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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934 [FEE REQUIRED]
For the fiscal year ended DECEMBER 31, 1998
OR
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934 [NO FEE REQUIRED]
For the transition period from to
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Commission file number 0-8527
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DIALYSIS CORPORATION OF AMERICA
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(Name of small business issuer in its charter)
FLORIDA 59-1757642
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
27 MILLER AVENUE, LEMOYNE, PENNSYLVANIA 17043
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(Address of principal executive offices) (Zip Code)
Issuer's telephone number (717) 730-6164
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Securities registered under Section 12(b) of the Act:
None
Securities registered under Section 12(g) of
the Exchange Act:
TITLE OF EACH CLASS
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Common Stock, $.01 par value
Common Stock Purchase Warrants
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [X]
The aggregate market value of the voting stock held by non-affiliates
of the registrant computed by reference to the closing price at which the stock
was sold on March 11, 1999 was approximately $1,542,333.
As of March 11, 1999, the Company had 3,546,344 outstanding shares of
its common stock.
DOCUMENTS INCORPORATED BY REFERENCE
Registrant's Registration Statement on Form SB-2 dated December 22,
1995, as amended February 9, 1996, April 2, 1996 and April 15, 1996,
Registration No. 33-80877-A Part II, Item 27, Exhibits.
Registrant's Annual Report, Form 10-K for the years ended December 31,
1996 and 1997.
Annual Reports for Registrant's Parent, Medicore, Inc., Forms 10-K for
the year ended December 31, 1994, Part IV, Exhibits.
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DIALYSIS CORPORATION OF AMERICA
Index to Annual Report on Form 10-K
Year Ended December 31, 1998
Page
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PART I
Item 1. Business.......................................................................... 1
Item 2. Properties........................................................................ 17
Item 3. Legal Proceedings................................................................. 19
Item 4. Submission of Matters to a Vote of Security Holders............................... 19
PART II
Item 5. Market for the Registrant's Common Equity and Related Stockholder Matters......... 19
Item 6. Selected Financial Data........................................................... 20
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations................................................................... 21
Item 7A. Quantitative and Qualitative Disclosure About Market Risk......................... 26
Item 8. Financial Statements and Supplementary Data....................................... 27
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial
Disclosure...................................................................... 27
PART III
Item 10. Directors and Executive Officers of the Registrant................................ 28
Item 11. Executive Compensation............................................................ 28
Item 12. Security Ownership of Certain Beneficial Owners and Management.................... 28
Item 13. Certain Relationships and Related Transactions.................................... 28
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K................... 29
PART I
CAUTIONARY NOTICE REGARDING FORWARD-LOOKING INFORMATION
The statements contained in this Annual Report on Form 10-K that are
not historical are forward-looking statements within the meaning of Section 27A
of the Securities Act of 1933 ("Securities Act"), and Section 21E of the
Securities Exchange Act of the 1934. The Private Securities Litigation Reform
Act of 1995 (the "Reform Act") contains certain safe harbors for forward-looking
statements. Certain of the forward-looking statements include management's
expectations, intentions, beliefs and strategies regarding the future of the
Company's growth and operations, the character and development of the dialysis
industry, anticipated revenues, the Company's needs for and sources of funding
for expansion opportunities and construction, expenditures, costs and income and
similar expressions concerning matters that are not considered historical facts.
Forward-looking statements also include the Company's statements regarding
liquidity, anticipated cash needs and availability, and anticipated expense
levels in Item 7, "Management's Discussion and Analysis of Financial Condition
and Results of Operations." Such forward-looking statements are subject to
substantial risks and uncertainties that could cause actual results to
materially differ from those expressed in the statements, including the general
economic, market and business conditions, opportunities pursued or not pursued
by the Company, competition, changes in federal and state laws or regulations
affecting the Company, and other factors discussed periodically in the Company's
filings. Many of the foregoing factors are beyond the control of the Company.
Among the factors that could cause actual results to differ materially are the
factors detailed in the risks discussed in the "Risk Factors" section included
in the Company's Registration Statement Form SB-2, as filed with the Securities
and Exchange Commission ("Commission") (effective on April 17, 1996).
Accordingly, readers are cautioned not to place undue reliance on such
forward-looking statements, which speak only as of the date made and which the
Company undertakes no obligation to revise to reflect events after the date
made.
ITEM 1. BUSINESS
HISTORICAL
Dialysis Corporation of America ("DCA" or the "Company"), a Florida
corporation organized in 1976, develops and operates outpatient kidney dialysis
centers that provide quality dialysis and ancillary services to patients
suffering from chronic kidney failure, generally referred to as end stage renal
disease ("ESRD"). The Company became a public company in 1977, went private in
1979, selling all but one of its centers through 1989. The Company began
construction of new centers in 1995, and in 1996 once again became a public
company. In 1997, the Company sold its Florida dialysis operations, which
included an acute care inpatient dialysis services agreement with a Florida
hospital. DCA currently operates five outpatient dialysis facilities in Lemoyne,
Wellsboro, Carlisle and Chambersburg, Pennsylvania, through its wholly owned
subsidiaries, Dialysis Services of Pa., Inc. - Lemoyne ("DSPL"), Dialysis
Services of Pa., Inc. - Wellsboro ("DSPW"), Dialysis Services of Pa., Inc. -
Carlisle ("DSPC"), and Dialysis Services of Pa., Inc. - Chambersburg ("DSPCh"),
respectively, and operates a dialysis facility in New Jersey through its 80%
owned Dialysis Services of NJ., Inc. - Manahawkin ("DSNJ-M"). The Company treats
Method II homecare patients in Pennsylvania through its subsidiary, DCA Medical
Services, Inc. ("DCAMS"). Additional new facilities are anticipated, currently
through construction and development of new dialysis centers as opposed to
acquisition.
GENERAL
Management believes the Company distinguishes itself on the basis of
quality patient care. The Company currently provides outpatient dialysis
services through its five modern outpatient facilities to approximately 112
patients in Pennsylvania and New Jersey. For the year ended December 31, 1998,
the Company performed approximately 16,750 dialysis treatments, of which
approximately 13,160 were outpatient treatments, approximately 2,190 were
homecare patients, and approximately 1,400 represented inpatient dialysis
treatments. The Company's facilities are designed for a maximum of 71 stations
to render outpatient dialysis treatment and training of home dialysis patients.
DCA's inpatient dialysis treatments are conducted under contractual
relationships currently with three hospitals located in areas serviced by three
of the Company's outpatient dialysis subsidiaries. Homecare, sometimes referred
to as Method II home patient treatment, requires the Company to provide
equipment and supplies, training, patient monitoring and follow-up assistance to
patients who are able to perform their treatments at home.
DCA's future growth depends primarily on the availability of suitable
dialysis centers for acquisition or development in appropriate and acceptable
areas, and its ability to develop these new potential dialysis centers at costs
within the budget of the Company while competing with larger companies, some of
which are public companies or divisions of public companies with much greater
personnel and financial resources who have a significant advantage in acquiring
and/or developing facilities in areas targeted by the Company. DCA opened its
center in Carlisle, Pennsylvania in 1997, its fourth center in Manahawkin, New
Jersey in 1998, its fifth center in Chambersburg, Pennsylvania the January, 1999
and is in the planning stage of development of its sixth center in Toms River,
New Jersey. However, there is no assurance that the Toms River facility will be
completed. Additionally, there is intense competition for retaining qualified
nephrologists, who normally are a substantial if not the sole source of patient
referrals and are responsible for the supervision of the dialysis centers, and
assist in finding nursing and technical staff at reasonable rates.
The Company's net revenues are derived primarily from four sources: (i)
outpatient hemodialysis services; (ii) home dialysis services, including Method
II services; (iii) inpatient hemodialysis services for acute patient care
provided through agreements with hospitals and other healthcare entities; and
(iv) ancillary services associated with dialysis treatments, primarily certain
tests and the administration of erythropoietin ("EPO"), a bio-engineered protein
that stimulates the production of red blood cells, since a deteriorating kidney
looses its ability to regulate red blood cell count, resulting in anemia.
Dialysis is an ongoing and necessary therapy to sustain life for kidney dialysis
patients and utilization of the Company's services is substantially predictable.
ESRD patients normally receive 156 dialysis treatments each year. For each of
the two years ended December 31, 1997 and 1998, approximately 74% of the
Company's revenues were derived from Medicare reimbursement. Average net
revenue per treatment, which includes all sources of payments, governmental or
private, for the Company's in-center and home patients, including ancillary
services, was approximately $205 for the year ended December 31, 1998, as
compared to $206 for the year ended December 31, 1997.
Essential to the operations and income of the Company is Medicare
reimbursement which is a fixed rate determined by the Health Care Financing
Administration ("HCFA") of the Department of Health and Human Services ("HHS").
The level of DCA's revenues and profitability may be adversely affected by
future legislation that could result in rate cuts. Additionally, the Company's
operating costs tend to increase over the years without any comparable
increases, if any, in the prescribed dialysis treatment rates, which usually
remain fixed and have decreased over the years. There also may be
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reductions in commercial third-party reimbursement rates. See "Operations -
Medicare Reimbursement." The inpatient dialysis service agreements for treating
acute kidney disease are not subject to government fixed rates, but rather are
negotiated with the hospitals, and typically the rates are higher on a per
treatment basis. The Company's inpatient treatments have accounted for
approximately 16% and 11% of the Company's revenues for the years ended December
31, 1997 and 1998, respectively.
DIALYSIS INDUSTRY
Kidneys generally act as a filter removing harmful substances and
excess water from the blood, enabling the body to maintain proper and healthy
balances of chemicals and water. Chronic kidney failure, or End Stage Renal
Disease ("ESRD") which results from chemical imbalance and buildup of toxic
chemicals, is a state of kidney disease characterized by advanced irreversible
renal impairment. ESRD is a likely consequence of complications resulting from
diabetes, hypertension, advanced age, and specific hereditary, cystic and
urological diseases. ESRD patients, in order to survive, must obtain a kidney
transplant, which procedure is limited due to lack of suitable kidney donors and
ESRD patients and the incidence of rejection of transplanted organs, or obtain
regular dialysis treatment for the rest of their lives.
Based upon information published by HCFA, the approximate number of
ESRD patients requiring dialysis treatments in the United States grew 9% to
approximately 284,000 at the end of 1996, the latest year in which there is
complete and compiled information by HCFA, due to the fact that HCFA statistics
are gathered from Medicare billing records, which take approximately two years
to be compiled. The growth in the number of ESRD patients is attributable
primarily to the aging of the population and greater patient longevity as a
result of improved dialysis technology. HCFA reported in the 1998 United States
Renal Data System ("USRDS") Annual Report that total direct public and private
medical payments for ESRD patients were approximately $14.55 billion in 1996, of
which approximately $9.6 billion was paid by the federal government through the
Medicare program. The overall ESRD program costs increased 11.4% from 1995 to
1996.
According to estimated statistics of HCFA, at June, 1998, there were
approximately 3,470 Medicare-certified facilities, which number includes all
freestanding and hospital based centers and transplant centers. Of those,
approximately 70% are freestanding facilities and approximately 65% of the
independent dialysis facilities are non-hospital for-profit facilities.
ESRD TREATMENT OPTIONS
Treatment options for ESRD patients include (1) hemodialysis, performed
either at (i) an outpatient facility, or (ii) inpatient hospital facility, or
(iii) the patient's home; (2) peritoneal dialysis, either continuous ambulatory
peritoneal dialysis ("CAPD") or continuous cycling peritoneal dialysis ("CCPD"),
usually performed at the patient's home; and/or (3) kidney transplant. The
significant portion of ESRD patients receive treatments at non-hospital owned
outpatient dialysis facilities (approximately 83%) with the remaining patients
treated at home through hemodialysis or peritoneal dialysis. Patients treated at
home are monitored by a designated outpatient facility.
The most prevalent form of treatment for ESRD patients is hemodialysis,
which involves the use of an artificial kidney, known as a dialyzer, to perform
the function of removing toxins and excess fluids from the bloodstream. This is
accomplished with a dialysis machine, a complex blood filtering device which
takes the place of certain functions of the kidney and which machine also
controls external blood flow and monitors the toxic and fluid removal process.
The dialyzer has two separate chambers divided
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by a semi-permeable membrane, and at the same time the blood circulates through
one chamber, a dialyzer fluid is circulated through the other chamber. The
toxins and excess fluid pass through the membrane into the dialysis fluid. On
the average, patients usually receive three treatments per week with each
treatment taking three to five hours. Dialysis treatments are performed by teams
of licensed nurses and trained technicians pursuant to the staff physician's
instructions.
Home hemodialysis treatment requires the patient to be medically
suitable and have a qualified assistant. Additionally, home hemodialysis
requires training for both the patient and the assistant, which usually takes
four to eight weeks. Such training is provided by each of the Company's
facilities. The use of conventional home hemodialysis has declined and is
minimal due to the patient's suitability and lifestyle, the need for the
presence of a partner and a dialysis machine at home, and the higher expense
involved over CAPD.
A second home treatment for ESRD patients is peritoneal dialysis. There
are several variations of peritoneal dialysis, the most common being CAPD and
CCPD. All forms of peritoneal dialysis use the patient's peritoneal (abdominal)
cavity to eliminate fluid and toxins from the patient. CAPD utilizes dialysis
solution installed manually into the patient's peritoneal cavity, which does not
require the use of a mechanical device or an assistant. The patient uses a
sterile dialysis solution which is fed into the cavity through a
surgically-placed catheter. The solution is allowed to remain in the abdominal
cavity for a three to five hour period and is then drained. The cycle is then
repeated. CCPD is performed in a manner similar to CAPD, but utilizes a
mechanical device to cycle dialysis solution while the patient is sleeping.
Peritoneal dialysis is the third most common form of ESRD therapy following
center hemodialysis and renal transplant.
The third modality for patients with ESRD is kidney transplantation.
While this is the most desirable form of therapeutic intervention, the scarcity
of suitable donors and possibility of donor rejection limits the availability of
this surgical procedure as a treatment option.
BUSINESS STRATEGY
DCA, having 22 years experience in successfully developing and
operating dialysis treatment facilities, plans to use such experience and
expertise to expand its dialysis operations, including provision of ancillary
services to patients. The first priority is top quality patient care. In June,
1998, there were approximately 3,470 Medicare approved ESRD facilities of which
approximately 65% were independent for-profit dialysis centers (non-hospital
centers). A substantial number of these freestanding centers are owned by
physicians or major corporations, certain of which are public companies.
Management intends to continue to establish alliances with physicians and
hospitals and to initiate dialysis service arrangements with nursing homes and
managed care organizations, and to continue to emphasize its high quality
patient care, its smaller size which allows it to focus on each patient's
individual needs while remaining sensitive to the physicians' professional
concerns.
A new Vice President was added to the Company's management in 1998 to
direct and supervise the development and acquisition of new dialysis facilities.
Under his direction, the Company is actively seeking and negotiating with
several physicians to establish new outpatient dialysis facilities at several
locations. While the Company is continually pursuing new opportunities, there
are no firm agreements to acquire or develop any additional facilities or to
provide inpatient dialysis treatment, and no assurance can be given that any
such agreements will be made.
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SAME CENTER GROWTH
The Company endeavors to increase same center growth by adding quality
staff and management and attracting new patients to its existing facilities. DCA
seeks to accomplish this objective by rendering high caliber patient care in
convenient, safe and serene conditions for everyone involved. The Company
believes that it has existing adequate space and stations within its facilities
to accommodate greater patient volume and maximize its treatment potential and
is working to achieve such increase, to lower its fixed costs, and operate at a
greater efficiency level.
ACQUISITION AND DEVELOPMENT OF FACILITIES
One of the primary elements in acquiring or developing facilities is
locating an area with an existing patient base under the current treatment of a
local nephrologist, since the facility is primarily going to serve such
patients. Other considerations in evaluating a proposed acquisition or
development of a dialysis facility are the availability and cost of qualified
and skilled personnel, particularly nursing and technical staff, the size and
condition of the facility and its equipment, the atmosphere for the patients,
the area's demographics and population growth estimates, state regulation of
dialysis and healthcare services, and the existence of competitive factors such
as hospital or proprietary non-hospital owned and existing outpatient dialysis
facilities within reasonable proximity to the proposed center.
Expansion of the Company's operations is being approached presently
through the development of its own dialysis facilities. Acquisition of existing
outpatient dialysis centers, which the Company has not done in the past, is a
faster but much more costly means of growth. The primary reason for the sale of
independently owned centers by physicians is typically the avoidance of
administrative and financial responsibilities, freeing their time to devote to
their professional practice. Other motivating forces are the physician-owner's
desire to be part of a larger public organization allowing for economies of
scale and the ability to realize a return on their investment.
To construct and develop a new facility ready for operations may take
an average of four to six months, and approximately 12 months or longer to
generate income, all of which are subject to location, size and competitive
elements. Construction of a 12 station facility may cost in a range of $600,000
to $750,000 depending on location, size and related services to be provided by
the proposed facility. Acquisition of existing facilities may range from $40,000
to $70,000 per patient. Therefore, a facility with 30 patients could cost from
$1,200,000 to $2,100,000 subject to location, competition, nature of facility
and negotiation. Any significant expansion, whether through acquisition or
development of new facilities, is dependent upon existing funds or financing
from other sources. To date, no acquisitions have been made and should such
acquisition opportunities arise, there is no assurance that the Company would
have available or be able to raise the necessary financing to pursue or complete
such an acquisition.
INPATIENT SERVICES
Management is also seeking to increase acute dialysis care contracts
with hospitals for inpatient dialysis services. These contracts are sought with
hospitals in areas serviced by its facilities. Hospitals are willing to enter
into such inpatient care arrangements to eliminate the administrative burdens of
providing dialysis services to their patients as well as the expense involved in
maintaining dialysis equipment, supplies and personnel. It is simpler for the
hospital to engage an independent party with the expertise and the knowledge,
such as DCA, to provide the inpatient dialysis treatments. DCA believes that
these arrangements are beneficial to the Company's operations, since the
contract rates are
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individually negotiated with each hospital and are not fixed by government
regulation as is the case with Medicare reimbursement fees for ESRD patient
treatment.
Management continues to consult and negotiate with nephrologists for
the acquisition or development of new dialysis facilities, as well as with
hospitals and other healthcare maintenance entities for inpatient agreements.
Several agreements for acute inpatient services with several hospitals, nursing
homes and managed care facilities in the areas surrounding present and future
facilities are under negotiation but there is no assurance that such
negotiations will result in an agreement or that any agreement will be
completed. There is no certainty as to when any new centers or service contracts
will be implemented, or the number of stations, or patient treatments such may
involve, or if such will ultimately be profitable. There is no assurance that
the Company will be able to enter into favorable relationships with physicians
who would become medical directors of such proposed dialysis facilities, or that
the Company will be able to acquire or develop any new dialysis centers within a
favorable geographic area. Newly established dialysis centers, although
contributing to increased revenues, also adversely affect results of operations
due to start-up costs and expenses with a smaller developing patient base. See
"Business Strategy", "Operations" and "Competition" of Item 1, "Business", and
Item 7, "Management's Discussion and Analysis of Financial Condition and Results
of Operations."
OPERATIONS
LOCATION, CAPACITY AND USE OF FACILITIES
The Company currently operates five outpatient dialysis facilities in
Pennsylvania and New Jersey with a total designed capacity of 71 licensed
stations. The Company owns and operates those centers through its subsidiaries,
DSPL, DSPW, DSPC, DSPCh and DSNJ-M. The Lemoyne, Pennsylvania dialysis facility
is located on property owned by the Company and leased to DSPL. See Item 2,
"Properties."
The Company also provides acute care inpatient dialysis services to
three hospitals in areas serviced by three of the Company's five dialysis
facilities and is in the process of negotiating additional contracts in the
areas surrounding its other facilities and in tandem with development of future
proposed sites. Each of its dialysis facilities provides training, supplies and
on-call support services for home peritoneal patients. See "Dialysis Industry"
above. DSPL commenced operations in June, 1995 and for the years ended December
31, 1997 and 1998, provided approximately 7,241 and 7,468 dialysis treatments,
respectively. DSPW commenced operations in September, 1995 and for the years
ended December 31, 1997 and 1998, provided 2,298 and 3,602 dialysis treatments,
respectively. DSPC commenced operations in the third quarter of 1997, providing
1,346 treatments at year end and for the year ended December 31, 1998, provided
3,483 treatments. From July, 1998 to December 31, 1998, DSNJ-M provided 247
treatments. DSPCh just commenced operations in January, 1999.
The Company estimates that on average its centers were operating at
approximately 56% of capacity as of December 31, 1998, based on the assumption
that a dialysis center is able to provide up to three treatments a day per
station, six days a week. The Company believes it may increase the number of
dialysis treatments at its centers without making additional capital
expenditures.
OPERATIONS OF DIALYSIS FACILITIES
DCA's dialysis facilities are designed specifically for outpatient
hemodialysis and generally contain, in addition to space for dialysis
treatments, a nurses' station, a patient weigh-in area, a supply room, water
treatment space used to purify the water used in hemodialysis treatments, a
dialyzer
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reprocessing room (where, with both the patient's and physician's consent, the
patient's dialyzer is sterilized for reuse), staff work area, offices and a
staff lounge. The Company's facilities also have a designated area for training
patients in home dialysis. Each facility also offers amenities for the patients,
such as a color television with headsets for each dialysis station, to ensure
the patients are comfortable and relaxed.
The Company maintains a team of expert dialysis specialists to provide
for the individual needs of each patient. In accordance with participation
requirements under the Medicare ESRD program, each facility retains a medical
director qualified and experienced in the practice of nephrology and the
administration of a renal dialysis facility. See "Physician Relationships"
below. Each facility is overseen by a nurse administrator who supervises the
daily operations and the staff, which consists of registered nurses, licensed
practical nurses, patient care technicians, a part-time social worker to assist
the patient and family to adjust to dialysis treatment and to provide help in
financial assistance and planning, and a part-time registered dietitian. These
individuals supervise the patient's needs and treatments. See "Employees" below.
The Company must continue to attract and retain skilled nurses and other staff,
competition for whom is intense.
The Company's facilities offer high-efficiency and conventional
hemodialysis, which, in the Company's experience, provides the most viable
treatment for most patients. The Company considers its dialysis equipment to be
both modern and efficient, providing state of the art treatment in a safe and
comfortable environment. In 1998, the Company leased an additional 17 machines
which are more advanced and include better safety features and updated
technology. The addition of the improved equipment enhances the Company's
ability to provide more efficient treatment in the opinion of management.
The Company's facilities also offer home dialysis, primarily CAPD and
CCPD. Training programs for CAPD or CCPD generally encompass two to three weeks
at each facility, and such training is conducted by the facility's home training
nurse. After the patient completes training, they are able to perform treatment
at home with equipment and supplies provided by the Company.
INPATIENT DIALYSIS SERVICES
The Company presently provides inpatient dialysis services to three
hospitals in Pennsylvania under agreements with the Company's local subsidiary.
Each agreement is for a one-year term with automatic one-year renewal terms,
subject to termination by notice of either party. Inpatient services are
typically necessary for patients with acute kidney failure resulting from trauma
or similar causes, patients in the early stages of ESRD, and ESRD patients who
require hospitalization for other reasons.
ANCILLARY SERVICES
The Company's dialysis facilities provide certain ancillary services to
ESRD patients, including the administration of EPO upon a physician's
prescription. EPO is a bio-engineered protein which stimulates the production of
red blood cells and is used in connection with dialysis to treat anemia, a
medical complication frequently experienced by ESRD patients. EPO decreases the
necessity for blood transfusions in ESRD patients. Other ancillary services that
the Company provides to its patients include electrocardiograms and blood
transfusions, all of which are separately reimbursed by Medicare. See "Medicare
Reimbursement" below.
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PHYSICIAN RELATIONSHIPS
An integral element to the success of a facility is its association
with area nephrologists. A dialysis patient generally seeks treatment at a
facility near the patient's home and where such patient's nephrologist has
established its practice. Consequently, the Company relies on its ability to
attract and satisfy the needs of referring nephrologists to gain new patients
and to provide quality dialysis care through these physicians.
The conditions of a facility's participation in the Medicare ESRD
program mandate that treatment at a dialysis facility be under the general
supervision of a medical director who is a physician. The Company retains by
written agreement qualified physicians or groups of qualified physicians to
serve as medical directors for each of its facilities. Generally, the medical
directors are board eligible or board certified in internal medicine by a
professional board specializing in nephrology and have had at least 12 months of
experience or training in the care of dialysis patients at ESRD facilities. The
Company's medical directors are typically a significant source of referrals to
the particular center served.
Agreements with medical directors are usually for a term of five years
or more with renewal provisions. Each agreement specifies the duties,
responsibilities and compensation of the medical director. Usually, physician's
fees for services are billed to the government payment authority on a direct
basis and paid directly to the physician or the professional corporation which
acts as the medical director for the facility. Under each agreement, the medical
director or professional association maintains his, her or its own medical
malpractice insurance. The agreements also provide for non-competition in a
limited geographic area surrounding that particular dialysis center during the
term of the agreement and upon termination for a limited period. However, the
agreements do not prohibit physicians providing services at the Company's
facility from providing direct patient care services at other locations; and
consistent with the federal and state law, such agreements do not require a
physician to refer patients to the Company's dialysis center.
The Company's ability to establish a dialysis facility in a particular
area is significantly geared to the availability of a qualified physician or
nephrologist with an existing patient base to serve as the Company's medical
director. The loss of a medical director who could not be readily replaced would
have a material adverse effect on the operations of that facility and the
Company. Compensation of medical directors is separately negotiated for each
facility and generally depends on competitive factors such as the local market,
the physician's qualifications and the size of the facility.
QUALITY ASSURANCE
The Company implements a quality assurance program to maintain and
improve the quality of dialysis treatment and care it provides to its patients
in every facility. Quality assurance activities involve the ongoing examination
of care provided, the identification of deficiencies in that care and any
necessary improvements of the quality of care. Specifically, this program
requires each center's staff, including its medical director and/or nurse
administrator to regularly review quality assurance data, whether related to
dialysis treatment services, equipment, technical and environmental
improvements, and staff-patient and personnel relationships. These evaluations
are in addition to assuring regulatory compliance with HCFA and the Occupational
Safety and Health Administration ("OSHA"). The Company's manager of compliance,
who is a registered nurse, oversees this program in addition to ensuring that
the Company meets federal and state compliance requirements for dialysis
centers. See "Government Regulation" below.
8
PATIENT REVENUES
A substantial amount of the fees for outpatient dialysis treatments are
funded under the ESRD Program established by the federal government under the
Social Security Act, and administered in accordance with rates set by HCFA. It
has been reported by HCFA that 92% of all dialysis patients were covered by
Medicare. The balance of the outpatient charges are paid by private payors
including the patient's medical insurance, private funds or state Medicaid
plans. Pennsylvania and New Jersey, presently the states in which the Company
operates, provide Medicaid or comparable benefits to qualified recipients to
supplement their Medicare coverage.
Under the ESRD Program, payments for dialysis services are determined
pursuant to Part B of the Medicare Act which presently pays 80% of the allowable
charges for each dialysis treatment furnished to patients. The maximum payments
vary based on the geographic location of the center. The remaining 20% may be
paid by Medicaid if the patient is eligible, from private insurance funds or the
patient's personal funds. Medicare and Medicaid programs are subject to
regulatory changes, statutory limitations and government funding restrictions,
which may adversely affect the Company's revenues and dialysis services
payments. See "Medicare Reimbursement" below.
The inpatient dialysis services are paid for by the hospital pursuant
to contractual pre-determined fees for the different dialysis treatments.
Inpatient treatments accounted for approximately 16% and 11% of the Company's
revenues for the years ended December 31, 1997 and 1998, respectively.
MEDICARE REIMBURSEMENT
The Company is reimbursed primarily from third party payors including
Medicaid, commercial insurance companies, but substantially by Medicare under a
prospective reimbursement system for chronic dialysis services. Each of the
Company's dialysis facilities is certified to participate in the Medicare
program. Under that Medicare system, the reimbursement rates are fixed in
advance and limit the allowable charge per treatment, but provides the Company
with predictable and recurring per treatment revenues and allows the Company to
retain any profit earned. An established composite rate set by HCFA governs the
Medicare reimbursement available for a designated group of dialysis services,
including dialysis treatments, supplies used for such treatments, certain
laboratory tests and medications. HCFA eliminated routine Medicare coverage for
such tests as nerve conduction studies, electrocardiograms, chest x-rays and
bone density measurements, and will only pay for such tests when there is
documentation of medical necessity. The Medicare composite rate is subject to
regional differences in wage earnings.
The Company receives reimbursement for outpatient dialysis services
provided to Medicare-eligible patients at rates that are currently between $122
and $124 per treatment, depending upon regional wage variations. The Medicare
reimbursement rate is subject to change by legislation and recommendations by
the Medicare Payment Advisory Commission ("MedPAC"), a new commission mandated
by the Balanced Budget Act of 1997 and continuing the work of the Prospective
Payment Assessment Commission ("PROPAC"). Congress increased the ESRD
reimbursement rate, effective January 1, 1991, resulting in an average ESRD
reimbursement rate of $126 per treatment for outpatient dialysis services. The
current maximum composite reimbursement rate is $134 per treatment. In 1990,
Congress required that HHS and PROPAC study dialysis costs and reimbursement and
make findings as to the appropriateness of ESRD reimbursement rates. Any rate
increase by Congress must be considered in the context of Medicare budgetary
concerns. In 1998, MedPAC recommended a 2.7% increase in the amount paid to
dialysis facilities for performance of services, which if passed by Congress,
would constitute the second increase that has been approved for the ESRD program
since its inception.
9
Congress is not required to implement such recommendation and could otherwise
increase or decrease the Medicare reimbursement rate.
Other ancillary services and items are eligible for separate
reimbursement under Medicare and are not part of the composite rate, including
certain drugs such as EPO, the allowable rate of which is currently $10 per 1000
units (proposed to be reduced to $9 per 1000 units), blood for amounts in excess
of three units per patient per year, and certain physician-ordered tests
provided to dialysis patients. These ancillary services are not significant
sources of income to the Company compared to reimbursement for actual treatment.
However, the proposal to reduce the reimbursement rate of EPO could adversely
impact the Company's income from EPO if the proposal is enacted by Congress. The
Company routinely submits claims monthly and is usually paid by Medicare within
30 days of the submission.
The Company is unable to predict what, if any, future changes may occur
in the rate of reimbursement. Any reduction in the Medicare composite
reimbursement rate could have a material adverse effect on the Company's
business, revenues and net earnings.
MEDICAID REIMBURSEMENT
Medicaid programs are state administered programs partially funded by
the federal government. These programs are intended to provide coverage for
patients whose income and assets fall below state defined levels and who are
otherwise uninsured. The programs also serve as supplemental insurance programs
for the Medicare co-insurance portion and provide certain coverages (e.g., oral
medications) that are not covered by Medicare. State regulations generally
follow Medicare reimbursement levels and coverages without any co-insurance
amounts. Certain states, however, require beneficiaries to pay a monthly share
of the cost based upon levels of income or assets. Pennsylvania has a Medical
Assistance Program comparable to Medicaid, as well as New Jersey, with primary
and secondary insurance coverage to those who qualify. The Company is a licensed
ESRD Medicaid provider in Pennsylvania, and has applied to be an approved
Medicaid provider in New Jersey.
POTENTIAL LIABILITY AND INSURANCE
Participants in the health care industry are subject to lawsuits based
upon alleged negligence, many of which involve large claims and significant
defense costs. DCA, although involved in chronic and acute kidney dialysis
services for approximately 22 years, has never been subject to any suit relating
to its dialysis operations. The Company currently has in force general liability
insurance, including professional and products liability, with coverage limits
of $1 million per occurrence and $3 million in the aggregate annually. The
Company's insurance policies provide coverage on an "occurrence" basis and are
subject to annual renewal. A successful claim against the Company in excess of
the Company's insurance coverage could have a material adverse effect upon the
Company's business and results of operations. The medical directors supervising
the Company's dialysis operations and other physicians practicing at the
facilities are required to maintain their own professional malpractice insurance
coverage.
GOVERNMENT REGULATION
GENERAL
Dialysis treatment centers must comply with various state and federal
health laws which are generally applicable to healthcare facilities. The
dialysis center must meet a variety of governmental standards including but not
limited to maintenance of equipment and proper records, personnel and
10
quality assurance programs. Each of the dialysis facilities must be certified by
HCFA, and the Company must comply with certain rules and regulations established
by HCFA regarding charges, procedures and policies. Each dialysis center is also
subject to periodic inspections by federal and state agencies to determine if
their operations meet the appropriate regulatory standards. These requirements
have been satisfied by each of the Company's dialysis facilities.
Many states have eliminated the requirement for dialysis centers to
obtain a certificate of need, a condition for regulating the establishment and
expansion of dialysis centers. There are no certificate of need requirements in
Pennsylvania or New Jersey where the Company is operating. In past years, the
Company has always been able to comply with applicable certificate of need laws.
DCA's record of compliance with federal, state and local governmental
laws and regulations remains excellent. Regulation of healthcare facilities,
including dialysis centers, is extensive with legislation continually proposed
relating to safety, reimbursement rates, licensing and other areas of
operations. The Company is unable to predict the scope and effect of any changes
in government regulations, particularly any modifications in the reimbursement
rate for medical services or requirements to obtain certification from HCFA.
Enforcement may also become more stringent adding to compliance costs as well as
potential sanctions.
The Company regularly reviews legislative changes and developments and
will restructure a business arrangement if management determines such might
place it in material noncompliance with such law or regulation. See "Fraud and
Abuse" and "Stark II" below. To date, none of DCA's business arrangements with
physicians, patients or others have been the subject of investigation by any
governmental authority. No assurance can be given, however, that DCA's business
arrangements will not be the subject of a future investigation or prosecution by
a federal or state governmental authority which could result in civil and/or
criminal sanctions.
FRAUD AND ABUSE
The Social Security Act provides Medicare coverage to most persons
regardless of age or financial condition for dialysis treatments as well as
kidney transplants. The Social Security Act further prohibits, as do many state
laws, the payment of patient referral fees for treatments that are otherwise
paid for by Medicare, Medicaid or similar state programs under the Medicare and
Medicaid Patient and Program Protection Act of 1987, or the "Anti-kickback
Statute." The Anti-kickback Statute and similar state laws impose criminal and
civil sanctions on persons who knowingly and willfully solicit, offer, receive
or pay any remuneration, directly or indirectly, in return for, or to include,
the referral of a patient for treatment, among other things. Included in the
civil penalties is exclusion of the provider from participation in the Medicare
and Medicaid programs. The language of the Anti-kickback Statute has been
construed broadly by the courts. The federal government in 1991 and 1992
published regulations that established exceptions, "safe harbors," to the
Anti-kickback Statute for certain business arrangements that would not be deemed
to violate the illegal remuneration provisions of the federal statute. All
conditions of the safe harbor must be satisfied to meet the exception, but
failure to satisfy all elements does not mean the business arrangement violates
the illegal remuneration provision of the statute.
As required by Medicare regulations, each of the Company's dialysis
centers is supervised by a medical director, who is a licensed nephrologist or
otherwise qualified physician. The medical directors are in private practice and
are one of the most important sources of the dialysis center's business, since
it is each physician's patients that primarily utilize the services of the
facility. The compensation of the Company's medical directors is fixed by a
Medical Director Agreement and reflects competitive factors
11
in their respective location, and the size of the center, and the physician's
professional qualifications. The medical director's fee is fixed in advance for
periods of one to five years and does not take into account the volume of
patient treatments or amounts of referrals to the Company's dialysis center. Two
of the Company's outpatient dialysis centers are owned jointly between the
Company and a group of physicians, who hold a minority position and who also act
as the medical director for those facilities. DCA attempts to structure its
arrangements with its physicians to comply with the Anti-Kickback Statute.
However, many of these physicians refer patients to the Company's facilities.
The Company believes that the value of the minority interest represented by
stock of the Company's subsidiaries issued to physicians has been consistent
with the fair market value of assets transferred to, or services performed by
such physicians for the Company, and in certain cases, monetary compensation,
and there is no intent to induce referrals to the Company's facilities. See
"Business - Physician Relationships" above. DCA has never been challenged under
these statutes and believes its arrangements with its medical directors are in
material compliance with applicable law.
Management believes that the illegal remuneration provisions described
above are primarily directed at abusive practices that increase the utilization
and cost of services covered by governmentally funded programs. The dialysis
services provided by the Company generally cannot, by their very nature, be
over-utilized, since dialysis treatment is not elective and cannot be prescribed
unless there is temporary or permanent kidney failure. There are safe harbors
for certain arrangements. However, these relationships with medical director
ownership of a minority interest in a Company facility does not satisfy all of
the criteria for the safe harbor, and there can be no assurance that these
relationships will not subject the Company to investigation or prosecution by
enforcement agencies.
With respect to the Company's inpatient dialysis services, it provides
the hospital or similar healthcare entity with dialysis services, including
qualified nursing and technical personnel, supplies, equipment and technical
services. In certain instances, medical directors of a Company facility who have
a minority interest in that facility may refer patients to hospitals with which
the Company has an inpatient dialysis services arrangement. The federal
Anti-kickback Statute could apply, but the Company believes its acute inpatient
hospital services are in compliance with the law. See "Stark II" below.
The Company endeavors in good faith to comply with all governmental
regulations. However, there can be no assurance that the Company will not be
required to change its practices or experience a material adverse effect as a
result of any such potential challenge. The Company cannot predict the outcome
of the rule-making process or whether changes in the safe harbor rules will
affect the Company's position with respect to the Anti-kickback Statute, but
does believe it will remain in compliance.
STARK II
The Physician Ownership and Referral Act ("Stark II") was adopted and
incorporated into the Omnibus Budget Reconciliation Act of 1993 and became
effective January 1, 1995. Stark II bans physician referrals, with certain
exceptions, for certain "designated health services" as defined in the statute
to entities in which a physician or an immediate family member has a "financial
relationship" which includes an ownership or investment interest in, or a
compensation arrangement between the physician and the entity. This ban is
subject to several exceptions including personal service arrangements,
employment relationships and group practices meeting specific conditions. If
Stark II is found to be applicable to the facility, the entity is prohibited
from claiming payment for such services under the Medicare or Medicaid programs,
is liable for the refund of amounts received pursuant to prohibited claims, can
be imposed with civil penalties of up to $15,000 per referral and can be
excluded from participation in the Medicare and Medicaid programs. Last year,
HCFA released proposed rules
12
that interpret the provisions of Stark II and Congress' legislative intent
behind their enactment ("Proposed Rules").
For purposes of Stark II, "designated health services" includes, among
others, clinical laboratory services, durable medical equipment, parenteral and
enteral nutrients, home health services, and inpatient and outpatient hospital
services. In the Proposed Rules, HCFA clarified the definitions of designated
health services, delineating what supplies and services are intended to be
included and excepted from each category. In particular, dialysis equipment,
supplies and services were specifically excepted from the definitions of durable
medical equipment, and inpatient and outpatient health services. HCFA further
indicated that the purpose behind the Stark II prohibition on physician referral
is to prevent Medicare program and patient abuse, and that dialysis is a
necessary medical treatment for those with temporary or permanent kidney failure
that is not susceptible to that type of abuse. HCFA additionally excluded EPO
(see "Business - Operations - Ancillary Services" above) from the definition of
outpatient prescription drugs under the same reasoning.
The Company believes, based upon the Proposed Rules and the industry
practice, that Congress did not intend to include dialysis services and the
services and items provided by the Company incident to dialysis services within
the Stark II prohibitions. There can be no assurance, though, that final Stark
II regulations will adopt such a position. No final rules have been promulgated,
however, and are not expected to be published until the end of 1999 or beginning
of 2000.
If the provisions of Stark II were found to apply to the Company's
arrangements however, the Company believes that it would be in compliance. DCA
compensates its nephrologist-physicians as medical directors of its dialysis
centers pursuant to Medical Director Agreements, which the Company believes meet
the exception for personal service arrangements under Stark II. Non-affiliated
physicians who send or treat their patients at any of DCA's facilities do not
receive any compensation from DCA.
Medical directors of DCA's facilities in which they hold a minority
investment interest may refer patients to hospitals with which DCA has an acute
inpatient dialysis service arrangement. Stark II may be interpreted to apply to
these types of interests. According to the Proposed Rules, however, acute care
inpatient hospital arrangements for dialysis services are excluded from the
prohibition on physician referrals based upon the fact that the services
provided under these arrangements are rendered under emergency circumstances and
are necessary treatments. The Company believes that its contractual arrangements
with hospitals for acute care inpatient dialysis services are in compliance with
this exception.
If HCFA or any other government entity takes a contrary position in the
Stark II final regulations or otherwise, the Company may be required to
restructure certain existing compensation agreements with its medical directors,
or, in the alternative, to refuse to accept referrals for designated health
services from certain physicians. That legislation prohibits Medicare or Medi-
caid reimbursement of items or services provided pursuant to a prohibited
referral, and imposes substantial civil monetary penalties on facilities which
submit claims for reimbursement. If such were to be the case, the Company could
be required to repay amounts reimbursed for drugs, equipment and services that
HCFA determines to have been furnished in violation of Stark II, in addition
to substantial civil monetary penalties, which may adversely affect the
Company's operations and future financial results. The Company believes that if
Stark II is interpreted by HCFA or any other governmental entity to apply to the
Company's arrangements, it is possible that the Company will be permitted to
bring its financial relationships with referring physicians into material com-
pliance with the provisions of Stark II on a prospective basis.
13
However, prospective compliance may not eliminate the amounts or penalties, if
any, that might be determined to be owed for past conduct, and there can be no
assurance that such prospective compliance, if permissible, would not have a
material adverse effect on the Company.
HEALTH INSURANCE REFORM ACT
Congress has taken action in most recent legislative sessions to modify
the Medicare program for the purpose of reducing the amounts otherwise payable
from the program to healthcare providers, but there are no significant proposed
cuts in dialysis payments. The ESRD program received a five year waiver from
reduction in Medicare outlays to allow for the results of the HCFA project. See
"Medicare Reimbursement" above. However, future legislation or regulations may
be enacted that could significantly modify the ESRD program or substantially
reduce the amount paid to the Company for its services. Further, statutes or
regulations may be adopted which demand additional requirements in order for the
Company to be eligible to participate in the federal and state payment programs.
Any new legislation or regulations may adversely affect the Company's business
operations, as well as its competitors.
In 1996, President Clinton signed the Health Insurance Portability and
Accountability Act of 1996 ("HIPA"), a package of health insurance reforms which
include a variety of provisions important to healthcare providers, such as
significant changes to the Medicare and Medicaid fraud and abuse laws. Some of
the fraud and abuse provisions were effective January 1, 1997. While many of the
provisions were self-implementing, some required further rulemaking by HHS which
rules became effective July 1, 1997. HIPA established two programs that will
coordinate federal, state and local healthcare fraud and abuse activities, to be
known as the "Fraud and Abuse Control Program" and the "Medicare Integrity
Program." The Fraud and Abuse Control Program will be conducted jointly by HHS
and the Attorney General while the Medicare Integrity Program, which is funded
by the Medicare Hospital Insurance Trust Fund, will enable HHS, the Department
of Justice and the FBI to monitor and review specifically Medicare fraud.
Under these programs, these governmental entities will undertake a
variety of monitoring activities which were previously left to providers to
conduct, including medical utilization and fraud review, cost report audits,
secondary payor determinations, reports of fraud and abuse actions against
providers will be shared as well as encouraged by rewarding whistleblowers with
money collected from civil fines. The Incentive Program for Fraud and Abuse
Information, a new program from HIPA, began in January, 1999 rewarding Medicare
recipients 10% of the overpayment up to $1,000 for reporting Medicare fraud and
abuse. HIPA further extends coverage of the fraud and abuse laws to all
federally funded health care programs and to private health plans; but the
Anti-kickback Statute does not apply to private health plans.
HIPA also sets forth a program intended to assist providers in
understanding the requirements of the fraud and abuse laws. HIPA first permits
individuals to petition HHS for written advisory opinions regarding whether an
arrangement gives rise to prohibited remuneration under the federal anti-fraud
abuse laws, constitutes grounds for imposition of civil and criminal sanctions
under the federal anti-fraud and abuse laws or satisfies the requirements of an
existing safe harbor. These opinions are published by HHS. While these opinions
are helpful to gain insight into what is permissible without having a safe
harbor, such opinions will only be binding on HHS and the party receiving the
opinion.
HIPA increases significantly the civil and criminal penalties for
offenses related to healthcare fraud and abuse. HIPA increased civil monetary
penalties from $2,000 plus twice the amount for each false claim to $10,000 plus
three times the amount for each false claim. HIPA expressly prohibits four
14
practices, namely (1) submitting a claim that the person knows or has reason to
know is for medical items or services that are not medically necessary, (2)
transferring remuneration to Medicare and Medicaid beneficiaries that is likely
to influence such beneficiary to order or receive items or services, (3)
certifying the need for home health services knowing that all of the coverage
requirements have not been met, and (4) engaging in a pattern or practice of
upcoding claims in order to obtain greater reimbursement. However, HIPA creates
a tougher burden of proof for the government by requiring that the government
establish that the person "knew or should have known" a false or fraudulent
claim was presented. The "knew or should have known" standard is defined to
require "deliberate ignorance or reckless disregard of the truth or falsity of
the information," thus merely negligent conduct should not violate the Civil
False Claims Act.
As for criminal penalties, HIPA adds healthcare fraud, theft,
embezzlement, obstruction of investigations and false statements to the general
federal criminal code with respect to federally funded health programs, thus
subjecting such acts to criminal penalties. Persons convicted of these crimes
face up to 10 years imprisonment and/or fines. Moreover, a court imposing a
sentence on a person convicted of federal healthcare offense may order the
person to forfeit all real or personal property that is derived from the
criminal offense. The Attorney General is also provided with a greatly expanded
subpoena power under HIPA to investigate fraudulent criminal activities, and
federal prosecutors may utilize asset freezes, injunctive relief and forfeiture
of proceeds to limit fraud during such an investigation.
Although the Company believes it substantially complies with currently
applicable state and federal laws and regulations and to date has not had any
difficulty in maintaining its licenses or its Medicare and Medicaid
authorizations, the healthcare service industry is and will continue to be
subject to substantial and continually changing regulation at the federal and
state levels, and the scope and effect of such and its impact on the Company's
operations cannot be predicted. No assurance can be given that the Company's
activities will not be reviewed or challenged by regulatory authorities.
Any loss by the Company of its various federal certifications, its
approval as a certified provider under the Medicare or Medicaid programs or its
licenses under the laws of any state or other governmental authority from which
a substantial portion of its revenues is derived or a change resulting from
healthcare reform, a reduction of dialysis reimbursement or a reduction or
complete elimination of coverage for dialysis services would have a material
adverse effect on the Company's business.
ENVIRONMENTAL AND HEALTH REGULATIONS
The Company's dialysis centers are subject to hazardous waste laws and
non-hazardous medical waste regulation. Most of the Company's waste is
non-hazardous. HCFA requires that all dialysis facilities have a contract with a
licensed medical waste handler for any hazardous waste. The Company also follows
OSHA's Hazardous Waste Communications Policy, which requires all employees to be
knowledgeable of the presence of and familiar with the use and disposal of
hazardous chemicals in the facility. Medical waste of each facility is handled
by licensed local medical waste sanitation agencies who are primarily
responsible for compliance with such laws.
There are a variety of regulations promulgated under OSHA relating to
employees exposed to blood and other potentially infectious materials requiring
employers, including dialysis centers, to provide protection. The Company
adheres to OSHA's protective guidelines, including regularly testing employees
and patients for exposure to hepatitis B and providing employees subject to such
exposure with hepatitis B vaccinations on an as-needed basis, protective
equipment, a written exposure control plan and training in infection control and
waste disposal.
15
OTHER REGULATION
There are also federal and state laws prohibiting anyone from
presenting false claims or fraudulent information for payments by Medicare,
Medicaid and other third-party payors. These laws provide for both criminal and
civil penalties, exclusion from Medicare and Medicaid participation, repayment
of previously collected amounts and other financial penalties under the False
Claims Act. The submission of Medicare cost reports and requests for payment by
dialysis centers are covered by these laws. The Company believes it has the
proper internal controls and procedures for issuance of accounts and complete
cost reports and payment requests. However, there is no assurance that such
reports and requests are materially accurate and complete and therefore subject
to a challenge under these laws.
Certain states have anti-kickback legislation and laws dealing with
self-referral provisions similar to the federal Anti-kickback Statute and Stark
II. The Company has no reason to believe that it is not in compliance with such
state laws.
COMPETITION
The dialysis industry is highly competitive. There are numerous
providers who have facilities in the same areas as the Company. Many are owned
by physicians or major corporations which operate dialysis facilities regionally
and nationally. The Company's operations are small in comparison with those
corporations. Some of these major companies are public, including Fresenius AG,
Renal Care Group, Inc., Total Renal Care Holdings, Inc., and Everest Healthcare
Service Corp., and most of which have substantially greater financial resources,
many more centers, patients and services than the Company, and by virtue of such
have a significant advantage over the Company in competing for nephrologists and
acquisitions of dialysis facilities in areas and markets targeted by DCA.
Competition for acquisitions has increased the cost of acquiring existing
dialysis facilities. DCA also faces competition from hospitals that provide
dialysis treatments.
Competitive factors most important in dialysis treatment are quality of
care and service, convenience of location and pleasantness of the environment.
Another significant competitive factor is the ability to attract and retain
qualified nephrologists. These physicians are a substantial source of patients
for the dialysis centers, are required as medical directors of the dialysis
facility for it to participate in the Medicare ESRD program, and are responsible
for the supervision and operations of the center. The Company's medical
directors usually are subject to non-compete restrictions within a limited
geographic area from the center they administer. Additionally, there is always
substantial competition for obtaining qualified, competent nurses and technical
staff at reasonable labor costs.
Based upon advances in surgical techniques, immune suppression and
computerized tissue typing, cross-matching of donor cells and donor organ
availability, renal transplantation in lieu of dialysis is becoming a
competitive factor. It is presently the second most commonly used modality in
ESRD therapy. With greater availability of kidney donations, currently the most
limiting factor, renal transplantations could become a more significant
competitive aspect to dialysis treatments provided by the Company. Although
kidney transplant is a preferred treatment for ESRD, certain patients who have
undergone such transplants have lost their transplant function and must return
to dialysis treatments.
EMPLOYEES
As of March 10, 1999, DCA had 42 full time employees, including nurse
administrators, clinical registered nurse managers, registered nurses, chief
technician, technical specialists, patient care technicians, and clerical
employees. DCA retains sixteen part time employees consisting of registered
nurses, patient care
16
technicians and clerical employees. Occasionally, DCA utilizes employees on a
"per diem" basis to supplement staffing.
DCA retains nine part-time independent contractors who include the
social workers and dietitians at each facility. These are in addition to the
medical directors, who are independent contractors and who supervise patient
treatment at each facility.
DCA believes its relationship with its employees is good and it has not
suffered any strikes or work stoppages. None of DCA's employees is represented
by any labor union. DCA is an equal opportunity employer.
ITEM 2. PROPERTIES
DCA owns two properties, one located in Lemoyne, Pennsylvania and the
second in Easton, Maryland. The Maryland property consists of approximately
7,400 square feet which is leased to the purchaser (in 1989) of one of DCA's
dialysis centers and a competitor of DCA. The lease was renewed for an
additional five years through March 31, 2003. The lease is guaranteed by the
tenant's parent company.
The Lemoyne property of approximately 15,000 square feet houses DCA's
dialysis center of approximately 5,400 square feet, approved for 13 dialysis
stations with space available for expansion. DCA uses approximately 2,500 square
feet for its executive offices. DSPL, the Company's subsidiary, leases this
facility from the Company under a five year lease that commenced December 23,
1998 at an annual rental of $43,088 per annum plus separately metered utilities,
insurance and additional rent of $5,386 per year covering common area
maintenance expenses, with two renewals of five years each at escalating base
rent for each renewal period.
The Easton, Maryland and Lemoyne, Pennsylvania properties are subject
to mortgages from a Maryland banking institution. As of December 31, 1998, the
remaining principal amount of the mortgage on the Lemoyne property was
approximately $160,000 and on the Easton property was approximately $200,000.
Each mortgage is under the same terms and extends through November, 2003, bears
interest at 1% over the prime rate, and is secured by the real property and the
Company's personal property at each respective location. The bank also has a
lien on rents due the Company and security deposits from leases of the
properties, and each tenant is required to sign a tenant subordination agreement
as part of its lease with the Company.
Written approval of the bank is required for all leases, assignments or
subletting, alterations and improvements and sales of the properties. See Item
7, "Management's Discussions and Analysis of Financial Condition and Results of
Operations" and Note 2 to "Notes to Consolidated Financial Statements."
As lessor, DCA also leases space at its Lemoyne, Pennsylvania property
to one other unrelated party for its own business activities unrelated to
dialysis services or to the Company. The lease for approximately 1,500 square
feet through December 31, 2002, at an aggregate rental of approximately $13,500
per annum.
17
The dialysis facility in Wellsboro, Pennsylvania consists of
approximately 3,500 square feet, with 12 dialysis stations and is leased by DSPW
for five years through September, 27, 2000 at a rental of approximately $25,000
per annum with two renewals of five years each.
The Carlisle, Pennsylvania dialysis facility, which became operational
in July, 1997, is leased by DSPC under a five year lease through June 30, 2002,
with two renewals of five years each. The facility consists of 4,340 square feet
of space accommodating 12 dialysis stations at an annual rental of $32,550.
DSNJ-M signed a five year lease for its new dialysis facility in
Manahawkin, New Jersey for approximately 3,700 square feet at an annual rate of
approximately $34,760 per annum plus its proportionate share of the real estate
taxes and casualty insurance premiums, renewable for two consecutive five year
periods, the commencement date for such lease being December 1, 1998. An
Addendum to that lease which commenced on the same date as the original lease
provides for an additional 940 square feet of space free of rent until June 30,
2000, after which time DSNJ-M will pay the agreed per square foot price as
stipulated in the original lease. The facility is designed for 12 dialysis
stations and the facility began treating patients in July, 1998 as a requirement
for and pending Medicare regulatory approval. In December, 1998 the facility
received final regulatory approval from Medicare to treat patients and receive
reimbursement for such treatment.
DCA opened its Chambersburg, Pennsylvania facility on January 14, 1999.
That facility is designed for 18 dialysis stations, with initial approval to
operate nine stations. The facility is leased by DSPCh for a five year term with
two consecutive renewal periods of five years each at an annual rental of
$52,500 plus utilities and additional rent representing the facility's
proportionate share of common area maintenance expenses. The term of the lease
commenced January 1, 1999 and is for 7,000 square feet of which the Company
sublet approximately 1,800 square feet to physicians.
The Company's new subsidiary, DSNJ-TR, signed a lease agreement to
construct a new facility in Toms River, New Jersey for a term of five years with
two renewal periods of five years each. The lease provided for a commencement
date of October 18, 1998, at which time DSNJ-TR paid 50% of the rent for a
period of 50 days. Payment of the full annual rental of $57,665 became effective
on December 8, 1998. Development of the center is in progress, but there is no
assurance when, if at all, this proposed center will become operational.
The Lemoyne and Wellsboro facilities, both of which initiated
operations in 1995, are currently operating at approximately 72% and 68%
capacity, respectively, and Carlisle has operated at 47% capacity for 1998.
Since DSNJ-M recently commenced operations and was only approved for treatment
reimbursement in December, 1998, and an accurate operational capacity is not
presently known.
The existing dialysis facilities could accommodate greater patient
volume, particularly if the Company increases hours and/or days of operation
without adding additional dialysis stations or any additional capital
expenditures. DCA has the ability and space at each of its facilities to expand
to increase patient volume subject to obtaining appropriate governmental
approval.
DCA is actively pursuing the additional development of dialysis
facilities in Pennsylvania and New Jersey as well as other areas of the country
which would entail the acquisition or lease of additional property, but no
additional contracts or leases have been entered into in any other areas.
The dialysis stations are equipped with modern dialysis equipment under
a November, 1996 master-lease/purchase agreement ("1996 Master Lease") with a
$1.00 purchase option at the end of the term. The Company leased new equipment
for its Manahawkin, New Jersey and Chambersburg,
18
Pennsylvania facilities beginning May and November, 1998, respectively, under
the 1996 Master Lease in addition to the leases commenced in June and July, 1997
for equipment at the Lemoyne and Carlisle, Pennsylvania facilities.
DCA maintains executive offices at 27 Miller Street, Suite 2, Lemoyne,
Pennsylvania 17043 as well as with its parent, Medicore ("Medicore" or the
"Parent"), at 2337 West 76th Street, Hialeah, Florida.
ITEM 3. LEGAL PROCEEDINGS
The Company is not involved in or subject to any material pending legal
actions.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted during the fourth quarter of the Company's
fiscal year to a vote of security holders through the solicitation of proxies or
otherwise. Since Medicore owns 68% of DCA, proxies are not solicited, but DCA
has in the past provided and continues to provide its shareholders with an
Information Statement and an Annual Report. The Information Statement provides
similar information to shareholders as does a proxy statement, except there is
no solicitation of proxies.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Company commenced trading on the Nasdaq SmallCap Market on April
17, 1996, under the symbol "DCAI." The table below indicates the high and low
bid prices for the four quarters for the years ended December 31, 1997 and 1998
as reported by Nasdaq.
BID PRICE
---------------
1997 HIGH LOW
---- ------ ------
1st Quarter................... $ 4.63 $ 3.00
2nd Quarter................... 3.86 2.00
3rd Quarter................... 3.63 1.13
4th Quarter................... 3.88 1.94
BID PRICE
---------------
1998 HIGH LOW
---- ------ ------
1st Quarter................... $ 2.56 $ 1.31
2nd Quarter................... 1.94 1.25
3rd Quarter................... 1.94 0.88
4th Quarter................... 1.25 0.56
At March 11, 1999, the high and low sales price of DCA common stock was
the same, $1.50. The common stock has not traded actively for the last year.
Bid and asked prices are without adjustments for retail mark-ups,
mark-downs or commissions, and may not necessarily represent actual
transactions.
19
At March 11, 1999, the Company had 97 shareholders of record and has
approximately 640 beneficial owners of its common stock.
The Company does not anticipate that it will pay dividends in the
foreseeable future. The board of directors intends to retain earnings, if any,
for use in the business. Future dividend policy will be at the discretion of the
board of directors, and will depend on the Company's earnings, capital
requirements, financial condition and other similar relevant factors.
ITEM 6. SELECTED FINANCIAL DATA
The following selected financial data for the five years ended December
31, 1998 is derived from the audited consolidated financial statements of the
Company. The data should be read in conjunction with the consolidated financial
statements, related notes and other financial information included herein.
CONSOLIDATED STATEMENTS OF OPERATIONS DATA
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
Years Ended December 31,
-----------------------------------------------
1998 1997(1) 1996 1995 1994
------- ------- ------- ------- -------
Revenues ................................. $ 4,004 $ 9,221 $ 4,137 $ 2,668 $ 2,201
Net (loss) income ........................ (204) 1,993 (23) (167) 75
(Loss) earnings per share.................
Basic .................................. (.06) .56 (.01) (.07) .03
Diluted ................................ (.06) .55 (.01) (.07) .03
CONSOLIDATED BALANCE SHEET DATA
(IN THOUSANDS)
December 31,
-----------------------------------------------
1998 1997(1) 1996 1995 1994
------- ------- ------- ------- -------
Working capital .......................... $ 5,115 $ 7,062 $ 4,529 $ 651 $ 187
Total assets ............................. 9,349 11,638 7,522 3,972 6,847
Intercompany receivable from
Medicore (non-current portion)(2) ...... 3,134
Long term debt, net of current portion(3) 633 693 585 152
Stockholders' equity ..................... 7,771 8,049 6,000 2,569 5,899
- -------------------------
(1) Reflects the sale of substantially all the assets of its Florida
subsidiary, Dialysis Services of Florida, Inc. Fort Walton Beach ("DSF") and
related Florida dialysis operations, including the homecare operations of
another subsidiary, Dialysis Medical, Inc. ("DMI"), to Renal Care Group, Inc.
and its affiliates ("RCG") for $5,065,000 of which consideration $4,585,000 was
cash with the balance consisting of 13,873 shares of RCG common stock. DCA owned
80% of DSF and DMI and on February 20, 1998 the 20% interest of DSF owned by its
former medical director and his 20% interest in DMI were redeemed for
approximately $625,000 of which sum included 6,936 shares of the RCG common
stock valued at $240,000 with the balance in cash. See Item 7, "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
Note 9 to "Notes to Consolidated Financial Statements."
20
(2) $1,000,000 repaid by Medicore on October 4, 1995; approximately
$3,134,000 reduction effected through $1.30 per share dividend in November,
1995. See Note. (1) above and Item 7, "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
(3) Includes advances from Parent.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
RESULTS OF OPERATIONS
1998 COMPARED TO 1997
Medical service revenues decreased approximately $823,000 (19%) for the
year ended December 31, 1998 compared to the preceding year. This decrease
reflects the loss of revenues, which amounted to approximately $1,663,000 for
the preceding year, from the sale of the Company's Florida dialysis operations
on October 31, 1997, which was offset to some degree by increased revenues of
the Company's Pennsylvania dialysis centers of approximately $782,000 including
increased revenues of approximately $510,000 at the Company's dialysis center
located in Carlisle, Pennsylvania, which commenced operations in July 1997 and
$58,000 from a new dialysis center located in Manahawkin, New Jersey, which
received regulatory approval in December, 1998. Although the operations of
these centers have resulted in additional revenues, they are in the develop-
mental stage and, accordingly, their operating results will adversely affect the
Company's results of operations until they achieve a sufficient patient count to
cover fixed operating costs.
Interest and other income increased by approximately $37,000 for the
year ended December 31, 1998 compared to the preceding year. This increase is
largely due to interest earned on proceeds invested from the October 1997 sale
of the Company's Florida dialysis operations.
Revenues for 1997 included a gain of approximately $4,431,000 upon the
sale of substantially all of the assets of the Company's Florida subsidiary, and
its related operations.
Cost of medical services sales increased to 71% in 1998 compared to 62%
in 1997 reflecting increases in healthcare salaries and supply costs as a
percentage of sales, including the operations of the Company's two new centers
in Carlisle, Pennsylvania and Manahawkin, New Jersey which are still in their
developmental stage. The preceding year included higher hospital treatment
revenues, which have a substantially lower cost of sales, with the Company's
Florida hospital operations having been sold on October 31, 1997.
Selling, general and administrative expenses decreased by approximately
$308,000 (14%) for 1998 compared to the preceding year. This decrease included a
decrease resulting from the sale of the Florida dialysis operations offset by
increases in expenses at the dialysis center in Carlisle, Pennsylvania, which
commenced operations in July, 1997, expenses in connection with the startup of
the new dialysis center in Manahawkin, New Jersey and the start up of a new
center in Chambersburg, Pennsylvania, which commenced operations in January,
1999, and another center presently under construction in New Jersey. Also,
contributing to the decrease was the fact that 1997 included an expense for
stock compensation of approximately $322,000 in conjunction with forgiveness of
notes from option exercises.
Interest expense decreased by approximately $5,000 during the compara-
ble periods largely as a result of reduced average outstanding borrowings.
21
1997 COMPARED TO 1996
Medical service revenues increased approximately $544,000 (14%) for the
year ended December 31, 1997 compared to the preceding year. This growth was
largely attributable to increased revenues of approximately $533,000 at the
Company's Lemoyne, Pennsylvania facility, which commenced operations in June
1995 and approximately $329,000 from a new dialysis center located in Carlisle,
Pennsylvania, which commenced operations in July 1997. These increased revenues
were offset by approximately $312,000 of lost revenues from the sale of the
Company's Florida dialysis operations on October 31, 1997. Although the
operations of the new Carlisle center have resulted in additional revenues
during 1997, it is in the developmental stage and, accordingly, its operating
results will likely adversely affect the Company's results of operations until
they achieve a sufficient patient count to cover fixed operating costs.
Interest and other income increased by approximately $109,000 for the
year ended December 31, 1997 compared to the preceding year. This increase is
largely due to investment earnings derived from proceeds of the (i) Company's
public offering completed in the second quarter of 1996 and (ii) the October,
1997 sale of its Florida dialysis operations.
1997 revenues included a gain of approximately $4,431,000 on the sale
of substantially all of the assets of Dialysis Services of Florida, Inc. - Fort
Walton Beach, and its related operations.
Cost of medical services increased by approximately $204,000 (8%) for
the year ended December 31, 1997 compared to the preceding year with the net
increase mainly attributable to the increase in revenues for the Lemoyne,
Pennsylvania facility and the commencement of operations at the new dialysis
center located in Carlisle, Pennsylvania offset by the cost decreases resulting
from the sale of the Fort Walton Beach, Florida facility. Cost of medical
services as a percentage of sales decreased to 62% for the year ended December
31, 1997 compared to 65% for the preceding year. This decline was primarily
attributable to diminuated supply costs as a percentage of sales.
Selling, general and administrative expenses increased by approximately
$578,000 (37%) for 1997 compared to the preceding year. Selling, general and
administrative expenses as a percentage of medical services revenues amounted to
49% compared to 41% in the preceding year. This increase included expenses
involved in the opening of the Company's new Pennsylvania dialysis center in
Carlisle and expansion of the operations of its facility in Lemoyne,
Pennsylvania offset by decreases resulting from the sale of Florida dialysis
operations. Also, included in this increase was stock compensation expense
during the fourth quarter of 1997 of approximately $322,000 in conjunction with
forgiveness of notes from option exercises.
Interest expense showed no significant increases or decreases during
the comparable periods.
For fiscal 1998, the Company will adopt the provisions of Financial
Accounting Standards Board Statements No. 130, "Reporting Comprehensive Income"
and No. 131, "Disclosure About Segments of an Enterprise and Related
Information," which it is anticipated will not have a material effect on its
consolidated financial statements or significantly change its segment reporting
disclosures. See Note 1 to "Notes to Consolidated Financial Statements."
22
LIQUIDITY AND CAPITAL RESOURCES
Working capital totaled $5,115,000 at December 1998, which reflected a
decrease of approximately $1,947,000 during the current year. Included in the
changes in components of working capital was a decrease in cash and cash
equivalents of $2,736,000, which included net cash used in operating activities
of $1,161,000 (including a decrease in income taxes payable of $1,423,000
primarily resulting from tax payments on the gain on the sale of the Florida
dialysis operations), net cash used in investing activities of $1,065,000
(including additions to property and equipment of $905,000 primarily related to
new centers, funds used for redemption of minority interest in subsidiaries of
$385,000 and proceeds from a sale of securities of $253,000) and net cash used
in financing activities of $511,000 (including a decrease in the advances from
the Parent of $250,000, repurchase of stock of $109,000 and debt payment of
$152,000).
The Company has mortgages on its two buildings, one in Lemoyne,
Pennsylvania and the other in Easton, Maryland, with a combined balance of
$360,000 at December 31, 1998. In 1998, the Company was in default of certain
covenants relating to these mortgages. The covenants principally related to debt
service ratio requirements for which the lender has waived compliance through
December 31, 1998.
The debt service ratio requirement is tested on an annual basis and
thus, is effectively waived through December 31, 1999 as compliance with the
covenant will not be determined until final results for 1999 are available in
early 2000.
The bank has liens on the real and personal property of the Company,
including a lien on all rents due and security deposits from the rental of these
properties. Through November 30, 1997, the loans contained a provision allowing
the bank mandatory repayment upon 90 days written notice after five years, which
resulted in the unpaid principal, balances being reflected as a current
liability. The loans were modified effective December 1, 1997 and the call
provision was removed thereby eliminating the necessity of carrying the entire
debt balance as current. An unaffiliated Maryland dialysis center, competitive
with the Company, continues to lease space from the Company in its building. The
Pennsylvania center relocated during 1995 and the Company constructed its own
dialysis facility at the property that commenced treatments in June 1995. See
Note 2 to "Notes to Consolidated Financial Statements."
The Company has an equipment financing agreement for kidney dialysis
machines for its facilities. There was additional financing of $245,000 during
1998 pursuant to this agreement. There was an outstanding balance of $449,000
at December 31, 1998 and $285,000 at December 31, 1997. See Note 2 to "Notes
to Consolidated Financial Statements."
During 1998, the Company repurchased 105,000 shares of its outstanding
common stock for approximately $109,000. See Note 10 to "Notes to Consolidated
Financial Statements."
In February, 1998, the Company redeemed the 20% minority interest in
two of its subsidiaries whose assets were included in the Florida dialysis
operations sale for a total consideration of $625,000, including $385,000 cash
and one-half of the purchaser's securities valued at $240,000 with the total
value of $480,000 for securities received having been guaranteed by the
purchaser.
The Company opened its fourth center in Manahawkin, New Jersey and
received regulatory approval as a Medicare provider during the fourth quarter of
1998 and opened its fifth center in
23
Chambersburg, Pennsylvania during the first quarter of 1999 and is developing
another dialysis center in New Jersey.
Capital is needed primarily for the development of outpatient dialysis
centers. The construction of a 10 station facility, typically the size of the
Company's dialysis facilities, costs in the range of $600,000 to $750,000 de-
pending on location, size and related services to be provided, which includes
equipment and initial working capital requirements. Acquisition of an existing
dialysis facility may range from $40,000 to $70,000 per patient, and, therefore,
is more expensive than construction, although acquisition provides the Company
with an immediate ongoing operation, which most likely would be generating in-
come. Development of a dialysis facility to initiate operations takes four to
six months and usually 12 months or longer to generate income. The Company has
entered into agreements with medical directors, and intends to establish
additional facilities in the New Jersey and Pennsylvania area.
The Company, having operated on a larger scale in the past, is seeking
to expand its outpatient dialysis treatment facilities and inpatient dialysis
care. Such expansion, whether through acquisitions of existing centers or the
development of its own dialysis centers requires capital, which was the basis
for the Company's security offering in 1996 and sale of its Florida dialysis
operations in 1997. No assurance can be given that the Company will be
successful in implementing its growth strategy or that the funds from its
securities offering and Florida dialysis operations sale will be adequate to
finance such expansion. See Item 1, "Business - Business Strategy" and Notes 7
and 9 to "Notes to Consolidated Financial Statements."
The Company believes that current levels of working capital, including
the proceeds of its securities offering and the sale of its Florida dialysis
operations, will enable it to successfully meet its liquidity demands for at
least the next twelve months as well as expand its dialysis facilities and
thereby its patient base.
YEAR 2000 READINESS
The Year 2000 computer information processing challenge associated with
the upcoming millennium change concerns the ability of computerized information
systems to properly recognize date sensitive information, with which many
companies, public and private, are faced to ensure continued proper operations
and reporting of financial condition. Failure to correct and comply with the
Year 2000 change may cause systems that cannot recognize the new date and
millenium information to generate erroneous data or to fail to operate.
Management is fully aware of the Year 2000 issues, has made its assessments and
has basically evaluated its computerized systems and equipment, and communicated
with its major vendors, and has made the operations of the Company Year 2000
compliant.
One of the most significant risks in the Company's operations with
respect to the upcoming millenium change relates to billing and collection from
third-party payors, and, in particular, Medicare. The Company receives
approximately 74% of its revenues from Medicare for treatment of dialysis
patients and related services. Although recent reports from the federal
government have indicated the potential for certain agencies and commissions not
to be Year 2000 compliant by January 1, 2000, HCFA, through whom the Medicare
program and payments are effected, has indicated it has done and continues to
accomplish all it can to insure the Medicare ESRD program continues operating
smoothly and that dialysis providers, like the Company, may continue to timely
bill electronically for patient services with Medicare payments to be made
timely. In fact, in 1998, the Company installed a new electronic billing
software program that was developed according to Medicare's compliance
guidelines, which guidelines require not only system but also Year 2000
compatibility. The software designer has successfully tested the software for
Year 2000 compliance and the Company initiated its electronic
24
Medicare billing in January, 1999 without any problems. Other third-party
payors, such as insurance companies, are presently and will continue to be
billed with hard copy. The costs of the software modifications have been
minimal, approximately $1,000, and the Company does not anticipate that any
costs involved in any future Year 2000 compliance will be material or that they
will have a material adverse effect on its business.
With respect to non-information technology systems, which typically
include embedded technology, such as microcontrollers, the major equipment used
in patient dialysis treatment is not date sensitive and should not pose any
threat of a system breakdown due to the Year 2000 issue. Most of the Company's
dialysis equipment is new. See Item 1, "Business - Operations of Dialysis
Facilities" and Item 2, "Properties." The Company retains technicians who test
and maintain dialysis operations equipment.
In addition to addressing its own internal software system, the Company
has communicated with all its suppliers, service providers and other key third
parties, including payroll system providers, banks, hospitals and insurance
companies with whom it deals to determine the extent of their Year 2000
compliance, what actions they are taking to assess and address that issue, and
whether they will be compliant by the end of 1999. To the extent such third
parties are materially adversely affected by the Year 2000 issue and their
problem has not been timely corrected, the Company's operations could be
affected. The Company has received written assurance from many of these third
parties indicating that they are Year 2000 compliant or are working on it and
expect to be by the end of 1999, and that the crucial supplies and services that
are necessary to the Company's operation and patient treatment including drug
and chemical supplies, utilities, cable, waste removal, water and sewer services
will not be affected by the millenium change.
The Company's current bookkeeping, financial records and statements,
and accounting are accomplished through certain common officers and personnel
and facilities with Medicore, its parent. See Item 13, "Certain Relationships
and Related Transactions." The system covering these programs was recently
installed by Medicore's other public subsidiary, Techdyne, Inc., which utilizes
the Visual Manufacturing System for other purposes as well, including inventory
maintenance, manufacturing and for overall operations. Management is evaluating
new, Year 2000 compliant accounting packages, which would provide the Company
with its own independent system of bookkeeping, accounting and financial records
and reduce its dependence on its parent's personnel and facilities. Management
anticipates such new, Year 2000 compliant accounting and bookkeeping system to
be ready mid-1999. The cost of such new accounting system is estimated in a
range of approximately $10,000 to $20,000.
Another area that could significantly impact the Company's operations
in providing dialysis treatment to patients relates to third-party providers,
specifically, the utility companies providing water, an extremely necessary
resource for dialysis treatments, and electricity. These providers and services
are beyond the control of the Company, and the Company does not have a separate
generator for electricity nor other sources for water. Should any of these
utilities fail to provide services, such would seriously adversely impact the
Company, its patients, as well as the Company's competitors in such affected
areas.
There can be no assurance, however, that the Year 2000 issues, whether
internal and believed to have been addressed, or from third parties, although
the Company has checked and been assured that its third-party payors and
suppliers are Year 2000 compliant or will be prior to the end of 1999, will not
have a material adverse effect on the Company's business, results of operations
or financial condition.
25
OTHER MATTERS
The Company does not consider its exposure to market risks, principally
changes in interest rates, to be significant.
Sensitivity of results of operations to interest rate risks on the
Company's investments is managed by conservatively investing liquid funds in
short-term government securities of which the Company held approximately
$5,000,000 at December 31, 1998.
Interest rate risk on debt is managed by negotiation of appropriate
rates for equipment financing obligations based on current market rates. There
is an interest rate risk associated with the Company's variable rate mortgage
obligations which totaled $360,000 at December 31, 1998.
The Company has exposure to both rising and falling interest rates. A
1/2% decrease in rates on its year-end investments in government securities and
a 1% increase in rates on its year-end mortgage debt would result in a negative
impact of approximately $18,000 on its result of operations.
The Company does not utilize financial instruments for trading or spec-
ulative purposes and does not currently use interest rate derivatives.
NEW ACCOUNTING PRONOUNCEMENTS
In June, 1998, the Financial Accounting Standards Board issued Finan-
cial Accounting Standards Board Statement No. 133, "Accounting for Derivative
Instruments and Hedging Activities" (FAS 133). FAS 133 is effective for fiscal
quarters of fiscal years beginning after June 15, 1999. FAS 133 establishes
accounting and reporting standards for derivative instruments and for hedging
activities and requires, among other things, that all derivatives be recognized
as either assets or liabilities in the statement of financial position and that
those instruments be measured at fair value. The Company is in the process of
determining the impact that the adoption of FAS 133 will have on its con-
solidated financial statements.
IMPACT OF INFLATION
Inflationary factors have not had a significant effect on the Company's
operations. A substantial portion of the Company's revenue is subject to
reimbursement rates established and regulated by the federal government. These
rates do not automatically adjust for inflation. Any rate adjustments relate to
legislation and executive and Congressional budget demands, and have little to
do with the actual cost of doing business. See "Operations - Medicare
Reimbursement" and "Government Regulation" under Item 1, "Business." Therefore,
dialysis services revenues cannot be voluntary increased to keep pace with
increases in nursing and other patient care costs. Increased operating costs
without a corresponding increase in reimbursement rates may adversely affect
the Company's earnings in the future.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
This discussion is presented under the heading "Other Matters" within
Item 7, "Management's Discussion and Analysis of Financial Condition and Results
of Operations," and incorporated herein by reference.
26
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The response to this item is submitted as a separate section to this
Annual Report.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
27
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The executive officers of the Company are appointed each year by the
board of directors at its first meeting following the Annual Meeting of Share-
holders, to serve during the ensuing year. The following information indicates
their positions with the Company and age of the executive officers at March 15,
1999. There are no family relationships between any of the executive officers
and directors of the Company.
Name Age Position Held Since
- ---- --- -------- ----------
Thomas K. Langbein 53 Chairman of the Board and 1980
Chief Executive Officer 1986
Bart Pelstring 58 President 1986
and Director 1985
Daniel R. Ouzts 53 Vice President (Finance)
and Treasurer 1996
For more detailed information about executive officers and directors
of the Company you are referred to the caption "Information About Directors and
Executive Officers" of the Company's Information Statement relating to the
Annual Meeting of Shareholders to be held on June 9, 1999, which is incorporated
herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
Information on executive compensation is included under the caption
"Executive Compensation" of the Company's Information Statement relating to the
Annual Meeting of Shareholders to be held on June 9, 1999, incorporated herein
by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information on beneficial ownership of the Company's voting securities
by each director and all officers and directors as a group, and for each of the
named executive officers disclosed in the Summary Compensation Table (see "Exec-
utive Compensation" of the Company's Information Statement relating to the
Annual Meeting of Shareholders to be held on June 9, 1999, incorporated herein
by reference), and by any person known to beneficially own more than 5% of any
class of voting security of the Company, is included under the caption "Bene-
ficial Ownership of the Company's Securities" of the Company's Information
Statement relating to the Annual Meeting of Shareholders to be held on June 9,
1999, incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information on certain relationships and related transactions is in-
cluded under the caption "Certain Relationships and Related Transactions" of the
Company's Information Statement relating to the Annual Meeting of Shareholders
to be held on June 9, 1999, incorporated herein by reference.
28
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) The following is a list of documents filed as part of this report.
1. All financial statements - See Index to Consolidated Financial
Statements.
2. Financial statement schedules - See Index to Consolidated Financial
Statements.
3. Refer to subparagraph (c) below.
(b) Reports on Form 8-K
None
(c) Exhibits +
(3) (i) Articles of Incorporation ++
(ii) By-Laws of the Company ++
(4) (i) Form of Common Stock Certificate of the Company ++
(ii) Form of Redeemable Common Stock Purchase Warrant ++
(iii) Form of Underwriters' Options ++
(iv) Form of Warrant Agreement between the Company, Continental
Stock Transfer & Trust Co. and Joseph Dillon & Co., Inc. ++
(v) Amendment No. 1 to Warrant Agreement between the Company,
Continental Stock Transfer & Trust Co. and Joseph Dillon &
Co., Inc. dated March 9, 1999 (incorporated by reference to
the Company's Current Report on Form 8-K dated March 9, 1999,
Item 7(c)(4)(i)).
(10) Material Contracts
(i) Lease between Dialysis Services of Pennsylvania, Inc. -
Wellsboro(1) and James and Roger Stager dated January 15, 1995
(incorporated by reference to Medicore, Inc.'s(2) Annual
Report on Form 10-K for the year ended December 31, 1994
("1994 Medicore Form 10-K"), Part IV, Item 14(a) 3
(10)(lxii)).
(ii) Lease between the Company and Dialysis Services of
Pennsylvania, Inc. - Lemoyne(1) dated December 1, 1998.
(iii) Loan Agreement between the Company and Mercantile-Safe Deposit
and Trust Company dated November 30, 1988(3) (incorporated by
reference to the Company's Quarterly Report on Form 10-Q for
the quarter ended March 31, 1998 ("March, 1998 Form 10-Q"),
Part II, Item 6(a), Part II, Item 10(iii)).
29
(iv) First Amendment to Loan Agreement between the Company and
Mercantile-Safe Deposit and Trust Company dated December 1,
1997(3) (incorporated by reference to the Company's Annual
Report on Form 10-K for the period ended December 31, 1997
("1997 Form 10-K"), Part IV, Item 14(c)(xxviii)).
(v) Promissory Note to Mercantile-Safe Deposit and Trust Company
dated November 30, 1988(3) (incorporated by reference to the
March, 1998 Form 10-Q, Part II, Item 6(a), Part II, Item
10(ii)).
(vi) First Amendment and Modification to Promissory Note to
Mercantile-Safe Deposit and Trust Company(3) (incorporated by
reference to the 1997 Form 10-K, Part IV, Item 14(c)(xxix)).
(vii) Medical Director Agreement between Dialysis Services of
Pennsylvania, Inc. - Wellsboro(2) and George Dy, M.D. dated
September 29, 1994 [*] (incorporated by reference to Medicore,
Inc.'s(2) Quarterly Report on Form 10-Q for the quarter ended
September 30, 1994 as amended January, 1995 ("September, 1994
Medicore(2) Form 10-Q"), Part II, Item 6(a)(10)(i)).
(viii) Medical Director Agreement between Dialysis Services of
Pennsylvania, Inc. - Lemoyne(1) and Herbert I. Soller, M.D.
dated January 30, 1995 [*] (incorporated by reference to the
1994 Medicore(2) Form 10-K, Part IV, Item 14(a)(3)(10)(lx)).
(ix) Agreement for In-Hospital Dialysis Services between Dialysis
Services of Pennsylvania, Inc. - Wellsboro(1) and Soldiers &
Sailors Memorial Hospital dated September 28, 1994 [*]
(incorporated by reference to September, 1994 Medicore(2) Form
10-Q, Part II, Item 6(a)(10)(ii)).
(x) Agreement for In-Hospital Dialysis Services between Dialysis
Services of Pennsylvania, Inc. - Lemoyne(1) and Pinnacle
Health Hospitals dated June 1, 1997 [*] (incorporated by
reference to the Company's Current Report on Form 8-K dated
June 19, 1997, Item 7(c)(10)(i)).
(xi) 1995 Stock Option Plan of the Company (November 10, 1995). ++
(xii) Form of Stock Option Certificate under 1995 Stock Option Plan
(November 10, 1995).++
(xiii) Form of Non-Qualified Stock Option granted to Medical
Directors (incorporated by reference to the Company's Annual
Report on Form 10-K for the year ended December 31, 1996
("1996 Form 10-K"), Part IV, Item 14(a) 3 (10)(xxi)).
(xiv) Lease between Dialysis Services of PA., Inc. - Carlisle(1) and
Lester P. Burkholder, Jr. and Kirby K. Burkholder dated
November 1, 1996 (incorporated by reference to the Company's
1996 Form 10-K, Part IV, Item 14(a) 3 (10)(xxiii)).
[*] Confidential portions omitted have been filed separately with
the Securities and Exchange Commission.
30
(xv) Lease between Dialysis Services of NJ., Inc. - Manahawkin(4)
and William P. Thomas dated January 30, 1997 (incorporated by
reference to the Company's 1996 Form 10-K, Part IV, Item 14(a)
3 (10)(xxiv)).
(xvi) Addendum to Lease Agreement between William P. Thomas and
Dialysis Services of NJ., Inc. - Manahawkin(4) dated June 4,
1997 (incorporated by reference to the 1997 Form 10-K, Part
IV, Item 14(c)(xviii)).
(xvii) Medical Director Agreement between Dialysis Services of PA.,
Inc.-Carlisle(1) and Herb Soller, M.D. dated October 1,
1996(5) [*] (incorporated by reference to the Company's
September 30, 1996 Quarterly Report on Form 10-Q ("September,
1996 Form 10-Q"), Part II, Item 6(a), Part II, Item 10(ii)).
(xviii) Equipment Master Lease Agreement BC-105 between the Company
and B. Braun Medical, Inc. dated November 22, 1996
(incorporated by reference to the Company's 1996 Form 10-K,
Part IV, Item 14(a) 3 (10)(xxvii)).
(xix) Schedule of Leased Equipment 0597 commencing June 1, 1997 to
Master Lease BC-105 (incorporated by reference to the
Company's Quarterly Report on Form 10-Q for the quarter ended
June 30, 1997 ("June, 1997 10-Q"), Part II, Item 6(a), Part
II, Item 10(i)).(6)
(xx) Agreement for In-Hospital Dialysis Services between Dialysis
Services of Pennsylvania, Inc. - Carlisle(1) and Carlisle
Hospital dated August 15, 1997 [*] (incorporated by reference
to the Company's Current Report on Form 8-K dated August 29,
1997, Item 7(c)(10)(i)).
(xxi) Asset Purchase Agreement by and among the Company, Dialysis
Services of Florida, Inc. - Fort Walton Beach(7), DCA Medical
Services, Inc.(1), Dialysis Medical, Inc.(7), Renal Care
Group, Inc., Renal Care Group of the Southeast, Inc. and Henry
M. Haire, M.D. dated October 31, 1997 (incorporated by
reference to the Company's Current Report on Form 8-K dated
November 12, 1997, Part II, Item 7(c)(2.1)).
(xxii) Medical Director Agreement between Dialysis Services of NJ,
Inc. - Manahawkin(4) and Atlantic Nephrology Group, Inc. dated
January 21, 1998(8)(9) [*] (incorporated by reference to the
Company's September, 1996 Form 10-Q, Part II, Item 6(a), Part
II, Item 10(i)).
(xxiii) Stock Purchase Agreement between the Company and Atlantic
Nephrology Group, Inc. (incorporated by reference to the
Company's Quarterly Report on Form 10-Q for the quarter ended
June 30, 1998, Part II, Item 6(a), Part II, Item 10(i)).
(xxiv) Lease between Dialysis Services of Pa., Inc. - Chambersburg(1)
and BPS Development Group dated April 13, 1998 (incorporated
by reference to the Company's March, 1998 Form 10-Q, Part II,
Item 6(a), Part II, Item 10(i)).
[*] Confidential portions omitted have been filed separately with
the Securities and Exchange Commission.
31
(xxv) Lease between Dialysis Services of NJ, Inc. - Toms River(4)
and Lotano Development, Inc. dated July 1, 1998.
(xxvi) Lease between the Company and Wirehead Networking Solutions,
Inc. dated December 1, 1998.
(21) Subsidiaries of the Company.
(27) Financial Data Schedule (for SEC use only).
- -------------------------
+ Documents incorporated by reference not included in Exhibit Volume.
++ Incorporated by reference to the Company's Registration Statement on
Form SB-2 dated December 22, 1995 as amended February 9, 1996, April 2,
1996 and April 15, 1996, Registration No. 33-80877-A, Part II, Item 27.
(1) Wholly-owned subsidiary.
(2) Parent of the Company owning approximately 68% of the Company's
outstanding common stock. Medicore is subject to Section 13(a)
reporting requirements of the Exchange Act, with its common stock
listed for trading on the Nasdaq National Market.
(3) Dialysis Corporation of America has two loans with Mercantile Safe
Deposit and Trust Company and such loan documents and promissory notes
conform to the exhibit filed but for the amount of each loan.
(4) 80% owned facility with Atlantic Nephrology Group, Inc.
(5) There are two Medical Director Agreements with Herbert I. Soller, M.D.
and such agreements conform to the exhibit filed but for the facility,
the other being is located in Chambersburg, Pennsylvania.
(6) Dialysis equipment is leased from time to time and a new schedule is
added to the Master Lease; other than the nature of the equipment and
the length of the lease, the Schedules conform to the exhibit filed and
the terms of the Master Lease remain the same.
(7) 100% owned subsidiary, assets sold; now inactive.
(8) Previously filed with the same Medical Director under the name
Oceanview Medical Group, P.A.
(9) There are two Medical Director Agreements with Atlantic Nephrology
Group, Inc. and such Medical Director Agreements conform to the exhibit
filed but for the compensation and facility.
32
(d) Schedule II - Valuation and Qualifying Accounts
Dialysis Corporation of America, Inc. and Subsidiaries
December 31, 1998
- ------------------------------------------ --------- ----------------------- ------------ ---------
COL. A COL. B COL. C COL. D COL. E
- ------------------------------------------ --------- ----------------------- ------------ ---------
Additions
(Deductions) Additions Other
Charged Charged Changes
Balance at (Credited) to Other Add Balance
Beginning to Cost and Accounts (Deduct) at End of
Classification of Period Expenses Describe Describe Period
- ------------------------------------------ --------- ----------------------- ------------ ---------
YEAR ENDED DECEMBER 31, 1998:
Reserves and allowances deducted
from asset accounts:
Allowance for uncollectable accounts $ 52,000 $ 101,000 $ (9,000)(1) $ 144,000
Valuation allowance for deferred tax asset --- 80,000 --- 80,000
--------- --------- --------- --------- ---------
$ 52,000 $ 181,000 $ 0 $ (9,000) $ 224,000
========= ========= ========= ========= =========
YEAR ENDED DECEMBER 31, 1997:
Reserves and allowances deducted
from asset accounts:
Allowance for uncollectable accounts $ 154,000 $ 37,000 $ (93,000)(1) $ 52,000
(46,000)(2)
Valuation allowance for deferred tax asset 17,000 (17,000) --- ---
--------- --------- --------- --------- ---------
$ 171,000 $ 20,000 $ 0 $(139,000) $ 52,000
========= ========= ========= ========= =========
YEAR ENDED DECEMBER 31, 1996:
Reserves and allowances deducted
from asset accounts:
Allowance for uncollectable accounts $ 128,000 $ 140,000 $(114,000)(1) $ 154,000
Valuation allowance for deferred tax asset 247,000 (230,000) --- 17,000
--------- --------- --------- --------- ---------
$ 375,000 $ (90,000) $ 0 $(114,000) $ 171,000
========= ========= ========= ========= =========
(1) Uncollectable accounts written off, net of recoveries.
(2) Sale of subsidiaries' assets.
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.
DIALYSIS CORPORATION OF AMERICA
By: /s/ THOMAS K. LANGBEIN
--------------------------------------
Thomas K. Langbein
CHAIRMAN OF THE BOARD OF DIRECTORS
March 22, 1999
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
Signature Title Date
--------- ----- ----
/s/ THOMAS K. LANGBEIN Chairman of the Board of Directors March 22, 1999
- ---------------------------
Thomas K. Langbein
/s/ BART PELSTRING President and Director March 22, 1999
- ---------------------------
Bart Pelstring
/s/ DANIEL R. OUZTS Vice President, Treasurer, Chief March 22, 1999
- --------------------------- Financial Officer and Controller
Daniel R. Ouzts
/s/ STEPHEN EVERETT Vice President March 22, 1999
- ---------------------------
Stephen Everett
/s/ ROBERT W. TRAUSE Director March 22, 1999
- ---------------------------
Robert W. Trause
/s/ DR. HERBERT I. SOLLER Director March 22, 1999
- ---------------------------
Dr. Herbert I. Soller
ANNUAL REPORT ON FORM 10-K
ITEM I, ITEM 14(A) (1) AND (2), (C) AND (D)
LIST OF FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES
FINANCIAL STATEMENTS AND SUPPLEMENTAL DATA
CERTAIN EXHIBITS
FINANCIAL STATEMENT SCHEDULES
YEAR ENDED DECEMBER 31, 1998
DIALYSIS CORPORATION OF AMERICA
HIALEAH, FLORIDA
FORM 10-K--ITEM 14(a)(1) AND (2)
DIALYSIS CORPORATION OF AMERICA
LIST OF FINANCIAL STATEMENTS
The following consolidated financial statements of Dialysis Corporation of
America and subsidiaries are included in Item 8:
Page
----
Consolidated Balance Sheets as of December 31, 1998 and 1997. F-3
Consolidated Statements of Operations - Years ended December 31, 1998,
1997, and 1996. F-4
Consolidated Statements of Stockholders' Equity - Years ended December 31,
1998, 1997 and 1996. F-5
Consolidated Statements of Cash Flows - Years ended December 31, 1998, 1997
and 1996. F-6
Notes to Consolidated Financial Statements - December 31, 1998. F-7
The following financial statement schedule of Dialysis Corporation of America
and subsidiaries is included in Item 14(d):
Schedule II - Valuation and qualifying accounts.
All other schedules for which provision is made in the applicable accounting
regulation of the Securities and Exchange Commission are not required under the
related instructions or are inapplicable, and therefore have been omitted.
F-1
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Shareholders and Board of Directors
Dialysis Corporation of America
We have audited the accompanying consolidated balance sheets of Dialysis
Corporation of America and subsidiaries as of December 31, 1998 and 1997, and
the related consolidated statements of operations, stockholders' equity and cash
flows for each of the three years in the period ended December 31, 1998. Our
audits also included the financial statement schedule listed in the Index at
Item 14(a). These financial statements and schedule are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements and schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
Dialysis Corporation of America and subsidiaries at December 31, 1998 and 1997,
and the consolidated results of their operations and their cash flows for each
of the three years in the period ended December 31, 1998, in conformity with
generally accepted accounting principles. Also, in our opinion, the related
financial statement schedule, when considered in relation to the basic financial
statements taken as a whole, presents fairly in all material respects the
information set forth therein.
/s/ ERNST & YOUNG LLP
March 22, 1999
Miami, Florida
F-2
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, DECEMBER 31,
1998 1997
------------ ------------
ASSETS
Current assets:
Cash and cash equivalents $ 5,366,837 $ 8,102,920
Marketable securities -- 443,936
Accounts receivable, less allowance
of $144,000 at December 31, 1998;
$52,000 at December 31, 1997 460,786 494,163
Inventories 179,189 113,815
Prepaid expenses and other current assets 52,934 156,823
------------ ------------
Total current assets 6,059,746 9,311,657
Property and equipment:
Land 168,358 168,358
Buildings and improvements 1,404,573 1,402,319
Machinery and equipment 1,381,460 949,749
Leasehold improvements 1,149,300 442,464
------------ ------------
4,103,691 2,962,890
Less accumulated depreciation and amortization 1,003,995 679,870
------------ ------------
3,099,696 2,283,020
Advances to parent 120,865 --
Deferred expenses and other assets 68,617 43,088
------------ ------------
$ 9,348,924 $ 11,637,765
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 243,968 $ 72,531
Accrued expenses 292,594 370,099
Current portion of long-term debt 175,902 151,844
Income taxes payable 232,306 1,655,164
------------ ------------
Total current liabilities 944,770 2,249,638
Long-term debt, less current portion 632,664 564,673
Advances from parent -- 128,727
Minority interest in subsidiaries -- 645,809
Commitments
Stockholders' equity:
Common stock, $.01 par value, authorized
20,000,000 shares; 3,751,344 shares issued:
3,546,344 shares outstanding in 1998;
3,651,344 shares outstanding in 1997 37,513 37,513
Capital in excess of par value 4,044,154 4,008,720
Retained earnings 4,004,763 4,208,935
Treasury stock at cost; 205,000 shares at December 31, 1998;
100,000 shares at December 31, 1997 (314,940) (206,250)
------------ ------------
Total stockholders' equity 7,771,490 8,048,918
------------ ------------
$ 9,348,924 $ 11,637,765
============ ============
See notes to consolidated financial statements.
F-3
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
YEAR ENDED DECEMBER 31,
----------------------------------------
1998 1997 1996
----------- ----------- -----------
Revenues:
Medical service revenue $ 3,552,279 $ 4,375,165 $ 3,830,809
Gain on sale of subsidiaries' assets -- 4,430,663 --
Interest and other income 451,656 414,970 305,706
----------- ----------- -----------
4,003,935 9,220,798 4,136,515
Cost and expenses:
Cost of medical services 2,516,239 2,712,527 2,508,323
Selling, general and administrative expenses 1,847,175 2,155,459 1,577,487
Interest expense 81,531 86,129 86,694
----------- ----------- -----------
4,444,945 4,954,115 4,172,504
----------- ----------- -----------
(Loss) income before income taxes and minority interest (441,010) 4,266,683 (35,989)
Income tax (benefit) provision (236,838) 1,699,000 --
----------- ----------- -----------
(Loss) income before minority interest (204,172) 2,567,683 (35,989)
Minority interest in income (loss)
of consolidated subsidiaries -- 574,303 (13,028)
----------- ----------- -----------
Net (loss) income $ (204,172) $ 1,993,380 $ (22,961)
=========== =========== ===========
(Loss) earnings per share:
Basic $ (.06) $ .56 $ (.01)
=========== =========== ===========
Diluted $ (.06) $ .55 $ (.01)
=========== =========== ===========
See notes to consolidated financial statements.
F-4
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
CAPITAL IN
COMMON EXCESS OF RETAINED TREASURY
STOCK PAR VALUE EARNINGS STOCK TOTAL
--------- ------------ ----------- ---------- -----------
Balance at January 1, 1996 $ 24,328 $ 305,997 $ 2,238,516 $ 2,568,841
Net loss (22,961) (22,961)
Net proceeds from security
offering with issuance of 1,150,000
common shares 11,500 3,433,658 3,445,158
Exercise of stock options 60 8,940 9,000
--------- ------------ ----------- ---------- -----------
Balance at December 31, 1996 35,888 3,748,595 2,215,555 6,000,038
Net income 1,993,380 1,993,380
Repurchase of 100,000 shares $ (206,250) (206,250)
Exercise of stock options 1,625 260,125 261,750
--------- ------------ ----------- ---------- -----------
Balance at December 31, 1997 37,513 4,008,720 4,208,935 (206,250) 8,048,918
Net loss (204,172) (204,172)
Repurchase of 105,000 shares (108,690) (108,690)
Redemption of minority interest in
subsidiaries 35,434 35,434
--------- ------------ ----------- ---------- -----------
Balance at December 31, 1998 $ 37,513 $ 4,044,154 $ 4,004,763 $ (314,940) $ 7,771,490
========= ============ =========== ========== ===========
See notes to consolidated financial statements.
F-5
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31,
-----------------------------------------
1998 1997 1996
----------- ----------- -----------
Operating activities:
Net (loss) income $ (204,172) $ 1,993,380 $ (22,961)
Adjustments to reconcile net (loss) income to net cash
(used in) provided by operating activities:
Gain on sale of subsidiaries' assets -- (4,430,663) --
Depreciation 332,697 278,761 199,315
Amortization 1,690 11,116 11,235
Bad debt expense 100,856 36,726 139,802
Deferred income taxes 24,000 -- --
Gain on sale of securities (12,780) -- --
Minority interest -- 574,303 (13,028)
Stock compensation expense -- 322,125 --
Increase (decrease) relating to operating activities from:
Accounts receivable (67,479) (357,280) (97,487)
Inventories (65,374) (5,223) (68,325)
Prepaid expenses and other current assets 43,825 (12,087) (64,257)
Accounts payable 171,437 (76,129) (177,505)
Accrued expenses (62,505) 58,341 (36,966)
Income taxes payable (1,422,858) 1,649,164 --
----------- ----------- -----------
Net cash (used in) provided by operating activities (1,160,663) 42,534 (130,177)
Investing activities:
Proceeds from sale of subsidiaries' assets -- 4,583,662 --
Redemption of minority interest in subsidiaries (385,375) --
Additions to property and equipment, net of minor disposals (904,873) (631,103) (159,180)
Proceeds from sale of securities 252,780 -- --
Deferred expenses and other assets (27,219) (23,429) 110,904
----------- ----------- -----------
Net cash (used in) provided by investing activities (1,064,687) 3,929,130 (48,276)
Financing activities:
Net proceeds of securities offering -- -- 3,445,158
Advances (to) from parent (249,592) (240,820) 369,547
Repurchase of stock (108,690) (206,250) --
Payments on long-term debt (152,451) (136,502) (113,856)
Exercise of stock options -- 1,625 9,000
Dividend payments to minority shareholders -- (3,966) (7,467)
----------- ----------- -----------
Net cash (used in) provided by financing activities (510,733) (585,913) 3,702,382
----------- ----------- -----------
(Decrease) increase in cash and cash equivalents (2,736,083) 3,385,751 3,523,929
Cash and cash equivalents at beginning of year 8,102,920 4,717,169 1,193,240
----------- ----------- -----------
Cash and cash equivalents at end of period $ 5,366,837 $ 8,102,920 $ 4,717,169
=========== =========== ===========
See notes to consolidated financial statements.
F-6
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BUSINESS
The Company is in one business segment, kidney dialysis operations, and
operates five kidney dialysis centers, four located in Pennsylvania and one in
New Jersey, has agreements to provide inpatient dialysis treatments to various
hospitals and provides supplies and equipment for dialysis home patients.
CONSOLIDATION
The consolidated financial statements include the accounts of Dialysis
Corporation of America ("DCA") and its subsidiaries, collectively referred to as
the "Company". All material intercompany accounts and transactions have been
eliminated in consolidation. The Company is a 68.0% owned subsidiary of
Medicore, Inc.
(the "Parent").
ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements and
accompanying notes. Actual results could differ from those estimates.
GOVERNMENT REGULATION
A substantial portion of the Company's revenues are attributable to
payments received under Medicare, which is supplemented by Medicaid or
comparable benefits in the state in which the Company operates. Reimbursement
rates under these programs are subject to regulatory changes and governmental
funding restrictions. Laws and regulations governing the Medicare and Medicaid
programs are complex and subject to interpretation. The Company believes that it
is in compliance with all applicable laws and regulations and is not aware of
any pending or threatened investigations involving allegations of potential
wrongdoing. While no such regulatory inquiries have been made, compliance with
such laws and regulations can be subject to future government review and
interpretations as well as significant regulatory action including fines,
penalties, and exclusions from the Medicare and Medicaid programs.
CASH AND CASH EQUIVALENTS
The Company considers all highly liquid investments with a maturity of
three months or less when purchased to be cash equivalents. The carrying amounts
reported in the balance sheet for cash and cash equivalents approximate their
fair values. The credit risk associated with cash and cash equivalents is
considered low due to the high quality of the financial institutions in which
these assets are invested.
MARKETABLE SECURITIES
The Company follows Financial Accounting Standards Board Statement No.
115, "Accounting for Certain Investments in Debt and Equity Securities". Under
this Statement, the Company is required to classify its marketable equity
securities as either trading or available for sale. The Company does not
purchase equity securities for the purpose of short-term sales; accordingly, its
securities are classified as available for sale. Marketable securities are
recorded at fair value. The marketable securities at December 31, 1997 resulted
from the sale of the Company's Florida operations in October 1997. Since the
value of these securities was guaranteed by the purchaser at their
F-7
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1998
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--CONTINUED
originally recorded valuation of $480,000, the $36,064 difference between the
market value of $443,936 at December 31, 1997 and the guaranteed value was
recorded as a receivable and included in other current assets at December 31,
1997. One-half of these securities were included in the consideration to redeem
the 20% minority interest in two of the subsidiaries whose assets were sold in
October 1997 and the remaining one-half were sold in 1998.
INVENTORIES
Inventories, which consist primarily of supplies used in dialysis
treatments, are valued at the lower of cost (first-in, first-out method) or
market value.
PROPERTY AND EQUIPMENT
Property and equipment is stated on the basis of cost. Depreciation is
computed by the straight-line method over the estimated useful lives of the
assets, which range from 5 to 34 years for buildings and improvements; 4 to 10
years for machinery, computer and office equipment, and furniture; and 5 to 10
years for leasehold improvements. Replacements and betterments that extend the
lives of assets are capitalized. Maintenance and repairs are expensed as
incurred upon the sale or retirement of assets, the related cost and accumulated
depreciation are removed and any gain on loss is recognized.
LONG-LIVED ASSET IMPAIRMENT
Pursuant to Financial Accounting Standards Board Statement No. 121,
"Accounting for the Impairment of Long-Lived Assets to be Disposed of",
impairment of long-lived assets, including intangibles related to such assets,
is recognized whenever events or changes in circumstances indicate that the
carrying amount of the asset, or related groups of assets, may not be fully
recoverable from estimated future cash flows and the fair value of the related
assets is less than their carrying value. The Company, based on current
circumstances, does not believe any indicators of impairment are present.
DEFERRED EXPENSES
Deferred expenses, except for deferred loan costs, are amortized on the
straight-line method, over their estimated benefit period ranging to 60 months.
Deferred loan costs are amortized over the lives of the respective loans.
INCOME TAXES
Deferred income taxes are determined by applying enacted tax rates
applicable to future periods in which the taxes are expected to be paid or
recovered to differences between financial accounting and tax basis of assets
and liabilities.
STOCK-BASED COMPENSATION
The Company follows Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" (APB25) and related Interpretations
in accounting for its employee stock options. Financial Accounting Standards
Board Statement No. 123, "Accounting for Stock-Based Compensation" permits a
company to elect to follow the accounting provisions of APB 25 rather than the
alternative fair value accounting provided under FAS 123 but requires pro forma
net income and earnings per share disclosures as well as various other
disclosures not required under APB 25 for companies following APB 25.
F-8
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1998
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--CONTINUED
EARNINGS PER SHARE
Diluted earning per share gives effect to potential common shares that
were dilutive and outstanding during the period, such as stock options and
warrants, calculated using the treasury stock method and average market price.
Following is a reconciliation of amounts used in the basic and diluted
computations:
YEAR ENDED DECEMBER 31,
----------------------------------------
1998 1997 1996
----------- ----------- -----------
Net (loss) income $ (204,172) $ 1,993,380 $ (22,961)
=========== =========== ===========
Weighted average shares-denominator basic computation 3,626,330 3,531,584 3,237,243
Effect of dilutive stock options:
Stock options granted November 1995 -- 86,539 --
----------- ----------- -----------
Weighted average shares, as adjusted-denominator diluted computation 3,626,330 3,618,123 3,237,243
=========== =========== ===========
Earnings (loss) per share:
Basic $ (.06) $ .56 $ (.01)
=========== =========== ===========
Diluted $ (.06) $ .55 $ (.01)
=========== =========== ===========
In addition to the dilutive stock options included in the
reconciliation above, which have an exercise price of $1.50 per share, there
were 10,000 medical director options, 2,300,000 common stock purchase warrants
and underwriter options to purchase 100,000 shares of common of common stock and
200,000 common stock purchase warrants which have not been included in the
earnings per share computation since they are anti-dilutive.
INTEREST AND OTHER INCOME
Interest and other income is comprised as follows:
YEAR ENDED DECEMBER 31,
-----------------------------------
1998 1997 1996
--------- --------- ---------
Rental income $ 121,835 $ 119,792 $ 101,161
Interest income 296,943 227,789 168,950
Other 32,878 67,389 35,595
--------- --------- ---------
$ 451,656 $ 414,970 $ 305,706
========= ========= =========
ESTIMATED FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying value of cash, accounts receivable and debt in the
accompanying financial statements approximate their fair value because of the
short-term maturity of these instruments, and in the case of debt because such
instruments bear variable interest rates which approximate market.
F-9
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1998
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--CONTINUED
RECLASSIFICATIONS
Certain reclassifications have been made to the 1997 and 1996 financial
statements to conform to the 1998 presentation.
NEW PRONOUNCEMENTS
In June, 1998, the Financial Accounting Standards Board issued Financial
Accounting Standards Board Statement No. 133, "Accounting for Derivative In-
struments and hedging Activities" (FAS 133). FAS 133 is effective for fiscal
quarters of fiscal years beginning after June 15, 1999. FAS 133 establishes
accounting and reporting standards for derivative instruments and for hedging
activities and requires, among other things, that all derivatives be recognized
as either assets or liabilities in the statement of financial position and that
those instruments be measured at fair value. The Company is in the process of
determining the impact that the adoption of FAS 133 will have on its consoli-
dated financial statements.
NOTE 2--LONG-TERM DEBT
Long-term debt is as follows:
DECEMBER 31,
1998 1997
--------- ---------
Mortgage note secured by land and building with a net book value of
$414,000 at December 31, 1998. Monthly principal payments of
$3,333 plus interest at 1% over the prime rate through November 2003. $ 200,040 $ 240,036
Mortgage note secured by land and building with a net book value of
$706,000 at December 31, 1998. Monthly principal payments of
$2,667 plus interest at 1% over the prime rate through November 2003. 159,960 191,963
Equipment financing agreement secured by equipment with a net book
value of $487,000 at December 31, 1998. Monthly payments
totaling $8,582 as of December 31, 1998 as described below
pursuant to, various schedules, including principal and
interest, with interest at rates ranging from 5.47% to 11.84%. 448,566 284,518
--------- ---------
808,566 716,517
Less current portion 175,902 151,844
--------- ---------
$ 632,664 $ 564,673
========= =========
F-10
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1998
NOTE 2--LONG-TERM DEBT--CONTINUED
The equipment financing agreement provides financing for kidney dialysis
machines for the Company's facilities in Pennsylvania and New Jersey and was
amended in 1996 to include equipment for the Company's Florida facility. The
initial principal balance was approximately $195,000. Additional financing
totaled approximately $124,000 in 1996, $190,000 in 1997 and $245,000 in 1998.
In conjunction with the Company's sale of its Florida dialysis operations on
October 31, 1997, the purchaser assumed approximately $112,000 of these
financing obligations. Payments under the agreement are pursuant to various
schedules extending through October 2003. Financing under the equipment
purchase agreement is a noncash financing activity which is a supplemental
disclosure required by Financial Accounting Standards Board Statement No 95,
"Statement of Cash Flows".
The prime rate was 7.75% as of December 31, 1998 and 8.50% as of December
31, 1997.
Scheduled maturities of long-term debt outstanding at December 31, 1998 are
approximately: 1999-$176,000; 2000-$197,000; 2001-$177,000; 2002-$153,000;
2003-$106,000;. Interest payments on the above debt amounted to approximately
$64,000 in 1998, $77,000 in 1997, and $73,000 in 1996, respectively.
The Company's various debt agreements contain certain restrictive covenants
that, among other things, restrict the payment of dividends, rent commitments,
additional indebtedness and prohibit issuance or redemption of capital stock and
require maintenance of certain financial ratios. In 1998, the Company was in
default of certain covenants relating to its mortgage agreements totaling
$360,000. The covenants principally related to debt service ratio requirements
for which the lender has waived compliance through December 31, 1998.
NOTE 3--INCOME TAXES
Subsequent to the completion of the Company's public offering in April 1996,
the Company files separate federal and state income tax returns. The net
operating loss carryforwards that were available at December 31, 1995 were
utilized prior to the completion of its public offering. The Company had net
operating loss carryforwards of approximately $6,000 at December 31, 1996 which
were fully utilized in 1997.
Deferred income taxes reflect the net tax effect of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components of
the Company's deferred tax liabilities and assets are as follows:
DECEMBER 31,
------------------
1998 1997
------- -------
Deferred tax liabilities:
Depreciation $ -- $27,000
------- -------
Total deferred tax liabilities -- 27,000
Deferred tax assets:
Depreciation 3,000 --
Amortization 8,000 18,000
Accrued expenses 15,000 13,000
Bad debt allowance 54,000 20,000
------- -------
Total deferred tax assets 80,000 51,000
Valuation allowance for deferred tax assets (80,000) --
------- -------
Net deferred tax asset $ -- $24,000
======= =======
A valuation allowance has been provided that fully offsets the deferred tax
asset recorded at December 31, 1998 as management believes that it is more
likely than not that, based on the weight of the available evidence, the
deferred tax asset will not be realized.
F-11
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1998
NOTE 3--INCOME TAXES--CONTINUED
Significant components of the income tax provision (benefit) are as follows:
1998 1997
----------- -----------
Current:
Federal $ (301,000) $ 1,488,000
State 40,162 235,000
----------- -----------
(260,838) 1,723,000
Deferred 24,000 (24,000)
----------- -----------
$ (236,838) $ 1,699,000
=========== ===========
The reconciliation of income tax attributable to income (loss) before income
taxes computed at the U.S. federal statutory rate to income tax expense
(benefit) is:
YEAR ENDED DECEMBER 31,
-----------------------------------------
1998 1997 1996
----------- ----------- -----------
Statutory tax rate (34%) applied to income (loss)
before income taxes $ (149,943) $ 1,450,700 $ (12,200)
Adjustments due to:
State taxes, net of federal benefit 25,049 155,200 (1,300)
Change in valuation allowance 80,000 (17,300) 230,000
Benefits of net operating losses -- -- (213,000)
Non-deductible items 2,973 2,900 --
Prior year tax return accrual adjustment (194,917) 107,500 (3,500)
----------- ----------- -----------
$ (236,838) $ 1,699,000 $ --
=========== =========== ===========
Income tax payments were approximately $1,162,000 in 1998, $50,000 in
1997 with no payments in 1996.
NOTE 4--TRANSACTIONS WITH PARENT
The Parent provides certain administrative services to the Company including
office space and general accounting assistance. These expenses and all other
central operating costs are charged on the basis of direct usage, when
identifiable, or on the basis of time spent. In the opinion of management, this
method of allocation is reasonable. The amount of expenses allocated by the
Parent totaled approximately $240,000 for each of the years ended December 31,
1998, 1997 and 1996.
As of December 31, 1998, the Company had an intercompany advance receivable
from the Parent of approximately $121,000 and at December 31, 1997 had an
intercompany advance payable to the Parent of approximately $129,000,
respectively both of which bore interest at the short-term Treasury Bill rate.
Interest income on the intercompany advance receivable amounted to approximately
$1,000 for the year ended December 31, 1998. Interest on the intercompany
advance payable amounted to approximately $6,000 and $7,000 for the years ended
December 31, 1998 and December 31, 1997, respectively. Interest is included in
the intercompany advance balance. The Company has agreed not to require
repayment of the intercompany advance receivable from the Parent prior to
January 1, 2000, and therefore, the advance has been classified as long-term at
December 31, 1998.
F-12
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1998
NOTE 5--OTHER RELATED PARTY TRANSACTIONS
For the years ended December 31, 1998, 1997 and 1996, respectively, the
Company paid premiums of approximately $124,000, $87,000 and $80,000 for
insurance obtained through two persons, one a director of the Company and the
Parent, and the other a relative of an officer and director of the Company and
the Parent.
For the years ended December 31, 1998, 1997 and 1996, respectively, legal
fees of $80,000 , $61,000 and $63,000 were paid to an attorney who acts as
counsel and Secretary for the Company and the Parent.
NOTE 6--STOCK OPTIONS
The Company has elected to follow Accounting Principles Board Opinion No.
25, "Accounting for Stock Issued to Employees" (APB 25) and related
Interpretations in accounting for its employee stock options because, as is
discussed below, the alternative fair value accounting provided for under
Financial Accounting Standard Board Statement No. 123 "Accounting for
Stock-Based Compensation", requires use of option valuation models that were not
developed for use in valuing employee stock options. Under APB 25, because the
exercise price of the Company's stock options equals the market price of the
underlying stock on the date of grant, no compensation expense was recognized.
In November, 1995, the Company adopted a stock option plan for up to 250,000
options. Pursuant to this plan, in November, 1995, the board of directors
granted 210,000 options to certain of its officers, directors, and employees and
consultants of which 4,500 options were outstanding at December 31, 1998. These
options vested immediately and are exercisable for a period of five years
through November 9, 2000 at $1.50 per share. On June 10, 1998, the board of
directors granted an option under the 1995 plan to a new board member for 5,000
shares exercisable at $2.25 per share through June 9, 2003. On December 31, 1997
162,500 options were exercised by officers for which the Company received cash
payments of the par value and the Company forgave the remaining balance due and
recorded compensation expense of approximately $322,000.
In August 1996, the board of directors granted options to medical directors
of its kidney dialysis centers, of which 10,000 options were outstanding at
December 31, 1998. These options vested immediately and were originally
exercisable for a period of three years through August 18, 1999 at $4.75 per
share, except the exercise price of 5,000 of the options was reduced to $2.25
per share, the fair market value on June 10, 1998.
Pro forma information regarding net income and earnings per share is
required by FAS 123, and has been determined as if the Company had accounted for
its employee stock options under the fair value method of that Statement. The
fair value for these options was estimated at the date of grant using a
Black-Scholes option pricing model with the following weighted-average
assumptions for options granted/modified during 1998 and the options granted
during 1996, respectively: risk-free interest rates of 5.55% and 5.75%; no
dividend yield; volatility factor of the expected market price of the Company's
common stock of .93 for the 1998 options and .50 for the 1996 options; and a
weighted-average expected life of the options of 2.0 years for options
granted/modified in 1998 and 1.5 years for the 1996 options.
F-13
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1998
NOTE 6 --STOCK OPTIONS--CONTINUED
The Black-Scholes option valuation model was developed for use in estimating
the fair value of traded options which have no vesting restrictions and are
fully transferable. In addition, option valuation models require the input of
highly subjective input assumptions including the expected stock price
volatility. Because the Company's employee stock options have characteristics
significantly different from those of traded options, and because changes in the
subjective input assumptions can materially affect the fair value estimate, in
management's opinion, the existing models do not necessarily provide a reliable
single measure of the fair value of its employee stock options.
For purposes of pro forma disclosures, the estimated fair value of options
is amortized to expense over the options' vesting period, and since the options
vested immediately, the Company's pro forma disclosure recognizes expense upon
issuance of the options. No pro forma information is provided for 1997 as no
options were granted. The Company's pro forma information follows:
1998 1996
---------- ---------
Pro forma net loss $ (209,039) $ (35,051)
========== =========
Pro forma loss per share $ (.06) $ (.01)
========== =========
A summary of the Company's stock option activity, and related information
for the options issued in 1998, 1996 and 1995 follows:
1998 1997 1996
------------------------ -------------------------- ---------------------------
WEIGHTED-AVERAGE WEIGHTED-AVERAGE WEIGHTED-AVERAGE
OPTIONS EXERCISE PRICE OPTIONS EXERCISE PRICE OPTIONS EXERCISE PRICE
------- ---------------- ------- ---------------- ------- ----------------
Outstanding-beginning of year 29,000 209,000 210,000
Granted 10,000 $2.25 -- 15,000 $4.75
Cancellations (5,000) 4.75 -- --
Exercised -- (162,500) $1.50 (6,000) 1.50
Forfeited -- -- --
Expired (14,500) 1.50 (17,500) 2.43 (10,000) 1.50
------- -------- -------
Outstanding-end of year 19,500 29,000 209,000
======= ======== =======
Outstanding and exercisable
at end of year
November 1995 options 4,500 1.50 19,000 1.50 194,000 1.50
August 1996 and June 1998 options 10,000 2.25 10,000 4.75 15,000 4.75
August 1996 options 5,000 4.75 -- --
------- -------- -------
19,500 29,000 209,000
======= ======== =======
Weighted-average fair value of options
granted during the year $ .79 $ 1.30
======= =======
The remaining contractual life at December 31, 1998 is 4.4 years, .6 years
and 1.9 years for the options issued in June 1998, August 1996 and November
1995, respectively.
The Company has 2,619,500 shares reserved for future issuance, including:
2,300,000 shares for Warrants; 9,500 shares under the 1995 plan; 10,000 shares
for 1996 options; and 300,000 shares for underwriter options.
F-14
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1998
NOTE 7--COMMON STOCK
The Company completed a public offering of common stock and warrants during
the second quarter of 1996, providing it with net proceeds of approximately
$3,445,000.
Pursuant to the offering 1,150,000 shares of common stock were issued,
including 150,000 shares from exercise of the underwriters overallotment option,
and there are 2,300,000 redeemable common stock purchase warrants issued to
purchase one common share each at an exercise price of $4.50 exercisable from
April 17, 1997 through October 16, 1999, pursuant to an extension in March 1999
of the original expiration date of April 16, 1999. The underwriters received
options to purchase 100,000 units each consisting of one share of common stock
and two common stock purchase warrants, for a total of 100,000 shares of common
stock and 200,000 common stock purchase warrants, with the options exercisable
at $4.50 per unit from April 17, 1997 through April 16, 2001 with the underlying
warrants being substantially identical to the public warrants except that they
are exercisable at $5.40 per share.
NOTE 8--COMMITMENTS
The Company has leases on facilities housing its dialysis operations. The
aggregate lease commitments at December 31, 1998 are approximately:
1999-$202,000 ; 2000-$182,000 ; 2001-$188,000 ; 2002-$174,000 ; 2003-$143,000.
Total rent expense was approximately $49,000, $73,000 and $65,000 for the years
ended December 31, 1998, 1997 and 1996, respectively.
Effective January 1, 1997, the Company established a 401(k) savings plan
(salary deferral plan) with an eligibility requirement of one year of service
and 21 year old age requirement. The Company has made no contributions under
this plan as of December 31, 1998.
NOTE 9--SALE OF SUBSIDIARIES' ASSETS
On October 31, 1997, the Company concluded a sale ("Sale") of substantially
all of the assets of two of its 80% owned subsidiaries, Dialysis Services of
Florida, Inc. - Ft. Walton Beach ("DSF") (dialysis operations) and Dialysis
Medical, Inc. ("DMI") (Florida Method 2 home patient operations), and an
in-patient hospital service agreement of its 100% owned subsidiary, DCA Medical
Services, Inc. pursuant to an Asset Purchase Agreement. Consideration for the
assets sold was $5,065,000 consisting of $4,585,000 in cash and $480,000 of the
purchaser's common stock which the purchaser has agreed to register within one
year. Provided that the shares are sold within 30 days of their registration,
the purchaser agreed to make up any difference by which the sales proceeds were
less than $480,000 in cash or additional registered shares of the purchaser at
its discretion. These shares were carried at their market value of approximately
$444,000 at December 31, 1997 with the difference between the guaranteed value
and the market value reflected as a receivable from the purchaser. In February
1998, the Company acquired, in a transaction accounted for as a purchase, the
remaining 20% minority interests in two of the subsidiaries whose assets were
sold. The purchase price, totaled $625,000, which included one-half of the
common shares originally received as part of the consideration of the Sale. The
remaining shares were sold in September 1998 for approximately $253,000
resulting in a gain of approximately $13,000.
The pro forma consolidated condensed financial information presented below
reflects the Sale as if it had occurred on January 1, 1997. For purposes of pro
forma statement of operations information, no assumption has been made that
expenses have been eliminated which were included in corporate expense
allocations by the Company and its Parent, to the business operations sold and
which were included in the actual results of operations of these businesses.
Such expenses amounted to approximately $125,000 for the year ended December 31,
1997. No assumption has been
F-15
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
DECEMBER 31, 1998
NOTE 9--SALE OF SUBSIDIARIES' ASSETS--CONTINUED
included in the pro forma information as to investment income to be realized
from investment of the proceeds of the sale.
The summary pro forma financial information, which excludes the gain on the
Sale, is not necessarily representative of what the Company's results of opera-
tions would have been if the Sale had actually occurred as of January 1, 1996
and may not be indicative of the Company's operating results for any future
periods.
SUMMARY PRO FORMA INFORMATION
YEAR ENDED DECEMBER 31,
1997 1996
----------- -----------
Total revenue $ 3,079,000 $ 2,102,000
Net loss $ (530,000) $ (422,000)
=========== ===========
Loss per share:
Basic $ (.15) $ (.13)
=========== ===========
Diluted $ (.15) $ (.13)
=========== ===========
The Company recorded a gain on the Sale of approximately $2,747,000,
representing a pre-tax gain of $4,431,000, net of estimated income taxes of
approximately $1,684,000, of which approximately $537,000 of the net after tax
gain relates to the 20% minority interest in two of the subsidiaries whose
assets were sold. This gain is not reflected in the above pro forma information.
NOTE 10--REPURCHASE OF COMMON STOCK
In September 1998, the Company announced its intent to repurchase up to an
additional 300,000 shares of its common stock at current market prices after
having acquired 100,000 shares in June 1997 for approximately $206,000. The
Company repurchased 105,000 shares for approximately $109,000 during 1998.
NOTE 11--CAPITAL EXPENDITURES
Capital expenditures were as follows:
1998 1997 1996
---------- ---------- ----------
$1,149,372 $ 825,427 $ 386,502
========== ========== ==========
F-16