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, 2005
--------------------
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
- --------------------------------------------------------------------------------
(Registrant's telephone number, including area code)
N/A
- --------------------------------------------------------------------------------
(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 by check mark whether the Registrant is a shell company (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 14, 2005
- -------------------------------- ------------------------------------------
Common Stock, without par value 2,411,784*
* On July 13, 2005, the Company announced that its Board of Directors had
declared a 2-for-1 stock split of its common stock. The 2-for-1 stock split,
which was effected as a stock dividend, was distributed on August 8, 2005 to
shareholders of record at the close of business on August 1, 2005. The stock
split increased the number of shares outstanding from 1,210,295 on August 8,
2005 to 2,420,590. All share and earnings per share calculations for all periods
in this document have been restated to reflect the effect of the stock split.
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, 2004
and September 30, 2005 3
Unaudited Condensed Consolidated Statements of Operations for the
Quarters and Nine Months Ended September 30, 2004 and 2005 4
Unaudited Condensed Statement of Shareholders' Equity as of
September 30, 2005 5
Unaudited Condensed Consolidated Statements of Cash Flows for the
Nine Months Ended September 30, 2004 and 2005 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 20
Item 4. Controls and Procedures 20
PART II -OTHER INFORMATION
Item 1. Legal Proceedings 22
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 22
Item 5. Other Information 22
Item 6. Exhibits 23
Signatures 24
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 2004 2005
** (Unaudited)
------------- -------------
CURRENT ASSETS:
Cash and cash equivalents $ 756,181 $ 898,396
Accounts receivable, net of allowance for doubtful accounts
of $232,543 and $261,556, respectively 2,976,186 3,892,849
Deferred tax asset 135,826 189,013
Income tax receivable 80,318 -
Prepaid expenses and other assets 800,671 455,459
----------- -----------
Total current assets 4,749,182 5,435,717
PROPERTY AND EQUIPMENT, net 3,164,124 3,243,443
OTHER NONCURRENT ASSETS:
Intangible assets, net 13,787,093 13,224,262
Deferred charges and other assets 159,440 157,965
----------- -----------
Total assets $21,859,839 $22,061,387
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable and accrued expenses $ 4,637,927 $ 4,861,112
Income taxes payable - 99,599
Current maturities of long-term debt 167,217 155,286
----------- -----------
Total current liabilities 4,805,144 5,115,997
LONG-TERM LIABILITIES:
Deferred tax liability, net 670,893 675,226
Long-term debt, net of current maturities 1,078,711 1,740,674
Other long-term obligations 176,741 200,775
----------- -----------
Total liabilities 6,731,489 7,732,672
SHAREHOLDERS' EQUITY:
Preferred Stock, no par value, 10,000,000 shares
authorized; none outstanding - -
Common Stock, no par value, 20,000,000 shares
authorized; 2,417,020 and 2,387,768 shares issued and
outstanding, respectively 12,125,811 11,019,490
Deferred equity compensation - (729,270)
Retained earnings 3,002,539 4,038,495
----------- -----------
Total shareholders' equity 15,128,350 14,328,715
----------- -----------
Total liabilities and shareholders' equity $21,859,839 $22,061,387
=========== ===========
** Derived from the Company's audited consolidated balance sheet at
December 31, 2004
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,
--------------------------- -----------------------------
2004 2005 2004 2005
----------- ----------- ----------- -----------
NET REVENUE $8,009,327 $ 9,264,449 $24,376,525 $28,025,464
DIRECT EXPENSES:
Clinical salaries and benefits 2,995,138 3,321,931 9,031,085 10,298,277
Dental supplies 544,822 566,219 1,502,662 1,698,572
Laboratory fees 581,762 588,814 1,849,334 1,873,120
Occupancy 922,251 953,029 2,665,319 2,865,929
Advertising and marketing 229,861 223,387 565,538 794,984
Depreciation and amortization 435,584 420,998 1,356,899 1,261,990
General and administrative 967,462 1,074,880 2,852,667 3,047,312
---------- ----------- ----------- -----------
6,676,880 7,149,258 19,823,504 21,840,184
---------- ----------- ----------- -----------
Contribution from dental offices 1,332,447 2,115,191 4,553,021 6,185,280
CORPORATE EXPENSES:
General and administrative (includes $666,874
of equity compensation and related taxes in
the quarter ended September 30, 2005 and the
nine months ended September 30, 2005) 733,134 1,578,244 2,295,090 3,385,361
Depreciation and amortization 54,117 33,595 165,039 102,887
---------- ----------- ----------- -----------
Operating income 545,196 503,352 2,092,892 2,697,032
Interest expense (income), net 13,724 (13,353) 57,343 (41,220)
---------- ----------- ----------- -----------
Income from continuing operations
before income taxes 531,472 516,705 2,035,549 2,738,252
Income tax expense (212,607) (102,315) (814,238) (990,951)
---------- ----------- ----------- -----------
Income from continuing operations 318,865 414,390 1,221,311 1,747,301
DISCONTINUED OPERATIONS (NOTE 6):
Operating (loss) attributable to assets disposed of (38,134) - (120,169) -
(Loss) recognized on dispositions (192,500) - (192,500) -
Income tax benefit 92,254 - 125,068 -
---------- ----------- ----------- -----------
Loss on discontinued operations (138,380) - (187,601) -
---------- ----------- ----------- -----------
Net income $ 180,485 $ 414,390 $ 1,033,710 $ 1,747,301
========== =========== =========== ===========
Net income per share of Common Stock - Basic:
Continuing Operations $ .14 $ .17 $ .51 $ .74
Discontinued Operations (.06) - (.07) -
---------- ----------- ----------- -----------
Net income per share of Common Stock - Basic $ .08 $ .17 $ .44 $ .74
========== =========== =========== ===========
Net income per share of Common Stock - Diluted:
Continuing Operations $ .13 $ .16 $ .47 $ .67
Discontinued Operations (.06) - (.07) -
---------- ----------- ----------- -----------
Net income per share of Common Stock - Diluted $ .07 $ .16 $ .40 $ .67
========== =========== =========== ===========
Weighted average number of shares of Common Stock
and dilutive securities:
Basic 2,405,794 2,406,789 2,387,626 2,364,493
========== =========== =========== ===========
Diluted 2,605,794 2,662,240 2,597,282 2,613,331
========== =========== =========== ============
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 Deferred Total
-------------------------- Equity Retained Shareholders'
Shares Amount Compensation Earnings Equity
--------- ------------ ------------ ---------- ------------
BALANCES, December 31, 2004 2,417,020 $ 12,125,811 - $3,002,539 $ 15,128,350
Common Stock options exercised 141,934 519,497 - 519,497
Purchase and retirement of
Common Stock (231,186) (2,769,518) - (2,769,518)
Dividends declared on
Common Stock - - (711,345) (711,345)
Tax benefit of Common Stock
options exercised 333,400 333,400
Equity compensation issued 60,000 810,300 (810,300) -
Amortization of deferred
equity compensation 81,030 81,030
Net income - - 1,747,301 1,747,301
--------- ----------- ---------- ---------- ------------
BALANCES, September 30, 2005 2,387,768 $11,019,490 $ (729,270) $4,038,495 $ 14,328,715
========= =========== ========== ========== ============
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,
------------------------------
2004 2005
---------- ----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $1,033,710 $1,747,301
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 1,533,939 1,364,877
Loss (gain) on disposition of property 1,731 221
Loss recognized on abandonment of dental offices 192,500
Provision for doubtful accounts 319,933 410,143
Provision for (benefit from) deferred income taxes - (48,854)
Amortization of debt issuance costs 2,568 1,475
Amortization of deferred equity compensation - 81,030
Changes in assets and liabilities, net of effects from acquisitions:
Accounts receivable (555,096) (1,326,806)
Prepaid expenses and other assets 341,899 345,212
Deferred charges and other assets (7,420) -
Accounts payable and accrued expenses 516,572 75,047
Income taxes payable 72,116 179,917
Other long-term obligations (13,131) 24,034
------------ -----------
Net cash provided by operating activities 3,439,321 2,853,597
------------ -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Development of new dental centers - (246,495)
Capital expenditures (1,020,093) (635,091)
------------ -----------
Net cash used in investing activities (1,020,093) (881,586)
------------ -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Advances - line of credit 12,850,000 16,162,719
Repayments - line of credit (14,600,000) (15,388,491)
Repayment of long-term debt (261,327) (124,196)
Payment of debt issuance and financing costs - -
Proceeds from exercise of Common Stock options 174,165 519,496
Tax benefit of Common Stock options exercised - 333,401
Purchase and retirement of Common Stock (545,430) (2,769,518)
Common Stock cash dividends (178,621) (563,207)
------------ ------------
Net cash used in financing activities (2,561,213) (1,829,796)
------------ -----------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (141,985) 142,215
CASH AND CASH EQUIVALENTS, beginning of period 1,110,786 756,181
----------- -----------
CASH AND CASH EQUIVALENTS, end of period $ 968,801 $ 898,396
=========== ===========
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,
------------------------------
2004 2005
---------- ----------
SUPPLEMENTAL DISCLOSURE OF CASH
FLOW INFORMATION:
Cash paid during the period for interest $ 107,593 $ 136,530
========== ==========
Cash paid during the period for income taxes $ 617,701 $ 526,489
========== ==========
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, 2005
(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, 2004.
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, 2005 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, 2005 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.
On July 13, 2005, the Company announced that its Board of Directors had declared
a 2-for-1 stock split of its common stock. The 2-for-1 stock split, which was
effected as a dividend, was distributed on August 8, 2005, to shareholders of
record at the close of business on August 1, 2005. The stock split increased the
number of shares outstanding from 1,210,295 on August 8, 2005 to 2,420,590. All
shares and earnings per share calculations for all periods in this document have
been restated to reflect the effect of the stock split.
(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. In December 2004, the FASB issued Statement of Financial
Accounting Standards ("SFAS") No. 123(R), "Share-Based Payment," which is a
revision of SFAS No. 123, Accounting for Stock-Based Compensation. SFAS No.
123(R) is effective for public companies for interim or annual periods at the
beginning of the next fiscal year that begins after June 15, 2005, supersedes
APB Opinion No. 25, Accounting for Stock Issued to Employees, and amends SFAS
No. 95, Statement of Cash Flows. SFAS No. 123(R) requires all share-based
payments to employees, including grants of employee stock options, to be
recognized in the income statement based on their fair values. Pro forma
disclosure is no longer an alternative. The new standard will be effective for
the Company beginning in the first quarter of 2006. The Company has not yet
completed its evaluation but expects the adoption to have an effect on the
financial statements similar to the pro forma effects reported below.
For the periods indicated, the fair value of the Company's outstanding 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,
--------------------------- ------------------------
2004 2005 2004 2005
------------ ------------- ---------- -------------
Risk-free interest rate 3.00% 4.37% 2.88% 3.68%
Expected dividend yield 1.54% 2.25% 1.54% 2.72%
Expected lives 3.4 years 4.5 years 3.4 years 3.4 years
Expected volatility 44% 50% 39% 35%
8
To determine the expected term of the options, the Company has chosen to use the
simplified method as provided by the Securities and Exchange Commission in SFAS
No. 123(R). 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.
The total fair value of options and warrants granted was computed to be
approximately $147,000 and $21,000 for the three months ended September 30, 2004
and 2005, respectively and $171,000 and $1,370,000 for the nine months ended
September 30, 2004 and 2005, 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 but prior to income tax benefit, was $22,000 and $38,000
for the quarters ended September 30, 2004 and 2005, respectively, and $60,000
and $286,000 for the nine months ended September 30, 2004 and 2005,
respectively.
If the Company had accounted for its stock-based compensation plans in
accordance with 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,
------------------------- ----------------------------
2004 2005 2004 2005
------------------------- ----------------------------
Net income, as reported $180,485 $414,390 $1,033,710 $1,747,301
Stock-based compensation included in net income - - - -
Fair value of stock-based compensation, net of income taxes (13,026) (24,550) (36,517) (182,221)
------------------------- ----------------------------
Pro forma net income 167,459 389,840 997,193 1,565,080
Net income per share, basic:
As reported $0.08 $0.17 $0.44 $0.74
Stock-based compensation included in net income - - - -
Fair value of stock-based compensation, net of income taxes (0.01) (0.01) (0.03) (0.08)
------------------------- ----------------------------
Pro forma $0.07 $0.16 $0.41 $0.66
========================= ============================
Net income per share, diluted:
As reported $0.07 $0.16 $0.40 $0.67
Stock-based compensation included in net income - - - -
Fair value of stock-based compensation, net of income taxes (0.01) (0.01) (0.03) (0.07)
------------------------- ----------------------------
Pro forma $0.06 $0.15 $0.37 $0.60
========================= ============================
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.
(3) EARNINGS PER SHARE
The Company calculates earnings per share in accordance with SFAS No. 128
"Earnings Per Share".
Quarters Ended September 30,
-------------------------------------------------------------------------
2004 2005
--------------------------------- ---------------------------------
Per Share Per Share
Income Shares Amount Income Shares Amount
--------- ---------- ------ ---------- --------- ------
Basic EPS:
Net income available to
shares of Common Stock $ 180,485 2,405,794 $ .08 $ 414,390 2,406,789 $ .17
Effect of dilutive shares of
Common
Stock from stock options and
warrants - 200,000 (.01) - 255,451 (.01)
--------- ---------- ----- ---------- --------- -----
Diluted EPS:
Net income available to
shares of Common Stock $ 180,485 2,605,794 $ .07 $ 414,390 2,662,240 $ .16
========= ========= ===== ========== ========= =====
9
The difference in weighted average shares outstanding between basic earnings per
share and diluted earnings per share for the quarters ended September 30, 2004
and 2005 relates to the effect of 200,000 and 255,451, respectively, of dilutive
shares of Common Stock from stock options and warrants which are included in
total shares for the diluted calculation.
Nine Months Ended September 30,
-------------------------------------------------------------------------
2004 2005
--------------------------------- ---------------------------------
Per Share Per Share
Income Shares Amount Income Shares Amount
--------- ---------- ------ ---------- --------- ------
Basic EPS:
Net income available to
shares of Common Stock $ 1,033,710 2,387,626 $ .44 $ 1,747,301 2,364,493 $ .74
Effect of dilutive shares of
Common Stock from
stock options and
warrants - 209,656 (.04) - 248,838 (.07)
----------- --------- ------ ----------- --------- -----
Diluted EPS:
Net income available to
shares of Common Stock $ 1,033,710 2,597,282 $ .40 $ 1,747,301 2,613,331 $ .67
=========== ========= ====== =========== ========= =====
The difference in weighted average shares outstanding between basic earnings per
share and diluted earnings per share for the nine months ended September 30,
2004 and 2005 relates to the effect of 209,656 and 248,838, 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 April 29, 2005, the Company amended its bank line of credit ("Credit
Facility"). The amended Credit Facility allows the Company to borrow, on a
revolving basis, an aggregate principal amount not to exceed $5.0 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 1.50%. 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, 2007. At September 30, 2005, the
Company had $1.674 million outstanding and $3.326 million available for
borrowing under the Credit Facility. This consisted of $874,000 outstanding
under the Base Rate option and $800,000 outstanding under the LIBOR Rate option.
The Credit Facility requires the Company to maintain certain financial ratios on
an ongoing basis. At September 30, 2005, the Company was in full compliance with
all of its covenants under the Credit Facility.
(5) CAPITAL COMMITMENTS
The Company has budgeted capital commitments for the next 12 months of
approximately $2.1 million, which includes the development of three de novo
Offices, the build-out of a fourth Office which will be a relocation of one
existing Office and the expansion of two offices. The Company anticipates that
these capital expenditures will be funded by cash on hand, cash generated by
operations, or borrowings under the Company's Credit Facility. The Company's
retained earnings as of September 30, 2005 were approximately $4.0 million and
the Company had working capital on that date of approximately $320,000. During
the quarter ended September 30, 2005, the Company had capital expenditures of
$397,000 and purchased approximately $572,000 of Common Stock while increasing
total bank debt by $549,000.
(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 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 have 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 have 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 and other purposes.
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, 2004, 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, 2004 and 2005. 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 currently manages 57 Offices in Colorado,
New Mexico and Arizona staffed by 81 general dentists and 27 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 development of de novo Offices and selective
acquisitions.
Critical Accounting Policies
The Company's critical accounting policies are set forth in its Form 10-K for
the year ended December 31, 2004. 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 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 compensation to employed
dentists and hygienists. The Company's net revenue is dependent on the Revenue
of the Offices. 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, advertising, 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 and advertising 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 third party payors. 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. Under a preferred provider plan, the dental
group practice is paid for dental services provided based on a fee schedule that
is a discount to the usual and customary fees paid under an indemnity insurance
agreement.
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.
Results of Operations
For the three months ended September 30, 2005, Revenue increased $1.6 million,
or 13.6%, to $13.3 million compared to $11.7 million for the three months ended
September 30, 2004. For the three months ended September 30, 2005, net revenue
increased $1.3 million, or 15.7%, to $9.3 million compared to $8.0 million for
the three months ended September 30, 2004.
Net income increased 129.6% to $414,000 for the quarter ended September 30,
2005, compared to net income of $180,000 for the quarter ended September 30,
2004. Net income in the third quarter of 2004 included a loss on discontinued
operations of $138,000 and net income in the third quarter of 2005 included a
$667,000 expense related to a grant of restricted stock to the Company's
Chairman and Chief Executive Officer (the "Employee") on July 1, 2005. In
connection with the grant of restricted stock, the Company agreed to reimburse
the Employee an amount equal to the tax liability associated with the grant.
Such reimbursement was made by the Company and totaled approximately $586,000
which was recognized as an expense during the third quarter 2005. As a result of
the award of shares, the Company also recognized approximately $81,000 of equity
compensation expense during the third quarter 2005 and expects to recognize
approximately $81,000 of equity compensation expense, before taxes, in each
subsequent quarter through the quarter ending December 31, 2007.
For the nine months ended September 30, 2005, Revenue increased $4.8 million, or
13.5%, to $40 million compared to $35.2 million for the nine months ended
September 30, 2004. For the nine months ended September 30, 2005, net revenue
increased to $28.0 million compared to $24.4 million for the nine months ended
September 30, 2004, an increase of $3.6 million or 15.0%.
For the nine months ended September 30, 2005, net income increased 69.0%, to
$1.7 million, compared to net income of $1.0 million for the nine months ended
September 30, 2004. Net income for the nine months of 2004 included a loss on
discontinued operations of $188,000 and net income for the nine months of 2005
included a $667,000 expense related to the grant of restricted stock to the
Employee.
The Company has signed leases for three additional de novo Offices in the
Phoenix, Arizona market, one of which opened in October 2005. The other two
Offices are projected to open in the first two quarters of 2006. Additionally,
the Company is currently building an Office in the Colorado Springs, Colorado
market which will be a relocation and significant expansion of an existing
Office, and is expanding and remodeling two of its Offices in the Denver,
Colorado market. The Company opened two de novo Offices in the Denver, Colorado
market, one in November 2004 and the other in January 2005 and one de novo
Office in Phoenix, Arizona in September 2004.
13
The Company continues to generate strong cash flow from operations. During the
first nine months of 2005, the Company purchased $2.8 million of its outstanding
common stock, incurred $882,000 in capital expenditures, paid $563,000 in
dividends, and repaid $124,000 of long term debt while increasing borrowings
under its bank line of credit ("Credit Facility") by $774,000.
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 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,
----------------------------- -------------------------------
2004 2005 2004 2005
----------- ------------ ------------ ------------
Total dental group practice revenue $11,699,108 $ 13,292,104 $ 35,229,081 $ 39,987,027
Amounts retained by group practices (3,689,781) (4,027,655) (10,852,556) (11,961,563)
----------- ------------ ------------ ------------
Net revenue $ 8,009,327 $ 9,264,449 $ 24,376,525 $ 28,025,464
=========== ============ ============ ============
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 Ended
September 30, September 30,
----------------------- ---------------------------
2004 2005 2004 2005
-------- -------- -------- --------
Net revenue 100.0 % 100.0 % 100.0 % 100.0 %
Direct expenses:
Clinical salaries and benefits 37.4 % 35.9 % 37.0 % 36.7 %
Dental supplies 6.8 % 6.1 % 6.2 % 6.1 %
Laboratory fees 7.3 % 6.4 % 7.6 % 6.7 %
Occupancy 11.5 % 10.3 % 10.9 % 10.2 %
Advertising and marketing 2.9 % 2.4 % 2.3 % 2.8 %
Depreciation and amortization 5.4 % 4.5 % 5.6 % 4.5 %
General and administrative 12.1 % 11.6 % 11.7 % 10.9 %
------ ------ ------ ------
83.4 % 77.2 % 81.3 % 77.9 %
------ ------ ------ ------
Contribution from dental offices 16.6 % 22.8 % 18.7 %. 22.1 %
Corporate expenses:
General and administrative (equity
compensation and related taxes are 7.2%
and 2.4% of net revenue for 3
months and 9 months ended September 30, 2005,
respectively) 9.2 % 17.0 % 9.4 % 12.1 %
Depreciation and amortization 0.7% 0.4 % 0.7 % 0.4 %
------ ------ ------ ------
Operating income 6.8 % 5.4 % 8.6 % 9.6 %
Interest expense (income), net 0.2 % (0.1) % 0.2 % (0.1)%
------ ------ ------ ------
Income before income taxes 6.6 % 5.6 % 8.4 % 9.8 %
Income tax expense 2.7 % 1.1 % 3.3 % 3.5 %
Loss attributable to discontinued operations,
net of income taxes 1.7% - % 0.8 % - %
------ ------ ------ ------
Net income 2.3% 4.5 % 4.2 % 6.2 %
====== ====== ====== ======
14
Three Months Ended September 30, 2005 Compared to Three Months Ended
September 30, 2004:
Net revenue. For the three months ended September 30, 2005, net revenue
increased $1.3 million, or 15.7%, to $9.3 million compared to $8.0 million for
the three months ended September 30, 2004. This increase is attributable to
higher revenues due to an increased emphasis on specialty dentistry as well as
the addition of three new de novo Offices since September 2004.
Clinical salaries and benefits. For the three months ended September 30, 2005,
clinical salaries and benefits increased $327,000, or 10.9%, to $3.3 million
compared to $3.0 million for the three months ended September 30, 2004. This
increase was primarily due to higher wages resulting from a higher number of
contract dentists working in the specialty dentistry area, a larger support
staff for the additional dentists as well as annual wage increases that became
effective February 1, 2005. As a percentage of net revenue, clinical salaries
and benefits decreased to 35.9% for the three months ended September 30, 2005
compared to 37.4% for the three months ended September 30, 2004.
Dental supplies. For the three months ended September 30, 2005, dental supplies
increased to $566,000 compared to $545,000 for the three months ended September
30, 2004, an increase of $21,000 or 3.9%. This increase is attributable to
increased production and increased emphasis on specialty dentistry which tends
to have higher dental supply costs. As a percentage of net revenue, dental
supplies decreased to 6.1% for the three months ended September 30, 2005
compared to 6.8% for the three months ended September 30, 2004.
Laboratory fees. For the three months ended September 30, 2005, laboratory fees
increased to $589,000 compared to $582,000 for the three months ended September
30, 2004, an increase of $7,000 or 1.2%. Laboratory fees associated with
specialty dentistry are not as significant, relative to general dentistry, and
therefore this expense increase was minimal relative to the increased
production. As a percentage of net revenue, laboratory fees decreased to 6.4%
for the three months ended September 30, 2005 compared to 7.3% for the three
months September 30, 2004.
Occupancy. For the three months ended September 30, 2005, occupancy expense
increased to $953,000 compared to $922,000 for the three months ended September
30, 2004, an increase of $31,000 or 3.3%. This increase was primarily due to the
opening of three de novo Offices since September 2004 and increased rental
payments resulting from the renewal of Office leases at current market rates for
Offices whose leases expired subsequent to the 2004 period. As a percentage of
net revenue, occupancy expense decreased to 10.3% for the three months ended
September 30, 2005 compared to 11.5% the three months ended September 30, 2004.
Advertising and marketing. For the three months ended September 30, 2005,
advertising and marketing decreased to $223,000 compared to $230,000 for the
three months ended September 30, 2004, a decrease of $6,000 or 2.8%. This
decrease is attributable to less television and print advertising in the Denver,
Colorado market during the 2005 quarter. As a percentage of net revenue,
advertising and marketing decreased to 2.4% for the three months ended September
30, 2005 compared to 2.9% for the three months ended September 30, 2004.
Depreciation and amortization. For the three months ended September 30, 2005,
depreciation and amortization expenses attributable to the Offices decreased to
$421,000 compared to $436,000 for the three months ended September 30, 2004, a
decrease of $15,000 or 3.4%. The decrease in the Company's depreciable asset
base is a result of existing assets becoming fully depreciated partially offset
by depreciation expense at the three de novo Offices. As a percentage of net
revenue, depreciation and amortization decreased to 4.5% for the three months
ended September 30, 2005 compared to 5.4% for the three months ended September
30, 2004.
General and administrative. For the three months ended September 30, 2005,
general and administrative expenses attributable to the Offices increased to
$1.1 million compared to $967,000 for the three months ended September 30, 2004,
an increase of $107,000 or 11.1%. This increase in general and administrative
expenses is primarily attributable to higher write offs of uncollectible
accounts receivable. As a percentage of net revenue, general and administrative
expenses decreased to 11.6% for the three months ended September 30, 2005
compared to 12.1% during the three months ended September 30, 2004.
Contribution from dental offices. As a result of the above, contribution from
dental offices increased $783,000, or 58.7%, to $2.1 million for the three
months ended September 30, 2005 compared to $1.3 million for the three months
ended September 30, 2004. As a percentage of net revenue, contribution from
dental offices increased to 22.8% for the three months ended September 30, 2005
compared to 16.6% for the three months ended September 30, 2004.
15
Corporate expenses - general and administrative. For the three months ended
September 30, 2005, corporate expenses - general and administrative increased to
$1.6 million compared to $733,000 for the three months ended September 30, 2004,
an increase of $845,000 or 115.3%. This increase is primarily related to a grant
of restricted stock issued on July 1, 2005 and the reimbursement of taxes
related to the grant. In connection with the grant of restricted stock, the
Company agreed to reimburse the Employee an amount equal to the tax liability
incurred. Such reimbursement was made by the Company and totaled approximately
$586,000 which was recognized as an expense during the third quarter 2005. As a
result of the award of stock, the Company also recognized approximately $81,000
of equity compensation expense during the third quarter 2005 and expects to
recognize approximately $81,000 of equity compensation expense, before taxes, in
each subsequent quarter through the quarter ending December 31, 2007. Other
items including accrued bonuses, corporate wages and benefits, accounting and
legal fees increased in the three months ended September 30, 2005 compared to
the three months ended September 30, 2004. As a percentage of net revenue,
corporate expenses - general and administrative increased to 17.0% for the three
months ended September 30, 2005 compared to 9.2% during the three months ended
September 30, 2004, of which 7.2% is attributable to equity compensation
expense.
Corporate expenses - depreciation and amortization. For the three months ended
September 30, 2005, corporate expenses - depreciation and amortization decreased
to $34,000 compared to $54,000 for the three months ended September 30, 2004, a
decrease of $21,000 or 37.9%. 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 0.4% for the three months
ended September 30, 2005 compared to 0.7% for the three months ended September
30, 2004.
Operating income. As a result of the matters discussed above, the Company
generated operating income of $503,000 for the three months ended September 30,
2005 compared to operating income of $545,000 for the three months ended
September 30, 2004, a decrease of $42,000 or 7.7%. As a percentage of net
revenue, operating income decreased to 5.4% for the three months ended September
30, 2005 compared to 6.8% for the three months ended September 30, 2004.
Interest expense/(income), net. For the three months ended September 30, 2005,
interest expense decreased to ($13,000) compared to $14,000 for the three months
ended September 30, 2004, a decrease of $27,000. This decrease in interest
expense is attributable to lower interest expense on the Company's seller notes
due to lower balances as the result of prepayments made in November 2004 and
higher charges for late payments on customer accounts receivable. As a
percentage of net revenue, interest expense/(income), net, decreased to (0.1)%
for the three months ended September 30, 2005 compared to 0.2% for the three
months ended September 30, 2004.
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 for the quarter ended September 30, 2004. 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.
Net income. As a result of the above, the Company reported net income of
$414,000 for the three months ended September 30, 2005 compared to net income of
$180,000 for the three months ended September 30, 2004, an increase of $234,000
or 129.6%. Net income for the quarter ended September 30, 2005 was net of income
tax expense of $102,000 while net income for the quarter ended September 30,
2004 was net of income tax expense of $213,000. Income tax expense for the third
quarter of 2005 was less than income tax expense for the corresponding quarter
in 2004 because the Company currently anticipates a lower tax rate for its
fiscal year ended December 31, 2005 compared to its fiscal year ended December
31, 2004 and the correcting adjustment to income tax expense was made in the
third quarter of 2005. As a percentage of net revenue, net income increased to
4.5% for the three months ended September 30, 2005 compared to 2.3% for the
three months ended September 30, 2004.
Nine Months Ended September 30, 2005 Compared to Nine Months Ended
September 30, 2004:
Net revenue. For the nine months ended September 30, 2005, net revenue increased
to $28.0 million compared to $24.4 million for the nine months ended September
30, 2004, an increase of $3.6 million or 15.0%. This increase is attributable to
higher revenues due to an increased emphasis on specialty dentistry as well as
the addition of three de novo Offices since September 2004.
Clinical salaries and benefits. For the nine months ended September 30, 2005,
clinical salaries and benefits increased to $10.3 million compared to $9.0
million for the nine months ended September 30, 2004, an increase of $1.3
million or 14.0%. This increase was primarily due to higher wages resulting from
a higher number of contract dentists working in the specialty dentistry area, a
larger support staff for the additional dentists as well as annual wage
increases that became effective February 1, 2005. As a percentage of net
revenue, clinical salaries and benefits decreased to 36.7% for the nine months
ended September 30, 2005 compared to 37.0% for the nine months ended September
30, 2004.
16
Dental supplies. For the nine months ended September 30, 2005, dental supplies
increased to $1.7 million compared to $1.5 million for the nine months ended
September 30, 2004, an increase of $196,000 or 13.0%. This increase is
attributable to increased production, the opening dental supply inventory at two
of the de novo Offices and increased emphasis on specialty dentistry which tends
to have higher dental supply costs. As a percentage of net revenue, dental
supplies decreased to 6.1% for the nine months ended September 30, 2005 compared
to 6.2% for the nine months ended September 30, 2004.
Laboratory fees. For the nine months ended September 30, 2005, laboratory fees
increased to $1.9 million from $1.8 million, an increase of $24,000 or 1.3%.
Laboratory fees associated with specialty dentistry are not as significant,
relative to general dentistry, and therefore this expense increase was minimal
relative to the increased production. As a percentage of net revenue, laboratory
fees decreased to 6.7% for the nine months ended September 30, 2005 compared to
7.6% for the nine months September 30, 2004.
Occupancy. For the nine months ended September 30, 2005, occupancy expense
increased $201,000, or 7.5%, to $2.9 million compared to $2.7 million for the
nine months ended September 30, 2004. This increase was primarily due to the
opening of three de novo Offices since September 2004 and increased rental
payments resulting from the renewal of Office leases at current market rates for
Offices whose leases expired subsequent to the 2004 period. As a percentage of
net revenue, occupancy expense decreased to 10.2% for the nine months ended
September 30, 2005 compared to 10.9% for the nine months ended September 30,
2004.
Advertising and marketing. For the nine months ended September 30, 2005,
advertising and marketing increased to $795,000 compared to $566,000 for the
nine months ended September 30, 2004, an increase of $229,000 or 40.6%. This
increase is attributable to the new television and print advertising campaign in
the Denver, Colorado market which began in January 2005. As a percentage of net
revenue, advertising and marketing increased to 2.8% for the nine months ended
September 30, 2005 compared to 2.3% for the nine months ended September 30,
2004.
Depreciation and amortization. For the nine months ended September 30, 2005,
depreciation and amortization expenses attributable to the Offices decreased to
$1.3 million compared to $1.4 million for nine months ended September 30, 2004,
a decrease of $95,000 or 7.0%. The decrease in the Company's depreciable asset
base is a result of existing assets becoming fully depreciated partially offset
by depreciation expense at the three de novo Offices. As a percentage of net
revenue, depreciation and amortization decreased to 4.5% for the nine months
ended September 30, 2005 compared to 5.6% for the nine months ended September
30, 2004.
General and administrative. For the nine months ended September 30, 2005,
general and administrative expenses attributable to the Offices increased to
$3.0 million compared to $2.9 million for the nine months ended September 30,
2004, an increase of $194,000 or 6.8%. The increase is primarily due to higher
dentist recruiting costs and increased write offs of uncollectible accounts
receivable. As a percentage of net revenue, general and administrative expenses
decreased to 10.9% for the nine months ended September 30, 2005 compared to
11.7% during the nine months ended September 30, 2004.
Contribution from dental offices. As a result of the above, contribution from
dental offices increased to $6.2 million for the nine months ended September 30,
2005 compared to $4.6 million for the nine months ended September 30, 2004, an
increase of $1.6 million or 35.9%. As a percentage of net revenue, contribution
from dental offices increased to 22.1% for the nine months ended September 30,
2005 compared to 18.7% for the nine months ended September 30, 2004.
Corporate expenses - general and administrative. For the nine months ended
September 30, 2005, corporate expenses - general and administrative increased to
$3.4 million compared to $2.3 million the nine months ended September 30, 2004,
an increase of $1.1 million or 47.5%. This increase was primarily due to a grant
of restricted stock issued on July 1, 2005 and the reimbursement of taxes
related to the grant. In connection with the grant of restricted stock, the
Company agreed to reimburse the Employee an amount equal to the tax liability
incurred. Such reimbursement was made by the Company and totaled approximately
$586,000, which was recognized as an expense during the third quarter 2005. As a
result of the award of stock, the Company also recognized approximately $81,000
of equity compensation expense during the third quarter 2005 and expects to
recognize approximately $81,000 of equity compensation expense, before taxes, in
each subsequent quarter through the quarter ending December 31, 2007. Other
items including accrued bonuses, corporate wages and benefits, accounting and
legal fees increased in the nine months ended September 30, 2005 compared to the
nine months ended September 30, 2004. As a percentage of net revenue, corporate
expenses - general and administrative increased to 12.1% for the nine months
ended September 30, 2005 compared to 9.4% for the nine months ended September
30, 2004, of which 2.4% is attributable to equity compensation expense.
17
Corporate expenses - depreciation and amortization. For the nine months ended
September 30, 2005, corporate expenses - depreciation and amortization decreased
to $103,000 compared to $165,000 for the nine months ended September 30, 2004, a
decrease of $62,000 or 37.7%. 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 0.4% for the nine months
ended September 30, 2005 compared to 0.7% for the nine months ended September
30, 2004.
Operating income. As a result of the above, the Company generated operating
income of $2.7 million for the nine months ended September 30, 2005 compared to
operating income of $2.1 million for the nine months ended September 30, 2004,
an increase of $604,000 or 28.9%. As a percentage of net revenue, operating
income increased to 9.6% for the nine months ended September 30, 2005 compared
to 8.6% for the nine months ended September 30, 2004.
Interest expense/(income), net. For the nine months ended September 30, 2005
interest expense decreased to ($41,000) compared to $57,000 for the nine months
ended September 30, 2004, a decrease of $99,000. This decrease in interest
expense is attributable to lower interest expense on the Company's seller notes
due to lower balances as the result of prepayments made in November 2004 and
higher charges for late payments on customer accounts receivable. As a
percentage of net revenue, interest expense/(income), net, decreased to (0.1%)
for the nine months ended September 30, 2005 compared to 0.2% for the nine
months ended September 30, 2004.
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 for the nine months ended September 30, 2004. 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.
Net income. As a result of the above, the Company reported net income of $1.7
million for the nine months ended September 30, 2005 compared to net income of
$1.0 million for the nine months ended September 30, 2004, an increase of
$714,000 or 69.0%. Net income for the nine months ended September 30, 2005 was
net of income tax expense of $991,000 while the net income for the nine months
ended September 30, 2004 was net of income tax expense of $814,000. As a
percentage of net revenue, net income increased to 6.2% for the nine months
ended September 30, 2005 compared to 4.2% for the nine months ended September
30, 2004.
Liquidity and Capital Resources
The Company finances its operations and growth through a combination of cash
provided by operating activities, the Credit Facility and, from time to time,
seller notes issued in dental practice acquisitions. As of September 30, 2005,
the Company had working capital of approximately $320,000.
Net cash provided by operating activities was approximately $2.9 million and
$3.4 million for the nine months ended September 30, 2005 and 2004,
respectively. During the 2005 period, 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 $75,000, a decrease in prepaid expenses and other assets of
approximately $345,000 and, an increase in income taxes payable of approximately
$180,000, offset by an increase in accounts receivable of approximately $1.3
million. During the 2004 period, 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 and a decrease in prepaid expenses and other assets of
approximately $342,000, partially offset by an increase in accounts receivable
of approximately $555,000.
Net cash used in investing activities was approximately $882,000 and $1.0
million for the nine months ended September 30, 2005 and 2004, respectively. For
the nine months ended September 30, 2005, the Company invested approximately
$635,000 in the purchase of additional property and equipment and approximately
$246,000 in the development of de novo Offices. For the nine months ended
September 30, 2004, approximately $1.0 million was invested in the purchase of
additional property and equipment.
Net cash used in financing activities was approximately $1.8 million for the
nine months ended September 30, 2005 and $2.6 million for the nine months ended
September 30, 2004. During the nine months ended September 30, 2005, net cash
used in financing activities was comprised of approximately $2.8 million used in
the purchase and retirement of Common Stock, approximately $124,000 for the
repayment of long-term debt and approximately $563,000 for the payment of
dividends, partially offset by approximately $519,000 in proceeds from the
exercise of Common Stock options, $333,000 in tax benefit of Common Stock
options exercised, and $774,000 advanced from the Credit Facility. During the
nine months ended September 30, 2004, net cash used in financing activities was
comprised of approximately $1.8 million used to pay down the 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 approximately
$174,000 in proceeds from the exercise of Common Stock options.
18
On April 29, 2005, the Company amended the Credit Facility. The amended Credit
Facility allows the Company to borrow, on a revolving basis, an aggregate
principal amount not to exceed $5.0 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 1.50%. 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, 2007. At September 30, 2005, the Company had $1.674 million
outstanding and $3.326 million available for borrowing under the Credit
Facility. This consisted of $874,000 outstanding under the Base Rate option and
$800,000 outstanding under the LIBOR Rate option. The Credit Facility requires
the Company to maintain certain financial ratios on an ongoing basis. At
September 30, 2005, the Company was in full compliance with all of its covenants
under the Credit Facility.
At September 30, 2005, the Company had outstanding indebtedness in addition to
the Credit Facility of approximately $222,000 represented by seller notes issued
in connection with various dental practice acquisitions, all of which bear
interest at 8.0%. At September 30, 2005, the Company had budgeted capital
commitments for the next 12 months of approximately $2.1 million, which includes
the development of three de novo Offices, the build-out of a fourth Office which
will be a relocation of one existing Office and the expansion of two offices.
The Company's retained earnings as of September 30, 2005 were approximately $4.0
million. The Company expects increased costs over the next 12 to 18 months as it
prepares to comply with Sarbanes-Oxley Act Section 404.
The Company's earnings before interest, taxes, depreciation and amortization,
discontinued operations (before income tax benefit), and amortization of equity
compensation ("Adjusted EBITDA") increased to $4.1 million for the nine months
ended September 30, 2005 compared to $3.6 million for the corresponding
nine-month period in 2004. Although Adjusted 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 Adjusted 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 Adjusted EBITDA can be
made by adding discontinued operations (before income tax benefit), depreciation
and amortization expense - offices, depreciation and amortization expense -
corporate, amortization of equity compensation, interest expense/(income), net
and income tax expense to net income as in the table below.
Quarters Ended Nine Months Ended
September 30, September 30,
----------------------------- -----------------------------
2004 2005 2004 2005
----------- ----------- ----------- -----------
RECONCILIATION OF ADJUSTED EBITDA:
Net income $ 180,485 $ 414,390 $ 1,033,710 $ 1,747,301
Discontinued operations -
(before income tax benefit) 230,634 - 312,669 -
Depreciation and amortization - Offices 435,584 420,998 1,356,899 1,261,990
Depreciation and amortization - Corporate 54,117 33,595 165,039 102,887
Amortization of equity compensation - 81,030 - 81,030
Interest expense/(income), net 13,724 (13,353) 57,343 (41,220)
Income tax expense 120,353 102,315 689,170 990,951
----------- ----------- ----------- -----------
ADJUSTED EBITDA $ 1,034,897 $ 1,038,975 $ 3,614,830 $ 4,142,939
=========== =========== =========== ===========
19
As of September 30, 2005, the Company had the following known contractual
obligations:
Payments due by Period
----------------------------------------------------------
Less than More than
Total 1 year 1-3 years 3-5 years 5 years
- ------------------------------------------- --------------------- -------------- -------------- ------------- --------------
Long-Term Debt Obligations 1,895,960 155,286 1,740,674 - -
- ------------------------------------------- --------------------- -------------- -------------- ------------- --------------
Operating Lease Obligations 8,303,003 2,421,524 5,005,113 835,798 40,568
- ------------------------------------------- --------------------- -------------- -------------- ------------- --------------
Other Long-Term Liabilities Reflected on
the Balance Sheet Under GAAP 193,162 - 113,148 78,363
1,651
- ------------------------------------------- --------------------- -------------- -------------- ------------- --------------
Total 10,392,125 2,576,810 6,858,935 914,161 42,219
- ------------------------------------------- --------------------- -------------- -------------- ------------- --------------
The Company from time to time may purchase its Common Stock on the open market.
During 2003, the Company, in 84 separate transactions, purchased 592,390 shares
of its Common Stock for total consideration of approximately $3.9 million at
prices ranging from $4.77 to $7.10 per share. During 2004, the Company, in seven
separate transactions, purchased 108,000 shares of its Common Stock for total
consideration of approximately $778,000 at prices ranging from $6.33 to $9.25
per share. During the nine month period ended September 30, 2005, the Company,
in 26 separate transactions, purchased 231,186 shares of its Common Stock for
total consideration of approximately $2.8 million at prices ranging from $9.00
to $17.00 per share. Included during this period, the Company purchased, in a
single private transaction approved by the Board of Directors and outside of
previously publicly announced plans, 127,364 shares of its Common Stock for
$12.00 per share. This purchase, of approximately $1.5 million, was financed
with borrowings under the Company's Credit Facility. 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 by $300,000. On March 17, 2005, the Board of
Directors authorized the Company to increase the amount available to make
open-market purchases of its Common Stock by $500,000. On September 13, 2005,
the Board of Directors authorized the Company to increase the amount available
to make open-market purchases of its Common Stock by $1 million. As of September
30, 2005, there was approximately $1.2 million available for the purchase of the
Company's Common Stock under publicly announced plans which have been approved
by the Board of Directors. There is no expiration date on these plans. 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
needs, capital expenditures and dividend payments for at least the next 12
months. 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.
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, 2005, the Company has not used derivative instruments or engaged
in hedging activities.
Interest Rate Risk. The interest payable on the Credit Facility is variable
based upon the lender's Base Rate and the LIBOR rate and, therefore, is affected
by changes in market interest rates. At September 30, 2005, the Company had
$874,000 outstanding with an interest rate of 6.75% (under the Base Rate option)
and $800,000 with an interest rate of 5.25% (under the LIBOR Rate option). 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. The Company estimates that a 1.0% increase in the
Company's interest rate would have resulted in additional interest expense of
approximately $9,700 for the nine months ended September 30, 2005.
ITEM 4. CONTROLS AND PROCEDURES
The effectiveness of the Company's 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 the Company's disclosure controls and procedures will detect all
errors or fraud. By their nature, the Company's or any system of disclosure
controls and procedures can provide only reasonable assurance regarding
management's control objectives.
20
Under the supervision and with the participation of the Company's management,
including the Chief Executive Officer and Chief Financial Officer, the Company
evaluated the design and operation of its 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, 2005. On the basis of this review,
the Company's management, including the Chief Executive Officer and Chief
Financial Officer, concluded that the Company's disclosure controls and
procedures are designed, and are effective, to give reasonable assurance that
the information required to be disclosed by the Company in reports that it files
under the Exchange Act is recorded, processed, summarized and reported within
the time periods specified in the rules and forms of the Securities and Exchange
Commission 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 the 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 2005 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 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Reference is made to Item 5, "Other Information," in this report regarding the
issuance of restricted shares of Common Stock to the Company's Chairman of the
Board and Chief Executive Officer.
The following chart provides information regarding Common Stock repurchases by
the Company during the period July 1, 2005 through September 30, 2005.
Issuer Purchases of Equity Securities
Approximate
Total Number Dollar Value
Of Shares Of Shares That
Purchased as May Yet Be
Average Part of Publicly Purchased
Total Number Price Announced Under the
Of Shares Paid per Plans or Plans or
Period Purchased Share Programs Programs
------ ------------ -------- ---------------- ---------------
July 1, 2005 through July 31, 2005 - $ - - $ 758,458
August 1, 2005 through August 31, 2005 23,479 $ 16.97 23,479 $ 366,593
September 1, 2005 through September 30, 2005 10,343 $ 16.79 10,343 $ 1,192,314
------- --------
Total 33,822 $ 16.92 33,822
The purchases of 33,822 shares in August and September 2005 were made through
open market transactions that were made pursuant to publicly announced plans
which were approved by the Board of Directors. As of September 30, 2005, there
was approximately $1.2 million available for the purchase of the Company's
Common Stock under publicly announced plans which have been approved by the
Board of Directors. There is no expiration date on these plans. Such purchases
may be made from time to time, as the Company's management deems appropriate.
ITEM 5. OTHER INFORMATION
On July 1, 2005, in accordance with the terms of the 2005 Equity Incentive Plan
(the "Plan") of the Company, the independent directors of the Company's Board of
Directors granted 60,000 restricted shares of the Company's Common Stock (the
"Shares") to Frederick W.J. Birner, the Chairman of the Board and Chief
Executive Officer of the Company (the "Employee").
The Shares granted to the Employee vest as follows: one third (1/3) of the
Shares vest nine (6) months from the grant date, one third (1/3) of the Shares
vest eighteen (18) months from the grant date, and the balance of the shares
vest thirty (30) months from the grant date, in each case assuming the
Employee's employment is not terminated prior to the time of such vesting.
Notwithstanding the foregoing, in the event the Employee's employment terminates
in connection with the Employee's death, disability, or retirement in accordance
with the Company's established retirement policy, or in the event of a change in
control of the Company, all unvested shares will vest immediately.
In connection with the grant of restricted Shares to the Employee, the Company
agreed to reimburse the Employee an amount equal to the tax liability incurred
by the Employee in connection with the grant. Such reimbursement was made by the
Company to the Employee and totaled approximately $586,000, which was recognized
as an expense during the third quarter 2005. As a result of the award of shares,
the Company also recognized approximately $81,000 of equity compensation expense
during the third quarter 2005 and expects to recognize approximately $81,000 of
equity compensation expense, before taxes, in each subsequent quarter through
the quarter ending December 31, 2007.
22
The issuance of the Shares was exempt from registration pursuant to Sections
4(2) and 4(6) of the Securities Act because, among other things, the Employee is
an accredited investor as defined in the Securities Act, the transaction did not
involve a public offering, the Employee had access to information about the
Company and his investment and the Employee took the Shares for investment and
not resale.
On July 13, 2005, the Company announced that its Board of Directors had declared
a 2-for-1 stock split of its common stock. The 2-for-1 stock split, which was
effected as a stock dividend, was distributed on August 8, 2005 to shareholders
of record at the close of business on August 1, 2005. The stock split increased
the number of shares outstanding from 1,210,295 on August 8, 2005 to 2,420,590.
All shares and earnings per share calculations for all periods in this report
are restated to reflect the effect of the stock split.
ITEM 6. EXHIBITS
Exhibit
Number Description of Document
10.1 Form of Restricted Stock Agreement and Grant Notice under 2005
Equity Incentive Plan (Incorporated by reference to Exhibit 10.2 to
the Company's current report on Form 8-K filed July 19, 2005).
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.
23
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 14, 2005 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 14, 2005 By: /s/ Dennis N. Genty
---------------------------------------
Name: Dennis N. Genty
Title: Chief Financial Officer,
Secretary, and Treasurer
(Principal Financial and
Accounting Officer)
24