularly the near term and long term economic impact to f expensing transaction costs up front.

In March 2008, the FASB issued SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities (“SFAS 161”). The new standard is intended to improve financial reporting about derivative instruments and hedging activities by requiring enhanced disclosures to enable investors to better understand their effects on an entity’s financial position, financial performance and cash flows.  SFAS 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early application encouraged.  The Company is currently assessing the impact that SFAS 161 may have on its consolidated financial statements.

Reclassifications

Certain reclassifications have been made in the accompanying financial statements to conform to the current year presentation. These reclassifications have no impact on previously reported results of operations.

NOTE 2. ALLOWANCE FOR DOUBTFUL ACCOUNTS

The following presents the details of the change in the allowance for doubtful accounts:

Note 2. Allowance for Doubtful Accounts

The following presents the details of the change in the allowance for doubtful accounts:

	Three Months Ended			Year Ended
	August 31, 2008			May 31, 2008
Balance at beginning of the period	$	509,802		$	711,087
Charged to bad debt expense		168,608			485,087
Write-offs and effect of exchange rate changes		(63,149	)		(686,372	)
Balance at end of the period	$	615,261		$	509,802

7

WORKSTREAM INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

The Company uses historical experience and knowledge of and experience with specific customers in order to assess the adequacy of the allowance for doubtful accounts.  Any adjustments to this account are reflected in the consolidated statements of operations as a general and administrative expense.

NOTE 3. INCOME TAXES

The Company uses the asset and liability method of accounting for income taxes.  Under this method, deferred tax assets and liabilities are determined based on temporary differences between the financial statement and tax basis of assets and liabilities and net operating loss and credit carryforwards using enacted tax rates in effect for the year in which the differences are expected to reverse.  The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.  Valuation allowances are established when necessary to reduce deferred tax assets to the amounts expected to be realized.  Income tax expense is the tax payable for the period and the change in deferred tax assets and liabilities during the period.  In determining the amount of any valuation allowance required to offset deferred tax assets, an assessment is made that includes anticipating future income and determining the likelihood of realizing deferred tax assets. Management has determined that there is sufficient uncertainty regarding the ultimate realization of deferred tax assets relating to the United States operations and therefore, has provided a valuation allowance for the entire balance of the deferred assets.

NOTE 4. CONTINGENCIES

On or about August 10, 2005, a class action lawsuit was filed against the Company, its former Chief Executive Officer and its former Chief Financial Officer in the United States District Court for the Southern District of New York. The action, instituted on behalf of a purported class of purchasers of the Company’s common shares during the period from January 14, 2005 to and including April 14, 2005 (the class period), alleges, among other things, that management provided the market misleading guidance as to anticipated revenues for the quarter ended February 28, 2005, and failed to correct this guidance on a timely basis. The action claims violations of Section 10(b) of the Securities Exchange Act of 1934 (the “Exchange Act”) and Rule 10b-5 promulgated thereunder, as well as Section 20(a) of the Exchange Act, and seeks compensatory damages in an unspecified amount as well as the award of reasonable costs and expenses, including counsel and expert fees and costs. The Court certified the case as a class action.

The Company and the individual defendants thereafter filed a motion for judgment on the pleadings, based upon a recent ruling of the United States Supreme Court, seeking to dismiss the amended complaint. Plaintiffs then sought leave to file a Second Amended Complaint, and asked the Court for additional time to pursue discovery. The Court granted the motion for leave to file a Second Amended Complaint, but deferred the request for additional discovery and ruled that the pending motion for judgment on the pleadings would be considered with respect to the allegations in the Second Amended Complaint. The motion for judgment on the pleadings has been briefed and argued, but has not been ruled upon. In the event the case is not disposed of on motion, the Company expects to file a motion for summary judgment.

The Company has directors and officers’ liability insurance, which covers the liability of the individual defendants in the amount of $10 million. The Company has reached an agreement with its primary insurance carrier limiting the Company’s exposure, in the event of a resolution within the Company’s insurance limits, to $600,000.   The $600,000 was accrued for in fiscal year 2007 and is included in accrued liabilities.

8

WORKSTREAM INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

The parties have agreed to settle the claims in consideration of the payment of $3 million by the Company’s insurance carrier and issuance by the Company of $600,000 in common shares 3,636,363 shares were issued. The Court held a hearing on June 24, 2008 to consider the fairness of the settlement after notice of the settlement and the hearing had been given to the class.  No opposition to approval of the settlement was presented at the hearing.  On August 13, 2008, the Court entered a final judgement in the case which became final on September 12, 2008.

On September 27, 2006, Sunrise Equity Partners, L.P. (“Sunrise”) filed a complaint against the Company and its former Chief Executive Officer in the United States District Court for the Southern District of New York alleging a violation of Section 10b-5 of the Securities Exchange Act of 1934 and a claim under New York common law for fraudulent and negligent misrepresentations in connection with Sunrise’s purchase of common shares and warrants in a private placement.

On April 11, 2007, Nathan A. Low (“Low”) and Sunrise Foundation Trust (“Trust”) filed a complaint against the Company and its former Chief Executive Officer in the United States District Court for the Southern District of New York alleging a violation of Section 10b-5 of the Securities Exchange Act of 1934 and a claim under New York common law for fraudulent and negligent misrepresentations in connection with Low’s and the Trust’s purchase of common shares and warrants in a private placement. The three plaintiffs invested an aggregate of $4 million in the Company in the private placement.

The case was settled on August 13, 2008 and has been settled for $3.9 million of which $3.3 million is cash and $600,000 in common shares, pursuant to written agreement, and the litigation has been dismissed.  The settlement of the claims against defendants was funded by proceeds from the Company’s insurance policies.

On June 24, 2008, the Company filed a lawsuit in the Superior Court of the State of Delaware in and for New Castle County (the “State Court Lawsuit”) against Empagio Acquisition, LLC (“Empagio”) and SMB Capital Corporation (“SMB”) to obtain the $5 million termination fee required to be paid by Empagio and SMB pursuant to Section 7.02 of the Agreement and Plan of Merger dated as of February 12, 2008 among the Company, Workstream Merger Sub Inc., Empagio and SMB, which agreement was terminated by the Company on June 13, 2008.  On June 25, 2008, Empagio and SMB filed a lawsuit against the Company in the United States District Court for the District of Delaware (the “Federal Lawsuit”) alleging entitlement to a $3 million termination fee pursuant to the Agreement and Plan of Merger.  On July 29, 2008, Empagio and SMB filed a notice of voluntary dismissal of their Federal Lawsuit based on an understanding that Empagio and SMB would make their claim as part of the Company’s State Court Lawsuit.  In accordance with the voluntary notice of dismissal of the Federal Lawsuit, Empagio and SMB have now asserted their claims in the State Court Lawsuit.  The Company has denied these allegations.  The parties are now awaiting the issuance of a Case Management Order, which will establish deadlines in this action.  Also, now under new Delaware Rule 16, this matter is subject to mandatory alternative dispute resolution.

The Company is subject to other legal proceedings and claims which arise in the ordinary course of business.  The Company does not believe that the resolution of such actions will materially affect the Company’s business, results of operations, financial condition or cash flows.

NOTE 5 STOCK-BASED COMPENSATION PLAN

The Company has granted stock options to employees, directors and consultants under the 2002 Amended and Restated Stock Option Plan (the “Plan”), which was most recently amended in November 2007 at the annual shareholders’ meeting.  The shareholders approved an amendment to increase the number of shares of common stock reserved for issuance under the Plan by 6,000,000 shares.  Under the Plan, as amended, the Company may now issue up to 11,000,000 shares of common stock upon the exercise of stock options or restricted stock units.  The Audit Committee of the Board of Directors administers the Plan.  Under the terms of the Plan, the exercise price of any stock options granted shall not be lower than the fair market value of the common stock on the date of the grant.   Options to purchase shares of common stock generally vest ratably over a period of three years and expire five years from the date of grant.

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WORKSTREAM INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

The Company recognized $66,254 and $197,573 of stock-based compensation expense resulting from stock options in the consolidated statements of operations for the three months ended August 31, 2008 and 2007, respectively.  Compensation expense is determined using the fair-value method.  The fair value of options granted was estimated at the date of grant using the Black Scholes option-pricing model with the following assumptions:

	Three Months Ended
	August 31, 2008			August 31, 2007
Expected volatility		161	%		89	%
Expected dividend yield		0	%		0	%
Expected term (in years)		3.5			3.5
Risk-free interest rate		3.3	%		4.3	%

Stock option activity and related information is summarized as follows:

				Weighted
				Average		Weighted				Aggregate
	Number			Exercise		Average		Options		Intrinsic
	of Options			Price		Fair Value		Exercisable		Value
Balance outstanding - May 31, 2008		2,356,548		$	1.23				1,228,341		-
Granted		27,600			0.17		0.09
Exercised		-
Forfeited		(140,284	)		1.61
Balance outstanding - August 31, 2008		2,243,864		$	1.19				1,416,439	$	-

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WORKSTREAM INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

The aggregate intrinsic value in the table above represents total intrinsic value (of options in the money), which is the difference between the Company’s closing stock price on August 31, 2008, the last trading

day of the reporting period and the exercise price times the number of shares, that would have been received by the option holders had the option holders exercised their options on August 31, 2008.

Information about options outstanding at August 31, 2008 is as follows:

The following table summarizes information about options outstanding at August 31, 2008:

				Options Outstanding				Exercisable
				Weighted
				Average		Weighted				Weighted
				Remaining		Average		Number		Average
Exercise		Number		Contractual		Exercise		Vested and		Exercise
Price		Outstanding		Life (Years)		Price		Outstanding		Price
Less than $.99			971,366		4.23	$	0.74		523,064	$	0.76
	$1.00-$1.99		1,069,367		2.79	$	1.34		694,078	$	1.38
	$2.00-$2.99		156,600		1.00	$	2.44		152,766	$	2.44
$3.00 and over			46,531		1.32	$	3.24		46,531	$	3.24
Total			2,243,864						1,416,439

As of August 31, 2008, $291,184 of total unrecognized compensation costs related to non-vested stock options is expected to be recognized over the weighted average period of 3.25 years.  The realized tax benefit from stock options and other share based payments was $0 for the three month period ended August 31, 2008 and 2007 due to the uncertainty of realizability.

11

WORKSTREAM INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

The Company grants restricted stock units to certain management and members of the Board of Directors.  Each restricted stock unit represents one share of common stock and vests ratably over three years.  The Company will then issue common stock for the vested restricted stock units upon exercise by the grantee.  During the vesting period, the restricted stock units cannot be transferred, and the grantee has no voting or dividend rights.  The cost of the awards, determined to be the fair market value of the shares at the date of the grant, is expensed ratably over the vesting period.  The compensation expense associated with the restricted stock units totaling $27,433 and $373,492for the three months ended August 31, 2008 and 2007, repsectively, is included in general and administrative expenses on the consolidated statements of operations and in additional paid-in capital on the consolidated balance sheets.  During the three months ended August 31, 2008, the Company did not grant any restricted stock units and none were forfeited. There were 486,670 restricted stock units outstanding including 281,111 that were fully vested, as of August 31, 2008.

	Number Restricted Shares			Weighted Average Grant Date Fair Value
Balance non-vested - May 31, 2008		486,670
Granted		-
Vested		(281,111	)		1.10
Forfeited		-
Balance non-vested - August 31, 2008		205,559

NOTE 6.                      SEGMENT AND GEOGRAPHIC INFORMATION

The Company has two reportable segments: Enterprise Workforce Services and Career Networks.  Enterprise Workforce Services consists of revenue generated from HCM software and related professional services.  In addition, Enterprise Workforce Services generates revenue from the sale of various products through the rewards and discount modules of the HCM software.  Career Networks primarily consists of revenue from career transition, applicant sourcing and recruitment research services.

The Company evaluates the performance in each segment based on profit or loss from operations.  There are no inter-segment sales.  Corporate operating expenses are allocated to the segments primarily based on revenue.

The Company’s segments are distinct business units that offer different products and services.  Each is managed separately and each has a different client base that requires a different approach to the sales and marketing process.  In addition, Career Networks is an established business unit whereas Enterprise Workforce Services is a developing business unit.

12

WORKSTREAM INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

Business Segments

The following table summarizes the distribution of revenue by business segment:

	Three Months Ended
	August 31, 2008
	Enterprise
	Workforce			Career
	Services			Networks			Total
Software	$	1,791,457		$	-		$	1,791,457
Professional services		721,971			-			721,971
Rewards and discount products		1,518,915			-			1,518,915
Career Networks		-			903,091			903,091
Revenues, net		4,032,343			903,091			4,935,434
Cost of revenues, rewards
and discount products		1,174,012			-			1,174,012
Cost of revenues, other		321,076			106,126			427,202
Gross profit		2,537,255			796,965			3,334,220
Expenses		3,745,350			1,218,023			4,963,373
Amortization and depreciation		462,736			17,272			480,008
Business segment loss	$	(1,670,831	)	$	(438,330	)		(2,109,161	)
Other income/expense and impact
of income taxes								(55,745	)
Net loss from continuing operations							$	(2,053,416	)

13

WORKSTREAM INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

The following table summarizes the distribution of revenue by business segment:

	Three Months Ended
	August 31, 2007
	Enterprise
	Workforce			Career
	Services			Networks			Total
Software	$	2,546,459		$	-		$	2,546,459
Professional services		975,132			-			975,132
Rewards and discount products		1,370,280			-			1,370,280
Career Networks		-			1,642,779			1,642,779
Revenues, net		4,891,871			1,642,779			6,534,650
Cost of revenues, rewards
and discount products		1,015,378			-			1,015,378
Cost of revenues, other		587,513			130,891			718,404
Gross profit		3,288,980			1,511,888			4,800,868
Expenses		6,566,770			2,058,006			8,624,776
Amortization and depreciation		1,282,850			16,813			1,299,663
Business segment loss	$	(4,560,640	)	$	(562,931	)		(5,123,571	)
Other income/expense and impact
of income taxes								489,756
Net loss for continuing operations							$	(5,613,327	)

Reclassed to conform to the current period’s presentation.

The following table summarizes the distribution of assets by business segment:

	As of August 31, 2008						As of May 31, 2007
	Enterprise						Enterprise
	Workforce		Career				Workforce		Career
	Services		Networks		Total		Services		Networks		Total
Business segment assets	$	5,442,312	$	275,544	$	5,717,856	$	5,564,763	$	382,117	$	5,946,880
Intangible assets		310,921		-		310,921		449,975		-		449,975
Assets held-for-sale		-		3,770,859		3,770,859		-		-		3,890,865
Goodwill		11,381,660		2,943,074		14,324,734		11,381,660		2,943,074		14,324,734
	$	17,134,893	$	6,989,477		24,124,370	$	17,396,398	$	3,325,191		24,612,454
Assets not allocated
to business segments						1,794,643						3,774,728
Total assets					$	25,919,013					$	28,387,182

Reclassed to conform to the current period’s presentation.

Identifiable assets at August 31, 2007 exclude assets of discontinued operations held-for-sale

14

WORKSTREAM INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

Geographic

The following table summarizes the distribution of revenue by geographic region:

	Three Months Ended
	August 31, 2008
				United
	Canada			States			Total
Revenues	$	306,646		$	4,628,788		$	4,935,434
Expenses		1,243,815			5,800,780			7,044,595
Geographical loss	$	(937,169	)	$	(1,171,992	)		(2,109,161	)
Other income/expenses and impact of income taxes								(55,745	)
Net loss							$	(2,053,416	)

The following table summarizes the distribution of revenue by geographic region:

	Three Months Ended
	August 31, 2007
				United
	Canada			States			Total
Revenues	$	349,033		$	7,019,127		$	7,368,160
Expenses		1,351,270			10,925,812			12,277,082
Geographical loss	$	(1,002,237	)	$	(3,906,684	)		(4,908,922	)
Other income/expenses and impact of income taxes								704,405
Net income (loss)							$	(5,613,327	)

Reclassed to conform to the current period’s presentation.

Identifiable assets at August 31, 2007 exclude assets of discontinued operations held-for-sale

The following table summarizes the distribution of assets by geographic region:

	As of August 31, 2008						As of May 31, 2008
			United						United
	Canada		States		Total		Canada		States		Total
Long-lived assets	$	1,296,802	$	15,077,485	$	16,374,287	$	1,463,762	$	19,233,436	$	20,697,198
Assets held-for-sale		-				3,770,859					$	3,890,865
Current assets						5,773,867						7,689,984
Total assets					$	25,919,013					$	28,387,182

Reclassed to conform to the current period’s presentation.

Identifiable assets at August 31, 2007 exclude assets of discontinued operations held-for-sale

15

WORKSTREAM INC.

NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

NOTE 7.                      Discontinued Operations and Assets Held For Sale

On August 4, 2008 the Board of Directors of Workstream engaged an investment bank to sell 6Figuresjobs.com (6FJ). The carrying value of the assets of 6FJ at August 31, 2008 is $3,770,859 consisting mainly of $3,405,000 of goodwill and $354,180 of accounts receivable.  The carrying value of the liabilities is $830,185 consisting mainly of $520,845 of deferred revenue and $304,930 of accounts payable and accrued liabilities. The sale of 6FJ is designed to infuse the Company with cash to enhance the Company’s working capital position as well as to reduce the senior secured notes payable.  Per the senior secured notes payable  made with the Special Warrant Holders (SWH), Workstream is to receive 25% of any proceeds from the sale of any assets and the SWH are to receive 75% of any proceeds.  6Figuresjobs.com is considered an industry leader in the job board market and is a part of the Career Networks division.  Based on the current valuation of the business, we do not anticipate any impairment or loss from the sale.

Assets held for sale
	August 31,		May 31,
Assets	2008		2008
Accounts receivable net	$	354,180	$	478,319
Prepaid & other assets		5,233		333
Equipment, net		4,182		4,949
Goodwill		3,404,714		3,404,714
Other assets		2,550		2,550
Total assets	$	3,770,859	$	3,890,865
Liabilities
Accounts payable	$	90,632	$	61,285
Accrued liabilities		156,241		108,073
Accrued compensation		58,057		52,390
Long-term obligation, current		2,329		2,029
Deferred revenue		520,845		595,907
Long-term obligation		2,081		3,687
Total liabilities	$	830,185	$	823,371

	Three months ended		Three months ended
	August 31,		August 31,
	2008		2007
Total revenues, net of interest expense	$	5,552,887	$	7,368,160
Income from discountinued operations		1,834		112,292
Provision for (benefit from) for income taxes		-		-
Income from discountinued operations, net	$	1,834	$	112,292

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NOTE 8.                      Senior Secured Notes Payable

On August 3, 2007, the Company consummated a private placement of securities pursuant to which the Company raised $20,000,000 through the sale of two series of warrants.  The first series of warrants (the “Special Warrants”) were convertible into 16,000,000 common shares at a conversion price of $1.25 per share.  The Special Warrants had a five year life; however, after the fourth year the holder had the right to require the Company to purchase the unconverted portion at a price equal to fair value, which would be determined by an independent party selected by the Company and approved by the holder.  The second series of warrants (the “Additional Warrants”) were convertible into 4,000,000 common shares at an exercise price of $1.40 per share over a five year life.  OnNovember 28, 2007, the Company was informed that it would not be receiving $1,000,000 of the $20,000,000 proceeds, from one of the investors, therefore reducing the amount raised to $19,000,000.  This also reduced the number of Special Warrants sold to from 16,000,000 to 15,200,000 and reduced the number of Additional Warrants from 4,000,000 to 3,800,000.

Pursuant to FASB Statement No. 150 “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity” (“SFAS 150”), the Special Warrants were originally accounted for as a liability due to their redeemable feature, while the Additional Warrants have been accounted for as additional paid- in capital.  Using the Black-Scholes valuation model, the Company determined the fair value of the Special Warrants to be $12,681,900 as of the closing of the private placement.  Pursuant to Emerging Issue Task Force Issue 00-19 “Accounting for Derivative Financial Instruments Indexed to and Potentially Settled in a Company’s Own Stock” the value of the Additional Warrants originally amounted to $5,976,272 which was calculated as the net proceeds received less the value of the Special Warrants.

On April 14, 2008, Workstream and the holders of its Special Warrants entered into a Forbearance Agreement pursuant to which the holders of the Special Warrants agreed to forbear, for a period of one year and one day, any rights they have to require the redemption of the Special Warrants as a result of the occurrence of triggering events under the Special Warrants and to any fees owing to the Special Warrant holders under the Registration Rights Agreement Workstream entered into with them.  Due to the triggering events described above, as of February 29, 2008, we no longer believe the Black-Scholes valuation model is indicative of the fair value of the Special Warrants.  As a result, we evaluated the possible outcomes and determined the weighted-average value of the warrant liability to be $19 million as of February 29, 2008.  This adjustment resulted in $13,051,901 of interest expense in the third quarter of fiscal 2008.

On August 29, 2008, we entered into a separate Exchange Agreement with each of the holders of our Special Warrants pursuant to which, among other things, each Investor exchanged its Special Warrant for a senior secured Note, in the original principal amount equal to the original purchase price of its Special Warrant (totaling, in the aggregate, approximately $19,000,000).  Each Note is secured by a lien on all of our assets and our subsidiaries pursuant to the terms of a Security Agreement with each Investor.  Interest on each Note accrues at an annual rate of 7%.  The interest rate will increase to 12% per year if we have not repaid at least 50% of the sum of the original principal amount of the Note plus all accrued but unpaid interest and late charges, if any, upon the one-year anniversary of the issuance of the Note.  Interest is payable at maturity of each Note, which is August 29, 2010.  Upon the occurrence of an event of default, as defined in the Notes, an Investor may require us to redeem all or a portion of such Investor’s Note at a price equal to 110% of the sum of the principal amount of the Note, accrued and unpaid interest and late fees, if any, to be redeemed.  Upon a Disposition (as defined in the Notes) of assets, we have agreed to use 75% of the gross proceeds from such Disposition to redeem the Notes (on a pro rata basis among the Investors) and 25% (such amount not to exceed $2,500,000) of the gross proceeds may be retained by us.  In addition, in the event that we receive cash, cash equivalents or publicly-traded securities in an amount exceeding $2,000,000 in connection with the settlement of certain litigation involving us, we agree to use 75% of the amount received in excess of $2,000,000 to redeem the Notes (on a pro rata basis among the Investors).  Each Note contains customary covenants with which we must comply.  Each of our subsidiaries delivered a Guaranty pursuant to which it agreed to guarantee our obligations under each Note.

17

Pursuant to the terms of the Exchange Agreement, each Investor also exchanged the additional warrant held by it for a new warrant exercisable for the same number of common shares at an exercise price of $.25 per share.  All other material terms of the new warrants are substantially the same as those contained in the warrants being exchanged, including the existence of  anti-dilution provisions that provide for a full adjustment of the exercise price and the number of common shares to be issued in the event we, in certain circumstances, issue securities at a price below the exercise price of the New Warrants.  Each New Warrant must be exercised on or prior to August 3, 2012 or it will expire by its terms.

The note payable contains covenants that, among other things, limit our ability and the ability of our subsidiaries to:

· Incur additional indebtedness;

· create liens;

· pay dividends or repurchase capital stock;

· restricts payments;

· restriction on transfer of assets.

Upon the occurrence of an event of default, as defined in the Notes, an Investor may require the Company to redeem all or a portion of such Investor’s Note at a price equal to 110% of the sum of the principal amount of the Note, accrued and unpaid interest and late fees, if any, to be redeemed.  While management does not believes that the Company is in an event of default as of November 14, 2008, there can be no assurance that the Company will not be in default during fiscal 2009 and beyond.  In the event of default without a waiver from the note holders the Company may not be able to comply with the requirements of an event of default.

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

Forward Looking Statements

Certain statements discussed in Item 2 (Management’s Discussion and Analysis of Financial Condition and Results of Operations and elsewhere in this Form 10-Q constitute “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995.  Such forward-looking statements concerning management’s expectations, strategic objectives, business prospects, anticipated economic performance and financial condition and other similar matters involve known and unknown risks, uncertainties and other important factors that could cause the actual results, performance or achievements of results to differ materially from any future results, performance or achievements discussed or implied by such forward-looking statements.  Such risks, uncertainties and other important factors are described in Items 1A (Risk Factors) and 7 (Management’s Discussion and Analysis of Financial Condition and Results of Operations) of the Company’s Form 10-K for the fiscal year ended May 31, 2008 and in Item 1A of Part II hereunder.  The words “estimate,” “project,” “intend,” “believe,” “plan” and similar expressions are intended to identify forward-looking statements.  Forward-looking statements speak only as of the date of the document in which they are made.  The Company disclaims any obligation or undertaking to provide any updates or revisions to any forward-looking statement to reflect any change in the Company’s expectations or any change in events, conditions or circumstances on which the forward-looking statement is based.

The following discussion and analysis should be read in conjunction with our unaudited consolidated financial statements and accompanying notes for the three months ended August 31, 2008.  All figures are in United States dollars, except as otherwise noted.

Overview

We are a provider of services and web-based Software-as-a-Service (SaaS) products for organizations requiring talent management solutions for their Human Capital Management (HCM) processes. Talent Management is the process by which companies recruit, train, evaluate, motivate, develop and retain their employees.  We have two distinct operating segments, which are Enterprise Workforce Services and Career Network Services.  The Enterprise Workforce Services segment primarily consists of HCM software, professional services and additional products sold as part of reward and discount programs.  Specifically, our Enterprise Workforce segment offers a complete suite of on-demand HCM software solutions, which address performance, compensation, development, recruitment, benefits and rewards.  The Career Networks segment consists of career transition, applicant sourcing and recruitment research services.

18

Workstream provides on-demand compensation, performance and talent management solutions and services that help companies manage the entire employee lifecycle - from recruitment to retirement.  We offer software and services that focus on talent management and address the needs of companies to more effectively manage their human capital management function.  We believe that our integrated end-to-end talent management suite, which brings together our entire modular stand-alone applications on a common platform, is a more efficient and effective than traditional methods of human resource management. Workstream's TalentCenter Solution Suite provides a unified view of Workstream products and services. Access to our TalentCenter Solution Suite is offered on a monthly subscription basis under a SaaS based on-demand software delivery model designed to help companies build high performing workforces, while controlling costs.

Key Performance Indicators

The following table summarizes the key performance indicators that we consider to be material in managing our business, in thousands (except percentages):

	For the three months ended
	August 31			August 31
	2008			2007
	(unaudited)			(unaudited)
Total Revenue	$	4,935		$	6,535
Hosting revenue		23	%		18	%
License revenue		9	%		16	%
Subscription revenue		0	%		0	%
Total Software revenue		32	%		34	%
Professional services		13	%		13	%
Rewards and tickets		27	%		19	%
Career Networks		29	%		36	%
Operating loss	$	(2,109	)	$	(5,123	)
Net cash used in operating activities	$	(2,016	)	$	(6,528	)

The following table summarizes the operating segments as a percentage of deferred revenue, in thousands (except percentages):

	As of			As of
	August 31, 2008			May 31, 2007
	(unaudited)
Total deferred revenue	$	2,344		$	2,509
Enterprise Workforce Services		85	%		67	%
Career Networks		15	%		33	%

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Results of Operations

The following table sets forth certain condensed consolidated statements of operations data expressed as a percentage of total revenue for the periods indicated.  Period-to period comparisons of our financial results are not necessarily meaningful and you should not rely on them as an indication of future performance.

	Three Months ended
	August 31,
	2008			2007
Revenues:
Software		36	%		35	%
Professional services		15	%		13	%
Rewards and discount products		31	%		19	%
Career Networks		18	%		22	%
Revenues, net		100	%		89	%
Cost of revenues:
Rewards and discount products		24	%		14	%
Other		9	%		10	%
Cost of revenues (exclusive of amortization and depreciation expense noted below)		32	%		24	%
Gross profit		68	%		65	%
Operating expenses:
Selling and marketing		20	%		33	%
General and administrative		54	%		64	%
Research and development		26	%		20	%
Amortization and depreciation		10	%		18	%
Total operating expenses		110	%		135	%
Operating loss		143	%		178	%
Interest and other income		1	%		21	%
Interest and other expense		0	%		-27	%
Other income (expense), net		1	%		-6	%
Loss before income tax		144	%		172	%
Current income tax expense		0	%		-1	%
NET LOSS		144	%		172	%

REVENUES

Consolidated revenues were $4,935,000 for the quarter ended August 31, 2008 compared to $6,534,000 for the quarter ended August 31, 2007, a decrease of $1,599,000 or 32%.

Software revenues for the first quarter 2009 were $1,791,000 compared to $2,547,000 for the first quarter 2008, a decrease of $756,000 or 42%.  Software revenue, which is comprised of subscription, hosting and maintenance fees, was down due to the first fiscal quarter of 2008 including one-time revenue relating to a source code deal and the run out of existing hosting and maintenance contracts.

20

Professional services revenues for the first quarter 2009 were $722,000 compared to $975,000 for the first quarter 2008, a decrease of $253,000 or 26%.  The decrease in professional services was primarily due to a reduction in new customer implementations and upgrades.

Rewards and discount products revenues for the first quarter 2009 were $1,519,000 compared to $1,370,000 for the first quarter 2008, an increase of $149,000 or 11%.  The increase was the result of additional contracted revenue from one of our larger customers and an increase in redemptions from several of our existing customers, as well as, changes in product offerings and revenue mix.

Career Networks revenues for the first quarter 2009 were $903,000 compared to $1,643,000 for the first quarter 2008, a decrease of $740,000 or 45%.  The decrease in revenues was due to less advertising and economic conditions that negatively affected deals in the recruiting and career transition services segment of the business.

COST OF REVENUES AND GROSS PROFIT

Software cost of revenues for the first quarter 2009 was $427,000 compared to $718,000 for the first quarter 2008 a decrease of $291,000 or 41%.  The decrease was the result of reductions in spending by management to control costs and right size the business.  Gross profit was $3,334,000 or 68% for the first quarter 2009 compared to $4,801,000 or 73% for the first quarter 2008, a decrease of $1,467,000 or 31%.  The change in gross profit margin was the result of the first quarter of fiscal year 2008 including a source code deal, which has less costs than the typical hosting model.

Rewards and discount product cost of revenues accounted for $1,174,000 of the total cost of revenues for first quarter 2009 compared to $1,015,000 for first quarter 2008, an increase of $159,000 or 16%. The increase was driven by an increase in sales and by the redemption mix of our products.  Rewards and discount products gross profit was $345,000 or 23% for first quarter 2009 compared to $355,000 or 26% for first quarter 2008, a decrease of $10,000 or 3%.   The decrease in gross profit was the result of redemption mix of products.

SELLING AND MARKETING EXPENSE

Selling and marketing expenses were $994,000 for the first quarter 2009 compared to $2,413,000 for first quarter 2008, a decrease of $1,419,000 or 59%.  The decrease was due to a 26% reduction in headcount in the third quarter of fiscal 2008.  Management believed that it needed to reduce current costs to align revenues with expenses and we believe these expenditures will increase in the future, as revenue increases, to sustain sales momentum.

GENERAL AND ADMINISTRATIVE EXPENSE

General and administrative expenses were $2,667,000 for first quarter 2009 compared to $4,727,000 for first quarter 2008, a decrease of $2,060,000 or 44%.  The primary reason for the decrease was the 26% reduction in headcount in the third quarter of fiscal 2008.  Management believed that it needed to reduce current costs to align revenues with expenses.  Other contributing factors were decreases in spending in connection with professional fees associated with the potential merger with Empagio and a reduction in other professional fees due to recruiting costs associated with new hires in the prior year.  Non-cash compensation associated with stock options also decreased as a result of the of reduction in force.

RESEARCH AND DEVELOPMENT EXPENSE

Research and development expenses were $1,302,000 for first quarter 2009 compared to $1,485,000 for first quarter 2008, a decrease of $183,000 or 12%.  Professional fees relating to research and development were reduced as the latest revision to our acquired technology was standardized and integrated with  the software applications.

21

AMORTIZATION AND DEPRECIATION EXPENSE

Amortization and depreciation expense was $481,000 for first quarter 2009 compared to $1,300,000 for first quarter 2008, a decrease of $819,000 or 63%.   The decrease reflects certain acquired intangible assets that were fully amortized in the prior fiscal year.  Without additional business acquisitions, amortization expense will continue to decrease during fiscal 2009.

INTEREST AND OTHER INCOME

Interest and other income was $140,000 for first quarter 2009 compared to $1,541,000 for the first quarter 2008, a decrease of $1,401,000 or 91%.  During fiscal 2008, as required by FASB Statement No. 150, pursuant to our August 2007 equity financing, we accounted for changes in the fair value of the warrant liability as either interest income or expense based on the change in the value of the associated warrants for the related period.  In August 2008, the special warrants were converted into a 2 year senior secured note payable, which eliminated the warrant liability.

INTEREST AND OTHER EXPENSE

Interest and other expense was ($74,000) for first quarter 2009 compared to $1,981,000 for first quarter 2008, a decrease of $2,055,000 or 104%.  Interest expense for the prior year quarter primarily included interest on a term loan which was paid off in August 2008.

LIQUIDITY AND CAPITAL RESOURCES

The opinion of our independent registered public accountants on the audited financial statements for the year ended May 31, 2008 contained an explanatory paragraph regarding doubt about or ability to continue as a going concern.

As of August 31, 2008, we maintained $1,795,000 in cash, cash equivalents and short-term investments.  Working capital, which represents current assets less current liabilities, was negative $967,000, a decrease of $358,000 compared to August 31, 2007.

As of August 31, 2008, $426,000 was restricted from use in order to collateralize various lease arrangements.  The restricted cash guaranteeing the leases will periodically decrease according to the terms of the lease agreements.

For the three months ended August 31, 2008, cash used in operations totaled $1,916,000, consisting primarily of the net loss for the period of $2,052,000.  In addition, non-cash expenses included amortization and depreciation of $481,000.

Net cash used in investing activities during the three months ended August 31, 2008 was $34,000 and was primarily attributable to purchases of property and equipment.

Net cash provided by financing activities during the three months ended August 31, 2008 was $79,000 and was the result of normal capital lease payments.

We have had operating losses since our inception, and during the first quarter of fiscal 2009.  We also had an operating loss of $2,052,000 and cash used in operating activities of $1,916,000.  Cash, cash equivalents and short-term investments on hand at May 31, 2009 totaled $1,795,000.  These trends raise concerns about the sufficiency of the Company’s liquidity levels to be able to support its operations in the near term.  Due to significant reductions in operating expenses and a solid strategic direction, developed in the fourth quarter of fiscal 2008, management believes the current liquidity will be sufficient to meet its anticipated working capital and capital expenditure requirements.  The most significant contributor to the loss incurred in fiscal 2009 was lower out placement sales, for the Career Networks segment, due to current economic situation.  Based on an analysis of our current contracts, forecasted new business and our current backlog, management believes the Company will meet its cash flow needs for fiscal 2009. In addition, management is committed to holding costs down if the projected revenue increases do not materialize. We recognize that there are no assurances that the Company will be successful in meeting its cash flow requirements, however, management is confident that, if necessary, there are other alternatives available to fund operations and meet cash requirements during fiscal 2009.

22

While management believes that the anticipated improvement in operating cash flows together with our current cash reserves will be sufficient to meet our working capital and capital expenditure requirements through at least May 31, 2009, we are exploring other alternatives to assist in the funding of our business.

Critical Accounting Policies

We believe that the following critical accounting policies affect our more significant estimates and judgments used in preparation of our consolidated financial statements.  Management makes estimates and assumptions that affect the value of assets and the reported revenues. Changes in assumptions used would impact our financial position and results.

Revenue Recognition

The Company derives revenue from various sources including the following: subscription and hosting fees; licensing of software and related maintenance fees; professional services related to software implementation, customization and training; sale of products and tickets through the Company’s employee discount and rewards software module; career transition services; recruitment research services; and, applicant sourcing.

In general, the Company recognizes revenue when all of the revenue recognition criteria are met, which is typically when:

· evidence of an arrangement exists;

· services have been provided or goods have been delivered;

· the price is fixed or determinable; and

· collection is reasonably assured.

The Company primarily provides various HCM software applications as an on-demand application service and also enters into the sale of license agreements.  Revenue is generated through a variety of contractual arrangements.

Subscription and hosting fees and software maintenance fees are billed in advance on a monthly, quarterly or annual basis.  Amounts that have been invoiced are recorded in accounts receivable and in deferred revenue or revenue, depending on whether the revenue recognition criteria have been met.  Quarterly and annual payments are deferred and recognized monthly over the service period on a straight-line basis.   Set up fees are deferred and recognized monthly on a straight-line basis over the contractual lives of the customer.

Subscription revenues and hosting fees consist of fees from customers accessing our on-demand application service.  The Company follows the provisions of SEC Staff Accounting Bulletin No. 104, Revenue Recognition and Emerging Issues Task Force Issue No. 00-21, Revenue Arrangements with Multiple Deliverables.  For revenue arrangements with multiple deliverables, the Company allocates the total customer arrangement to the separate units of accounting based on their relative fair values, as determined by the price of the undelivered items when sold separately.  Professional services included in an application services arrangement with multiple deliverables are accounted for separately when these services have value to the customer on a standalone basis, and there is objective and reliable evidence of fair value of each undeliverable item of the arrangement. When accounted for separately, revenues are recognized as the services are rendered.

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License revenues consist of fees earned from the granting of both perpetual and term licenses to use the software products.  The Company recognizes revenue from the sale of software licenses in accordance with American Institute of Certified Public Accountants ("AICPA") Statement of Position ("SOP") No. 97-2, Software Revenue Recognition, and SOP No. 98-9, Modification of SOP 97-2, Software Revenue Recognition, with Respect to Certain Transactions, when all of the following conditions are met: a signed contract exists; the software has been shipped or electronically delivered; the license fee is fixed or determinable; and the Company believes that the collection of the fees is reasonably assured.  License revenue is recorded upon delivery with an appropriate deferral for maintenance services, if applicable, provided all of the other relevant conditions have been met. The total fee from the arrangement is allocated based on Vendor Specific Objective Evidence ("VSOE") of fair value of each of the undelivered elements. Maintenance agreements are typically priced based on a percentage of the product license fee and are either multi-year or have a one-year term, renewable annually. VSOE of fair value for maintenance is established based on the stated renewal rates. Services provided to customers under maintenance agreements include technical product support and unspecified product upgrades. VSOE of fair value for the professional service element is based on the standard hourly rates the Company charges for services when such services are sold separately.

Source code revenue is generated by sales in small markets that we do not typically target.  The sales are for old versions of specific applications or products that we no longer support or sell.  As such, future earnings are not affected by these sales.  The Company recognizes revenue when all of the revenue recognition criteria are met, which is typically when the services have been completed.

Professional services revenue is generated from implementation of software applications and from customer training, customization and general consulting.  In addition, revenue is generated from technical support not included in the software maintenance.  The majority of professional services revenue is billed based on an hourly rate and recognized on a monthly basis as services are provided.  For certain contracts which involve significant implementation or other services which are essential to the functionality of the software and which are reasonably estimable, the license and implementation services revenue is recognized using contract accounting, as prescribed by SOP 81-1, Accounting for Performance of Construction-Type and Certain Production-Type Contracts.  Revenue is recognized over the period of each implementation using the percentage-of-completion method.  Labor hours incurred is used as the measure of progress towards completion, and management believes its estimates to completion are reasonably dependable. A provision for estimated losses on engagements is made in the period in which the losses become probable and can be reasonably estimated.

One of the software applications offered by the Company allows customers to offer rewards, employee recognition and benefits (discounted goods and tickets) in an effort to promote their employee retention.  The Company generates subscription revenues from the customer.  In addition, the Company generates revenue from the sale of products and tickets to the customers’ employees through a website.  The Company recognizes revenue when all of the revenue recognition criteria are met, which is typically when the goods are shipped and title has transferred.

For career transition services, the Company bills the client 50% when the assignment starts and the remaining 50% when the assignment is completed.  The Company recognizes revenue when all of the revenue recognition criteria are met, which is typically when services have been completed.

For applicant sourcing services, the Company bills its clients in advance on a monthly, quarterly and annual basis.  The Company recognizes revenue when all of the revenue recognition criteria are met, which is typically on a straight-line basis as services have been completed.  Unrecognized revenue is included in deferred revenue.

For resume management services and recruitment services, the Company bills its clients for job postings and matching of resumes per descriptions that the client provides and for quantity-based job posting packages.  The Company recognizes revenue when all of the revenue recognition criteria are met, which is typically when the services have been completed.

As described above, the Company defers certain revenues received and recognizes them ratably over the applicable term of service.  If the revenue is expected to be recognized within the following twelve months, it is classified as a current liability on the accompanying consolidated balance sheets.  If the revenue is expected to be recognized over a period longer than 12 months then the portion of revenue expected to be recognized greater than 12 months is classified as a long-term liability.

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Goodwill and Other Identified Intangible Asset Impairment

We test goodwill for impairment on an annual basis or as needed if circumstances arise that reduce the value of our reporting units below the carrying value.  We compare the fair value of each reporting unit to its carrying amount (including goodwill) for our impairment evaluation.  Our business segments are considered reporting units for goodwill impairment testing.  Goodwill is considered to be impaired if the carrying value of a reporting unit exceeds its fair value.  If goodwill is considered to be impaired, the loss that is recognized is equal to the amount that the carrying value exceeds the fair value of that goodwill.

There are judgments and estimates built into our fair value analysis, including future cash flow projections, the discount rate representing innate risk in future cash flows, market valuation, strategic operation plans and our interpretation of current economic indicators.  Changes in any of the underlying assumptions will cause a change in the results, which could lead to the fair value of one or more of the reporting units to be worth less than the current carrying amounts.  In addition to a change in market and economic conditions or our strategic plans, the possibility exists that our conclusions could change which would result in a material negative effect on both our financial position and results of operations.

Allowance for Doubtful Accounts

The Company uses historical experience and knowledge of and experience with specific customers in order to assess the adequacy of the allowance for doubtful accounts.  Any adjustments to this account are reflected in the accompanying statements of operations as a general and administrative expense.

Deferred Tax Assets

We apply significant judgment in recording deferred tax assets, which primarily are the result of loss carry forwards of companies that we acquired and loss carry forwards internally generated.  In addition, we make certain assumptions about if and when these deferred tax assets will be utilized.  These determinations require estimates of future profits to be forecasted.  Actual results may differ from amounts estimated.

ITEM 4T.    CONTROLS AND PROCEDURES

As of August 31, 2008 under the supervision of and with the participation of our management, including our principal executive officer and principal financial officer, we conducted an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 as of the end of the period covered by this report, or the evaluation date. Based upon the evaluation, our principal executive officer and principal financial officer concluded that our disclosure controls and procedures were ineffective as of the evaluation date. Disclosure controls are controls and procedures designed to reasonably ensure that information required to be disclosed in our reports filed under the Exchange Act, such as this report, is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. Disclosure controls include controls and procedures designed to reasonably ensure that such information is accumulated and communicated to our management, including our chief executive officer and chief financial officer, as appropriate to allow timely decisions regarding required disclosure.

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PART II – OTHER INFORMATION

ITEM 1.    LEGAL PROCEEDINGS

We are involved in claims, which arise in the ordinary course of business. In the opinion of management, we have made adequate provision for potential liabilities, if any, arising from any such matters. However, litigation is inherently unpredictable, and the costs and other effects of pending or future litigation,

governmental investigations, legal and administrative cases and proceedings (whether civil or criminal), settlements, judgments and investigations, claims and changes in any such matters, and developments or assertions by or against us relating to intellectual property rights and intellectual property licenses, could have a material adverse effect on our business, financial condition and operating results. See Note 4- Contingencies for further discussion.

ITEM 1A.    RISK FACTORS

In addition to the information set forth under Item 1A of Part I to our Annual Report on Form 10-K for the year ended May 31, 2008 , you should carefully consider the following factors, which could have a material adverse effect on our results of operations, financial condition, cash flows, business or the market for our common shares.  Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial may also materially adversely affect our business, financial condition and future results of operations.

We have limited operating funds, and our ability to continue as a going concern is dependent upon our ability to obtain additional capital to operate the business.

We have experienced net losses which have caused an accumulated deficit of approximately $134,000,000 as of August 31, 2008. In addition, we have consumed net cash used in operating activities of approximately $2,000,000 for the quarter ended August 31, 2008. We will require additional funds to sustain and expand our current business, and to continue implementing our business plan. These factors raise substantial doubt about our ability to continue as a going concern.

Our independent auditors have expressed substantial doubt about our ability to continue as a going concern, which may hinder our ability to obtain future financing.

Our independent registered public accounting firm has issued its report, which includes an explanatory paragraph for a going concern uncertainty on our financial statements as of May 31, 2008. Our ability to continue as a going concern is heavily dependent upon our ability to obtain additional capital to sustain operations. Currently, we have no commitments to obtain additional capital, and there can be no assurance that financing will be available in amounts or on terms acceptable to us, if at all.

The Company has a material weakness in its internal accounting controls.

In the 2008 Annual Report on Form 10-K, the Company noted that it had identified a material weakness in its internal accounting controls because of insufficient staffing in its accounting department. Management is addressing the material weakness by adding staff and increasing the level and the training of it’s staff.  As of August 31, 2008 the problem was being addressed.  Management noted that issues of the prior quarter did not exist at August 31, 2008.  By definition, a material weakness means that there is a significant deficiency that, by itself, or in combination with other significant deficiencies, results in more than a remote likelihood that a material misstatement of the annual or interim financial statements will not be prevented or detected. Additionally, the existence of a material weakness precludes management from concluding that internal control over financial reporting is effective.

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Currently our common shares trade at prices below $1.00.  If this continues in the future, our common shares could be subject to delisting by NASDAQ.

Our common stock currently trades on the NASDAQ Capital Market and the Boston Stock Exchange. On November 20, 2007, the Company received a letter from The NASDAQ Stock Market (“NASDAQ”) notifying the Company that for 30 consecutive trading days prior to the date of the letter, the minimum bid price per share of the Company's listed securities had been below the minimum bid price per share of $1.00 as required for continued inclusion on the NASDAQ Capital Market.

On May 20, 2008, we received a notice from the Nasdaq Stock Market informing the Company that pursuant to NASDAQ’s previous communication of November 20, 2007, the Company had not regained compliance with Marketplace Rule 4310(c)(4) related to the minimum closing bid price of the Company’s common shares by May 19, 2008.

The notice stated that because the Company met all initial inclusion criteria for the Capital Market set forth in Marketplace Rule 4310(c) (except for the bid price) on May 19, 2008, in accordance with Marketplace Rule 4310(c)(8)(D), the Company will now be provided an additional 180 calendar day compliance period, or until November 17, 2008, to regain compliance. To regain compliance anytime before November 17, 2008, the bid price of the Company’s common shares must close at $1.00 per share or more for a minimum of ten consecutive business days.  However, on October 16, 2008, the NASDAQ announced that, effective immediately, it was suspending the enforcement of the rules requiring a minimum $1.00 closing bid price.  The suspension will remain in effect through January 16, 2009 and, as a result, we will now have until February 18, 2009 to regain compliance with the $1.00 minimum bud price requirements.

Under the NASDAQ’s requirements, a stock can be delisted and not allowed to trade on the NASDAQ Capital Market if the closing bid price of the stock over a 30 consecutive trading-day period is less than $1.00. The Boston Stock Exchange does not maintain a similar minimum price requirement. We intend to seek shareholder approval to authorize a reverse split of our common shares in order to raise our stock price and gain compliance with the minimum bid price requirement,  However, there is no assurance that our shareholders will approve the reverse stock split or that such split, if approved, will be sufficient to allow us to maintain a bid price of at least $1.00.  No assurance can be given that the closing bid price of our common shares will satisfy the NASDAQ minimum bid price requirements and thus continue to trade on the NASDAQ Capital Market. Although our common shares may remain listed on the Boston Stock Exchange, if our common shares are delisted from the NASDAQ Capital Market, there may be a limited market for our shares, trading our stock may become more difficult and our share price could decrease even further. If our common shares are not listed on a national securities exchange or the NASDAQ Capital Market, potential investors may be prohibited from or be less likely to purchase our common shares, limiting the trading market for our stock even further.  In addition, the delisting of our common shares may result in a default under our secured promissory notes.

We are currently not in compliance with the NASDAQ’s listing requirements and may face delisting if we do not regain compliance.

We were not in compliance with the requirements for continued listing set forth in NASDAQ Marketplace Rule 4310(c)(14) because of our failure to file our annual report on Form 10-K for the fiscal year ended May 31, 2008 and our quarterly report on Form 10-Q for the fiscal quarter ended August 31, 2008.  We filed an appeal of a delisting notice delivered to us by the NASDAQ with the NASDAQ Listing Qualifications Panel requesting continued listing of our common shares until the Panel’s review and determination.  A hearing before the Panel to consider the appeal occurred on October 30, 2008.  We are awaiting a determination by the Panel on our matter.  In the meantime, we filed our annual report on November 14, 2008 and this quarterly report on the date hereof, as we undertook to do during our hearing with the Panel.  The suspension of trading and delisting remains stayed pending such appeal.  Subsequent to our hearing, the NASDAQ announced that effective as of October 30, 2008, the NASDAQ is providing a company that is delinquent in its periodic filing obligations with the opportunity to submit a plan of compliance pursuant to which the staff may grant an exception for up to 180 calendar days from the due date of the filing for the company to evidence compliance.  A company that regains compliance within that time would not receive a delisting determination.  We expect that the Panel’s determination will take into consideration such pronouncement.  In addition, currently we are not in compliance with the requirements for continued listing set forth in NASDAQ Marketplace Rule 4310(c)(3) because of our failure to maintain a stockholders’ equity of at least $2,500,000, a market value of listed securities of at least $35,000,000 or $500,000 of net income from continuing operations for the most recently completed fiscal year or two of the three most recently completed fiscal years.  The notification we received on November 20, 2008 from the NASDAQ stated that the Panel would consider this additional deficiency in rendering a determination regarding our continued listing on The NASDAQ Capital Market.  We were asked to present our views with respect to the additional deficiency to the Panel no later than December 3, 2008.  On December 3, 2008, we submitted a plan of compliance to the Panel for its consideration.  We expect to receive a determination from the Panel regarding our listing deficiencies by December 31, 2008.

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If the Panel determines not to accept our plan of compliance, our common shares will likely be delisted from trading on the NASDAQ Capital Market.  As described above, if our common shares are delisted from the NASDAQ Capital Market, there may be a limited market for our shares, trading our stock may become more difficult and our share price could decrease even further.  If our common shares are not listed on a national securities exchange or the NASDAQ Capital Market, potential investors may be prohibited from or be less likely to purchase our common shares, limiting the trading market for our stock even further.  In addition, the delisting of our common shares may result in a default under our secured promissory notes.

Michael Mullarkey, our Chairman, may have interests that are different than other shareholders and may influence certain actions.

As of December 1, 2008, Michael Mullarkey, our Executive Chairman, beneficially owned approximately 19.91% of our outstanding common shares.  Mr. Mullarkey’s interests as a major shareholder may conflict with his fiduciary duties as a director.  Mr. Mullarkey’s interests may influence how he votes on certain matters that require shareholder approval.  Mr. Mullarkey may influence the outcome of various actions that require shareholder approval including the election of our directors, delaying or preventing a transaction in which shareholders might receive a premium over the prevailing market price for their shares and preventing changes in control or management.

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

Not applicable.

ITEM 3.    DEFAULTS UPON SENIOR SECURITIES

Not applicable.

ITEM 4.   SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

Not applicable.

ITEM 5.   OTHER INFORMATION

Not applicable.

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ITEM 6.  EXHIBITS

Exhibit
Number	Description
31.1	Certification of Chief Executive Officer Pursuant to Exchange Act Rule 13a-14(a) or 15d-14(a), as adopted Pursuant to Section 302 of the Sarbanes Oxley Act of 2002.
31.2	Certification of Chief Financial Officer Pursuant to Exchange Act Rule 13a-14(a) or 15d-14(a), as adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1	Certifications of the Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

	Workstream Inc. (Registrant)
DATE:    December 15, 2008	By:	/s/ Steve Purello
	Steve Purello, President and Chief Executive Officer   (Principal Executive Officer)
DATE:    December 15, 2008	By:	/s/ Jay Markell
	Jay Markell,   Chief Financial Officer (Principal Financial Officer)

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