UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2004
---------------------
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 0-23367
BIRNER DENTAL MANAGEMENT SERVICES, INC.
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
COLORADO 84-1307044
- ----------------------------------------------- -----------------------
(State or other jurisdiction of incorporation (IRS Employer
or organization) Identification No.)
3801 EAST FLORIDA AVENUE, SUITE 508
DENVER, COLORADO 80210
- ----------------------------------------------------- -----------------------
(Address of principal executive offices) (Zip Code)
(303) 691-0680
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(Registrant's telephone number, including area code)
N/A
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(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
-------- ---------
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes No X
--------- -------
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class Shares Outstanding as of November 12, 2004
- ------------------------------- -------------------------------------------
Common Stock, without par value 1,207,593
BIRNER DENTAL MANAGEMENT SERVICES, INC. AND SUBSIDIARIES
INDEX TO FORM 10-Q
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements Page
----
Unaudited Condensed Consolidated Balance Sheets as of December 31, 2003
and September 30, 2004 3
Unaudited Condensed Consolidated Statements of Operations for the Quarters
and Nine Months Ended September 30, 2003 and 2004 4
Unaudited Condensed Statement of Shareholders' Equity as of September 30, 2004 5
Unaudited Condensed Consolidated Statements of Cash Flows for the Nine Months
Ended September 30, 2003 and 2004 6
Unaudited Notes to Condensed Consolidated Financial Statements 8
Item 2. Management's Discussion and Analysis of Financial Condition
And Results of Operations 11
Item 3. Quantitative and Qualitative Disclosures About Market Risk 21
Item 4. Controls and Procedures 21
PART II - OTHER INFORMATION
Item 1. Legal Proceedings 22
Item 7. Exhibits and Reports on Form 8-K 22
Signatures 23
2
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
BIRNER DENTAL MANAGEMENT SERVICES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
December 31, September 30,
ASSETS 2003 2004
------------- -------------
** (Unaudited)
CURRENT ASSETS:
Cash and cash equivalents $ 1,110,786 $ 968,801
Accounts receivable, net of allowance for doubtful accounts
of $215,838 and $236,039, respectively 2,673,041 2,908,204
Deferred tax asset 121,475 121,475
Prepaid expenses and other assets 736,424 394,525
----------- -----------
Total current assets 4,641,726 4,393,005
PROPERTY AND EQUIPMENT, net 2,680,169 2,729,738
OTHER NONCURRENT ASSETS:
Intangible assets, net 14,732,349 13,974,703
Deferred charges and other assets 155,461 160,313
----------- -----------
Total assets $22,209,705 $21,257,759
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable and accrued expenses $ 3,990,467 $ 4,597,721
Income taxes payable 190,883 262,999
Current maturities of long-term debt 351,847 361,955
----------- -----------
Total current liabilities 4,533,197 5,222,675
LONG-TERM LIABILITIES:
Deferred tax liability, net 349,801 349,801
Long-term debt, net of current maturities 2,735,576 714,141
Other long-term obligations 179,884 166,753
----------- -----------
Total liabilities 7,798,458 6,453,370
SHAREHOLDERS' EQUITY:
Preferred Stock, no par value, 10,000,000 shares
authorized; none outstanding - -
Common Stock, no par value, 20,000,000 shares
authorized; 1,203,511 and 1,209,093 shares issued and
outstanding, respectively 12,428,363 12,057,098
Retained earnings 1,982,884 2,747,291
----------- -----------
Total shareholders' equity 14,411,247 14,804,389
----------- -----------
Total liabilities and shareholders' equity $22,209,705 $21,257,759
=========== ===========
** Derived from the Company's audited consolidated balance sheet at
December 31, 2003
The accompanying notes are an integral part of these
condensed consolidated balance sheets.
3
BIRNER DENTAL MANAGEMENT SERVICES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
Quarters Ended Nine Months Ended
September 30, September 30,
--------------------------- -----------------------------
2003 2004 2003 2004
----------- ----------- ----------- -----------
NET REVENUE $ 7,528,649 $ 7,918,689 $23,032,600 $24,076,793
DIRECT EXPENSES:
Clinical salaries and benefits 2,891,465 2,995,138 8,843,931 9,031,085
Dental supplies 447,942 544,822 1,362,814 1,502,662
Laboratory fees 568,641 581,762 1,824,213 1,849,334
Occupancy 876,387 922,251 2,585,489 2,665,319
Advertising and marketing 80,675 229,861 272,060 565,538
Depreciation and amortization 521,580 435,584 1,656,010 1,356,899
General and administrative 769,982 876,824 2,279,849 2,552,935
----------- ----------- ----------- -----------
6,156,672 6,586,242 18,824,366 19,523,772
----------- ----------- ----------- -----------
Contribution from dental offices 1,371,977 1,332,447 4,208,234 4,553,021
CORPORATE EXPENSES:
General and administrative 736,430 733,134 2,348,128 2,295,090
Depreciation and amortization 71,998 54,117 226,747 165,039
----------- ----------- ----------- -----------
Operating income 563,549 545,196 1,633,359 2,092,892
Interest expense, net 35,100 13,724 124,506 57,343
----------- ----------- ----------- -----------
Income from continuing operations
before income taxes 528,449 531,472 1,508,853 2,035,549
Income tax expense (200,810) (212,607) (573,363) (814,238)
----------- ----------- ----------- -----------
Income from continuing operations 327,639 318,865 935,490 1,221,311
DISCONTINUED OPERATIONS (NOTE 6):
Operating (loss) attributable to assets disposed of (47,103) (38,134) (83,614) (120,169)
(Loss) recognized on dispositions - (192,500) - (192,500)
Income tax (benefit) 17,899 92,254 31,773 125,068
----------- ----------- ----------- -----------
Loss on discontinued operations (29,204) (138,380) (51,841) (187,601)
------------ ------------ ------------ -----------
Net income $ 298,435 $ 180,485 $ 883,649 $ 1,033,710
=========== =========== ============ ===========
Net income per share of Common Stock - Basic:
Continuing Operations $ .26 $ .27 $ .70 $ 1.03
Discontinued Operations (.02) (.12) (.04) (.16)
----------- --------- ------------ -----------
Net income per share of Common Stock - Basic $ .24 $ .15 $ .66 $ .87
=========== =========== ============ ===========
Net income per share of Common Stock - Diluted:
Continuing Operations $ .23 $ .25 $ .64 $ .94
Discontinued Operations (.02) (.11) (.04) (.14)
------------ ---------- ------------ -----------
Net income per share of Common Stock - Diluted $ .21 $ .14 $ .60 $ .80
=========== ========= ============ ===========
Weighted average number of shares of
Common Stock and dilutive securities:
Basic 1,260,181 1,202,897 1,335,773 1,193,813
========= ========= ========= =========
Diluted 1,388,321 1,302,897 1,465,854 1,298,641
========= ========= ========= =========
The accompanying notes are an integral part of these
condensed consolidated financial statements.
4
BIRNER DENTAL MANAGEMENT SERVICES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
(UNAUDITED)
Common Stock Total
--------------------------- Retained Shareholders'
Shares Amount Earnings Equity
--------- ------------ ----------- ------------
BALANCES, December 31, 2003 1,203,511 $ 12,428,363 $ 1,982,884 $ 14,411,247
Common Stock options exercised 47,082 174,165 - 174,165
Purchase and retirement of Common Stock (41,500) (545,430) - (545,430)
Dividends declared on Common Stock - - (269,303) (269,303)
Net income - - 1,033,710 1,033,710
--------- ------------ ----------- -----------
BALANCES, September 30, 2004 1,209,093 $ 12,057,098 $ 2,747,291 $14,804,389
========= ============ =========== ===========
The accompanying notes are an integral part of these
condensed consolidated financial statements.
5
Page 1 of 2
BIRNER DENTAL MANAGEMENT SERVICES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
Nine Months Ended
September 30,
--------------------------------
2003 2004
------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 883,649 $ 1,033,710
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 1,902,377 1,533,939
Gain on disposition of property 11,055 1,731
Loss recognized on abandonment of dental office - 192,500
Provision for doubtful accounts 9,779 20,201
Amortization of debt issuance costs 18,937 2,568
Changes in assets and liabilities, net of effects from acquisitions:
Accounts receivable (118,927) (255,364)
Prepaid expenses and other assets 403,925 341,899
Deferred charges and other assets - (7,420)
Accounts payable and accrued expenses (36,245) 516,572
Income taxes payable 275,579 72,116
Other long-term obligations 9,251 (13,131)
----------- ------------
Net cash provided by operating activities 3,359,380 3,439,321
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (305,788) (1,020,093)
------------ ------------
Net cash used in investing activities (305,788) (1,020,093)
CASH FLOWS FROM FINANCING ACTIVITIES:
Advances - line of credit 9,475,000 12,850,000
Repayments - line of credit (7,175,000) (14,600,000)
Repayment of bank term-loan (1,825,000) -
Repayment of long-term debt (259,127) (261,327)
Payment of debt issuance and financing costs (4,000) -
Proceeds from exercise of Common Stock options 161,673 174,165
Purchase and retirement of Common Stock (3,662,709) (545,430)
Common Stock cash dividends - (178,621)
Other 9,660 -
----------- -----------
Net cash used in financing activities (3,279,503) (2,561,213)
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (225,911) (141,985)
CASH AND CASH EQUIVALENTS, beginning of period 1,072,757 1,110,786
----------- -----------
CASH AND CASH EQUIVALENTS, end of period $ 846,846 $ 968,801
=========== ===========
The accompanying notes are an integral part of these
condensed consolidated financial statements.
6
Page 2 of 2
BIRNER DENTAL MANAGEMENT SERVICES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
Nine Months Ended
September 30,
--------------------------------
2003 2004
------------ -----------
SUPPLEMENTAL DISCLOSURE OF CASH
FLOW INFORMATION:
Cash paid during the period for interest $ 159,807 $ 107,593
============= ============
Cash paid during the period for income taxes $ 266,010 $ 617,701
============= ============
Dividends payable at period end $ - $ 90,682
============= ============
The accompanying notes are an integral part of these
condensed consolidated financial statements.
7
BIRNER DENTAL MANAGEMENT SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
SEPTEMBER 30, 2004
(1) UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
The financial statements included herein have been prepared by Birner Dental
Management Services, Inc. (the "Company") pursuant to the rules and regulations
of the Securities and Exchange Commission. Certain information and footnote
disclosures normally included in financial statements prepared in accordance
with accounting principles generally accepted in the United States have been
condensed or omitted pursuant to such rules and regulations, although the
Company believes that the disclosures included herein are adequate to make the
information presented not misleading. A description of the Company's accounting
policies and other financial information is included in the audited consolidated
financial statements as filed with the Securities and Exchange Commission in the
Company's Annual Report on Form 10-K for the year ended December 31, 2003.
In the opinion of management, the accompanying unaudited condensed consolidated
financial statements contain all adjustments necessary to present fairly the
financial position of the Company as of September 30, 2004 and the results of
operations and cash flows for the periods presented. All such adjustments are of
a normal recurring nature. The results of operations for the quarter and nine
months ended September 30, 2004 are not necessarily indicative of the results
that may be achieved for a full fiscal year and cannot be used to indicate
financial performance for the entire year.
(2) SIGNIFICANT ACCOUNTING POLICIES
Stock Options
The Company accounts for stock options using the intrinsic value method wherein
compensation expense is recognized on stock options granted only for the excess
of the market price of our Common Stock over the option exercise price on the
date of grant. All options of the Company are granted at amounts equal to or
higher than the fair value of our Common Stock, so no compensation expense is
recorded.
Some companies also recognize compensation expense for the fair value of the
option right itself. The Company has elected not to adopt this accounting method
because it requires the use of subjective valuation models which the Company
believes are not representative of the real value of the option to either the
Company or the optionees. However, we are required to disclose the pro forma
effect of accounting for stock options using such a valuation for all options
granted. The fair value of the options was estimated at the date of grant using
a Black-Scholes option-pricing model with the following weighted average
assumptions:
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------- -----------------
2003 2004 2003 2004
------- --------- --------- ---------
Risk-free interest rate * 3.00% 2.39% 2.88%
Expected dividend yield 0% 1.54% 0% 1.54%
Expected lives * 3.4 years 5.0 years 3.4 years
Expected volatility 45% 44% 48% 39%
* There were no options granted during the third quarter of 2003.
To estimate lives of options for this valuation, it was assumed options would be
exercised one year after becoming fully vested. All options are initially
assumed to vest. Cumulative compensation cost recognized in pro forma net income
or loss with respect to options that are forfeited prior to vesting is adjusted
as a reduction of pro forma compensation expense in the period of forfeiture.
Fair value computations are highly sensitive to the volatility factor assumed;
the greater the volatility, the higher the computed fair value of options
granted.
There were no options granted during the quarter ended September 30, 2003. The
total fair value of options and warrants granted was computed to be
approximately $147,000 for the three months ended September 30, 2004 and
$469,000 and $171,000 for the nine months ended September 30, 2003 and 2004,
respectively. These amounts are amortized ratably over the vesting periods of
the options or recognized at the date of grant if no vesting period is required.
Pro forma stock-based compensation, net of the effect of forfeitures, was
($4,000) and $22,000 for the quarters ended September 30, 2003 and 2004,
respectively, and $373,000 and $60,000 for the nine months ended September 30,
2003 and 2004, respectively.
8
If the Company had accounted for its stock-based compensation plans in
accordance with Statement of Financial Accounting Standards ("SFAS") No. 123,
the Company's net income and net income per common share would have been
reported as follows:
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------------- -------------------------
2003 2004 2003 2004
--------- --------- --------- ----------
Net income, as reported $ 298,435 $ 180,485 $ 883,649 $1,033,710
Stock-based compensation included in net income - - - -
Fair value of stock-based compensation, net of income taxes 2,768 (13,112) (231,205) (36,759)
--------- --------- --------- ----------
Pro forma net income $ 301,203 $ 167,373 $ 652,444 $ 996,951
========= ========= ========= ==========
Net income per share, basic:
As reported $ .24 $ .15 $ .66 $ .87
Stock-based compensation included in net income - - - -
Fair value of stock-based compensation, net of income taxes - (.01) (.17) (.03)
----- ----- ------ -----
Pro forma $ .24 $ .14 $ .49 $ .84
===== ===== ====== =====
Net income per share, diluted:
As reported $ .21 $ .14 $ .60 $ .80
Stock-based compensation included in net income - - - -
Fair value of stock-based compensation, net of income taxes .01 (.01) (.15) (.03)
----- ----- ------ -----
Pro forma $ .22 $ .13 $ .45 $ .77
===== ===== ====== =====
Weighted average shares used to calculate pro forma net income per share were
determined as described in Note 3, except in applying the treasury stock method
to outstanding options, net proceeds assumed received upon exercise were
increased by the amount of compensation cost attributable to future service
periods and not yet recognized as pro forma expense.
In March 2004, the Financial Accounting Standards Board (FASB) released an
exposure draft of "Proposed Statement of Financial Accounting Standards
Share-Based Payment", an amendment of FASB Statements No. 123 and 95. If
adopted, the proposed statement could be effective for the Company on January 1,
2005 and would require the Company to record expense for the fair value for
stock options, unless effectiveness is delayed. The Company is currently
evaluating any impact this proposal will have on stock-based compensation
expense and how the expense under the proposal may differ from amounts currently
disclosed under SFAS No. 123.
(3) EARNINGS PER SHARE
The Company calculates earnings per share in accordance with SFAS No. 128
"Earnings Per Share".
Quarters Ended September 30,
-------------------------------------------------------------------------
2003 2004
------------------------------------- ---------------------------------
Per Share Per Share
Income Shares Amount Income Shares Amount
--------- ---------- ------ ---------- ---------- --------
Basic EPS:
Net income available to
shares of Common Stock $ 298,435 1,260,181 $ .24 $ 180,485 1,202,897 $ .15
Effect of dilutive shares of
Common Stock from stock
options and warrants - 128,140 (.03) - 100,000 (.01)
--------- ---------- ----- ----------- ---------- -----
Diluted EPS:
Net income available to
shares of Common Stock $ 298,435 1,388,321 $ .21 $ 180,485 1,302,897 $ .14
========= ========= ===== ========== ========= =====
The difference in weighted average shares outstanding between basic earnings per
share and diluted earnings per share for the quarters ended September 30, 2003
and 2004 relates to the effect of 128,140 and 100,000, respectively, of dilutive
shares of Common Stock from stock options and warrants which are included in
total shares for the diluted calculation.
9
Nine Months Ended September 30,
-------------------------------------------------------------------------
2003 2004
------------------------------------- ---------------------------------
Per Share Per Share
Income Shares Amount Income Shares Amount
--------- ---------- ------ ---------- ---------- --------
Basic EPS:
Net income available to
shares of Common Stock $ 883,649 1,335,773 $ .66 $1,033,710 1,193,813 $ .87
Effect of dilutive shares of
Common Stock from stock
options and warrants - 130,081 (.06) - 104,828 (.07)
--------- --------- ----- ---------- --------- -----
Diluted EPS:
Net income available to
shares of Common Stock $ 883,649 1,465,854 $ .60 $1,033,710 1,298,641 $ .80
========= ========= ===== ========== ========= =====
The difference in weighted average shares outstanding between basic earnings per
share and diluted earnings per share for the nine months ended September 30,
2003 and 2004 relates to the effect of 130,081 and 104,828, respectively, of
dilutive shares of Common Stock from stock options and warrants which are
included in total shares for the diluted calculation.
(4) LINE OF CREDIT
On May 6, 2004 the Company amended its Credit Facility. The amended Credit
Facility allows the Company to borrow, on a revolving basis, an aggregate
principal amount not to exceed $4.0 million at either, or a combination of, the
Lender's Base Rate or at LIBOR plus a LIBOR Rate Margin, at the Company's
option. The Lender's Base Rate computes interest at the higher of the Lender's
"prime rate" or the Federal Funds Rate plus one-half percent (0.5%). The LIBOR
option computes interest at the LIBOR rate as of the date such LIBOR Rate loan
was made plus a LIBOR Rate margin of 1.75%. A commitment fee of 0.25% on the
average daily unused amount of the Revolving Loan commitment during the
preceding quarter will also be assessed. The Company may prepay any Base Rate
Loan at any time and any LIBOR Rate Loan upon not less than three business days
prior written notice given to the Lender, but the Company will be responsible
for any loss or cost incurred by the Lender in liquidating or employing deposits
required to fund or maintain the LIBOR rate Loan. The amended Credit Facility
expires on May 31, 2006. At September 30, 2004, the Company had $250,000
outstanding and $3.75 million available for borrowing under the Revolving Loan.
This consisted of $250,000 outstanding under the Base Rate option and no
borrowings outstanding under the LIBOR Rate option. The Credit Facility requires
the Company to maintain certain financial ratios on an ongoing basis. At
September 30, 2004, the Company was in full compliance with all of its covenants
under this agreement.
(5) CAPITAL COMMITMENTS
The Company has budgeted capital commitments for the next 12 months of
approximately $2.0 million. These include the development of five de novo
offices, three in the Phoenix, Arizona market and two in the Denver, Colorado
market. The total cost of opening these de novo offices is estimated to be
approximately $1.6 million. In addition, the Company is planning a major
remodeling of two of its existing offices, one of which is in the Denver,
Colorado market and one in the Colorado Springs, Colorado market. The estimated
costs of these remodels is approximately $400,000.
(6) DISCONTINUED OPERATIONS
During the third quarter of 2004, the Company closed an office in the Phoenix,
Arizona market. Discontinued operations are defined in Statement of Financial
Accounting Standards No. 144, "Accounting for the Impairment or Disposal of
Long-Lived Assets", as a component of a Company that has either been disposed of
or is classified as held for sale if both the operations and cash flows of the
component have been or will be eliminated from ongoing operations of the Company
as a result of the disposal transaction and the Company will not have any
significant continuing involvement in the operations of the component after the
disposal transaction. SFAS No. 144 further provides that the assets and
liabilities of the component, if any, that has been classified as discontinued
operations be presented separately in the Company's balance sheet. The results
of operations of the component of the Company that has been classified as
discontinued operations are also reported as discontinued operations for all
periods presented.
10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Forward-Looking Statements
The statements contained in this report that are not historical in nature are
forward-looking statements within the meaning of the Private Securities
Litigation Reform Act of 1995. All statements, other than statements of
historical facts, included in this report that address activities, events or
developments that we expect, believe, intend or anticipate will or may occur in
the future, are forward-looking statements. When used in this document, the
words "estimate," "believe," anticipate," "project" and similar expressions are
intended to identify forward-looking statements. Forward-looking statements are
inherently subject to risks and uncertainties, many of which cannot be predicted
with accuracy and some of which might not even be anticipated. These
forward-looking statements include statements in this Item 2., "Management's
Discussion and Analysis of Financial Condition and Results of Operations,"
regarding intent, belief or current expectations of the Company or its officers
with respect to the development or acquisition of additional dental practices
("Offices") and the successful integration of such Offices into the Company's
network, recruitment of additional dentists, funding of the Company's expansion,
capital expenditures, payment or nonpayment of dividends and cash outlays for
income taxes.
Such forward-looking statements involve certain risks and uncertainties that
could cause actual results to differ materially from anticipated results. These
risks and uncertainties include regulatory constraints, changes in laws or
regulations concerning the practice of dentistry or dental practice management
companies, the availability of suitable new markets and suitable locations
within such markets, changes in the Company's operating or expansion strategy,
the general economy of the United States and the specific markets in which the
Company's Offices are located or are proposed to be located, trends in the
health care, dental care and managed care industries, as well as the risk
factors set forth in the "Management's Discussion and Analysis of Financial
Condition and Results of Operations - Risk Factors" section of the Company's
Annual Report on Form 10-K for the fiscal year ended December 31, 2003, this
report, and other factors as may be identified from time to time in the
Company's filings with the Securities and Exchange Commission or in the
Company's press releases.
General
The following discussion relates to factors that have affected the results of
operations and financial condition of the Company for the quarters and nine
months ended September 30, 2003 and 2004. This information should be read in
conjunction with the Company's Condensed Consolidated Financial Statements and
related Notes thereto included elsewhere in this report.
Overview
The Company was formed in May 1995, and current1y manages 54 Offices in
Colorado, New Mexico and Arizona staffed by 81 general dentists and 22
specialists. The Company derives all of its Revenue (as defined below) from its
Management Agreements with professional corporations ("P.C.s") which conduct the
practice at each Office. In addition, the Company assumes a number of
responsibilities when it acquires a new practice or develops a de novo Office,
which are set forth in a Management Agreement, as described below.
The Company was formed with the intention of becoming the leading provider of
business services to dental practices in Colorado. The Company's growth and
success in the Colorado market led to its expansion into the New Mexico and
Arizona markets. The Company's growth strategy is to focus on greater
utilization of existing physical capacity through recruiting more dentists and
support staff and through selective acquisitions and development of de novo
Offices.
Critical Accounting Policies
The Company's critical accounting policies are set forth in its Form 10-K for
the year ended December 31, 2003. There have been no changes to these policies
since the filing of that report.
11
Components of Revenue and Expenses
Total dental group practice revenue ("Revenue") represents the revenue of the
Offices reported at estimated realizable amounts, received from dental plans,
other third-party payors and patients for dental services rendered at the
Offices. The Company's Revenue is derived principally from fee-for-service
revenue and managed dental care revenue. Fee-for-service revenue consists of
P.C. revenue received from indemnity dental plans, preferred provider plans and
direct payments by patients not covered by any third-party payment arrangement.
Managed dental care revenue consists of P.C. revenue received from capitated
managed dental care plans, including capitation payments and patient
co-payments. Capitated managed dental care contracts are between dental benefits
organizations and the P.C.s.
Net revenue represents Revenue less amounts retained by the Offices. The amounts
retained by the Offices represent amounts paid as salary to employed dentists
and hygienists. The Company's net revenue is dependent on the Revenue of the
Offices. Management service fee revenue represents the net revenue earned by the
Company for the Offices for which the Company has Management Agreements, but
does not have control. Direct expenses consist of the expenses incurred by the
Company in connection with managing the Offices, including salaries and benefits
for personnel other than dentists and hygienists, dental supplies, dental
laboratory fees, occupancy costs, advertising and marketing, depreciation and
amortization and general and administrative (including office supplies,
equipment leases, management information systems and other expenses related to
dental practice operations). The Company also incurs personnel and
administrative expenses in connection with maintaining a corporate function that
provides management, administrative, marketing, development and professional
services to the Offices.
Under each of the Management Agreements, the Company manages the business and
marketing aspects of the Offices, including (i) providing capital, (ii)
designing and implementing marketing programs, (iii) negotiating for the
purchase of supplies, (iv) staffing, (v) recruiting, (vi) training of non-dental
personnel, (vii) billing and collecting certain fees for dental services
provided by the Offices, (viii) arranging for certain legal and accounting
services, and (ix) negotiating with managed care organizations. Under the
Management Agreements, the P.C. is responsible for, among other things (i)
supervision of all dentists and dental hygienists, (ii) complying with all laws,
rules and regulations relating to dentists and dental hygienists, and (iii)
maintaining proper patient records. The Company has made, and intends to make in
the future, loans to P.C.s in Colorado, New Mexico and Arizona to fund their
acquisition of dental assets from third parties in order to comply with the laws
of such states.
Under the typical Management Agreement used by the Company, the P.C. pays the
Company a management fee equal to the Adjusted Gross Center Revenue of the P.C.
less compensation paid to the dentists and dental hygienists employed at the
Office of the P.C. Adjusted Gross Center Revenue is comprised of all fees and
charges booked each month by or on behalf of the P.C. as a result of dental
services provided to patients at the Office, less any adjustments for
uncollectible accounts, professional courtesies and other activities that do not
generate a collectible fee. The Company's costs include all direct and indirect
costs, overhead and expenses relating to the Company's provision of management
services at each Office under the Management Agreement, including (i) salaries,
benefits and other direct costs of employees who work at the Office (other than
dentist and hygienist salaries), (ii) direct costs of all Company employees or
consultants who provide services to or in connection with the Office, (iii)
utilities, janitorial, laboratory, supplies, advertising and other expenses
incurred by the Company in carrying out its obligations under the Management
Agreement, (iv) depreciation expense associated with the P.C.'s assets and the
assets of the Company used at the Office, and the amortization of intangible
asset value relating to the Office, (v) interest expense on indebtedness
incurred by the Company to finance any of its obligations under the Management
Agreement, (vi) general and malpractice insurance expenses, lease expenses and
dentist recruitment expenses, (vii) personal property and other taxes assessed
against the Company's or the P.C.'s assets used in connection with the operation
of the Office, (viii) out-of-pocket expenses of the Company's personnel related
to mergers or acquisitions involving the P.C., (ix) corporate overhead charges
or any other expenses of the Company, including the P.C.'s pro rata share of the
expenses of the accounting and computer services provided by the Company, and
(x) a collection reserve in the amount of 5.0% of Adjusted Gross Center Revenue.
As a result, substantially all costs associated with the provision of dental
services at the Offices are borne by the Company, other than the compensation of
the dentists and hygienists who work at the Offices of the P.C.'s. This enables
the Company to manage the profitability of the Offices. Each Management
Agreement is for a term of 40 years. Further, each Management Agreement
generally may be terminated by the P.C. only for cause, which includes a
material default by or bankruptcy of the Company. Upon expiration or termination
of a Management Agreement by either party, the P.C. must satisfy all obligations
it has to the Company.
12
The Company's Revenue is derived principally from fee-for-service revenue and
managed dental care revenue. Fee-for-service revenue consists of P.C. revenue
received from indemnity dental plans, preferred provider plans and direct
payments by patients not covered by any third-party payment arrangement. Managed
dental care revenue consists of P.C. revenue received from capitated managed
dental care plans, including capitation payments and patient co-payments.
Capitated managed dental care contracts are between dental benefits
organizations and the P.C.s. Under the Management Agreements, the Company
negotiates and administers these contracts on behalf of the P.C.s. Under a
capitated managed dental care contract, the dental group practice provides
dental services to the members of the dental benefits organization and receives
a fixed monthly capitation payment for each plan member covered for a specific
schedule of services regardless of the quantity or cost of services to the
participating dental group practice obligated to provide them. This arrangement
shifts the risk of utilization of these services to the dental group practice
providing the dental services. Because the Company assumes responsibility under
the Management Agreements for all aspects of the operation of the dental
practices (other than the practice of dentistry) and thus bears all costs of the
P.C.s associated with the provision of dental services at the Offices (other
than compensation and benefits of dentists and hygienists), the risk of
over-utilization of dental services at the Offices under capitated managed
dental care plans is effectively shifted to the Company. In addition, dental
group practices participating in a capitated managed dental care plan often
receive supplemental payments for more complicated or elective procedures. In
contrast, under traditional indemnity insurance arrangements, the insurance
company pays whatever reasonable charges are billed by the dental group practice
for the dental services provided.
The Company seeks to increase its fee-for-service business by increasing the
patient volume at existing Offices through effective marketing and advertising
programs and by opening new Offices. The Company seeks to supplement this
fee-for-service business with revenue from contracts with capitated managed
dental care plans. Although the Company's fee-for-service business generally is
more profitable than its capitated managed dental care business, capitated
managed dental care business serves to increase facility utilization and dentist
productivity. The relative percentage of the Company's Revenue derived from
fee-for-service business and capitated managed dental care contracts varies from
market to market depending on the availability of capitated managed dental care
contracts in any particular market and the Company's ability to negotiate
favorable contract terms. In addition, the profitability of managed dental care
Revenue varies from market to market depending on the level of capitation
payments and co-payments in proportion to the level of benefits required to be
provided. Historically, the Company has experienced a decrease in capitation
premiums received from insurance companies' managed care plans for which the
Company's affiliated Offices are providers. The Company believes this decrease
in capitation premiums has been caused by insurance companies decreasing the
scope of or in some cases, discontinuing altogether, their managed care
products, a trend the Company believes will continue. The Company has
experienced and expects to continue to experience an increase in patient visits
with Preferred Provider Organization ("PPO") insurance and believes a
significant portion of this increase has been the result of patients moving from
insurance companies' managed care products to their PPO products.
Results of Operations
For the three months ended September 30, 2004, Revenue increased $830,000, or
7.7%, to $11.6 million compared to $10.8 million for the three months ended
September 30, 2003. For the three months ended September 30, 2004, net revenue
increased $390,000, or 5.2%, to $7.9 million compared to $7.5 million for the
three months ended September 30, 2003.
Net income decreased 39.5% to $180,000 for the quarter ended September 30, 2004,
compared to net income of $298,000 for the quarter ended September 30, 2003. Net
income in the third quarter of 2004 included a loss on discontinued operations
of $(138,000).
In September 2004, the Company closed an office in the Phoenix, Arizona market
it had acquired in 1998 because it no longer fit the Company's operating model
and because of poor operating performance. The Company's third quarter 2004
results were also negatively impacted by an operating loss on its de novo office
in Phoenix, Arizona due to limited operations, an increase in variable costs
associated with eight new dentists starting during the quarter and significantly
higher television advertising costs in the Denver and Colorado Springs, Colorado
markets.
The Company ended the third quarter of 2004 with 103 total dentists, which
represents an increase of nine dentists over the third quarter of 2003 and an
increase of eight dentists over the second quarter of 2004. This increase in new
dentists starting during the quarter caused the Company's variable costs
associated with its dentists to be higher than historical levels. Once these
incremental dentists establish themselves within the network, both revenue and
profitability are expected to increase.
13
For the nine months ended September 30, 2004, Revenue increased $2.3 million, or
7.0%, to $34.9 million compared to $32.6 million for the nine months ended
September 30, 2003. For the nine months ended September 30, 2004, net revenue
increased to $24.1 million compared to $23.0 million for the nine months ended
September 30, 2003, an increase of $1.0 million or 4.5%.
For the nine months ended September 30, 2004, net income increased 17.0%, to
$1.0 million, compared to net income of $884,000 for the nine months ended
September 30, 2003. Net income for the nine months of 2004 included a loss on
discontinued operations of $(188,000).
Additionally, the Company has signed leases for three additional sites in the
Phoenix, Arizona market, all of which are projected to open in the third quarter
of 2005. The Company also remains on track to open two additional de novo sites
in the Denver, Colorado market, one in November 2004 and the other in January
2005.
The Company continues to generate strong cash flow from operations. Capital
expenditures during the third quarter of 2004 were approximately $675,000. This
increased level of capital expenditures during the third quarter of 2004 was due
to the de novo in Phoenix and two office remodel projects and equipment
purchases related to the additional specialty dentists. During the third quarter
of 2004, the Company reduced total debt outstanding by approximately $440,000 to
$1.1 million and during the first nine months of 2004, the Company has reduced
its total indebtedness by $2.0 million.
Revenue is total dental group practice revenue generated at the Company's
offices from professional services provided to its patients. Amounts retained by
group practices represents compensation expense to the dentists and hygienists
and is subtracted from total dental group practice revenue to arrive at net
revenue. The Company reports net revenue in its financial statements to comply
with Emerging Issues Task Force Issue No. 97-2, Application of SFAS No. 94
(Consolidation of All Majority Owned Subsidiaries) and APB Opinion No. 16
(Business Combinations) to Physician Practice Management Entities and Certain
Other Entities With Contractual Management Arrangements. Revenue is not a
generally accepted accounting principles measure. The Company discloses Revenue
because it is a critical component for management's evaluation of Office
performance. However, investors should not consider this measure in isolation or
as a substitute for net revenue, operating income, cash flows from operating
activities or any other measure for determining the Company's operating
performance or liquidity that is calculated in accordance with generally
accepted accounting principles. The following table reconciles Revenue to net
revenue (excluding discontinued operations).
Quarters Ended Nine Months Ended
September 30, September 30,
----------------------------- --------------------------------
2003 2004 2003 2004
------------ ------------- ------------ -------------
Total dental group practice revenue $10,778,903 $ 11,608,470 $ 32,647,198 $ 34,929,349
Amounts retained by group practices (3,250,254) (3,689,781) (9,614,598) (10,852,556)
------------ ------------- ------------ -------------
Net revenue $ 7,528,649 $ 7,918,689 $ 23,032,600 $ 24,076,793
=========== ============= ============ =============
14
The following table sets forth the percentages of net revenue represented by
certain items reflected in the Company's Condensed Consolidated Statements of
Operations. The information contained in the table represents the historical
results of the Company. The information that follows should be read in
conjunction with the Company's Condensed Consolidated Financial Statements and
related Notes thereto contained elsewhere in this report.
Quarters Ended Nine Months
September 30, Ended September 30,
-------------- -------------------
2003 2004 2003 2004
---- ---- ---- ----
Net revenue 100.0 % 100.0 % 100.0 % 100.0 %
Direct expenses:
Clinical salaries and benefits 38.4 % 37.8 % 38.4 % 37.5 %
Dental supplies 6.0 % 6.9 % 5.9 % 6.2 %
Laboratory fees 7.6 % 7.4 % 7.9 % 7.7 %
Occupancy 11.6 % 11.6 % 11.2 % 11.1 %
Advertising and marketing 1.1 % 2.9 % 1.2 % 2.4 %
Depreciation and amortization 6.9 % 5.5 % 7.2 % 5.6 %
General and administrative 10.2 % 11.1 % 9.9 % 10.6 %
------- --------- ------- ---------
81.8 % 83.2 % 81.7 % 81.1 %
------- -------- -------- --------
Contribution from dental offices 18.2 % 16.8 % 18.3 %. 18.9 %
Corporate expenses:
General and administrative 9.8 % 9.2 % 10.2 % 9.5 %
Depreciation and amortization 0.9% 0.7 % 1.0 % 0.7 %
------ -------- -------- --------
Operating income 7.5 % 6.9 % 7.1 % 8.7 %
Interest expense, net 0.4 % 0.2 % 0.5 % 0.2 %
------- ------- ------- --------
Income before income taxes 7.1 % 6.7 % 6.6 % 8.5 %
Income tax expense 2.7 % 2.6 % 2.5 % 3.4 %
Loss attributable to discontinued operations,
net of income taxes 0.4 % 1.8 % 0.2 % 0.8 %
------ ----- ------- --------
Net income 4.0 % 2.3 % 3.9 % 4.3 %
====== ===== ======= ========
Three Months Ended September 30, 2004 Compared to Three Months Ended September
30, 2003:
Net revenue. For the three months ended September 30, 2004, net revenue
increased $390,000, or 5.2%, to $7.9 million compared to $7.5 million for the
three months ended September 30, 2003. This is the result of more patients being
seen because of having 103 dentists on staff as of September 30, 2004 compared
to 94 dentists as of September 30, 2003.
Clinical salaries and benefits. For the three months ended September 30, 2004,
clinical salaries and benefits increased $104,000, or 3.6%, to $3.0 million
compared to $2.9 million for the three months ended September 30, 2003. This
increase was primarily due to wage increases granted during the first quarter of
2004 as well as a 4.1% increase in the number of employees during the third
quarter to support the increase in the number of dentists. As a percentage of
net revenue, clinical salaries and benefits decreased to 37.8% for the three
months ended September 30, 2004 compared to 38.4% for the three months ended
September 30, 2003.
Dental supplies. For the three months ended September 30, 2004, dental supplies
increased to $545,000 compared to $448,000 for the three months ended September
30, 2003, an increase of $97,000 or 21.6%. This increase is attributable to the
need to make initial dental supply orders, which tend to be larger than ongoing
dental supply orders, for the eight new dentists who started during the quarter
as well as initial inventory purchases for the de novo office in Phoenix. As a
percentage of net revenue, dental supplies increased to 6.9% for the three
months ended September 30, 2004 compared to 6.0% for the three months ended
September 30, 2003.
Laboratory fees. For the three months ended September 30, 2004, laboratory fees
increased to $582,000 compared to $569,000 for the three months ended September
30, 2003, an increase of $13,000 or 2.3%. As a percentage of net revenue,
laboratory fees decreased to 7.4% for the three months ended September 30, 2004
compared to 7.6% for the three months September 30, 2003.
15
Occupancy. For the three months ended September 30, 2004, occupancy expense
increased to $922,000 compared to $876,000 for the three months ended September
30, 2003, an increase of $46,000 or 5.2%. This is primarily due to the opening
of a de novo office in the Arizona market during the third quarter of 2004. As a
percentage of net revenue, occupancy expense remained constant at 11.6% for the
three months ended September 30, 2004 compared to the three months ended
September 30, 2003.
Advertising and marketing. For the three months ended September 30, 2004,
advertising and marketing increased to $230,000 compared to $81,000 for the
three months ended September 30, 2003, an increase of $149,000 or 184.9%. This
increase is primarily due to the initiation of television advertising in the
Colorado Springs, Colorado market beginning in January 2004 and in the Denver,
Colorado market beginning in June 2004. As a percentage of net revenue,
advertising and marketing increased to 2.9% for the three months ended September
30, 2004 compared to 1.1% for the three months ended September 30, 2003.
Depreciation and amortization. For the three months ended September 30, 2004,
depreciation and amortization expenses attributable to the Offices decreased to
$436,000 compared to $522,000 for the three months ended September 30, 2003, a
decrease of $86,000 or 16.5%. The decrease in the Company's depreciable asset
base is a result of existing assets becoming fully depreciated. As a percentage
of net revenue, depreciation and amortization decreased to 5.5% for the three
months ended September 30, 2004 compared to 6.9% for the three months ended
September 30, 2003.
General and administrative. For the three months ended September 30, 2004,
general and administrative expenses attributable to the Offices increased to
$877,000 compared to $770,000 for the three months ended September 30, 2003, an
increase of $107,000 or 13.9%. The increase is primarily due to higher
professional liability insurance costs due to more general and specialty
dentists working as well as higher dentist recruiting costs, higher office
supply costs, higher gross receipts taxes and higher credit card fees. As a
percentage of net revenue, general and administrative expenses increased to
11.1% for the three months ended September 30, 2004 compared to 10.2% during the
three months ended September 30, 2003.
Contribution from dental offices. As a result of the above, contribution from
dental offices decreased $40,000, or 2.9%, to $1.3 million for the three months
ended September 30, 2004 compared to $1.4 million for the three months ended
September 30, 2003. As a percentage of net revenue, contribution from dental
offices decreased to 16.8% for the three months ended September 30, 2004
compared to 18.2% for the three months ended September 30, 2003.
Corporate expenses - general and administrative. For the three months ended
September 30, 2004, corporate expenses - general and administrative decreased to
$733,000 compared to $736,000 for the three months ended September 30, 2003, a
decrease of $3,000 or 0.4%. As a percentage of net revenue, corporate expenses -
general and administrative decreased to 9.2% for the three months ended
September 30, 2004 compared to 9.8% during the three months ended September 30,
2003.
Corporate expenses - depreciation and amortization. For the three months ended
September 30, 2004, corporate expenses - depreciation and amortization decreased
to $54,000 compared to $72,000 for the three months ended September 30, 2003, a
decrease of $18,000 or 24.8%. The decrease is related to the decrease in the
Company's depreciable asset base. As a percentage of net revenue, corporate
expenses - depreciation and amortization decreased to 0.7% for the three months
ended September 30, 2004 compared to 0.9% for the three months ended September
30, 2003.
Operating income. As a result of the matters discussed above, the Company
generated operating income of $545,000 for the three months ended September 30,
2004 compared to operating income of $564,000 for the three months ended
September 30, 2003, a decrease of $18,000 or 3.3%. As a percentage of net
revenue, operating income decreased to 6.9% for the three months ended September
30, 2004 compared to 7.5% for the three months ended September 30, 2003.
Interest expense, net. For the three months ended September 30, 2004, interest
expense, net decreased to $14,000 compared to $35,000 for the three months ended
September 30, 2003, a decrease of $21,000 or 60.9%. This decrease in interest
expense is attributable to lower average outstanding debt balances and lower
amortization of debt acquisition costs. As a percentage of net revenue, interest
expense decreased to 0.2% for the three months ended September 30, 2004 compared
to 0.4% for the three months ended September 30, 2003.
Discontinued operations. In September 2004, the Company closed an office in the
Phoenix market that resulted in a net loss from discontinued operations of
$138,000 and $29,000 for the quarters ended September 30, 2004 and 2003,
respectively. This loss for the three months ended September 30, 2004 was
comprised of an operating loss of $38,000 and a loss on the disposition of a
dental office of $192,000, partially offset by an income tax benefit of $92,000.
For the three months ended September 30, 2003, the loss attributable to the
discontinued operations was comprised of an operating loss of $47,000, partially
offset by an income tax benefit of $18,000.
16
Net income. As a result of the above, the Company reported net income of
$180,000 for the three months ended September 30, 2004 compared to net income of
$298,000 for the three months ended September 30, 2003, a decrease of $118,000
or 39.5%. Net income for the quarter ended September 30, 2004 was net of income
tax expense of $120,000 while net income for the quarter ended September 30,
2003 was net of income tax expense of $183,000. As a percentage of net revenue,
net income decreased to 2.3% for the three months ended September 30, 2004
compared to 4.0% for the three months ended September 30, 2003.
Nine Months Ended September 30, 2004 Compared to Nine Months Ended
September 30, 2003:
Net revenue. For the nine months ended September 30, 2004, net revenue increased
to $24.1 million compared to $23.0 million for the nine months ended September
30, 2003, an increase of $1.0 million or 4.5%. This is the result of more
patients being seen because of having 103 dentists on staff as of September 30,
2004 compared to 94 dentists as of September 30, 2003.
Clinical salaries and benefits. For the nine months ended September 30, 2004,
clinical salaries and benefits increased to $9.0 million compared to $8.8
million for the nine months ended September 30, 2003, an increase of $187,000 or
2.1%. This increase was primarily due to wage increases granted during the first
quarter of 2004 as well as a 5.2% increase in the number of employees during the
nine months ended September 30, 2004, most of which were added during the third
quarter of 2004 to support the increase in the number of dentists. As a
percentage of net revenue, clinical salaries and benefits decreased to 37.5% for
the nine months ended September 30, 2004 compared to 38.4% for the nine months
ended September 30, 2003.
Dental supplies. For the nine months ended September 30, 2004, dental supplies
increased to $1.5 million compared to $1.4 million for the nine months ended
September 30, 2003, an increase of $140,000 or 10.3%. This increase is
attributable to the need to make initial dental supply orders, which tend to be
larger than ongoing dental supply orders, for the eight new dentists who started
during the third quarter of 2004 as well as initial inventory purchases for the
de novo office in Phoenix which opened during the third quarter of 2004. As a
percentage of net revenue, dental supplies increased to 6.2% for the nine months
ended September 30, 2004 compared to 5.9% for the nine months ended September
30, 2003.
Laboratory fees. For the nine months ended September 30, 2004, laboratory fees
remained constant at $1.8 million compared to the nine months ended September
30, 2003. As a percentage of net revenue, laboratory fees decreased to 7.7% for
the nine months ended September 30, 2004 compared to 7.9% for the nine months
September 30, 2003.
Occupancy. For the nine months ended September 30, 2004, occupancy expense
increased $80,000, or 3.1%, to $2.7 million compared to $2.6 million for the
nine months ended September 30, 2003. This increase was primarily due to
increased rental payments resulting from the renewal of Office leases at current
market rates for Offices whose leases expired subsequent to the 2003 period as
well as the opening of a new de novo office in the Phoenix market during the
third quarter of 2004. As a percentage of net revenue, occupancy expense
decreased to 11.1% for the nine months ended September 30, 2004 compared to
11.2% for the nine months ended September 30, 2003.
Advertising and marketing. For the nine months ended September 30, 2004,
advertising and marketing increased to $566,000 compared to $272,000 for the
nine months ended September 30, 2003, an increase of $293,000 or 107.9%. This
increase is primarily due to the initiation of television advertising in the
Colorado Springs, Colorado market beginning in January 2004 and in the Denver,
Colorado market beginning in June 2004. As a percentage of net revenue,
advertising and marketing increased to 2.4% for the nine months ended September
30, 2004 compared to 1.2% for the nine months ended September 30, 2003.
Depreciation and amortization. For the nine months ended September 30, 2004,
depreciation and amortization expenses attributable to the Offices decreased to
$1.4 million compared to $1.7 million for nine months ended September 30, 2003,
a decrease of $299,000 or 18.1%. The decrease in the Company's depreciable asset
base is a result of existing assets becoming fully depreciated. As a percentage
of net revenue, depreciation and amortization decreased to 5.6% for the nine
months ended September 30, 2004 compared to 7.2% for the nine months ended
September 30, 2003.
General and administrative. For the nine months ended September 30, 2004,
general and administrative expenses attributable to the Offices increased to
$2.6 million compared to $2.3 million for the nine months ended September 30,
2003, an increase of $273,000 or 12.0%. The increase is primarily due to higher
dentist recruiting costs, higher professional liability insurance costs due to
more general and specialty dentists working as well as higher office supply
costs, higher gross receipts taxes and higher credit card fees. As a percentage
of net revenue, general and administrative expenses increased to 10.6% for the
nine months ended September 30, 2004 compared to 9.9% during the nine months
ended September 30, 2003.
17
Contribution from dental offices. As a result of the above, contribution from
dental offices increased to $4.6 million for the nine months ended September 30,
2004 compared to $4.2 million for the nine months ended September 30, 2003, an
increase of $345,000 or 8.2%. As a percentage of net revenue, contribution from
dental offices increased to 18.9% for the nine months ended September 30, 2004
compared to 18.3% for the nine months ended September 30, 2003.
Corporate expenses - general and administrative. For the nine months ended
September 30, 2004, corporate expenses - general and administrative remained
constant at $2.3 million compared to the nine months ended September 30, 2003.
As a percentage of net revenue, corporate expenses - general and administrative
decreased to 9.5% for the nine months ended September 30, 2004 compared to 10.2%
for the nine months ended September 30, 2003.
Corporate expenses - depreciation and amortization. For the nine months ended
September 30, 2004, corporate expenses - depreciation and amortization decreased
to $165,000 compared to $227,000 for the nine months ended September 30, 2003, a
decrease of $62,000 or 27.2%. This decrease is related to the decrease in the
Company's depreciable asset base. As a percentage of net revenue, corporate
expenses - depreciation and amortization decreased to 0.7% for the nine months
ended September 30, 2004 compared to 1.0% for the nine months ended September
30, 2003.
Operating income. As a result of the above, the Company generated operating
income of $2.1 million for the nine months ended September 30, 2004 compared to
operating income of $1.6 million for the nine months ended September 30, 2003,
an increase of $460,000 or 28.1%. As a percentage of net revenue, operating
income increased to 8.7% for the nine months ended September 30, 2004 compared
to 7.1% for the nine months ended September 30, 2003.
Interest expense, net. For the nine months ended September 30, 2004 interest
expense, net decreased to $57,000 compared to $124,000 for the nine months ended
September 30, 2003, a decrease of $67,000 or 53.9%. This decrease in interest
expense is attributable to lower average outstanding debt balances and lower
amortization of debt acquisition costs. As a percentage of net revenue, interest
expense decreased to 0.2% for the nine months ended September 30, 2004 compared
to 0.5% for the nine months ended September 30, 2003.
Discontinued operations. In September 2004, the Company closed an office in the
Phoenix market which resulted in a net loss from discontinued operations of
$188,000 and $52,000 for the nine months ended September 30, 2004 and 2003
respectively. This loss for the nine months ended September 30, 2004 was
comprised of an operating loss of $120,000 and a loss on the disposition of
assets of $192,000, partially offset by an income tax benefit of $125,000. For
the nine months ended September 30, 2003, the loss attributable to the
discontinued operations was comprised of an operating loss of $84,000, partially
offset by an income tax benefit of $32,000.
Net income. As a result of the above, the Company reported net income of $1.0
million for the nine months ended September 30, 2004 compared to net income of
$884,000 for the nine months ended September 30, 2003, an increase of $150,000
or 17.0%. Net income for the nine months ended September 30, 2004 was net of
income tax expense of $689,000 while the net income for the nine months ended
September 30, 2003 was net of income tax expense of $542,000. As a percentage of
net revenue, net income increased to 4.3% for the nine months ended September
30, 2004 compared to 3.9% for the nine months ended September 30, 2003.
Liquidity and Capital Resources
The Company finances its operations and growth through a combination of cash
provided by operating activities, a bank line of credit (the "Credit Facility")
and, from time to time, seller notes. As of September 30, 2004, the Company had
a working capital deficit of approximately $830,000. This is primarily comprised
of balances in accounts payable and accrued expenses, income taxes payable and
current maturities of long-term debt in excess of balances in cash, accounts
receivable and prepaid expenses as of September 30, 2004.
Net cash provided by operating activities was approximately $3.4 million for
each of the nine months ended September 30, 2004 and 2003, respectively. During
2004, excluding net income and after adding back non-cash items, the Company's
cash provided by operating activities consisted primarily of an increase in
accounts payable and accrued expenses of approximately $517,000, a decrease in
prepaid expenses and other assets of approximately $342,000 and an increase in
income taxes payable of approximately $72,000, partially offset by an increase
in accounts receivable of approximately $255,000. During 2003, excluding net
income and after adding back non-cash items, the Company's cash provided by
operating activities consisted primarily of a decrease in prepaid expenses and
other assets of approximately $404,000 and an increase in income taxes payable
of approximately $275,000, partially offset by an increase in accounts
receivable of approximately $119,000 and a decrease in accounts payable of
approximately $36,000.
18
Net cash used in investing activities was approximately $1.0 million and
$306,000 for the nine months ended September 30, 2004 and 2003, respectively.
For the nine months ended September 30, 2004, these amounts were used for the
construction of the de novo office in Phoenix, two office remodel projects and
equipment purchases related to the additional specialty dentists and regular
monthly maintenance capital expenditures. For the nine months ended September
30, 2003 , approximately $306,000 was invested in the purchase of additional
property and equipment.
Net cash used in financing activities was approximately $2.6 million for the
nine months ended September 30, 2004 and $3.3 million for the nine months ended
September 30, 2003. During the nine months ended September 30, 2004, net cash
used in financing activities was comprised of approximately $1.8 million paid
down on the Company's Credit Facility, approximately $545,000 used in the
purchase and retirement of Common Stock, approximately $261,000 for the
repayment of long-term debt and approximately $179,000 for the payment of
dividends, partially offset by $174,000 in proceeds from the exercise of Common
Stock options. During the nine months ended September 30, 2003, net cash used in
financing activities was comprised of approximately $3.7 million used in the
purchase and retirement of Common Stock and approximately $259,000 for the
repayment of long-term debt, partially offset by approximately $475,000 in
additional funds drawn on the Company's Credit Facility and approximately
$162,000 in proceeds from the exercise of Common Stock options.
On May 6, 2004, the Company amended its Credit Facility Agreement. The amended
Credit Facility allows the Company to borrow, on a revolving basis, an aggregate
principal amount not to exceed $4.0 million at either, or a combination of, the
Lender's Base Rate or at LIBOR plus a LIBOR Rate Margin, at the Company's
option. The Lender's Base Rate computes interest at the higher of the Lender's
"prime rate" or the Federal Funds Rate plus one-half percent (0.5%). The LIBOR
option computes interest at the LIBOR rate as of the date such LIBOR Rate Loan
was made plus a LIBOR Rate Margin of 1.75%. A commitment fee of 0.25% on the
average daily unused amount of the Revolving Loan commitment during the
preceding quarter will also be assessed. The Company may prepay any Base Rate
Loan at any time and any LIBOR Rate Loan upon not less than three business days
prior written notice given to the Lender, but the Company will be responsible
for any loss or cost incurred by the Lender in liquidating or employing deposits
required to fund or maintain the LIBOR rate Loan. The amended Credit Facility
expires on May 31, 2006. At September 30, 2004, the Company had $250,000
outstanding and $3.75 million available for borrowing under the Revolving Loan.
This consisted of $250,000 outstanding under the Base Rate Option and no
borrowings outstanding under the LIBOR Rate option. The Credit Facility requires
the Company to maintain certain financial ratios on an ongoing basis. At
September 30, 2004, the Company was in full compliance with all of its covenants
under this agreement.
At September 30, 2004, the Company had outstanding indebtedness of approximately
$826,000 represented by notes issued in connection with various dental practice
acquisitions, all of which bear interest at 8.0%. At September 30, 2004, the
Company had capital commitments of approximately $2.0 million related to the
development of five de novo offices and the remodeling of two existing offices.
The Company's retained earnings as of September 30, 2004 were approximately $2.7
million.
19
The Company's earnings before interest, taxes, depreciation and amortization
("EBITDA") increased to $3.6 million for the nine months ended September 30,
2004 compared to $3.5 million for the corresponding nine-month period in 2003.
Although EBITDA is not a generally accepted accounting principles measure of
performance or liquidity, the Company believes that it may be useful to an
investor in evaluating its performance. However, investors should not consider
this measure in isolation or as a substitute for operating income, cash flows
from operating activities or any other measure for determining the Company's
operating performance or liquidity that is calculated in accordance with
generally accepted accounting principles. In addition, because EBITDA is not
calculated in accordance with generally accepted accounting principles, it may
not necessarily be comparable to similarly titled measures employed by other
companies. A reconciliation of EBITDA can be made by adding discontinued
operations, depreciation and amortization expense - offices, depreciation and
amortization expense - corporate, interest expense, net and income tax expense
to net income as in the table below.
Quarters Ended September 30, Nine Months Ended September 30,
----------------------------- -------------------------------
2003 2004 2003 2004
----------- ----------- ------------ --------------
RECONCILIATION OF EBITDA:
Net income $ 298,435 $ 180,485 $ 883,649 $ 1,033,710
Discontinued operations -
(before income tax expense) 47,103 230,634 83,614 312,669
Depreciation and amortization - Offices 521,580 435,584 1,656,010 1,356,899
Depreciation and amortization - Corporate 71,998 54,117 226,747 165,039
Interest expense, net 35,100 13,724 124,506 57,343
Income tax expense 182,911 120,353 541,590 689,170
----------- ----------- ----------- -----------
EBITDA $ 1,157,127 $ 1,034,897 $ 3,516,116 $ 3,614,830
=========== =========== =========== ===========
As of September 30, 2004, the Company had the following known contractual
obligations:
Payments due by Period
------------------------------------------------------------
Less than More than
1 year 1-3 years 3-5 years 5 years
Total
--------- ---------- --------- ---------- ---------
Long-Term Debt Obligations 1,076,096 361,955 714,141 - -
Operating Lease Obligations 6,758,622 2,297,604 3,325,305 1,135,713 -
Other Long-Term Liabilities Reflected on
the Balance Sheet Under GAAP 160,374 15,105 98,274 46,995 -
--------- --------- ---------- --------- -------
Total 7,995,092 2,674,664 4,137,720 1,182,708 -
========= ========= ========== ========= =======
The Company from time to time may purchase its Common Stock on the open market
for treasury stock. During 2002, the Company, in 93 separate transactions,
purchased 117,236 shares of its Common Stock for total consideration of
approximately $1.2 million at prices ranging from $7.35 to $11.25 per share, of
which approximately $60,000 was recorded as compensation expense in accordance
with Financial Accounting Standards Board Interpretation Number 44. During 2003,
the Company, in 84 separate transactions, purchased 296,195 shares of its Common
Stock for total consideration of approximately $3.9 million at prices ranging
from $9.54 to $14.20 per share. During the nine month period ended September 30,
2004, the Company, in four separate transactions, purchased 41,500 shares of its
Common Stock for total consideration of approximately $601,000 at prices ranging
from $12.65 to $13.30 per share. On August 10, 2004, the Board of Directors
authorized the Company to make up to $500,000 in open-market purchases of its
Common Stock. On November 9, 2004, the Board of Directors authorized the Company
to increase the amount available to make open-market purchases of its Common
Stock from $500,000 to $800,000. Such purchases may be made from time to time as
the Company's management deems appropriate.
The Company believes that cash generated from operations and borrowings under
its Credit Facility will be sufficient to fund its anticipated working capital
and capital expenditure needs and dividend payments for at least the next 12
months. In the event the Company is not able to successfully negotiate a new
Credit Facility at the end of its term in May 2006, the Company's current
sources of liquidity may not be adequate. In addition, in order to meet its
long-term liquidity needs the Company may issue additional equity and debt
securities, subject to market and other conditions. There can be no assurance
that such additional financing will be available on terms acceptable to the
Company. The failure to obtain the funds necessary to finance its future cash
requirements could adversely affect the Company's ability to pursue its strategy
and could negatively affect its operations in future periods.
20
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk represents the risk of loss that may impact the financial position,
results of operations or cash flows of the Company due to adverse changes in
financial and commodity market prices and rates. The Company is exposed to
market risk in the area of changes in interest rates. Historically and as of
September 30, 2004, the Company has not used derivative instruments or engaged
in hedging activities.
Interest Rate Risk. The interest payable on the Company's Credit Facility is
variable based upon the prime rate and the LIBOR rate and, therefore, is
affected by changes in market interest rates. At September 30, 2004, $250,000
was outstanding with an interest rate of 4.75% (Prime). The Company does not
believe that reasonably possible near-term changes in interest rates will result
in a material effect on future earnings, fair values or cash flows of the
Company. Based on calculations performed by the Company, a 1.0% increase in the
Company's interest rate would result in additional interest expense of
approximately $7,500 for the nine months ended September 30, 2004.
ITEM 4. CONTROLS AND PROCEDURES
The effectiveness of our or any system of disclosure controls and procedures is
subject to certain limitations, including the exercise of judgment in designing,
implementing and evaluating the controls and procedures, the assumptions used in
identifying the likelihood of future events, and the inability to eliminate
misconduct completely. As a result, there can be no assurance that our
disclosure controls and procedures will detect all errors or fraud. By their
nature, our or any system of disclosure controls and procedures can provide only
reasonable assurance regarding management's control objectives.
Under the supervision and with the participation of our management, including
our Chief Executive Officer and Chief Financial Officer, we evaluated the design
and operation of our disclosure controls and procedures (as defined in Rules
13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, or the "Exchange
Act") as of September 30, 2004. On the basis of this review, our management,
including our Chief Executive Officer and Chief Financial Officer, concluded
that our disclosure controls and procedures are designed, and are effective, to
give reasonable assurance that the information required to be disclosed by us in
reports that we file under the Exchange Act is recorded, processed, summarized
and reported within the time periods specified in the rules and forms of the SEC
and to ensure that information required to be disclosed in the reports filed or
submitted under the Exchange Act is accumulated and communicated to our
management, including our Chief Executive Officer and Chief Financial Officer,
in a manner that allows timely decisions regarding required disclosure, There
were no changes in the Company's internal controls over financial reporting that
occurred in the third quarter of 2004 that materially affected, or were
reasonably likely to materially affect, its internal control over financial
reporting.
21
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
From time to time the Company is subject to litigation incidental to its
business. The Company is not presently a party to any material litigation. Such
claims, if successful, could result in damage awards exceeding, perhaps
substantially, applicable insurance coverage.
ITEM 7. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit
Number Description of Document
- ------- -----------------------
31.1 Rule 13a-14(a) Certification of the Chief Executive Officer.
31.2 Rule 13a-14(a) Certification of the Chief Financial Officer.
32.1 Section 1350 Certifications of the Chief Executive Officer
and the Chief Financial Officer.
(b) Reports on Form 8-K
On August 13, 2004, the Company furnished a report on Form 8-K
related to reporting of financial results for the second quarter of
2004.
22
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.
BIRNER DENTAL MANAGEMENT SERVICES, INC.
Date: November 12, 2004 By: /s/ Frederic W.J. Birner
---------------------------------------
Name: Frederic W.J. Birner
Title: Chairman of the Board and
Chief Executive Officer
(Principal Executive Officer)
Date: November 12, 2004 By: /s/ Dennis N. Genty
----------------------------------------
Name: Dennis N. Genty
Title: Chief Financial Officer, Secretary,
and Treasurer
(Principal Financial and Accounting Officer)
23