SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q [ X ] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange act of 1934 For the Quarterly Period Ended March 31, 1998 -------------- 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 0-25378 HCIA INC. --------- (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) MARYLAND 52-1407998 - --------------------------------------- ---------- (STATE OR OTHER JURISDICTION (I.R.S. EMPLOYER OF INCORPORATION) IDENTIFICATION NUMBER) 300 EAST LOMBARD STREET, BALTIMORE, MARYLAND 21202 - -------------------------------------------- ------------- (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE) REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE (410) 895-7470 -------------- 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 report(s)), and (2) has been subject to such filing requirements for the past 90 days. YES X NO ----------------- ----------------- Indicate the number of shares outstanding of each of the registrant's classes of common stock, at May 1, 1998: Class: Common Stock Number of Shares: 11,851,125 ----------- HCIA INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS MARCH 31, 1998 AND DECEMBER 31, 1997 (IN THOUSANDS) Part 1 Item 1. Financial Statements 1998 1997 (Unaudited) ASSETS Current assets: Cash and cash equivalents................................................... $ 7,994 $ 5,580 Trade accounts receivable, net of allowance for doubtful accounts of $2,408 in 1998 and $2,100 in 1997....................................... 29,490 34,354 Prepaid expenses and other current assets................................... 4,314 3,669 Deferred compensation funds held in trust................................... 3,218 3,583 -------- -------- Total current assets........................................................ 45,016 47,186 Furniture and equipment, net.................................................. 12,763 13,671 Computer software costs, net.................................................. 7,539 26,727 Other intangible assets, net.................................................. 39,685 71,298 Net deferred tax asset........................................................ 34,927 23,238 Other......................................................................... 160 120 -------- -------- Total assets................................................................ $140,090 $182,240 ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable............................................................. $ 1,811 $ 2,227 Accrued salaries, benefits and other liabilities............................. 8,498 7,461 Deferred revenue............................................................. 1,919 2,255 Acquired deferred compensation liability .................................... 3,218 3,583 -------- -------- Total current liabilities................................................... 15,446 15,526 -------- -------- Stockholders' equity: Common stock-$.01 par value; 50,000,000 shares authorized; issued and outstanding 11,851,125 as of March 31, 1998 and 11,850,094 as of December 31, 1997.......................................................... 118 118 Additional paid-in capital.................................................... 250,904 250,892 Accumulated deficit........................................................... (126,229) (84,179) Accumulated other comprehensive loss.......................................... (149) (117) -------- -------- Total stockholders' equity.................................................. 124,644 166,714 -------- -------- Total liabilities and stockholders' equity.................................... $140,090 $182,240 ======== ======== See accompanying notes to consolidated financial statements. Page 1 HCIA INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (IN THOUSANDS, EXCEPT PER SHARE DATA) (UNAUDITED) 1998 1997 Revenue.............................................................. $ 17,556 $25,725 Salaries, wages and benefits......................................... 9,904 10,875 Other operating expenses............................................. 5,920 6,054 Depreciation......................................................... 1,079 932 Amortization......................................................... 3,531 3,740 Impairment loss on intangible assets and restructuring charges....... 50,821 - -------- ------- Operating (loss) income........................................ (53,699) 4,124 Interest income...................................................... 83 181 Interest expense .................................................... 80 98 -------- ------- (Loss) income before income taxes............................. (53,696) 4,207 (Benefit) provision for income taxes................................. (11,646) 1,679 -------- ------- Net (loss) income............................................ $(42,050) $ 2,528 ======== ======= Basic net (loss) income per share.................................... $ (3.55) $ 0.21 ======== ======= Basic shares used in per share calculation........................... 11,851 11,800 ======== ======= Diluted net (loss) income per share.................................. $ (3.55) $ 0.21 ======== ======= Diluted shares used in per share calculation......................... 11,851 12,077 ======== ======= See accompanying notes to consolidated financial statements. Page 2 HCIA INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY YEAR ENDED DECEMBER 31, 1997 AND THE THREE MONTHS ENDED MARCH 31, 1998 (IN THOUSANDS) Additional Paid-in Accumulated Other Common Stock Capital Accumulated Deficit Comprehensive Loss ------------ ------------------ ------------------- ------------------ BALANCE AT DECEMBER 31, 1996 $118 $249,591 $ (47,220) $ (82) ------------------------------------------------------------------------------ Exercise of stock options - 613 - - Tax benefits related to exercise of stock options - 688 - - Comprehensive loss Net loss - - (36,959) - Other comprehensive loss Foreign currency translation Unrealized depreciation of short- term investments Other comprehensive loss (35) Comprehensive loss --------------------------------------------------------------------------- BALANCE AT DECEMBER 31, 1997 $118 $250,892 $ (84,179) $(117) --------------------------------------------------------------------------- Exercise of stock options - 12 - - Comprehensive loss Net loss - - (42,050) - Other comprehensive loss Foreign currency translation - - - - Other comprehensive loss (32) Comprehensive loss --------------------------------------------------------------------------- BALANCE AT MARCH 31, 1998 (Unaudited) $118 $250,904 $(126,229) $(149) =========================================================================== Total Stockholders' Comprehensive Loss Equity ------------------ ------------------- BALANCE AT DECEMBER 31, 1996 $ - $202,407 ----------------------------------------- Exercise of stock options - 613 Tax benefits related to exercise of stock options - 688 Comprehensive loss Net loss (36,959) (36,959) Other comprehensive loss Foreign currency translation (31) (31) Unrealized depreciation of short- term investments (4) (4) ----------------- Other comprehensive loss (35) ----------------- Comprehensive loss $(36,994) ================= --------------- BALANCE AT DECEMBER 31, 1997 $166,714 --------------- Exercise of stock options - 12 Comprehensive loss Net loss (42,050) (42,050) Other comprehensive loss Foreign currency translation (32) (32) ----------------- Other comprehensive loss (32) ----------------- Comprehensive loss $(42,082) ================= --------------- BALANCE AT MARCH 31, 1998 (Unaudited) $124,644 =============== See accompanying notes to consolidated financial statements. Page 3 HCIA INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (IN THOUSANDS) (UNAUDITED) 1998 1997 Cash flows from operating activities: Net loss........................................................................ $(42,050) $ 2,528 Adjustments to reconcile net loss to net cash provided by operating activities: Depreciation and amortization............................................... 4,610 4,672 Impairment loss on intangible assets and restructuring charges.............. 50,821 - Deferred tax provision...................................................... (11,689) 1,214 Changes in operating assets and liabilities: Accounts receivable....................................................... 4,864 (5,856) Income taxes receivable................................................... - 214 Prepaid expenses and other current assets................................. (645) 451 Accounts payable.......................................................... (416) 887 Accrued salaries, benefits and other liabilities.......................... 239 (1,483) Deferred revenue.......................................................... (336) (386) -------- ------- Net cash provided by operating activities............................... 5,398 2,241 -------- ------- Cash flows from investing activities: Purchases of furniture and equipment............................................ (171) (1,991) Computer software purchased or capitalized...................................... (2,475) (4,095) Other intangible assets purchased or capitalized................................ (278) (473) Proceeds from disposals of short-term investments............................... - 546 Other........................................................................... (40) - -------- ------- Net cash used in investing activities................................... (2,964) (6,013) -------- ------- Cash flows from financing activities: Proceeds from exercise of stock options......................................... 12 453 Income tax benefit related to stock options..................................... - 558 Repayments of notes payable..................................................... - (1,184) -------- ------- Net cash provided by (used in) financing activities..................... 12 (173) -------- ------- Impact of currency fluctuations on cash and cash equivalents....................... (32) (18) -------- ------- Increase (decrease) in cash and cash equivalents .................................. 2,414 (3,963) Cash & cash equivalents - beginning of period...................................... 5,580 13,302 -------- ------- Cash & cash equivalents - end of period............................................ $ 7,994 $ 9,339 ======== ======= Supplemental cash flow information - cash paid during period for interest $ 40 $ 111 ======== ======= - cash paid during period for income taxes $ - $ 306 ======== ======= See accompanying notes to consolidated financial statements. Page 4 HCIA INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS MARCH 31, 1998 (UNAUDITED) (1) BASIS OF PRESENTATION The accompanying unaudited interim financial statements of the Company have been prepared in accordance with generally accepted accounting principles. In the opinion of management, these statements reflect all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of the Company's financial condition, results of operations, changes in stockholders' equity and cash flows for the periods presented. The results of operations for the period ended March 31, 1998 may not be indicative of the results that may be expected for the full year ending December 31, 1998. These financial statements and notes should be read in conjunction with the financial statements and notes included in the audited consolidated financial statements of the Company for the year ended December 31, 1997 as contained in the Company's Annual Report on Form 10-K for the year ended December 31, 1997 (1934 Act File No. 0-25378). (2) IMPAIRMENT LOSS ON INTANGIBLE ASSETS AND RESTRUCTURING CHARGES During the three months ended March 31, 1998, the Company recorded an impairment loss on intangible assets and restructuring charges of approximately $50.8 million. Approximately $50.0 million of the charges represented the write-down of certain intangible assets. This write-down arose primarily due to the failure of the Company's Integrated Solutions Unit to execute agreements with customers for large scale custom solutions and the Company's determination that the Unit's revenue which could be anticipated from future agreements of this type was significantly less than had been previously anticipated. As the products marketed by the Integrated Solutions Unit were intended to integrate the products and technologies of the Company's other business units, this determination resulted in a reduced expectation of future cash flows from the Company's intangible assets across most of its business units and accordingly, an impairment in value of these intangible assets. The remainder of the charges, totaling approximately $800,000, relate primarily to accruals for the cost of employee severance and facilities reductions. The following table summarizes the impairment loss on intangible assets and computer software costs: Pre-Charge Post-Charge Asset Net Book Value Write Down Net Book Value - ----------------------------------------------------------------------------------------------------------- Databases $ 2,871,000 $ 1,649,000 $ 1,222,000 CPHA License 9,113,000 ---- 9,113,000 Goodwill 46,326,000 20,644,000 25,682,000 Customer Bases 2,987,000 2,028,000 959,000 Methodologies 3,549,000 2,355,000 1,194,000 Assembled Workforce 3,266,000 1,751,000 1,515,000 Tradename 1,029,000 1,029,000 ---- Software 28,106,000 20,567,000 7,539,000 ========================================================================== $ 97,247,000 $ 50,023,000 $ 47,224,000 ========================================================================== (3) INCOME TAXES During the quarter ended March 31, 1998, the Company recorded a valuation allowance of $5.0 million to reduce the carrying value of its deferred tax asset to an amount management believes is realizable through future taxable income. Page 5 (4) NEW ACCOUNTING ANNOUNCEMENTS SFAS No. 130 The Company adopted Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive Income," (SFAS No. 130) as of January 1, 1998. SFAS No. 130 establishes standards for reporting and display of comprehensive income and its components in a full set of general purpose financial statements. Adoption of SFAS No. 130 does not have any material effect on current or prior period financial displays presented by the Company. The Company has selected the presentation option of including comprehensive income (loss) in its Consolidated Statements of Changes in Stockholders' Equity. SOP 97-2 The Company adopted provisions of Position 97-2, "Software Revenue Recognition" (SOP 97-2) issued by The American Institute of Certified Public Accountants Accounting Standards Executive Committee as of January 1, 1998. SOP 97-2 provides revised and new guidance on when and in what amounts revenue should be recognized for licensing, selling, leasing or otherwise marketing computer software. Adoption of SOP 97-2 does not have any material effect on the Company's revenue recognition policies. (5) EARNINGS PER SHARE The Company adopted SFAS No. 128 during the fourth quarter of the year ended December 31, 1997. SFAS No. 128 establishes revised standards for computing and presenting earnings per share (EPS) data. It requires dual presentation of "basic" and "diluted" EPS on the face of the statements of operations and a reconciliation of the numerators and denominators used in the basic and diluted EPS calculations. As required by SFAS No. 128, EPS data for prior periods presented have been restated to conform to the new standard. Basic EPS is calculated by dividing net earnings (loss) by the weighted average number of common shares outstanding for the applicable period. Diluted EPS is calculated after adjusting the numerator and the denominator of the basic EPS calculation for the effect of all potential dilutive common shares outstanding during the period. Information related to the calculation of net earnings per share of common stock is summarized as follows: Income Shares Per Share (Numerator) (Denominator) Amount --------------------------------------------- For the three months ended March 31, 1997 Basic EPS: 2,528 11,800 0.21 Incremental shares from assumed exercise of dilutive options and warrants: - 277 - ============================================= Diluted EPS 2,528 12,077 0.21 ============================================= For the three months ended March 31, 1998, no exercise of options is assumed since their effect is antidilutive. The weighted average number of common shares outstanding is 11,851,000. Page 6 Item 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS THREE MONTHS ENDED MARCH 31, 1998 COMPARED TO THREE MONTHS ENDED MARCH 31, 1997 REVENUE. Revenue for the three months ended March 31, 1998 was $17.6 million, a decrease of $8.2 million or 32% less than the three months ended March 31, 1997. The decrease was primarily the result of the failure of the Company's Integrated Solutions Unit to execute agreements with customers for large scale custom solutions and reduced revenue from the Company's Implementation Unit. SALARIES, WAGES AND BENEFITS. Salaries, wages and benefits were $9.9 million for the three months ended March 31, 1998 as compared to $10.9 million for three months ended March 31, 1997, but increased as a percentage of revenue to 56% for the three month period as compared to 42% for the same period in 1997. The decrease in these expenses was primarily the result of the Company reducing its overall level of employment during 1997, but with overall employment still at a level in anticipation of higher revenue for the three months ended March 31, 1998, than was actually achieved. OTHER OPERATING EXPENSES. Other operating expenses, which include occupancy, travel and consulting expenses, were $5.9 million for the three months ended March 31, 1998 as compared to $6.1 million for the three months ended March 31, 1997, but increased as a percentage of revenue to 34% for the three month period as compared to 24% for the same period in 1997. The decrease in these expenses was a result of cost control efforts relating to travel and the use of outside consultants, but with the expenses still at a level in anticipation of higher revenue for the three months ended March 31, 1998, than was actually achieved. DEPRECIATION AND AMORTIZATION. Depreciation and amortization was $4.6 million for the three months ended March 31, 1998, as compared to $4.7 million for the three months ended March 31, 1997, but increased as a percentage of revenue to 26% for the three month period as compared to 18% for the same period in 1997. The decrease in these expenses was a result of the effect of the write-off of certain intangible assets during 1997, with the increase in these expenses as a percentage of revenue the result of lower revenue during the three months ended March 31, 1998, as compared to the comparable period in 1997. IMPAIRMENT LOSS ON INTANGIBLE ASSETS AND RESTRUCTURING CHARGES. These charges arose primarily due to the failure of the Company's Integrated Solutions Unit to execute agreements with customers for large scale custom solutions and the Company's determination that the Unit's revenue which could be anticipated from future agreements of this type was significantly less than had been previously anticipated. As the products marketed by the Integrated Solutions Unit were intended to integrate the products and technologies of the Company's other business units, this determination resulted in a reduced expectation of future cash flows from the Company's intangible assets across most of its business units and, accordingly, an impairment in value of these intangible assets. The remainder of the charges, totaling approximately $800,000, relate primarily to accruals for the cost of employee severance and facilities reductions. INTEREST INCOME AND EXPENSE. Net interest income was $3,000 for the three months ended March 31, 1998 compared with net interest income of $83,000 for the three months ended March 31, 1997. This change was the result of a lower invested balance in 1998. INCOME TAXES. During the quarter ended March 31, 1998, the Company recorded a valuation allowance of $5.0 million to reduce the carrying value of its deferred tax asset to an amount management believes is realizable through future taxable income. Exclusive of this valuation allowance, the Company's effective tax rate was 31% for the three months ended March 31, 1998, compared with 39.9% for the three months ended March 31, 1997. This lower rate is due primarily to the effect of the write-off of the intangible assets associated with the impairment loss as discussed above. Page 7 LIQUIDITY AND CAPITAL RESOURCES The Company maintains a $25 million revolving line of credit (subject to certain borrowing limitations) with First Union National Bank ("First Union") for general corporate purposes including working capital requirements and acquisitions. Borrowings under this line are collateralized by substantially all of the Company's assets and bear interest at varying rates based on an index tied to First Union's prime rate or LIBOR. The Company is required to pay a commitment fee on the average daily unused portion of the facility at a rate from 0.25% to 0.375% per annum, depending on the Company's debt/cash flow ratio. The credit facility also contains financial covenants applicable to the Company, including debt/cash flow ratios and ratios of debt to capital. As of March 31, 1998, the Company was in compliance with all such financial covenants and had a maximum borrowing capacity of approximately $11.0 million, and there were no borrowings outstanding under the facility. The credit facility expires on July 31, 2001. YEAR 2000 COMPUTER SOFTWARE The Company has performed a review of its computer systems and software and has begun to implement the required revisions in anticipation of the Year 2000. The Company believes that its primary exposure to the issue is in the ability of its systems to recognize four digit references versus two digit references (i.e., 1998 versus 98) and to accept such information from its customers in the process of building its databases. At this time, the Company has completed the required revisions to certain of its main processing systems to make them Year 2000 compliant and has scheduled the remainder of its efforts such that they should be completed by June 1999. The Company believes that to a significant extent, the necessary revisions to its systems and products will be made during the planned updates and edits to its products offerings. As a result, the cost of the efforts performed to date and the incremental future costs the Company expects to incur to make all of its systems and processes Year 2000 compliant are not anticipated to be material to the Company's results of operations, liquidity or capital resources. While the Company, in the process of making its systems Year 2000 compliant, intends to design algorithms to test data received from its customers and convert it to a usable format, there can be no assurances that the Company will not experience difficulties in utilizing data provided by its customers who have not taken the necessary steps to make their internal systems Year 2000 compliant. It is not currently possible to estimate the effect on the Company's results of operations from any such difficulties. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK Not applicable Page 8 PART II OTHER INFORMATION ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (B) REPORTS ON FORM 8-K A current Report on Form 8-K, dated April 17, 1998, was filed in connection with the Company's results for the three months ended March 31, 1998. The Report contained a summarized version of that quarter's financial statements. Page 9 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. HCIA Inc. _________ (Registrant) Date: May 15, 1998 By: ________________________________ Barry C. Offutt Senior Vice President and Chief Financial Officer (principal financial officer) Page 10