LIQUIDITY AND SIGNIFICANT ACCOUNTING POLICIES:

6 Months Ended

Mar. 31, 2012

LIQUIDITY AND SIGNIFICANT ACCOUNTING POLICIES:

LIQUIDITY AND SIGNIFICANT ACCOUNTING POLICIES:

(2)LIQUIDITY AND SIGNIFICANT ACCOUNTING POLICIES:

Liquidity

At March 31, 2012, the Company had a net working capital deficit of approximately $4.2 million and an accumulated deficit of approximately $66.5 million. For the six months ended March 31, 2012, the Company incurred an operating loss and a net loss of approximately $0.8 million and $1.1 million, respectively. The Company has a limited amount of cash and cash equivalents at March 31, 2012, and will be required to rely on operating cash flow and periodic funding, to the extent available, from its line of credit to sustain the operations of the Company unless it is successful in obtaining additional debt or equity funding, as discussed below, or otherwise.

In an effort to improve the Company’s cash flows and financial position, in fiscal 2011 the Company completed measures to enhance its liquidity by approximately $1,000,000 as a result of increasing the maximum availability of its credit facility and receiving funding of and/or commitments for additional equity and/or debt financing. In that regard, our largest shareholder, Wynnefield Capital, Inc., and certain of our directors and executive officers collectively provided a total of $500,000 of additional capital to the Company. As described in Note 7, $150,000 of such capital was provided through equity investments on March 31, 2011 and $350,000 of such capital was provided in July 2011 by Wynnefield Capital through the sale of convertible debentures. In addition, as described in Note 6, on February 9, 2011, the Company entered into an amendment of its Loan and Security Agreement with Presidential Financial Corporation, pursuant to which they agreed to increase the maximum availability under the Loan and Security Agreement by an additional $500,000 and provide an unbilled receivable facility within the limits of the Loan and Security Agreement. Following this increase, the maximum availability under this loan facility is $3,000,000; subject to eligible accounts receivable. At March 31, 2012, the amount available was $302,000. In addition, as described in greater detail below, the parties agreed to amend certain other provisions of the Loan Agreement, including an extension of the term of the Loan Agreement for an additional year and the Lender agreed not to seek to terminate the Loan Agreement without cause until after February 29, 2012, which date has subsequently been amended to December 31, 2012. In addition, pursuant to its current credit facility, the financial institution also has the ability to terminate the Company’s line of credit immediately upon the occurrence of a defined event of default, including among others, a material adverse change in the Company’s circumstances or if the financial institution deems itself to be insecure in the ability of the Company to repay its obligations or, as to the sufficiency of the collateral. At present, the Company has not experienced and the financial institution has not declared an event of default.

Management believes, at present, that: (a) cash and cash equivalents of approximately $0.6 million as of March 31, 2012; (b) the amounts available under its line of credit (which, in turn, is limited by a portion of the amount of eligible assets); (c) forecasted operating cash flow including timely collection of the retrospective billings; (d) the ultimate non-payment of certain liabilities and recorded guarantees currently contested by the Company or not expected to be settled in cash (see Note 6 to the accompanying consolidated financial statements) (classified as current at March 31, 2012) in fiscal 2012, or the applicable portion of 2013; and (e) effects of cost reduction programs and initiatives should be sufficient to support the Company’s operations for twelve months from the date of these financial statements. In addition, as described below in greater detail, the Company has commenced a rights offering in which existing stockholders of the Company receive non-transferable rights to purchase $4.2 million of additional shares of common stock.   However, should any of the above- referenced  factors not occur substantially as currently expected, there could be a material adverse effect on the Company’s ability to access the level of liquidity necessary for it to sustain operations at current levels for the next twelve months. In such an event, management may be forced to make further reductions in spending or to further extend payment terms with suppliers, liquidate assets where possible, and/or to suspend or curtail planned programs. Any of these actions could materially harm the Company’s business, financial position, results of operations and future prospects. Due to the foregoing there could be a future need for additional capital and the Company may pursue equity, equity-based and/or debt financing alternatives or other financing in order to raise any needed funds. If the Company raises additional funds by selling shares of common stock or convertible securities, the ownership of its existing shareholders would be diluted.

Presently, the Company derives all of its revenue from agencies of the Federal government and the Company has derived a substantial portion of its revenues through various contracts awarded by the DVA. On November 1, 2011, the Company commenced work under a single source Blanket Purchase Agreement with the DVA awarded in fiscal 2011 that represents both retention of existing work and expansion of new business at additional DVA locations. The maximum total value under this award is presently expected to be approximately $145,000,000 pursuant to site-specific task orders to be rendered by the DVA. The term of the award is for up to five years expiring October 31, 2016. The agreement is subject to the Federal Acquisition Regulations, and there can be no assurance as to the actual amount of services that the Company will ultimately provide under the agreement. This agreement effectively provides for renewal and expansion of contracts that generated, in aggregate, approximately 45% of its revenue in the year ended September 30, 2011, in respect of which the Company previously held order cover through various dates in fiscal 2012 under existing contracts. In addition, the Company also holds contractual order cover through various dates in fiscal 2012 in respect of DVA contracts that generated close to a further 50% of its revenue in the year ended September 30, 2011, which are not currently the subject of requests for proposals and may in due course be further extended by the DVA on a sole source basis, although no assurances can be given that this will occur. The Company’s results of operations, cash flows and financial condition would be materially adversely affected in the event that we are unable to continue our relationships with the DVA or suffer a significant diminution in the quantity of services that they procure from the Company.

Basis of Presentation

The consolidated interim financial statements included herein have been prepared by TeamStaff, without audit, pursuant to the applicable rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations. TeamStaff believes that the disclosures are adequate to make the information presented not misleading. These consolidated financial statements should be read in conjunction with the consolidated financial statements and the notes thereto included in TeamStaff’s fiscal 2011 Annual Report on Form 10-K which was filed on December 2, 2011. This interim financial information reflects, in the opinion of management, all adjustments necessary (consisting only of normal recurring adjustments and changes in estimates, where appropriate) to present fairly the results for the interim periods. The results of operations and cash flows for such interim periods are not necessarily indicative of the results for the full year.

The accompanying consolidated financial statements include the accounts of TeamStaff and its subsidiaries, all of which are wholly owned. All intercompany balances and transactions have been eliminated in consolidation. Certain prior period amounts have been reclassified to conform to the current period presentation. The cash flows, and related assets and liabilities of TeamStaff Rx have been reclassified to a discontinued operation in the accompanying consolidated financial statements from those of continuing businesses for all periods presented.

Revenue Recognition

TeamStaff’s revenue is derived from professional and other specialized service offerings to US Government agencies through a variety of contracts, some of which are fixed-price in nature and/or sourced through Federal Supply Schedules administered by the General Services Administration (“GSA”) and the DVA at fixed unit rates or hourly arrangements. We generally operate as a prime contractor, but have also entered into fixed price or fixed unit price contracts as a subcontractor. The recognition of revenue from fixed rates is based upon objective criteria that generally do not require significant estimates that may change over time. Other types of US Government contracts may include fixed price or flexibly priced contracts requiring estimates based on percentage-of-completion methods of recognizing revenue and profit. These contracting vehicles do not, at this time, represent a significant portion of our revenue nor require estimating techniques that would materially impact our revenue reported herein. TeamStaff recognizes and records revenue on DVA contracts when it is realized, or realizable, and earned. TeamStaff considers these requirements met when: (a) persuasive evidence of an arrangement exists; (b) the services have been delivered to the customer; (c) the sales price is fixed or determinable and free of contingencies or significant uncertainties; and (d) collectability is reasonably assured.

Revenues related to retroactive billings in 2008 from an agency of the Federal government were recognized when: (1) the Company developed and calculated an amount for such prior period services and had a contractual right to bill for such amounts under its arrangements, (2) there were no remaining unfulfilled conditions for approval of such billings and (3) collectability is reasonably assured based on historical practices with the DVA. The related direct costs, principally comprised of salaries and benefits, are recognized to match the recognized reimbursements from the Federal agency; upon approval, wages will be processed for payment to the employees.

During the year ended September 30, 2008, TeamStaff recognized revenues of $10.8 million and direct costs of $10.1 million related to these non-recurring arrangements. At March 31, 2012 and September 30, 2011, the amount of the remaining accounts receivable with the DVA approximated $9.3 million and accrued liabilities for salaries to employees and related benefits totaled $8.7 million. The $9.3 million in accounts receivable was unbilled to the DVA at March 31, 2012 and September 30, 2011. Although the timing cannot be guaranteed, at present the Company expects to bill and collect such amounts during fiscal 2012 based on current discussions with the DVA and collection efforts.  In this regard, as discussed in Note (9) — Subsequent Events, in April, 2012, the Company received formal signed contract modification documentation from the DVA to reflect relevant wage determinations under the Company’s historical contracts with the DVA. The Company, however, continues to negotiate the  final amount related to indirect costs and fees applied to these amounts. As such, there may be additional revenues recognized in future periods once the final approval for such additional amounts is obtained. The additional indirect costs and fees are estimated to be between $0.4 million and $0.6 million. Because these amounts remain subject to government review, no assurances can be given that we will receive any additional amounts from our government contracts or that if additional indirect costs and fees are received, that the amounts will be within the range specified above.

Goodwill

In accordance with applicable accounting standards, TeamStaff does not amortize goodwill. TeamStaff continues to review its goodwill for possible impairment or loss of value at least annually or more frequently upon the occurrence of an event or when circumstances indicate that a reporting unit’s carrying amount is greater than its fair value. At September 30, 2011, we performed a goodwill impairment analysis. For the purposes of this analysis, our estimates of fair value are based on the income approach, which estimates the fair value of the DLH Solutions unit based on the future discounted cash flows. Based on the results of the work performed, the Company has concluded that no impairment loss on goodwill was warranted at September 30, 2011. Major assumptions in the valuation study were the estimates of probability weighted future cash flows, the estimated terminal value of the company and the discount factor applied to the estimated future cash flows and terminal value. Estimates of future cash flows were developed by management having regard to current expectations and potential future opportunities. A terminal value for the forecast period was estimated based upon data of public companies that management believes to be similar with respect to the Company’s economics, products and markets. The discount factor used was a cost of capital estimate obtained from a leading third party data provider. The resulting estimated fair value of goodwill exceeded the carrying value at September 30, 2011 by more than 100%, resulting in no impairment charge being taken against goodwill. However, a non-renewal of a major contract (see Note 2—Liquidity) or other substantial changes in the assumptions used in the valuation study could have a material adverse effect on the valuation of goodwill in future periods and the resulting charge could be material to future periods’ results of operations.  Teamstaff has concluded as of March 31, 2012, that there is not any required write off of goodwill.  If an impairment write off of all the goodwill became necessary in future periods, a charge of up to $8.6 million would be expensed in the Consolidated Statement of Operations. All remaining goodwill is attributable to the DLH Solutions reporting unit.

Intangible Assets

As required by applicable accounting standards, TeamStaff did not amortize its tradenames, an indefinite life intangible asset. TeamStaff reviewed its indefinite life intangible assets for possible impairment or loss of value at least annually or more frequently upon the occurrence of an event or when circumstances indicated that an asset’s carrying amount was greater than its fair value. On September 15, 2011, the Board of Directors of TeamStaff approved the change of the corporate name of TeamStaff GS to DLH Solutions and also approved a plan to change the corporate name of the Company to DLH Holdings Corp. In connection with these actions, the Company will cease further use of the TeamStaff trademark and implement new marketing and branding initiatives associated with the new corporate identity being adopted by the Company. As a result of the corporate name change, abandoning the use of the TeamStaff name and associated rebranding efforts being implemented by the Company, the Company concluded that it was required to record a non-cash impairment charge with respect to the value of the “TeamStaff” trademark of $2.6 million to fully write-off the value of this trademark during the fourth quarter of fiscal 2011.

Income Taxes

TeamStaff accounts for income taxes in accordance with the “liability” method, whereby deferred tax assets and liabilities are determined based on the difference between the financial statement and tax bases of assets and liabilities, using enacted tax rates in effect for the year in which the differences are expected to reverse. Deferred tax assets are reflected on the consolidated balance sheet when it is determined that it is more likely than not that the asset will be realized. This guidance also requires that deferred tax assets be reduced by a valuation allowance if it is more likely than not that some or all of the deferred tax asset will not be realized. At March 31, 2012, the Company recorded a 100% valuation allowance against its net deferred tax assets of approximately $15.6 million.

The Financial Accounting Standards Board (“FASB”) has issued authoritative guidance that clarifies the accounting for uncertainty in income taxes recognized in an entity’s financial statements and prescribes a recognition threshold of more-likely-than-not to be sustained upon examination. Measurement of the tax uncertainty occurs if the recognition threshold has been met. This interpretation also provides guidance on de-recognition, classification, interest and penalties, accounting in interim periods and disclosures. The Company conducts business solely in the U.S. and, as a result, also files income taxes in various states and other jurisdictions. Given the substantial net operating losses and the related valuation allowance established against such amounts, the Company has concluded that it does not have any uncertain tax positions. There have been no income tax related interest or penalties for the periods presented in these consolidated financial statements. In the normal course of business, the Company and its subsidiaries are subject to examination by Federal and state taxing authorities. The Company’s income tax returns for years subsequent to fiscal 2008 are currently open, by statute, for review by authorities. However, there are no examinations currently in progress and the Company is not aware of any pending audits.

Stock-Based Compensation

Compensation costs for the portion of equity awards (for which the requisite service has not been rendered) that are outstanding are recognized as the requisite service is rendered. The compensation cost for that portion of awards shall be based on the grant-date fair value of those awards as calculated for recognition purposes under applicable guidance. As of March 31, 2012,there was $174,000 remaining unrecognized compensation expense related to non-vested stock- based awards to be recognized in future periods.

Stock Options, Warrants and Restricted Stock

There was share-based compensation expense for options for the three months ended March 31, 2012 and March 31, 2011 of $40,000 and $17,000, respectively.  There was share-based compensation expense for options for the six months ended March 31, 2012 and March 31, 2011 of $80,000 and $49,000, respectively There were no share-based compensation expense for restricted stock for the three months ended March 31, 2012 and March 31, 2011.  There was no share based compensation expense for restricted stock for the six months ended March 31, 2012, and $14,000 share based expense for restricted stock for the six months ended March 31, 2011.  Certain awards vest upon satisfaction of certain performance criteria. As permitted, the Company will not recognize expense on the performance based shares until it is probable that these conditions will be achieved. Such charges could be material in future periods.

During the three months ended March 31, 2012 and March 31, 2011, the Company did not grant any options to employees.  During the six months ended months ended March 31, 2012 the Company did not grant any options to employees.  During the six months ended March 31, 2011, the Company granted 250,000 options per the terms of an employment agreement with the Company’s Executive Vice President and recorded share-based compensation expense of $18,000 in connection with this grant.  During the three months ended March 31, 2012 and March 31, 2011, the Company did not award any non-employee options to consultants.  During the six months ended March 31, 2012, the Company awarded a total of 25,000 options to consultants serving on its strategic advisory board and incurred share based compensation expense for the three and six months ended March 31, 2012 of $6,000 and $13,000, respectively.  The Company did not grant any non-employee options during the six months ended March 31, 2011.   The Company has unrecognized non-employee option expense for the six months ended March 31, 2012 in the amount of $13,000.

During the three months ended March 31, 2012, and 2011, the Company did not grant any shares of restricted stock to employees. During the six months ended March 31, 2012, the Company granted an aggregate of 53,750 shares of restricted stock to our non-executive directors, under its 2006 Long Term Incentive Plan, at the closing price on the award date of $2.28. All of these shares vested immediately. During the six months ended March 31, 2011, the Company granted 35,000 shares of restricted stock to non-employee directors under its 2006 Long Term Incentive Plan, at the closing price on the award date of $.56. All of these shares vested immediately. Stock compensation expense associated with these grants was $122,550 and $20,000 for the six months ended March 31, 2012 and 2011, respectively. During the three and six months ended March 31, 2012 and 2011, no shares of restricted stock vested.

The stock option activity for the six months ended March 31, 2012 is as follows:

	Number of Shares		Weighted Average Exercise Price		Weighted Average Remaining Contractual Term	Aggregate Intrinsic Value
Options outstanding, September 30, 2011	1,537,500		$	1.19	9.3	$	743,785
Granted	25,000		$	1.88
Cancelled	(212,500	)	$	1.81
Exercised	—		—
Options outstanding, March 31, 2012	1,350,000		$	1.12	8.9	$	1,151,875

At March 31, 2012, there were 450,000 options outstanding that were vested and exercisable and an additional 900,000 options outstanding that vest to the recipients when the market value of the Company’s stock achieves and maintains defined levels. The Company used a binomial valuation model and various probability factors in establishing the fair value of these options.

In addition, during the six months ended March 31, 2012, an aggregate of 212,500 employee stock options to certain executive officers were cancelled, due to the Company not meeting certain performance based criteria during fiscal 2011.

The aggregate intrinsic value in the table above represents the total pretax intrinsic value (i.e., the difference between the Company’s closing stock price on the last trading day of the period and the exercise price, times the number of shares) that would have been received by the option holders had all option holders exercised their in the money options on those dates. This amount changes based on the fair market value of the Company’s stock.

At March 31, 2012, there were 52,500 shares of unvested restricted stock outstanding.  As of March 31, 2012, there are $150,000 remaining costs related to non-vested restricted stock awards.

For the six months ended March 31, 2012, the Company granted warrants to purchase 20,000 shares of common stock to a consultant for services, which warrants will expire in October 2016. These warrants have an exercise price of $2.28 per share and vest in two equal annual installments commencing on the first anniversary of the grant date.  These warrants were issued pursuant to the exemption from registration provided by Section 4(2) of the Securities Act of 1993, as amended.  Also, the Company granted options to purchase 25,000 shares of common stock to consultants for service on the Company’s Strategic Advisory Board, which options also expire in October 2016.  These options have an exercise price of $1.88 per share and vest on the first anniversary of the grant date.  The company recognized non-employee warrant expense for the three and six months ended March 31, 2012, in the amount of $3,000 and $6,000, respectively.  The Company has unrecognized non-employee warrant expense for the six months ended March 31, 2012 in the amount of $6,000.  During the three and six months ended March 31, 2011, the Company did not recognize any non-employee warrant expense.

Changes in Shareholders’ Equity

During the three months ended March 31, 2012, additional paid in capital increased by a total of $92,000 comprised of $43,000 as a result of warrants and stock compensation expense.  In addition, $55,000 of credits of the March 31, 2011 purchasers of equity via rights of offset were applied by the Company during the three months ended March 31, 2012 in respect of 113,096 shares. An offset in the amount of $6,500 was recognized for professional fees incurred for registration statement filing expenses.  During the six months ended March 31, 2012, additional paid in capital increased by a total of $262,000, including $88,000 as a result of warrants and stock compensation expense.  In addition, $60,000 of credits of the March 31, 2011 purchasers of equity via rights of offset were applied by the Company during the six months ended March 31, 2012 in respect of 124,152 shares, 53,750 shares of restricted stock were granted to the Company’s non-employee directors in the amount of $123,000 and an offset in the amount of $6,500 was recognized for professional fees incurred for registration statement filing expenses.

Fair Value of Financial Instruments

The Company has financial instruments, principally accounts receivable, accounts payable, loan payable, notes payable, and accrued expense. Due to the short term nature of these instruments, TeamStaff estimates that the fair value of all financial instruments at March 31, 2012 and September 30, 2011 does not differ materially from the aggregate carrying values of these financial instruments recorded in the accompanying consolidated balance sheets.  In addition, the Company presents certain common stock warrants and embedded conversion features (associated with Convertible Debentures — See Note 7) and accounts for such derivative financial instruments at fair value.

Loss Per Share

Loss per share is calculated by dividing loss available to common shareholders by the weighted average number of common shares outstanding and restricted stock grants that vested or are likely to vest during the period. Diluted loss per share is calculated by dividing the loss available to common shareholders by the weighted average number of basic common shares outstanding, adjusted to reflect potentially dilutive securities.  The effects of common stock equivalents of 1,350,000 are anti-dilutive for the three and six months ended March 31, 2012.  As such effects are anti-dilutive, there were no differences in the number of weighted average shares outstanding in determining basic and diluted loss per share the three and six months ended March 31, 2012 and 2011.