FORM 10Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
QUARTERLY REPORT UNDER SECTION 13 OR 15 (d)
SECURITIES EXCHANGE ACT OF 1934
For Quarter Ended September 30, 2003
Commission File No. 1-9972
Hooper Holmes, Inc.
(Exact name of registrant as specified in its charter)
New York (State or other jurisdiction of incorporation or organization) | 22-1659359 (I.R.S. Employer Identification Number) | |
170 Mt. Airy Rd., Basking Ridge, NJ (Address of principal executive office) | 07920 (Zip Code) | |
Registrant’s telephone number, including area code: (908) 766-5000
None
(Former name, former address and former fiscal year, if changed since last report)
Indicate by check mark whether the registrant (1) has filed all 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
Indicate by check mark whether the Registrant is an accelerated filer (as defined in Securities Exchange Act Rule 12b-2).
Yes X No
Indicate the number of shares outstanding of each of the issuer’s classes of common stock as of the latest practicable date.
| Class | Outstanding at September 30, 2003 | |
| Common stock, $.04 par value | 64,790,723 |
HOOPER HOLMES, INC. AND SUBSIDIARIES
| Page No. | ||
PART I – Financial Information (unaudited) | ||
ITEM 1 – Financial Statements | ||
Consolidated Balance Sheets as of September 30, 2003 and December 31, 2002 | 1 | |
Consolidated Statements of Income for the Three and Nine Months Ended September 30, 2003 and 2002 | 2 | |
Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2003 and 2002 | 3 | |
| 4-12 | ||
ITEM 2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations | 13-25 | |
ITEM 3 – Quantitative and Qualitative Disclosures About Market Risk | 26 | |
| 26 | ||
Part II– Other Information | ||
| 27 | ||
| 28 | ||
Hooper Holmes, Inc.
(Unaudited)
| 09/30/2003 | 12/31/2002 | |||||
ASSETS | ||||||
Current Assets: | ||||||
Cash and cash equivalents | $ | 19,812,363 | $ | 23,298,151 | ||
Marketable securities | 20,358,260 | 22,761,101 | ||||
Accounts receivable, net | 33,806,924 | 27,809,521 | ||||
Other current assets | 8,288,106 | 6,823,818 | ||||
Total current assets | 82,265,653 | 80,692,591 | ||||
Property, plant and equipment: | ||||||
Land and land improvements | 627,672 | 627,672 | ||||
Building | 4,883,162 | 4,882,663 | ||||
Furniture, fixtures and equipment | 26,247,599 | 24,446,393 | ||||
Leasehold improvements | 934,554 | 663,419 | ||||
Total property, plant and equipment | 32,692,987 | 30,620,147 | ||||
Less: Accumulated depreciation and amortization | 23,245,873 | 21,924,363 | ||||
Property, plant and equipment, net | 9,447,114 | 8,695,784 | ||||
Goodwill | 129,947,543 | 117,075,544 | ||||
Intangible assets, net | 29,366,213 | 28,474,439 | ||||
Other assets | 814,423 | 1,291,172 | ||||
Total assets | $ | 251,840,946 | $ | 236,229,530 | ||
LIABILITIES AND STOCKHOLDERS’ EQUITY | ||||||
Current liabilities: | ||||||
Current maturities of long-term debt | $ | 1,000,000 | $ | 172,776 | ||
Accounts payable | 10,884,661 | 10,436,388 | ||||
Accrued expenses: | ||||||
Insurance benefits | 165,082 | 484,748 | ||||
Salaries, wages and fees | 1,713,949 | 1,816,791 | ||||
Payroll and other taxes | 563,656 | 449,093 | ||||
Income taxes payable | 2,097,467 | 2,703,713 | ||||
Other | 8,520,120 | 5,853,132 | ||||
Total current liabilities | 24,944,935 | 21,916,641 | ||||
Long term debt, less current maturities | 2,039,240 | 3,313,983 | ||||
Other long term liabilities | 4,554,160 | 806,195 | ||||
Deferred income taxes | 3,279,489 | 3,483,114 | ||||
Minority interest | 336,166 | 902,650 | ||||
Commitments and contingencies | ||||||
Stockholders’ equity: | ||||||
Common stock, par value $.04 per share; authorized 240,000,000 shares, issued 67,499,074 in 2003 and 2002 | 2,699,963 | 2,699,963 | ||||
Additional paid-in capital | 127,667,970 | 128,079,363 | ||||
Accumulated other comprehensive income | 203,722 | 160,873 | ||||
Retained earnings | 106,644,558 | 96,009,551 | ||||
| 237,216,213 | 226,949,750 | |||||
Less: Treasury stock at cost (2,708,351 and 2,754,151 shares) | 20,529,257 | 21,142,803 | ||||
Total stockholders’ equity | 216,686,956 | 205,806,947 | ||||
Total liabilities and stockholders’ equity | $ | 251,840,946 | $ | 236,229,530 | ||
See accompanying notes to unaudited consolidated financial statements.
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Hooper Holmes, Inc.
Consolidated Statements Of Income
(unaudited)
| Three months ended September 30, | Nine months ended September 30, | |||||||||||||||
| 2003 | 2002 | 2003 | 2002 | |||||||||||||
Revenues | $ | 73,552,193 | $ | 59,590,822 | $ | 224,572,477 | $ | 192,095,778 | ||||||||
Cost of operations | 52,940,372 | 43,726,569 | 158,878,551 | 136,661,840 | ||||||||||||
Gross profit | 20,611,820 | 15,864,253 | 65,693,926 | 55,433,938 | ||||||||||||
Selling, general and administrative expenses | 15,009,860 | 11,063,205 | 43,935,436 | 33,588,254 | ||||||||||||
Loss on investment | 0 | 5,120,000 | 0 | 6,750,000 | ||||||||||||
Operating income (loss) | 5,601,961 | (318,952 | ) | 21,758,490 | 15,095,684 | |||||||||||
Other income (expense): | ||||||||||||||||
Interest expense | (94,716 | ) | (28,312 | ) | (270,233 | ) | (85,826 | ) | ||||||||
Interest income | 110,877 | 653,334 | 582,835 | 1,926,226 | ||||||||||||
Other (expense) income, net | (161,502 | ) | (124,600 | ) | (675,304 | ) | (552,928 | ) | ||||||||
| (145,341 | ) | 500,422 | (362,702 | ) | 1,287,472 | |||||||||||
Income before income taxes | 5,456,620 | 181,470 | 21,395,788 | 16,383,156 | ||||||||||||
Income taxes | 2,143,451 | 46,000 | 8,329,697 | 6,514,000 | ||||||||||||
Net income | $ | 3,313,169 | $ | 135,470 | $ | 13,066,091 | $ | 9,869,156 | ||||||||
Earnings per share: | ||||||||||||||||
Basic | $ | 0.05 | $ | 0.00 | $ | 0.20 | $ | 0.15 | ||||||||
Diluted | $ | 0.05 | $ | 0.00 | $ | 0.20 | $ | 0.15 | ||||||||
Weighted average number of shares: | ||||||||||||||||
Basic | 64,788,893 | 64,834,518 | 64,763,320 | 64,990,448 | ||||||||||||
Diluted | 66,917,196 | 66,820,460 | 66,611,408 | 67,544,152 | ||||||||||||
See accompanying notes to unaudited consolidated financial statements.
2
Hooper Holmes, Inc.
Consolidated Statements Of Cash Flows
(unaudited)
| Nine months ended September 30, | ||||||||
| 2003 | 2002 | |||||||
Cash flows from operating activities: | ||||||||
Net income | $ | 13,066,091 | $ | 9,869,156 | ||||
Adjustments to reconcile net income to net cash | ||||||||
provided by operating activities: | ||||||||
Depreciation and amortization | 5,029,642 | 3,685,097 | ||||||
Loss on investment | 0 | 6,750,000 | ||||||
Provision for bad debt expense | 135,000 | 225,000 | ||||||
Deferred taxes | (204,392 | ) | 255,030 | |||||
Net realized gain on marketable securities available for sale | (126,122 | ) | (33,008 | ) | ||||
Issuance of stock awards | 164,100 | 0 | ||||||
(Gain) loss on sale of fixed assets | (24,106 | ) | 17,502 | |||||
Change in assets and liabilities: | ||||||||
Accounts receivable | (5,689,293 | ) | 1,284,249 | |||||
Other current assets | 435,791 | (3,064,133 | ) | |||||
Accounts payable and accrued expenses | 4,748,691 | (5,080,308 | ) | |||||
Net cash provided by operating activities | 17,535,402 | 13,908,585 | ||||||
Cash flows from investing activities: | ||||||||
Purchases of marketable securities | (24,667,321 | ) | (28,824,724 | ) | ||||
Redemptions of marketable securities | 27,111,488 | 26,265,222 | ||||||
Business acquisitions, net of cash acquired | (17,980,258 | ) | (12,066,652 | ) | ||||
Investment in e-nable.com | 0 | (1,531,250 | ) | |||||
Capital expenditures | (2,525,678 | ) | (1,405,519 | ) | ||||
Net cash used in investing activities | (18,061,769 | ) | (17,562,923 | ) | ||||
Cash flows from financing activities: | ||||||||
Principal payments on long term debt | (447,519 | ) | (81,447 | ) | ||||
Proceeds from employee stock purchase plan | 0 | 551,821 | ||||||
Proceeds related to the exercise of stock options | 352,301 | 1,752,812 | ||||||
Treasury stock acquired | (418,248 | ) | (7,546,572 | ) | ||||
Dividends paid | (2,431,083 | ) | (1,948,673 | ) | ||||
Net cash used in financing activities | (2,944,549 | ) | (7,272,059 | ) | ||||
Effect of exchange rate changes on cash | (14,872 | ) | 0 | |||||
Net decrease in cash and cash equivalents | (3,485,788 | ) | (10,926,397 | ) | ||||
Cash and cash equivalents at beginning of year | 23,298,151 | 52,571,616 | ||||||
Cash and cash equivalents at end of period | $ | 19,812,363 | $ | 41,645,219 | ||||
Supplemental disclosure of non-cash investing activity | ||||||||
Change in net unrealized gain on marketable secutiries available for sale | $ | (139,012 | ) | $ | 34,944 | |||
Supplemental disclosure of cash flow information | ||||||||
Cash paid during the quarter for: | ||||||||
Interest | $ | 152,802 | $ | 258,554 | ||||
Income taxes | $ | 8,875,059 | $ | 7,176,685 | ||||
See accompanying notes to unaudited consolidated financial statements.
3
HOOPER HOLMES, INC.
Notes to Unaudited Consolidated Financial Statements
September 30, 2003
Note 1: Basis of Presentation
The financial information included herein is unaudited however, such information reflects all adjustments (consisting solely of normal recurring adjustments) which are, in the opinion of management, necessary for a fair statement of results for the interim periods.
The interim consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s annual report on Form 10-K.
The results of operations for the three and nine month periods ended September 30, 2003 are not necessarily indicative of the results to be expected for the full year. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations” for additional information.
Note 2: Earnings Per Share
“Basic” earnings per share equals net income divided by weighted average common shares outstanding during the period. “Diluted” earnings per share equals net income divided by the sum of weighted average common shares outstanding during the period plus dilutive common stock equivalents. Common stock equivalents (2,128,303 and 1,985,942 for the three months ended and 1,848,088 and 2,553,704 for the nine months ended September 30, 2003 and 2002, respectively) are shares assumed to be issued if outstanding stock options were exercised.
Options to purchase 1,889,300 and 3,993,750 shares of common stock were excluded from the calculation of diluted earnings per share for the three months ended September 30, 2003 and 2002, respectively, and 3,711,988 and 2,331,643 shares for the nine months ended September 30, 2003 and 2002, respectively, because their exercise prices exceeded the average market price of outstanding common shares for the period and were therefore antidilutive.
Note 3: Stock-Based Compensation
At September 30, 2003, the Company had stock-based employee compensation plans. The Company accounts for those plans using the intrinsic value-based method of accounting under the recognition and measurement principles of Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees,” and related Interpretations. No stock-based compensation cost is reflected in net income for stock options, as all options granted under those plans had an exercise price equal to the market value of the underlying common stock on the date of the grant. The following table illustrates the effect on net income and earnings per share if the Company had applied the fair value recognition provisions of SFAS No. 123, “Accounting for Stock-Based Compensation” (“SFAS 123”) to stock-based employee compensation:
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Three Months Ended September 30 | Nine Months Ended September 30 | ||||||||||||
(thousands of dollars, except per share data) | 2003 | 2002 | 2003 | 2002 | |||||||||
Net income, as reported | $ | 3,313 | $ | 136 | $ | 13,066 | $ | 9,869 | |||||
Add: Stock based employee compensation expense included in reported net income, net of related tax effect | 0 | 0 | 100 | 0 | |||||||||
Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects | 1,315 | 879 | 2,890 | 2,380 | |||||||||
Pro forma net income (loss) | $ | 1,998 | $ | (743 | ) | $ | 10,276 | $ | 7,489 | ||||
Earnings (loss) per share: | |||||||||||||
Basic, as reported | $ | .05 | $ | .00 | $ | .20 | $ | .15 | |||||
Basic, pro forma | $ | .04 | $ | (.01 | ) | $ | .17 | $ | .12 | ||||
Diluted, as reported | $ | .05 | $ | .00 | $ | .20 | $ | .15 | |||||
Diluted, pro forma | $ | .04 | $ | (.01 | ) | $ | .16 | $ | .11 | ||||
The fair value of each stock option granted during the quarter and nine months ended September 30, 2003 and September 30, 2002 is estimated on the date of grant using the Black-Scholes option pricing model with the following assumptions. There were no stock option grants during the quarter ending September 30, 2003.
| Three Months Ended | Nine Months Ended | |||||||||||||
| Sept 30, 2003 | Sept 30, 2002 | Sept 30, 2003 | Sept 30, 2002 | |||||||||||
Expected Life | — | 8.31 | 9.92 | 8.31 | ||||||||||
Expected Volatility | — | 48.04 | % | 47.79 | % | 48.04 | % | |||||||
Expected Dividend Yield | — | 0.57 | % | 0.63 | % | 0.57 | % | |||||||
Risk-free Interest Rate | — | 1.75 | % | 1.75 | % | 1.75 | % | |||||||
Weighted Average Fair Value | — | $ | 3.01 | $ | 3.11 | $ | 3.01 | |||||||
On January 28, 2003, a Board resolution was passed to award non-employee directors of the Company up to a maximum of 15,000 shares of the Company’s common stock as compensation for future services. Each director was awarded 5,000 shares on January 31, 2003, and will be awarded 5,000 shares on January 31, 2004, and 5,000 shares on January 31, 2005, subject to certain conditions. All shares awarded will be restricted under SEC Rule 144, and may not be sold or transferred by the outside director until four years from the date of issue. During the first quarter of 2003, the Company expensed the fair value of the 30,000 shares awarded on January 31, 2003 and such amount is included in SG&A expenses in the consolidated Statement of Income. The total charge was $164,000.
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Note 4: Comprehensive Income
Comprehensive income consists of net income, unrealized gains and losses on marketable securities classified as available-for-sale, and foreign currency translation.
| Three Month Period Ended | Nine Month Period Ended | |||||||||||
| September 30, 2003 | September 30, 2002 | September 30, 2003 | September 30, 2002 | |||||||||
Net Income | $3,313,169 | $135,470 | $13,066,091 | $9,869,156 | ||||||||
Other comprehensive income, net of tax: | ||||||||||||
Unrealized holding gains (losses) arising during period | (69,701 | ) | 134,655 | (7,863 | ) | 53,974 | ||||||
Less: reclassification adjustment for (gains) losses included in net income | 57,712 | (55,015 | ) | (76,934 | ) | (33,008 | ) | |||||
Net unrealized gain (loss) on securities | (11,989 | ) | 79,640 | (84,797 | ) | 20,966 | ||||||
Foreign currency translation | 66,979 | 407 | 127,646 | 407 | ||||||||
Total comprehensive income | $3,368,159 | $215,517 | $13,108,940 | $9,890,529 | ||||||||
Note 5: Marketable Securities
The amortized cost, gross unrealized holding gains, gross unrealized holding losses and fair value of available-for sale securities by major security type and class of security at September 30, 2003 and December 31, 2002, were as follows:
| Amortized Cost | Gross Unrealized Holding Gain | Gross Unrealized Holding Loss | Estimated Fair Value | ||||||||
At September 30, 2003 | |||||||||||
Bank certificates of deposit | $ | 295,000 | $ 80 | $ (118) | $ | 294,962 | |||||
Government agencies | 3,247,367 | 16,104 | (713 | ) | 3,262,758 | ||||||
Government bonds & notes | 3,615,986 | 16,815 | (0 | ) | 3,632,801 | ||||||
Corporate debt securities | 13,119,530 | 77,074 | (28,865 | ) | 13,167,739 | ||||||
Total | $ | 20,277,883 | $110,073 | $(29,696) | $ | 20,358,260 | |||||
At December 31, 2002 | |||||||||||
Bank certificates of deposit | $ | 590,000 | $ 0 | $ 0 | $ | 590,000 | |||||
Government agencies | 3,295,847 | 12,082 | 0 | 3,307,929 | |||||||
Government bonds & notes | 5,080,240 | 35,244 | 0 | 5,115,484 | |||||||
Corporate debt securities | 13,575,625 | 173,021 | (958 | ) | 13,747,688 | ||||||
Total | $ | 22,541,712 | $220,347 | $ (958) | $ | 22,761,101 | |||||
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Maturities of debt securities classified as available-for-sale were as follows at September 30, 2003 (maturities of mortgage-backed securities and collateralized mortgage obligations have been presented based upon estimated cash flows, assuming no change in the current interest rate environment):
Amortized Cost | Fair Value | |||||
Due within one year | $ | 8,115,917 | $ | 8,163,142 | ||
Due after one year through five years | 10,311,261 | 10,351,466 | ||||
Due after five years through ten | 1,850,705 | 1,843,652 | ||||
| $ | 20,277,883 | $ | 20,358,260 | |||
Proceeds from the sale of investment securities available-for-sale were $27,111,488 and $26,265,222 in the nine months ended September 30, 2003 and 2002, respectively. Gross realized gains included in income in the nine months ended September 30, 2003 and 2002 were $144,343 and $74,953 respectively, and gross realized losses included in income in the nine months ended September 30, 2003 and 2002 were $18,221 and $41,945, respectively.
Note 6: Capital Stock
The net tax benefit derived from the exercise of stock options was $ 0.1 million and $2.2 million for the nine months ended September 30, 2003 and 2002, respectively. Options exercised for the nine months ended September 30, 2003 and September 30, 2002, totaled 105,600 shares and 936,300 shares, respectively, all of which were issued from Treasury Stock.
On May 30, 2000, the Board of Directors authorized the repurchase in any calendar year of up to 2.5 million shares of the Company’s common stock for an aggregate purchase price not to exceed $25 million. For the nine months ended September 30, 2003 and September 30, 2002, the Company purchased 89,800 and 1,193,800 shares at a total cost of approximately $0.4 and $7.5 million, respectively.
Note 7: Goodwill and Intangible Assets
The Company has two reportable operating segments: the Health Information Business Unit (HIBU) and the Diversified Business Unit (DBU).
HIBU includes our core health information operations: Portamedic, Infolink, Heritage Labs and Medicals Direct. It provides a full range of paramedical services to the life insurance industry in the U.S. and the United Kingdom. The DBU operating segment provides Independent Medical Examinations (IME) case-management services primarily for property and casualty insurers and claims reviewers.
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The changes in the carrying amount of goodwill for the nine months ended September 30, 2003, are as follows:
| HIBU | DBU | Total | |||||||
Balance as of December 31, 2002 | $ | 98,449,094 | $ | 18,626,450 | $ | 117,075,544 | |||
Acquisition | $ | 12,808,704 | 41,163 | 12,849,867 | |||||
Foreign currency translation adjustment | 22,132 | — | 22,132 | ||||||
Balance as of September 30, 2003 | $ | 111,279,930 | $ | 18,667,613 | $ | 129,947,543 | |||
The aggregate amortization expense for intangible assets for the nine months ended September 30, 2003, and 2002, was approximately $3,155,000 and $2,068,000, respectively. The estimated intangible amortization expense for the fiscal years ending December 31, 2003 to December 31, 2007 is $4,472,000, $4,358,000, $3,729,000, $3,279,000 and $2,010,000, respectively.
All intangible assets are being amortized over their estimated useful lives, as indicated below. Intangible assets consist of:
(in thousands) | Weighted Average Useful Life | Gross Carrying Amount | Accumulated Amortization | Net Balance | ||||||||
At September 30, 2003 | ||||||||||||
Non-Competition agreements | 4.7 | $ | 9,488 | $ | (6,353 | ) | $ | 3,135 | ||||
Referral base | 12.4 | 28,555 | (6,429 | ) | 22,126 | |||||||
Contractor network | 7.2 | 6,120 | (4,329 | ) | 1,791 | |||||||
Trademarks and tradenames | 18.6 | 2,559 | (245 | ) | 2,314 | |||||||
| $ | 46,722 | $ | (17,356 | ) | $ | 29,366 | ||||||
At December 31, 2002 | ||||||||||||
Non-Competition agreements | 4.9 | $ | 8,405 | $ | (5,327 | ) | $ | 3,078 | ||||
Referral base | 13.4 | 25,594 | (4,784 | ) | 20,810 | |||||||
Contractor network | 7.3 | 6,120 | (3,955 | ) | 2,165 | |||||||
Trademarks and tradenames | 19.0 | 2,559 | (138 | ) | 2,421 | |||||||
| $ | 42,678 | $ | (14,204 | ) | $ | 28,474 | ||||||
Note 8: Investment
On January 31, 2001, the Company entered into a marketing and equity investment agreement with e-Nable Corporation (e-Nable), at a total initial cost of $ 5.0 million. e-Nable provides Internet-based business processing solutions that allow integration of data sources, underwriting intelligence, distribution channels and insurance products. In August 2001, the Company executed a convertible promissory note agreement with e-Nable, to provide additional financing for up to $1.75 million, all of which had been funded by August 2002. The Company has no commitment to provide additional funds to e-Nable.
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Under the cost method of accounting, investments are carried at cost and are adjusted only for other-than-temporary declines in fair value, distributions of earnings and additional investments.
During the second quarter of 2002, the Company recorded a 25% write down of the carrying value of its investment in and advances to e-Nable Corporation, which resulted in a pre-tax charge of $1.6 million, or $1.0 million after tax. The adjustment was estimated based on an assessment of the fair value of the investment and was mainly the result of the difficulty e-Nable has had in securing additional capital in the capital markets. During the third quarter of 2002, the Company wrote off the remaining carrying value of its investment in, and advances to, e-Nable Corporation, which resulted in a pre-tax charge of $5.1 million, or $3.1 million after tax. The adjustment was based on the continuing assessment of the carrying value of the investment, given that e-Nable has been unsuccessful in its attempt to secure additional capital.
Note 9: Commitments and Contingencies
On June 20, 2002, the Company, (and subsequently its three principal competitors), was notified by the California Department of Health Services (DHS) that it was in violation of the California Business and Professions Code with respect to the drawing of blood by phlebotomists on a mobile basis. The Company disagreed with the DHS’s interpretation of the law, retained legal counsel, and began working with its three competitors to develop a reasonable interpretation of the law and a plan that will allow the industry to continue using phlebotomists to draw blood. The paramedical companies retained a lobbyist and legislation was introduced, which if enacted into law, would exempt the Company and its competitors from being licensed by the DHS as a clinical laboratory. The legislation has passed the California Assembly and is now before the Senate. The Company continues to service it customers in the State of California without interruption.
On July 11, 2003, the Company received a determination from the Internal Revenue Service that one individual the Company contracted with as an independent contractor, should have been classified as an employee in 2002. This ruling also applies to any other individuals engaged by the Company under similar circumstances. The ruling also states that the Company may not be subject to adverse consequences as the Company may be entitled to relief under applicable tax laws (Section 530 of the Revenue Act of 1978). The Company and its advisors are continuing to review this determination. Management believes that the Company qualifies for relief under Section 530 and, therefore, that the ultimate outcome of this matter will not have a material effect on the Company’s consolidated financial position, results of operations and liquidity.
The Company is aware of allegations that an independent examiner, who billed work through an independent contractor, which in turn billed work through the Company, assaulted certain insurance applicants whom were examined. The examiner did not work for the Company nor was the Company aware that the examiner was performing insurance examinations. The Company has agreed to reimburse one of its insurance company clients, which it billed for examinations performed by this examiner, for certain legal, consulting and other costs incurred by the client, which has been accrued during the quarter ended September 30, 2003. The Company and the client have also agreed upon an apportionment of any liability that may stem from examinations
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performed by the independent examiner. To date, the Company is not aware of any claims arising from the conduct of the independent examiner. The Company expects that the outcome of this matter will not have a material effect on the Company’s consolidated financial position, or liquidity. However, it could have an impact on the financial results of any one reporting period.
The Company is a party to a number of legal actions arising in the ordinary course of its business. In the opinion of management, the Company, has substantial legal defenses and/or insurance coverage with respect to all of its pending legal actions. Accordingly, none of these actions is expected to have a material adverse effect on the Company’s liquidity, its consolidated results of operations or its consolidated financial position.
In connection with an acquisition during the second quarter of 2003, the Company deferred the payment of a portion of the purchase price and is required to make these payments of $1.7 million in April 2005, and $2.8 million in July 2006. These amounts are included within Other long-term liabilities on the consolidated balance sheet and are accruing interest at a weighted average rate of 5%.
Effective May 23, 2003, the Company entered into an employment agreement with James M. McNamee, the Company’s President and Chief Executive Officer. The employment agreement was filed as exhibit 10.1 to Form 10Q for the quarter ended June 30, 2003.
Note 10: Acquisitions and Dispositions
For the nine months ended September 30, 2003, the Company acquired specific assets and liabilities of eight health information services companies, and purchased the 45% minority interest in Heritage Labs, that it did not previously own, to bring its ownership interest to 100%. The aggregate purchase price of these acquisitions, including acquisition costs, was approximately $18.0 million. These acquisitions resulted in a total purchase price in excess of net assets acquired of $12.8 million, identifiable tangible assets of $2.0 million, identifiable intangible assets of $3.0 million, non-competition agreements of approximately $1.1 million and liabilities of $0.9 million. Identifiable intangible assets are being amortized on a straight line basis over a period of 9 years and non-competition agreements are being amortized on a straight line basis over a weighted average useful life of 4.0 years. In accordance with SFAS No. 142, which the Company adopted on January 1, 2002, goodwill is no longer amortized. The 2003 acquisitions are not material to the consolidated financial statements individually or in the aggregate and therefore do not require pro forma information.
Note 11: Operating Segments
Effective January 1, 2003, the Company has two reportable operating segments: the Health Information Business Unit (HIBU) and the Diversified Business Unit (DBU). HIBU includes our core health information operations: Portamedic, Infolink, Heritage Labs and Medicals Direct. It provides a full range of paramedical services to the life insurance industry in the U.S. and the United Kingdom. The DBU operating segment, which consists of D&D Associates, acquired in the fourth quarter of 2002, provides Independent Medical Examinations (IME) case-management services primarily for property and casualty insurers and claims reviewers.
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The segments’ accounting policies are the same as those described in the summary of significant accounting policies discussed in the Company’s 2002 annual report on Form 10-K except that interest expense and non-operating income and expenses are not allocated to the individual operating segment when determining segment profit or loss.
A summary of segment information as of and for the three and nine month periods ended September 30, 2003 is presented below (in thousands).
| As of and for the Three Months Ended September 30, 2003 | As of and for the nine Months Ended September 30, 2003 | |||||||||||||||||
| HIBU | DBU | Total | HIBU | DBU | Total | |||||||||||||
Revenue | $ | 65,202 | $ | 8,350 | $ | 73,552 | $ | 198,863 | $ | 25,709 | $ | 224,572 | ||||||
Operating Income | $ | 3,966 | $ | 1,636 | $ | 5,602 | $ | 16,651 | $ | 5,107 | $ | 21,758 | ||||||
Total Assets | $ | 233,342 | $ | 18,499 | $ | 251,841 | $ | 233,342 | $ | 18,499 | $ | 251,841 | ||||||
Note 12: Recently Issued Accounting Standards
In June 2001, the FASB issued SFAS No. 143, Accounting for Asset Retirement Obligations (“SFAS No. 143”). SFAS No. 143 requires companies to record the fair value of an asset retirement obligation as a liability in the period in which they incur a legal obligation associated with the retirement of tangible long-lived assets that result from the acquisition, construction, development and/or normal use of the assets. Companies also record a corresponding asset which is depreciated over the life of the asset. Subsequent to the initial measurement of the asset retirement obligation, the obligation will be adjusted at the end of each period to reflect the passage of time and changes in the estimated future cash flows underlying the obligation. The Company adopted SFAS No. 143 on January 1, 2003. This statement did not have a material impact on the Company’s consolidated financial statements.
In June 2002, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards No. 146 (SFAS 146”), Accounting for Costs associated with Exit or Disposal Activities.” The standard requires companies to recognize costs associated with exit or disposal activities when they are incurred rather than at the date of a commitment to an exit or disposal plan. The Company adopted SFAS 146 effective January 1, 2003, and the adoption had no effect on the Company’s consolidated financial statements.
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In November 2002, the FASB issued Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness to Others, an interpretation of FASB Statements No. 5, 57 and 107 and a rescission of FASB Interpretation No. 34.” This Interpretation elaborates on the disclosures to be made by a guarantor in its interim and annual financial statements about its obligations under guarantees issued. The Interpretation also clarifies that a guarantor is required to recognize, at inception of a guarantee, a liability for the fair value of the obligation undertaken. The initial recognition and measurement provisions of the Interpretation are applicable to guarantees issued or modified after December 31, 2002. Adoption did not have a material effect on the Company’s consolidated financial statements.
In April 2003, the Financial Accounting Standards Board (FASB) released Statement of Financial Accounting Standards (SFAS) No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities.” SFAS No. 149 clarifies under what circumstances a contract with an initial net investment meets the characteristics of a derivative, amends the definition of an underlying contract, and clarifies when a derivative contains a financing component in order to increase the comparability of accounting practices under SFAS No. 133. The statement is effective for contracts entered into or modified after June 30, 2003, and for hedging relationships designated after June 30, 2003. The adoption of SFAS No. 149 did not have a material impact on the Company’s consolidated financial statements.
In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity. This statement requires that an issuer classify a financial instrument that is within its scope as a liability. The provisions of this statement are effective for financial instruments entered into or modified after May 31, 2003. The adoption of SFAS No. 150 did not have a material impact on the Company’s consolidated financial statements.
In May 2003, the Emerging Issues Task Force (EITF) issued EITF Issue No. 00-21, Revenue Arrangements with Multiple Deliverables. Issue No. 00-21 addresses certain aspects of the accounting by a vendor for arrangements under which it will perform multiple revenue-generating activities. The provisions are effective for revenue arrangements entered into in reporting periods beginning after June 15, 2003. The adoption of EITF No. 00-21 did not have a material impact on the Company’s consolidated financial statements.
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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operation
Results of Operation - Three months ended September 30, 2003 compared to three months ended September 30, 2002
Overview:
Hooper Holmes is one of the nation’s leading providers of outsourced risk assessment services to the life and health insurance industry and medical evaluation and claims management services to the automobile insurance industry and the workers’ compensation industry. We provide paramedical and medical examinations, independent medical examinations, personal health interviews and record collection, and laboratory testing, which help life insurance companies evaluate the risks associated with underwriting policies and evaluate physical injuries for property and casualty insurers. Our business is composed of two segments: the Health Information Business Unit (HIBU) and the Diversified Business Unit (DBU).
HIBU consists of the Company’s Portamedic, Infolink and Heritage Labs divisions and the August 2002 acquisition of the Medicals Direct Group. It provides paramedical, laboratory, Attending Physician Statement, inspection report and underwriting services used to underwrite life, health and disability insurance. DBU consists of D&D Associates, acquired in the fourth quarter of 2002, which provides outsourced claims management services to automobile and workers’ compensation insurance carriers.
Revenues:
Comparative Revenues are set forth below:
| (in millions) | QUARTER ENDED SEPTEMBER 30 | |||||
| 2003 | 2002 | |||||
Portamedic | $ | 49.8 | $ | 51.2 | ||
Infolink | 5.5 | 4.8 | ||||
Heritage Labs | 3.8 | 2.7 | ||||
Medicals Direct | 6.1 | 0.9 | ||||
Total HIBU segment | 65.2 | 59.6 | ||||
DBU segment | 8.4 | — | ||||
Total Revenues | $ | 73.6 | $ | 59.6 | ||
Total consolidated revenues for 2003 increased 23% to $73.6 million for the third quarter of 2003, compared to $59.6 million for third quarter of 2002.
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Revenues for the HIBU segment increased $5.6 million to $65.2 million for the third quarter 2003, compared to $59.6 million for the third quarter 2002. Within this segment, revenue for the Portamedic business decreased $1.4 million to $49.8 million for the third quarter of 2003, compared to $51.2 million for the third quarter of 2002, and revenue for the Infolink business increased 16% to $5.5 million for the third quarter of 2003, compared to $4.8 million for the third quarter of 2002. The number of paramedical examinations performed decreased 3% from 681,000 to 662,000. The decrease in the number of paramedical examinations performed is the result of reduced life insurance application activity in the third quarter of 2003, compared to the third quarter of 2002. The MIB Group, Inc., a provider of information and database management services, reported that life insurance applications were down 2.1% in the third quarter of 2003 compared to the third quarter of 2002. The decrease in the number of examinations was partially offset by an increase in the average revenue per examination of approximately 0.2%. The number of Infolink reports increased to 122,000 for the third quarter of 2003, from 104,000 for the third quarter 2002. Management believes that the increase in the number of Infolink reports is due to increased volume from existing clients brought on by the Company’s Portamedic F.A.S.T. technology, which provides clients with a quicker turnaround for Attending Physician Statements (APS’s), and the Company’s acquisition in May 2003 of a high volume APS producer.
Also, within this segment, Heritage Labs revenue grew 41% for the third quarter 2003 to $3.8 million, from $2.7 million for the third quarter 2002. The number of samples tested increased 54% to 190,000 samples for the third quarter 2003, from 123,000 samples for the third quarter 2002. The Company believes that Heritage Labs’ growth is the result of securing business through aggressive competitive pricing, coupled with offering insurance companies the convenience of a one-stop shop for their health information needs. Offering combined laboratory and paramedical pricing and services is increasingly more common in this competitive landscape.
Revenue for the Medicals Direct Group increased to $6.1 million in the third quarter of 2003, compared to $0.9 million for the third quarter of 2002. The increase is due to revenue generated by Medicals Direct, whose results of operations are included since its acquisition in late August 2002, and organic growth, coupled with the acquisitions of two complimentary service providers.
Our future revenue stream is dependent upon the life insurance industry and the number of new policies being written which require medical underwriting information. Management is unsure if insurance application activity will resume to more traditional levels throughout the remainder of 2003. The MIB Group Inc. has reported that life insurance applications in September 2003 increased 1.9% over September 2002. While this one month increase is positive, however it may not be indicative of a trend. Pricing of our services has become a significant factor but we are confident that we will hold our market share and that our field owned branch structure, and branch and automation efficiencies will allow us to continue to face this challenging competitive environment.
Revenues for the Diversified Business Unit (DBU) segment, totaled $8.4 million for the third quarter 2003. The DBU consists of D&D Associates, which was acquired by the Company in the fourth quarter of 2002. Consequently, there was no DBU revenue in the third quarter of 2002.
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Cost of Operations:
The Company’s consolidated cost of operations for the third quarter of 2003 totaled $52.9 million compared to $43.7 million for the third quarter of 2002. As a percentage of revenues, cost of operations decreased to 72.0% for the third quarter of 2003 compared to 73.4% for the third quarter of 2002.
Cost of operations for the HIBU segment totaled $47.7 million for the third quarter of 2003, compared to $43.7 for the third quarter of 2002, an increase of $4.0 million, and as a percentage of revenues, improved to 73.1% for the third quarter of 2003, compared to 73.4% for the third quarter of 2002.
Within the HIBU segment, cost of operations for the Portamedic and Infolink businesses totaled $40.7 million for the third quarter of 2003, compared to $41.4 million for the third quarter of 2002. This dollar decrease is due to lower revenue levels in the third quarter 2003. As a percentage of paramedical and Infolink revenue, cost of operations decreased slightly to 73.5% from 73.9% for the third quarter of 2003, and 2002, respectively.
Cost of operations for Heritage Labs increased to $2.4 million for the third quarter of 2003, compared to $1.8 million for the third quarter of 2002. The dollar increase is due to higher revenue levels in the third quarter of 2003.
Cost of operations for Medicals Direct, totaled $4.6 million for the third quarter of 2003, compared to $0.5 million for the third quarter of 2002. Medicals Direct was acquired in the later part of the third quarter of 2002.
Cost of operations for the DBU segment, comprised of D&D Associates, totaled $5.2 million for the third quarter of 2003, and as a percentage of D&D revenues totaled 63.0%.
Selling, General and Administrative Expenses:
Consolidated selling, general and administrative (SG&A) expenses totaled $15.0 million for the third quarter of 2003, compared to $11.1 million for the third quarter of 2002, and as a percentage of revenues totaled 20.4% compared to 18.6%, respectively.
SG&A for the HIBU segment, increased $2.5 million to $13.6 million for the third quarter of 2003, compared to $11.1 million for the third quarter 2002. As a percentage of revenues, SG&A totaled 20.8% compared to 18.6 % for the third quarter 2003, and third quarter 2002, respectively. The increase is due to additional SG&A costs associated with Medicals Direct of approximately $0.6 million and additional costs of $1.9 million from the paramedical, Infolink and Heritage Labs businesses. The areas of increased costs are employee benefits, insurance, legal, intangible asset amortization expense, and the write down of an acquired asset related to a 2000 acquisition. These increases were partially offset by reduced incentive compensation expense due to our shortfall in field objectives.
SG&A for the DBU totaled $1.4 million for the third quarter of 2003, and as a percentage of revenues, was 17.4%. There were no DBU SG&A costs in the third quarter of 2002.
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Operating income:
Accordingly, the Company’s consolidated operating income increased to $5.6 million for the third quarter of 2003 from an operating loss of $(0.3) million for the third quarter of 2002, and as a percentage of revenues, increased to 7.6% compared to (0.5)%, respectively.
Operating income for the HIBU segment increased to $4.0 million for the third quarter of 2003 from $-0.3 million for the third quarter of 2002, and as a percentage of revenues, increased to 6.0% compared to (1.0)%, respectively.
Operating income for the DBU segment was $1.6 million and as a percentage of revenues, was 19.6%.
Operating income was impacted in the third quarter 2002 by a pre-tax charge of $5.1 million ($3.1 million net of taxes) related to the Company’s write down of the carrying value of its investment in e-Nable Corporation.
Other:
Interest expense increased to $0.1 million for the third quarter of 2003, compared to $0.03 million for the third quarter of 2002. This increase is due to interest on the financing of Medicals Direct accounts receivable. Interest income for the third quarter of 2003 decreased to $0.1 million from $0.7 million for the third quarter of 2002 due to lower interest rates and lower levels of invested funds. Other expense for the third quarter of 2003 was $0.2 million compared to $0.1 million for the third quarter of 2002.
The effective tax rate was 39% and 40% for the third quarter of 2003 and 2002, respectively. The rate is lower in 2003 due to the increased profitability of Heritage Labs and the lower tax rate applied to the profits of Medicals Direct Group, which operates in the United Kingdom.
Net income for the third quarter of 2003 was $3.3 million or $.05 per diluted share versus $0.1 million or $.00 per diluted share for the third quarter of 2002.
Inflation did not have a significant effect on the Company’s operations in the third quarter of 2003.
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| Results of Operation – | Nine months ended September 30, 2003 compared to | |
| nine months ended September 30, 2002 |
Revenues:
Comparative Revenues are set forth below:
| (in millions) | NINE MONTHS ENDED SEPTEMBER 30 | |||||
| 2003 | 2002 | |||||
Portamedic | $ | 157.5 | $ | 168.6 | ||
Infolink | 15.9 | 14.5 | ||||
Heritage Labs | 11.1 | 8.1 | ||||
Medicals Direct | 14.4 | 0.9 | ||||
Total HIBU segment | 198.9 | 192.1 | ||||
DBU segment | 25.7 | — | ||||
Total Revenues | $ | 224.6 | $ | 192.1 | ||
Total consolidated revenues for 2003 increased 17% to $224.6 million for the nine months ended September 30, 2003, compared to $192.1 million for the nine months ended September 30, 2002. Revenues for the HIBU segment increased $6.8 million to $198.9 million for the nine months ended September 30, 2003, compared to $192.1 million for the nine months ended September 30, 2002. Within this segment, revenue for the Portamedic business decreased $11.1 million to $157.5 million for the nine months ended September 30, 2003, compared to $168.6 million for the nine months ended September 30, 2002, and revenue for the Infolink business increased 10% to $15.9 million for the nine months ended September 30, 2003, compared to $14.5 million for the nine months ended September 30, 2002. The number of paramedical examinations performed decreased 8% from 2,240,000 for the nine months ended September 30, 2002 to 2,061,000 for the nine months ended September 30, 2003. The decrease in the number of paramedical examinations performed is the result of reduced life insurance application activity in the nine months ended September 30, 2003, compared to the nine months ended September 30, 2002. The MIB Group, Inc., a provider of information and database management services, reported that life insurance applications were down 5.1% in the nine months ended September 30, 2003 compared to the nine months ended September 30, 2002. The decrease in the number of examinations was partially offset by an increase in the average revenue per examination of approximately 2%. Management believes the percentage increase in the average revenue per examination is due to higher prices per examination based on selling value added services such as Portamedic Select and Portamedic F.A.S.T. The number of Infolink reports increased to 351,000 for the nine months ended September 30, 2003, from 323,000 for the nine months ended September 30, 2002. Management believes that the increase in the number of Infolink reports is due to increased volume from existing clients brought on by the Company’s Portamedic F.A.S.T. technology, which provides clients with a quicker turnaround for Attending Physician Statements (APS’s), and the Company’s acquisition in May 2003 of a high volume APS producer.
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Also, within this segment, Heritage Labs revenue grew 37% for the nine months ended September 30, 2003 to $11.1 million, from $8.1 million for the nine months ended September 30, 2002. The number of samples tested increased 47% to 526,000 samples for the nine months ended September 30, 2003, from 357,000 samples for the nine months ended September 30, 2002. The Company believes that Heritage Labs’ growth is the result of aggressive competitive pricing, coupled with offering insurance companies the convenience of a one-stop shop for their health information needs. Offering combined laboratory and paramedical pricing and services is increasingly more common in this competitive landscape. For the nine months ended September 30, 2003, the average price per sample tested decreased to $13.05 compared to $14.14 for the nine months ended September 30, 2002.
Revenue for the Medicals Direct Group increased to $14.4 million for the nine months ended September 30, 2003, compared to $0.9 million for the nine months ended September 30, 2002. The increase is due to revenue generated by Medicals Direct, whose results of operations are included since its acquisition in late August 2002, and organic growth, coupled with the acquisitions of two complimentary service providers.
Our future revenue stream is dependent upon the life insurance industry and the number of new policies being written which require medical underwriting information. Management expects insurance application activity to resume to more traditional levels throughout the remainder of 2003. The MIB Group Inc. has reported that life insurance applications in September 2003 increased 1.9% over September 2002. While this one month increase is positive, however it may not be indicative of a continuing trend. Pricing of our services has become a significant factor but we are confident that we sold our market share and that our field owned branch structure, and branch and automation efficiencies will allow us to continue to face this challenging competitive environment.
Revenues for the Diversified Business Unit (DBU) segment totaled $25.7 million for the nine months ended September 30, 2003. The DBU consists of D&D Associates, which was acquired by the Company in the fourth quarter of 2002. Consequently, there was no DBU revenue in the nine months ended September 30, 2002.
Cost of Operations:
The Company’s consolidated cost of operations for the nine months ended September 30, 2003 totaled $158.9 million compared to $136.7 million for the nine months ended September 30, 2002. As a percentage of revenues, cost of operations decreased to 70.8% for the nine months ended September 30, 2003 compared to 71.1% for the nine months ended September 30, 2002.
Cost of operations for the HIBU segment totaled $142.5 million for the nine months ended September 30, 2003, compared to $136.7 for the nine months ended September 30, 2002, an increase of $1.9 million, and as percentage of revenues, totaled 71.6% for the nine months ended September 30, 2003, compared to 71.1% for the nine months ended September 30, 2002. Within the HIBU segment, cost of operations for the Portamedic and Infolink businesses totaled $124.8 million for the nine months ended September 30, 2003, compared to $130.9 million for the nine months ended September 30, 2002. This dollar decrease is due to lower revenue levels for the nine months ended September 30, 2003.
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As a percentage of paramedical and Infolink revenue, cost of operations totaled 72.0% and 71.5% for the nine months ended September 30, 2003, and 2002, respectively. As a percentage of revenues, the increase is due to lower revenue levels for the nine months ended September 30, 2003, higher specimen collection kit prices, and an increase in branch operating expenses.
Cost of operations for Heritage Labs increased to $7.2 million for the nine months ended September 30, 2003, compared to $5.2 million for the nine months ended September 30, 2002, and as a percentage of revenues totaled 64.8% for the nine months ended September 30, 2003, compared to 64.5% for the nine months ended September 30, 2002. The dollar increase is due to higher revenue levels for the nine months ended September 30, 2003. As a percentage of revenue, the increase is due to aggressive pricing resulting from offering customers the convenience of a one-stop shop for their health information needs.
Cost of operations for Medicals Direct, totaled $10.5 million for the nine months ended September 30, 2003, and as a percentage of Medicals Direct revenues totaled 72.5%. Cost of operations for the nine months ended September 30, 2002 was $0.6 million. Medicals Direct was acquired in the later part of the third quarter of 2002.
Cost of operations for the DBU segment, comprised of D&D Associates, totaled $16.4 million for the nine months ended September 30, 2003, and as a percentage of D&D revenues totaled 63.9%.
Selling, General and Administrative Expenses:
Consolidated selling, general and administrative (SG&A) expenses totaled $43.9 million for the nine months ended September 30, 2003, compared to $33.6 million for the nine months ended September 30, 2002, and as a percentage of revenues totaled 19.6% compared to 17.5% respectively.
SG&A for the HIBU segment, increased $6.2 million to $39.8 million for the nine months ended September 30, 2003, compared to $33.6 million for the nine months ended September 30, 2002. As a percentage of revenues, SG&A totaled 20.0% compared to 17.5% for the nine months ended September 30, 2003, and nine months ended September 30, 2002, respectively. The increase is due to additional SG&A costs associated with Medicals Direct of approximately $2.1 million and additional costs of $4.1 million from the paramedical, Infolink and Heritage Labs businesses. The areas of increased costs are employee benefits, insurance, intangible asset amortization expense, national meeting costs, Directors’ stock awards, the write down of an acquired investment related to a 2000 acquisition, and were offset by reduced incentive compensation expense due to our shortfall in field objectives.
SG&A for the DBU, comprised of D&D Associates, totaled $4.2 million for the nine months ended September 30, 2003. There were no DBU SG&A costs in the nine months ended September 30, 2002.
Operating income:
Accordingly, the Company’s consolidated operating income increased 44.1% to $21.8 million for the nine months ended September 30, 2003 from $15.1 million for the nine months ended September 30, 2002, and as a percentage of revenues, increased to 9.7% compared to 7.9%, respectively.
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Operating income for the HIBU segment increased 10.3% to $16.7 million for the nine months ended September 30, 2003 from $15.1 million for the nine months ended September 30, 2002, and as a percentage of revenues, increased to 8.4% compared to 7.9%, respectively.
Operating income for the DBU segment was $5.1 million and as a percentage of revenues, was 19.9%.
Operating income was impacted during the nine months ended September 30, 2002 by a pre-tax charge of $6.8 million ($4.1 million net of taxes) related to the Company’s write down of the carrying value of its investment in e-Nable Corporation.
Other:
Interest expense increased to $0.3 million for the nine months ended September 30, 2003, compared to $0.09 million for the nine months ended September 30, 2002. This increase is due to interest accruing on the deferred purchase price for the Heritage Labs acquisition in the third quarter of 2003, and interest on the financing of Medicals Direct accounts receivable. Interest income for the nine months ended September 30, 2003 decreased to $0.6 million from $1.9 million for the nine months ended September 30, 2002 due to lower interest rates and lower levels of invested funds. Other expense for the nine months ended September 30, 2003 and 2002 was $0.7 million and $0.6 million respectively.
The effective tax rate was 38% and 40% for the nine months ended September 30, 2003 and 2002, respectively. The rate is lower in 2003 due to the increased profitability of Heritage Labs, and the lower tax rate applied to the profits of Medicals Direct Group, which operates in the U.K.
Net income for the nine months ended September 30, 2003 was $13.1 million or $.20 per diluted share versus $9.9 million or $.15 per diluted share for the nine months ended September 30, 2002.
Inflation did not have a significant effect on the Company’s operations in the nine months ended September 30, 2003.
Liquidity and Financial Resources
The Company’s primary sources of cash are internally generated funds, cash equivalents, marketable securities and the Company’s credit facility.
Net cash provided by operating activities for the nine months ended September 30, 2003 was $17.5 million as compared to $13.9 million for the nine months ended September 30, 2002. The significant sources were net income of $13.1 million, $5.0 million of depreciation and amortization, a decrease of $0.4 million in other assets, an increase in accounts payable and accrued expenses of $4.7 million, and were offset by an increase in accounts receivable of $5.7 million. The increase in accounts receivable at September 30, 2003 compared to December 31, 2002, is the result of strong collections at December 31, 2002. Also, certain customers have recently indicated they will be paying within Hooper’s net 30 day terms, due to the consolidation of payment processing centers and the limitation of resources to process payment. Previously, these customers were paying in approximately 14-21 days. The Medicals Direct Group accounts receivable increased $1.1 million due to increased revenue, and from acquisitions completed in the second quarter
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2003. Days sales outstanding, measured on a rolling 90 day basis, was 43.6 days at September 30, 2003, compared to 40.7 days at June 30, 2003, and 32.1 days at December 31, 2002.
On January 28, 2003, a Board resolution was passed to award non-employee directors of the Company up to a maximum of 15,000 shares of the Company’s common stock as compensation for future services. Each director was awarded 5,000 shares on January 31, 2003, and will be awarded 5,000 shares on January 31, 2004, and 5,000 shares on January 31, 2005, subject to certain conditions. All shares awarded will be restricted under SEC Rule 144, and may not be sold or transferred by the outside director until four years from the date of issue. During the first quarter of 2003, the Company expensed the fair value of the 30,000 shares awarded on January 31, 2003 and such amount is included in SG&A expenses in the consolidated Statement of Income. The total charge was $164,000.
On May 30, 2000, the Board of Directors authorized the repurchase in any calendar year of up to 2.5 million shares of the Company’s common stock for an aggregate purchase price not to exceed $25 million per year. For the nine months ended September 30, 2003, the Company purchased 89,800 shares at a total cost of $0.4 million.
As of September 30, 2003, the Company has $3.0 million outstanding against its term loan, and in March 2003, Heritage Labs repaid its outstanding bank note in the amount of $0.4 million.
Our current ratio as of September 30, 2003 was 3.3 to 1 compared to 3.7 to 1 at December 31, 2002. Also, inflation has not had, nor is it expected to have, a material impact on our consolidated financial results. We have no material commitments for capital expenditures.
Quarterly dividends paid in February, May and August 2003 were $.0125 per share, and totaled $2.4 million. At its October 27, 2003 board meeting, the Company declared a quarterly dividend of $.0125 per share.
Management believes that the combination of current cash, cash equivalents, marketable securities and available borrowings under our senior credit facility, along with anticipated cash flows from operations, will provide sufficient capital resources to satisfy both our short-term and foreseeable long-term needs.
On June 20, 2002, the Company, (and subsequently its three principal competitors), was notified by the California Department of Health Services (DHS) that it was in violation of the California Business and Professions Code with respect to the drawing of blood by phlebotomists on a mobile basis. The Company disagreed with the DHS’s interpretation of the law, retained legal counsel, and began working with its three competitors to develop a reasonable interpretation of the law and a plan that will allow the industry to continue using phlebotomists to draw blood. The paramedical companies retained a lobbyist and legislation was introduced, which if enacted into law, would exempt the Company and its competitors from being licensed by the DHS as a clinical laboratory. The legislation has passed the California Assembly and is now before the Senate. The Company continues to service it customers in the State of California without interruption.
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On July 11, 2003, the Company received a determination from the Internal Revenue Service that one individual the Company contracted with as an independent contractor, should have been classified as an employee in 2002. This ruling also applies to any other individuals engaged by the Company under similar circumstances. The ruling also states that the Company may not be subject to adverse consequences as the Company may be entitled to relief under applicable tax laws (Section 530 of the Revenue Act of 1978). The Company and its advisors are continuing to review this determination. Management believes that the Company qualifies for relief under Section 530 and, therefore, that the ultimate outcome of this matter will not have a material effect on the Company’s consolidated financial position, results of operations and liquidity.
The Company is aware of allegations that an independent examiner, who billed work through an independent contractor, which in turn billed work through the Company, assaulted certain insurance applicants whom were examined. The examiner did not work for the Company nor was the Company aware that the examiner was performing insurance examinations. The Company has agreed to reimburse one of its insurance company clients, which it billed for examinations performed by this examiner, for certain legal, consulting and other costs incurred by the client, which has been accrued during the quarter ended September 30, 2003. The Company and the client have also agreed upon an apportionment of any liability that may stem from examinations performed by the independent examiner. To date, the Company is not aware of any claims arising from the conduct of the independent examiner. The Company expects that the outcome of this matter will not have a material effect on the Company’s consolidated financial position, or liquidity. However, it could have an impact on the financial results of any one reporting period.
Critical Accounting Policies
There were no changes to the Company’s critical accounting policies during the three and nine months ended September 30, 2003. Such policies are described in the Company’s 2002 Annual Report on Form 10-K.
Recently Issued Accounting Standards
In June 2001, the FASB issued SFAS No. 143, Accounting for Asset Retirement Obligations (“SFAS No. 143”). SFAS No. 143 requires companies to record the fair value of an asset retirement obligation as a liability in the period in which they incur a legal obligation associated with the retirement of tangible long-lived assets that result from the acquisition, construction, development and/or normal use of the assets. Companies also record a corresponding asset which is depreciated over the life of the asset. Subsequent to the initial measurement of the asset retirement obligation, the obligation will be adjusted at the end of each period to reflect the passage of time and changes in the estimated future cash flows underlying the obligation. The Company adopted SFAS No. 143 on January 1, 2003. This statement did not have a material impact on the Company’s consolidated financial statements.
In June 2002, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards No. 146 (SFAS 146”), Accounting for Costs associated with Exit or Disposal Activities.” The standard requires companies to recognize costs associated with exit or disposal activities when they are incurred rather than at the date of a commitment to an exit or disposal plan. The Company adopted SFAS 146 effective January 1, 2003, and the adoption had no effect on the Company’s consolidated financial statements.
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In November 2002, the FASB issued Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness to Others, an interpretation of FASB Statements No. 5, 57 and 107 and a rescission of FASB Interpretation No. 34.” This Interpretation elaborates on the disclosures to be made by a guarantor in its interim and annual financial statements about its obligations under guarantees issued. The Interpretation also clarifies that a guarantor is required to recognize, at inception of a guarantee, a liability for the fair value of the obligation undertaken. The initial recognition and measurement provisions of the Interpretation are applicable to guarantees issued or modified after December 31, 2002. Adoption did not have a material effect on the Company’s consolidated financial statements.
In April 2003, the Financial Accounting Standards Board (FASB) released Statement of Financial Accounting Standards (SFAS) No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities.” SFAS No. 149 clarifies under what circumstances a contract with an initial net investment meets the characteristics of a derivative, amends the definition of an underlying contract, and clarifies when a derivative contains a financing component in order to increase the comparability of accounting practices under SFAS No. 133. The statement is effective for contracts entered into or modified after June 30, 2003, and for hedging relationships designated after June 30, 2003. The adoption of SFAS No. 149 did not have a material impact on the Company’s consolidated financial statements.
In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity. This statement requires that an issuer classify a financial instrument that is within its scope as a liability. The provisions of this statement are effective for financial instruments entered into or modified after May 31, 2003. The adoption of SFAS No. 150 did not have a material impact on the Company’s consolidated financial statements.
In May 2003, the Emerging Issues Task Force (EITF) issued EITF Issue No. 00-21, Revenue Arrangements with Multiple Deliverables. Issue No. 00-21 addresses certain aspects of the accounting by a vendor for arrangements under which it will perform multiple revenue-generating activities. The provisions are effective for revenue arrangements entered into in reporting periods beginning after June 15, 2003. The adoption of EITF No. 00-21 did not have a material impact on the Company’s consolidated financial statements.
Forward Looking Statements
Certain written and oral statements made by our Company or with the approval of an authorized executive officer of our Company may constitute “forward-looking statements” as defined under the Private Securities Litigation Reform Act of 1995, including statements made in this report and other filings with the Securities and Exchange Commission. These statements generally are not historical in nature and can be identified by words such as “believe,” “expect,” “intend,” “estimate,” “anticipate,” “project,” “will,” “may,” “should,” “could” and similar expressions. These statements involve risks and uncertainties that could cause actual results to differ materially from our Company’s historical experience and
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our present expectations or projections. These statements are not guarantees of future performance or results.
The following are some of the factors that could cause our Company’s actual results to differ materially from those described in forward-looking statements:
Trends and other developments affecting the life insurance industry—We currently derive nearly all of our revenues from life insurance companies. The demand for our services is largely dependent on the demand for life insurance policies, policy amounts, the type of health information services requested, general economic conditions, and other factors beyond our control. Any decreases in demand for health information services by life insurance companies could substantially harm our business.
Loss of customers—Our relationships with most insurance company customers are not covered by formal written agreements, and we have exclusive relationships with only a small number of customers. Our ability to retain these customers will depend on our continued ability to serve their needs and to distinguish us from our competitors. The loss of one or more customers could materially impact our business.
Changes in the health information services business environment—These include changes in the types of products demanded by insurance companies, competitive product and pricing pressures, including technological advancements by competitors, and our ability to gain or maintain market share notwithstanding the actions of our competitors. Factors such as these could adversely impact our earnings and growth.
Continued growth of alternative distribution channels—Our continued growth will depend in part on increased use of the Internet and other alternative distribution channels by our customers to sell their life insurance products. Rapid growth in the use of these distribution channels may not continue. Reduction or replacement of these channels could limit any growth in the number of applications for life insurance policies, which could substantially harm our business.
Need to enhance and expand our technology and infrastructure—We need to continually adapt to the technological needs of our insurance company customers by enhancing and expanding our technology and network infrastructure to accommodate our customers’ changing needs. Our failure to do so could substantially harm our business.
Loss of key management—Our continued success is materially dependent upon our key management team. With the exception of the Company’s President and Chief Executive Officer, James M. McNamee, none of the Company’s officers and employees has an employment agreement. If we lose one or more of our executive officers, an inability to successfully recruit and retain additional highly skilled and experienced management, or to successfully train and promote existing personnel to serve in a managerial capacity, could substantially harm our business.
Acquisitions and other strategic investments—Our growth strategy has included acquiring other businesses and making strategic investments. There is no guarantee that these activities will be profitable, or that we will continue growing through these types of activities or otherwise.
Changes in laws and regulations, including changes in accounting standards, taxation requirements and environmental laws.
The effectiveness of our sales, advertising and marketing programs.
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Our ability to achieve earnings forecasts, which are primarily based on projected numbers of examinations to be performed.
Economic and political conditions in the United States.
The uncertainties of litigation, as well as other risks and uncertainties detailed from time to time in our Securities and Exchange Commission filings.
Other factors not identified could also cause actual results to materially differ from those described in forward-looking statements. Caution should be taken not to place undue reliance on any forward-looking statements made in this report or otherwise since such statements speak only as of the date when made. The Company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.
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Item 3. Quantitative and Qualitative Disclosures About Market Risk
The Company’s exposure to market risk for changes in interest rates relates primarily to the Company’s investment portfolio. The Company places its investments with high quality issuers and, by policy, limits the amount of credit exposure to any one issuer. The Company does not invest in portfolio equity securities or commodities or use financial derivatives for trading purposes. The Company’s debt security portfolio represents funds held temporarily pending use in our business and operations. The Company mitigates this risk by investing in only high credit quality securities that it believes to be low risk and by positioning its portfolio to respond to a significant reduction in a credit rating of any investment issuer or guarantor. The portfolio includes only marketable securities with active secondary or resale markets to ensure portfolio liquidity.
The table below presents the principal amounts and related weighted average interest rates by year of maturity for our investment portfolio as of September 30, 2003.
| 2003 | 2004 | 2005 | 2006 | 2007 | 2008 & thereafter | Total | Estimated Fair Value | |||||||||||||||||
| (in thousands) | ||||||||||||||||||||||||
Fixed Rate Investments | $ | 3,446 | $ | 6,111 | $ | 4,895 | $ | 2,741 | $ | 60 | $ | 2,564 | $ | 19,817 | $ | 20,358 | ||||||||
Average Interest Rates | 1.00% | 2.58% | 1.24% | 1.73% | 1.73% | 2.10% | 1.79% | |||||||||||||||||
Item 4. Controls and Procedures
As of the end of the period covered by this report, the Company carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures pursuant to Rule 13a-15 under the Securities Exchange Act of 1934, as amended. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective in timely alerting them to material information relating to the Company required to be included in the Company’s periodic SEC filings.
There have been no significant changes in the Company’s internal controls or in other factors which could significantly affect internal controls subsequent to the date the Company carried out its evaluation.
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Part II – Other Information
Item 6 – Exhibits and Reports on Form 8-K
| (a) | Exhibits |
| Exhibit No. | Description of Exhibit | |
31.1 | Certification of Chief Executive Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934. | |
31.2 | Certification of Chief Financial Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934. | |
32.1 | Certification of Chief Executive Officer pursuant to Rule 13a-14(b) under the Securities Exchange Act of 1934 and 18 U.S.C. Section 1350. | |
32.2 | Certification of Chief Financial Officer pursuant to Rule 13a-14(b) under the Securities Exchange Act of 1934 and 18 U.S.C. Section 1350. | |
| (b) | Reports on Form 8-K |
| (i) | A report on Form 8-K, filed July 30, 2003, regarding a press release issued on July 28, 2003, announcing the Company’s financial results for the quarter and six months ended June 30, 2003. |
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Pursuant to the requirements of the Securities Exchange Act of 1934, the Company has caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
Hooper Holmes, Inc.
Dated: November 14, 2003
| BY: | /s/ JAMES M. MCNAMEE | |
James M. McNamee Chairman, President and Chief Executive Officer | ||
| BY: | /s/ FRED LASH | |
Fred Lash Senior Vice President Chief Financial Officer & Treasurer | ||
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