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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------------
FORM 10-K/A
AMENDMENT NO. 2
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934 For the Fiscal year ended: June 30, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 For the transition period from _________________ to _______________
Commission file number: 001-12115
CONTINUCARE CORPORATION
(Exact name of registrant as specified in its charter)
FLORIDA 59-2716023
(State or other jurisdiction of (I.R.S. Employer
Incorporation or organization) Identification No.)
80 SW 8th STREET
SUITE 2350
MIAMI, FLORIDA 33130
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (305) 350-7515
Securities registered pursuant to Section 12(b) of the Act:
Name of each exchange on which
Title of each class registered
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COMMON STOCK, AMERICAN STOCK EXCHANGE
$.0001 PAR VALUE
Securities registered pursuant to Section 12(g) of the Act: NONE
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 if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendments to
this Form 10-K. [X]
Aggregate market value of the voting and non-voting common equity held by
non-affiliates of the registrant at October 7, 1999 (computed by reference to
the last reported sale price of the registrant's Common Stock on the American
Stock Exchange on such date): $6,517,563.
Number of shares outstanding of each of the registrant's classes of Common
Stock at October 7, 1999: 14,540,091 shares of Common Stock, $.0001 par value
per share.
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FORM 10-K INDEX
GENERAL
PAGE
PART I
Item 1. Business..................................................................................... 15
Item 2. Properties................................................................................... 28
Item 3. Legal Proceedings............................................................................ 28
Item 4. Submission of matters to a Vote of Security Holders.......................................... 29
PART II
Item 5. Market for registrant's Common Equity and Related Shareholder Matters........................ 30
Item 6. Selected Financial Data ..................................................................... 30
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations........ 32
Item 7A. Quantitative and Qualitative Disclosures about Market Risks.................................. 40
Item 8. Financial Statements and Supplementary Data.................................................. 40
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure......... 41
PART III
Item 10. Directors and Executive Officers of the Registrant........................................... 42
Item 11. Executive Compensation....................................................................... 43
Item 12. Security Ownership of Certain Beneficial Owners and Management............................... 46
Item 13. Certain Relationships and Related Transactions............................................... 47
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K.............................. 50
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GENERAL
Unless otherwise indicated or the context otherwise requires, all
references in this Form 10-K to "Continucare" or the "Company" includes
Continucare Corporation and its consolidated subsidiaries. The Company disclaims
any intent or obligation to update "forward looking statements." All references
to a Fiscal year are to the Company's fiscal year which ends June 30. As used
herein, Fiscal 2000 refers to fiscal year ending June 30, 2000, Fiscal 1999
refers to fiscal year ending June 30, 1999, Fiscal 1998 refers to fiscal year
ending June 30, 1998 and Fiscal 1997 refers to Fiscal year ending June 30, 1997.
CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
In connection with the safe harbor provisions of the Private Securities
Litigation Reform Act of 1995 (the "Reform Act"), Continucare is hereby
providing cautionary statements identifying important factors that could cause
the Company's actual results to differ materially from those projected in
forward-looking statements (as such term is defined in the Reform Act) of the
Company made by or on behalf of the Company herein or which are made orally,
whether in presentations, in response to questions or otherwise. Any statements
that express, or involve discussions as to expectations, beliefs, plans,
objectives, assumptions or future events or performance (often, but not always,
through the use of words or phrases such as "will result," "are expected to,"
"will continue," "is anticipated," "plans," "intends," "estimated," "projection"
and "outlook") are not historical facts and may be forward-looking. Accordingly,
such statements, including without limitation, those relating to the Company's
future business, prospects, revenues, working capital, liquidity, capital needs,
interest costs and income, wherever they may appear in this document or in other
statements attributable to the Company, involve estimates, assumptions and
uncertainties which could cause actual results to differ materially from those
expressed in the forward-looking statements. Such uncertainties include, among
others, the following factors:
TROUBLED OPERATING HISTORY
The Company's financial position has changed significantly since June
30, 1998. Throughout Fiscal 1998 and 1999 the Company experienced adverse
business operations, recurring operating losses, negative cash flow from
operations, resulting in a significant working capital deficiency. Furthermore,
as discussed below, the Company was unable to make certain of its scheduled
interest payments. The Company's operating difficulties have in large part been
due to the underperformance of various entities which were acquired in Fiscal
years 1999, 1998 and 1997, the inability to effectively integrate and realize
increased profitability through anticipated economies of scale with these
acquisitions, as well as reductions in reimbursement rates under the Balanced
Budget Act of 1997. The underperforming corporate entities referenced above
included: Continucare Managed Care, Inc., Outpatient Radiology Services, Inc.
f/k/a Continucare Outpatient Services, Inc., Continucare Physician Practice
Management, Inc., Maxicare of Broward, Inc., Rehab Management Systems, Inc., and
Continucare Medical Management, Inc. In addition, the Company's independent
auditors included a paragraph in their auditors' report on the Company's
consolidated financial statements at June 30, 1999 regarding the substantial
doubt about the Company's ability to continue as a going concern. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and the Company's consolidated financial statements and the notes
thereto for further discussion.
The continued integration of Continucare's acquired businesses and its
future ability to control costs is important to the Company's ongoing financial
and operational performance. The anticipated benefits from several acquisitions
were not achieved and the operations of these acquired businesses were not
successfully combined with the ongoing operations of the Company in a timely
manner. The process of integrating the acquired businesses caused the
interruption and loss of momentum in the conduct of these businesses and had a
material adverse effect on the Company's operations, financial results and cash
flows. There can be no assurance that the Company will realize any of the
anticipated benefits from its acquisitions. Many of the expenses arising from
the Company's efforts to integrate operations have resulted in a negative effect
on operating results. The Company believes that its efforts to integrate the
Company's operations have been substantially completed and accounted for in
prior fiscal years. The Company does not believe that any future expenses
associated with these integrations will have a future material effect on the
Company.
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All of the companies acquired by Continucare have recently or
historically operated at a loss with the exception of the Staff Model Clinics.
In Fiscal 1999 the Company undertook a business rationalization program (the
"Business Rationalization Program") to divest certain unprofitable operations
and to close other underperforming subsidiary divisions and a financial
restructuring program (the "Financial Restructuring Program") to attempt to
strengthen its financial performance. In connection with the implementation of
the Business Rationalization Program, the Company considered a variety of
factors in determining which entities to divest and which entities to
reorganize. Some of the determining factors include: (i) projected changes in
the cost structure; (ii) changes in reimbursement rates; (iii) changes in
regulatory environment; (iv) loss of management personnel; (v) loss of
contracts; and (vi) timely opportunity for disposal. As a result of this
analysis, the Company has sold or closed its outpatient rehabilitation division,
diagnostic imaging division and specialty physician practice division; however
these divisions were sold for a loss. Although Continucare in Fiscal 1999,
instituted a series of measures intended to reduce these losses and to operate
the acquired businesses profitably, there can be no assurance that Continucare
will reverse these trends or operate these entities profitably. If there are
continuing operating losses at the acquired companies, Continucare may need
additional capital to fund its business, and there can be no assurance that such
additional capital can be obtained or, if obtained, it will be on terms
acceptable to Continucare.
In the event the Company targets a business to acquire, the Company
will compete with other potential acquirers, some of which may have greater
financial or operational resources than the Company. Consummation of
acquisitions could result in the incurring or assumption by the Company of
additional indebtedness and the issuance of additional equity. The issuance of
shares of the Company's common stock, $0.0001 par value ("Common Stock") for an
acquisition may result in dilution to shareholders.
RISKS OF FINANCIAL LEVERAGE
On April 30, 1999 the Company defaulted on its semi-annual payment of
interest on its Subordinated Notes Payable. On September 29, 1999, the Company
announced that it reached an agreement in principle with the holders of all of
its outstanding Subordinated Notes Payable with regard to a consensual
restructuring (the "Debenture Settlement"), see "Recent Developments - Debt
Restructuring". The Consent to Supplemental Indenture and Waiver (the "Waiver")
which sets forth the terms of the Debenture Settlement, was executed on December
9, 1999. The Debenture Settlement will not be fully effective unless, and until
it is ratified by Continucare's shareholders at a meeting, although not required
by law. In the September 29, 1999 agreement in principle the meeting was to be
held by December 31, 1999, however, the Waiver extended the date by which
shareholder approval must be received to February 15, 2000 ("Shareholder
Approval Date"). While the Company believes it will receive adequate shareholder
support, there can be no assurance to that effect. The inability of the Company
to receive adequate shareholder support and satisfy the other conditions
precedent of the Debenture Settlement could have a material adverse effect on
the Company's business and future prospects and could force the Company to seek
bankruptcy protection. Additionally, even if the Debenture Settlement is
concluded, the degree to which Continucare continues to be leveraged could
affect its ability to service its indebtedness, make capital expenditures,
respond to market conditions and extraordinary capital needs, take advantage of
certain business opportunities or obtain additional financing. Unexpected
declines in Continucare's future business, or the inability to obtain additional
financing on terms acceptable to Continucare, if required, could impair
Continucare's ability to meet its debt service obligations or fund acquisitions
and therefore, could have a material adverse effect on the Company's business
and future prospects.
RISKS ASSOCIATED WITH CAPITATED ARRANGEMENTS INCLUDING RISK OF OVER-UTILIZATION
BY MANAGED CARE PATIENTS, RISK OF REDUCTION OF CAPITATED RATES AND
REGULATED RISKS
The Company's provider entities have entered into several managed care
agreements including certain capitated arrangements with managed care
organizations. Under capitated contracts, the health care provider typically
accepts a pre-determined amount for professional services per patient per month
from the managed care payor in exchange for the Company assuming responsibility
for the provision of medical services for each covered individual. Such
contracts pass much of the financial risk of providing care, such as
over-utilization of healthcare services, from the payor to the provider. Because
the Company incurs costs based on the frequency and extent of medical services
provided, but only receives a fixed fee for agreeing to assume responsibility
for the provision of such services, to the extent that the patients covered by
such managed care contracts require more frequent or extensive care than is
anticipated, the Company's operating margins may be reduced and, in certain
cases, the revenue derived from such contracts may be insufficient to cover the
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costs of the services provided. In either event, the Company's business,
prospects, financial condition and results of operations may be materially
adversely affected. The Company's future success will depend in part upon its
ability to negotiate contracts with managed care payors on terms favorable to
the Company and upon its effective management of health care costs through
various methods, including competitive pricing and utilization management. The
proliferation of capitated contracts in markets served by the Company could
result in decreased predictability of operating margins. There can be no
assurance that the Company will be able to negotiate satisfactory arrangements
on a capitated basis or that such arrangements will be profitable to the Company
in the future. In addition, in certain jurisdictions, capitated agreements in
which the provider bears the risk are regulated under state insurance laws. The
degree to which these capitated arrangements are regulated by insurance laws
varies on a state by state basis, and as a result, the Company may be limited in
certain states, such as Florida, in which it may seek to enter into or arrange
capitated agreements for its affiliated physicians when those capitated
contracts involve the assumption of risk. There can be no guarantee that the
state of Florida will continue to maintain the position that the Company is not
regulated as an insurer. See "Dependence on Contracts with Managed Care
Organizations."
DEPENDENCE ON CONTRACTS WITH MANAGED CARE ORGANIZATIONS
The Company's ability to expand is dependent in part on increasing the
number of managed care patients served by its Staff Model clinics, primarily
through negotiating additional and renewing existing contracts with managed care
organizations. The Company's capitated managed care agreement with Foundation
Health Corporation Affiliates ("Foundation") is a ten-year agreement with the
initial term expiring on June 30, 2008, unless terminated earlier for cause. In
the event of termination of the Foundation agreement, the Company must continue
to provide services to a patient with a life-threatening or disabling and
degenerative condition for sixty days as medically necessary. The Company's
capitated managed care agreement with Humana Medical Plans, Inc. ("Humana") is a
ten-year agreement expiring July 31, 2008, unless terminated earlier for cause.
The agreement shall automatically renew for subsequent one-year terms unless
either party provides 180-days written notice of its intent not to renew. In
addition, the Humana agreement may be terminated by the mutual consent of both
parties at any time. Under certain limited circumstances, Humana may immediately
terminate the agreement for cause, otherwise termination for cause shall require
ninety (90) days prior written notice with an opportunity to cure, if possible.
In the event of termination of the Humana agreement, the Company must continue
to provide or arrange for services to any member hospitalized on the date of
termination until the date of discharge or until it has made arrangements for
substitute care. In some cases, Humana may provide 30 days' notice as to an
amendment or modification of the agreements, including but not limited to,
renegotiation of rates, covered benefits and other terms and conditions. The
Company maintains other managed care relationships subject to various negotiated
terms. There can be no assurance that the Company will be able to renew any of
these managed care agreements or, if renewed, that they will contain terms
favorable to the Company and affiliated physicians. The loss of any of these
contracts or significant reductions in capitated reimbursement rates under these
contracts could have a material adverse effect on the Company's business,
financial condition and results of operations. See "Reliance on Key Customers;
Related Party Issues", "Risks Associated with Capitated Arrangements Including
Risk of Over-Utilization by Managed Care Patients, Risk of Reduction of
Capitated Rates and Regulatory Risks," "Management's Discussion and Analysis of
Financial Condition and Results of Operations" and "Business Managed Care."
FEE-FOR-SERVICE ARRANGEMENTS
Certain of the Company's physicians who render services on a
fee-for-service basis (as opposed to capitation) typically bill various payors,
such as governmental programs (e.g., Medicare and Medicaid), private insurance
plans and managed care plans, for the health care services provided to their
patients. There can be no assurance that payments under governmental programs or
from other payors will remain at present levels. In addition, payors can deny
reimbursement if they determine that treatment was not performed in accordance
with the cost-effective treatment methods established by such payors or was
experimental or for other reasons. Also, fee-for-service arrangements involve a
credit risk related to uncollectibility of accounts receivable.
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RISKS RELATED TO INTANGIBLE ASSETS
In conjunction with the Company's Financial Restructuring Program
approximately $23,800,000 in net intangible assets have been written off as a
result of the sale, dissolution, closing and re-evaluation of certain non or
poorly performing assets. As of June 30, 1999, remaining intangible assets
totaled approximately 83% of Continucare's total assets. Using an amortization
period ranging from 2.5 to 20 years, amortization expense on the Company's
remaining intangible assets will be approximately $2,600,000 per year. Further
acquisitions that result in the recognition of additional intangible assets
would cause amortization expense to further increase. In certain circumstances,
amortization generated by these intangible assets may not be deductible for tax
purposes.
At the time of or following each acquisition, the Company evaluates
each acquisition and establishes an appropriate amortization period based on the
specific underlying facts and circumstances of each such acquisition. Subsequent
to such initial evaluation, the Company periodically reevaluates such facts and
circumstances to determine if the related intangible asset continues to be
realizable and if the amortization period continues to be appropriate. As the
underlying facts and circumstances subsequent to the date of acquisition can
change, there can be no assurance that the value of such intangible assets will
be realized by the Company. At June 30, 1999, a portion of the net un-amortized
balance of intangible assets acquired was considered to be impaired. As a result
of the determination that approximately $11,700,000 of intangible assets were
impaired, the Company has written off the impaired portion of un-amortized
intangible assets. Any future determination, based on reevaluation of the
underlying facts and circumstances, that a significant impairment has occurred
would require the write-off of the impaired portion of un-amortized intangible
assets, which could have a material effect on Continucare's business and results
of operations.
RELIANCE ON KEY CUSTOMERS; RELATED PARTY ISSUES
In Fiscal 1999, the Company generated approximately 51% of its revenue
from Foundation Health Corporation and approximately 34% of its revenues from
Humana Medical Plan, Inc. In Fiscal 2000, there may be some decrease in the
revenue derived from Foundation as a result of the Company's Business
Rationalization Program, see "Business--General," and "Management's Discussion
and Analysis of Financial Conditions and Results of Operations" contained
elsewhere herein. The loss of any of these contracts or significant reductions
in reimbursement rates could have a material adverse affect on the Company. See
"Dependence on Contracts with Managed Care Organizations".
Medicare regulations limit cost-based reimbursement for healthcare
charges paid to related parties. A party is considered "related" to a provider
if it is deemed to be under common ownership and/or control with the provider.
One test for determining common control for this purpose is whether the
percentage of the total revenues of the party received from services rendered to
the provider is so high that it effectively constitutes control. Another test is
whether the scope of management services furnished under contract is so broad
that it constitutes control. It is possible that such regulations or the
interpretation thereof could limit the number of management contracts and/or the
fees attributable to such contracts if a particular client of the Company is
deemed "related."
REIMBURSEMENT CONSIDERATIONS
The Company receives reimbursement from the Medicare and Medicaid
programs or payments from insurers, self-funded benefit plans or other
third-party payors. The Medicare and Medicaid programs are subject to statutory
and regulatory changes, retroactive and prospective rate adjustments,
administrative rulings and funding restrictions, any of which could have the
effect of limiting or reducing reimbursement levels. Although the Company
derived less than 5% of its net patient service revenue directly from Medicare
and Medicaid in fiscal 1999, a substantial portion of the Company's managed care
revenues are based upon Medicare reimbursable rates. Therefore, any changes
which limit or reduce Medicare reimbursement levels could have a material
adverse effect on the Company.
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Significant changes have been and may be made in the Medicare program,
which could have a material adverse effect on the Company's business, results of
operations, prospects, financial results, financial condition or cash flows. In
addition, legislation has been or may be introduced in the Congress of the
United States which, if enacted, could adversely affect the operations of the
Company by, for example, decreasing reimbursement by third-party payors such as
Medicare or limiting the ability of the Company to maintain or increase the
level of services provided to patients.
Title XVIII of the Social Security Act authorizes Medicare Part A, the
health insurance program that pays for inpatient care for covered persons
(generally, those age 65 and older and the long-term disabled) and Medicare Part
B, a voluntary supplemental medical assistance insurance program. Healthcare
providers may participate in the Medicare program subject to certain conditions
of participation and acceptance of a provider agreement by the Secretary of
Health and Human Services ("HHS"). Only enumerated services, upon satisfaction
of certain criteria, are eligible for Medicare reimbursement. Relative to the
services of the Company's Home Health Agencies ("HHAs") and previously owned or
operated Medicare certified outpatient rehabilitation facilities ("ORFs"),
Comprehensive Outpatient Rehabilitation Facilities ("CORFs"), in the past
Medicare has reimbursed the "reasonable costs" for services up to program
limits. Medicare-reimbursed costs are subject to audit, which may result in a
decrease in payments the Company has previously received. Historically, Medicare
Part B reimburses the operating cost component of most hospital outpatient
services on a reasonable cost basis, subject to a 5.8% reduction which the
Balanced Budget Act of 1997 (the "Budget Act"), extended through federal Fiscal
year 2000. However, Medicare recently issued a proposed regulation pursuant to
which hospital outpatient services would be reimbursed on the basis of a
prospective payment system ("PPS"). Such a PPS system is scheduled to be
implemented shortly after the year 2000. It is also impossible to predict the
effect a PPS system for these hospital outpatient services will have on the
Company. There can be no assurance that the established fees will not change in
a manner that could adversely affect the revenues of the Company. See "--The
Balanced Budget Act of 1997."
Pursuant to the Medicaid program, the federal government supplements
funds provided by the various states for medical assistance to the medically
indigent. Payment for such medical and health services is made to providers in
an amount determined in accordance with procedures and standards established by
state law under federal guidelines. Significant changes have been and may
continue to be made in the Medicaid program which could have a material adverse
effect on the financial condition, results of operations and cash flows of the
Company.
During certain Fiscal years, the amounts appropriated by state
legislatures for payment of Medicaid claims have not been sufficient to
reimburse providers for services rendered to Medicaid patients. Failure of a
state to pay Medicaid claims on a timely basis may have a material adverse
effect on the Company's cash flow, results of operations and financial
condition.
In 1992, the Medicare program began reimbursing physicians and certain
non-physician professionals such as physical, occupational and speech
therapists, clinical psychologists and clinical social workers, pursuant to a
fee schedule derived using a resource-based relative value scale ("RBRVS").
Reimbursement amounts under the physician fee schedule are subject to periodic
review and adjustment and may affect the Company's revenues to the extent they
are dependent on reimbursement under the fee schedule.
Payments per visit from managed care organizations typically have been
lower than cost-based reimbursement from Medicare and reimbursement from other
payors for nursing and related patient services. In addition, payors and
employer groups are exerting pricing pressure on home health care providers,
resulting in reduced profitability. Such pricing pressures could have a material
adverse effect on the Company's business, results of operations, prospects,
financial results, financial condition or cash flows.
THE BALANCED BUDGET ACT OF 1997
The Balanced Budget Act of 1997 (the "Budget Act") enacted in August
1997 contains numerous provisions related to Medicare and Medicaid
reimbursement. It is unclear whether any or all of these provisions will be
implemented by the Health Care Financing Administration ("HCFA") as scheduled.
The general thrust of the provisions dealing with Medicare and Medicaid
contained in the Budget Act are intended to incentivize providers to deliver
services efficiently at lower costs. The Budget Act also requires the Secretary
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of HHS to implement a PPS for home health agency services, and reduces the
amount of Medicare reimbursement for HHA services. Under such a PPS system,
providers will be reimbursed a fixed fee per treatment unit, and a provider
having costs greater than the prospective amount will incur losses. The Company
expects that there will continue to be numerous initiatives on the federal and
state levels for comprehensive reforms affecting the payment for and
availability of healthcare services.
The Budget Act also provides for a PPS for home nursing to be
implemented. Prospective rates determined by the HHS would reflect a 15%
reduction to the cost limits and per-patient limits in place as of September 30,
1999. In the event the implementation deadline is not met, the reduction will be
applied to the reimbursement system then in place. Until PPS takes effect on
October 1, 2000, the Budget Act established an interim payment system ("IPS")
that provides for the lowering of reimbursement limits for home health visits.
For cost reporting periods beginning on or after October 1, 1997,
Medicare-reimbursed home health agencies will have their cost limits determined
as the lesser of (i) actual costs (ii) 105% of median costs of freestanding home
health agencies, or (iii) an agency-specific per-patient cost limit, based on
98% of 1994 costs adjusted for inflation. The new IPS cost limits apply to the
Company for the cost reporting periods beginning after October 1997. The failure
to implement a PPS for home nursing services in the next several years could
adversely affect the Company and its growth strategy.
For cost reporting periods beginning on or after October 1, 1997, the
Budget Act requires a home health agency to submit claims for payment for home
health services only on the basis of the geographic location at which the
service was furnished. HCFA has publicly expressed concern that some home health
agencies are billing for services from administrative offices in locations with
higher per-visit cost limitations than the cost limitations in effect in the
geographic location of the home health agency furnishing the service. The
Company is unable to determine the effect of the reimbursement impact resulting
from payments for services based upon geographic location until HCFA finalizes
related regulatory guidance. Any resultant reduction in the Company's cost
limits could have a material adverse effect on the Company's business, financial
condition or results of operations. However, until regulatory guidance is
issued, the effect of such reductions cannot be predicted with any level of
certainty.
Various other provisions of the Budget Act may have an impact on the
Company's business and results of operations. For example, venipuncture will no
longer be a covered skilled nursing home care service unless it is performed in
connection with other skilled nursing services. Additionally, payments will be
frozen for durable medical equipment, excluding orthotic and prosthetic
equipment, and payments for certain reimbursable drugs and biologicals will be
reduced. Beginning with services furnished on or after January 1, 1998, coverage
of home health services is currently being shifted over a period of six years
from Medicare Part A to Medicare Part B except for a maximum of 100 visits
during a spell of illness after a three-day hospitalization initiated within 14
days after discharge or after receiving any covered services in a skilled
nursing facility, each of which will continue to be covered under Medicare Part
A. Another provision of the Budget Act would reduce Medicare reimbursements to
acute care hospitals for non-Medicare patients who are discharged from the
hospital after a very short inpatient stay to the care of a home health agency.
The impact of these reimbursement changes could have a material adverse effect
on the Company's business, financial condition or results of operations.
However, this impact cannot be predicted with any level of certainty at this
time.
Among the other changes which the Budget Act is attempting to
accomplish are the following: (i) reducing the amounts which the federal
government will pay for services provided to Medicare and Medicaid beneficiaries
by an estimated $115 billion and $13 billion, respectively over a five-year
period; (ii) reducing payments to hospitals for inpatient and outpatient
services provided to Medicare beneficiaries by an estimated $44 billion over a
five-year period; (iii) establishing the Medicare+Choice Program, which expands
the availability of managed care alternatives to Medicare beneficiaries,
including Medical Savings Accounts; (iv) converting the Medicare reimbursement
of outpatient hospital services from a reasonable cost basis to a PPS; (v)
adjusting the manner in which Medicare calculates the amount of copayments which
are deducted from the Medicare payment to hospitals for outpatient services;
(vi) freezing the Medicare hospital PPS and PPS-exempt hospital and distinct
part unit update for Fiscal year 1998 and 1999, and limiting the level of annual
updates for subsequent years; (vii) reducing various other Medicare payments to
providers; (viii) repealing the federal Boren Amendment, which imposed certain
requirements on the level of reimbursement paid to hospitals for services
rendered to Medicaid beneficiaries; (ix) permitting states to mandate managed
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care for Medicaid beneficiaries without the need for federal waivers; (x)
instituting permanent, mandatory exclusion from any federal health care program
for those convicted of three health care-related crimes, and a mandatory 10-year
exclusion for those convicted of two health care-related crimes. Additionally,
the Secretary of HHS will be able to deny entry into Medicare or Medicaid or
deny renewal to any provider or supplier convicted of any felony that the
Secretary deems to be "inconsistent with the best interests" of the program's
beneficiaries; and (xi) creating a new civil monetary penalty for violations of
the Federal Medicare/Medicaid Anti-Fraud and Abuse Amendments to the Social
Securities Act ("Anti-Kickback Law") for cases in which a person contracts with
an excluded provider for the provision of health care items or services where
the person knows or should know that the provider has been excluded from
participation in a federal health care program. Violations will result in
damages three times the remuneration involved, as well as a penalty of $50,000
per violation. There can be no assurance that the Company will not be subject to
the imposition of a fine or other penalty from time to time.
PROPOSED LEGISLATION
Congress and the State Legislature may propose legislation altering the
financing and delivery of health care services provided by the Company (beyond
the changes made by the Budget Act). There are wide variations among the bills
and their ultimate effect on the Company cannot be determined. Certain proposals
would encourage the growth of managed care networks, extend temporary reductions
in Medicare reimbursement imposed under current law, impose additional costs in
Medicare reimbursement and substantially restructure Medicaid.
ADDITIONAL PAYOR CONSIDERATIONS
Medicare retrospectively audits all reimbursements paid to
participating providers, including those now or previously managed and/or owned
by the Company, cost reports of client hospitals, CORFs, ORFs, and HHAs upon
which Medicare reimbursement for services rendered in the programs managed by
the Company is based. Accordingly, at any time, the Company could be subject to
refund obligations to such clients for prior period cost reports that have not
been audited and settled as of the date hereof.
Certain private insurance companies contract with hospitals and other
providers on an "exclusive" or a "preferred provider" basis and some insurers
have introduced plans known as "preferred provider organizations" ("PPOs").
Under such plans, there may be financial incentives for subscribers to use only
those providers that contract with the plans. Under an exclusive provider plan,
which includes most "health maintenance organizations" ("HMOs"), private payors
limit coverage to those services provided by selected providers. With this
contracting authority, private payors may direct patients away from nonselected
providers by denying coverage for services provided by them.
Most PPOs and HMOs currently pay providers on a discounted
fee-for-service basis or on a discounted fixed rate per day of care. Many health
care providers do not have accurate information about their actual costs of
providing specific types of care, particularly since each patient presents a
different mix of services and lengths of stay. Consequently, the discounts
offered to PPOs and HMOs may result in payments at less than actual costs.
Payors, including Medicare and Medicaid, are attempting to manage
costs, resulting in declining amounts paid or reimbursed to hospitals for the
services provided. As a result, the Company anticipates that the number of
patients served by hospitals on a per diem, episodic or capitated basis will
increase in the future. There can be no assurance that if amounts paid or
reimbursed to HHAs decline, it will not adversely affect the Company.
INCREASED SCRUTINY OF HEALTHCARE INDUSTRY
The healthcare industry has in general been the subject of increased
government and public scrutiny in recent years, which has focused on the
appropriateness of the care provided, referral and marketing practices and other
matters. Increased media and public attention has recently been focused on the
outpatient services industry in particular as a result of allegations of
fraudulent practices related to the nature and duration of patient treatments,
illegal remuneration and certain marketing, admission and billing practices by
certain healthcare providers. The alleged practices have been the subject of
federal and state investigations, as well as other legal proceedings. Healthcare
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is a target for investigations because yearly Medicare payments to these types
of services have increased substantially during the past several years. The
Company is unable to predict the effect of a post-payment review on any
Continucare provider or publicity in general about the healthcare services
industry might have on the Company. There can be no assurance that the Company
will not be subject to federal and state review or investigation from time to
time.
Federal and state governments have recently focused significant
attention on healthcare reform intended to control healthcare costs and to
improve access to medical services for uninsured individuals. These proposals
include cutbacks to the Medicare and Medicaid programs and steps to permit
greater flexibility in the administration of Medicaid. See "--Reimbursement
Considerations." It is uncertain at this time what legislation regarding
healthcare reform may ultimately be enacted or whether other changes in the
administration or interpretation of governmental healthcare programs will occur.
There can be no assurance that future healthcare legislation or other changes in
the administration or interpretation of governmental healthcare programs will
not have a material adverse effect on the Company's business, results of
operations, prospects, financial results, financial condition or cash flows.
GOVERNMENT REGULATION
The federal government and many states including the state in which the
Company currently operates regulate certain aspects of the healthcare services
provided by programs managed by the Company and other healthcare services
provided by the Company. In particular, the development and operation of
healthcare facilities are subject to federal, state and local licensure and
certification laws. Healthcare facilities are subject to periodic inspection by
governmental and other authorities to assure compliance with the standards
established for continued licensure under state law and certification under the
Medicare and Medicaid programs. Failure to obtain or renew any required
regulatory approvals or licenses could prevent such facility from offering
outpatient services or receiving Medicare, Medicaid or other third party
payments.
The Company is also subject to federal and state laws which govern
financial and other arrangements between healthcare providers. These laws often
prohibit certain direct and indirect payments or fee-splitting arrangements
between healthcare providers that are designed to induce or encourage
overutilization, underutilization or the referral of patients or payor funded
business, or the recommendation of a particular provider for medical products
and services.
FEDERAL "FRAUD AND ABUSE" LAWS AND REGULATIONS. The Anti-Kickback Law
makes it a criminal felony offense to knowingly and willfully offer, pay,
solicit or receive remuneration in order to induce business for which
reimbursement is provided under the Medicare or Medicaid programs. In addition
to criminal penalties, including fines of up to $25,000 and five (5) years
imprisonment, violations of the Anti-Kickback Law can lead to civil monetary
penalties (which, pursuant to the Budget Act, can amount to as much as $50,000
for each violation, plus up to treble damages, based on the remuneration
illegally offered, paid, received or solicited) and exclusion from Medicare,
Medicaid and certain other state and federal health care programs. The scope of
prohibited payments in the Anti-Kickback Law is broad and includes economic
arrangements involving hospitals, physicians and other health care providers,
including joint ventures, space and equipment rentals, purchases of physician
practices and management and personal services contracts. HHS has published
regulations which describe certain "safe harbor" arrangements that will not be
deemed to constitute violations of the Anti-Kickback Law. The safe harbors
described in the regulations are narrow and do not cover a wide range of
economic relationships which many hospitals, physicians and other health care
providers consider to be legitimate business arrangements not prohibited by the
statute. Because the regulations describe safe harbors and do not purport to
describe comprehensively all lawful or unlawful economic arrangements or other
relationships between health care providers and referral sources, health care
providers having these arrangements or relationships may be required to alter
them in order to ensure compliance with the Anti-Kickback Law.
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Management of the Company believes that its contracts with providers,
physicians and other referral sources are in material compliance with the
Anti-Kickback Law and will make every effort to comply with the Anti-Kickback
Law. However, in light of the narrowness of the safe harbor regulations and the
scarcity of case law interpreting the Anti-Kickback Law, there can be no
assurances that the Company will not be alleged to have violated the
Anti-Kickback Law, and if an adverse determination is reached, whether any
sanction imposed would have a material adverse effect on the Company's financial
condition, results of operations or cash flows.
The Office of the Inspector General of the Department of HHS, the
Department of Justice and other federal agencies interpret these fraud and abuse
provisions liberally and enforce them aggressively. Members of Congress have
proposed legislation that would significantly expand the federal government's
involvement in curtailing fraud and abuse and increase the monetary penalties
for violation of these provisions. In addition, some states restrict certain
business relationships between physicians and other providers of health care
services.
The federal government, private insurers and various state enforcement
agencies have increased their scrutiny of provider business practices and
claims, particularly in the areas of home health care and durable medical
equipment in an effort to identify and prosecute parties engaged in fraudulent
and abusive practices. In May 1995, the Clinton Administration instituted
Operation Restore Trust ("ORT"), a health care fraud and abuse initiative
focusing on nursing homes, home health care agencies and durable medical
equipment companies. ORT, which initially focused on companies located in
California, Florida, Illinois, New York and Texas, the states with the largest
Medicare populations, has been expanded to all 50 states. While the Company
believes that it is in material compliance with such laws, there can be no
assurance that the practices of the Company, if reviewed, would be found to be
in full compliance with such laws, as such laws ultimately may be interpreted.
It is the Company's policy to monitor its compliance with such laws and to take
appropriate actions to ensure such compliance.
STATE FRAUD AND ABUSE REGULATIONS. Various States also have
anti-kickback laws applicable to licensed healthcare professionals and other
providers and, in some instances, applicable to any person engaged in the
proscribed conduct. For example, Florida enacted "The Patient Brokering Act"
which imposes criminal penalties, including jail terms and fines, for receiving
or paying any commission, bonus, rebate, kickback, or bribe, directly or
indirectly in cash or in kind, or engage in any split-fee arrangement, in any
form whatsoever, to induce the referral of patients or patronage from a
healthcare provider or healthcare facility.
Management of the Company believes that its contracts with providers,
physicians and other referral sources are in material compliance with the State
laws and will make every effort to comply with the State laws. However, there
can be no assurances that the Company will not be alleged to have violated the
State laws, and if an adverse determination is reached, whether any sanction
imposed would have a material adverse effect on the Company's financial
condition, results of operations or cash flows.
RESTRICTIONS ON PHYSICIAN REFERRALS. The federal Anti-Self Referral Law
(the "Stark Law") prohibits certain patient referrals by interested physicians.
Specifically, the Stark Law prohibits a physician, or an immediate family
member, who has a financial relationship with an entity, from referring Medicare
or Medicaid patients with limited exceptions, to that entity for the following
"designated health services", clinical laboratory services, physical therapy
services, occupational therapy services, radiology or other diagnostic services,
durable medical equipment and supplies, radiation therapy services and supplies,
parenteral and enteral nutrients, equipment and supplies, prosthetics, orthotics
and prosthetic devices, home health services, outpatient prescription drugs, and
inpatient and outpatient hospital services. A financial relationship is defined
to include an ownership or investment in, or a compensation relationship with,
an entity. The Stark Law also prohibits an entity receiving a prohibited
referral from billing the Medicare or Medicaid programs for any services
rendered to a patient. The Stark Law contains certain exceptions that protect
parties from liability if the parties comply with all of the requirements of the
applicable exception. The sanctions under the Stark Law include denial and
refund of payments, civil monetary penalties and exclusions from the Medicare
and Medicaid programs.
HHS has proposed regulations further implementing and interpreting the
Stark Law. If adopted as final these regulations will impact the interpretation
and application of the Stark Law. The Company is unable to predict the manner in
which those regulations could impact the Company's current compliance with the
Stark Law.
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Management of the Company believes that it is presently in material
compliance with the Stark Law and will make every effort to comply with the
Stark Law. However, in light of the lack of regulatory guidance and the scarcity
of case law interpreting the Stark Law, there can be no assurances that the
Company will not be alleged to have violated the Stark Law, and if an adverse
determination is reached, whether any sanction imposed would have a material
adverse effect on the Company's results of operations, financial condition or
cash flows.
CORPORATE PRACTICE OF MEDICINE DOCTRINE. Many states prohibit business
corporations from providing, or holding themselves out as a provider of medical
care. Possible sanctions for violation of any of these restrictions or
prohibitions include loss of licensure or eligibility to participate in
reimbursement programs (including Medicare and Medicaid), asset forfeitures and
civil and criminal penalties. These laws vary from state to state, are often
vague and loosely interpreted by the courts and regulatory agencies. The Company
currently operates only in Florida, which does not have a corporate practice of
medicine doctrine with respect to the types of physicians employed by or that
contract with the Company at this time. There, however, can be no assurance that
such laws will not change or ultimately be interpreted in a manner inconsistent
with the practices of the Company, and an adverse interpretation could have a
material adverse effect on the Company's results of operations, financial
condition or cash flows.
CERTIFICATES OF NEED AND CERTIFICATES OF EXEMPTION. Many states,
including the state in which the Company operates, have procedures for the
orderly and economical development of health care facilities, the avoidance of
unnecessary duplication of such facilities and the promotion of planning for
development of such facilities. Such states require health care facilities to
obtain Certificates of Need ("CONs") or Certificates of Exemption ("COEs")
before initiating projects in excess of a certain threshold for the acquisition
of major medical equipment or other capital expenditures; changing the scope or
operation of a health care facility; establishing or discontinuing a health care
service or facility; increasing, decreasing or redistributing bed capacity;
and/or changing of ownership of a health care facility, among others. Possible
sanctions for violation of any of these statutes and regulations include loss of
licensure or eligibility to participate in reimbursement programs and other
penalties. These laws vary from state to state and are generally administered by
the respective state department of health. The Company seeks to structure its
business operations in compliance with these laws and has sought guidance as to
the interpretation of such laws and the procurement of required CONs and/or
COEs. There can be no assurance, however, that the Company or any of its client
hospitals, or HHAs will be able to obtain required CONs and/or COEs in the
future.
The Company is unable to predict the future course of federal, state or
local legislation or regulation, including Medicare and Medicaid statutes and
regulations. Further changes in the regulatory framework could have a material
adverse effect on the Company's financial condition, results of operations or
cash flows.
GEOGRAPHIC CONCENTRATION
More than 98% of the Company's net revenues in Fiscal 1999 were derived
from the Company's operations in Florida. It is anticipated that in Fiscal 2000
substantially all of the Company's net revenue will be derived from the
Company's operations in Florida. Unless and until the Company's operations
become more diversified geographically (as a result of acquisitions or internal
expansion), adverse economic, regulatory, or other developments in Florida could
have a material adverse effect on the Company's financial condition or results
of operations. The Company has as of Fiscal 1999 closed all operations outside
the State of Florida. In the event that the Company expands its operations into
new geographic markets, the Company will need to establish new relationships
with physicians and other healthcare providers. In addition, the Company will be
required to comply with laws and regulations of states that differ from those in
which the Company currently operates, and may face competitors with greater
knowledge of such local markets. There can be no assurance that the Company will
be able to establish relationships, realize management efficiencies or otherwise
establish a presence in new geographic markets.
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DEPENDENCE ON PHYSICIANS
A significant portion of the Company's revenue is derived: (i) from
patient service revenue generated by physicians employed by or under contract
with the Company; and (ii) under managed care contracts held by the Company.
Revenue derived by the Company under capitated managed care contracts depends on
the continued participation of physicians providing medical services to patients
of the managed care companies and independent physicians contracting with the
Company to participate in provider networks which are developed or managed by
the Company. Physicians can typically terminate their agreements to provide
medical services under managed care contracts by providing notice of such
termination to the payor. Termination of these agreements by physicians may
result in termination by the payor of a managed care contract between the
Company and the payor. Any material loss of physicians, whether as a result of
the loss of network physicians or the termination of managed care contracts
resulting from the loss of network physicians or otherwise, could have a
material adverse effect on the Company's business, results of operations,
prospects, financial results, financial condition or cash flows. The Company
competes with general acute care hospitals and other healthcare providers for
the services of medical professionals. Demand for such medical professionals is
high and such professionals often receive competing offers. No assurance can be
given that the Company will be able to continue to recruit and retain a
sufficient number of qualified medical professionals. The inability to
successfully recruit and retain medical professionals could adversely affect the
Company's ability to successfully implement its growth strategy. See "Business
- -- Administrative Support Operations."
COMPETITION
The healthcare industry is highly competitive. Continucare competes
with several national competitors and many regional and national healthcare
companies, some of which have greater resources than Continucare. In addition,
healthcare providers may elect to manage their own outpatient health programs.
Competition is generally based upon reputation, price, the ability to offer
financial and other benefits for the particular provider, and the management
expertise necessary to enable the provider to offer outpatient programs that
provide the full continuum of outpatient services in a quality and
cost-effective manner. The pressure to reduce healthcare expenditures has
emphasized the need to manage the appropriateness of health services provided to
patients. As a result, competitors without management experience covering the
various levels of the continuum of outpatient services may not be able to
compete successfully.
INSURANCE
Continucare carries general liability, comprehensive property damage,
malpractice, workers' compensation, stop-loss and other insurance coverages that
management considers adequate for the protection of Continucare's assets and
operations. There can be no assurance, however, that the coverage limits of such
policies will be adequate to cover losses and expenses for lawsuits brought or
which may be brought against the Company. A successful claim against Continucare
in excess of its insurance coverage could have a material adverse effect on
Continucare.
TECHNOLOGY; YEAR 2000 COMPLIANCE
The Year 2000 Issue is the result of the computer programs being
written using two digits rather than four to define the applicable year. Any of
the Company's computer programs that have time-sensitive software may recognize
a date using "00" as the year 1900 rather than the year 2000. This could result
in a system failure or miscalculations causing disruptions of operations and
patient care, including, among other things, a failure of certain patient care
applications and equipment, a failure of control systems, a temporary inability
to process transactions, send invoices, or engage in similar normal business
activities.
Based on a recent and ongoing assessment, the Company determined that
it will be required to modify or replace certain portions of its software,
hardware and patient care equipment so that its systems will function properly
with respect to dates in the year 2000 and thereafter. Affected systems will
include clinical and biomedical instrumentation and equipment used within the
Company for purposes of direct or indirect patient care such as imaging,
laboratory, pharmacy and respiratory devices; cardiology measurement and support
devices; emergency care devices (including monitors, defibrillators, dialysis
equipment and ventilators); and general patient care devices (including
telemetry equipment and intravenous pumps). The Company presently believes that
with modifications to existing software and conversions to new clinical and
biomedical instrumentation and equipment, the Year 2000 Issue will not pose
significant operational problems. However, if such modifications and conversions
are not made, or are not completed timely, the Year 2000 Issue could have a
material impact on the operations of the Company.
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The Company has initiated formal communications with all of its
significant suppliers to determine the extent to which the Company's interface
systems are vulnerable to those third parties' failure to remediate their own
Year 2000 Issues. The Company's total Year 2000 project cost and estimates to
complete include the costs and time associated with the impact of third-party
Year 2000 Issues based on presently available information. However, there can be
no guarantee that the systems of other companies on which the Company's systems
rely will be timely converted and would not have an adverse effect on the
Company's systems.
The Company will utilize both internal and external resources to
reprogram, or replace and test the software and patient care equipment for Year
2000 modifications. The Company anticipates completing the Year 2000 project by
December 1, 1999, which is prior to any anticipated impact on its operating
systems. The total cost of the Year 2000 project is estimated at $200,000 and is
being funded through operating cash flows. Of the total projected cost,
approximately $50,000 is attributable to the purchase of new software and
patient care equipment, which will be capitalized. The remaining $150,000 will
be expensed as incurred and is not expected to have a material effect on the
results of operations.
The costs of the project and the date on which the Company believes it
will complete the Year 2000 modifications are based on management's best
estimates, which were derived utilizing numerous assumptions of future events,
including the continued availability of certain resources, third party
modification plans and other factors. However, there can be no guarantee that
these estimates will be achieved and actual results could differ materially from
those anticipated. Specific factors that might cause material differences
include, but are not limited to, the availability and cost of replacement
equipment and personnel trained in this area, the ability to locate and correct
all relevant computer codes, and similar uncertainties.
UPGRADE OF MANAGEMENT INFORMATION SYSTEMS; TECHNOLOGICAL OBSOLESCENCE
The operations of the Company are heavily dependent on its management
information systems. Implementation of new management information systems and
integration of management information systems in connection with acquisitions
require a transition period during which various functions must be converted or
integrated to the new systems. This conversion and integration process may
entail errors, defects or prolonged downtime, especially at the outset, and such
errors, defects or downtime could have a material adverse effect on the
Company's business, results of operations, prospects, financial results,
financial condition or cash flows.
Both the software and hardware used by the Company in connection with
the services it provides have been subject to rapid technological change.
Although the Company believes that its technology can be upgraded as necessary,
the development of new technologies or refinements of existing technology could
make the Company's existing equipment obsolete. Although the Company is not
currently aware of any pending technological developments that would be likely
to have a material adverse effect on its business, there is no assurance that
such developments will not occur.
* * * * * * *
The Company cautions that the risk factors described above could cause
actual results or outcomes to differ materially from those expressed in any
forward-looking statements of the Company made by or on behalf of the Company.
Any forward-looking statement speaks only as of the date on which such statement
is made, and the Company undertakes no obligation to update any forward-looking
statement or statements to reflect events or circumstances after the date on
which such statement is made or to reflect the occurrences of unanticipated
events. New factors emerge from time to time and it is not possible for
management to predict all of such factors. Further, management cannot assess the
impact of each such factor on the Company's business or the extent to which any
factor, or combination of factors, may cause actual results to differ materially
from those contained in any forward-looking statements
.
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PART I
ITEM 1. BUSINESS
GENERAL
Continucare, through its Managed Care and Home Health Divisions, is a
provider of outpatient healthcare and home healthcare services exclusively in
the Florida market. The Company's Managed Care Division, through various managed
care agreements and capitated arrangements, is responsible for providing primary
care medical services (the "Primary Care Services") to approximately 40,000
patients. The various managed care agreements and capitated arrangements under
which Continucare provides medical services to its patients require that in
exchange for a predetermined amount, per patient per month, the Company assumes
responsibility to provide and pay for all of its patients' medical needs. The
Company's Home Health Division provides home healthcare services to recovering,
disabled, chronically ill and terminally ill patients in their homes.
HISTORICAL DEVELOPMENT OF BUSINESS
On August 9, 1996, a subsidiary of Zanart merged into Continucare
Corporation (the "Merger"), which was incorporated on February 1, 1996 as a
Florida corporation ("Old Continucare"). As a result of the Merger, the
shareholders of Old Continucare became shareholders of Zanart, and Zanart
changed its name to Continucare Corporation. During fiscal 1997, the Company
derived substantially all of its revenues from contracts to manage and provide
services to behavioral health programs in hospitals and freestanding centers.
The Company assigned these contracts in fiscal 1998 and began to develop its
outpatient services strategy, which currently consists of Staff Model Clinics,
IPAs and Home Health.
BUSINESS RATIONALIZATION AND FINANCIAL RESTRUCTURING PROGRAMS
Throughout Fiscal 1999 the Company experienced adverse business
operations. To strengthen Continucare financially, since the end of calendar
1998, the Company has undertaken a business rationalization program (the
"Business Rationalization Program") to divest itself of certain unprofitable
operations, to close other underperforming subsidiary divisions and a financial
restructuring program (the "Financial Restructuring Program") and to strengthen
its financial performance and financial condition. The Company evaluated not
only the unprofitability of the entity when determining which entities were to
be divested, but also evaluated the following factors: (i) projected changes in
the cost structure; (ii) changes in reimbursement rates; (iii) changes in
regulatory environment; (iv) loss of management personnel; (v) loss of
contracts; and (vi) timely opportunity for disposal.
Prior to the Business Rationalization Program, the Company maintained
the following operating divisions: (i) Rehabilitation Division; (ii) Managed
Care Division; (iii) Home Health Division; (iv) Diagnostic Division; and (v)
Specialty Physician Practice Division. These divisions were established with the
intent of providing a continuum of outpatient healthcare services as an
integrated delivery system. The Company's Specialty Physician Practice Division
was a division comprised of rheumatologists and orthopedic surgeons employed by
the Company and was a part of Continucare Physician Practice Management, Inc.
As part of the Company's Business Rationalization Program, the Company
sold the assets of the following subsidiaries: Rehab Management Systems, Inc.,
Integracare, Inc., J.R. Rehab Associates, Inc., Continucare Occmed *Services,
Inc. and Continucare Physician Practice Management, Inc. Additionally, the
Company considered the goodwill and separately identifiable intangible assets of
the independent physician association ("IPA") and Maxicare as impaired assets.
The following circumstances led to the Company's impairment analysis and the
write-off of all intangible assets of the IPA during the fourth quarter of
fiscal 1999. While the IPA was initiated in January 1998, it was not until April
1998 that a significant physician base was established. In the second and third
quarters of fiscal 1999, the Company disputed the accuracy of the medical claims
data provided by Foundation as direct medical expenses exceeded revenue by
approximately $1,000,000 in each of these quarters. In the fourth quarter of
fiscal 1999, after verifying the accuracy of the claims, the Company performed
an analysis of projected cash flows, which demonstrated continuing negative cash
flows. Accordingly, the goodwill and separately identifiable intangible assets
of the IPA were considered impaired and written off during the fourth quarter of
fiscal 1999.
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The following circumstances lead to the Company's impairment analysis
and the write-off of all intangible assets of Maxicare during the fourth quarter
of fiscal 1999. The Company realized that Maxicare's costs in the first quarter
of fiscal 1999 were significantly higher than the reimbursement caps imposed by
the Budget Act and began evaluating its options for realigning its operations in
light of the changes enacted by the Budget Act. In the second quarter of fiscal
1999, the Company began taking cost containment measures. Also in the second
quarter, the Company determined it was in its best interest to terminate all of
its home health subcontracting relationships to improve control over the quality
of care provided which had a negative impact on revenues and cost recovery
ratios. In the third quarter of fiscal 1999, the Company attempted to increase
its unduplicated census to improve reimbursement levels. In the fourth quarter,
having determined that it had not been able to significantly increase its
reimbursement levels to cover its direct costs and projecting that it was
unlikely that positive cash flows would be obtainable in the foreseeable future,
the Company wrote off the goodwill and separately identifiable intangible assets
of Maxicare in the fourth quarter of fiscal 1999.
Set forth below is a summary of the material operations closed or sold
by the Company in connection with its Business Rationalization Program, and a
brief summary regarding the operations.
CLOSED OPERATIONS SOLD OPERATIONS
-------------------------------------------- ---------------------------------------
Partial - Continucare Physician Practice Outpatient Radiology Services, Inc.
Management, Inc. f/k/a Continucare Outpatient
Services, Inc.
-------------------------------------------- ---------------------------------------
Rehab Management Systems, Inc.
-------------------------------------------- ---------------------------------------
Partial - Continucare Physician
Practice Management, Inc.
-------------------------------------------- ---------------------------------------
OUTPATIENT RADIOLOGY SERVICES, INC. F/K/A CONTINUCARE OUTPATIENT
SERVICES, INC. (THE "DIAGNOSTIC DIVISION"). On December 27, 1998, the Company
sold the stock of its Diagnostic Division for a cash purchase price of $120,000.
Prior to the sale, the Diagnostic Division conveyed through dividends all of its
accounts receivable to the Company. All obligations existing on the date of sale
remained the obligations of the Company. As a result of this transaction, the
Company recorded a loss on disposal of approximately $4,152,000, including a
write off of approximately $1,800,000 of unamortized costs in excess of the net
assets acquired. Property, plant and equipment totaling approximately $1,512,000
which were transferred to the purchaser were also written off, and an accrual of
approximately $1,000,000 was recorded for operating leases not assumed by the
purchaser. Revenue and net operating loss for the Diagnostic Division were
$1,900,000 and $2,000,000, respectively, for the year ended June 30, 1999.
Approximately, 60 employees were terminated as a result of the sale. Neither
severance nor any other significant exit costs were incurred as a result of the
sale.
REHAB MANAGEMENT SYSTEMS, INC. ("REHABILITATION DIVISION"). On April 8,
1999, the Company sold substantially all the assets of its Rehabilitation
Division to Kessler Rehabilitation of Florida, Inc. ("Kessler") for $5,500,000
in cash and the assumption of certain liabilities. The Company recorded a loss
on sale of approximately $6,800,000, including the write off of property, plant
and equipment of approximately $1,700,000 and the write off of the unamortized
costs in excess of net assets acquired of approximately $5,700,000. The net
patient revenue and net operating loss for the rehabilitation management
division were approximately $13,272,000 and $2,056,000, respectively, for the
year ended June 30, 1999. Approximately 600 employees were terminated as a
result of the sale and severance costs of approximately $50,000 was accrued and
paid prior to June 30, 1999. No other significant exit costs were incurred as a
result of the sale.
CONTINUCARE PHYSICIAN PRACTICE MANAGEMENT, INC. On March 12, 1999, the
Company closed Continucare Physician Practice Management, Inc. ("CPPM") by
selling assets totaling approximately $3,675,000 and closing offices that
represented assets totaling approximately $1,069,000. As a result of closing
this division, the Company recorded a loss of $4,200,000, including the write
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off of property, plant and equipment of approximately $405,000 and the write off
of the unamortized costs in excess of net assets acquired of approximately
$3,801,000. The net patient revenue and net operating loss for CPPM was
approximately $6,096,000 and $2,133,000, respectively. Approximately 60
employees were terminated as a result of the closure of this division. Neither
severance nor any other significant exit costs were incurred as a result of the
closure.
Although these divisions were sold at a loss, the divestitures
generated net cash proceeds of approximately $5,642,000 (after the payment of
transaction costs and other costs such as employee-related costs). The Company
continues to assess the profitability of all of its business units. As of the
date of filing this amendment to Form 10-K, the Company does not have any plans
to close or otherwise divest any of its existing business units. The Business
Rationalization Program has assisted management with the commencement and
implementation of its Financial Restructuring Program and has allowed the
Company to focus its resources on a core business model. See "--Business Model."
The Company's Financial Restructuring Program was implemented in an
attempt to eliminate negative cash flow, which the Company has been experiencing
through out fiscal 1999. The elements of the program include restructuring the
Notes, decreasing its employee base, reducing administrative expenses,
negotiating settlements and entering into repayment plans. The goals and
objectives of the program are to achieve a healthy fiscal policy of positive
cash flow, and we discussed in more detail below. The Company believes that most
of the elements of the program have been implemented, however, the Company will
not significantly benefit from this program until the restructuring of the Notes
has been completed. Currently, none of the Company's operations or assets are
being held for sale.
OVERHEAD. Since the inception of the Financial Restructuring program,
the Company has significantly reduced its overhead through the replacement and
elimination of costly real property leases, disposal of several equipment leases
and the reduction of employee related expenses.
ORGANIZING OUTSTANDING LIABILITIES AND NEGOTIATION OF REPAYMENT
SCHEDULES. Faced with numerous creditor claims and onerous repayment obligations
that resulted from the change in reimbursement regulations, the Company
undertook an aggressive campaign to identify valid claims and negotiate
favorable payment terms. This has enabled the Company to satisfy certain
creditor claims and maintain sufficient cash reserves to discharge all its day
to day obligations in a timely manner.
RATIONALIZATION OF EMPLOYEES. By decreasing its personnel base, the
Company has greatly reduced payroll and associated employee expenses.
RESTRUCTURING OF NOTES. The most critical component of the Company's
Financial Restructuring program is the successful restructuring of the Notes.
The Notes represent the single largest obligation of the Company both from a
cash flow, interest payment, and a balance sheet perspective. Absent a
successful restructuring of the Notes the Company will not be able to survive.
The Company has been in default of its interest payments on the Notes since
April 30, 1999. At the current $41,000,000 debt level, the Company is unable to
generate sufficient cash flow to meet its debt service obligations of
approximately $3,300,000 annually. The proposed Note restructuring plan will
eliminate in excess of $34,000,000 in liabilities from the Company's books,
determined as of November 1, 1999, and reduce its debt service obligations to
approximately $700,000. The failure to complete the proposed debt restructuring
by the February 15, 2000 deadline would render the Supplemental Indenture and
Waiver void.
Since December 31, 1998 the Company has not been in compliance with
certain covenants under the terms of its $5,000,000 Credit Facility (the "Credit
Facility") with First Union. During April 1999, the Company used approximately
$4,000,000 of the net proceeds of the sale of its Outpatient Rehabilitation
subsidiary (see "Liquidity and Capital Resources" and Note 1 of the accompanying
Financial Statements) to reduce the outstanding balance of the Credit Facility
to $1,000,000. In connection with the payment, the Company entered into an
amendment to the Credit Facility, which provided, among other things, for the
repayment of the remaining outstanding principal balance of approximately
$1,000,000 to First Union by December 31, 1999. See "Recent Developments Debt
Restructuring" and Item 7 - "Management's Discussion and Analysis of Financial
Condition and Results of Operations".
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On April 30, 1999 the Company defaulted on its semi-annual payment of
interest on its 8% Convertible Subordinated Notes Payable due 2002 (the
"Subordinated Notes Payable"). The Company, in an effort to effect a successful
completion of its Business Rationalization Program and Financial Restructuring,
negotiated a settlement in principle (the "Debenture Settlement") with the
holders of its Subordinated Notes Payable (the "Subordinated Notes Payable
Holders"). See "Recent Developments - Debt Restructuring" and Item 7 -
"Management's Discussion and Analysis of Financial Condition and Results of
Operations".
INDUSTRY OVERVIEW
There are three principal industry elements which management believes
have created a substantial opportunity for the Company including: (i) the
continued penetration of the managed care market; (ii) the highly fragmented
nature of the delivery of outpatient services; and (iii) the shift in the
provision of healthcare services from the hospital to lower cost outpatient
locations and the home.
CONTINUED PENETRATION OF MANAGED CARE. In response to escalating
expenditures in healthcare costs, payors, such as Medicare and managed care
organizations, have increasingly pressured physicians, hospitals and other
providers to contain costs. This pressure has led to the growth of lower cost
outpatient care, and to reduce hospital admissions and lengths of stay. To
further increase efficiency and reduce the incentive to provide unnecessary
healthcare services to patients, payors have developed a reimbursement structure
called capitation. Capitation contracts require the payment to healthcare
providers of a fixed amount per patient for a given patient population, and the
providers assume full responsibility for servicing all of the healthcare
services needs of those patients, regardless of their condition. The Company
believes that low cost providers will succeed in the capitation environment
because such companies have the ability to manage the cost of patient care.
HIGHLY FRAGMENTED MARKET. The highly fragmented nature of the delivery
of outpatient services has created an inefficient healthcare services
environment for patients, payors and providers. Managed care companies and other
payors must negotiate with multiple healthcare services providers, including
physicians, hospitals and ancillary services providers, to provide geographic
coverage to their patients. Physicians who practice alone or in small groups
have experienced difficulty negotiating favorable contracts with managed care
companies and have trouble providing the burdensome documentation required by
such entities. In addition, healthcare service providers may lose control of
patients when they refer them out of their network for additional services that
such providers do not offer. The Company intends to continue affiliating with
physicians who are sole practitioners or who operate in small groups to staff
and expand its network, which should make the Company a provider of choice to
managed care organizations.
SHIFT TOWARD LOW-COST OUTPATIENT TREATMENT. Outpatient treatment has
grown rapidly as a result of: (i) advances in medical technology, which have
facilitated the delivery of healthcare in alternate sites; (ii) demographic
trends, such as an aging population; and (iii) preferences among patients to
receive care in their homes. The Company expects this trend to continue as
managed care companies and healthcare providers continue shifting towards the
lower cost providers.
BUSINESS STRATEGY
The Company intends to leverage the current industry dynamics by: (i)
increasing its managed care revenue; (ii) maintaining its physician network;
(iii) implementing its Staff Model in additional selected strategic markets; and
(iv) maintaining its home care division.
INCREASING MANAGED CARE REVENUE. The Company's core business is
comprised of its established network of Staff Model clinics from which it
provides Primary Care Services to its patients and to the public at large. By
securing additional managed care contracts with the leading managed care
companies in Florida, the Company believes that it will be able to increase its
managed care enrollments. The Company believes that it has been successful in
developing managed care relationships due to its network of quality physicians,
the provision of a range of healthcare services, and its many locations.
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MAINTAINING PHYSICIAN NETWORK. The physician network is the platform of
the Company's Independent Practice Association ("IPA"). The Company through its
Business Rationalization Program has greatly reduced the size of its IPA. In an
attempt to better manage the division and the medical cost associated therewith
the Company has reevaluated its IPA business model. The Company, however, may
expand its physician network by: (i) adding physicians to its IPA; and/or (ii)
hiring physicians to work in Company-owned physician practices and clinics.
IMPLEMENTING STAFF MODEL IN SELECTED MARKETS. The Company has
successfully implemented its Staff Model in South and Central Florida, and
intends to selectively expand the model in other appropriate markets, primarily
within Florida, by tailoring its services and facilities to the needs of
individual markets. Currently the Company operated 18 Staff Model clinics in
South and Central Florida.
MAINTAINING HOME CARE DIVISION. During Fiscal 1999 the home health care
industry underwent a major restructuring in response to the federal legislative
enactments of 1997 and 1998 that significantly reduced reimbursement for home
health services. See "Cautionary Note Regarding Forward-Looking Statements";
Reimbursement Considerations"; "The Balance Budget Act of 1997"; "Proposed
Legislation"; "Additional Payor Considerations"; "Increased Scrutiny of
Healthcare Industry"; and "Government Legislation". As a result, many Medicare
certified home health agencies have ceased operations because they are no longer
able to generate revenue sufficient to cover costs. The Company, as a result of
the current market conditions, has rationalized its Home Care Division to a core
level that it believes is manageable in the current regulatory environment.
BUSINESS MODEL
The Company's core business model consists of three areas: Staff Model
Clinics, IPAs and Home Health. The Company provides these medical services to
patients through its employee physicians, affiliated IPA physicians, nurses,
physical therapists and nurse aides. Additionally, the Company provides
management and administrative services to both its employee physicians and to
the physicians that are affiliated with the Company.
STAFF MODEL CLINICS. The Company's Staff Model Clinics are medical
centers where physicians, who are employed by the Company, act as primary care
physicians practicing in the area of general, family and internal medicine. The
Company's revenue is generated through either a percentage of premium monthly
capitated fee arrangement with an HMO or a fee for service arrangement. The
monthly fee arrangement is based upon a negotiated percentage of premium which
is related to either Medicare, Medicaid or a commercial medical insurance
program.
IPAS. The Company has entered into a contractual relationship with
Foundation that allows it to assume the financial risk associated with providing
medical services to Foundation members. Additionally, the Company has contracted
with various physicians and physician practices, on an independent contractor
basis, who currently provide or are qualified to provide medical services to
Foundation members as well as members of other HMO's. The Company pays the
physicians a capitated fee for providing the services and assumes the financial
risk for the physician's performance. In addition to providing certain
administrative services to the physicians, the Company also provides utilization
assistance. Like the staff model clinics, the monthly fee arrangement is based
upon a negotiated percentage of premium, which is related to either Medicare,
Medicaid or a commercial medical insurance program.
HOME HEALTH. The Company's home health services include two home health
agencies, one located in Miami-Dade county and one located in Broward county.
These agencies provide comprehensive nursing, physical therapy, and nurse's
aides to individuals in their home who are disabled, elderly or recovering from
a debilitating illness, accident or surgery. The agencies are compensated by
Medicare and Medicaid in accordance with a pre determined rate schedule.
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RECENT DEVELOPMENTS - DEBT RESTRUCTURING
As described above, throughout Fiscal 1999 the Company experienced
adverse business operations. In order to avoid having to seek bankruptcy
protection, and to strengthen itself financially, the Company during the past
Fiscal year undertook a Business Rationalization Program to divest itself of
certain unprofitable operations and close other underperforming subsidiaries and
divisions. In addition the Company undertook a Financial Restructuring Program
designed to strengthen its financial condition.
On April 30, 1999 (the "Default Date") the Company defaulted on its
semi-annual payment of interest on its Subordinated Notes Payable. Within thirty
(30) days of the Default Date, the Company commenced negotiations with an
informal committee of the Subordinated Notes Payable Holders. $45,000,000.00 in
principal balance and $1,800,000 in accrued interest were outstanding as of the
Default Date. On or about July 2, 1999 the Company purchased $4,000,000 face
value of its Subordinated Notes Payable for approximately $200,000, recognizing
a gain on extinguishment of debt of approximately $3,800,000.
On September 29, 1999 the Company announced an agreement in principle
with the Subordinated Notes Payable Holders with respect to the restructuring of
the remaining $41,000,000 principal balance on the Subordinated Notes Payable
and approximately $3,300,000 of interest thereon accrued through October 31,
1999. On December 9, 1999 the Company and the Subordinated Notes Payable Holders
executed a Consent to Supplemental Indenture and Waiver (the "Waiver") setting
forth the terms of the Debenture Settlement. The terms of the proposed Debenture
Settlement are as follows: (a) $31,000,000 of the outstanding principal of the
Subordinated Notes Payable will be converted, on a pro rata basis, into the
Company's common stock at a conversion of $2.00 per share (approximately
15,500,000 shares of capital stock); (b) all interest accrued on the
Subordinated Notes Payable through October 31, 1999 will be forgiven
(approximately $3,300,000); (c) the interest payment default on the remaining
$10,000,000 principal balance of Subordinated Notes Payable will be waived and
the debentures will be reinstated on the Company's books and records as a
performing non-defaulted loan (the "Reinstated Subordinated Notes Payable"); (d)
the Reinstated Subordinated Notes Payable will bear interest at the rate of 7%
per annum commencing November 1, 1999; and (e) the conversion rate for the
Reinstated Subordinated Notes Payable will be modified as follows:
TERM CONVERSION RATE
------ ------------------
Through October 31, 2000.................... $7.25
November 1, 2000 to Maturity................ $2.00
and (f) the Company will obtain a financially responsible person or persons (the
"Guarantor") to personally guarantee a $3,000,000 bank credit facility (the "New
Credit Facility") for the Company. In consideration for providing the guaranty
the Company will issue to the Guarantor 3,000,000 shares of the Company's
capital stock. The New Credit Facility will replace the Company's existing First
Union Credit Facility and it will additionally be used to finance the Company's
working capital and capital expenditure requirements. The Debenture Settlement
will not be fully effective unless, and until it is ratified by Continucare's
shareholders at a meeting, although not required by law. In the September 29,
1999 agreement in principle, the meeting of the shareholders was to be held by
December 31, 1999, however, the Waiver extended the date by which shareholder
ratification must be received to February 15, 2000.
The successful completion of the proposed Debenture Settlement is
subject to a number of significant risks and uncertainties including, but not
limited to, the need to consummate the New Credit Facility, and the need to
obtain shareholder ratification of the Debenture Settlement on or before to
February 15, 2000. The historical information contained herein should be
considered in the light of the proposed Debenture Settlement, however, the risks
and uncertainties attendant to finally consummating the settlement should not be
ignored.
CONTINUUM OF CARE
Continucare is a provider of integrated outpatient healthcare. The
Company has established a network of physician practices as the primary
caregiver to its patients and to the public at large and also provides home
health services.
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OFFICE AND PHYSICIAN/HEALTH CENTER PRACTICES. Since commencing its
operations in 1996, the Company has expanded its physician network through
acquisitions of physician practices, employment of new physicians and
affiliations with physicians through the Company's IPA. This physician network
provides a broad platform for the delivery of the Company's continuum of
healthcare services to patients. As of June 30, 1999, the Company operated
eighteen staff model health center clinics, employed or contracted with
approximately 172 physicians all of whom are located in Florida and provided
services to approximately 39,600 patients under capitated managed care
contracts.
The physicians within the Company's network treat patients in
office-based settings as well as health centers. A typical office-based practice
is located in a major metropolitan area, in office space that ranges from 5,000
to 8,000 square feet. The office typically employs or contracts with
approximately two to three physicians. The physicians provide primary care and
specialty care to their patients. A typical health center is located in or near
major metropolitan areas, in space that ranges from 2,500 to 5,000 square feet.
A health center is typically staffed with approximately two physicians, and is
open five days a week.
HOME HEALTHCARE. Continucare provides home healthcare services to
recovering, disabled, chronically ill and terminally ill patients in their
homes. Typically, a service care provider (such as a registered nurse, home
health aide, therapist or technician) will visit the patient one or two times a
day or the patient may require around-the-clock care. Treatment may last for
several weeks, several months or the remainder of the patient's life. The
services provided by the Company include skilled nursing, physical therapy,
speech therapy, occupational therapy, medical social services and home health
aide services. Reimbursement for the home health services provided by the
Company include Medicare, Medicaid and managed care.
ADMINISTRATIVE SUPPORT OPERATIONS
ADMINISTRATIVE FUNCTIONS. The Company enhances administrative
operations of its physician practices by providing management functions such as
payor contract negotiations, credentialing assistance, financial reporting, risk
management services, access to lower cost professional liability insurance and
the operation of integrated billing and collection systems. The Company believes
it offers physicians increased negotiating power associated with managing their
practice and fewer administrative burdens, which allows the physician to focus
on providing care to patients.
As part of the Company's year 2000 compliance program, the Company
identified thirteen of its eighteen Staff Model Clinics that required upgrades
of their information systems to avoid complications resulting from year 2000
issues, all of which have been upgraded with year 2000 compliant software and
equipment as of December 31, 1999. The upgrades have been financed through
either the Company's cash reserves or through leasing arrangements. The cost
associated with these upgrades are included within the total costs of the year
2000 project, as discussed under "Technology; Year 2000 Compliance."
EMPLOYMENT AND RECRUITING OF PHYSICIANS. The Company generally enters
into multiple-year employment agreements with the physicians in the practices
purchased by the Company. These agreements usually provide for base compensation
and benefits and may contain incentive compensation provisions based on quality
indicators. The recruitment process includes interviews and reference checks
incorporating a number of credentialing and competency assurance protocols. The
Company's physicians are generally either board certified or board eligible.
CONTRACT NEGOTIATIONS. The Company assists its physicians in obtaining
managed care contracts. The Company believes that its experience in negotiating
and managing risk contracts enhance its ability to market the services of its
affiliated physicians to managed care payors and to negotiate favorable terms
from such payors. The managed care contracts are held, managed and administered
by a wholly-owned subsidiary of the Company. The Company also performs quality
assurance and utilization management under each contract on behalf of its
affiliated physicians.
INFORMATION SYSTEMS. The Company supports freestanding systems for its
physician practices to facilitate patient scheduling, patient management,
billing, collection and provider productivity analysis. Some of the staff model
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health center clinics require upgrades of their information systems in order to
remain technologically competitive. The Company is upgrading information systems
as it becomes necessary. See "Risk Factors -- Upgrade of Management Information
Systems; Technological Obsolescence."
MANAGED CARE
The Company's strategy is to increase enrollment by adding new payor
relationships and new providers to the existing network and by expanding the
network into new geographic areas where the penetration of managed healthcare is
growing. The Company believes new payor and provider relationships are possible
because of its ability to manage the cost of health care without sacrificing
quality. The Company seeks to control one of the "gatekeeping" points of entry
into the managed health care delivery system - the primary care physician's
office - thereby giving the Company a platform for coordinating all aspects of
patient care under global capitation payor contracts. During fiscal 1999,
substantially all of the revenues from the Managed Care Division were generated
under a percentage of premium monthly capitated fee arrangement with the
Company's HMOs.
CONTRACTS WITH PAYORS. Contracts with payors generally provide for
terms of one to ten years, may be terminated earlier upon notice for cause or
upon renewal and in some cases without cause. Additionally the contracts are
subject to renegotiation of capitation rates, covered benefits and other terms
and conditions. Pursuant to payor contracts, the physicians provide covered
medical services and receive capitation payments from payors for each enrollee
who selects a Company network physician as his or her primary care physician. To
the extent that patients require more care than is anticipated or require
supplemental medical care that is not otherwise reimbursed by payors, aggregate
capitation payments may be insufficient to cover the costs associated with the
treatment of patients. The Company maintains stop-loss insurance coverage, which
mitigates the effect of occasional high utilization of health care services. If
revenues are insufficient to cover costs or the Company is unable to maintain
stop-loss coverage at favorable rates, the Company's business results of
operations and financial condition could be materially adversely affected. The
loss of significant payor contracts and/or the failure to regain or retain such
payor's patients or the related revenues without entering into new payor
relationships could have a material adverse effect on the Company's business
results of operations and financial condition.
The Company's capitated managed care agreement with Foundation is a
ten-year agreement with the initial term expiring on June 30, 2008, unless
terminated earlier by Foundation for cause. In the event of termination of the
Foundation agreement, the Company must continue to provide services to a patient
with a life-threatening or disabling and degenerative condition for sixty days
as medically necessary. This agreement is automatically renewed for another five
year period unless notice by either party is provided 120 days in advance of the
expiration date. Any negotiation must be completed 90 days prior to the
expiration of the term. Foundation can terminate the agreement with respect to
one or more benefit programs; however, the Company may only terminate the
agreement in its entirety. Foundation may also terminate its agreement with the
Company for cause upon thirty (30) days written notice of a material breach;
provided however, that the Company is afforded an opportunity to cure such
breach. However, if the breach is one that cannot reasonably be corrected within
thirty (30) days, the agreement will not be terminated if Foundation determines
that the Company is making substantial and diligent progress toward correcting
the breach. Foundation may also, in a limited number of circumstances,
immediately terminate its agreement with the Company. Immediate termination is
allowable upon: (1) the Company's documented violation of any applicable law,
rule or regulation; (2) the Company's documented failure to assist Foundation in
upholding the terms, conditions or determinations of any Utilization Management
Program or Quality Management Program or other Benefit Program Requirements; or
(3) Foundation's determination that the health, safety or welfare of any member
may be in jeopardy if the Agreement is not terminated. Foundation may also
terminate the agreement, effective the first day of the following month, upon at
least three (3) business days written notice prior to the termination of the
month, notifying the Company of its failure to pay any capitation payment which
it has received from Foundation, either to the applicable provider or back to
Foundation, during the period between the Company's receipt of the compensation
from Foundation and the last business day of the same month. Under the
Foundation agreement, Foundation may, subject to the Company's mutual agreement,
amend the Medicare compensation rates under the contract with the Company upon
thirty (30) days written notice. For all other purposes, Foundation may upon
twenty (20) days written notice amend the contract, provided that the Company
does not object to the amendment within that time frame.
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The Company's capitated managed care agreement with Humana Medical
Plans, Inc. ("Humana") is a ten-year agreement expiring July 31, 2008, unless
terminated earlier for cause. The agreement shall automatically renew for
subsequent one-year terms unless either party provides 180-days written notice
of its intent not to renew. In addition, the Humana agreement may be terminated
by the mutual consent of both parties at any time. Under certain limited
circumstances, Humana may immediately terminate the agreement for cause,
otherwise termination for cause shall require ninety (90) days prior written
notice with an opportunity to cure, if possible. Immediate termination is
allowable if Humana reasonably determines that: (1) the Company and/or any of
its physician's continued participation in the agreement may affect adversely
the health, safety or welfare of any Humana member; (2) the Company and/or any
of its physician's continued participation in the agreement may bring Humana or
its health care networks into disrepute; (3) in the event of one of the
Company's doctors death or incompetence; (4) if any of the Company's physician's
fail to meet Humana's credentialing criteria; (5) if the Company engages in or
acquiesces to any act of bankruptcy, receivership or reorganization; or (6) if
Humana loses its authority to do business in total or as to any limited segment
or business (but only to that segment). In the event of termination of the
Humana agreement, the Company must continue to provide or arrange for services
to any member hospitalized on the date of termination until the date of
discharge or until it has made arrangements for substitute care. In some cases,
Humana may provide 30 days' notice as to an amendment or modification of the
agreements, including but not limited to, renegotiation of rates, covered
benefits and other terms and conditions. In the event that Humana exercises its
right to amend the agreement upon thirty (30) days written notice, the Company
may object to such amendment within the thirty (30)-day notice period. Such
amendments may include changes to the compensation rates. If the Company objects
to such amendment within the requisite time frame, Humana may terminate the
agreement upon ninety (90) days written notice.
Effective August 1, 1998, the Company entered into two amendments to
its professional provider agreements with Humana. The amendments, among other
things, extended the term of the original agreement from six to ten years and
increased the percentage of Medicare premiums received by the Company, effective
January 1, 1999.
Neither the Foundation nor the Humana agreement imposes a limit on the
number of adjustments that may be made to their provider agreement.
The Company continually reviews and attempts to renegotiate the terms
of its managed care agreements in an effort to obtain more favorable terms. The
Company is currently negotiating with Foundation regarding provisions of the
Managed Care Agreement. The parties, however, have not reached an agreement on
any new terms.
As of June 30, 1999, the Company maintained four additional managed
care relationships, none of which individually or in the aggregate are material.
There can be no assurance that the Company will be able to renew any of its
managed care agreements or, if renewed, that they will contain terms favorable
to the Company and affiliated physicians. Although the Company did not lose, on
an aggregate basis, any significant payor contracts in fiscal 1999, the loss of
any of its current managed care contracts or significant reductions in capitated
reimbursement rates under these contracts could have a material adverse effect
on the Company's business, financial condition and results of operations. See
"Risk Factors--Risks Associated with Capitated Arrangements Including Risk of
Over-Utilization by Managed Care Patients, Risk of Reduction of Capitated Rates
and Regulatory Risks," "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and "Business--Managed Care."
FEE-FOR-SERVICE ARRANGEMENTS. Certain of the Company's physicians who
render services on a fee-for-service basis (as opposed to capitation) typically
bill various payors, such as governmental programs (e.g., Medicare and
Medicaid), private insurance plans and managed care plans, for the health care
services provided to their patients. There can be no assurance that payments
under governmental programs or from other payors will remain at present levels.
In addition, payors can deny reimbursement if they determine that treatment was
not performed in accordance with the cost-effective treatment methods
established by such payors or was experimental or for other reasons.
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COMPLIANCE PROGRAM
The Company has implemented a compliance program to provide ongoing
monitoring and reporting to detect and correct potential regulatory compliance
problems. The program establishes compliance standards and procedures for
employees and agents. The program includes, among other things: (i) written
policies; (ii) in service training for each employee on topics such as insider
trading, anti-kickback laws, Federal False Claims Act and Anti-Self Referral
Act; and (iii) a "hot line" for employees to anonymously report violations.
COMPETITION
The healthcare industry is highly competitive. Continucare competes
with several national competitors and many regional and national healthcare
companies, some of which have greater resources than Continucare. In addition,
healthcare providers may elect to manage their own outpatient health programs.
Competition is generally based upon reputation, price, the ability to offer
financial and other benefits for the particular provider, and the management
expertise necessary to enable the provider to offer outpatient programs that
provide the full continuum of outpatient services in a quality and
cost-effective manner. The pressure to reduce healthcare expenditures has
emphasized the need to manage the appropriateness of health services provided to
patients. As a result, competitors without management experience covering the
various levels of the continuum of outpatient services may not be able to
compete successfully.
GOVERNMENT REGULATION
GENERAL. Continucare's business is affected by federal, state and local
laws and regulations concerning healthcare. These laws and regulations impact
the development and operation of outpatient programs and the provision of
healthcare to patients in physicians' offices and in patients' homes. Licensing,
certification, reimbursement and other applicable government regulations vary by
jurisdiction and are subject to periodic revision. Continucare is not able to
predict the content or impact of future changes in laws or regulations affecting
the healthcare industry. See "Risk Factors."
PRESENT AND PROSPECTIVE FEDERAL AND STATE REIMBURSEMENT REGULATION. The
Company's operations are affected on a day-to-day basis by numerous legislative,
regulatory and industry-imposed operational and financial requirements which are
administered by a variety of federal and state governmental agencies as well as
by self-regulatory associations and commercial medical insurance reimbursement
programs.
HHAs, CORFs and ORFs, including those now or previously managed and/or
owned by Continucare, are subject to numerous licensing, certification and
accreditation requirements. These include, but are not limited to, requirements
relating to Medicare participation and payment, requirements relating to state
licensing agencies, private payors and accreditation organizations. Renewal and
continuance of certain of these licenses, certifications and accreditation are
based upon inspections, surveys, audits, investigations or other review, some of
which may require or include affirmative action or response by Continucare. An
adverse determination could result in a loss, fine or reduction in the scope of
licensure, certification or accreditation or could reduce the payment received
or require the repayment of amounts previously remitted.
Significant changes have been and may be made in the Medicare and
Medicaid programs, which changes could have a material adverse impact on
Continucare's financial condition. In addition, legislation has been or may be
introduced in the Congress of the United States which, if enacted, could
adversely affect the operations of Continucare by, for example, decreasing
reimbursement by third-party payors such as Medicare or limiting the ability of
Continucare to maintain or increase the level of services provided to the
patients.
Title XVIII of the Social Security Act authorizes Medicare Part A, the
health insurance program that pays for inpatient care for covered persons
(generally, those age 65 and older and the long-term disabled) and Medicare Part
B, a voluntary supplemental medical assistance insurance program. Healthcare
providers may participate in the Medicare program subject to certain conditions
of participation and acceptance of a provider agreement by the federal Secretary
of HHS. Only enumerated services, upon satisfaction of certain criteria, are
eligible for Medicare reimbursement. Relative to the services of Continucare's
now or previously owned, Medicare certified, HHAs, CORFs and ORFs, Medicare
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reimburses the "reasonable costs" for services up to program limits. Medicare
reimbursed costs are subject to audit, which may result in either decreases or
increases in payments the Company has previously received.
The Budget Act contains a number of provisions that affect
Continucare's operations. The Budget Act expands the current requirements that
hospitals have a discharge planning process, including information on the
availability of home health services and providers in the area. Each plan must
also identify the entities to whom a patient is referred in which the hospital
has a "disclosable financial interest" or which has such an interest in the
provider. The Budget Act also requires the Secretary of HHS to implement a PPS
for both CORF and outpatient rehabilitation services, and reduces the amount of
Medicare reimbursement for HHA services. Under such a system, providers will be
reimbursed a fixed fee per treatment unit, and a provider having costs greater
than the prospective amount will incur losses. It can not be predicted what
effect, if any, such new PPS will have on the operations of Continucare. The
Budget Act also established per beneficiary caps on certain outpatient
rehabilitation services.
FEDERAL "FRAUD AND ABUSE" LAWS AND REGULATIONS. The Anti-Kickback Law
makes it a criminal felony offense to knowingly and willfully offer, pay,
solicit or receive remuneration in order to induce business for which
reimbursement is provided under the Medicare or Medicaid programs. In addition
to criminal penalties, including fines of up to $25,000 and five (5) years
imprisonment, violations of the Anti-Kickback Law can lead to civil monetary
penalties (which, pursuant to the Budget Act, can amount to as much as $50,000
for each violation, plus up to treble damages, based on the remuneration
illegally offered, paid, received or solicited) and exclusion from Medicare,
Medicaid and certain other state and federal health care programs. The scope of
prohibited payments in the Anti-Kickback Law is broad and includes economic
arrangements involving hospitals, physicians and other health care providers,
including joint ventures, space and equipment rentals, purchases of physician
practices and management and personal services contracts. HHS has published
regulations which describe certain "safe harbor" arrangements that will not be
deemed to constitute violations of the Anti-Kickback Law. The safe harbors
described in the regulations are narrow and do not cover a wide range of
economic relationships which many hospitals, physicians and other health care
providers consider to be legitimate business arrangements not prohibited by the
statute. Because the regulations describe safe harbors and do not purport to
describe comprehensively all lawful or unlawful economic arrangements or other
relationships between health care providers and referral sources, health care
providers having these arrangements or relationships may be required to alter
them in order to ensure compliance with the Anti-Kickback Law.
Management of the Company believes that its contracts with providers,
physicians and other referral sources are in material compliance with the
Anti-Kickback Law and will make every effort to comply with the Anti-Kickback
Law. However, in light of the narrowness of the safe harbor regulations and the
scarcity of case law interpreting the Anti-Kickback Law, there can be no
assurances that the Company will not be alleged to have violated the
Anti-Kickback Law, and if an adverse determination is reached, whether any
sanction imposed would have a material adverse effect on the Company's financial
condition, results of operations or cash flows.
The Office of the Inspector General of the Department of HHS, the
Department of Justice and other federal agencies interpret these fraud and abuse
provisions liberally and enforce them aggressively. Members of Congress have
proposed legislation that would significantly expand the federal government's
involvement in curtailing fraud and abuse and increase the monetary penalties
for violation of these provisions. In addition, some states restrict certain
business relationships between physicians and other providers of health care
services.
The federal government, private insurers and various state enforcement
agencies have increased their scrutiny of provider business practices and
claims, particularly in the areas of home health care and durable medical
equipment in an effort to identify and prosecute parties engaged in fraudulent
and abusive practices. In May 1995, the Clinton Administration instituted
Operation Restore Trust ("ORT"), a health care fraud and abuse initiative
focusing on nursing homes, home health care agencies and durable medical
equipment companies. ORT, which initially focused on companies located in
California, Florida, Illinois, New York and Texas, the states with the largest
Medicare populations, has been expanded to all 50 states. While the Company
believes that it is in material compliance with such laws, there can be no
assurance that the practices of the Company, if reviewed, would be found to be
in full compliance with such laws, as such laws ultimately may be interpreted.
It is the Company's policy to monitor its compliance with such laws and to take
appropriate actions to ensure such compliance.
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STATE FRAUD AND ABUSE REGULATIONS. Various States also have
anti-kickback laws applicable to licensed healthcare professionals and other
providers and, in some instances, applicable to any person engaged in the
proscribed conduct. For example, Florida enacted "The Patient Brokering Act"
which imposes criminal penalties, including jail terms and fines, for receiving
or paying any commission, bonus, rebate, kickback, or bribe, directly or
indirectly in cash or in kind, or engage in any split-fee arrangement, in any
form whatsoever, to induce the referral of patients or patronage from a
healthcare provider or healthcare facility.
Management of the Company believes that its contracts with providers,
physicians and other referral sources are in material compliance with the State
laws and will make every effort to comply with the State laws. However, there
can be no assurances that the Company will not be alleged to have violated the
State laws, and if an adverse determination is reached, whether any sanction
imposed would have a material adverse effect on the Company's financial
condition, results of operations or cash flows.
RESTRICTIONS ON PHYSICIAN REFERRALS. The federal Anti-Self Referral Law
(the "Stark Law") prohibits certain patient referrals by interested physicians.
Specifically, the Stark Law prohibits a physician, or an immediate family
member, who has a financial relationship with an entity, from referring Medicare
or Medicaid patients with limited exceptions, to that entity for the following
"designated health services", clinical laboratory services, physical therapy
services, occupational therapy services, radiology or other diagnostic services,
durable medical equipment and supplies, radiation therapy services and supplies,
parenteral and enteral nutrients, equipment and supplies, prosthetics, orthotics
and prosthetic devices, home health services, outpatient prescription drugs, and
inpatient and outpatient hospital services. A financial relationship is defined
to include an ownership or investment in, or a compensation relationship with,
an entity. The Stark Law also prohibits an entity receiving a prohibited
referral from billing the Medicare or Medicaid programs for any services
rendered to a patient. The Stark Law contains certain exceptions that protect
parties from liability if the parties comply with all of the requirements of the
applicable exception. The sanctions under the Stark Law include denial and
refund of payments, civil monetary penalties and exclusions from the Medicare
and Medicaid programs.
HHS has proposed regulations further implementing and interpreting the
Stark Law. If adopted as final these regulations will impact the interpretation
and application of the Stark Law. The Company is unable to predict the manner in
which those regulations could impact the Company's current compliance with the
Stark Law.
Management of the Company believes that it is presently in material
compliance with the Stark Law and will make every effort to comply with the
Stark Law. However, in light of the lack of regulatory guidance and the scarcity
of case law interpreting the Stark Law, there can be no assurances that the
Company will not be alleged to have violated the Stark Law, and if an adverse
determination is reached, whether any sanction imposed would have a material
adverse effect on the Company's results of operations, financial condition or
cash flows.
CORPORATE PRACTICE OF MEDICINE DOCTRINE. Many states prohibit business
corporations from providing, or holding themselves out as a provider of medical
care. Possible sanctions for violation of any of these restrictions or
prohibitions include loss of licensure or eligibility to participate in
reimbursement programs (including Medicare and Medicaid), asset forfeitures and
civil and criminal penalties. These laws vary from state to state, are often
vague and loosely interpreted by the courts and regulatory agencies. The Company
currently operates only in Florida, which currently does not have a corporate
practice of medicine doctrine with respect to the types of physicians employed
with the Company. There, however, can be no assurance that such laws will not
change or ultimately be interpreted in a manner inconsistent with the practices
of the Company, and an adverse interpretation could have a material adverse
effect on the Company's results of operations, financial condition or cash
flows.
CERTIFICATES OF NEED AND CERTIFICATES OF EXEMPTION. Many states,
including the state in which the Company operates, have procedures for the
orderly and economical development of health care facilities, the avoidance of
unnecessary duplication of such facilities and the promotion of planning for
development of such facilities. Such states require health care facilities to
obtain Certificates of Need ("CONs") or Certificates of Exemption ("COEs")
before initiating projects in excess of a certain threshold for the acquisition
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27
of major medical equipment or other capital expenditures; changing the scope or
operation of a health care facility; establishing or discontinuing a health care
service or facility; increasing, decreasing or redistributing bed capacity;
and/or changing of ownership of a health care facility, among others. Possible
sanctions for violation of any of these statutes and regulations include loss of
licensure or eligibility to participate in reimbursement programs and other
penalties. These laws vary from state to state and are generally administered by
the respective state department of health. The Company seeks to structure its
business operations in compliance with these laws and has sought guidance as to
the interpretation of such laws and the procurement of required CONs and/or
COEs. There can be no assurance, however, that the Company or any of its client
hospitals, or HHAs will be able to obtain required CONs and/or COEs in the
future.
HEALTHCARE REFORM. Federal and state governments have recently focused
significant attention on healthcare reform intended to control healthcare costs
and to improve access to medical services for uninsured individuals. These
proposals include cutbacks to the Medicare and Medicaid programs and steps to
permit greater flexibility in the administration of Medicaid. It is uncertain at
this time what legislation on healthcare reform may ultimately be enacted or
whether other changes in the administration or interpretation of governmental
healthcare programs will occur. There can be no assurance that future healthcare
legislation or other changes in the administration or interpretation of
governmental healthcare programs will not have a material adverse effect on
Continucare's business, financial condition or results of operations.
EMPLOYEES
At June 30, 1999, Continucare employed or contracted with approximately
581 individuals of whom 172 are IPA and Staff Model physicians. Continucare has
no collective bargaining agreement with any unions and believes that its overall
relations with its employees are good.
During fiscal 1999, the Company's Chief Financial Officer, Senior Vice
President of Physical Rehabilitation and Ancillary Services, Senior Vice
President of Compliance and Security, Senior Vice President and Chief Operating
Officer of Physician Practice Division resigned from their positions with the
Company. At this time, the Company does not intend to replace these executive
positions.
Subsequent to the filing period covered by this Form 10-K, the
Company's President and Chief Executive Officer resigned in November 1999 and
was replaced by Spencer Angel. In September 1999, the Company's Executive Vice
President and General Counsel resigned. Although the Company has not appointed a
new Executive Vice President, a non-executive employee of the Company was
appointed as the general counsel.
INSURANCE
Continucare carries general liability, comprehensive property damage,
medical malpractice, workers' compensation, stop-loss and other insurance
coverages that management considers adequate for the protection of Continucare's
assets and operations. There can be no assurance, however, that the coverage
limits of such policies will be adequate. A successful claim against Continucare
in excess of its insurance coverage could have a material adverse effect on
Continucare.
SEASONALITY
Approximately 98% of the Company's net revenues in Fiscal 1999 were
derived from the Company's operations in Florida. Florida has historically been
a transient state with the transient factor being directly related to seasonal
climate changes. It is anticipated that in Fiscal 2000 substantially all of the
Company's net revenue will be derived from the Company's operations in Florida.
While there are some seasonal fluctuations to the Company's business, management
does not believe that seasonality will play an adverse role in the future
operations of the Company.
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ITEM 2. PROPERTIES
On or about June 28, 1999, the Company entered into a termination
agreement with the landlord of its former corporate space. Continucare currently
leases approximately 10,000 square feet of space for its corporate offices in
Miami, Florida under a lease expiring in September 2004 with average annual base
lease payments of approximately $200,000. Of the eighteen Staff Model Clinics
that the Company operated as of June 30, 1999, five are leased from independent
landlords and the other thirteen clinics are leased from Humana. Twelve of the
thirteen Humana wholly-owned centers are leased on a month to month basis and
one is leased through January 30, 2000. The lease arrangements are not tied to
the Company's managed care arrangement with Humana. As a month to month tenant,
the Company has limited tenancy rights. These month-to-month lease arrangements
can be cancelled at the option of Humana, without cause, on 30 days written
notice. A termination of one or all of the Humana leases could have a material
adverse effect on Continucare because the Company would, on 30 days written
notice, be forced to find replacement facilities at which to provide medical
services to its members. If the Company was unable to find adequate replacement
facilities, then the Company could experience a disenrollment of its members.
See "Risk Factors--Risk of termination of wholly-owned center leases."
ITEM 3. LEGAL PROCEEDINGS
The Company is subject to a variety of claims and suits that arise from
time to time out of the ordinary course of its business substantially all of
which involve claims related to the alleged malpractice of employed and
contracted medical professionals.
Two former subsidiaries of the Company are parties to the case of JAMES
N. HOUGH, PLAINTIFF, v. INTEGRATED HEALTH SERVICES, INC., A DELAWARE
CORPORATION, AND REHAB MANAGEMENT SYSTEMS, INC., A FLORIDA CORPORATION ("RMS"),
AND CONTINUCARE REHABILITATION SERVICES, INC., A FLORIDA CORPORATION. This case
was filed in the Circuit Court of the Tenth Judicial Circuit in and for Polk
County, Florida in June 1998. Mr. Hough was the founder and former Chief
Executive Officer and President of RMS. Mr. Hough sold RMS to Integrated Health
Services, Inc., ("IHS"), and entered into an Employment Agreement (the
"Employment Agreement") with IHS. The complaint alleges breach of contract for
the removal of Hough as President and also alleges actions by IHS that
interfered with Hough's ability to realize his income potential under the
provisions of the agreement. RMS was acquired by Continucare in February 1998.
Mr. Hough is seeking damages from the Employment Agreement and is alleging
breach of contract. His initial demand of $1.1 million was rejected by the
Company and the Company intends to vigorously defend the claim.
The Company is a party to the case of MANAGED HEALTHCARE SYSTEMS
("MHS") v. CONTINUCARE CORPORATION & CONTINUCARE HOME HEALTH SERVICES, INC
("CHHS"). This case was filed in the Commonwealth of Massachusetts in August
1998. The complaint alleges breach of contract for alleged verbal
representations by CHHS in negotiations to acquire MHS and seeks damages in
excess of $2,750,000 and treble damages. The Company believes the action has
little merit and intends to vigorously defend the claim.
The Company is a party to the case of KAMINE CREDIT CORPORATION
("KAMINE") AS ASSIGNEE OF TRI COUNTY HOME HEALTH v. CONTINUCARE CORPORATION. The
case was filed in the United States District Court, Southern District of
Florida, in October 1998. The complaint alleges breach of contract in connection
with alleged verbal representations by Continucare in negotiations to acquire
Tri-County and fraud and unjust enrichment for inducement of services based on
alleged verbal representations and seeks damages in excess of $5,000,000. The
Company moved to dismiss this motion on February 1, 1999, which motion is still
pending. The Company believes the action has little merit and intends to
vigorously defend the claim.
In connection with the Company's Business Rationalization Program, the
Company has closed or dissolved certain subsidiaries, some of which had pending
claims against them. The Company is also involved in various legal proceedings
incidental to its business that arise from time to time out of the ordinary
course of business -- including, but not limited to, claims related to the
alleged malpractice of employed and contracted medical professionals; workers'
compensation claims, and other employee-related matters, and minor disputes with
equipment lessors and other vendors.
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29
In its third quarter report on Form 10-Q for the period ended March 31,
1999, the Company disclosed a disagreement with an HMO regarding certain claims
expense information. During the fourth quarter of Fiscal 1999,the Company and
the HMO performed a review of this information for the period through March 31,
1999, and reached an agreement which did not require an adjustment in the
Company's recorded liability to the HMO through such date.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of security holders during the fourth
quarter of the Fiscal year ended June 30, 1999.
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PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER
MATTERS
MARKET PRICE
The principal U.S. market in which the Company's Common Stock is traded
is the American Stock Exchange ("AMEX") (symbol: CNU). Prior to the Company's
listing of its Common Stock on AMEX, which occurred on September 11, 1996, such
shares of Common Stock were traded on the NASDAQ Small-Cap Market. The following
table shows the high and low sales prices as reported on NASDAQ, and on AMEX for
the Common Stock for the periods indicated below. These quotations have been
obtained from NASDAQ and AMEX.
PRICE PERIOD HIGH LOW
------------ ---- ---
Fiscal Year 1998
First Quarter $ 8.63 $ 5.00
Second Quarter 7.38 4.75
Third Quarter 6.38 4.75
Fourth Quarter 6.50 4.63
Fiscal Year 1999
First Quarter $ 5.25 $ 2.38
Second Quarter 2.87 1.56
Third Quarter 2.00 .44
Fourth Quarter .75 .19
As of October 7, 1999, there were 114 holders of record of the Common
Stock.
DIVIDEND POLICY
The Company has never declared or paid any cash dividends on the Common
Stock and has no present intention to declare or pay cash dividends on the
Common Stock in the foreseeable future but intends to retain earnings, if any,
which it may realize in the foreseeable future, to finance its operations. The
Company is subject to various financial covenants with its lenders that could
limit and/or prohibit the payment of dividends in the future. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations." The
payment of future cash dividends on the Common Stock will be at the discretion
of the Board of Directors and will depend on a number of factors, including
future earnings, capital requirements, the financial condition and prospects of
the Company and any restrictions under credit agreements existing from time to
time. There can be no assurance that the Company will pay any cash dividends on
the Common Stock in the future.
ITEM 6. SELECTED FINANCIAL DATA
Set forth below is selected historical consolidated financial data on
Continucare for the three Fiscal years ended June 30, 1999 and the period from
February 12, 1996 (inception) to June 30, 1996.
The selected historical consolidated financial data for the three
Fiscal years ended June 30, 1999, are derived from the audited consolidated
financial statements of Continucare included herein. The selected historical
consolidated financial data should be read in conjunction with the Company's
consolidated financial statements and related notes included elsewhere herein.
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SELECTED FINANCIAL INFORMATION
FOR THE PERIOD
FROM FEBRUARY 12,
FOR THE YEAR ENDED JUNE 30, 1996 (INCEPTION)
TO
----------------------------------------------- JUNE 30,
1999 1998 1997 1996
----------------------------------------------- ---------------
OPERATIONS
Revenue
Medical services, net.................... $182,008,710 $ 63,088,911 $ 1,041,793 $ --
Management fees.......................... 518,042 2,495,382 12,874,592 2,507,063
----------- ------------ ------------ ------------
Subtotal............................... 182,526,752 65,584,293 13,916,385 2,507,063
Expenses
Medical services......................... 163,237,820 54,695,446 4,493,195 542,000
Payroll and employee benefits............ 13,797,555 5,714,653 1,855,000 431,412
Provision for bad debts.................. 6,196,384 5,778,216 1,818,293 242,664
Professional fees........................ 1,886,661 1,637,957 1,450,790 203,625
General and administrative............... 10,198,385 8,435,001 1,176,516 54,430
Writedown of long-lived assets .......... 11,717,073 -- -- --
Loss on disposal of subsidiaries......... 15,361,292 -- -- --
Depreciation and amortization............ 5,791,982 3,247,717 208,936 362
----------- ------------ ------------ ------------
Subtotal............................... 228,187,152 79,508,990 11,002,730 1,474,493
----------- ------------ ------------ ------------
(Loss) income from operations................. (45,660,400) (13,924,697) 2,913,655 1,032,570
Other income (expense)
Interest income............................ 138,963 932,397 165,253 --
Interest expense........................... (5,145,212) (3,007,331) (162,235) (23,204)
Income applicable to minority interest..... -- -- -- (32,686)
Other...................................... 24,906 107,696 (9,081) --
----------- ------------ ------------ ------------
(Loss) income before income taxes and
extraordinary items........................ (50,641,743) (15,891,935) 2,907,592 976,680
(Benefit) provision for income taxes ......... -- (909,000) 1,200,917 332,071
----------- ------------ ------------ ------------
(Loss) income before extraordinary item....... (50,641,743) (14,982,935) 1,706,675 644,609
Extraordinary gain on
extinguishment of debt ...................... 130,977 -- -- --
----------- ------------ ------------ ------------
Net (loss) income............................. $ (50,510,766) $(14,982,935) $ 1,706,675 $ 644,609
=========== ============ ============ ============
Basic and diluted (loss) earnings per common share:
(Loss) income before extraordinary
item ................................... $ (3.50) $ (1.20) $ .16 $ .10
Extraordinary gain on extinguishment of
debt ................................... .01 -- -- --
----------- ------------ ------------ ------------
Net (loss) income ......................... $ (3.49) $ (1.20) $ .16 $ .10
=========== ============ ============ ============
FINANCIAL POSITION
Total assets...................................$ 30,117,620 $ 69,486,105 $ 19,851,309 $ 2,864,896
=========== ============ ============ ============
Long-term obligations..........................$..53,490,787 $ 47,675,061 $ 3,367,106 $ 655,000
=========== ============ ============ ============
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
GENERAL
Continucare is a provider of outpatient healthcare services in Florida.
The Company provides healthcare services through its network of Staff Model
Clinics, Independent Physician Associations and Home Health division. As a
result of its ability to provide quality healthcare services through
approximately eighteen Staff Model clinics, approximately 139 IPA associated
physicians and two Home Health divisions, the Company has become a preferred
healthcare provider in Florida to some of the nation's largest managed care
organizations, including: (i) Humana for which, as of June 30, 1999, it managed
the care for approximately 18,800 patients on a capitated basis; and (ii)
Foundation, for which, as of June 30, 1999, it managed the care for
approximately 21,000 patients on a capitated basis.
Certain statements included herein which are not statements of
historical fact are intended to be, and are hereby identified as,
"forward-looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995. Without limiting the foregoing, the words
"believe," "anticipate," "plan," "expect," "estimate," "intend" and other
similar expressions are intended to identify forward-looking statements. The
Company cautions readers that forward-looking statements involve known and
unknown risks, uncertainties and other factors that may cause the actual
results, performance or achievements of the Company to be materially different
from any future results, performance or achievement expressed or implied by such
forward-looking statements. Such factors include, among others, the following:
the success or failure of the Company in implementing its current business and
operational strategies; the ability of the Company to consummate the Debenture
Settlement on the terms specified in such Debenture Settlement and the timing of
such consummation; the approval of the Debenture Settlement by the Company's
shareholders; the successful implementation of the Company's Business
Rationalization Program and Financial Restructuring Program; the availability,
terms and access to capital and customary trade credit; general economic and
business conditions; competition; changes in the Company's business strategy;
availability, location and terms of new business development; availability and
terms of necessary or desirable financing or refinancing; unexpected costs of
year 2000 compliance or failure by the Company or other entities with which it
does business to achieve compliance; labor relations; the outcome of pending or
yet-to-be instituted legal proceedings; and labor and employee benefit costs.
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RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction
with the consolidated financial statements and notes thereto appearing elsewhere
in this Annual Report. The following tables set forth, for the periods
indicated, the percentage of total revenues represented by certain items in the
Company's Consolidated Statements of Operations.
PERCENT OF REVENUE FOR JUNE 30,
-------------------------------------
1999 1998 1997
-------------------------------------
Revenue
Medical services, net ................. 99.7% 96.2% 7.5%
Management fees ....................... 0.3 3.8 92.5
---- ---- -----
Subtotal ............................ 100.0 100.0 100.0
Expenses
Medical services ...................... 89.4 83.4 32.3
Payroll and employee benefits ......... 7.6 8.7 13.3
Provision for bad debts ............... 3.4 8.8 13.1
Professional fees ..................... 1.0 2.5 10.4
General and administrative ............ 5.6 12.8 8.5
Write down of long-lived assets ....... 6.4 -- --
Loss on disposal of subsidiaries ...... 8.5 -- --
Depreciation and amortization ......... 3.2 5.0 1.5
---- ---- ----
Subtotal ............................ 125.1 121.2 79.1
(Loss) income from operations .............. (25.1) (21.2) 20.9
Other income (expense)
Interest income ......................... 0.1 1.4 1.2
Interest expense ........................ (2.8) (4.6) (1.2)
Other ................................... -- .2 (0.1)
---- ---- ----
(Loss) income before income taxes and
extraordinary item ...................... (27.8) (24.2) 20.8
(Benefit) provision for income taxes ....... 0.0 (1.4) 8.6
---- ---- ----
(Loss) income before extraordinary item .... (27.8) (22.8) 12.2
---- ---- ----
Extraordinary gain on extinguishment of debt 0.1 -- --
---- ---- ----
Net (loss) income .......................... (27.7)% (22.8)% 12.2%
==== ==== ====
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THE FINANCIAL RESULTS DISCUSSED BELOW RELATED TO THE OPERATION OF CONTINUCARE
FOR THE FISCAL YEAR ENDED JUNE 30, 1999 AS COMPARED TO THE FISCAL YEAR ENDED
JUNE 30, 1998.
REVENUE
Total revenues for Fiscal 1999 increased 178% to $182,526,752 from
$65,584,293 in Fiscal 1998. Medical services revenue increased 188% to
$182,008,710 from $63,088,911, respectively. Management fee revenue decreased
79% to $518,042 from $2,495,382 primarily as a result of the Company's
assignment of its Behavioral Health Management Contracts in the first quarter of
Fiscal 1998.
During Fiscal 1999 the Company disposed of certain underperforming
assets and subsidiaries (the "Rationalized Entities"). See "Business--General."
During Fiscal 1999 and 1998 total revenue from these Rationalized Entities was
approximately $22,164,000 and $19,581,000 respectively. The net patient service
revenue of the Diagnostic Division for the period from July 1, 1998 until the
date of sale was approximately $1,900,000 and the net operating loss was
approximately $2,000,000 before recording the loss on sale. Net patient revenues
from the Rehabilitation Management Division from July 1, 1998 until the date of
sale were approximately $13,272,000, and the net operating loss was
approximately $2,053,000 before recording the loss on the sale. The net patient
service revenue of the Physician Practice Management Division for the period
from July 1, 1998 until the date of sale was approximately $6,096,000 and the
net operating loss was approximately $2,133,000.
Revenue received under the Company's contracts with HMO's amounted to
85% and 57% of medical services revenues in Fiscal 1999 and 1998, respectively.
During fiscal year ended June 30, 1998, the Company provided managed care
services for approximately 120,000 member months (members per month multiplied
by the months for which services were available), which resulted in
approximately $35,500,000 in revenue. During the fiscal year ended June 30,
1999, the number of member months increased to approximately 625,000, which
resulted in approximately $154,700,000 in revenue. The August 1998 acquisition
of the Caremed Inc. contracts resulted in additional revenue of approximately
$22,000,000. The remaining increase in managed care revenue was due to the
expansion of the managed care physician network and patient base.
As part of the Company's Business Rationalization Program, the Company
significantly reduced the number of physician practices in its IPA subsidiary
and will no longer be at risk for the commercial members of its remaining IPA
physicians. Commercial member months contributed approximately $11,000,000 of
revenue during fiscal 1999. IPA Medicare member months are expected to decrease
by approximately 50 to 60% in fiscal 2000 compared to fiscal 1999. Medicare
member months contributed approximately $58,000,000 of revenue during fiscal
1999. The IPA's loss ratio is expected to decrease due to the historically
stronger performance of many of the retained physicians and the demographics of
the remaining patient population. As a result of the rationalization of the
non-managed care entities, the revenue generated by its managed care entities
through its Humana and Foundation contracts will increase to approximately 95%
of its fiscal 2000 revenue. However, the revenue generated by the Foundation
contract will be a lower percentage of the fiscal 2000 revenue.
Revenue received under fee for service arrangements which require the
Company to assume the financial risks relating payor mix and reimbursement rates
accounted for 11% and 33% of medical services revenue in Fiscal 1999 and 1998,
respectively. The decrease in the fee for service revenue was primarily a result
of the Business Rationalization Program and the divestiture of the Specialty
Physician Practices and Rehabilitation and Diagnostic divisions. Accordingly,
the Company does not anticipate a significant contribution from fee for service
revenue in fiscal 2000.
Medicare and Medicaid, as a percentage of the Company's net patient
service revenue, decreased significantly in fiscal 1999 as compared to prior
years. This decrease was primarily attributable to a substantial increase in
managed care revenues. Additionally, there was a decrease in Medicare revenues
in fiscal 1999 as a result of the downsizing of the home health division through
the elimination of subcontracting relationships and the respective sale and
closing of the rehabilitation and specialty physician practice divisions.
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EXPENSES
Medical services expenses in Fiscal 1999 were $163,237,820, or 89% of
total revenue, compared to $54,695,446, or 83% of total revenues, in Fiscal
1998. Medical services expenses represent the direct cost of providing medical
services to patients ($45,412,000 in fiscal 1999 versus $24,668,000 in fiscal
1998) as well as the medical claims incurred by the Company under the capitated
contracts with HMO's ($117,826,000 in fiscal 1999 versus $30,027,000 in fiscal
1998). The cost of medical services provided include the salaries and benefits
of health professionals providing the services ($28,370,000 in fiscal 1999
versus $21,088,000 in fiscal 1998), and other costs necessary to operate the
centers ($17,042,000 in fiscal 1999 versus $3,580,000 in fiscal 1998). The
increase in medical services expenses as a percentage of total revenue for
Fiscal 1999 resulted from an increase in claims associated with medical services
rendered by or on behalf of the Company and underperformance of divested
entities. If the Company's loss ratio continues to increase in spite of the
measures taken by the Company through its Business Rationalization Program to
reduce the loss ratio, it will have a material adverse effect on the Company's
future operating results. During Fiscal 1999 and 1998 Medical services expenses
from the Rationalized Entities were approximately $15,296,000 and $13,815,000,
respectively. As disclosed in Note 2 to Company's consolidated financial
statements, none of the Company's contracts were considered loss contracts at
June 30, 1999 because the Company has the right to terminate unprofitable
physicians and close unprofitable centers under its managed care contracts.
General and administrative expenses for Fiscal 1999 were $10,198,385,
or 6% of revenues, compared to $8,435,001, or 13% of revenues for Fiscal 1998.
The decrease in general and administrative expense as a percent of revenues
resulted from the Company's increase in revenues from its acquisitions during
Fiscal 1998. During Fiscal 1999 and 1998 general and administrative expenses
from the Rationalized Entities was approximately $4,427,000 and $5,318,000,
respectively.
During Fiscal 1999, the Company recorded a loss on disposal of
subsidiaries of $15,361,292 associated with the Company's Business
Rationalization Program. No such charge was recorded in Fiscal 1998.
In accordance with SFAS 121, the Company periodically reviews the
recorded value of its long-lived assets to determine if the future cash flows to
be derived from these assets will be sufficient to recover the remaining
recorded asset values. During the fourth quarter of Fiscal 1999, as a result of
its Business Rationalization Program, the Company recorded a noncash charge of
$11,717,073 related to the write-down of costs in excess of net tangible assets
acquired to estimated realizable values. No such charge was recorded in Fiscal
1998.
The provision for bad debts includes approximately $1,500,000 and
$4,800,000 related to notes receivable in Fiscal 1999 and 1998, respectively.
During Fiscal 1999, the Company stopped receiving payments and fully reserved
the outstanding balances of the notes receivable at June 30, 1999. The Company
increased its reserve on these notes for the remaining balance of the notes of
$1.6 million because, despite the issuance of demand notices to seek
reimbursement, the Company was unsuccessful in its collection efforts. In
addition, although the Company had received partial payments on these notes
during fiscal 1998, the Company received payments of only $104,000 on one of
these notes during fiscal 1999. Excluding amounts related to notes receivable,
bad debt expense was 2.5% of total revenue in Fiscal 1999 versus 1.5% for Fiscal
1998. This increase is a direct result of the adverse business operations which
the Company experienced during Fiscal 1999. As a result of the Business
Rationalization Program, the operating divisions which previously generated a
significant portion of the accounts receivable balance, Specialty Physician
Practice and Diagnostic, were rationalized in Fiscal 1999. The rationalization
of these two divisions greatly impeded the Company's ability to successfully
collect the outstanding receivables. Accordingly, a significant increase in the
allowance for doubtful accounts related to the accounts receivable was
necessary.
Depreciation and amortization expense was $5,791,982 in Fiscal 1999 and
$3,247,717 in Fiscal 1998, representing 3% and 5% of total revenues,
respectively. During Fiscal 1999 and 1998 depreciation and amortization from the
Rationalized Entities was approximately $1,596,000 and $1,129,000 respectively.
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Loss from operations for Fiscal 1999 was $45,660,400, or 25% of total
revenues, compared to an operating loss of $13,924,697, or 21% of total
revenues, for Fiscal 1998. Excluding the $11,717,073 writedown of long-lived
assets and the $15,361,292 loss on disposal of subsidiaries, the Fiscal 1999
operating loss was $18,582,035, or 10% of total revenue. Operating loss
excluding the writedown of long-lived assets and loss on disposal of
subsidiaries, declined as a percentage of total revenues due to the
implementation of the Business Rationalization Program, including the sale of
underperforming assets.
Interest expense for Fiscal 1999 and Fiscal 1998 was $5,145,212 and
$3,007,331, respectively. The increase in interest expense is primarily
attributable to the Convertible Subordinated Notes Payable, which were
outstanding during all of Fiscal 1999 versus eight months of Fiscal 1998.
The Company's net losses and ongoing operating difficulties raise
substantial doubt about the Company's ability to utilize any related tax
benefits. Accordingly, such amounts have not been recognized for financial
reporting purposes in Fiscal 1999. The Company has net operating loss
carryforwards, which expire in the years 2013 through 2019, of $21,355,000 at
June 30, 1999, for which a valuation allowance has been established for the
entire amount.
Net loss for Fiscal 1999 was $50,510,766 compared to a net loss of
$14,982,935 for Fiscal 1998.
THE FINANCIAL RESULTS DISCUSSED BELOW RELATED TO THE OPERATION OF CONTINUCARE
FOR THE FISCAL YEAR ENDED JUNE 30, 1998 AS COMPARED TO THE FISCAL YEAR ENDED
JUNE 30, 1997.
REVENUE
The Company made a number of acquisitions during Fiscal 1998 as it
developed its outpatient services strategy. The substantial increase of
$62,047,118 in medical services revenue during 1998 was a result of these
acquisitions.
Management fee revenue decreased 81% to $2,495,382 for the Fiscal 1998,
from $12,874,592 for Fiscal 1997. The decrease was due to the Company's focus
shifting away from the behavioral health area. In Fiscal 1997, the contracts to
manage and provide staffing and billing services for behavioral health programs
in hospitals and freestanding centers represented approximately 86% of total
revenues. The Company assigned all of its behavioral health management contracts
with freestanding centers and hospitals during the first quarter of Fiscal 1998.
As a result, other than in connection with the collection of outstanding
accounts receivables, the Company derived no further revenue under these
contracts after the effective date of their assignments.
During Fiscal 1998, approximately 33% of the Company's medical services
revenue was derived from fee-for-service arrangements, 57% from capitated
payments from HMOs and 10% from direct contracting with medical providers,
respectively.
EXPENSES
Medical services of approximately $54,695,446 for Fiscal 1998,
represent the direct cost of providing medical services to patients
($24,668,000) as well as the medical claims incurred by the Company under the
capitated contracts with HMOs ($30,027,000). The costs of the medical services
provided include the salaries and benefits of health professionals providing the
services ($21,088,000), and insurance and other costs necessary to operate the
centers ($3,580,000). Medical claims costs represent the cost of medical
services provided by providers other than the Company but which are to be paid
by the Company for individuals covered by capitated arrangements with HMOs.
Medical services of $4,493,000 for Fiscal 1997 represent the direct cost of
providing medical services to patients, including salaries and benefits of
$4,260,000 and insurance and other costs of $233,000.
Payroll and related benefits for administrative personnel increased by
$3,860,000, or 208%, from $1,855,000 in Fiscal 1997 to $5,715,000 in Fiscal
1998. As a percent of revenue, salary and related benefits fell from 13% of
total revenue in Fiscal 1997 to 9% in Fiscal 1998. This decrease was a direct
result of the growth from the acquisitions made during 1998.
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Provision for bad debts was $5,778,216, or 9% of total revenues, for
the year ended June 30, 1998, as compared to $1,818,293, or 13% of total
revenue, for Fiscal 1997. The dollar amount increase is due primarily to the
increase in the provision for bad debts on notes receivable in Fiscal 1998. The
decrease as a percentage of total revenue is due to the increase in revenue
under capitated managed care contracts.
Professional fees were $1,638,000, or 2% of total revenue, for Fiscal
1998 as compared to $1,451,000, or 10%, of total revenue, for Fiscal 1997. The
decrease as a percentage of revenue was primarily a result of a decrease in
outsourcing costs resulting from the hiring of additional management individuals
in Fiscal 1998.
General and administrative expenses were approximately $8,435,000, or
13% of total revenue, for Fiscal 1998, as compared to $1,177,000, or 8% of total
revenues, for Fiscal 1997. The increase of $7,258,000 was primarily related to
the increased costs attributable to the various primary care practices acquired
during the latter part of Fiscal 1997 in addition to the administrative costs
related to the rehabilitation entities, home health agencies, outpatient primary
care centers and the outpatient radiology and diagnostic imaging services
company acquired during Fiscal 1998.
Depreciation and amortization increased to $3,248,000, or 5% of total
revenue, for Fiscal 1998 as compared to $209,000, or 1% of total revenue, for
Fiscal 1997 primarily as a result of the amortization of costs in excess of net
tangible assets acquired and other intangibles related to the acquisitions noted
above.
Consolidated net interest income (expense) for Fiscal 1998, was
($2,075,000), compared to $3,000, for Fiscal 1997. The increase is due to the
October 30, 1997 issuance of the Convertible Subordinated Notes Payable and
amortization of related deferred financing costs. Interest on the Convertible
Subordinated Notes Payable is payable semiannually beginning April 30, 1998. The
increase in interest expense in Fiscal 1998 was partially offset by an increase
in interest income primarily attributed to the investment of the unused proceeds
of the Convertible Subordinated Notes Payable.
Continucare's consolidated net loss for the year ended June 30, 1998
was approximately $14,983,000 compared to net income for Fiscal 1997 of
approximately $1,707,000 for the reasons discussed above.
LIQUIDITY AND CAPITAL RESOURCES
The Company's financial position has changed significantly since June
30, 1998. Throughout Fiscal 1998 and 1999 the Company experienced adverse
business operations, recurring operating losses, negative cash flow from
operations, resulting in a significant working capital deficiency. Furthermore,
as discussed below, the Company was unable to make certain of its scheduled
interest payments. The Company's operating difficulties have in large part been
due to the underperformance of various entities which were acquired in Fiscal
years 1999, 1998 and 1997, the inability to effectively integrate and realize
increased profitability through anticipated economies of scale with these
acquisitions, as well as reductions in reimbursement rates under the Balanced
Budget Act of 1997. In addition, the Company's independent auditors included a
paragraph in their auditors' report on the Company's consolidated financial
statements at June 30, 1999 regarding the substantial doubt about the Company's
ability to continue as a going concern.
The discussion herein has been prepared assuming that the Company will
continue as a going concern. In order to strengthen itself financially and
remain a going concern, the Company, during the past Fiscal year, began
divesting itself of certain unprofitable operations and disposing of other
underperforming assets as more fully discussed below.
The Company did not make the April 30, 1999 (the "Default Date")
semi-annual payment of interest on its Convertible Subordinated Notes Payable.
As of June 30, 1999, the Company had $45,000,000 principal amount outstanding
under the Convertible Subordinated Notes Payable and accrued and unpaid interest
of approximately $2,400,000 The amount of interest due as of April 30, 1999 was
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$1,800,000. Within thirty (30) days of the Default Date, the Company commenced
negotiations with an informal committee of the holders of the Convertible Notes
to restructure a portion of the debt and related interest in exchange for common
stock and to obtain terms on the remaining portion of the debt that are more
favorable to the Company. On or about July 2, 1999 the Company purchased
$4,000,000 face value of its Convertible Subordinated Notes Payable for
approximately $200,000, recognizing a pre-tax gain on extinguishment of debt of
approximately $3,800,000. The Company funded the purchase of the Convertible
Subordinated Notes Payable from working capital. On September 29, 1999 the
Company announced an agreement in principle with the holders of the Convertible
Subordinated Notes Payable to enter into a settlement and restructuring
agreement with respect to the remaining $41,000,000 principal balance and
approximately $3,300,000 of interest thereon accrued through October 31, 1999.
Also, see Item 1 "Recent Developments Debt Restructuring" and Note 6 of the
Company's Consolidated Financial Statements.
In August 1998, the Company entered into the Credit Facility with First
Union Bank. The Credit Facility provided for a $5,000,000 Acquisition Facility
and a $5,000,000 Revolving Loan. The Company borrowed the entire $5,000,000
Acquisition Facility to fund acquisitions. The Company never utilized the
Revolving Loan. Since December 31, 1998 the Company has not been in compliance
with the terms and conditions of the Acquisition Facility. During April 1999,
the Company used approximately $4,000,000 of the net proceeds from the sale of
certain of the Rationalized Entities to reduce the outstanding balance of the
Credit Facility. In connection with the payment, the Company entered into an
amendment to the Credit Facility, which provided, among other things, for the
repayment of the remaining outstanding principal balance of approximately
$1,000,000 by December 31, 1999.
For the twelve months ended June 30, 1999, the Company incurred a net
loss of $50,510,766 and the net cash used in operating activities was $1,372,681
primarily as a result of the net loss, offset by (i) non-cash operating items,
including depreciation and amortization, provision for bad debt, loss on sale of
subsidiary and write-down of long-lived assets, and (ii) increase in medical
claims payable. For the twelve months ended June 30, 1999, net cash provided by
investing activities was $250,508. Net cash used in financing activities for the
twelve months ended June 30, 1999 was a $3,128,474, comprised primarily of the
$5,000,000 borrowed under the Credit Facility, partially offset by repayment of
$4,000,000 on the Credit Facility and approximately $3,500,000 on other debts.
Also, see Note 7 to the Company's Consolidated Financial Statements.
The Company's working capital deficit was approximately $60,200,000 at
June 30, 1999, which includes the reclassification of $45,000,000 of Convertible
Notes to current liabilities due to the Company's default on the April 30, 1999
interest payment, compared to working capital of approximately $11,124,000 at
June 30, 1998.
The Company believes that it will be able to fund all of its capital
commitments and operations from a combination of cash on hand, expected cash
flow improvements, and the new credit facility. The Company intends to roll over
the remaining portion of its First Union obligation into the new credit
facility. As of November 30, 1999, the Company's obligation to First Union was
approximately $242,000. The Company anticipates its capital expenditures for
fiscal 2000 will not exceed $350,000, a reduction of $400,000 (or 53%) over the
prior year.
Although the Company had completed the divestiture of most of its
unprofitable operations and the reduction in its personnel by June 30, 1999, the
Company does not believe it will be able to demonstrate profitable operations or
demonstrate positive cash flow unless it completes the restructuring of the
Notes.
During the twelve months ended June 30, 1999, capital expenditures
amounted to approximately $750,000.
The Company has no current knowledge of any intermediary audit
adjustment trends with respect to previously filed cost reports. However, as is
standard in the industry, the Company remains at risk for disallowance and other
adjustment to previously filed cost reports until final settlement. The
Company's average settlement period with respect to its cost reports has
historically ranged from two to three years.
The Company has taken and continues to take steps to improve its cash
flow and profitability through the implementation of its Business
Rationalization Program and Financial Restructuring Program by: (1) divesting of
its non-profitable business units; (2) reducing personnel levels; (3)
negotiating with the Subordinated Notes Payable Holders; and (4) negotiating
with its HMOs. However, currently none of the Company's operations or assets are
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being held for sale. While the Company believes that these measures will improve
its cash flow and profitability, there can be no assurances that it will be able
to implement any of the above steps and, if implemented, the steps will improve
the Company's cash flow and profitability sufficiently to fund its operations
and satisfy its obligations as they become due.
If there are continuing operating losses, Continucare may need
additional capital to fund its business, and there can be no assurance that such
additional capital can be obtained or, if obtained, that it will be on terms
acceptable to Continucare. The incurring or assumption by the Company of
additional indebtedness could result in the issuance of additional equity and/or
debt which could have a dilutive effect on shareholders and a significant effect
on the Company's operations. In addition to the Company's liquidity
difficulties, the Company is experiencing administrative difficulties, including
the loss of key personnel. See "Business-Employees."
Additionally, the Company has fallen below the continued listing
requirements of the American Stock Exchange with respect to the requirements
that the Company maintain stockholders' equity of at least $2 million and not
sustain losses from continuing operations and/or net losses in two of its three
most recent fiscal years. At June 30, 1999, the Company had a shareholders'
deficit of approximately $35,655,000. There can be no assurance that the listing
of the Company's common stock will be continued.
IMPACT OF YEAR 2000
The Year 2000 Issue is the result of the computer programs being
written using two digits rather than four to define the applicable year. Any of
the Company's computer programs that have time-sensitive software may recognize
a date using "00" as the year 1900 rather than the year 2000. This could result
in a system failure or miscalculations causing disruptions of operations and
patient care, including, among other things, a failure of certain patient care
applications and equipment, a failure of control systems, a temporary inability
to process transactions, send invoices, or engage in similar normal business
activities.
Based on a recent and ongoing assessment, the Company determined that
it will be required to modify or replace certain portions of its software,
hardware and patient care equipment so that its systems will function properly
with respect to dates in the year 2000 and thereafter. Affected systems will
include clinical and biomedical instrumentation and equipment used within the
Company for purposes of direct or indirect patient care such as imaging,
laboratory, pharmacy and respiratory devices; cardiology measurement and support
devices; emergency care devices (including monitors, defibrillators, dialysis
equipment and ventilators); and general patient care devices (including
telemetry equipment and intravenous pumps). The Company presently believes that
with modifications to existing software and conversions to new clinical and
biomedical instrumentation and equipment, the Year 2000 Issue will not pose
significant operational problems. However, if such modifications and conversions
are not made, or are not completed timely, the Year 2000 Issue could have a
material impact on the operations of the Company.
The Company has initiated formal communications with all of its
significant suppliers to determine the extent to which the Company's interface
systems are vulnerable to those third parties' failure to remediate their own
Year 2000 Issues. The Company's total Year 2000 project cost and estimates to
complete include the costs and time associated with the impact of third-party
Year 2000 Issues based on presently available information. However, there can be
no guarantee that the systems of other companies on which the Company's systems
rely will be timely converted and would not have an adverse effect on the
Company's systems.
The Company will utilize both internal and external resources to
reprogram, or replace and test the software and patient care equipment for Year
2000 modifications. The Company anticipates completing the Year 2000 project by
December 1, 1999, which is prior to any anticipated impact on its operating
systems. The total cost of the Year 2000 project is estimated at $200,000 and is
being funded through operating cash flows. Of the total projected cost,
approximately $50,000 is attributable to the purchase of new software and
patient care equipment, which will be capitalized. The remaining $150,000 will
be expensed as incurred and is not expected to have a material effect on the
results of operations.
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The costs of the project and the date on which the Company believes it
will complete the Year 2000 modifications are based on management's best
estimates, which were derived utilizing numerous assumptions of future events,
including the continued availability of certain resources, third party
modification plans and other factors. However, there can be no guarantee that
these estimates will be achieved and actual results could differ materially from
those anticipated. Specific factors that might cause material differences
include, but are not limited to, the availability and cost of replacement
equipment and personnel trained in this area, the ability to locate and correct
all relevant computer codes, and similar uncertainties.
The operations of the Company are heavily dependent on its management
information systems. Implementation of new management information systems and
integration of management information systems in connection with acquisitions
require a transition period during which various functions must be converted or
integrated to the new systems. This conversion and integration process may
entail errors, defects or prolonged downtime, especially at the outset, and such
errors, defects or downtime could have a material adverse effect on the
Company's business, results of operations, prospects, financial results,
financial condition or cash flows.
Both the software and hardware used by the Company in connection with
the services it provides have been subject to rapid technological change.
Although the Company believes that its technology can be upgraded as necessary,
the development of new technologies or refinements of existing technology could
make the Company's existing equipment obsolete. Although the Company is not
currently aware of any pending technological developments that would be likely
to have a material adverse effect on its business, there is no assurance that
such developments will not occur.
NEW ACCOUNTING STANDARDS
During fiscal 1999, the Company adopted SOP 98-1 (Accounting for
Computer Software Developed for or Obtained for Internal Use) and SOP 98-5
(Reporting on the Costs of Start-up Activities). The Company believes that the
effects of adopting SOP 98-1 and SOP 98-5 are not material. The Company
estimates that the expenses associated with SOP 98-1 were less than $15,000 and
the costs associated with SOP 98-5 were less than $50,000. The Company does not
believe that any other newly issued accounting pronouncements have had or will
have any material effects on the Company's results of operations or financial
position.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS
At June 30, 1999, the Company had only cash equivalents, invested in
high grade, very short-term securities, which are not typically subject to
material market risk. The Company has outstanding loans at fixed rates. For
loans with fixed interest rates, a hypothetical 10% change in interest rates
would have no impact on the Company's future earnings and cash flows related to
these instruments. A hypothetical 10% change in interest rates would have an
immaterial impact on the fair value of these instruments.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The response to this item is submitted in a separate section of this
report.
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ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
The accounting firm of Deloitte & Touche LLP ("Deloitte & Touche")
represented pre-merger Continucare as its independent accountants during the
period from February 12, 1996 (inception) to June 30, 1996 and was appointed as
the Company's independent accountants by the Board of Directors for fiscal year
1997. Deloitte & Touche was dismissed by the Company's Board of Directors on May
6,1998. During the period for which Deloitte & Touche was the Company's
independent auditors, there were no disagreements between the Company and
Deloitte & Touche on any matter of accounting principles or practices, financial
statement disclosure, or auditing scope or procedure, which disagreements, if
not resolved to the satisfaction of Deloitte & Touche, would have caused it to
make reference to the subject matter of the disagreement in connection with its
reports. Deloitte & Touche's reports on the financial statements of the Company
for the period from inception to June 30, 1996, and the year ended June 30,
1997, did not contain an adverse opinion or disclaimer of opinion, and were not
qualified or modified as to uncertainty, audit scope or accounting principles.
The Company's Board of Directors appointed Ernst & Young LLP as the
Company's independent accountants for Fiscal 1998 and 1999. There have been no
reported disagreements on any matter of accounting principles or practice or
financial statement disclosure at any time during the period that operations
have been audited by Ernst & Young LLP.
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PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
MANAGEMENT
The executive officers and directors of Continucare are as follows:
NAME AGE POSITION
- ---- --- --------
Spencer J. Angel................... 33 President, Chief Executive Officer, Chief Operating Officer
and Director
Janet L. Holt...................... 52 Chief Financial Officer
Charles M. Fernandez............... 37 Chairman of the Board
Phillip Frost, M.D................. 63 Vice Chairman of the Board
Neil Flanzraich.................... 56 Director
Carlos E. Padron................... 34 Director
SPENCER J. ANGEL has served as the Company's President and Chief
Executive Officer since the resignation of Mr. Fernandez on November 2, 1999.
Previously he served as the Company's Executive Vice President and Chief
Operating Officer since July 12, 1999, and he served as a member of the Board of
Directors since September 30, 1999. Mr. Angel has served, since 1996, as
director and president of Harter Financial, Inc., a diversified financial
consulting firm. See "Certain Relationships and Related Transactions." In 1999,
Mr. Angel served as president and chief executive officer of Medical Laser
Technologies, Inc., a company that produces digital x-ray picture archiving and
communications systems for cardiac catheterization labs. He was the secretary,
treasurer and director of Autoparts Warehouse, Inc., an auto parts retail and
service company, from September 1997 to January 1999. From December 1994 through
August 1996 Mr. Angel was President of 5 East 41 Check Cashing Corp. a company
engaged in the payroll service and armored car business. From November 1991 to
1994 Mr. Angel was an associate attorney with Platzer, Fineberg & Swergold, a
law firm specializing in corporate financial reorganizations.
JANET HOLT was appointed as the Company's Chief Financial Officer in
January 2000. Previously she served as the Vice President of Finance - Managed
Care Division since she joined the Company in July 1999. Prior to joining the
Company, Ms. Holt served as an audit Senior Manager at Ernst & Young, LLP since
November 1997. From June 1995 to November 1997, Ms Holt served as the Internal
Auditor for InPhyNet Medical Management, Inc., and she served as an audit
manager with Deloitte & Touche, LLP from 1992 to June 1995.
CHARLES M. FERNANDEZ, the Chairman of the Board, is the president and
chief executive officer of Big City Radio, a New York company that owns and
operates a network of radio stations. Mr. Fernandez co-founded Continucare in
February 1996 and served as its Chairman of the Board, President and Chief
Executive Officer from the Company's inception until November 1, 1999, at which
time he resigned as the President and Chief Executive Officer. Since 1985 and
prior to founding Continucare, Mr. Fernandez was the Executive Vice President
and Director of Heftel Broadcasting Corporation ("HBC"), a public company owning
a network of radio stations. At HBC, Mr. Fernandez was involved in the
acquisition of 17 broadcast companies and played an instrumental role in HBC's
growth in revenues from $4 million in 1985 to approximately $65 million in 1995.
Mr. Fernandez has also been a director of IVAX Corporation, a Florida
corporation ("IVAX") since June 1998. From July 1999 until November 1999, Mr.
Fernandez served as the Chairman of Hispanic Internet Holdings, Inc., a Spanish
online service provider that was acquired by Big City Radio in 1999.
PHILLIP FROST, M.D. has served as Vice Chairman of Continucare since
September 1996. Dr. Frost has served, since 1987, as Chairman of the Board and
Chief Executive Officer of IVAX, the world's largest generic pharmaceutical
manufacturer. He served as IVAX's President from July 1991 until January 1995.
He was the Chairman of the Department of Dermatology at Mt. Sinai Medical Center
of Greater Miami, Miami Beach, Florida from 1970 to 1992. Dr. Frost was Chairman
of the Board of Directors of Key Pharmaceutical, Inc. from 1972 to 1986. He is
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Vice Chairman of the Board of Directors of North American Vaccine, Inc.,
Chairman of the Board of Directors of Whitman Education Group, which is engaged
in proprietary education and a director of Northrup Grumman which is in the
aerospace industry. He is Vice Chairman of the Board of Trustees of the
University of Miami and a member of the Board of Governors of the American Stock
Exchange.
NEIL FLANZRAICH has served as a director of the Company since the 1998
annual meeting on January 26, 1999. He has served as the Vice Chairman and
President of IVAX since May 1998. From September 1995 to May 1998, Mr.
Flanzraich was a shareholder and served as Chairman of the Life Sciences Legal
Practice at the law firm of Heller Erhman White & McAuliffe. Prior to his
position at the law firm, Mr. Flanzraich was the Senior Vice President and
General Counsel of Syntex Corporation, an international diversified life science
company, which was acquired by Roche Holding, Ltd.
CARLOS E. PADRON was appointed as a director in October 1999. He is a
partner with the law firm of Vila, Padron & Carrillo, P.A. and has practiced
with the firm since 1991. Mr. Padron also serves on the board of Caribbean Cigar
Company, S.A., Inter-Continental Cigar Corporation and Transcontinental
Investment, Inc.
Officers serve at the pleasure of the board of directors, subject to
the terms of any employment agreements. See "-Employment Agreements."
COMPLIANCE WITH SECTION 16(a) OF THE SECURITIES EXCHANGE ACT OF 1934
Section 16(a) of the Securities Exchange Act of 1934 requires the
Company's directors and executive officers and persons who own more than ten
percent of the Company's outstanding Common Stock, to file with the Securities
and Exchange Commission (the "SEC") initial reports of ownership and reports of
changes in ownership of Common Stock. Such persons are required by SEC
regulation to furnish the Company with copies of all such reports they file.
To the Company's knowledge, based solely on a review of the copies of
such reports furnished to the Company and written representations that no other
reports were required, all Section 16(a) filing requirements applicable to its
officers, directors and greater than ten percent beneficial owners have been
satisfied.
ITEM 11. EXECUTIVE COMPENSATION AND OTHER INFORMATION
SUMMARY OF CASH AND CERTAIN OTHER COMPENSATION
The following table sets forth certain summary information concerning
compensation paid or accrued by Continucare and its subsidiaries to or on behalf
of (i) our Chief Executive Officer, (ii) the most highly compensated executive
officers who was serving as an executive officer at the end of the last fiscal
year, whose total annual salary and bonus, determined as of the end of the
fiscal year ended June 30, 1999, exceeded $100,000 and (iii) two individuals for
whom disclosure would have been provided, but for the fact that they were not
serving as executive officers at the end of the last fiscal year (collectively,
the "Named Executive Officers").
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SUMMARY COMPENSATION TABLE
LONG-TERM
ANNUAL COMPENSATION COMPENSATION
----------------------------------- ------------------
NAME AND FISCAL OTHER ANNUAL NO. OF SECURITIES ALL OTHER
PRINCIPAL POSITION YEAR SALARY ($) BONUS ($) COMPENSATION UNDERLYING OPTIONS COMPENSATION
------------------ ---- ---------- --------- ------------ ------------------ ------------
Charles M. Fernandez, 1999 352,782 15,000 (1) -0- -0-
President and Chief 1998 334,547 0 (1) 100,000 -0-
Executive Officer..... 1997 327,880 70,000(7) 36,360(2) -0- -0-
Susan Tarbe, Executive 1999 184,230 -0- (1) 50,000(3)
Vice President and 1998 168,462 -0- (1) -0- 3,167(4)
General Counsel(5).... 1997 97,000 40,000(6) (1) 100,000 1,118(4)
Norman B. Gaylis, M.D.
Senior Vice President,
Chief Operating Officer 1999 328,846 -0- (1) -0- -0-
of Physician Practice 1998 464,193 -0- (1) 50,000 -0-
Division(8)........... 1997 92,094 50,000(7) -0- -0- -0-
Bruce Altman
Chief Financial
Officer(9)............ 1999 104,615 10,000 (1) 62,500 -0-
- --------------------
(1) The total perquisites and other personal benefits provided is less than 10%
of the total annual salary and bonus to such officer.
(2) Includes $13,155 in car allowance and $20,205 in insurance benefits.
(3) Includes a severance payment of $25,000 in August 1999 and a severance
payment of $25,000 in September 1999.
(4) Reflects matching contributions to the Company's 401(k) plan which is
earned during the fiscal year indicated but not paid until the following
fiscal year.
(5) Mrs. Tarbe joined the Company in September 1996 and resigned in September
1999.
(6) Includes a signing bonus in the amount of $2,500 and a bonus paid in
September 1997 for services rendered in fiscal 1997.
(7) Represents a bonus paid in fiscal 1998 for services rendered in fiscal
1997.
(8) Dr. Gaylis joined the Company in April 1997 and resigned in March 1999.
(9) Mr. Altman joined the Company in October 1998 and resigned in April 1999.
OPTION GRANTS DURING FISCAL 1998
OPTION GRANTS TABLE. The following table sets forth certain information
concerning grants of stock options made during fiscal 1999 to each of the Named
Executive Officers. We did not grant any stock appreciation rights in fiscal
1999.
INDIVIDUAL OPTION GRANTS IN 1999 FISCAL YEAR
- ---------------------------------------------------------------------------------------------------------------------
SHARES OF POTENTIAL REALIZABLE VALUE AT
COMMON STOCK ASSUMED ANNUAL RATES OF STOCK PRICE
UNDERLYING % OF TOTAL APPRECIATION FOR OPTION TERM (1)
OPTIONS GRANTED TO OPTION EXPIRATION ------------------------------------
NAME GRANTED EMPLOYEES PRICE($) DATE 5% 10%
- ---------------------- ------------ ---------- ---------- ---------- ---------------- ---------------
Charles M. Fernandez 0 -- -- -- -- --
Susan Tarbe 0 -- -- -- -- --
Norman B. Gaylis, M.D. 0 -- -- -- -- --
Bruce Altman 62,500(2) 38.5%(3) $5.125 7/15/99 201,443 510,496
- -----------------------
(1) The dollar amounts set forth in these columns are the result of
calculations at the five percent and ten percent rates set by the
Securities and Exchange Commission, and therefore are not intended to
forecast possible future appreciation, if any, of the market price of the
Common Stock.
(2) Mr. Altman resigned from his position as Chief Financial Officer in April
1999 and his options expired in July 1999.
(3) Based upon 162,500 options granted during fiscal 1999.
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45
AGGREGATED OPTION EXERCISES IN 1999 AND YEAR END OPTION VALUES
The following table sets forth information with respect to (i) the
number of unexercised options held by the Named Executive Officers as of June
30, 1999, and (ii) the value as of June 30, 1999 of unexercised in-the-money
options. No options were exercised by any of the Named Executive Officers in
1999.
NUMBER OF SECURITIES VALUE OF UNEXERCISED
UNDERLYING UNEXERCISED OPTIONS IN-THE-MONEY OPTIONS
AT JUNE 30, 1999 AT JUNE 30, 1999 ($)(1)
----------------------------------- ------------------------------------
EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
------------- ------------- ----------- --------------
Charles M. Fernandez 110,000 25,000 0 0
Susan Tarbe 80,000 20,000 0 0
Norman B. Gaylis, M.D. 33,334 16,666 0 0
Bruce Altman 31,250 31,250 0 0
- ---------------
(1) Market value of shares covered by in-the-money options on June 30, 1999,
less option exercise price. Options are in-the-money if the market value
of the shares covered thereby is greater than the option exercise price.
DIRECTOR COMPENSATION
Our directors do not currently receive any cash compensation for
service on the board of directors but may be reimbursed for certain expenses in
connection with attendance at board of director meetings or other meetings on
our behalf. Our directors are eligible to receive options under the Continucare
Stock Option Plan.
EMPLOYMENT AGREEMENTS
The Company entered into employment agreements with Spencer J. Angel,
Charles M. Fernandez, Susan Tarbe, Norman B. Gaylis and Bruce Altman. Mr. Angel
employment agreement for a one year period with additional year automatic
renewals and provides for an annual base salary of $250,000. Additionally, he is
eligible to receive a bonus equal to 7% of Continucare's earnings before
interest, taxes, depreciation and amortization in excess of $3 million for the
fiscal year. The agreement may be terminated by either party with or without
cause upon 60 days notice prior to an anniversary date of the agreement.
Pursuant to the terms of his agreement, Mr. Angel is prohibited from competing
with Continucare for a one year period following his termination of his
employment with Continucare. In the event that Mr. Angel is terminated without
cause, Mr. Angel is entitled to his base salary through the end of the term of
the agreement and any unpaid accrued bonus.
Mr. Fernandez's employment agreement was for a term of three years plus
one additional year for each year of service and became effective on September
11, 1996, and provided for an annual base salary of $350,000 and a bonus of
$100,000 payable in 20 equal installments of $5,000 over the first five years of
such agreement. In June 1999 Mr. Fernandez voluntarily reduced his annual salary
to $275,000. In October 1999 Mr. Fernandez entered into an employment
modification agreement which provided for the further reduction in Mr.
Fernandez's annual salary to $250,000 and a performance bonus for the fiscal
year commencing July 1, 1999, to equal 5% of Continucare's earnings before
interest, taxes, depreciation and amortization ("EBITDA") in excess of $3
million for the fiscal year. His modified employment agreement provides that if
Mr. Fernandez was terminated without cause, Mr. Fernandez was entitled to
receive his base salary for one year after his termination. Pursuant to the
terms of his modified agreement, Mr. Fernandez was prohibited from competing
with Continucare for a period of six months following his termination, unless
terminated without cause. Mr. Fernandez resigned from his position as President
and Chief Executive Officer of Continucare in November 1999 in order to take the
position of president and chief executive officer of Big City Radio, a New York
company that owns and operates a network of radio stations. Upon his
resignation, his employment agreement was modified to provide for an annual
salary of $50,000, payable during his term as Chairman of the Board of
Directors.
Ms. Tarbe's employment agreement, as amended, was effective until
August 24, 2001, and provided for an annual base salary of $185,000 and a bonus
as may be determined by the Chairman and approved by the Board. Under the terms
of Ms. Tarbe's employment agreement, she received an option to purchase 100,000
shares of the Company at $5.00 per share. Upon a change in control of the
Company, Ms. Tarbe was entitled to an acceleration of the remainder of her
employment agreement and automatic vesting of any unvested portion of her
aforementioned option. Ms. Tarbe resigned from Continucare in September 1999 in
order to pursue other business interests, at which time her employment agreement
was terminated. Ms. Tarbe received $50,000 in severance payments.
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46
Dr. Gaylis' employment agreement was for a period of four years
commencing April, 1997, and provided for an annual base salary of $450,000
renewable at the sole discretion of the Company, subject to adjustment upon
certain conditions. Under the terms of Dr. Gaylis' employment agreement, Dr.
Gaylis was entitled to annual incentive compensation of 50% of EBITDA derived
from his professional services at designated offices where EBITDA is in excess
of $365,000. Dr. Gaylis is prohibited from competing with the Company and
soliciting any employee or contractor of the Company for the duration of his
employment agreement and for a period of two years thereafter. Additionally, Dr.
Gaylis is prohibited from disclosing confidential information. Dr. Gaylis
resigned from Continucare in March 1999 in order to pursue other business
interests, at which time his employment agreement was terminated.
Mr. Altman's employment agreement was for a period of two years
commencing on August 24, 1998 and provided for an annual base salary of $160,000
and a bonus equal to at least 10% of his base salary and any additional bonus as
may have been determined by the compensation committee. Under the terms of Mr.
Altman's employment agreement, he received an option to purchase 62,500 shares
of common stock at a $5.125 exercise price. Upon a change of control, Mr. Altman
was entitled to an acceleration of the remainder of his employment agreement, up
to a maximum of one year salary and the automatic vesting of the stock option.
Mr. Altman resigned from Continucare in April 1999 in order to pursue other
business interests, at which time his employment agreement was terminated.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
Dr. Phillip Frost, Chairman of our compensation committee, is also a
director and executive officer of IVAX Corporation. Mr. Fernandez serves on the
Board of Directors of IVAX Corporation. During fiscal 1999, Mr. Fernandez served
on the board of directors of Frost Hanna Capital Group, Inc. Mark Hanna,
President and a director of Frost Hanna Capital Group, Inc., served on our
compensation committee in fiscal 1999 until his resignation in February 1999.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth certain information as of December 27,
1999 concerning the beneficial ownership of the common stock by (i) each person
known by Continucare to be the beneficial owner of more than 5% of the
outstanding common stock, (ii) each of the directors and director nominees who
own our shares, (iii) Named Executive Officers (as defined hereafter), and (iv)
all of our executive officers and directors as a group. All holders listed below
have sole voting power and investment power over the shares beneficially owned
by them, except to the extent such power may be shared with such person's
spouse.
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47
NAME AND ADDRESS AMOUNT AND NATURE OF PERCENT OF
OF BENEFICIAL OWNER BENEFICIAL OWNERSHIP(1) COMMON STOCK(2)
- --------------------------------------------- ------------------------ ---------------
Charles M. Fernandez 1,454,167(3) 9.8%
80 S.W. 8th Street
Miami, FL 33131
Spencer J. Angel 200,800(4) 1.4
80 S.W. 8th Street
Miami, FL 33131
Dr. Phillip Frost 2,549,533(5) 16.3
4400 Biscayne Boulevard
Miami, FL 33137
Neil Flanzraich 0 0
4400 Biscayne Boulevard
Miami, FL 33137
Carlos E. Padron 10,000 *
338 Minorca Avenue
Coral Gables, FL 33134
Strategic Investment Partners, Ltd. 2,250,000(6) 15.3
Kaya Flamboyan 9
Willemstad, Curacao
Netherlands Antilles
Franklin Resources, Inc. 2,620,607(7) 15.1
777 Mariners Island Boulevard
San Mateo, CA
Pecks Management Partners Ltd. 1,862,069(7) 11.2
One Rockefeller Plaza
Suite 900
New York, NY
All directors and executive officers 4,214,500(8) 28.2
as a group (6 persons)
- --------------------
* Less than one percent.
(1) For purposes of this table, beneficial ownership is computed pursuant to
Rule 13d-3 under the Exchange Act; the inclusion of shares as beneficially
owned should not be construed as an admission that such shares are
beneficially owned for purposes of the Exchange Act. Under the rules of the
Securities and Exchange Commission, a person is deemed to be a "beneficial
owner" of a security he or she has or shares the power to vote or direct
the voting of such security or the power to dispose of or direct the
disposition of such security. Accordingly, more than one person may be
deemed to be a beneficial owner of the same security.
(2) Based on 14,740,091 shares outstanding as of December 27, 1999.
(3) Includes (i) 1,316,667 shares of Common Stock are owned of record by the
Fernandez Family Limited Partnership, (ii) 27,500 shares held directly by
Mr. Fernandez and (iii) 110,000 shares of Common Stock underlying options
granted that are currently exercisable.
(4) Includes (i) 800 shares held by Arkangel, Inc. and (ii) 200,000 shares held
by Harter Financial, Inc.
(5) Based on the most recent Schedule 13D, includes (i) shares owed
beneficially through Frost Nevada Limited Partnership and Frost-Nevada
Corporation and (ii) 75,000 shares of common stock underlying options
granted that are currently exercisable.
(6) Based on the most recent Schedule 13D, beneficial ownership of these shares
is shared by (i) Quasar Strategic Partners LDC, (ii) Quantum Industrial
Partners LDC, (iii) QIH Management Advisor, L.P., (iv) QIH Management,
Inc., (v) Soros Fund Management LLC, (vi) Mr. Stanley F. Druckenmiller and
(vii) Mr. George Soros.
(7) Represents shares of Common Stock that may be issued upon the conversion
(at a conversion price of $7.25) of 8% Convertible Subordinated Notes due
2002 issued by the Company on October 30, 1997. Share information based on
the most recent Schedule 13G.
(8) Includes 185,000 shares of Common Stock underlying options granted that are
currently exercisable.
In connection with the restructuring of the Company's convertible
subordinated notes as described in Proposal No. 2, Continucare will be issuing
15,500,000 shares of common stock to the noteholders and 3,000,000 shares of
common stock to the guarantors of Continucare's financing. The table above does
not give effect to the issuance of these additional shares. See "Restructuring
Overview" in Proposal No. 2.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
CERTAIN TRANSACTIONS
In May 1999 the Company entered into an agreement with Harter
Financial, Inc. ("Harter") to assist it with a financial reorganization and to
represent the Company in negotiating the restructuring of the Notes and a
settlement with the noteholders. As compensation for its services, Harter
received an initial fee of $50,000 on May 18, 1999. On October 18, 1999, the
Board of Directors approved a final compensation package to be paid to Harter
consisting of a cash payment of $150,000 and the issuance of 200,000
unregistered shares of the Company's common stock, which were valued at $112,500
based on the closing price of the Company's stock on the date of grant. Mr.
Angel, the Company's president and CEO is also the president and a 15%
shareholder of Harter. However, as of May 18, 1999, Mr. Angel was not an officer
or director of the Company.
47
48
In April 1999 the Company sold substantially all of the assets of Rehab
Management Systems, Inc., Integracare, Inc., J.R. Rehab Associates, Inc. and
Continucare Occmed Services, Inc. to Kessler Rehabilitation of Florida, Inc.
("Kessler") for $5,500,000. Mr. Looloian, a director of the Company during
fiscal 1999, was also a director of Kessler at the time of the sale.
In February 1997, the Company entered into an agreement with Bally
Total Fitness ("Bally"), relating to the establishment of outpatient
rehabilitation centers at Bally fitness centers. During the fiscal year ended
June 30, 1999, the Company earned $381,000 in management fees from Bally and, as
of June 30, 1999, $760,442 was included in accounts receivable for these
services. The Bally agreement was terminated in April 1999. Mr. Looloian, a
director of the Company during fiscal 1999 is an affiliate of Bally.
On April 10, 1997, the Company, through Continucare Physician Practice
Management, Inc., a wholly owned subsidiary, acquired all of the outstanding
stock of certain arthritis rehabilitation centers and affiliated physician
practices, including practices (the "Practices') affiliated with Norman G.
Gaylis, M.D., a former executive officer of the Company. In connection with the
acquisition, the Company entered into a management agreement with ZAG Group,
Inc. ("ZAG"). Dr. Gaylis owns a 33.3% interest in ZAG and is an officer of ZAG.
Pursuant to the management agreement, ZAG agreed to provide services to
Continucare Physician Practice Management, Inc., a subsidiary of Continucare
(the "Subsidiary"), including the following: (i) manage and monitor the
Subsidiary's inpatient, outpatient and other muscular-skeletal programs and all
operations, policies and procedures relating thereto; (ii) assist with the
recruitment and hiring of clinical and administrative staff for each program
and/or physician practice owned and/or managed by the Subsidiary and monitor the
Subsidiary's personnel needs; (iii) furnish various services and recommendations
related to the fiscal operation of the Subsidiary; (iv) assist the Subsidiary in
working with governmental agencies, third party payors and others to maintain
existing and secure any additional necessary licenses, certification, permits,
approvals, and reimbursement; (v) provide consultation to assist the Subsidiary
in achieving efficient operation and compliance; and (vi) identify acquisition
targets that satisfy the Subsidiary's quality, financial, geographic and other
standards and the negotiation of such acquisitions up to the letter of intent.
In consideration of the management services, the ZAG Group was paid an hourly
rate, not to exceed $200,000 in the aggregate for the 12-month period ended
March 31, 1998, and not to exceed $400,000 in the aggregate for the 12-month
period ended March 31, 1999.
In addition, the Company entered into a put/call agreement with ZAG,
which allowed each of the parties to require the other party, after a two-year
period, to either sell or purchase all the issued and outstanding capital stock
of ZAG for a specified price to be paid in a combination of cash and common
stock of the Company. In September 1998, the Company paid approximately
$2,000,000 to ZAG in connection with an Agreement and Plan of Merger executed
between the Company and ZAG which effectively canceled the put/call agreement.
Cash of $115,000 was paid and the remaining $1,885,000 was paid by issuing
575,000 unregistered shares of the Company's common stock with a fair market
value of approximately $1,600,000 on the date of issuance. However, in the event
that the common stock issued does not have an aggregate fair market value of
approximately $1,885,000 on October 15, 1999, the Agreement and Plan of Merger
provided that the Company shall pay additional cash consideration or issue
additional shares of its common stock so that the aggregate value of the stock
issued is approximately $1,885,000. Based on the current market price of the
Company's common stock, additional consideration of approximately $1,600,000 in
cash, or approximately 2,352,000 shares of the Company's common stock, would
have to be issued. However, as noted below, this additional consideration has
not been paid and is in dispute.
In November 1999, the Company commenced litigation against ZAG and its
affiliated parties alleging breach of fiduciary duties, improper billing, return
of all consideration previously paid by the Company to ZAG, and damages, as well
as seeking rescission of the Agreement and Plan of Merger. If the action is
unsuccessful Continucare may be required to pay in excess of $1,600,000 of
additional consideration, in the form of either cash or stock, representing the
difference between $1,885,000 and the fair market value of the 575,000 shares of
Continucare common stock previously issued to ZAG in connection with the
Agreement and Plan of Merger.
48
49
As part of the Company's business rationalization program, in April
1999, the Company transferred to Dr. Gaylis certain of the assets and
liabilities of Continucare Physician Practice Management, Inc.'s ("CPPM")
Specialty Physician Practices. These assets included one physician practice (or
25% of the total physician practices held by the Company prior to this
transaction), which operated from two locations. The physician practice
transferred to Dr. Gaylis accounted for 37.3% of the Company's Specialty
Physician Practices' fiscal 1998 revenue and 21.0% of the Specialty Physician
Practices' fiscal 1999 total revenue.
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PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
(a)(1) Financial Statements
Reference is made to the Index set forth on Page F-1 of this
Annual Report on Form 10-K.
(a)(2) Financial Statement Schedules
All schedules have been omitted because they are inapplicable
or the information is provided in the consolidated financial
statements, including the notes hereto.
(a)(3) Exhibits
3.1 Restated Articles of Incorporation of Company, as amended. (4)
3.2 Restated Bylaws of Company. (4)
4.1 Form of certificate evidencing shares of Common Stock. (4)
4.2 Indenture, dated as of October 30, 1997, between the
Company and American Stock Transfer & Trust Company, as
Trustee, relating to 8% Convertible Subordinated Notes due
2002. (9)
4.3 Registration Rights Agreement, dated as of October 30, 1997, by and between the Company and
Loewenbaum & Company Incorporated. (9)
4.4 Continucare Corporation Amended and Restated 1995 Stock Option Plan (11)
10.1 Employment Agreement between the Company and Charles M. Fernandez dated as of September 11,
1996. (2)
10.2 Employment Agreement between the Company and Susan Tarbe dated as of September 23, 1996. (3)
10.3 Agreement and Plan of Merger by and among Continucare Corporation, Zanart Entertainment
Incorporated and Zanart Subsidiary, Inc. dated August 9, 1996. (1)
10.4 Stock Purchase Agreement dated April 10, 1997 by and among Continucare Corporation,
Continucare Physician Practice Management, Inc., AARDS, Inc. and Sheridan Healthcorp. Inc.
(6)
10.5 Stock Purchase Agreement dated April 10, 1997 by and among Continucare Corporation,
Continucare Physician Practice Management, Inc., Rosenbaum, Weitz & Ritter, Inc. and
Sheridan Healthcorp, Inc. (6)
10.6 Stock Purchase Agreement dated April 10, 1997 by and among Continucare Corporation,
Continucare Medical Management, Inc., Arthritis & Rheumatic Disease Specialties, Inc. and
Sheridan Healthcare, Inc. (6)
10.7 Acquisition Facility ($3,000,000), Revolving Credit Facility ($2,000,000) and Security Agreement
among Continucare Corporation, Borrower and First Union National
Bank of Florida, dated November 14, 1996, as amended on
March 4, 1997. (7)
10.8 Lease Agreement, dated as of the 29th day of August 1996, between Miami Tower Associates
Limited Partnership and Continucare Corporation, as amended. (8)
10.9 Physician Employment Agreement, dated as of the 10th day of April, 1997, by and between
Arthritis and Rheumatic Disease Specialties, Inc. and Norman Gaylis, M.D. (8)
10.10 First Amendment, dated as of the 17th day of September, 1997, to Employment Agreement, dated
August 23, 1996, between the Company and Susan Tarbe. (8)
10.11 Employment Agreement, dated as of the 20th day of October, 1997, by and between Continucare
Corporation and Joseph P. Abood. (8)
10.12 Placement Agreement, dated as of October 27, 1997, between the Company and Loewenbaum &
Company Incorporated (the "Placement Agent"). (9)
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51
10.13 Purchase Agreement, dated as of September 4, 1997, by and among Continucare Corporation,
Continucare Physician Practice Management, Inc., a wholly owned subsidiary of Continucare
Corporation, DHG Enterprises, Inc. f/k/a Doctor's Health Group, Inc. and Doctor's Health
Partnership, Inc., both Florida corporations, and Claudio Alvarez and Yvonne Alvarez. (10)
10.14 Stock Purchase Agreement, dated as of February 13, 1998, by and among Continucare
Corporation, Continucare Rehabilitation Services, Inc., Integrated Health Services, Inc.,
Rehab Management Systems, Inc., IntegraCare, Inc. and J.R. Rehab Associates, Inc. (12)
10.15 Asset Purchase Agreement, dated as of April 7, 1998, by and among: (i) SPI Managed Care, Inc.,
SPI Managed Care of Hillsborough County, Inc., SPI Managed Care of Broward, Inc., Broward Managed
Care, Inc., each a Florida corporation; (ii) First Medical Corporation, a Delaware corporation and
First Medical Group, Inc., a Delaware corporation; and (iii) CNU Acquisition Corporation, a Florida
corporation. (13) and (15)
10.16 Asset Purchase Agreement, dated as of August 18, 1998, by and among: (i) Caremed Health Systems,
Inc.; (ii) Caremed Medical Management, Inc.; Caremed Health Administrators, Inc., each a Florida
corporation; and (iii) Continucare Managed Care, Inc., a Florida corporation. (16)
10.17 Asset Purchase Agreement, dated April 7, 1999, by and among: (i) Kessler Rehabilitation of
Florida, Inc., a Florida Corporation; Rehab Management Systems, Inc., a Florida Corporation;
Continucare Occmed Services, Inc., a Florida Corporation; and Continucare Corporation, a
Florida Corporation. (17)
10.18 Second Amendment To Acquisition Facility, revolving Credit Facility and Security Agreement
among Continucare Corporation, Borrower and First Union National Bank of Florida, dated
April 7, 1999 (19) (Exhibit 10.18).
10.19 Lease Termination Agreement as of the 28th day of June 1999, between NOP 100 2nd Street Tower, LLC
(Assignee in interest of Miami Tower Associates Limited Partnership) and Continucare Corporation.
(19) (Exhibit 10.19)
10.20 Second Amendment to Employment Agreement between Charles M. Fernandez and the Company,
entered into as of the 1st day of November 1999 (20)
10.21 First Amendment to Employment Agreement between Spencer J. Angel and the Company, entered
into as of the 1st day of November, 1999 (20)
21.1 Subsidiaries of the Company. (19) (Exhibit 21.1)
23.1 Consent of Ernst & Young LLP (19) (Exhibit 23.1)
23.2 Consent of Deloitte & Touche LLP (19) (Exhibit 23.2)
27.1 Financial Data Schedule (19) (Exhibit 27.1)
99.1 Notification of failure to make the April 30, 1999 semi-annual payment of interest on its 8%
Convertible Subordinated Notes Payable due 2002. (18)
Documents incorporated by reference to the indicated exhibit to the following
filings by the Company under the Securities Act of 1933, as amended, or the
Securities Exchange Act of 1934.
(1) Current Report Form 8-K dated August 9, 1996.
(2) Form 10-KSB filed with the Commission on September 30, 1996.
(3) Form 10-KSB filed with the Commission on October 21, 1996.
(4) Post Effective Amendment No. 1 to the Registration Statement on SB-2 on
Form S-3 Registration Statement filed on October 29, 1996.
(5) Form 8-K/A filed with the Commission on December 3, 1996.
(6) Form 8-K filed with the Commission on April 25, 1997.
(7) Form 10-KSB for the fiscal year ended June 30, 1997, filed with the
Commission on September 29, 1997.
(8) Form 10-KSB/A for the fiscal year ended June 30, 1997, filed with the
Commission on October 28, 1997.
(9) Form 8-K dated October 30, 1997 and filed with the Commission on November
13, 1997.
(10) Form 8-K dated October 31, 1997 and filed with the Commission on November
13, 1997.
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52
(11) Schedule 14A dated December 26, 1997 and filed with the Commission on
December 30, 1997.
(12) Form 8-K dated February 13, 1998 and filed with the Commission on February
26, 1997.
(13) Form 8-K dated April 14, 1998 and filed with the Commission on April 27,
1998.
(14) Form 8-K dated May 6, 1998 and filed with the Commission on May 11, 1998.
(15) Form 8-K/A dated May 11, 1998 and filed with the Commission on May 15,
1998.
(16) Form 8-K dated and filed with the Commission on September 2, 1998.
(17) Form 8-K dated April 21, 1999 and filed with the Commission on April 23,
1999.
(18) Form 8-K dated April 30, 1999 and filed with the Commission on May 3, 1999.
(19) Form 10-K dated October 13, 1999 and filed with the Commission on October
13, 1999.
(20) Filed herein.
(b) Reports on Form 8-K
There were two reports on Form 8-K filed with the Securities and
Exchange commission ("SEC") in the fourth quarter of Fiscal 1999. Form
8-K was filed on April 23, 1999 regarding the sale of substantially all
of the assets of Rehab Management Systems, Inc., a Florida Corporation
to Kessler Rehabilitation of Florida, Inc., a Florida Corporation. Form
8-K was filed on May 3, 1999 regarding the Company's failure to make
the April 30, 1999 semi-annual payment of interest on its Subordinated
Notes Payable.
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53
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
CONTINUCARE CORPORATION
By: /s/ SPENCER J. ANGEL
--------------------------------------------
SPENCER J. ANGEL
Chief Executive Officer, Chief Operating
Officer and President
Dated: January 20, 2000
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, this report has been signed below by the following persons
on behalf of the registrant and in the capacities and on the dates indicated.
SIGNATURE TITLE DATE
--------- ----- ----
/s/ SPENCER ANGEL
- -------------------------------------- President, Chief Executive Officer, Chief January 20, 2000
Spencer Angel Operating Officer and Director
(Principal Executive Officer)
/s/ JANET HOLT
- -------------------------------------- Chief Financial Officer January 20, 2000
Janet Holt (Principal Accounting Officer and
Principal Financial Officer)
/s/ CHARLES M. FERNANDEZ Chairman of the Board January 20, 2000
- --------------------------------------
Charles M. Fernandez
/s/ PHILLIP FROST, M.D. Vice Chairman of the Board January 20, 2000
- --------------------------------------
Phillip Frost, M.D.
/s/ NEIL FLANZRAICH
- -------------------------------------- Director January 20, 2000
Neil Flanzraich
/s/ CARLOS E. PADRON
- -------------------------------------- Director January 20, 2000
Carlos E. Padron
53
54
INDEX TO FINANCIAL STATEMENTS
PAGE
-----
Report of Independent Certified Public Accountants........................................ F-2
Independent Auditors' Report.............................................................. F-3
Consolidated Balance Sheets as of June 30, 1999 and 1998.................................. F-4
Consolidated Statements of Operations for the years ended June 30, 1999, 1998
and 1997............................................................................. F-5
Consolidated Statements of Shareholders' (Deficit) Equity for the years ended
June 30, 1999, 1998 and 1997......................................................... F-6
Consolidated Statements of Cash Flows for the years ended June 30, 1999, 1998
and 1997............................................................................. F-7
Notes to Consolidated Financial Statements................................................ F-9
F-1
55
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Board of Directors
Continucare Corporation and Subsidiaries:
We have audited the accompanying consolidated balance sheets of
Continucare Corporation and subsidiaries as of June 30, 1999 and 1998, and the
related consolidated statements of operations, shareholders' equity (deficit)
and cash flows for the years then ended. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
Continucare Corporation and subsidiaries at June 30, 1999 and 1998 and the
consolidated results of their operations and their cash flows for the years then
ended in conformity with generally accepted accounting principles.
The accompanying consolidated financial statements have been prepared
assuming that Continucare Corporation and subsidiaries will continue as a going
concern. As more fully described in Note 1, the Company has incurred recurring
operating losses and has a working capital deficiency. In addition, the Company
has not complied with certain covenants of loan agreements with lenders. These
conditions raise substantial doubt about the Company's ability to continue as a
going concern. Management's plans in regards to these matters are also described
in Note 1. The consolidated financial statements do not include any adjustments
to reflect the possible future effects on the recoverability and classification
of assets or the amounts and classification of liabilities that may result from
the outcome of this uncertainty.
ERNST & YOUNG LLP
Miami, Florida
October 6, 1999, except for the third paragraph of Note 3,
as to which the date is November 15, 1999
F-2
56
INDEPENDENT AUDITORS' REPORT
To the Board of Directors of
Continucare Corporation and Subsidiaries:
We have audited the accompanying consolidated statement of operations
of Continucare Corporation and subsidiaries (the "Company") for the year ended
June 30, 1997 and the related consolidated statement of shareholders' equity and
cash flows for the year ended June 30, 1997. These consolidated financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present
fairly, in all material respects, the results of operations of the Company and
its cash flows for the year ended June 30, 1997 in conformity with generally
accepted accounting principles.
Deloitte & Touche LLP
Miami, Florida
September 23, 1997
F-3
57
CONTINUCARE CORPORATION
CONSOLIDATED BALANCE SHEETS
JUNE 30,
----------------------------------
ASSETS 1999 1998
-------------- -----------------
Current assets
Cash and cash equivalents........................................................... $ 3,185,077 $ 7,435,724
Accounts receivable, net of allowance for doubtful accounts of $5,752,000 and
$2,071,000, respectively.......................................................... 302,166 9,009,462
Other receivables................................................................... 266,057 1,091,744
Prepaid expenses and other current assets........................................... 298,899 595,086
Income taxes receivable............................................................. -- 1,800,000
------------ ------------
Total current assets.............................................................. 4,052,199 19,932,016
Notes receivable, net of allowance for doubtful accounts of $7,051,000 and
$5,510,000, respectively............................................................ -- 1,644,420
Equipment, furniture and leasehold improvements, net................................... 1,098,289 5,496,025
Cost in excess of net tangible assets acquired, net of accumulated amortization of
$3,837,000 and $2,252,000 respectively.............................................. 22,346,156 38,621,561
Deferred financing costs, net of accumulated amortization of $1,203,000 and
$400,000, respectively.............................................................. 2,551,811 3,373,999
Other assets, net...................................................................... 69,165 418,084
------------ ------------
Total assets...................................................................... $30,117,620 $69,486,105
============ ============
LIABILITIES AND SHAREHOLDERS' (DEFICIT) EQUITY
Current liabilities
Accounts payable.................................................................... $ 842,442 $ 816,844
Accrued expenses.................................................................... 2,358,346 2,593,493
Accrued salaries and benefits....................................................... 1,856,140 2,629,660
Medical claims payable.............................................................. 4,825,081 966,251
Convertible subordinated notes payable.............................................. 45,000,000 -
Current portion of long-term debt................................................... 6,857,946 850,000
Accrued interest payable............................................................ 2,400,022 623,556
Current portion of capital lease obligations........................................ 112,652 328,295
------------ ------------
Total current liabilities......................................................... 64,252,629 8,808,099
Deferred tax liability................................................................. -- 954,894
Capital lease obligations, less current portion........................................ 123,436 496,766
Convertible subordinated notes payable................................................. -- 46,000,000
Long-term debt, less current portion................................................... 1,396,753 --
------------ ------------
Total liabilities................................................................. 65,772,818 56,259,759
Commitments and contingencies
Shareholders' (deficit) equity
Common stock, $0.0001 par value: 100,000,000 shares authorized; 17,536,283
shares issued and 14,540,091 shares outstanding at June 30, 1999; and
16,661,283 shares issued and 13,731,283 shares outstanding at June 30, 1998....... 1,455 1,374
Additional paid-in capital.......................................................... 32,910,465 31,099,303
Accumulated deficit................................................................. (63,142,417) (12,631,651)
Treasury stock (2,996,192 shares at June 30, 1999 and 2,930,000 shares at
June 30, 1998).................................................................... (5,424,701) (5,242,680)
------------ ------------
Total shareholders' (deficit) equity ............................................. (35,655,198) 13,226,346
------------ ------------
Total liabilities and shareholders' (deficit) equity ............................. $30,117,620 $69,486,105
============ ============
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
CONSOLIDATED FINANCIAL STATEMENTS.
F-4
58
CONTINUCARE CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEAR ENDED JUNE 30,
-------------------------------------- ------------------
1999 1998 1997
-------------------------------------- ------------------
Revenue
Medical services, net................................... $182,008,710 $ 63,088,911 $ 1,041,793
Management fees......................................... 518,042 2,495,382 12,874,592
------------ ------------ ------------
Subtotal.............................................. 182,526,752 65,584,293 13,916,385
Expenses
Medical services........................................ 163,237,820 54,695,446 4,493,195
Payroll and employee benefits........................... 13,797,555 5,714,653 1,855,000
Provision for bad debts................................. 6,196,384 5,778,216 1,818,293
Professional fees....................................... 1,886,661 1,637,957 1,450,790
General and administrative.............................. 10,198,385 8,435,001 1,176,516
Write down of long-lived assets......................... 11,717,073 -- --
Loss on disposal of subsidiaries........................ 15,361,292 -- --
Depreciation and amortization........................... 5,791,982 3,247,717 208,936
------------ ------------ ------------
Subtotal.............................................. 228,187,152 79,508,990 11,002,730
------------ ------------ ------------
(Loss) income from operations................................ (45,660,400) (13,924,697) 2,913,655
Other income (expense)
Interest income........................................... 138,963 932,397 165,253
Interest expense.......................................... (5,145,212) (3,007,331) (162,235)
Other..................................................... 24,906 107,696 (9,081)
------------ ------------ ------------
(Loss) income before income taxes and extraordinary item..... (50,641,743) (15,891,935) 2,907,592
(Benefit) provision for income taxes......................... -- (909,000) 1,200,917
------------ ------------ ------------
(Loss) income before extraordinary items..................... (50,641,743) (14,982,935) 1,706,675
Extraordinary gain on extinguishment of debt................. 130,977 -- --
------------ ------------ ------------
Net (loss) income............................................ $ (50,510,766) $(14,982,935) $ 1,706,675
============ ============ ============
Basic and diluted (loss) earnings per common share:
(Loss) income before extraordinary item................... $ (3.50) $ (1.20) $ .16
Extraordinary gain on extinguishment of debt.............. .01 -- --
------------ ------------ ------------
Net (loss) income......................................... $ (3.49) $ (1.20) $ .16
============ ============ ============
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
CONSOLIDATED FINANCIAL STATEMENTS.
F-5
59
CONTINUCARE CORPORATION
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' (DEFICIT) EQUITY
RETAINED TOTAL
ADDITIONAL EARNINGS SHAREHOLDERS'
COMMON PAID-IN (ACCUMULATED TREASURY EQUITY
STOCK CAPITAL DEFICIT) STOCK (DEFICIT)
------------- -------------- ------------- ------------- --------------
Balance at July 1, 1996 .................... $ 667 $ 763,202 $ 644,609 $ -- $ 1,408,478
Issuance of stock related to private
placement, net of costs ................. 330 6,499,670 -- -- 6,500,000
Issuance of stock/merger with Zanart, net
of merger costs ......................... 290 1,845,428 -- -- 1,845,718
Exercise of stock warrants ................. 91 5,441,584 -- -- 5,441,675
Buyout of minority interest
in subsidiary ........................... 4 -- -- -- 4
Repurchase of stock ........................ (293) -- -- (2,284,330) (2,284,623)
Net income ................................. -- -- 1,706,675 -- 1,706,675
------------ ------------ ------------ ------------ ------------
Balance at June 30, 1997 ................... 1,089 14,549,884 2,351,284 (2,284,330) 14,617,927
Issuance of stock related to Doctors Health
Group ................................... 25 2,311,294 -- -- 2,311,319
Issuance of stock related to other
acquisitions............................. 8 401,277 -- -- 401,285
Issuance of stock related to private
placement, net of costs ................. 225 10,574,775 -- -- 10,575,000
Exercise of stock warrants and options ..... 27 1,101,973 -- -- 1,102,000
Settlement of former shareholder claim ..... -- 1,385,100 -- (2,958,350) (1,573,250)
Issuance of stock warrants ................. -- 775,000 -- -- 775,000
Net loss ................................... -- -- (14,982,935) -- (14,982,935)
------------ ------------ ------------ ------------ ------------
Balance at June 30, 1998 ................... 1,374 31,099,303 (12,631,651) (5,242,680) 13,226,346
Receipt of stock in settlement of receivable (7) -- -- (182,021) (182,028)
Issuance of stock for settlement of former
shareholder claim ....................... 30 (30) -- -- --
Issuance of stock related to ZAG acquisition 58 1,811,192 -- -- 1,811,250
Net loss ................................... -- -- (50,510,766) -- (50,510,766)
------------ ------------ ------------ ------------ ------------
Balance at June 30, 1999 ................... $ 1,455 $ 32,910,465 $(63,142,417) $ (5,424,701) $ (35,655,198)
============ ============ ============ ============ ============
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
CONSOLIDATED FINANCIAL STATEMENTS.
F-6
60
CONTINUCARE CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEAR ENDED JUNE 30,
------------------------------------------
1999 1998 1997
---------- ---------- ----------
CASH FLOWS FROM OPERATING ACTIVITIES
Net (loss) income .......................................................... $(50,510,766) $(14,982,935) $ 1,706,675
Adjustments to reconcile net (loss) income to cash used in
operating activities:
Depreciation and amortization, including amortization of
deferred loan costs .................................................. 6,705,221 3,648,581 208,936
Provision for bad debts ................................................. 4,656,384 1,953,013 1,818,293
Write down of long-lived assets ......................................... 11,717,073 -- --
Loss on purchase of minority interest ................................... -- -- 9,081
Income applicable to minority interest .................................. -- -- 162,235
Provision for notes receivable .......................................... 1,540,000 3,825,219 --
Loss on treasury stock transaction ...................................... -- 426,750 --
Loss on disposal of subsidiaries ........................................ 15,361,292 -- --
Amortization of discount on notes payable ............................... 254,531 -- --
Gain on early extinguishment of debt .................................... (130,977) -- --
Compensation expense on exercise of warrants ............................ -- 212,500 --
Changes in assets and liabilities, excluding the effect of acquisitions and
disposals:
Decrease (increase) in accounts receivable .............................. 3,044,990 (3,615,007) (2,031,859)
Decrease (increase) in prepaid expenses and other current assets ........ 191,644 127,467 (368,373)
Decrease (increase) in other receivables ................................ (221,092) (2,891,744) (5,000,000)
Decrease in income tax receivable ....................................... 1,800,000 -- --
Increase in intangible assets ........................................... 75,674 -- (249,063)
Decrease (increase) in other assets ..................................... 24,141 (206,662) (499,402)
Decrease (increase) in deferred tax asset, net .......................... -- 505,699 (450,824)
(Decrease) increase in accounts payable and accrued expenses ............ (1,516,093) 2,311,647 813,681
Increase in medical claims payable ...................................... 3,858,831 -- --
Increase in accrued interest payable .................................... 1,776,466 586,261 14,134
(Decrease) increase in income and other taxes payable ................... -- (693,709) 199,179
---------- ---------- ----------
Net cash used in operating activities ......................................... (1,372,681) (8,792,920) (3,667,307)
---------- ---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES
Cash proceeds from disposal of subsidiaries ................................ 5,642,216 -- --
Cash paid for acquisitions ................................................. (4,640,000) (37,972,997) (3,342,500)
Property and equipment additions ........................................... (751,708) (1,006,706) (536,091)
---------- ---------- ----------
Net cash provided by (used in) investing activities ........................... 250,508 (38,979,703) (3,878,591)
---------- ---------- ----------
(CONTINUED ON NEXT PAGE).
F-7
61
CONTINUCARE CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
FOR THE YEAR ENDED JUNE 30,
--------------------------------------------
1999 1998 1997
------------ ------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES
Payments to redeem Convertible Subordinated Notes ................... $ (720,000) $ (2,000,000) $ (2,284,623)
Issuance of common stock to purchase minority interest .............. -- -- (204,000)
Principal repayments under capital lease obligation ................. (247,619) (254,233) (27,105)
Proceeds received from private placement of common stock ............ -- 10,575,000 6,600,000
Payments on acquisition notes ....................................... (1,475,000) (892,500) --
Costs incurred associated with Convertible Subordinated Notes ....... -- (3,000,000) --
Proceeds from acceleration of Series A Warrants ..................... -- -- 5,441,675
Proceeds from Convertible Subordinated Notes ........................ -- 46,000,000 --
Proceeds from Term and Revolving Notes .............................. 5,000,000 2,500,000 2,500,000
Costs incurred associated with Term and Revolving Notes ............. (161,051) -- --
Proceeds from issuance of common stock .............................. -- 889,500 1,970,715
Repayment of loan from HCMP ......................................... -- -- (55,250)
Repayment of Term and Revolving Notes ............................... (3,935,745) (5,000,000) --
Repayments to Medicare per agreement ................................ (1,736,579) -- --
Costs incurred associated with Private Placement and Merger ......... -- -- (225,000)
Proceeds from note repayment ........................................ 147,520 -- --
Repayment of shareholder note ....................................... -- (599,000) --
------------ ------------ ------------
Net cash (used in) provided by financing activities .................... (3,128,474) 48,218,767 13,716,412
------------ ------------ ------------
Net (decrease) increase in cash and cash equivalents ................... (4,250,647) 446,144 6,170,514
Cash and cash equivalents at beginning of fiscal year .................. 7,435,724 6,989,580 819,066
------------ ------------ ------------
Cash and cash equivalents at end of fiscal year ........................ $ 3,185,077 $ 7,435,724 $ 6,989,580
============ ============ ============
SCHEDULE OF NONCASH INVESTING AND FINANCING ACTIVITIES:
Cash paid for income taxes............................................. $ -- $ 1,528,445 $ 1,457,000
============ ============ ============
Cash paid for interest ................................................. $ 2,125,895 $ 2,021,070 $ 86,348
============ ============ ============
Notes payable issued for acquisitions .................................. $ 5,819,411 $ -- $ --
============ ============ ============
Receipt of stock in settlement of receivable ........................... $ 182,028 $ -- $ --
============ ============ ============
Stock issued in ZAG acquisition ........................................ $ 1,811,250 $ -- $ --
============ ============ ============
Purchase of furniture and fixtures with proceeds of capital lease
obligation .................................................... $ -- $ -- $ 252,712
============ ============ ============
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
CONSOLIDATED FINANCIAL STATEMENTS.
F-8
62
CONTINUCARE CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - GENERAL
Continucare Corporation ("Continucare" or the "Company") is a provider of
integrated outpatient healthcare and home healthcare services primarily in
Florida. Continucare's predecessor, Zanart Entertainment, Incorporated
("Zanart") was incorporated in 1986. On August 9, 1996, a subsidiary of Zanart
merged into Continucare Corporation (the "Merger"), which was incorporated on
February 1, 1996 as a Florida Corporation ("Old Continucare"). As a result of
the Merger, the shareholders of Old Continucare became shareholders of Zanart,
and Zanart changed its name to Continucare Corporation. As of June 30, 1999 the
Company operated, owned and/or managed: (i) eighteen Staff Model clinics in
South and Central Florida; an Independent Practice Association with 139
physicians; and two Home Health agencies.
Throughout fiscal 1998 and 1999 the Company experienced adverse business
operations, recurring operating losses, negative cash flow from operations, and
a significant working capital deficiency developed. Furthermore, as discussed
below and further in Note 6, the Company was unable to make the interest payment
due April 30, 1999 on the 8% Convertible Subordinated Notes Payable due 2002
(the "Notes"). The Company's operating difficulties have in large part been due
to the underperformance of various entities which were acquired in fiscal years
1999, 1998 and 1997, the inability to effectively integrate and realize
increased profitability through anticipated economies of scale with these
acquisitions, as well as reductions in reimbursement rates under the Balanced
Budget Act of 1997.
The financial statements of the Company have been prepared assuming that the
Company will continue as a going concern. In order to strengthen itself
financially and remain a going concern, the Company, during the past fiscal
year, began divesting itself of certain unprofitable operations and disposing of
other underperforming assets as more fully disclosed in Note 3. On April 30,
1999 (the "Default Date") the Company defaulted on its semi-annual payment of
interest on the Notes. On September 29, 1999 the Company announced an agreement
in principle with the holders of the Notes to enter into a settlement and
restructuring agreement with respect to the remaining $41,000,000 principal
balance and approximately $3,300,000 of interest thereon accrued through October
31, 1999 (the "Debenture Settlement") (see Note 6). The successful completion of
the proposed Debenture Settlement is subject to a number of significant risks
and uncertainties including, but not limited to, the need to draft and execute a
final settlement agreement with the holders of the Notes, the need to enter into
a new credit facility, and the need to obtain shareholder ratification of the
Debenture Settlement prior to December 31, 1999.
To strengthen Continucare financially, since the end of calendar 1998, the
Company has undertaken a business rationalization program (the "Business
Rationalization Program") to divest itself of certain unprofitable operations
and to close other underperforming subsidiary divisions and a financial
restructuring program (the "Financial Restructuring Program") to strengthen its
financial condition and performance as discussed in further detail in Notes 2
and 3. In connection with the implementation of its Business Rationalization
Program, Continucare has sold or closed its Outpatient Rehabilitation
subsidiary, Diagnostic Imaging subsidiary and Physician Practice subsidiary.
These divestitures generated net cash proceeds of approximately $5,642,000
(after the payment of transaction costs and other costs). The Business
Rationalization Program has assisted management with the commencement and
implementation of its Financial Restructuring Program and has allowed the
Company to focus its resources on a core business model. While the Company
believes that the Business Rationalization Program and Financial Restructuring
Program will improve its cash flow and profitability, there can be no assurance
that it will be able to continue implementing any of the necessary programs and,
if implemented, that the programs will improve the Company's cash flow and
profitability sufficiently to fund its operations and satisfy its obligations as
they become due. The rationalization liability associated with these
divestitures relates to operating lease accruals requiring monthly payments
through 2007.
F-9
63
NOTE 2 - SIGNIFICANT ACCOUNTING POLICIES
Cash and Cash Equivalents--The Company defines cash and cash equivalents as
those highly-liquid investments purchased with an original maturity of three
months or less.
Deposits in banks may exceed the amount of insurance provided on such deposits.
The Company performs reviews of the credit worthiness of its depository banks.
The Company has not experienced any losses on its deposits of cash.
Accounts Receivable--Accounts receivable result primarily from medical services
provided to patients on a fee-for-service basis and on a capitated basis and
from hospitals where the Company provides medical services. Fee-for-service
amounts are paid by government sponsored health care programs (primarily
Medicare and Medicaid), insurance companies, self-insured employers and
patients. The accounts receivable balance outstanding at June 30, 1999 is
comprised of the net of $604,000 in patient accounts receivable and $302,000 due
to third party payors.
Accounts receivable include an allowance for contractual adjustments, charity
and other adjustments. Contractual adjustments result from differences between
the rates charged for the service performed and amounts reimbursed under
government sponsored health care programs and insurance contracts. Charity and
other adjustments, which were immaterial for the years ended June 30, 1999, 1998
and 1997, represent services provided to patients for which fees are not
expected to be collected at the time the service is provided. Accounts
receivable are also presented net of intermediary final settlement adjustments.
Equipment, Furniture and Leasehold Improvements--Equipment, furniture and
leasehold improvements are stated at cost. Depreciation is computed using the
straight line method over the estimated useful lives of the related assets,
which range from three to five years. Leasehold improvements are amortized over
the underlying assets' useful lives or the term of the lease, whichever is
shorter. Repairs and maintenance costs are expensed as incurred. Improvements
and replacements are capitalized.
Costs In Excess Of Net Tangible Assets Acquired--Costs in excess of net tangible
assets acquired are stated net of accumulated amortization and are amortized on
a straight-line basis over periods ranging from 2.5 to 20 years. The Company
periodically evaluates the recovery of the carrying amount of costs in excess of
net tangible assets acquired by determining if a permanent impairment has
occurred. Indicators of a permanent impairment include duplication of resources
resulting from acquisitions, instances in which the estimated undiscounted cash
flows of the entity are less than the remaining unamortized balance of the
underlying intangible assets and other factors. The Company believes that
certain of its costs in excess of net tangible assets acquired - primarily those
related to its Independent Practice Association ("IPA") and one of its Home
Health divisions, $9,200,000 and $2,200,000 respectively - have been impaired
based upon recent and anticipated significant cash flow deficiencies. As the net
present value of expected future cash flows for these operating entities were
negative, the following intangible assets were written off during 1999:
Goodwill $ 7,724,000
Identifiable intangibles:
Contract rights 3,159,000
Other, including assembled workforce and tradenames 564,000
Other 270,000
------------
$11,717,000
============
Deferred Financing Costs--Expenses in connection with the Company's issuance of
the 8% Convertible Subordinated Notes due 2002 (see Note 6) have been deferred
and are being amortized using the interest method over the life of the notes.
F-10
64
NOTE 2 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Fair Value of Financial Instruments--The estimated fair values of financial
instruments have been determined by the Company using available market
information and appropriate valuation methods. Considerable judgment is required
in interpreting market data to develop the estimates of fair value. Accordingly,
the estimates presented herein are not necessarily indicative of the amounts the
Company could realize in a current market exchange. The use of different market
assumptions and/or estimation methods may have a material effect on the
estimated fair value amounts. The Company has used the following market
assumptions and/or estimation methods:
CASH AND CASH EQUIVALENTS, ACCOUNTS RECEIVABLE, ACCOUNTS PAYABLE AND
ACCRUED EXPENSES--The carrying values approximate fair value due to the
relatively short maturity of the respective instruments.
CONVERTIBLE SUBORDINATED NOTES PAYABLE--The fair value at June 30, 1999
approximates $2,360,000 based on the proposed terms of the Debenture
Settlement (see Note 6) and at June 30, 1998 the carrying value
approximated fair value based on the terms of the notes.
LONG-TERM DEBT AND CAPITAL LEASE OBLIGATIONS--The carrying value at
June 30, 1999 approximates fair value based on the terms of the
obligations. The Company has imputed interest on non-interest bearing
debt using an incremental borrowing rate of 8%.
Accounting for Stock-Based Compensation--The Company has elected to follow
Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees" ("APB 25") and related Interpretations in accounting for its employee
stock options because the alternative fair value accounting provided for under
Financial Accounting Standards Board (FASB) Statement No. 123, "Accounting for
Stock-Based Compensation" ("Statement 123"), requires use of option valuation
models that were not developed for use in valuing employee stock options. Under
APB 25, when the exercise price of the Company's employee stock options equals
or exceeds the market price of the underlying stock on the date of grant, no
compensation expense is recognized (see Note 11).
Earnings per Share--Basic earnings per share is computed by dividing the net
income or loss by the weighted average common shares outstanding for the period.
Diluted earnings per share reflects the potential dilution that could occur if
securities or other contracts to issue common stock were exercised or converted
into common stock or resulted in the issuance of common stock that then shared
in the earnings of the entity.
Business Segments--The Company adopted SFAS 131, "Disclosures about Segments of
an Enterprise and Related Information" during fiscal 1999. The Company has
concluded that it operates in one segment of business, that of managing the
provision of outpatient health care and health care related services, primarily
in the State of Florida.
Revenue--The Company's health care providers provide service to patients on
either a fee for service arrangement or under a fixed monthly fee arrangement
with HMOs or through contracts directly with the payor. Revenue is recorded in
the period services are rendered as determined by the respective contract.
Management fee revenue represents fees received by the Company to manage
outpatient facilities owned by third parties.
Fee for service arrangements (11% and 33% of medical services net revenue in
fiscal 1999 and 1998, respectively) require the Company to assume the financial
risks relating to payor mix and reimbursement rates. The Company receives
reimbursement for these services under either the Medicare or Medicaid programs
or payments from the individual, insurers, self-funded benefit plans or
third-party payors. The Company is paid based upon established charges, the cost
of providing services, predetermined rates per diagnosis, or discounts from
established charges. Revenue is recorded as an estimated amount, net of
contractual allowances. These accounts, which are unsecured, have longer
collection periods than capitated fee contracts and require the Company to bear
the credit risk of uninsured individuals.
F-11
65
NOTE 2 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Under the Company's contracts with Humana Medical Plans, Inc. ("Humana") and
Foundation Health Corporation ("Foundation", and together with Humana, the
"HMOs"), the Company receives a fixed, monthly fee from the HMOs for each
covered life in exchange for assuming responsibility for the provision of
medical services. Total medical services net revenue related to Foundation
approximated 51% and 38% for fiscal 1999 and 1998, respectively. Total medical
services net revenue relating to Humana approximated 34% and 19% for fiscal 1999
and 1998, respectively. To the extent that patients require more frequent or
expensive care than was anticipated by the Company, revenue to the Company under
a contract may be insufficient to cover the costs of care provided.
When it is probable that expected future health care costs and maintenance costs
under a contract or group of existing contracts will exceed anticipated
capitated revenue on those contracts, the Company recognizes losses on its
prepaid healthcare services with HMOs. No contracts are considered loss
contracts at June 30, 1999 because the Company has the right to terminate
unprofitable physicians and close unprofitable centers under its managed care
contracts.
Approximately 4% and 10% of the Company's medical services net revenue in fiscal
1999 and 1998, respectively, is earned through contracts, which are directly
between the payor (i.e., hospital), and the Company. These contracts provide for
payments to the Company based upon a fixed percentage of the hospital's charges
related to the services provided by the Company to patients of the hospital.
Certain of the Company's services are paid based on a reasonable cost
methodology. The Company is reimbursed for cost reimbursable items at a
tentative rate with final settlement determined after submission of annual cost
reports and audits thereof by the payor. Changes in the estimated settlements
recorded by the Company may be adjusted in future periods as final settlements
are determined.
Revenue from the Medicare and Medicaid programs, accounted for approximately 4%,
50% and 69% of the Company's net patient service revenue for the years ended
June 30, 1999, 1998 and 1997, respectively. Laws and regulations governing the
Medicare and Medicaid programs are complex and subject to interpretation. The
Company believes that it is in compliance with all applicable laws and
regulations and is not aware of any pending or threatened investigations
involving allegations of potential wrongdoing. While no such regulatory
inquiries have been made, compliance with such laws and regulations can be
subject to future government review and interpretation as well as significant
regulatory action including fines, penalties, and exclusion from the Medicare
and Medicaid programs.
Medical Service Expense--The Company contracts with or employs various health
care providers to provide medical services to its patients. Primary care
physicians are compensated on either a salary or capitation basis. For patients
enrolled under capitated managed care contracts, the cost of specialty services
are paid on either a fee for service, per diem or capitation basis.
The cost of health care services provided or contracted for is accrued in the
period in which it is provided. In addition, the Company provides for claims
incurred but not yet reported based on past experience together with current
factors. Estimates are adjusted as changes in these factors occur and such
adjustments are reported in the year of determination. Although considerable
variability is inherent in such estimates, management believes that the amounts
accrued are adequate.
Reinsurance (stop-loss insurance)--Reinsurance premiums are reported as health
care cost which are included in medical service expense in the accompanying
statements of operations, and reinsurance recoveries are reported as a reduction
of related health care costs.
Principles of Consolidation--The consolidated financial statements include the
accounts of the Company, its wholly-owned subsidiaries, and all entities in
which the Company has a greater than 50% voting interest. All significant
intercompany transactions and balances have been eliminated in consolidation.
F-12
66
NOTE 2 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Use of Estimates--The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities at
the date of the financial statements and the reported amounts of revenue and
expenses during the reporting period. Actual results could differ from those
estimates. Changes in the estimates are charged or credited to operations as the
estimates are revised.
Reclassifications--Certain prior year amounts have been reclassified to conform
with the current year presentation.
NOTE 3 - BUSINESS COMBINATIONS AND DISPOSALS
PHYSICIAN PRACTICES
On April 10, 1997, the Company, through Continucare Physician Practice
Management, Inc., ("CPPM") a wholly-owned subsidiary, acquired all of the
outstanding stock of certain arthritis rehabilitation centers and affiliated
physician practices. The acquisitions included the purchase of AARDS, INC., a
Florida corporation formerly known as Norman B. Gaylis, M.D., Inc., of
Rosenbaum, Weitz & Ritter, Inc., a Florida corporation, and of Arthritis &
Rheumatic Disease Specialties, Inc., a Florida corporation, from Sheridan
Healthcare, Inc. (collectively "AARDS") The aggregate purchase price was
approximately $3,300,000. Tangible assets recorded consisted primarily of
receivables and equipment. As a result of the acquisitions, purchase price in
excess of the fair value of the net tangible assets acquired was approximately
$2,149,000 and included approximately $1,173,000 in separately identifiable
intangible assets. Goodwill was being amortized over 20 years and separately
identifiable assets were being amortized over periods ranging from 7 to 10
years. The consolidated financial statements include the accounts of these
acquisitions from the date of the acquisitions.
In connection with the purchase of AARDS, the Company entered into a management
agreement with ZAG Group, Inc. ("ZAG"), an entity controlled by Jay Ziskin, Ken
Arvin and Dr. Norman Gaylis. The management agreement, among other things,
provided for ZAG to perform certain services in exchange for specified
compensation. In addition, the Company entered into a put/call agreement with
ZAG, which allowed each of the parties to require the other party, after a
two-year period, to either sell or purchase all the issued and outstanding
capital stock of ZAG for a specified price to be paid in a combination of cash
and common stock of the Company. In September 1998, the Company paid
approximately $2,000,000 to ZAG in connection with an agreement and plan of
merger executed between the Company and ZAG which effectively canceled the
put/call agreement. Cash of $115,000 was paid and the remaining $1,885,000 was
paid by issuing 575,000 unregistered shares of the Company's common stock with a
fair market value of approximately $1,600,000 on the date of issuance. However,
in the event that the common stock issued does not have an aggregate fair market
value of approximately $1,885,000 on October 15, 1999, the agreement and plan of
merger provides that the Company shall pay additional cash consideration or
issue additional shares of its common stock so that the aggregate value of the
stock issued is approximately $1,885,000. The cost in excess of net tangible
assets acquired was recorded on the accompanying balance sheet and was being
amortized over a weighted average life of 14 years. Based on the current market
price of the Company's common stock, additional consideration of approximately
$1,600,000 in cash or approximately 2,352,000 shares of the Company's common
stock would have to be issued.
On November 15, 1999, the Company commenced litigation against ZAG and its
affiliated parties alleging breach of fiduciary duties, improper billing, and
seeking return of all consideration previously paid by the Company to ZAG, and
damages, as well as seeking rescission of the agreement and plan of merger. If
the action is unsuccessful, Continucare may be required to pay in excess of
$1,600,000 of additional consideration, in the form of either cash or stock,
representing the difference between $1,885,000 and the fair market value of the
575,000 unregistered shares of Continucare common stock previously issued to ZAG
in connection with the agreement and plan of merger. At this time, no additional
payment has been made to ZAG.
F-13
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NOTE 3 - BUSINESS COMBINATIONS AND DISPOSALS (CONTINUED)
On March 12, 1999, the Company closed CPPM by selling assets totaling
approximately $3,675,000 and closing offices that represented assets totaling
approximately $1,069,000. As a result of closing CPPM, the Company recorded a
loss on disposal of approximately $4,200,000 which consisted of the following:
Equipment, furniture and leasehold improvements $ 405,000
Goodwill 3,131,000
Identifiable intangibles, including contracts and
assembled work force 670,000
Other, including deposits and prepaid expenses 61,000
Liabilities assumed (67,000)
----------
$4,200,000
==========
Net patient revenue and net operating loss for CPPM (prior to recording the loss
on disposal) was approximately $6,096,000 and $2,133,000, respectively, for the
year ended June 30, 1999. Approximately 60 employees were terminated as a result
of the closure of this division. Neither severance nor any other significant
exit costs were incurred as a result of this closure.
HOME HEALTH SERVICES
On September 19, 1997, the Company acquired the stock of Maxicare, Inc.
("Maxicare"), a Florida based home health agency for $4,200,000 including
approximately $900,000 of liabilities assumed. In addition, $300,000 of
additional purchase price is contingent upon maintaining various performance
criteria and, if earned, would be due in equal installments in September 1999
and 1998. No amounts have been paid to the former owner of Maxicare, Inc.
pursuant to the contingent purchase price from the acquisition. The acquisition
is being accounted for under the purchase method of accounting. Tangible assets
recorded consisted primarily of cash, receivables and equipment. The purchase
price in excess of the fair value of the net tangible assets acquired was
approximately $3,048,000 and included approximately $1,189,000 in separately
identifiable intangible assets. Goodwill was being amortized over 20 years and
separately identifiable intangible assets were being amortized over periods
ranging from 3 to 20 years. The consolidated financial statements include the
accounts of Maxicare since the date of acquisition. As discussed in Note 1,
during fiscal 1999 management determined that the intangible assets associated
with Maxicare were impaired.
RADIOLOGY SERVICES
On December 1, 1997, the Company acquired the assets of Beacon Healthcare Group
(principally medical supplies and equipment) for $2,200,000 in cash and 83,000
shares of the Company's common stock with a value of $490,000. The purchase
price in excess of the fair value of the net tangible assets acquired was
approximately $2,000,000 and included approximately $1,142,000 in separately
identifiable intangible assets. Goodwill was being amortized over 20 years and
separately identifiable assets were being amortized over periods ranging from 6
to 15 years.
On December 27, 1998, the Company sold the stock of the diagnostic imaging
services subsidiary (the "Subsidiary") for a cash purchase price of $120,000 to
Diagnostic Results, Inc. Prior to the sale, the Subsidiary conveyed through
dividends all of the accounts receivable of the Subsidiary to the Company. All
obligations existing on the date of sale remained the obligations of the
Company. As a result of this transaction, the Company recorded a loss on
disposal of approximately $4,152,000, which consisted of the following:
F-14
68
NOTE 3 - BUSINESS COMBINATIONS AND DISPOSALS (CONTINUED)
Operating lease accrual $1,000,000
Equipment, furniture and leasehold improvements 1,512,000
Goodwill 750,000
Contractual rights 1,043,000
Liabilities assumed (33,000)
Consideration received (120,000)
----------
$4,152,000
==========
Net patient revenue and net operating loss (prior to recording of the loss on
disposal) were approximately $1,900,000 and $2,000,000, respectively, for the
year ended June 30, 1999. Approximately 60 employees were terminated as a result
of the sale. Neither severance nor any other significant exit costs were
incurred as a result of the sale. The operating lease accrual includes several
leases requiring monthly payments through 2007. Through June 30, 1999
approximately $35,000 of this liability had been paid.
REHABILITATION MANAGEMENT SERVICES
On February 13, 1998, the Company acquired the stock of Rehab Management
Systems, Inc., IntegraCare, Inc. and J.R. Rehab Associates, Inc., collectively
referred to as "RMS", for a total purchase price of approximately $10,500,000,
including acquisition costs of approximately $500,000. RMS operates numerous
rehabilitation clinics in the States of Florida, Georgia, Alabama, North
Carolina and South Carolina as a Medicare and Medicaid provider of outpatient
rehabilitation services. The acquisition was accounted for under the purchase
method of accounting. Tangible assets recorded consisted principally of
receivables and equipment. The purchase price in excess of the fair value of the
net tangible assets acquired of approximately $6,160,000 was recorded as
goodwill and was being amortized using the straight-line method over a weighted
average life of 15 years.
On April 8, 1999, the Company sold substantially all the assets of RMS to
Kessler Rehabilitation of Florida, Inc. ("Kessler") for $5,500,000 in cash and
the assumption of certain liabilities. The Company recorded a loss on sale of
approximately $6,800,000, which consisted of the following:
Net working capital $4,838,000
Equipment, furniture and leasehold improvements 1,739,000
Goodwill 5,723,000
Consideration received (5,500,000)
----------
$6,800,000
==========
The consolidated financial statements included the accounts of RMS from the date
of purchase to the date of sale. Net patient revenue and net operating loss
(prior to recording of the loss on disposal) were approximately $13,272,000 and
$2,053,000, respectively, for the year ended June 30, 1999. Approximately 600
employees were terminated as a result of the sale and severance costs of
approximately $50,000 was accrued and paid prior to June 30, 1999. No other
significant exit costs were incurred as a result of the sale. A member of the
Company's Board of Directors at the time of the sale is also a director of
Kessler.
MANAGED CARE SERVICES
On October 31, 1997, the Company purchased the assets of DHG Enterprises, Inc.
and Doctors Health Partnership, Inc. (collectively, "Doctors Health Group"), a
company that provides healthcare services at outpatient centers through managed
care contracts. The total purchase price for the acquisition was approximately
$16,000,000, including acquisition costs of approximately $1,052,000. Of this
amount, $1,700,000 was paid in common stock of the Company (242,098 shares),
approximately $13,700,000 was paid in cash and warrants to purchase 200,000
shares of the Company's common stock with an estimated fair market value of
F-15
69
NOTE 3 - BUSINESS COMBINATIONS AND DISPOSALS (CONTINUED)
$600,000 were issued. The warrants have an exercise price of $7.25 per share for
a period of 5 years. The acquisition is being accounted for under the purchase
method of accounting. Tangible assets acquired consisted principally of medical
equipment and deposits. The purchase price in excess of the fair value of the
net tangible assets acquired was approximately $15,478,000 and included
approximately $5,636,000 in separately identifiable intangible assets. Goodwill
is being amortized over 20 years and separately identifiable intangible assets
are being amortized over periods ranging from 4 to 20 years. The consolidated
financial statements include the accounts of Doctors Health Group from the
purchase date.
On January 1, 1998, the Company acquired certain of the assets of Medical
Services Organization, Inc. ("MSO") for a total purchase price of $4,260,000.
MSO provides healthcare services at outpatient centers through capitated managed
care contracts. The Company paid $2,560,000 in cash and entered into a note
payable totaling $1,700,000. The acquisition is being accounted for under the
purchase method of accounting. The entire purchase price was in excess of the
net tangible assets acquired and was recorded as contract costs. These costs are
being amortized using the straight-line method over 10 years. The amortization
period is based on the remaining life of the contract acquired. The note is
payable in six equal monthly installments beginning May 1, 1998. At June 30,
1999 the note had been paid in full. In addition, the Company is obligated to
pay the owners of MSO an additional purchase price up to a maximum amount of
$25,000,000 based on the annualized net revenues of the acquired contract for
the twelve month period ended December 31, 1998, as adjusted under the terms of
the acquisition agreement with the former owner of MSO, times a multiple of
4.25. The additional purchase price, if any, may be paid entirely in Common
Stock of the Company; however the Company may, at its discretion, pay 50% of the
additional purchase price in cash. Based on the performance of the contract for
that period, the Company has not paid or accrued for any additional purchase
price. Furthermore, as discussed in Note 1, Management has determined that the
intangible assets of MSO are impaired. The consolidated financial statements
include the accounts of MSO since the date of purchase.
On April 14, 1998, the Company purchased the assets of SPI Managed Care, Inc.,
SPI Managed Care of Hillsborough County, Inc., SPI Managed Care of Broward,
Inc., and Broward Managed Care, Inc., (collectively "SPI"), which consisted
principally of office and medical equipment. SPI provides healthcare services at
outpatient centers through capitated managed care contracts. The total purchase
price for the acquisition was approximately $6,750,000. The acquisition is being
accounted for under the purchase method of accounting. The purchase price in
excess of the fair value of the net tangible assets acquired of approximately
$6,416,000 was recorded as goodwill and is being amortized using the
straight-line method over a weighted average life of 15 years. The consolidated
financial statements include the accounts of SPI from the purchase date.
In August 1998, the Company purchased the contracts of CareMed Inc. ("CareMed"),
a managed care healthcare company which owns or has agreements with
approximately 30 physician practices. The total purchase price was approximately
$6,700,000, of which $4,200,000 was paid at closing and the remaining balance is
payable in equal monthly installments over the ensuing 24 months. The entire
purchase price was in excess of the net tangible assets acquired and was
recorded as contract costs. These costs were being amortized over 10 years. As
discussed in Note 1, Management has determined that the intangible assets
associated with this operation were impaired. The consolidated financial
statements included the accounts of CareMed since the acquisition date.
OTHER
On December 31, 1996 (the "Effective Date"), the Company purchased the 25%
minority interest in a 75% owned subsidiary for 40,000 shares of Continucare
common stock, $0.0001 par value, having a market value of $204,000 on the
Effective Date. Such amount was offset against a receivable due from the
minority shareholder. As a result, the minority interest on Continucare's
consolidated balance sheet, approximately $195,000 as of the Effective Date, was
eliminated and a loss on the purchase of minority interest of approximately
$9,000 was recorded.
F-16
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NOTE 3 - BUSINESS COMBINATIONS AND DISPOSALS (CONTINUED)
The following unaudited pro forma data summarize the results of operations for
the periods indicated as if the above transactions had been completed at the
beginning of the year preceding the respective transaction dates. The pro forma
data gives effect to actual operating results prior to the transactions and
adjustments to depreciation, interest expense, goodwill amortization and income
taxes. These pro forma amounts do not purport to be indicative of the results
that would have actually been obtained if the transactions had occurred at an
earlier date or that may be obtained in the future. Included in expenses for the
year ended June 30, 1999, are impairment charges of $11,717,073 due to the
write-down of certain intangible assets related to continuing subsidiaries,
while the loss on disposals of $15,361,289 has been excluded in the pro forma
amounts below.
YEAR ENDED JUNE 30,
-----------------------------------------------
1999 1998 1997
------- -------- -------
(Unaudited)
Total revenues............................. $161,039,157 $ 90,185,985 $79,441,279
============ ============ ===========
Net loss................................... $ (27,571,235) $(10,688,205) $ (707,096)
============ ============ ===========
Basic and diluted loss per common
share.................................... $ (1.91) $ (0.85) $ (.07)
============ ============ ===========
NOTE 4 - NOTES RECEIVABLE
In the first quarter of fiscal 1998, the Company assigned the accounts
receivable related to its behavioral health programs and assigned its behavioral
health management contracts to third parties in exchange for notes receivable in
the aggregate amount of $7,800,000. The Company recorded no gain or loss on the
assignment since the amount received approximated the net book value of the
assets assigned. The notes receivable are to be paid over a five year term with
interest to accrue at 9% per annum. The notes receivable are secured by all the
assets of the behavioral health business.
During fiscal 1998, the Company determined that these notes receivable were
impaired and increased its allowance for doubtful accounts against these notes
receivable by approximately $3,800,000. Of this amount, approximately $1,500,000
was recorded in the fourth quarter. The Company did not recognize any interest
income on these notes in fiscal 1998 or 1999. During fiscal 1999, the Company
increased its reserve on these notes for the remaining balance of $1,600,000
because, despite the issuance of demand notices to seek reimbursement, the
Company was unsuccessful in its collection efforts. In addition, although the
Company had received partial payments on these notes during fiscal 1998, the
Company received payments of only $104,000 on one of these notes during fiscal
1999. The balance of the notes at June 30, 1999, net of the allowance, is $0.
The Company will apply all payments to principal with interest being recognized
on a cash basis after all principal has been paid.
During fiscal 1999 the Company accepted $29,700 in cash and 66,192 shares of the
Company's common stock in full satisfaction of a $340,000 receivable from a
former employee of the Company and a promissory note due from the same former
employee of $46,750. The shares were valued at $2.75 per share and are included
in Treasury Stock at June 30, 1999.
F-17
71
NOTE 5 - EQUIPMENT, FURNITURE AND LEASEHOLD IMPROVEMENTS
Equipment, furniture and leasehold improvements are summarized as follows:
JUNE 30, ESTIAMTED
---------------------------------- USEFUL LIVES
1999 1998 (IN YEARS)
---------------- ----------------- -----------------
Furniture, fixtures and equipment................. $1,995,740 $8,727,597 3-5
Furniture and equipment under capital lease....... 252,712 252,712 5
Vehicles.......................................... -- 68,515 5
Leasehold improvements............................ 145,887 827,654 5
------------- --------------
2,394,339 9,876,478
Less accumulated depreciation..................... (1,296,050) (4,380,453)
------------- --------------
$1,098,289 $5,496,025
============= ==============
Depreciation expense for the years ended June 30, 1999, 1998 and 1997 was
$1,481,439, $969,007 and $157,749, respectively. Accumulated amortization for
furniture and fixtures under capital lease agreements was $117,948 at June 30,
1999.
In connection with its acquisitions, the Company entered into various
noncancellable leases for certain furniture and equipment that are classified as
capital leases. The leases are payable over 5 years and the Company has used
incremental borrowing rates ranging from 9% to 35% per annum. In addition, the
Company entered into capital leases during fiscal 1999 which, in conjunction
with its various business disposals (see Note 3), were canceled or transferred
to the purchasers of those businesses.
Future minimum lease payments under all capital leases are as follows:
For the year ending June 30,
2000.............................................. $129,932
2001.............................................. 90,402
2002.............................................. 37,660
2003.............................................. 1,256
2004.............................................. --
-------------
259,250
Less amount representing imputed interest......... 23,162
-------------
Present value of obligation under capital lease... 236,088
Less current portion.............................. 112,652
-------------
Long-term capital lease obligation................ $123,436
=============
NOTE 6 - CONVERTIBLE SUBORDINATED NOTES PAYABLE
On October 30, 1997, the Company issued $46,000,000 of 8% Convertible
Subordinated Notes Payable due 2002 (the "Notes"). As previously discussed in
Note 1, the Company defaulted on its April 30, 1999 semi-annual payment of
interest on the Notes.
On August 12, 1998, the Company redeemed $1,000,000 of the Notes and recorded an
extraordinary gain on retirement of debt of $130,977. The Company used cash from
operations to redeem the Notes. On July 2, 1999, the Company redeemed an
additional $4,000,000 of the Notes as described in more detail in the following
paragraphs. Also, as described in the following paragraphs, subsequent to June
30, 1999, the Company reached an agreement in principle with the remaining Note
holders which will modify the terms of the Notes. At the time the Notes were
F-18
72
NOTE 6 - CONVERTIBLE SUBORDINATED NOTES PAYABLE (CONTINUED)
issued, interest on the Notes was payable semiannually beginning April 30, 1998.
The Notes could be converted into shares of common stock of the Company at a
conversion price of $7.25 per share at any time after 60 days following the date
of initial issuance which is adjusted upon the occurrence of certain events. In
addition, the Notes are redeemable, in whole or in part, at the option of the
Company at any time on or after October 31, 2000, at the redemption prices
(expressed as a percentage of the principal amount) set forth below for the
12-month period beginning October 31 of the years indicated:
2000...................................... 104.00%
2001...................................... 102.00%
and thereafter at 100% of principal amount, together with accrued interest to
the redemption date.
The Notes were not registered under the Securities Act of 1933, as amended (the
"Securities Act") and could not be offered or sold without registration or an
applicable exemption from the registration requirements. A registration
statement covering resales of the Notes became effective on January 8, 1998. As
a result, holders of Notes who are identified in the registration statement may
make resales of the Notes, as described in the registration statement, without
any volume limitations or other constraints normally applicable to sales of
"restricted securities."
As described in the notes to these financial statements, throughout fiscal 1999
the Company experienced adverse business operations. In order to avoid having to
seek bankruptcy protection, and to strengthen itself financially, the Company
during the past fiscal year undertook a Business Rationalization Program by
divesting itself of certain unprofitable operations and by closing other
underperforming subsidiary divisions. In addition, the Company undertook a
Financial Restructuring Program designed to strengthen its financial condition
(See Note 1).
On April 30, 1999 (the "Default Date"), the Company defaulted on its semi-annual
payment of interest on the Notes. Within thirty (30) days of the Default Date,
the Company commenced negotiations with an informal committee of the holders of
the Notes. On the default date, the outstanding principal balance of the Notes
was $45,000,000 and the related accrued interest was approximately $1,800,000.
On July 2, 1999 the Company purchased $4,000,000 face value of the Notes for
approximately $200,000. The resulting pre-tax gain on extinguishment of debt of
approximately $3,800,000 was recognized on July 2, 1999.
On September 29, 1999 the Company announced an agreement in principle with the
holders of the Notes to enter into a settlement and restructuring agreement with
respect to the remaining $41,000,000 principal balance and approximately
$3,300,000 of interest thereon accruing through October 31, 1999 (the "Debenture
Settlement"). The terms of the proposed Debenture Settlement are as follows: (a)
$31,000,000 of the outstanding principal of the Notes will be converted, on a
pro rata basis, into the Company's common stock at a conversion rate of $2.00
per share (approximately 15,500,000 shares of capital stock); (b) all interest
accrued on the
Notes through October 31, 1999 will be forgiven (approximately $3,300,000); (c)
the interest payment default on the remaining $10,000,000 principal balance of
the Notes will be waived and the debentures will be reinstated on the Company's
books and records as a performing non-defaulted loan (the "Reinstated
Subordinated Debentures"); (d) the Reinstated Subordinated Debentures will bear
interest at the rate of 7% per annum commencing November 1, 1999; and (e) the
conversion rate for the Reinstated Subordinated Debentures will be modified as
follows:
TERM CONVERSION RATE
----------------------------------------------- ----------------
Through October 31, 2000....................... $7.25
November 1, 2000 to Maturity................... $2.00
and (f) the Company will obtain a financially responsible person (the
"Guarantor") to personally guaranty a $3,000,000 bank credit facility (the "New
F-19
73
NOTE 6 - CONVERTIBLE SUBORDINATED NOTES PAYABLE (CONTINUED)
Credit Facility") for the Company. In consideration for providing the guaranty
the Company will issue to the Guarantor 3,000,000 shares of the Company's common
stock. The New Credit Facility will replace the Company's existing bank Credit
Facility and it will additionally be used to finance the Company's working
capital and capital expenditure requirements
The Company has agreed to convene a meeting of its Shareholders before December
31, 1999 in order to obtain shareholder approval of the Debenture Settlement.
The successful completion of the proposed Debenture Settlement is subject to a
number of significant risks and uncertainties including, but not limited to, the
need to draft and execute a final settlement agreement with the Note holders,
the need to consummate the New Credit Facility, and the need to obtain
shareholder ratification of the Debenture Settlement prior to December 31, 1999.
NOTE 7 - LONG-TERM DEBT
The following long-term debt was outstanding as of June 30, 1999 and 1998.
1999 1998
---------------- -----------------
Contract Modification Note................ $3,644,337 $ --
Acquisition Note.......................... 1,804,605 850,000
Credit Facility........................... 1,064,255 --
Other Outstanding Notes................... 1,741,502 --
---------------- -----------------
8,254,699 850,000
Less Current Portion...................... 6,857,946 850,000
---------------- -----------------
Long-Term................................. $1,396,753 $ --
================ =================
CONTRACT MODIFICATION NOTE--Effective August 1, 1998, the Company entered into
two amendments to its professional provider agreements with an HMO. The
amendments, among other things, extended the term of the original agreement from
six to ten years and increased the percentage of Medicare premiums received by
the
Company effective January 1, 1999. In exchange for the amendments, the Company
signed a $4.0 million non interest bearing promissory note (the "Note") with the
HMO of which $1,000,000 will be paid over the 12 months commencing January 1999
and the remaining $3,000,000 over the ensuing 24 months. The note was recorded
net of imputed interest. None of the payments required under the Note have been
paid. The total amount in arrears is $365,647 at June 30, 1999. As the Company
is not in compliance with the terms of the Note, the outstanding balance has
been classified as current in the accompanying consolidated balance sheet. The
$4,000,000 cost, net of imputed interest calculated at 8%, or approximately
$500,000, is included in other intangible assets on the accompanying
consolidated balance sheet and is being amortized over 9.6 years, the remaining
term of the contract.
ACQUISITION NOTE--In August 1998, the Company, through its Continucare Managed
Care Subsidiary, purchased professional provider contracts with approximately 30
physicians from an unrelated entity. The total purchase price was approximately
$6,700,000 of which $4,200,000 was paid in cash at closing and the remaining
$2,500,000 is payable in equal monthly installments over the ensuing 24 months.
The note is noninterest bearing. The Company has imputed interest at 8%. The
Company has repaid $625,000 of the note and is in arrears for $416,667 at June
30, 1999. Since the Company is not in compliance with the terms of the purchase
agreement, the outstanding balance has been classified as current in the
accompanying consolidated balance sheet. The purchase price was included in
other intangible assets on the accompanying consolidated balance sheet and was
being amortized over 10 years, the term of the contracts. However, later in
fiscal 1999 management determined that these assets were impaired, as discussed
in Note 1, and the unamortized balance was written-off.
BANK NOTE--In August 1998, the Company entered into a credit facility (the
"Credit Facility") with a bank which provides for a $5,000,000 Acquisition
Facility and a $5,000,000 Revolving Loan. Under the terms of the Credit
F-20
74
NOTE 7 - LONG-TERM DEBT (CONTINUED)
Facility, the Company may elect the interest rate to be either the bank's prime
rate or the London InterBank Offered Rate plus 250 basis points. Interest only
on each acquisition advance under the Acquisition Facility is payable monthly in
arrears for the first six months. Interest only on the Revolving Loan advances
is payable quarterly in arrears. Commencing six months from the date of each
acquisition advance, the acquisition advance shall be repayable in equal monthly
amortization payments, based upon a five year amortization. The Company borrowed
the entire $5,000,000 Acquisition Facility to fund acquisitions. In all events,
the Revolving Loan matures and all unpaid principal and interest is due in full
on August 31, 2001. The Company never utilized the Revolving Loan. During April
1999, the Company used approximately $4,000,000 of the net proceeds of the sale
of its rehabilitative subsidiaries to reduce the outstanding balance of the
Credit Facility. In connection with the payment, the Company entered into an
amendment to the Credit Facility, which provided, among other things, for the
repayment of the remaining outstanding principal balance of approximately
$1,000,000 to the Bank by December 31, 1999. The Company continues to not be in
compliance with certain non-monetary covenants under the Credit Facility and
therefore, the total amount outstanding has been classified as a current
liability in the consolidated balance sheet. The Credit Facility is secured by
substantially all of the assets of the Company and contains restrictive
covenants which, among other things, require the Company to maintain certain
financial ratios, limits the incurring of additional debt, limits the payment of
dividends and limits the amount of capital expenditures.
OTHER OUTSTANDING NOTES--In conjunction with the operation of its Home Health
Divisions the Company has entered into five (5) repayment agreements (the
"Repayment Agreements") with a governmental agency. These Repayments Agreements
derive from various overpayments received by the Company for expenses that were
expected to be generated in conjunction with Home Health patient care
activities. Three of the four non interest bearing Repayment Agreements have a
maturity date in the last calendar quarter of 2003. The fourth non interest
bearing Repayment Agreements has a maturity date in the first quarter of 2004.
One of the five Repayment Agreements has an interest rate of 13.50% and has a
maturity date in the first quarter of 2004.
NOTE 8 - EARNINGS PER SHARE
The following table sets forth share and common share equivalents used in the
computation of basic and diluted earnings per share:
YEAR ENDED JUNE 30,
----------------------------------------------------
1999 1998 1997
----------------- -------------- -----------------
Numerator for basic and dilutive earnings per share
(Loss) income before extraordinary items.......... $(50,641,743) $(14,982,935) $ 1,706,675
Extraordinary gain on extinguishment of debt...... 130,977 -- --
--------------- ---------------- -------------
Net (loss) income................................. $(50,510,766) $(14,982,935) $ 1,706,675
================ ================ =============
Denominator
Denominator for basic (loss) earnings per
share-weighted average shares................... 14,451,493 12,517,503 10,406,089
Effects of dilutive securities
Employee stock options............................ -- -- 275,214
--------------- ---------------- -------------
Denominator for diluted (loss) earnings per
share-adjusted weighted average shares and
assumed conversions............................. 14,451,493 12,517,503 10,681,303
================ ================ =============
For additional disclosure regarding the employee stock options and warrants see
Note 11.
Basic and diluted loss per share for fiscal 1999 and 1998 are the same because
the effect of common stock equivalents is antidilutive.
F-21
75
NOTE 8 - EARNINGS PER SHARE (CONTINUED)
Options and warrants to purchase 1,138,500, 1,388,500, and 180,000 shares of the
Company's Common Stock were outstanding at June 30, 1999, 1998, and 1997,
respectively, but were not included in the computation of diluted earnings per
share because the effect would be antidilutive.
NOTE 9 - RELATED PARTY TRANSACTIONS
For the year ended June 30, 1997, the Company provided certain management
services to five facilities owned by two shareholders of Continucare, in return
for a management fee based on Continucare's estimated cost of providing such
services. The management fee charged was calculated based on the ratio of
patient volume represented by the five facilities to total patient volume
managed by Continucare, applied to certain of Continucare's expenses that were
related to the provision of such services. The resulting management fee was
recorded by Continucare as a reduction of the respective financial statement
expense line items. For the fiscal year ended June 30, 1997, management fees
related to this agreement were approximately $878,000. In April 1997, this
agreement was terminated through a termination and settlement agreement entered
into between Continucare and the shareholders (the "Termination and Settlement
Agreement").
In addition, during the year ended June 30, 1997, Continucare had contracted
with a company owned, in part, by two shareholders to provide certain managerial
and administrative services to and on behalf of Continucare at cost. For the
year ended June 30, 1997, total expenses incurred by the Company for these
services totaled approximately $314,000 and are recorded in the appropriate
expense categories in the consolidated statements of operations. This agreement
was also terminated through the Termination and Settlement Agreement.
During the fiscal year ended June 30, 1997, the Company was obligated under a
note to a company owned by certain shareholders of the Company at that time. In
April 1997, the Health Care Management Partners, Inc. (HCMP) Note was settled as
part of the Termination and Settlement Agreement.
During the fiscal year ended June 30, 1998, the Company incurred expenses of
$200,000 for consulting services provided by a corporation in which one of its
shareholders is an executive officer of the Company. On September 18, 1998, the
Company purchased the corporation for $115,000 in cash and 575,000 shares with a
fair market value of approximately $1,600,000 of the Company's restricted common
stock. Additional consideration is contingently due to the former owners based
on the price of the Company's common stock at October 15, 1999 as described
further in Note 3.
The Company rents various medical facilities and equipment from corporations
owned by physician employees of the Company. General and administrative expenses
for fiscal years ended June 30, 1999, 1998 and 1997 included $186,000, $305,000
and $89,000, respectively, under these lease agreements.
During fiscal years ended June 30, 1999 and 1998, the Company earned $ 379,442
and $381,000 in management fees from an entity whose executive officer was a
director of the Company. At June 30, 1999, receivables totaling $760,442 are
included in accounts receivable for these services and have been fully reserved.
NOTE 10 - SETTLEMENT OF FORMER SHAREHOLDER CLAIM
In July 1997, the Company received a demand for arbitration relating to a claim
by a former shareholder of a predecessor of the Company alleging securities
fraud in connection with the redemption of his shares. Pursuant to a settlement
agreement entered into on June 12, 1998, the Company paid $2,000,000 in cash and
on July 12, 1998 issued 300,000 shares of common stock (with a fair market value
of $1,385,000) in settlement of this claim. The Company reflected this
transaction at June 30, 1998 as an increase in treasury stock of $2,958,000 and
legal settlement expense of $426,000, which was reflected as general and
administrative expense in the fiscal 1998 consolidated statement of operations.
The increase in treasury stock results in recording the treasury stock acquired
at its fair market value at the redemption date.
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76
NOTE 11 - STOCK OPTION PLAN AND WARRANTS
In January 1998, the Company's shareholders approved an amendment to the
Company's Amended and Restated 1995 Stock Option Plan (the "Stock Option Plan")
covering employees of the Company to increase the authorized shares for issuance
upon the exercise of stock options from 1,200,000 to 1,750,000.
Under the terms of the Stock Option Plan, the exercise price for options granted
is required to be at least the fair market value of the Company's common stock
on the date of grant and expire 10 years after the date of the grant.
Pro forma information regarding net income and earnings per share is required by
FASB No. 123, and has been determined as if the Company had accounted for its
employee stock options under the fair value method of that Statement. The fair
value for these options was estimated at the date of grant using a Black-Scholes
option pricing model with the following weighted-average assumptions for 1999,
1998 and 1997, respectively: risk-free interest rates of 5.25%, 5.5% and 6.32%;
dividend yields of 0%; volatility factors of the expected market price of the
Company's common stock of 82.5%, 66.4% and 63.6%, and a weighted-average
expected life of the options of 10, 10 and 3 years.
The Black-Scholes option valuation model was developed for use in estimating the
fair value of traded options which have no vesting restrictions and are fully
transferable. In addition, option valuation models require the input of highly
subjective assumptions including the expected stock price volatility. Because
the Company's employee stock options have characteristics significantly
different from those of traded options, and because changes in the subjective
input assumptions can materially affect the fair value estimate, in management's
opinion, the existing models do not necessarily provide a reliable single
measure of the fair value of its employee stock options.
For purposes of pro forma disclosures, the estimated fair value of the options
is amortized to expense over the options' vesting period. The Company's pro
forma information follows:
YEAR ENDED JUNE 30,
-----------------------------------------------------
1999 1998 1997
----------------- ----------------- -----------------
Pro forma net (loss) income..................... $(52,046,336) $(17,730,428) $647,745
Basic pro forma net (loss) income per share..... (3.60) (1.42) .06
Diluted pro forma net (loss) income per share... $ (3.60) $ (1.42) $ .06
F-23
77
NOTE 11 - STOCK OPTION PLAN AND WARRANTS (CONTINUED)
The following table summarizes information related to the Company's stock option
activity for the years ended June 30, 1999, 1998 and 1997:
YEAR ENDED JUNE 30,
----------------------------------------------------------------------------
1999 1998 1997
------------------------ ------------------------- -------------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
NUMBER EXERCISE NUMBER EXERCISE NUMBER EXERCISE
OF SHARES PRICE OF SHARES PRICE OF SHARES PRICE
------------------------ ------------------------- -------------------------
Outstanding at beginning of the year............ 1,388,500 $5.45 376,400 $ 6.26 100,000 $5.46
Granted ........................................ 562,500 5.90 1,238,000 5.53 276,400 6.54
Exercised ...................................... -- -- (17,000) 6.00 -- --
Forfeited ...................................... (812,500) $5.58 (208,900) $ 7.19 -- $ --
--------- --------- -------
Outstanding at end of the year ................. 1,138,500 1,388,500 376,400
========= ========= =======
Exercisable at end of the year ................. 847,085 727,171 266,400
========= ========= =======
Weighted average fair value of
options granted during the year .............. $ 4.18 $ 4.10 $ 3.98
========= ========= =======
Stock options outstanding as of July 1, 1996 relate to options issued prior to
the Zanart Merger. The following table summarizes information about the options
outstanding at June 30, 1999:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
RANGE ---------------------------------------------------------- -------------------------------------
OF WEIGHTED AVERAGE
EXERCISE OUTSTANDING AT REMAINING WEIGHTED AVERAGE NUMBER WEIGHTED AVERAGE
PRICES JUNE 30, 1999 CONTRACTUAL LIFE EXERCISE PRICE EXERCISABLE EXERCISE PRICE
- ----------------- ----------------- ----------------- ------------------- -------------- --------------------
$5.00-$7.25 1,138,500 8.53 $5.58 847,085 $5.60
In connection with the sale of the Notes (see Note 6), the Company issued
warrants to purchase 200,000 shares of the Company's common stock with exercise
prices ranging from $8.00 to $12.50 per share as a placement fee. The fair
market value of the warrants at date of issuance was $775,000. This amount is
being amortized, using the interest method, over the life of the Notes. During
fiscal 1997, approximately $5,440,000 was received by the Company pursuant to
the exercise of certain warrants which had been issued prior to the Company's
merger with Zanart. During fiscal 1998,warrants to purchase 250,000 shares of
common stock at $3.15 per share were exercised. The Company has 760,000 warrants
outstanding at June 30, 1999 which are exercisable through December 31, 2007,
with exercise prices ranging from $7.25 to $12.50 per share.
Shares of common stock have been reserved for future issuance at June 30, 1999
as follows:
Convertible subordinated notes............................... 6,206,897
Warrants..................................................... 760,000
Stock Options................................................ 1,138,500
----------------
Total.................................................... 8,105,397
================
F-24
78
NOTE 12 - INCOME TAXES
The Company accounts for income taxes under FASB Statement No. 109, "Accounting
for Income Taxes". Deferred income tax assets and liabilities are determined
based upon differences between the financial reporting and tax bases of assets
and liabilities and are measured using the enacted tax rates and laws that will
be in effect when the differences are expected to reverse.
The components of the provision for income taxes for the years ended June 30,
1999, 1998 and 1997 are as follows:
YEAR ENDED JUNE 30,
-----------------------------------
1999 1998 1997
-----------------------------------
Current income taxes:
Federal....................................... $ -- $(1,448,000) $ 1,410,318
State ........................................ -- 33,000 241,423
------ ----------- -----------
Total current .............................. -- (1,415,000) 1,651,741
------ ----------- -----------
Deferred income taxes:
Federal ...................................... -- 435,000 (398,752)
State ........................................ -- 71,000 (52,072)
------ ----------- -----------
Total deferred ............................. -- 506,000 (450,824)
Total (benefit) provision for income taxes...... $ -- $ (909,000) $ 1,200,917
====== =========== ===========
Deferred income taxes reflect the net effect of temporary differences between
the carrying amount of assets and liabilities for financial reporting purposes
and the amounts used for income tax purposes. The tax effects of temporary
differences that give rise to deferred tax assets and deferred tax liabilities
are as follows:
JUNE 30,
------------------------------------------------
1999 1998 1997
------------------------------------------------
Deferred tax assets:
Bad debt and notes receivable reserve............ $ 4,065,794 $2,610,363 $712,418
Depreciable/amortizable assets................... 762,486 845,133 26,010
Alternative minimum tax credit................... 111,973 111,973 --
Other............................................ 454,379 302,544 --
Impairment charge................................ 3,540,577 -- --
Net operating loss carryforward.................. 8,036,027 1,208,747 --
-------------- --------- --------
Deferred tax assets.............................. 16,971,236 5,078,760 738,428
Deferred tax liabilities:
Depreciation and amortization.................... -- (337,034) --
Change in tax accounting method.................. -- -- (197,770)
Specifically identified intangibles.............. -- (954,894) --
Other............................................ (23,126) (23,126) (34,959)
Valuation allowance.............................. (16,948,110) (4,718,600) --
-------------- --------- --------
Deferred tax liabilities......................... (16,971,236) (6,033,654) (232,729)
-------------- --------- --------
Net deferred tax (liability) asset.................. $ -- $ (954,894) $505,699
============== ========= ========
SFAS No. 109 requires a valuation allowance to reduce the deferred tax assets
reported if, based on the weight of the evidence, it is more likely than not
that some portion or all of the deferred tax assets will not be realized. At
June 30, 1997, management believed it was more likely than not that the tax
benefit associated with certain temporary differences would be recognized. After
consideration of all the evidence, both positive and negative, management
determined that a valuation allowance of $16,948,110 and $4,718,600 is necessary
at June 30, 1999 and 1998, respectively, to reduce the deferred tax assets to
the amount that will more than likely not be realized. The change in the
valuation allowance for the current period is $12,229,510. At June 30, 1999, the
Company had available net operating loss carryforwards of $21,355,000, which
expire in 2013 through 2019.
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79
NOTE 12 - INCOME TAXES (CONTINUED)
A reconciliation of the statutory federal income tax rate with the Company's
effective income tax rate for the years ended June 30, 1999, 1998 and 1997 is as
follows:
1999 1998 1997
------ ------- ------
Statutory federal rate.................................. (34.0)% (34.0)% 34.0%
State income taxes, net of federal income tax benefit... (2.6) (3.6) 4.1
Goodwill and other non-deductible items................. 10.1 1.0 0.4
Change in valuation allowance........................... 24.2 28.5 --
Other................................................... 2.3 2.4 0.7
----- ----- ----
Effective (benefit) tax rate 0% (5.7)% 39.2%
===== ===== ====
NOTE 13 - EMPLOYEE BENEFIT PLAN
As of January 1, 1997, the Company adopted a tax qualified employee savings and
retirement plan covering the Company's eligible employees. The Continucare
Corporation 401(k) Profit Sharing Plan and Trust (the "401(k) Plan") was amended
and restated on July 1, 1998. The 401(k) Plan is intended to qualify under
Section 401 of the Internal Revenue Code (the "Code") and contains a feature
described in Code Section 401(k) under which a participant may elect to have his
or her compensation reduced by up to 16% (subject to IRS limits) and have that
amount contributed to the 401(k) Plan. On February 1, 1999, the Internal Revenue
Service issued a favorable determination letter for the 401(k) Plan.
Under the 401(k) Plan, new employees who are at least eighteen (18) years of age
are eligible to participate in the 401(k) Plan after 90 days of service.
Eligible employees may elect to reduce their compensation by the lesser of 16%
of their annual compensation or the statutorily prescribed annual limit of
$10,000 (for 1999) and have the reduced amount contributed to the 401(k) Plan.
The Company may, at its discretion, make a matching contribution and a
non-elective contribution to the 401(k) Plan. Such matching contributions were
$51,512 for the year ending June 30, 1998. There were no matching contributions
for the years ending June 30, 1997 or 1999. Participants in the 401(k) Plan do
not begin to vest in the employer contribution until the end of two years of
service, with full vesting achieved after five years of service.
Under the 401(k) Plan, each participant directs the investment of his or her
401(k) Plan account from among the 401(k) Plan's many options. During fiscal
1999, the 401(k) Plan underwent an integration and conversion process by which:
(i) certain 401(k) plans of subsidiaries purchased through past acquisitions
were merged into the 401(k) Plan; and (ii) the 401(k) Plan's valuation system
was converted from a quarterly to a daily valuation.
NOTE 14 - COMMITMENTS AND CONTINGENCIES
Employment Agreements--The Company maintains employment agreements with certain
officers and key executives expiring at various dates through July 2001. In
addition, one employment agreement provides for one additional year term for
each year of service by the executive. The agreements provide for annual base
salaries in the aggregate of approximately $1,300,000, annual increases, bonuses
and stock option grants. The employment agreements with certain officers also
provide that in the event of a change in control of the Company, as defined
therein, each officer is entitled to an acceleration of the remainder of the
officer's term and the automatic vesting of any unvested stock options.
F-26
80
NOTE 14 - COMMITMENTS AND CONTINGENCIES (CONTINUED)
Insurance--The Company maintains policies for general and professional liability
insurance jointly with each of the providers. Coverage under the policies is
$1,000,000 per incident and $3,000,000 in the aggregate. It is the Company's
intention to renew such coverage on an on-going basis.
Leases--The Company leases office space and equipment under various
non-cancelable operating leases. Rent expense under such operating leases was
$4,520,866, $2,426,416 and $357,339 for the years ended June 30, 1999, 1998 and
1997 respectively. Future annual minimum payments under such leases as of June
30, 1999 are as follows:
For the fiscal year ending June 30,
2000........................................ $ 910,425
2001........................................ 411,916
2002........................................ 349,151
2003........................................ 276,768
2004........................................ 180,525
-------------
Total.................................... $2,128,785
=============
Concentrations of Revenues - For the years ended June 30, 1999 and 1998, the
Company generated approximately 31% and 36% respectively of total revenues from
Foundation Health Corporation Affiliates. Humana Medical Plans, Inc. accounted
for an additional 48% and 17%, respectively, of total revenues in fiscal 1999.
For the year ended June 30, 1997, the Company generated approximately 68.0% of
total revenues from Community Mental Health Centers owned by two individuals.
Additionally, during the same period, approximately 10.5% of total revenues were
derived from a certain hospital chain. No other facility and/or chain accounted
for 10% or more of the Company's total revenues.
Two former subsidiaries of the Company are parties to the case of JAMES N.
HOUGH, PLAINTIFF, v. INTEGRATED HEALTH SERVICES, INC., A DELAWARE CORPORATION,
AND REHAB MANAGEMENT SYSTEMS, INC., A FLORIDA CORPORATION ("RMS"), AND
CONTINUCARE REHABILITATION SERVICES, INC., A FLORIDA CORPORATION. This case was
filed in the Circuit Court of the Tenth Judicial Circuit in and for Polk County,
Florida in June 1998. Mr. Hough was the founder and former Chief Executive
Officer and President of RMS. Mr. Hough sold RMS to Integrated Health Services,
Inc., ("IHS"), and entered into an Employment Agreement (the "Employment
Agreement") with IHS. The complaint alleges breach of contract for the removal
of Hough as President and also alleges actions by IHS that interfered with
Hough's ability to realize his income potential under the provisions of the
agreement. RMS was acquired by Continucare in February 1998. Mr. Hough is
seeking damages from the Employment Agreement and is alleging breach of
contract. His initial demand of $1.1 million was rejected by the Company and the
Company intends to vigorously defend the claim.
The Company is a party to the case of MANAGED HEALTHCARE SYSTEMS ("MHS") v.
CONTINUCARE CORPORATION & CONTINUCARE HOME HEALTH SERVICES, INC ("CHHS"). This
case was filed in the Commonwealth of Massachusetts in August 1998. The
complaint alleges breach of contract for alleged verbal representations by CHHS
in negotiations to acquire MHS and seeks damages in excess of $2,750,000 and
treble damages. The Company believes the action has little merit and intends to
vigorously defend the claim.
The Company is a party to the case of KAMINE CREDIT CORPORATION ("KAMINE") AS
ASSIGNEE OF TRI COUNTY HOME HEALTH v. CONTINUCARE CORPORATION. The case was
filed in the United States District Court, Southern District of Florida, in
October 1998. The complaint alleges breach of contract in connection with
alleged verbal representations by Continucare in negotiations to acquire
Tri-County and fraud and unjust enrichment for inducement of services based on
alleged verbal representations and seeks damages in excess of $5,000,000. The
Company moved to dismiss this motion on February 1, 1999, which motion is still
pending. The Company believes the action has little merit and intends to
vigorously defend the claim.
F-27
81
NOTE 14 - COMMITMENTS AND CONTINGENCIES (CONTINUED)
In connection with the Company's Business Rationalization Program, the Company
has closed or dissolved certain subsidiaries, some of which had pending claims
against them. The Company is also involved in various other legal proceedings
incidental to its business that arise from time to time out of the ordinary
course of business -- including, but not limited to, claims related to the
alleged malpractice of employed and contracted medical professionals, workers'
compensation claims and other employee-related matters, and minor disputes with
equipment lessors and other vendors.
In its third quarter report on Form 10-Q for the fiscal year ended June 30,
1999, the Company disclosed a disagreement with an HMO regarding certain claims
expense information. During the fourth quarter of 1999, the Company and the HMO
performed a review of this information for the period through March 31, 1999,
and reached an agreement which did not require an adjustment in the Company's
recorded liability to the HMO.
F-28
82
NOTE 15 - VALUATION AND QUALIFYING ACCOUNTS
Activity in the Company's Valuation and Qualifying Accounts consists of the
following:
YEAR ENDED JUNE 30,
----------------------------------------
1999 1998 1997
----------- ---------- ----------
Allowance for doubtful accounts related to accounts receivable:
Balance at beginning of period ................................ $ 2,071,000 $ 1,061,000 $ 147,000
Provision for doubtful accounts ............................... 4,655,000 1,010,000 1,818,000
Write-offs of uncollectible accounts receivable ............... (974,000) -- (904,000)
------------ ------------ ------------
Balance at end of period ...................................... $ 5,752,000 $ 2,071,000 $ 1,061,000
============ ============ ============
Allowance for doubtful accounts related to notes receivable:
Balance at beginning of period ................................ $ 5,510,000 $ 742,000 $ 742,000
Provision for doubtful accounts ............................... 1,541,000 4,768,000 --
Write-offs of uncollectible notes receivable .................. -- -- --
------------ ------------ ------------
Balance at end of period ...................................... $ 7,051,000 $ 5,510,000 $ 742,000
============ ============ ============
Tax valuation allowance for deferred tax assets:
Balance at beginning of period ................................ $ 4,718,600 $ -- $ --
Additions, charged to cost and expenses ....................... 12,229,510 4,718,600 --
Deductions .................................................... -- -- --
------------ ------------ ------------
Balance at end of period ...................................... $ 16,948,110 $ 4,718,600 $ --
============ ============ ============
F-29