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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934.
For the fiscal year ended June 30, 2003
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACY OF 1934.
For the transition period from _______ to ___________
Commission file number 000-26749
NATIONAL MEDICAL HEALTH CARD SYSTEMS, INC.
(Exact name of Registrant as specified in its charter)
Delaware 11-2841799
(State or other jurisdiction of (I.R.S. Employee Identification No.)
incorporation or organization)
26 Harbor Park Drive,
Port Washington, NY
(Address of principal executive offices)
11050
(Zip Code)
Registrant's telephone number, including area code: (516) 626-0007
Securities registered under Section 12(b) of the Exchange Act:
None
Securities registered under Section 12(g) of the Exchange Act:
Common Stock, $.001 par value
(Title of class)
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. [ ]
The aggregate market value of the registrant's voting stock held by
non-affiliates of the registrant, computed by reference to the closing sales
price as quoted on the NASDAQ National Market on September 22, 2003 was
approximately $49,955,122.
(APPLICABLE ONLY TO REGISTRANTS INVOLVED IN BANKRUPTCY
PROCEEDINGS DURING THE PRECEDING FIVE YEARS)
Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Section 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court.
Yes X No
--- ---
(APPLICABLE ONLY TO CORPORATE REGISTRANTS) Indicate the number of shares
outstanding of the registrant's common stock, as of the latest practicable date:
7,834,581 shares outstanding as of September 22, 2003.
DOCUMENTS INCORPORATED BY REFERENCE: Portions of the definitive Proxy
Statement to be delivered to shareholders in connection with the annual meeting
of shareholders to be held in 2003 are incorporated into Part III of this Form
10-K.
INDEX
Page No.
Forward Looking Statements 4
PART I
Item 1. Description of Business 4
Item 2. Description of Property 27
Item 3. Legal Proceedings 28
Item 4. Submission of Matters to a Vote of Security Holders 28
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters 29
Item 6. Selected Financial Data 30
Item 7. Management's Discussion and Analysis of Financial Condition and 32
Results of Operations
Item 7A. Quantitative and Qualitative Disclosures about Market Risk 46
Item 8. Financial Statements and Supplementary Data 46
Item 9. Changes in and Disagreements on Accounting And Financial Disclosure 46
Item 9A. Controls and Procedures 46
PART III
Item 10. Directors and Executive Officers of Registrant 47
Compliance with Section 16(a) of the Exchange Act
Item 11. Executive Compensation 47
Item 12. Security Ownership of Certain Beneficial Owners and Management 47
Item 13. Certain Relationships and Related Transactions 47
Item 14. Principal Accountant Fees and Services 47
PART IV
Item 15 Exhibits, Financial Statement Schedules and Reports on Form 8-K 48
Signatures 53
INTRODUCTORY STATEMENTS
Forward Looking Statements
When used herein, the words "may," "could," "estimate," "believe,"
"anticipate," "think," "intend," "expect" and similar expressions identify
forward-looking statements within the meaning of the Private Securities
Litigation Reform Act of 1995. Such statements are not guarantees of future
performance and involve known and unknown risks and uncertainties, and other
factors, which could cause actual results to differ materially from those in the
forward-looking statements. Readers are cautioned not to place undue reliance on
such statements, which speak only as of the date hereof. For a discussion of
such risks and uncertainties, including risks relating to pricing, competition
in the bidding and proposal process, our ability to consummate contract
negotiations with prospective clients, dependence on key members of management,
government regulation, acquisitions and affiliations, the market for PBM
services, and other factors, readers are urged to carefully review and consider
various disclosures made by National Medical Health Card Systems, Inc. ("Health
Card" or the "Company") which attempt to advise interested parties of the
factors which affect Health Card's business, including, without limitation, the
disclosures made under the caption "Business" in Item 1 hereof and "Management's
Discussion and Analysis of Financial Condition and Results of Operations" in
Item 7 hereof.
PART I
Item 1. DESCRIPTION OF BUSINESS.
General
Health Card is an independent company, incorporated in New York in 1981 and
reincorporated in Delaware in February of 2002, that provides comprehensive
pharmacy benefit management services under the name NMHCRX. In addition, the
Company operates a health information company through its wholly-owned
subsidiary, Integrail, Inc. ("Integrail"), a mail service pharmacy through its
wholly-owned subsidiary, NMHCRX Mail Order, Inc. ("NMHCmail"), effective July 1,
2003, and a specialty pharmacy through its wholly-owned subsidiary, Ascend
Specialty Pharmacy Services, Inc. ("Ascend"), effective July 31, 2003. Health
Card's executive offices are in Port Washington, New York. The mission of Health
Card is to improve its clients' members' health through the timely delivery of
effective pharmaceutical care and health information management systems.
Recent Acquisitions and Developments
On July 20, 2000 (the "Effective Date"), pursuant to the terms of an
Agreement and Plan of Merger, dated as of June 27, 2000 (the "Agreement"), by
and among Health Card, PAI Acquisition Corp., a wholly owned subsidiary of
Health Card ("Acquisition"), Pharmacy Associates, Inc. ("Pharmacy Associates" or
"PAI") and the shareholders of Pharmacy Associates, Health Card acquired PAI by
virtue of Acquisition merging with and into PAI. PAI, located in Little Rock,
Arkansas, is a regional pharmacy benefit management company operating in
Arkansas, Louisiana and Mississippi.
Pursuant to the Agreement, the shareholders of PAI received an aggregate of
$6,000,000 in cash and 400,000 shares of unregistered common stock of Health
Card. PAI stockholders were also entitled to receive additional consideration of
up to $2 million, payable in a combination of cash and unregistered Common
Stock, over a two-year period if certain financial targets of PAI were met,
which will be accounted for as an addition to goodwill. The financial targets
were achieved for both years; therefore, $750,000 in cash and $250,000 in Common
Stock (62,500 shares valued at $4.00 per share) was paid and issued in August,
2001, and $750,000 in cash and $250,000 in Common Stock (41,668 shares valued at
$6.00 per share) was paid and issued in August of 2002.
Additionally, 200,000 shares of Health Card common stock issued to the
shareholders of PAI that were held in escrow as security for the indemnification
obligations of the PAI shareholders were released to them on July 20, 2002.
Pursuant to the Agreement, all of the PAI shareholders agreed not to become
involved, in any manner or capacity whatsoever, with any entity or individual
that engages or proposes to engage in pharmacy benefit management, except Health
Card or Pharmacy Associates, until June 27, 2003, and entered into
non-solicitation agreements that expired on July 20, 2003.
On March 5, 2001, PMP Acquisition Corp. (the "Purchaser"), a wholly owned
subsidiary of the Company, acquired substantially all of the assets, and certain
of the liabilities, of Provider Medical Pharmaceutical, LLC ("PMP"), an Oklahoma
limited liability company, pursuant to an Asset Purchase Agreement among the
Company, the Purchaser, PMP and the members of PMP. The assets acquired from PMP
included, among other things, PMP's accounts receivable and intellectual
property, PMP's rights under various contracts and the goodwill value of PMP's
business. The purchase price for the assets consisted of (i) $4,000,000 in cash,
(ii) the satisfaction by the Company of PMP's bank indebtedness of approximately
$1,255,000, and (iii) cancellation of the $1,500,000 promissory note from PMP to
Health Card, dated January 16, 2001.
Part of the cash portion of the purchase price ($722,000) was put into an
escrow account to provide security for PMP's indemnification obligations. Health
Card has asserted two claims against this escrow. A settlement was reached
whereby Health Card received in July 2003, $540,000 from the escrowed funds to
cover both claims and the remaining amounts held in escrow were released. The
Company was also required to pay up to $1,000,000 of additional cash
consideration if certain financial targets relating to PMP's business were met
over the first three years after closing, which would be accounted as an
addition to goodwill. The targets which were related to retaining specific
contracts were not achieved in either of the first two years and consequently no
additional consideration was paid for those periods.
The cash portion of the purchase price was obtained by a loan to the
Company from The Chase Manhattan Bank pursuant to a Master Grid Note in the
principal amount of $4,000,000 (the "Note"). The amount borrowed under the Note
was repaid to the bank on March 9, 2001, and the Note was cancelled upon the
consummation of the HFG Financing described below.
The Company entered into an Asset Purchase Agreement (the "Asset Purchase
Agreement"), dated January 29, 2002, with Health Solutions, Ltd. ("HSL"), HSL
Acquisition Corp., a wholly-owned subsidiary of the Company ("Sub"), and the
security holders of HSL, pursuant to which the Company acquired certain assets
of HSL relating to the PBM business it conducts under the name "Centrus" (the
"Centrus Acquisition").
The purchase price for the Centrus Acquisition was $40 million in cash, of
which $3 million was held in escrow to secure certain indemnification
obligations. All escrowed funds have been released as of January 2003. The
Company acquired approximately $1.4 million of HSL's assets and assumed
approximately $1.4 million of HSL's liabilities relating to the Centrus
business. The excess of the acquisition cost over the fair value of identifiable
net assets acquired was approximately $40.7 million. In addition, the Company
has agreed to pay HSL as additional purchase price up to $4 million over a
period of three years if the Centrus business achieves certain financial
performance targets during the two-year period following the consummation of the
transaction. The financial targets were achieved during the first year;
therefore, $2,000,000 was earned. Of this amount, $1,000,000 was paid out in May
2003 and $1,000,000 will be paid out in May 2004. HSL may also be entitled to an
additional incentive payment based on the financial performance of the Centrus
business during the one-year period following the purchase. The additional
incentive payment target was not achieved, and thus, there will be no pay out of
this item.
In connection with the Acquisition, several members of Centrus' management
team have joined the Company as employees, and have been granted stock options
to purchase an aggregate of 300,000 shares of Common Stock, under the Company's
1999 Stock Option Plan, as amended. The Company intends to continue to use the
assets acquired in the Centrus Acquisition for the delivery of cost-effective,
integrated PBM services.
In part to finance the Centrus Acquisition, on January 29, 2002, the
Company and certain of its subsidiaries entered into a $40 million secured
revolving credit facility (the "Facility") with HFG Healthco-4 LLC, an affiliate
of Healthcare Finance Group, Inc. In connection with the Facility, the Company
and certain of its subsidiaries have agreed to sell, on an on-going basis, their
accounts receivable to NMHC Funding, LLC ("Funding"), a limited liability
company of which the Company and such subsidiaries are members. Funding utilizes
these receivables as collateral to secure borrowings under the Facility. The
Facility has a three year term, provides for borrowing up to $40 million at the
London InterBank Offered Rate (LIBOR) plus 2.4% (3.5% at June 30, 2003), and is
secured by receivables and other assets of the Company and certain of its
subsidiaries. Borrowings of $28.4 million under the Facility were used to
finance part of the purchase price of the Centrus Acquisition with an additional
$300,000 borrowed to pay for legal fees. The Facility will also be used by the
Company for working capital purposes and future acquisitions.
On January 22, 2002 the Company completed a convertible note offering (the
"Note Offering") in the aggregate principal amount of $11.6 million. Pursuant to
the Note Offering, subscribers received a promissory note paying interest
quarterly on the unpaid principal balance at the rate of 12% per annum. The
Notes had a term of one year, unless otherwise extended pursuant to the terms of
the Note. The Notes were convertible at any time at the election of the holders
into shares of the Company's Common Stock ("Conversion Shares") at a conversion
price of $12.00 per share, the fair value of the Common Stock on January 22,
2002. Proceeds from the Note Offering were used to finance part of the purchase
price of the Centrus Acquisition. The aggregate principal amount of, and all
accrued interest on, the Notes was paid in full, and the Notes were cancelled,
on June 30, 2002.
On November 1, 2002, the Company and its wholly-owned subsidiary, Integrail
Acquisition Corp., entered into an Asset Purchase Agreement with HSL (the
"Integrail Agreement"), and certain of its security holders (together with HSL,
the "Sellers"). Pursuant to the Integrail Agreement, Health Card acquired
substantially all of the assets of Integrail, a division of HSL's operations,
for a purchase price of $1,400,000 (the "Integrail Acquisition"). Integrail
provides software and analytical tools in the area of informatics which allows
for the blending of medical and pharmacy data to predict future outcomes.
Half of the $1,400,000 purchase price for the Integrail Acquisition was
paid at the closing directly to the Sellers, and half was deposited into escrow
as security for the performance of certain indemnification obligations of the
Sellers. The Company acquired approximately $500,000 of HSL's assets and assumed
approximately $500,000 of Integrail's liabilities relating to its business. The
excess of the acquisition cost over the fair value of identifiable net assets
acquired was $1,482,000. In addition, the Company agreed to release certain
amounts from the escrow to the Sellers if the Integrail business achieved
certain operational milestones during the 12 month period following the
purchase. Funds for the Integrail Acquisition were supplied by the Facility.
In connection with the Integrail Acquisition, a member of Integrail's
management team joined the Company as an employee, and has been granted stock
options to purchase an aggregate of 33,000 shares of Common Stock, under the
Company's 1999 Stock Option Plan, as amended.
On July 1, 2003, the Company opened its mail service pharmacy division,
NMHCmail, in Miramar, Florida. Prior to opening its mail service facility,
Health Card outsourced all of its mail service pharmacy business. Health Card's
mail service operations is automated and allows the Company to provide plan
participants with a cost effective means to save on the total co-payments they
have to pay while minimizing the inconvenience resulting from repeated trips to
retail pharmacies to fill prescriptions; particularly to plan participants with
chronic conditions involving long-term drug therapy. In addition, the mail
service facility provides the Company with the infrastructure to build-out its
specialty pharmacy business.
On July 31, 2003, the Company entered into a Stock Purchase Agreement with
Portland Professional Pharmacy ("PPRX"), Professional Pharmacy Associates
("PRXA", and together with PPRX, "PPP") and the individual shareholders (the
"PPP Shareholders") to purchase all of the shares of PPP for $3,150,000 (the
"PPP Acquisition"). In addition, the Company has agreed to pay to the PPP
Shareholders, as additional purchase price, up to $7 million over a three year
period if the PPP business achieved certain financial targets. Funds for the PPP
Acquisition were supplied by the Facility.
In connection with the PPP Acquisition, several members of PPP's management
team have joined the Company as employees, and have been granted stock options
to purchase an aggregate of 150,000 shares of Common Stock, under the Company's
1999 Stock Option Plan, as amended. As of August 1, 2003, the Company's
wholly-owned subsidiary, Ascend, assumed all of the shares of PPP. Each of PRXA
and PPRX continues to operate under their respective names, as subsidiaries of
Ascend, in the state of Maine. Ascend provides specialty-pharmacy services in a
broad range of areas, including women's health, pediatric care, men's health and
transplant. The Company intends to position Ascend, as a preferred provider with
PPP's target markets while focusing on the extension of their specialty services
to the Company's pharmacy benefit management division.
OVERVIEW
Industry Background
In response to escalating health care costs, efforts in the health care
industry have led to rapid growth in managed care and other cost containment
programs. Despite these efforts, continued advances in medical technology, new
drug development and increasing drug utilization have led to significant
increases in health care costs. This has created a need for more efficient,
cost-effective drug delivery mechanisms. Pharmacy benefit management companies
("PBMs") evolved to address this need. PBMs provide the means for plan sponsors
to deliver prescription drug benefits to their plan members in a cost-effective
manner.
Company Overview
Sponsors of pharmacy benefit plans managed by Health Card are located
throughout the United States, and include managed care organizations, local
governments, unions, corporations, HMO's and third party health care plan
administrators. Sponsors retain Health Card to manage the prescription plans
that they maintain for the benefit of their plan participants. Health Card
provides sponsors with a comprehensive pharmacy benefits management plan through
four integrated services programs:
o Pharmacy Benefits Management: Management of prescription drug programs
for sponsors delivered through NMHCRX.
o Health Information Management: Decision support services that transform
physician and patient data into actionable information to improve care while
managing pharmacy and medical costs delivered through Integrail.
o Specialty Pharmacy: Management for specialty pharmacy programs including
women's health, pediatric care, men's health and transplant delivered through
Ascend.
o Mail Service Pharmacy: Technology-enabled mail service pharmacy for
chronic therapy medications delivered through NMHCmail.
THE COMPANY
Pharmacy Benefits Management
Health Card provides to sponsors, including HMOs, employers, local
governments, union groups and third party administrators, management of
prescription drug programs through a wide variety of services including:
o Claims Management
o Pharmacy Network
o Benefit Design Consultation
o Drug Review & Analysis
o Formulary Design and Disease Information Services
o Data Access, Reporting & Information Analysis
o Physician Profiling
Health Card's pharmacy benefits management services are delivered under the name
NMHCRX.
Claims Management
Claims Processing. Each sponsor's plan participant is issued a health card
which identifies the plan participant and the sponsor. The card may be utilized
at any one of the pharmacies participating in Health Card's multi-state pharmacy
network and the sponsor's plan. Health Card allows the plan participant to
purchase approved prescription drugs and the other physician-prescribed items,
with the plan participant paying a deductible and/or co-payment amount, if any,
to the pharmacy.
In the ordinary case, plan participants present their health card together
with a physician's prescription to a participating pharmacy. The pharmacist,
using standard industry software, enters each claim on the pharmacy's computer
and the claim is electronically communicated to Health Card for on-line real
time processing. If the prescription is for a drug listed on the sponsor's
approved drug list, Health Card's on-line claims management system will confirm
that the submitted claim is in conformity with the plan terms and conditions,
and the pharmacist is advised of the appropriate co-payment and deductible, if
any, to be collected from the plan participant. The on-line claims management
system will also advise the pharmacist of the payment the pharmacy will receive
from Health Card. In addition, Health Card's on-line claims management system
sends appropriate messages regarding preferred drugs and contraindications,
based upon plan participants' existing claims history with Health Card. The
prescription is then dispensed by the pharmacist to the plan participant, who
pays the appropriate co-payment and/or deductible amount and signs a signature
log maintained by the participating pharmacy. Plan participants are provided
with a list of pharmacies participating in Health Card's pharmacy network. Plan
participants may alternatively choose to fill prescriptions at a
non-participating pharmacy and would then have to submit a paper claim to Health
Card for reimbursement. Occasionally a plan participant's claim is rejected or a
prior authorization is required based on plan parameters, in which case the
participant may be referred to the plan's sponsor or to Health Card's customer
service department.
Invoicing and Payments. Sponsors are charged an administration fee for each
prescription filled plus a dispensing fee for managing each claim. Sponsors pay
Health Card; Health Card pays an individually negotiated amount to its
participating independent and chain pharmacies which amount may be at a discount
to the amount charged to the sponsors. Plan participants filing for direct
payment receive an allowable payment which is usually specified by the sponsor.
See "The Company - Pharmacy Network", and Note 1 to the Consolidated Financial
Statements comprising Item 8 hereof.
Rebate Administration. Drug manufacturers may issue rebates in connection
with the use of certain prescription drugs. Health Card submits claims for
rebates for specified sponsors pursuant to an agreement with its rebate
administrator (the "Administrator") effective as of July 1, 2001, as amended.
Based on the agreement, the payment of rebates is contingent upon Health Card
adopting the Administrator's formulary for Health Card's specified sponsors.
Health Card submits the claims for its specified sponsors to the Administrator.
The Administrator submits Health Card's rebate claims, and may submit such
claims along with rebate claims of others, to the appropriate drug manufacturer,
pursuant to the agreements the Administrator has negotiated with these drug
manufacturers. Health Card's agreement with the Administrator provides that it
is obligated to pay Health Card a per claim fee, within a specified period of
time after each quarter. The Administrator retains a portion of the total
rebates as an administrative fee. The agreement may be terminated at any time by
either party for any reason after the initial term of the Agreement, which ends
on December 30, 2004; termination prior to such date requires the payment of an
early termination fee by the terminating party.
Pursuant to a verbal agreement between Health Card and Specialty Pharmacy
Care, Inc. ("Specialty"), a wholly owned subsidiary of Health Card, Health Card
submits claims for rebates to Specialty for certain of Health Card's sponsors.
Specialty performs the services of a rebate administrator for which it is paid
an administrative fee. Specialty has entered into approximately fifty separate
agreements with drug manufacturers. While the terms of each agreement between
Specialty and the drug manufacturers are unique, the basic concept is the same.
Such agreements generally provide that Health Card must list the specified
products of each of the drug manufacturers on Health Card's approved formularies
with the specified sponsors. Health Card's P&T Committee approves the clinical
efficacy and appropriateness of such formulary drugs prior to listing the
products on any approved formularies. For a discussion of the P&T Committee, see
"- Formulary Design and Disease Information Services." Health Card may not
prefer, either directly or indirectly, any competing products over the specified
drug manufacturer's products except for reasons of medical appropriateness. The
drug manufacturers are obligated to pay rebates within a specified period of
time after Health Card submits its claims, based on agreed upon specified
percentages which can vary based on certain contractual criteria. The
manufacturers establish a baseline rebate based on Health Card's initial claims
and are obligated to pay incremental rebates based on increases beyond the
baseline. Similarly, Centrus has entered into separate agreements with drug
manufacturers which have been assumed by Health Card. As of August 2003,
substantially all of the rebate contracts with Centrus have been consolidated
with Health Card.
All, part, or none of the rebates received by Health Card from drug
manufacturers or the rebate administrators may be remitted to certain of Health
Card's sponsors, depending upon the terms of Health Card's agreements with each
sponsor. See Item 7 hereof.
Pharmacy Network
Health Card maintains a pharmacy network that includes both retail and mail
options. Health Card's agreements with many pharmacies do not require it to make
payments within a specified period. However, Health Card knows from experience
that timely payment is a significant consideration of the pharmacies. Health
Card endeavors to process claims promptly and obtain funds from sponsors prior
to making payments to participating pharmacies; still there can be no assurance
that sponsors will pay Health Card in a timely fashion. The loss of a
substantial portion of the pharmacies in the pharmacy network would have a
material adverse effect on Health Card's business, operating results and
financial condition. See Item 7 hereof.
Retail Pharmacy Network Management. Health Card maintains a comprehensive
multi-state network of participating pharmacies. Both the retail and mail order
components of the pharmacy network are managed by Health Card's on-line claims
management system. Certain of Health Card's sponsors require Health Card to
maintain a pharmacy network with specified numbers of pharmacies in various
locations to serve plan participants. Health Card's retail pharmacy network
consists of over 49,000 pharmacies, with the result that cards issued by the
Company are recognized in over 91% of pharmacies in the U.S.
Benefit Design Consultation
Health Card assists sponsors in defining their financial and
employee-benefit objectives for their prescription drug benefit plans and in
developing a program to meet such objectives. Health Card staff analyze and
provide recommendations to sponsors regarding how to improve their plan
performance based upon their objectives. General areas of focus include:
o Participant cost - sharing levels (i.e., deductibles and co-pays)
o Covered and excluded drugs
o Clinical management strategies
o Alternate programs and services
Once a plan design has been implemented, the clinical and account
management staff monitors plan performance for customer satisfaction and cost
effectiveness, and may periodically recommend changes to the plan.
Drug Review and Analysis
Health Card's drug review and analysis services include prospective reviews
of potential claims and concurrent and retrospective reviews of submitted
claims. These include a series of on-line reviews which permit a pharmacist
filling a prescription to examine the plan participant's claims history for:
o drug interactions o geriatric or pediatric precautions
o premature refills of prescriptions o compliance with prescriptions
o duration and duplication of therapy o other contraindications
o pregnancy and breast feeding
precautions
Health Card transmits such information to the dispensing pharmacist for
information purposes only - not to replace the prescribing physician's or the
dispensing pharmacist's professional judgment. Health Card's consulting
department retrospectively analyzes the drug utilization patterns of plan
participants for each sponsor. Health Card may then recommend changes in the
sponsor's plan design, preferred drug management, and disease information
systems initiatives to contain costs or to better serve the plan participants.
Formulary Design and Disease Information Services
Formulary Design. Health Card has established a Pharmacy & Therapeutics
Committee (the "P&T Committee") currently comprised of physicians and
pharmacists, with independent provider representation from across the country.
The P&T Committee's primary responsibility is to assist sponsors in designing a
well managed, therapeutically appropriate, cost-effective preferred drug listing
or "formulary." The goal of the P&T Committee is to enable sponsors to optimize
plan participant care through drug policy development and education. The P&T
Committee typically meets quarterly and performs the following functions:
o provides information to sponsors to ensure that the covered drugs of each
plan reflect the current standard of medical practice and pharmacology,
o evaluates drugs for clinical efficacy prior to cost considerations for
inclusion in a plan as a preferred drug,
o analyzes current literature for safety, efficacy and cost-effectiveness
of covered drugs,
o provides recommendations on drug therapy and utilization,
o evaluates drug review and analysis programs and criteria,
o recommends those drugs which require prior authorization from the
sponsor, and
o reviews the associated guidelines for those drugs' proper use.
The committee currently consists of seven members plus the chairman. In
addition, consultants to this core are called upon to participate on an ad hoc
basis. Health Card believes that the P&T Committee is organized and operates in
a manner that ensures the objectivity and credibility of its recommendations.
P&T Committee members are required to submit Conflict of Interest Statements
identifying any significant investment, interest, association or relationship
that might interfere with their independent judgment or recommendations as
committee members. None of the current members have disclosed any such
interests. All current members have active practice responsibilities which
include:
o Chairman, Martin Edelstein, M.D.: Specialties/ Areas of Expertise: Family Practice, Geriatrics, Academia
o Marlon Doucet, M.D.: Specialties/ Areas of Expertise: Family Medicine
o Roberta Monson, MD: Specialties/ Areas of Expertise: Infectious Disease, Academia
o Eric Schneider, Pharm.D., Specialties/ Areas of Expertise: Ambulatory Care Practice, Academia
o Richard Handler M.D., Specialties/ Areas of Expertise: Internal Medicine, Rheumatology
o David Grossman M.D., Specialties/ Areas of Expertise: Cardiology
o James Tan M.D., Specialties/ Areas of Expertise: Pediatrics
o Jennifer Cerulli, Pharm.D., Specialties/ Areas of Expertise: Ambulatory Care Practice, Academia
Health Card strives to provide plan sponsors with a formulary that promotes
the most clinically appropriate and cost effective medications in drug therapy,
independent of manufacturer bias.
Disease Information Services. Through its disease information services,
Health Card provides information to sponsors that is intended to enable them to
enhance their prescription benefit plans and to improve the treatment of plan
participants with certain medical conditions. In providing disease information
services, based upon recommended drug and treatment guidelines, Health Card:
o reviews and analyzes drugs prescribed and prescriptions dispensed,
o recommends plan guidelines, and
o conducts plan participant and physician profiling.
By analyzing plan participants' pharmacy claims patterns, Health Card can
provide information to sponsors and health care providers, assisting in the
early identification of patients whose care might be improved through additional
or alternative medication treatments. Health Card has developed disease
information systems covering cardiovascular and gastrointestinal conditions,
behavioral health, migraines, diabetes and asthma, among others.
Health Card's disease information services utilize the recommended drug and
treatment guidelines, changes in the drug and treatment guidelines, current
medical literature and its own assessments to identify plan participants
"at-risk" for a particular disease. If the disease information services identify
participants "at-risk" for particular diseases, Health Card may provide the
recommended drug and treatment guidelines to sponsors, treating physicians and
plan participants. If requested by the sponsor, Health Card monitors a
participant's compliance with the recommended drug and treatment guidelines,
including prescription usage. If it appears, based upon Health Card's analysis
of the participant's claims history, that the recommended drug and treatment
guidelines are not being applied, Health Card may, if requested by the sponsor,
contact the physician, via either telephone or letter, suggesting additional
options. Physician performance and adherence to the recommended drug and
treatment guidelines are monitored by using Health Card's information systems.
Data Access, Reporting and Information Analysis
Health Card's on-line claims management system enables Health Card to
efficiently provide sponsors with:
o On-line system access whereby the sponsor is able to update and
maintain certain plan areas such as participant eligibility
o Periodic utilization and financial reports, which Health Card
representatives utilize to assist sponsors regarding benefit
design, cost containment initiatives, disease information
initiatives, generic equivalents programs and formulary
management
o Plan performance indicators and ad hoc reporting through
Health Card's proprietary decision support tool, known as INFO.
Physician Profiling
Health Card will, at the request of either a physician or a sponsor,
analyze (i.e., profile) a physician's prescription history and consult with
either the physician or the sponsor about the physician's prescribing pattern.
Health Card might, for example, discuss alternatives to therapies that the
physician regularly prescribes based on the drug and treatment guidelines. This
practice is designed to enhance the therapeutic benefits received by the plan
participant and, where possible, to achieve cost savings. It is also designed to
promote conformity with plan benefits and the recommended drug and treatment
guidelines.
Health Information Management
Health Card's health information management services is delivered through
its wholly-owned subsidiary, Integrail, operating out of Latham, New York.
Acquired by Health Card in November 2002, Integrail provides a combination of
software products and comprehensive strategic services to analyze and predict
outcomes for both medical and pharmacy data. The focus of Integrail's offerings
is to help improve quality of care while managing pharmacy and medical costs.
Integrail's services are provided to payers and sponsors, such as managed care
organizations, physician hospital organizations, independent practice
associations (IPAs), employer groups, third party administrators, and
Taft-Hartley trust funds.
Integrail's work in the area of predictive modeling has resulted in the
development of product and service offerings that enable clients to identify
future healthcare risk and provide solutions to better manage the clinical and
economic implications of the risk. These predictive modeling products developed
by Integrail are sold directly by Integrail as well as Health Card, thus
expanding the potential marketplace for these tools. Health Card believes that
these information based services are becoming a more important component of
managed care as well as management of the overall healthcare dollar, and
therefore these services may be in higher demand by clients in the future.
Specialty Pharmacy
Health Card's specialty pharmacy program is delivered through its
wholly-owned subsidiary, Ascend, and in the state of Maine, through PRXA and
PPRX, both wholly-owned subsidiaries of Ascend. For purposes herein, Health
Card's specialty pharmacy program is referred to collectively as, Ascend. Ascend
manages high cost self-injected medications for some of its sponsors. Recently,
this class of medications has become a significant percentage of Health Card's
sponsors' pharmacy budget. This growth is a function of increased utilization as
well as an increase in the number of available treatment agents.
The specialty pharmacy services manage utilization of these agents on two
levels: first, at a macro level, by identifying trends in utilization patterns,
recommending protocols based on nationally accepted guidelines, and monitoring
compliance; second, on a micro level, by Ascend working with the dispensing
pharmacy to assure that guidelines are followed, patient follow up is occurring
and outcomes are measured.
The addition of NMHCmail will allow Health Card to dispense specialty
pharmaceuticals from its Miramar, Florida facility and the addition of Ascend
will allow Health Card to expand its range of specialty-pharmacy areas to
include women's health, pediatric care, men's health and transplant.
Diseases treated by specialty pharmacy medication include: HIV/AIDS,
Hepatitis HCV, Multiple Sclerosis, Hemophilia, Gaucher's Disease, Chronic Renal
Failure, Infertility, Arthritis (OARA), Crohn's Disease, Human Growth Hormone
Deficiency, Cystic Fibrosis, and Respiratory Syncytial Virus (RSV).
Mail Service Pharmacy
Mail service pharmacy is generally used by plan participants as a cost
effective means of minimizing the inconvenience resulting from repeated trips to
retail pharmacies to fill prescriptions; this is especially common when a plan
participant with a chronic condition receives long-term drug therapy. In
addition, the plan participant generally saves money through a reduction in the
number of co-payments he would have paid had the prescriptions been filled
repeatedly at a retail pharmacy. Further, with mail service pharmacy, the
sponsor is typically charged a lower dispensing fee for prescription ingredients
compared to those charged by a retail pharmacy.
Health Card opened its mail service pharmacy, NMHCmail, operating out of
Miramar, Florida on July 1, 2003. Plan participants submit prescriptions,
primarily for maintenance medications, to NMHCmail via mail. Refill requests may
be submitted via mail, telephone, fax or the internet. The operations of
NMHCmail are automated, featuring bar code and scanning technology to route and
track orders, computerized dispensing of medications and computer-generated
mailing labels. To ensure quality control of the dispensation of prescriptions,
NMHCmail is equipped with automated quality control features and a licensed
pharmacist inspects each prescription.
Prior to operating its own mail service pharmacy in Miramar, Florida,
Health Card outsourced all of its mail order business to third parties. Health
Card continues to have a non-exclusive relationship with Eckerd Health Services
d/b/a Express Pharmacy Services ("Express Pharmacy") pursuant to which Express
Pharmacy acts as a participating pharmacy and dispenses drugs to plan
participants by mail. The agreement between Health Card and Express Pharmacy was
renewed as of June 30, 2003 for an additional one year term. Either party has
the right to terminate the agreement at the end of any renewal term, in each
case on 90 days' prior written notice. The agreement provides that Express
Pharmacy will (i) provide the covered drugs by mail to participants; (ii)
collect the appropriate co-payment; and (iii) if required by the plan, collect
any additional payment if a brand drug is dispensed when a generic drug is
available.
Sponsors' using the mail-order services of Express Pharmacy have begun to
be transitioned to the mail pharmacy services of NMHCmail. However, since the
agreement with Express Pharmacy does not contain any volume requirements, Health
Card intends to continue to use Express Pharmacy to fulfill any excess capacity.
Claims submitted by mail order pharmacies are managed using Health Card's
on-line claims management system and are subject to the same review and
verification as those claims submitted by retail pharmacies.
In addition, Health Card dispenses specialty pharmaceuticals from its
Portland, Maine facility. For a discussion of Health Card's specialty pharmacy
business, see "- Specialty Pharmacy."
Sponsors
Agreement with Sponsors
Health Card's sponsors are located throughout the United States. Sponsors
include managed care organizations, local governments, unions, corporations,
HMO's and third party health care plan administrators of prescription drug
programs. Health Card's sponsors are typically asked to sign a standard form of
pharmacy benefit management agreement that governs Health Card's relationship
with that sponsor. Pursuant to this standard agreement, Health Card pays claims
and furnishes other related services through a network of pharmacies. The
sponsor provides the details of the plan to be managed, along with a list of all
covered participants and eligibility updates. The sponsor is liable for all
charges incurred by unauthorized access unless Health Card was notified in
writing or electronically of ineligibility. Health Card is obligated to ensure
that an adequate number of member pharmacies are available, furnish a
description of the plan to the pharmacies, require such pharmacies to comply
with the member pharmacy agreement, and process claims. Health Card is also
obligated to furnish the sponsor with a semi-monthly account statement which
includes a summary of claims costs in the preceding period, and a description of
the drugs which are included and excluded from the plan.
Pursuant to the standard agreement, the sponsor is obligated to pay Health
Card the cost of claims to Health Card (less any cash advances paid) as
semi-monthly statements are received by the sponsor. The account statement will
also include an administrative amount due to Health Card for the auditing,
approval and payment of claims processed during the preceding period. The
contracting party typically agrees to make all payments within a specified
period after the billing cycle, except that any additional charges, for which a
separate fee is agreed to by the parties, will be remitted by the contracting
party within 30 days after receipt of billing from Health Card. Health Card
agrees to maintain adequate records for the sponsor to determine its cost of
drugs and the sponsor may review these records. While most of Health Card's
larger sponsors negotiate other agreements with Health Card, many sponsors sign
the standard form or a modified version of the standard form. The specific terms
of each pharmacy benefit management agreement, including any incentive
arrangements, are negotiated by Health Card on a case by case basis. While
Health Card may take into account factors such as the number of plan
participants, margins and economies of scale, among others, in determining the
terms of its arrangements with sponsors, Health Card generally does not use set
guidelines when determining these terms. See Item 7 hereof.
In October 1998, the Company acquired National Medical Health Card IPA,
Inc. ("IPA") which is an independent practice association under the laws of New
York. The Company acquired PSCNY IPA, Inc. ("PSCNY") as part of the Centrus
acquisition (see Note 2 to Consolidated Financial Statements comprising Item 8
hereof). Health Card's IPA was dissolved. PSCNY was used by Centrus to contract
with Health Maintenance Organizations or providers containing financial
risk-sharing provisions, which represents some of Centrus' largest sponsors.
PSCNY's name was changed to National Medical Health Card IPA, Inc. in September
2002. IPA is subject to the regulatory authority of the Department of Health and
the laws, rules and regulations applicable to independent practice associations
in New York.
Significant Sponsors
For the fiscal year ended June 30, 2003, MVP Healthcare ("MVP") was the
only sponsor that accounted for 10% or more of Health Card's revenues. Health
Card's wholly owned subsidiary, HSL Acquisition Corp., acquired the company that
has been providing services to MVP, a former Centrus Sponsor.
MVP has been a client of Centrus since 1990. The contract between MVP and
Centrus was assigned to Health Card effective March 1, 2002. Health Card
recently renegotiated its contract with MVP to extend the expiration date of its
contract to December 31, 2005. For the year ended June 30, 2003, revenues from
MVP represented 28% of Health Card's gross revenues.
MVP covers over 450,000 lives in various lines of business including HMO,
ASO, and Indemnity programs. MVP has experienced strong growth over the past two
years. Revenues have grown over 60%. MVP continues to expand its service area
while increasing penetration in existing markets.
Company Operations
Sales and Marketing
Health Card markets its services through a sales and marketing department
led by a direct sales force of Regional Sales Directors and external brokerage
and consultant relationships. Health Card's sales executives target sponsors
throughout the United States. In addition, Health Card contracts with brokers
and consultants who are retained to market Health Card's services to prospective
sponsors for agreed upon fees based on the number of plan participants enrolled
in a Health Card supported plan, and/or the number of claims processed under
such plan. Health Card also attends numerous trade shows and uses advertising,
public relations and marketing literature for sales support.
Health Card continues to make significant investments in sales and
marketing initiatives, including the hiring of additional sales people. These
efforts are expected to yield continuous improvements to Health Card's
relationships with existing clients as well as to create access to new customers
in major marketing areas.
Furthermore, Health Card continues to expand its web presence
(www.nmhcrx.com) as both a functional tool for clients to conduct the many
value-added services provided by Health Card, and as a portal for eligible plan
members to make inquiries and place orders. The web site offers a page dedicated
to online services which allow plan participants to fill out customer service
surveys and to obtain direct payment claim forms, and to access the pharmacy
network listings. In addition, Health Card uses its web presence to make
available specific resources to clients who have unique reporting and data
management requests. All member information is subject to the most stringent
security measures available in the industry, protecting patient confidentiality
and meeting HIPAA compliance standards.
Information Systems
Information Systems play a critical role in Health Card's business. Health
Card's on-line claims management system depends in large part on software
licensed from an unaffiliated party. By a license agreement dated February 18,
1998, Health Card was granted a non-exclusive and nontransferable perpetual
license to use this party's claims adjudication software system. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Liquidity and Capital Resources" in Item 7 hereof and Note 9
("Commitments and Contingencies") to the Consolidated Financial Statements
comprising Item 8 hereof.
Health Card maintains extensive preventative measures to protect against
disaster, including redundancy in processing, telecommunications and power
sources.
Health Card employees provide the required services to maintain and enhance
the Company's information systems infrastructure. Occasionally, outside,
unaffiliated consultants are retained for additional expertise. Historically,
Health Card had received data processing services and technology infrastructure
consulting services from Sandata Technology Inc. and its subsidiaries
("Sandata"). Sandata is a private company of which Bert E. Brodsky, Health
Card's Chairman of the Board, is also Chairman, CEO, Treasurer and a principal
stockholder. Health Card has evaluated the services that Sandata has performed
for it in the past, and has brought those services in-house by hiring employees
with the needed skills. This has virtually eliminated the Company's expenses
payable to Sandata.
Suppliers
In July 2003, NMHCmail entered into a 42 month agreement with a wholesale
distributor, AmerisourceBergen, to be the primary supplier of pharmaceuticals.
Health Card is currently negotiating other supplier contracts as well. Health
Card believes that its supplier arrangements will be adequate to fulfill its
needs.
Competition
Health Card competes with numerous companies which provide the same or
similar services. Some of Health Card's competitors have been in existence for
longer periods of time and are better established than Health Card. Some of them
also have broader public recognition, financial and marketing resources
substantially greater than Health Card, and more experienced management. In
addition, some of Health Card's sponsors and potential sponsors may find it
desirable to perform for themselves those services now being rendered by Health
Card. Furthermore, there is a distinct possibility that consolidation and
alliances within the industry will adversely impact the operations and prospects
for independent pharmacy benefit management companies such as Health Card.
Health Card's ability to attract and retain sponsors is substantially
dependent on its capability to provide efficient and accurate claims management,
utilization review services and related reporting, auditing and consulting
services. Health Card believes that the following factors help Health Card
successfully compete:
o a successful record of delivering lower costs for its sponsors than
national trends,
o a broad base of experience in the information technology and pharmacy
benefit management industries,
o flexible and sophisticated on-line information systems, which integrate
all of the data input, reporting, analysis, and access functions provided by
Health Card, and
o a focus on customer service.
Employees
As of September 12, 2003, Health Card and its subsidiaries had 290
employees. Of the 290 total employees, 275 are full-time and 15 are part-time.
Health Card is not a party to any collective bargaining agreement, and Health
Card considers its relations with its employees to be satisfactory.
Government Regulation
The activities of PBM's such as Health Card are subject to regulation at
the federal and state levels. Health Card believes that its operations, as
currently conducted, substantially comply with the laws and regulations material
to the operation of its business. However, the application of complex standards
to the detailed operations of Health Card's business creates areas of
uncertainty.
Regulatory authorities have very broad discretion to interpret and enforce
these laws and to promulgate corresponding rules and regulations. Violations of
these laws and regulations may result in criminal and/or civil fines and
penalties, injunctive relief to prevent future violations, other sanctions, loss
of professional licensure and exclusion from participation in federal and state
health care programs, including Medicare and Medicaid. There can be no assurance
that Health Card has interpreted the applicable laws and regulations in the same
way as regulatory or judicial authorities, or that the laws and regulations
and/or the interpretation thereof will not change. To date, Health Card's
business activities and relationships with sponsors, pharmacies, rebate
administrators, plan participants, and brokers have not been the subject of
regulatory investigation or review on either the state or the federal level.
Moreover, regulation of the healthcare industry is in a state of flux as
numerous legislation on the federal and state level have been introduced that
would, if enacted, impact on Health Card's business. A more detailed analysis of
certain laws and regulations and proposed legislation affecting the business,
operations and relationships of Health Card is set forth below.
Anti-Kickback Statute
The Anti-Kickback Statute prohibits knowingly paying or receiving
remuneration in return for referring an individual for the furnishing of an item
or service, or for the purchasing, ordering or arranging for any item or
service, for which payment may be made in whole or in part under a federal
health care program, including Medicare or Medicaid. The term "remuneration" in
the statute expressly includes any kickback, bribe or rebate. Violation of this
law is a felony, punishable by fines of up to $25,000 per violation and
imprisonment for up to five years. Violation may also give rise to civil
penalties of up to $50,000 per violation and exclusion from the Medicare and
Medicaid programs. Many states, including several in which Health Card does
business, have adopted laws similar in scope to the Anti-Kickback Statute, and
these state laws often are applicable to services for which payment may be made
by anyone, including commercial insurers and private pay patients, not just
payments made under a federal health care program.
Regulations have been adopted under the federal Anti-Kickback Statute which
provides safe harbors for certain remuneration arrangements that might otherwise
violate the statute, such as properly reported discounts (including certain
rebates) received from vendors and properly disclosed payments made by vendors
to group purchasing organizations. The failure to fall within a safe harbor does
not mean that an arrangement is in violation of the law, although it may result
in heightened scrutiny or challenge.
The Anti-Kickback Statute has been broadly interpreted by the courts, the
Office of Inspector General (the "OIG") of the Department of Health and Human
Services ("HHS"), and pertinent administrative bodies. Courts have ruled that a
violation of the statute exists if one purpose of the remuneration was to induce
patient referrals or purchases. Also, the OIG has identified as possibly
improper under the statute so-called "product conversion" programs, pursuant to
which pharmaceutical manufacturers provide incentives to physicians and
pharmacies to change a prescription to a drug made by the pharmaceutical
manufacturer, or recommend such a change. Health Card is not aware of any
instance in which the Anti-Kickback Statute has been applied (i) to prohibit
independent PBMs, such as Health Card, from receiving rebates from drug
manufacturers based on drug sales by pharmacies to plan participants, or (ii) to
the contractual relationships between independent PBMs and their sponsors and
participating pharmacies. In June 1998, however, the United States Attorney's
Office for the Eastern District of Pennsylvania began an investigation into
whether rebates and other payments made by pharmaceutical manufacturers to PBMs,
and payments made by PBMs to retail pharmacies, violate the Anti-Kickback
Statute and other federal laws. Health Card understands that several PBMs and
pharmaceutical manufacturers have received subpoenas in connection with this
investigation, but is unaware of any related prosecutions or settlements. Health
Card does not believe that it is a subject of this investigation, nor has it
received any subpoenas or been requested to produce any documents in connection
therewith.
Health Card believes that it is in compliance with the Anti-Kickback
Statute and existing regulations thereunder, and with the similar state laws
enacted in the states where it does business. There can be no assurance,
however, that Health Card will not be subject to challenge or a proceeding under
the Anti-Kickback Statute, the regulations thereunder or any similar state laws.
Any such challenge or proceeding could have a material adverse effect on Health
Card's business, results of operations or financial condition, regardless of
whether Health Card is found to have violated such statutes or regulations.
On April 28, 2003, the OIG issued its Compliance Program Guidance for
Pharmaceutical Manufacturers ("OIG Guidance") aimed at advising pharmaceutical
manufacturers on how to establish compliance programs that will ensure
compliance with state and federal laws and regulations. The OIG Guidance
encourages pharmaceutical manufacturers to evaluate some areas of legal risk in
structuring their compliance program, including the relationship between
pharmaceutical manufacturers and PBMs. In particular, the OIG Guidance describes
the negotiation of discount rebates and administration fees, as well as
formulary support activities, as areas of potential legal risk. Although Health
Card believes that its business practices and direct arrangements with
pharmaceutical manufacturers are in compliance with the OIG Guidance, it can not
guarantee that the arrangements between its third party rebate administrator and
the pharmaceutical manufacturers are in compliance with the OIG Guidance. In
addition, if the industry perceives the OIG Guidance as leading to greater
scrutiny of PBMs, pharmaceutical manufacturers and sponsors, may seek to alter
rebate arrangements, which could adversely affect Health Card's profitability.
Regulations Regarding Privacy and Confidentiality
The federal government and most states, regulate the dissemination and use
of personally identifiable health information about a patient. Many of Health
Card's activities involve the receipt, use and disclosure by it of confidential
health information, including disclosure of the confidential health information
to a patient's health benefit plan. In addition, Health Card may use
de-identified data for research and analytical purposes.
In December 2000, HHS issued final regulations under HIPAA, regarding the
privacy of individually identifiable health information (the "Privacy Rules").
The Privacy Rules, which became effective in April 2003, impose extensive
requirements on the way in which covered entities and their business associates
use and disclose protected health information ("PHI"). The Privacy Rules gives
patients significant rights to understand and control how their PHI is used and
disclosed. Direct providers, such as pharmacies, may use patient information
without specific patient authorization for treatment, payment and health care
operations. For most other uses or disclosures of protected information, the
Privacy Rules require covered entities to obtain written patient authorization.
In most cases, use or disclosure of PHI must be limited to the minimum amount
necessary to achieve the purpose of the use or disclosure.
In August 2000, HHS issued a final rule on standards for electronic
transactions and code sets to be used by health plans, healthcare providers, and
healthcare clearinghouses in those transactions (the "Transaction Standards and
Code Sets") with a compliance date of October 16, 2003. The Transaction
Standards and Code Sets adopt national, uniform standards that must be used if a
healthcare provider or health plan conducts certain electronic transactions with
another healthcare provider or health plan. These regulations also mandate the
use of certain code sets in connection with the standard transactions. Health
Card's covered electronic transactions are in compliance with these regulations.
HHS has also issued final regulations governing the security of protected
health information, which became effective on April 21, 2003 and initial
compliance is required by April 20, 2005 (the "Security Rules"). The Security
Rules impose detailed requirements on health care providers, health plans,
healthcare clearinghouses, and their business associates relating to the
storage, utilization, and transmission of health information.
Health Card has a HIPAA Compliance Committee comprised of representatives
from each of Health Card's departments to oversee and assess Health Card's
compliance with HIPAA. Health Card believes that it is in substantial compliance
with all of the rules and regulations promulgated under HIPAA. To date, Health
Card has, among other tasks, educated all of its employees on the HIPAA
regulations and its application to Health Card's business, entered into
necessary business associate agreements with sponsors and vendors, implemented
practices for the standardization of electronic communication, and installed a
security system to protect the integrity of electronic transmissions. Health
Card is continually assessing the steps it must take to be in full compliance
with the Security Standards and the related costs of compliance, but does not
believe the Security Standards will require changes to its information systems
and business practices. However, there can be no assurance that these changes
and their associated costs will not have a material adverse effect on Health
Card.
In addition to the federal health information privacy regulations described
above, most states have enacted healthcare information confidentiality laws
which limit the disclosure of confidential information. The Privacy Rules under
HIPAA do not preempt state laws regarding health information privacy that are
more restrictive then under HIPAA.
In addition, Health Card has adopted the standards of communication for the
PBM industry set by the National Council for Prescription Drug Programs, and
performs risk assessments, employee training with respect to patient
confidentiality, and evaluations of business practices in order to continue to
support patient privacy.
To date, no additional privacy legislation has been enacted that materially
restricts Health Card's ability to provide its services; however, it is possible
that new laws or regulations further restricting the dissemination or use of
such information could be adopted, or that existing laws and regulations will be
interpreted in such a manner as to further restrict Health Card's ability to
obtain and use information about its plan participants. Such new laws or
interpretations could have a material adverse effect on Health Card's business,
results of operations or financial condition.
ERISA
Some of Health Card's sponsors are self-funded health plans. These plans
are subject to the Employee Retirement Income Security Act of 1974, or ERISA,
which imposes certain obligations on those deemed fiduciaries of the health
plans. Health Card believes that its activities are sufficiently limited that it
does not assume any of the fiduciary responsibilities of the plan for which it
provides PBM services and thus would not be regulated as a fiduciary under
ERISA. In addition, Health Card's current form of agreement with plan sponsors
specifically provides that Health Card is not a fiduciary of the plan. Although
courts have declined to extend ERISA fiduciary obligations to managed care
companies, there can be no assurance that the U.S. Department of Labor (which
enforces ERISA) or a court will not assert that Health Card (or some other PBM)
has a fiduciary obligation in connection with its activities on behalf of its
self-funded sponsors. If Health Card is deemed to be a fiduciary, it could
potentially be subject to claims regarding benefit denials and breach of
fiduciary duties in connection with its provision of services. Several lawsuits
have currently been filed against several PBMs, alleging that the PBM is a
fiduciary under ERISA and are in breach of their fiduciary obligations.
Decisions on these lawsuits are still pending.
Effective January 2004, the Department of Labor issued claims procedure
regulations ("Claims Rules") that create standards applicable to sponsors that
are regulated under ERISA for initial and appeal level decisions, time frames
for decision making, and enhanced disclosure rights for claimants. Health Card
has implemented and will continue to implement in the future, changes to its
operational processes, as necessary to accommodate its sponsors' compliance
needs.
In addition, statutes have been introduced in several states which purport
to declare that a PBM is a fiduciary with respect to its sponsors. The fiduciary
obligations that such statutes would impose would be similar, but not identical,
to the scope of fiduciary obligations under ERISA. To date no such statute has
been enacted.
FDA Regulation
The United States Food and Drug Administration (the "FDA") has authority
under the FDCA to regulate promotional materials about drugs that are issued "by
or on behalf" of a pharmaceutical manufacturer. In January 1998, the FDA
published a draft Guidance for Industry (the "Guidance") concerning certain
promotional practices performed by PBMs on behalf of pharmaceutical
manufacturers (referred to in the Guidance as "sponsors"). The FDA was concerned
that sponsors might attempt to avoid FDA regulation in connection with the
promotion of their drugs by utilizing PBMs to conduct the marketing activity.
The advertising materials of PBMs are ordinarily not subject to FDA authority.
In the Guidance, the FDA asserted that it would hold sponsors responsible for
the promotional activities of certain PBMs if such activities violated the FDCA.
For a PBM that is not a subsidiary of the sponsor, the FDA would look to several
factors to determine whether the sponsor should be responsible for the
promotional activities of the PBM, including, among others, the relationship
between the sponsor and the PBM, and whether the sponsor has control of or
influence over the activities of the PBM or the content of the violative
material disseminated by the PBM.
The FDA received many comments questioning, among other things, the FDA's
authority to regulate the communications of PBMs that were not owned by the
sponsors. The FDA effectively withdrew the Guidance in the fall of 1998. Health
Card is not owned or controlled by a pharmaceutical manufacturer, but it does
have contractual relationships with them, and, had the Guidance been finalized,
the FDA could potentially have considered these pharmaceutical manufacturers to
be responsible for certain aspects of Health Card's business. Although the
Guidance has effectively been withdrawn, there can be no assurance that the FDA
will not again attempt to assert jurisdiction over certain aspects of the
business of PBMs in the future, and in such event, the impact could materially
adversely affect Health Card's operations.
Medicare Prescription Drug Benefits Reforms
Medicare reimbursement and coverage of prescription drugs could change
significantly in the near future. Medicare presently covers only a limited
number of outpatient prescription drugs, but legislative initiatives are being
considered to expand Medicare coverage of drugs, in some instances as part of a
broad reform of the Medicare program. Some proposals have included provisions
for incorporating the services of pharmacy benefit managers into the program to
control costs. The proposals also include implementing a Medicare sponsored drug
discount card program administered through PBMs and other vendors as a
transitional program to the expanded Medicare drug coverage.
Recent developments appear to indicate that some of the Medicare
prescription drug benefit will likely be adopted. However, Health Card cannot
assess at this stage how such legislation would address drug coverage or costs,
whether a drug discount card program would be involved or the impact of such
legislation on Health Card's business and profitability. Enactment of
legislation to expand Medicare drug coverage could create broader markets for
pharmacy benefit managers. Alternatively, it could regulate or limit the
services of pharmacy benefit managers and have an adverse impact upon Health
Card's business and profitability.
Consumer Protection Laws
The federal government and most states have consumer protection laws that
have been the basis for investigations and multi-state settlements relating to
financial incentives provided by drug manufacturers to pharmacies in connection
with drug switching programs. In addition, most states have enacted consumer
protection laws relating to a broad range of managed health care activities,
including provider contracting, participant appeals and access to services and
supplies. Although Health Card believes it is compliant with consumer protection
laws, there can be no assurance that Health Card's operations will not be
subject to challenge or scrutiny under one or more state laws.
Regulations Applicable to Health Care Professionals
All states regulate the practice of medicine, nursing, and other licensed
health professions. Activities deemed by a state's regulatory authority to
constitute the practice of medicine, nursing, or any other licensed health
profession without the proper license would subject the actor to the penalties
provided under such state's laws.
In the course of its business, Health Card provides disease information
services, drug usage monitoring programs, preferred drug management services,
and consulting services. Health Card does not believe that these or any of its
other activities as a pharmacy benefit management company constitute the
practice of medicine, nursing, or any other licensed health profession. Health
Card is licensed as a pharmacy in several states in which it believes it is
required to be so licensed. Health Card cannot assure that a regulatory
authority in a state in which it engages in any of the foregoing activities
would not assert a contrary position and subject it to sanctions for the
unauthorized practice of medicine, nursing, or other licensed health profession.
Third Party Administrator, Utilization Review Laws
and Preferred Provider Organizations
Many states have licensure or registration laws regulating certain types of
managed care organizations, including, third party administrators ("TPAs"),
companies that provide utilization review services, and preferred provider
organizations ("PPOs"). These laws differ from state to state, and their
application to PBMs is often unclear. Health Card has registered or is applying
to become registered in those states in which it has concluded that such
registration or licensure is required. Registration and licensure requirements
for PBM activities vary from state to state depending on state agency
interpretations. Prior to September 1998, however, Health Card conducted its
activities without obtaining any TPA, utilization review or PPO licenses. Health
Card may be subject to cease and desist orders, fines and other penalties in a
particular state if a state agency changes its interpretation of licensure
requirements or if a state agency determines that Health Card was non-compliant
prior to the time it was required to obtain a license. There can be no assurance
that such an adverse finding by a state agency would not have a material adverse
effect on Health Card's business, results of operations or financial condition.
Mail Service Pharmacy Regulation
Health Card's mail service pharmacy, NMHCmail, will distribute drugs
throughout the United States once it is in full operation. Health Card's
fulfillment center is located in Florida and is licensed to do business and to
deliver controlled substances in the state of Florida. Some of the states into
which NMHCmail plans to deliver pharmaceuticals have laws that require
out-of-state mail service pharmacies to register with, or be licensed by, the
board of pharmacy or similar regulatory body in such state, in order to mail
drugs into the state. NMHCmail has registered or is in the process of
registering in every state that, to its knowledge requires such registration.
Some of these states also require out-of-state mail service pharmacies to comply
with certain pharmacy laws and regulations of their states. In addition, certain
states require that NMHCmail employ a pharmacist licensed in the state to which
the drugs are shipped. NMHCmail has employed a pharmacist licensed in those
states. Health Card believes that NMHCmail is currently in substantial
compliance with state laws and regulations that apply to the mail service
pharmacy operations. In addition, Health Card believes that all of NMHCmail's
applications for state registration or licensure will be submitted prior to the
delivery of pharmaceuticals into a particular state, but cannot guarantee that
it will obtain all of the required state licenses prior to such date.
NMHCmail plans to dispense prescription drugs for refills pursuant to
orders received through the internet. Accordingly, NMHCmail will be subject to
certain federal and state laws affecting on-line pharmacies. Several states have
proposed legislation to regulate on-line pharmacies, and federal regulation by
the FDA or other federal agency of on-line pharmacies has been proposed.
NMHCmail's mail service pharmacy operations could be materially adversely
affected if such legislation is enacted.
In addition, Health Card's specialty pharmacy, Ascend, has a fulfillment
center located in Maine and has a license to do business and dispense
prescription drugs in Maine. Some of the states into which Health Card delivers
pharmaceuticals have laws that require out-of-state mail service pharmacies to
register with, or be licensed by, the board of pharmacy or similar regulatory
body in such state, in order to mail drugs into the state. Ascend currently
delivers mail order prescription into five states, Virginia, South Carolina, New
Hampshire, Maryland and Florida, and has mail order licenses in all of such
states.
Other statutes and regulations may affect the operations of the mail
service pharmacy. For example, the Federal Trade Commission requires mail
service sellers of goods generally to engage in truthful advertising, to stock a
reasonable supply of the products sold, to fill mail service orders within 30
days and to provide clients with refunds when appropriate. In addition, the
United States Postal Service ("USPS") has statutory authority to restrict the
transmission of drugs and medicines through the mail. However, to date, the USPS
has not imposed any such restriction that would affect the mail service
operations of Health Card.
There are also regulations governing the repacking of drug products,
wholesale distribution, dispensing of controlled substances, medical waste
disposal and clinical trials. In addition, federal statutes and regulations
govern the labeling, packaging, advertising and adulteration of prescription
drugs and the dispensing of controlled substances. Health Card believes that it
is in substantial compliance with all such rules and regulations affecting its
mail service pharmacy operations.
Regulation of PBMs
The federal government currently does not directly regulate the activities
of PBMs. Several states, including New York, have introduced legislation in
recent years which, if enacted, would directly regulate the activities of PBMs.
Recently, Maine passed legislation that directly regulates the activities of
PBMs. In part, the Maine law requires PBMs that derive any payments from rebates
to pass such rebate payments in full to the sponsors. The Pharmaceutical Care
Management Association ("PCMA") has filed a lawsuit against the State of Maine,
seeking to prevent the new Maine PBM law from taking effect. Even if PCMA does
not prevail and the Maine law becomes effective, Health Card does not believe
its business in Maine will be adversely affected. Health Card currently does not
have any PBM sponsors located in Maine. To the extent these bills are enacted in
states where Health Card's sponsors are located, they could materially adversely
affect Health Card's business.
In addition, several influential bodies, including the National Association
of Insurance Commissioners, the National Association of Boards of Pharmacy, and
the National Committee on Quality Assurance, are considering proposals to
regulate PBMs and certain of their activities, such as formulary and utilization
management and downstream risk assumption. If these or other similar bodies
adopt model acts which would regulate the activities of PBMs, states may be
influenced to incorporate such model acts in their statutes. If laws directly
regulating PBMs are passed in states in which Health Card does business, such
laws could materially affect Health Card's operations.
Legislation and Regulation Affecting Drug Prices
Some states have adopted legislation and regulations requiring that a
pharmacy participating in the state Medicaid program provide program patients
the best price that the pharmacy makes available to any third party plan ("most
favored nation pricing" legislation). Such legislation and regulations may have
a material adverse effect on Health Card's ability to negotiate discounts in the
future from network pharmacies and on the reimbursement Health Card receives.
Other states have enacted "unitary pricing" legislation, which mandates that all
wholesale purchasers of drugs within the state be given access to the same
discounts and incentives. Such legislation has not yet been enacted in the
states where Health Card's pharmacies are located. However, if such legislation
is enacted in states where Health Card's pharmacies are located, it could have a
material adverse effect on Health Card's ability to negotiate discounts on the
purchase of prescription drugs to be dispensed by its pharmacies. In addition,
some manufacturers may view these laws and policies as a disincentive to provide
discounts to private purchasers, such as Health Card's customers, which could
adversely affect Health Card's ability to control plan costs.
Several states have introduced bills for broad drug price controls that
would extend price controls beyond the Medicaid program. Some bills impose a
ceiling on drug prices based on the Federal Supply Schedule and require that
pharmacies extend this pricing to one or more segments of the state's
population, such as to all Medicare beneficiaries. If enacted, these bills could
adversely affect the reimbursement rate of Health Card's mail service pharmacy.
Several states have introduced legislation that would require state agencies
that purchase prescription drugs to consolidate their purchasing activities
under a single contract. The State of Maine has adopted legislation. known as
the Maine Rx program, through which the state acts as a bulk purchaser of drugs
for its non-Medicaid population. A number of states have similar pending bills
supporting use of non-profit PBMs to leverage their purchase volume for
prescription drugs. To the extent these bills are enacted, they could adversely
affect Health Card's ability to effectively do business in such states.
The federal and state government has increased their scrutiny on the method
used by drug manufacturers in developing pricing information, which in turn is
used in setting payments under the Medicare and Medicaid programs. One element
that is common in the pricing information is the average wholesale price, or
AWP, which is the standard pricing measure used by the pharmaceutical industry
and PBMs in calculating drug prices. If the method of calculating AWP is changed
by the government, it could adversely affect Health Card's ability to
effectively negotiate discounts with pharmaceutical manufacturers, pharmacies
and sponsors. In addition, it could affect the reimbursement the mail service
pharmacy would receive from managed care organizations that contract with
government health programs to provide prescription drug benefits.
Congress has introduced new legislation to permit reimportation of approved
drugs, originally manufactured in the United States, back into the United States
from other countries where the drugs were sold at a lower price. A House
Government Reform Subcommittee held hearings on this issue during 2003. Whether
and how such a policy will be implemented is unclear. The ultimate impact of
such legislation on the business of Health Card is not known.
Legislation Affecting Plan Design
Some states have enacted legislation that regulates various aspects of
managed care plans, including provisions relating to pharmacy benefits. For
example, some states have adopted "freedom of choice" legislation, which
provides that members of a plan may not be required to use network providers,
but must instead be provided with benefits even if they choose to use
non-network providers, or provide that a plan participant may sue his or her
health plan if care is denied. Certain states have introduced or enacted
legislation regarding plan design mandates, including legislation that prohibits
or restricts therapeutic drug substitution, requires coverage of all drugs
approved by the FDA or prohibits denial of coverage for non-FDA approved uses.
Other states mandate coverage of certain benefits or conditions. In addition
some states have enacted legislation purporting to prohibit HMOs and other
health plans from requiring or offering members financial incentives for use of
mail service pharmacies. To date, there have been no formal administrative or
judicial efforts to enforce any such laws. Although such legislation does not
generally apply to Health Card, it may apply to certain of Health Card's
customers, HMOs and health insurers. If such legislation were to be enacted on a
broad scope, it could have the effect of limiting the economic benefits
achievable by Health Card's customers through pharmacy benefit management.
Network Access Limitations
Many states have adopted legislation restricting the ability of a PBM to
limit participation in its pharmacy provider network or to remove a provider
from the network. These laws may require Health Card or its sponsors to accept
for participation in the network any retail pharmacy willing to meet the
applicable plan's price and other terms, and may restrict the ability of Health
Card and its sponsors to remove a pharmacy from the network without certain "due
process" protections. None of these laws are expected to have a material adverse
effect on Health Card's business, however.
Formulary Restrictions
Many states have also begun to enact laws that regulate the development and
use of formularies by insurers, HMOs and other third party payors. These laws
have included requirements on the development, review and updating of
formularies, the role and composition of pharmacy and therapeutics committees,
the disclosure of formulary information to health plan members and a process for
allowing members to obtain non-preferred drugs without additional cost-sharing
where they are medically necessary and the formulary drugs are determined to be
inappropriate. Increasing regulation of formularies by states could
significantly affect Health Card's ability to develop and administer formularies
on behalf of Health Card's sponsors.
Company Information
Address and Availability of Information.
Health Card's principal executive offices are located at 26 Harbor Park
Drive, Port Washington, NY 11050. Its telephone number is (516) 626-0007 and web
site is www.nmhcrx.com. Health Card files its annual report on form 10-K,
quarterly reports on Form 10-Q, current reports on Form 8-K, all amendments to
those reports (where applicable) and other filings with the Securities and
Exchange Commission (the "SEC"). In addition, the SEC maintains its web site,
www.sec.gov that contains reports, proxy and information statements and other
information regarding issuers filing electronically, including Health Card. You
may also read and copy any materials Health Card files with the SEC at the SEC's
Public Reference Room at 450 Fifth Street, NW, Washington, DC 20549. You may
obtain information on the operation of the Public Reference Room by calling the
SEC at 1-800-SEC-0330.
Code of Ethics. As of September 19, 2003, Health Card has adopted a code of
ethics for all of its senior officers.
Item 2. DESCRIPTION OF PROPERTY.
The Company currently occupies approximately 26,500 square feet of office
space located at 26 Harbor Park Drive, Port Washington, New York 11050 (the
"Leased Premises"). The Company subleases the Leased Premises from BFS Realty,
LLC, an affiliate of the Company's Chairman (the "Affiliate"). The Affiliate
leases the Leased Premises from the Nassau County Industrial Development Agency
("NCIDA") pursuant to a lease that was entered into by NCIDA and the Affiliate
in July 1994, which expires in March 2005. The Affiliate has the right to
purchase the Leased Premises upon expiration of that lease. The Affiliate
subleases a portion of the Leased Premises to the Company (the "Lease"). As of
November 1, 2001, the Company and the Affiliate amended the Lease. The Lease
provides that, effective August 1, 2001, the rent payable to the Company shall
be an aggregate annual rent of $308,305. While formerly the Company made
estimated monthly real estate tax, utilities and maintenance-expense payments to
the Affiliate, the Lease now provides that the Company will pay its pro-rata
share of such expenses directly, to the entities to whom payment must be made.
The Company estimates that such expenses will approximate an aggregate of
$336,000 per year. The annual rent will increase by 5% per year during the term
of the Lease. The annual expenses are also expected to increase, although the
Company cannot estimate by how much. The Lease expires in July, 2010. Additional
space is currently being built in the Leased Premises which will allow the
Company to reconfigure its existing space and to move all of its employees in
Port Washington into contiguous space. As part of this process, the Company will
reassess its space needs and occupy additional space as required. It is expected
that any additional space taken would not exceed an annual rent of $200,000. The
space is currently planned to be available by January 2004. Leasehold
improvements made to this space during the years ended June 30, 2002 and 2003
were approximately $60,000 and $1,000 respectively.
Pursuant to a lease dated August 10, 1998 and expiring on August 31, 2005,
Health Card occupies approximately 1,500 square feet at 63 Manorhaven Boulevard,
Port Washington, New York, which is used as a pharmacy. The landlord for these
premises is 61 Manorhaven Boulevard, LLC, of which the Company's Chairman is the
sole member. The current rent is $1,914 per month. The annual rent increases by
5% per year. Additional rent, in the form of certain expenses, is also payable.
Additionally, the Company leases office and/or warehouse space through its
subsidiaries in Little Rock, Arkansas; Tulsa, Oklahoma; Portland, Maine;
Miramar, Florida and Latham, New York. The aggregate annual rental payments for
leased space in Little Rock are approximately $194,000; for leased space in
Tulsa are approximately $24,000; for Miramar, Florida, approximately $142,000,
for Portland, Maine approximately $40,000; and for Latham, approximately
$383,000. The Company intends to move its current office space in Portland,
Maine to a larger office and warehouse space in South Portland, Maine.
In addition, Health Card rents a two family house in Port Washington, New
York (near the Company's offices) from P.W. Capital, LLC, (a company affiliated
with Health Card's Chairman of the Board) which is used for out-of-town
employees. Health Card evaluated the cost of hotels for these individuals and
determined it was more cost efficient to rent the house at a monthly rate of
$5,500. During the fiscal year ended June 30, 2003, Health Card paid P.W.
Capital, LLC, $66,000 in rent for this facility. For the same reasons, Health
Card rents two houses from Living In Style, LLC, an entity owned by three of
Health Card's executive officers. Pursuant to leases dated May 1, 2002 and
expiring April 30, 2007, Health Card paid an aggregate of $127,050 in rent for
these two facilities during the fiscal year ended June 30, 2003. The annual rent
for each of the facilities increases by 5% per year.
Item 3. LEGAL PROCEEDINGS.
Health Card is involved in various legal proceedings, including the
proceeding described below, incidental to the conduct of its business. While
there can be no assurance, Health Card does not expect that any such proceedings
will have a material adverse effect on its business, operations or financial
condition.
An action was commenced against the Company on April 30, 2002 by Midwest
Health Plan Inc. ("MHP") in the United States District Court for the Eastern
District of Michigan. The amended complaint alleges, among other things, that
the parties entered into a contract dated July 1999 (the "Agreement"), and
further alleges that the Company has overcharged MHP for the administration of
prescription benefit services in contravention to the terms of the Agreement and
breached its fiduciary duties by making a profit. MHP is seeking $3 million
dollars in damages. The Company filed an answer and counterclaim on June 12,
2002. In the counterclaim, the Company claimed damages in excess of $2.8 million
based on Midwest's failure to pay under a contract. In late June 2002, Midwest
agreed to make two payments in the amount of $1.34 million and $1.36 million to
partially settle the Company's claims against Midwest. Midwest has now added a
fiduciary duty claim. The Company continues to have counterclaims totaling over
$200,000 against Midwest for Midwest's failure to pay the amounts it had agreed
to pay Health Card for goods and services. The Company's motion for partial
summary judgment and motion to dismiss the fiduciary duty claim will be heard on
November 6, 2003. The court has not set a trial date. Discovery will close
September 30, 2003. The Company believes the claims alleged in the complaint are
without merit and intends to vigorously defend the action.
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
N/A
PART II
Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS.
Market Information
Health Card's Common Stock is traded on the Nasdaq National Market under
the symbol "NMHC" on the National Association of Securities Dealers Automated
Quotation System ("NASDAQ"). The table below sets forth high and low sale prices
of the Common Stock, as furnished by NASDAQ.
Fiscal Years ended June 30,
2002 2003
---- ----
High Low High Low
First Quarter $4.82 $1.45 $10.80 $6.40
Second Quarter $10.40 $2.65 $ 9.75 $6.58
Third Quarter $15.61 $9.10 $ 9.65 $8.00
Fourth Quarter $12.90 $7.90 $11.84 $8.00
Holders
Health Card has been advised by its transfer agent (Continental Stock
Transfer & Trust Company) that the approximate number of record holders of its
common stock as of September 22, 2003 was 48.
Dividend Policy
Health Card has not declared or paid any cash dividends in the past. Health
Card is prohibited, under the terms of the Facility, from making any
distributions to shareholders or declaring or paying any dividend. Even if such
prohibition were not in effect, Health Card intends to retain any earnings to
finance its growth. Any future payments of dividends will be at the discretion
of the Board of Directors and will depend upon such factors as the Board of
Directors deems relevant.
Recent Sales of Unregistered Securities
Pursuant to the terms of the PAI Agreement, the Company issued 400,000
shares of unregistered Common Stock of the Company to certain PAI stockholders
at the time of the acquisition. The stock issued to the PAI Stockholders was
valued at $849,920. In August 2001, the Company issued 62,500 shares of
unregistered Common Stock of the Company to the PAI stockholders as additional
consideration. These shares were valued at $250,000. In August of 2002 the
Company issued an additional 41,668 shares of Common Stock to the PAI
shareholders, again valued at $250,000. Information concerning the PAI Agreement
is provided in Item 1 ("Description of Business") of this Form 10-K, and in Note
2 of the Notes to Consolidated Financial Statements in Item 8 hereof. The
Company was advised that the issuance of such shares was exempt from
registration under the Securities Act by virtue of Section 4(1) thereof.
On January 22, 2002 the Company completed a convertible note offering (the
"Note Offering") in the aggregate principal amount of $11.6 million. Pursuant to
the Note Offering, the subscribers, two of whom are directors of the Company,
each received a promissory note (each a "Note") paying interest quarterly on the
unpaid principal balance at the rate of 12% per annum. The Notes had a term of
one year, unless otherwise extended pursuant to the terms of the Note. The Notes
were convertible at any time at the election of the holders into shares of the
common stock of the Company ("Conversion Shares") at a conversion price per
share equal to $12.00, the fair value of the common stock on January 22, 2002.
The Note holders were also granted certain registration rights with respect to
the Conversion Shares pursuant to a Registration Rights Agreement. The Company
was advised that the Notes Offering was exempt from registration under the
Securities Act of 1933 pursuant to Section 4(2) of that Act and Regulation D
promulgated thereunder.
The entire $11.6 million principal amount of the Notes, plus accrued
interest, was retired on June 26, 2002. However, as of June 30, 2002, $8 million
of the $11.6 million had not yet cleared the bank for payment. As a result, this
amount was re-classified back to notes payables as of June 30, 2002. The $8
million cleared the bank in early July 2002 which eliminated the notes payable
at that time.
Item 6. SELECTED FINANCIAL DATA.
The following tables summarize certain selected financial information for
each of the years in the five year period ended June 30, 2003 and provide
certain supplemental data. The selected consolidated income statement data for
the years ended June 30, 2001, 2002, and 2003 and the selected consolidated
balance sheet data as of June 30, 2002 and 2003 have been derived from the
audited consolidated financial statements of Health Card included in Item 8
hereof. The selected consolidated income statement data for the years ended June
30, 1999 and 2000 and the selected consolidated balance sheet data as of June
30, 1999, 2000 and 2001 have been derived from audited consolidated financial
statements of Health Card that are not included in this Form 10-K. The
information contained in this table should be read in conjunction with Health
Card's consolidated financial statements and notes thereto, and "Management's
Discussion and Analysis of Financial Condition and Results of Operations"
included in Item 7 hereof. All amounts are in thousands, except per share
amounts.
Year Ended June 30,
-------------------------------------------------------------------------------
-------------------------------------------------------------------------------
1999 2000 2001 2002 2003
----------- ----------- ----------- ------------ ----------
----------- ----------- ----------- ------------ ----------
Income Statement Data:/1
Revenues $ 128,262 $ 167,676 $ 272,119 $ 459,832 $ 573,266
Cost of claims 115,768 153,377 249,572 424,733 525,472
----------- ----------- ----------- ------------ ----------
----------- ----------- ----------- ------------ ----------
Gross profit 12,494 14,299 22,547 35,099 47,794
Selling, general and administrative
expenses * 10,171 12,358 21,423 27,230 35,974
----------- ----------- ----------- ------------ ----------
----------- ----------- ----------- ------------ ----------
Operating income 2,323 1,941 1,124 7,869 11,820
Other income (expense) 592 922 877 (502) (804)
----------- ----------- ----------- ------------ ----------
----------- ----------- ----------- ------------ ----------
Income before provision for income
taxes 2,915 2,863 2,001 7,367 11,016
Provision for income taxes 976 1,247 843 2,900 4,602
----------- ----------- ----------- ------------ ----------
----------- ----------- ----------- ------------ ----------
Net income $ 1,939 $ 1,616 $ 1,158 $ 4,467 $ 6,414
=========== =========== =========== ============ ==========
=========== =========== =========== ============ ==========
Earnings per common share:
Basic $ 0.37 $ 0.24 $ 0.16 $ 0.62 $ 0.85
Diluted $ 0.37 $ 0.24 $ 0.16 $ 0.56 $ 0.80
Weighted average number of shares outstanding:
Basic 5,205 6,720 7,101 7,213 7,590
Diluted 5,205 6,720 7,200 7,909 8,036
* Includes amounts charged by
affiliates aggregating $ 2,817 $ 2,986 $ 4,081 $ 1,889 $ 862
Balance Sheet Data:
Cash and cash equivalents $ 1,978 $ 14,595 $ 10,877 $ 1,768 $ 5,222
Working capital (deficit) (6,681) 6,030 (7,091) (42,653) (32,567)
Total assets 30,846 44,363 79,110 149,895 156,740
Long term debt including current
portion 2 2,332 1,875 24,065 17,511
Total stockholders' equity 1,998 13,425 15,472 21,277 28,426
Supplemental Data/2
Retail pharmacy claims processed 3,066 4,059 7,403 14,371 17,330
Mail pharmacy claims processed 171 255 487 767 902
Estimated plan participants
(at year end) 521 505 1,500 2,500 2,500
1 Reference is made to Item 1 hereof, (Description of Business) and Item 7
hereof (Management's Discussion & Analysis) for descriptions of the various
acquisitions that have been consummated in the last 3 years, and the financing
arrangements that have been set in place; such acquisitions and financings
affect the comparability of the information provided in the foregoing tables for
fiscal years 2001 through 2003.
2 This data has not been audited. See Items 1 and 7 hereof.
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Overview
The audited Consolidated Financial Statements include the accounts of
Health Card and its wholly owned subsidiaries, PAI, PMP, Centrus, IPA,
Specialty, NMHCRX Contracts, Inc. ("Contracts"), PBM Technology, Inc. ("PBM
Tech"), NMHCmail and Integrail. Also included are the accounts of Funding.
Unless the context otherwise requires, references herein to the "Company" or
"Health Card" refer to the Company and its subsidiaries on a consolidated basis.
The results of operations and balance sheet of PAI have been included in the
consolidation as of July 20, 2000, the effective date that the Company acquired
PAI. The results of operations and balance sheet of PMP have been included in
the consolidation as of March 5, 2001, the effective date that the Company
acquired PMP. The results of operations and balance sheet of Centrus and Funding
have been included in the consolidation as of January 29, 2002, the effective
date that the Company acquired Centrus. The results of operations and balance
sheet of Integrail have been included in the consolidation as of November 1,
2002, the effective date that the Company acquired Integrail. All material
intercompany balances and transactions have been eliminated in the
consolidation.
Health Card derives its revenue from the provision of comprehensive
pharmacy benefit management services to sponsors of prescription benefit plans.
Substantially all of the services Health Card provides to its sponsors are
related to pharmacy benefit programs and services. Health Card also recognizes
administrative fees and earns rebates at the time of claims adjudication.
Revenue for the PBM division is earned and recognized as follows:
administrative fees are agreed upon with the sponsor on either a per claim
charge or a per plan participant per month charge. Per claim fees are billed to
sponsors for the claims adjudicated during the period. Per plan participant per
month fees are generally billed to sponsors at the beginning of the month. Since
January 1, 2000, all services have been provided on a fee for service basis
only. The amount of revenue related to the drugs dispensed by pharmacies
participating in Health Card's pharmacy network is recognized at the time of
dispensing the drug as the cost is incurred. The amount of revenue recognized is
reduced by the amount of rebates that Health Card shares with its sponsors. The
specific terms of the contracts that Health Card enters into with its sponsors
will determine whether Health Card recognizes the gross revenue related to the
cost of the prescriptions filled. In certain cases, the Company has not
recognized the gross revenue or cost related to prescriptions filled for a
specific sponsor. This has no impact on the Company's gross profit since neither
the revenue nor the related cost of the prescriptions is recorded.
The following table sets forth the breakdown of Health Card's revenues
relating to pharmaceuticals dispensed and administrative fees ($ in thousands):
Years Ended June 30,
2001 2002 2003
Revenues relating to:
Pharmaceuticals $266,959 $447,862 $562,283
Administrative fees and other 5,160 11,970 10,983
--------- -------- --------
Total Revenues $272,119 $459,832 $573,266
-------- -------- --------
Health Card does not take possession or legal ownership of the
pharmaceuticals dispensed by the retail pharmacy network or its out-sourced mail
order facilities, although Health Card assumes the legal responsibility and
financial risk of paying for dispensed pharmaceuticals whether or not Health
Card is paid by its sponsors. Health Card does take possession and dispenses
pharmaceuticals from its mail order facility and its specialty pharmacy as of
August 1, 2003.
Health Card utilizes its comprehensive pharmacy benefit database to perform
outcome studies and to develop disease information programs which are used to
reduce overall healthcare costs. The Company's Integrail division uses its
software tools to analyze and predict outcomes for both medical and pharmacy
data. These programs currently produce a small amount of revenue, but is
starting to attract interest in the marketplace. Health Card believes that these
value added information based services are becoming a more important component
of managed care as well as management of the overall healthcare dollar, and
therefore these services may provide an increasing source of revenue for Health
Card in the future.
Cost of claims includes the amounts paid to network pharmacies, including
mail service pharmacies, for pharmaceutical claims, and reductions resulting
from the gross rebates received from drug manufacturers. Cost of claims are
recognized as follows: the contractual obligation of Health Card to pay for
these drugs is recorded as cost of claims at the time of dispensing of the drug
by the pharmacy network. Cost of claims is reduced by the rebates that Health
Card receives. Rebates are earned from drug manufacturers based on drugs
utilized by plan participants at the time of dispensing. Health Card's portion
of these rebates, which varies by sponsor, is recorded monthly based upon the
claims adjudicated in that month.
Health Card processes its rebate claims either direct with the drug
manufacturers, through its wholly-owned subsidiary, Specialty, for which it
receives administrative fees, or through a third party rebate administrator.
Effective July 1, 2001, Health Card has entered into an agreement with a third
party administrator to handle all of its consolidated rebate claims which it
does not otherwise submit direct to the drug manufacturers.
The amount of rebates recognized as reductions to revenue or cost of claims
is based on estimates tied to actual claims data. The third party administrator
provides estimates to Health Card based on its analysis of the amount of rebates
that Health Card's claims should generate. These estimates are prepared based on
estimates of how Health Card's claims might influence the market share of a
particular drug covered under an agreement with a drug manufacturer. Market
share is generally defined as the percentage of utilization of a certain drug or
drugs within its therapeutic class. Under Health Card's contract with the
Administrator, Health Card receives a specified minimum amount per claim 150
days after the end of a quarter. Amounts above the minimum are shared between
the Administrator and Health Card with final settlement twelve months after a
quarter end. Health Card accrues rebates based upon an estimate provided by the
Administrator.
Health Card computes the amount of rebates due direct from the drug
manufacturers based on the actual claims data, the criteria established in each
individual contract, and the specified payment schedules. The drug manufacturers
are obligated to reimburse Health Card for earned rebates within a specified
period of time. Quarterly, Health Card reconciles its estimates to amounts
received from the manufacturers.
Certain of Health Card's sponsors are entitled to all or a portion of
rebates received by Health Card, which portion varies contractually by sponsor.
The manufacturer rebates retained by Health Card, after the sponsors receive
their contractual amounts, have historically had a significant impact on Health
Card's financial performance. For the fiscal years ended June 30, 2001, 2002 and
2003 the rebates retained by Health Card has equaled 19%, 19% and 11%,
respectively, of the Company's total gross profit. Due to the expected continued
growth and diversification of Health Card's business, Health Card expects
rebates to continue to account for a significant, but declining, percentage of
its total gross profit.
If such rebate programs were to be discontinued or adversely altered by
drug manufacturers, or if the terms of Health Card's rebate sharing arrangements
with its sponsors were adversely altered when these arrangements expire, there
could be a material adverse effect on Health Card's business, operating results
and financial condition.
Credit risk relating to the rebates receivable is evaluated based on the
financial strength of the rebate administrator and the drug manufacturers.
Health Card believes that most of the drug manufacturers are Fortune 500
companies. Health Card does not believe a credit risk reserve is necessary.
The pharmacy benefit management industry is intensely competitive,
generally resulting in continuous pressure on Health Card's gross profit as a
percentage of total revenue. In recent years, industry consolidation and
dramatic growth in managed healthcare have led to increasingly aggressive
pricing of pharmacy benefit management services. Given the pressure on all
parties to reduce healthcare costs, Health Card expects this competitive
environment to continue for the foreseeable future.
Health Card plans to continue its organic growth through increased
marketing of its services and by expanding the range of services offered,
including value added consulting and information-based services through its
Integrail division, mail order services through its facility in Florida, and
specialty pharmacy services through its Ascend division. Health Card believes
these services to be in growing demand within the healthcare industry. In
addition, Health Card intends to continue to pursue an acquisition program to
supplement its organic growth by making acquisitions of other pharmacy benefit
management service providers, as well as related services providers.
Results of Operations
Fiscal Year Ended June 30, 2003 Compared to Fiscal Year Ended June 30, 2002
Revenues increased $113.4 million, or approximately 25%, from $459.8
million for the fiscal year ended June 30, 2002, to $573.2 million for the
fiscal year ended June 30, 2003. Of the increase, $156.0 million was due to the
inclusion of revenues from Centrus, since it was acquired on January 29, 2002
and included a full fiscal year in 2003 compared to a little over five months in
the fiscal year ended June 30, 2002. Another $84.2 million of the increase was
due to revenues related to new sponsors or new services offered during fiscal
2003. These increases were partially offset by a revenue decrease related to two
factors: 1) two major sponsors terminated their contracts with Health Card, one
effective June 30, 2002 and one effective December 31, 2002 leading to a
reduction in revenue of approximately $88 million, and 2) there were certain
contracts during the twelve months ended June 30, 2003 that the Company
recognized on a net revenue basis versus fewer contracts during the twelve
months ended June 30, 2002 that the Company recognized on a net revenue basis.
The specific terms of the contracts that Health Card enters into with its
sponsors will determine whether Health Card recognizes the gross revenue related
to the cost of the prescriptions filled. For those contracts that Health Card
recognizes net revenue, there is no impact on gross profit since neither the
revenue nor the related costs of the prescriptions is recorded. Another factor
affecting the year-over-year increase was rebates payable to the Company's
sponsors increased by $23.2 for the twelve months ended June 30, 2003 as
compared to the twelve months ended June 30, 2002. Since these rebates are
treated as a reduction in revenues, this led to a reduction in the overall
year-over-year revenue increase. The majority of the balance of the increase, or
approximately $46 million, was due primarily to increased revenues from other
existing sponsors as a result of several factors including higher charges
relating to increased cost of pharmaceuticals, new drugs, plan participant
growth and an increase in the average number of claims per plan participant.
Cost of claims increased $100.7 million, or approximately 24%, from $424.7
million for the fiscal year ended June 30, 2002, to $525.4 million for the
fiscal year ended June 30, 2003. Centrus accounted for $151.6 million, of the
increase. This increase was partially offset by the two factors described in the
previous paragraph, namely, the loss of two major sponsors and the recognizing
of certain contracts on a net revenue basis. An increase of $22.1 million in
gross rebates received, which is treated as a reduction in cost of claims, for
the fiscal year ended June 30, 2003 as compared to the fiscal year ended June
30, 2002 also led to a reduction in the year-over-year increase. The balance of
the increase in cost of claims is related to the increased revenue as described
above related to both new and existing sponsors. As a percentage of revenues,
cost of claims decreased from 92.4% to 91.7% for the fiscal years ended June 30,
2002 and June 30, 2003, respectively. These same two factors contributed to the
declining costs as a percentage of revenue. The two major sponsors are managed
care organizations. Industry-wide, managed care clients have a greater cost of
claims, and consequently a lower gross margin, than other types of business in
the PBM industry. While not all of the revenue associated with these two
sponsors was replaced by new business, the new business, for the most part was
not managed care, so consequently the cost of claims on the new business was
lower than on the business it replaced. In addition, the contracts recognized on
a net revenue basis decrease the overall Company costs as a percentage of
revenue due to the cost not being recognized on the contracts recorded on the
net revenue basis. The decline in cost of claims as a percentage of revenues was
moderated by the higher cost of claims on the Centrus book of business, which
serves managed care clients primarily. Centrus' cost of claims for the fiscal
year ended June 30, 2003 ran about 6 - 9 percentage points greater than the rest
of the Company's business, and since Centrus accounted for 49% of the Company's
revenue in the fiscal year, this impacted the overall cost of claims percentage.
Gross profit increased from $35.1 million for the fiscal year ended June
30, 2002 to $47.8 million for the fiscal year ended June 30, 2003; a $12.7
million, or 36%, increase. In addition, to the revenue volume increase, Centrus
accounted for $4.3 million, or 33%, of the increase. The increase in rebates
(and administrative fees related to the collection of rebates) after accounting
for the amount of rebates that are shared with sponsors, accounted for another
$1.6 million, or 13%. Gross profit, as a percentage of revenue, increased from
7.6% to 8.3% for the twelve months ended June 30, 2002 and June 30, 2003,
respectively. The contracts the Company recognizes on a net revenue basis have
the effect of improving the gross margin as a percent of revenue due to the
lower revenue base. Partially offsetting this impact, the Company has seen some
decline in profit margins due to competitive pressures.
Selling, general, and administrative expenses, which include amounts
charged by affiliates, increased $8.7 million, or approximately 32%, from $27.2
million for the fiscal year ended June 30, 2002 to $35.9 million for the fiscal
year ended June 30, 2003. This increase is primarily related to the acquisition
of Centrus. While the expenses specifically related to Centrus were $7.3 million
greater in the twelve months ended June 30, 2003 as compared to the five months
since the acquisition in the twelve months ended June 30, 2002, this was
partially offset by reductions in other areas of the Company related to the full
integration of Centrus. The Company analyzed every department in the Company and
made decisions concerning the most efficient way to operate regardless of
location. This evaluation has led to synergies across the Company and has
allowed the Company to maximize the utilization of its resources. It is
anticipated that this kind of analysis and deployment of resources will continue
as the Company grows.
Selling, general, and administrative expenses also increased in the twelve
months ended June 30, 2003 due to the start-up of two new activities in the
quarter ended December 31, 2002. The Company acquired Integrail as of November
1, 2002 (See Note 2 to the Consolidated Financial Statements comprising Item 8
hereof). In the months since the Company acquired Integrail, approximately $1.3
million of expenses were incurred primarily related to salary and benefits and
depreciation and amortization. The other activity was the start-up of the build
out of a mail order facility in Miramar, Florida. Prior to July 1, 2003, the
Company out-sourced the total actual fulfillment of prescriptions that are
ordered by mail. By bringing these services in-house the Company will be better
able to control service and cost for its customers. For the twelve months ended
June 30, 2003, approximately $450,000 of expenses were incurred on this
endeavor. The division started dispensing pharmaceuticals as of July 1, 2003.
Due to the additions of Integrail and the mail order facility along with
Centrus for the full twelve months in the fiscal year ended June 30, 2003, the
Company's expenses increased $4.4 million for expenditures related to increases
in compensation and benefits, primarily associated with new employees including
senior management. Some of this increase was also related to the replacement of
resources from related parties with full time employees (see below). In
addition, the Company incurred the following additional expenses in the twelve
months ended June 30, 2003: 1) approximately $400,000 of expenses incurred
related to two acquisitions which the Company did not complete, 2) approximately
$127,000 related to a settlement of a New York State sales tax audit, and 3) the
payment of $100,000 related to a terminated consulting agreement.
General and administrative expenses charged by affiliates decreased
approximately $1.0 million, or 54%, year-over-year from $1.9 million to $0.9
million for the fiscal years ended June 30, 2002 and June 30, 2003,
respectively. The Company has eliminated many of the related party transactions
effective January 1, 2002. The majority of the decrease related to reduced
information technology services and management and consulting services procured
from affiliated companies. The hiring of full time employees and the use of
outside consultants replaced the use of affiliated companies to update the
information technology infrastructure.
Selling, general, and administrative expenses as a percent of revenue
increased from 5.9% for the fiscal year ended June 30, 2002 to 6.3% for the
fiscal year ended June 30, 2003. The main reason for the increase is the impact
of recognizing more contracts on a net revenue basis, as that has the effect of
dividing these same expenses over a smaller gross revenue base. In addition, the
acquisition of Integrail and the start-up of NMHCmail led to an increase in this
percentage.
For the fiscal year ended June 30, 2002, the Company incurred other
expense, net, of approximately $502,000. For the fiscal year ended June 30,
2003, the Company incurred other expense, net, of approximately $804,000. The
components of the approximate $302,000 increase in net expense were an
approximate $84,000 increase in interest expense, an approximate $270,000
decrease in interest income, offset by an approximate $52,000 additional gain on
sold assets during the fiscal year ended June 30, 2002. The primary reasons for
the net increase in expense were 1) the interest expense incurred on the
Company's revolving credit facility and on the Note Offering to finance the
acquisition of Centrus and Integrail (see Item 1, "Description of
Business-Recent Acquisitions", and Note 2 to the Consolidated Financial
Statements comprising Item 8 hereof), and 2) the reduction in interest income
since all cash balances go towards paying off the revolving credit facility.
Partially offsetting the increase in other expense was an approximate $52,000
increase in deferred gain on the sale of assets related to a sale/leaseback
transaction, which gain of approximately $459,000 was recorded as deferred
revenue and is being recognized over the life of the lease, which is thirty-six
(36) months. (See Note 9 to the Consolidated Financial Statements comprising
Item 8 hereof.)
Income before the provision for income taxes increased approximately $3.6
million, or 50%, from approximately $7.4 million, for the fiscal year ended June
30, 2002, to approximately $11.0 million for the fiscal year ended June 30,
2003. The primary reason for the increase was the improving efficiencies that
come with scale arising from the integration of the acquisitions the Company has
completed. As mentioned previously, the acquisition of Integrail and the
start-up of the mail order facility had the impact of reducing profitability in
the year ended June 30, 2003.
EBITDA (earnings before interest, taxes, depreciation and amortization)
increased by approximately $5.1 million or 46%, from $11.1 million for the
fiscal year ended June 30, 2002 to $16.3 million for the fiscal year ended June
30, 2003. The primary factor for the increase was the approximate $4.0 million
increase in operating income described above. In addition, there was an
approximate $736,000 increase in depreciation and amortization and an
approximate $438,000 increase in other intangible amortization related to the
Company's acquisitions. (See "-- Fiscal Year Ended June 30, 2002 Compared to
Fiscal Year Ended June 30, 2001.")
The effective tax rate increased from 39.4% for the fiscal year ended June
30, 2002 to 41.8% for the fiscal year ended June 30, 2003. The increase stemmed
primarily from an increase in the state tax rate as more of the Company's income
has been allocated to higher taxed states.
Net income for the fiscal year ended June 30, 2003 was approximately $6.4
million as compared to approximately $4.5 million for the fiscal year ended June
30, 2002; a 44% increase. Earnings per diluted share increased by $0.24, to
$0.80 for the fiscal year ended June 30, 2003.
Fiscal Year Ended June 30, 2002 Compared to Fiscal Year Ended June 30, 2001
Revenues increased $187.7 million, or approximately 69%, from $272.1
million for the fiscal year ended June 30, 2001, to $459.8 million for the
fiscal year ended June 30, 2002. Of the increase, $127.1 million, or 68% was due
to the inclusion of revenues from Centrus, subsequent to January 29, 2002. PMP
accounted for another $19.2 million, or 10.2%, of the increase since it was
acquired on March 5, 2001 and included a full fiscal year in 2002 compared to
less than four months in the fiscal year ended June 30, 2001. Another $39.6
million of the increase was due to revenues related to new sponsors or new
services offered during fiscal 2002. The majority of the balance of the
year-over-year increase was due primarily to increased revenues from other
existing sponsors as a result of several factors including higher charges
relating to increased cost of pharmaceuticals, new drugs, plan participant
growth, and an increase in the average number of claims per plan participant.
Two other factors affecting the year-over-year increase were: rebates payable to
the Company's sponsors increased by $10.2 for the twelve months ended June 30,
2002 as compared to the twelve months ended June 30, 2001. Since these rebates
are treated as a reduction in revenues this led to a reduction in the overall
year-over-year revenue increase. Secondly, there were certain contracts during
fiscal year 2002 that the Company recognized on a net revenue basis. There were
no contracts during the twelve months ended June 30, 2001 that the Company
recognized on the net revenue basis. The specific terms of the contracts that
Health Card enters into with its sponsors will determine whether Health Card
recognizes the gross revenue related to the cost of the prescriptions filled. In
certain limited cases, the Company has not recognized the gross revenue or cost
related to prescriptions filled for a specific sponsor. This has no impact on
the Company's gross profit since neither the revenue nor the related cost of the
prescriptions is recorded. Finally, revenues for the twelve months ended June
30, 2001 were negatively impacted by a reduction in revenues of $733,000 that
arose when the Company settled certain fees due from a major sponsor related to
a capitation arrangement for calendar year 1999.
Cost of claims increased $175.1 million, or approximately 70%, from $249.6
million for the fiscal year ended June 30, 2001, to $424.7 million for the
fiscal year ended June 30, 2002. Centrus accounted for $122.9 million, or 70% of
the increase. PMP accounted for another $17.3 million, or 10% of the increase.
The balance of the increase is related to the increased revenue as described
above. An increase of $12.4 million, $9.1 million of which is related to
Centrus, in gross rebates received, which is treated as a reduction in cost of
claims, for the fiscal year ended June 30, 2002 as compared to the fiscal year
ended June 30, 2001 led to a reduction in the year-over-year increase. As a
percentage of revenues, cost of claims increased from 91.7% to 92.4% for the
fiscal years ended June 30, 2001 and June 30, 2002, respectively. The increase
relates primarily to the higher cost of claims on the Centrus book of business,
which serves managed care clients primarily. Industry-wide, managed care clients
have a greater cost of claims, and consequently a lower gross margin, than other
types of business in the PBM industry. Centrus' cost of claims for the fiscal
year ended June 30, 2002 ran about 3 - 6 percentage points greater than the rest
of the Company's business, and since Centrus accounted for 28% of the Company's
revenue in the fiscal year, this impacted the overall cost of claims percentage.
Gross profit increased from $22.5 million for the fiscal year ended June
30, 2001 to $35.1 million for the fiscal year ended June 30, 2002; a $12.6
million, or 56%, increase. In addition, to the revenue volume increase, Centrus
accounted for $4.2 million, or 33%, of the increase. PMP accounted for another
$1.9 million, or 15%, of the increase. The increase in rebates (and
administrative fees related to the collection of rebates) after accounting for
the amount of rebates that are shared with sponsors, accounted for another $4.6
million, or 37%. Gross profit, as a percentage of revenue, declined from 8.3% to
7.6% for the fiscal years ended June 30, 2001 and June 30, 2002, respectively.
The decrease year-over-year is again principally related to the lower margins
achieved by Centrus. The Company has also seen a decline in profit margins due
to competitive pressures.
Selling, general, and administrative expenses, which include amounts
charged by affiliates, increased $5.8 million, or approximately 27%, from $21.4
million for the fiscal year ended June 30, 2001 to $27.2 million for the fiscal
year ended June 30, 2002. Approximately 67% of the increase, or $3.9 million,
was related to the acquisition of Centrus. There were also year-over-year
increases in the following areas: (i) an approximate $1,202,000 increase in
expenditures related to increases in compensation and benefits, primarily
associated with new employees including senior management; (ii) an approximate
$709,000 increase in depreciation and amortization expenses related to increased
hardware procurement and software development in prior periods; (iii) an
approximate $1,189,000 increase in the use of outside consultants primarily to
update the Company's information technology infrastructure; and (iv) an
approximate $360,000 increase in commission expense related to the increase in
new revenues not related to the acquisitions. Partially offsetting these
increases were: (i) a reduction of approximately $1,376,000 related to actual
payments made and/or reserves accrued during the fiscal year ended June 30,
2001, but not the fiscal year ended June 30, 2002 related to the following
matters: (A) the settlement of the West Contra Costa lawsuit (see Note 9 to the
Consolidated Financial Statements that comprise Item 8 hereof); (B) the
reconciliation and settlement of amounts due to a former major sponsor (See Note
7 to the Consolidated Financial Statements), and (C) the settlement, in April of
2001, of a certain patent infringement litigation involving the use by the
Company of certain PBM information technology systems; (ii) the reduction in
general and administrative expenses charged by affiliates described below, and
(iii) an approximate $396,000 decrease in intangible amortization due to the
adoption of SFAS 142. Per SFAS 142, the Company no longer amortizes goodwill as
of July 1, 2001 (see Note 1 to the Consolidated Financial Statements Comprising
Item 8 hereof).
General and administrative expenses charged by affiliates decreased
approximately $2.2 million, or 54%, year-over-year from $4.1 million to $1.9
million for the fiscal years ended June 30, 2001 and June 30, 2002,
respectively. The Company has eliminated most of the related party transactions
effective January 1, 2002. The majority of the decrease related to reduced
information technology services and management and consulting services procured
from affiliated companies. The hiring of full time employees and the use of
outside consultants replaced the use of affiliated companies to update the
information technology infrastructure.
Selling, general, and administrative expenses as a percent of revenue
improved from 7.9% for the fiscal year ended June 30, 2001 to 5.9% for the
fiscal year ended June 30, 2002. This improvement stems from the continued
growth of the Company due to improving efficiencies with scale.
For the fiscal year ended June 30, 2001, the Company recognized other
income, net, of approximately $877,000. For the fiscal year ended June 30, 2002,
the Company incurred other expense, net, of approximately $502,000. The
components of the approximate $1,379,000 increase in net expense were an
approximate $889,000 increase in interest expense, an approximate $591,000
decrease in interest income, and an approximate $101,000 gain on sold assets
during the fiscal year ended June 30, 2002. The primary reasons for the net
increase in expense were the interest expense incurred on the Company's
revolving credit facility and on the Note Offering during the fiscal year ended
June 30, 2002 to finance the acquisition of Centrus (see Item 1, "Description of
Business-Recent Acquisitions", and Note 2 to the Consolidated Financial
Statements comprising Item 8 hereof). Partially offsetting the increase in
interest expense was the approximate $101,000 deferred gain during the fiscal
year ended June 30, 2002 on the sale of assets related to a sale-leaseback
transaction. (See Note 9 to the Consolidated Financial Statements comprising
Item 8 hereof.)
Income before the provision for income taxes increased approximately $5.4
million, or 268%, from approximately $2.0 million, for the fiscal year ended
June 30, 2001, to approximately $7.4 million for the fiscal year ended June 30,
2002. The primary reason for the increase was the improving efficiencies that
come with scale. For the fiscal year ended June 30, 2002 revenues increased 69%
over the fiscal year ended June 30, 2001, while selling, general, and
administrative expenses increased only 27%. In addition, while gross margin
percentages declined year-over-year due to the acquisition of Centrus, the gross
profit dollars increased by 56%. These factors contributed to the marked
improvement - 268% - in profitability.
EBITDA (earnings before interest, taxes, depreciation and amortization)
increased by approximately $7.4 million or 199%, from $3.7 million for the
fiscal year ended June 30, 2001 to $11.1 million for the fiscal year ended June
30, 2002. The primary factor for the increase was the approximate $6.7 million
increase in operating income described above. In addition, there was an
approximate $870,000 increase in depreciation and amortization, including
Centrus. This increase was partially offset by an approximate $202,000 decrease
in goodwill and other intangibles amortization. (See chart below).
The effective tax rate decreased from 42.1% for the fiscal year ended June
30, 2001 to 39.4% for the fiscal year ended June 30, 2002. The decrease stemmed
primarily from a reduction in non-deductible goodwill amortization.
Net income for the fiscal year ended June 30, 2002 was approximately $4.5
million as compared to approximately $1.2 million for the fiscal year ended June
30, 2001; a 285% increase. Earnings per diluted share increased by $0.40, to
$0.56 for the fiscal year ended June 30, 2002.
The Company has acquired four companies in the last three years. In
addition, the Company has made, in prior years, significant information
technology infrastructure investments in terms of purchased hardware and
internally developed software. Consequently, there is a significant amount of
depreciation and amortization that flows through the Company's current financial
statements related to these investments. Therefore, the Company believes that
EBITDA is an important measure of its current financial performance. EBITDA is
presented as net income plus the provision for income taxes, other expenses,
net, and depreciation and amortization. While EBITDA is not a measure of
financial performance under generally accepted accounting principles, it is
provided as information for certain investors for analysis purposes for two
reasons: (1) it excludes the impact of depreciation and amortization related to
prior investments and (2) these items are not controllable in the current
period. EBITDA is not meant to be considered a substitute or replacement for net
income as prepared in accordance with accounting principles generally accepted
in the United States. EBITDA is calculated as follows:
Year Ended June 30,
2001 2002 2003
---------------------- -------------------------- ------------------
---------------------- -------------------------- ------------------
Net income $ 1,158 $ 4,467 $ 6,414
Provision for income taxes 843 2,900 4,602
Other (income) expense, net (877) 502 804
Depreciation 700 1,065 1,389
Amortization 1,895 2,199 3,048
---------------------- -------------------------- ------------------
---------------------- -------------------------- ------------------
EBITDA $ 3,719 $ 11,133 $ 16,257
====================== ========================== ==================
Liquidity and Capital Resources
The Company's primary cash requirements are for capital expenditures and
operating expenses, including cost of pharmaceuticals, software and hardware
upgrades and the funding of accounts receivable. Effective July 2003, the
Company requires cash to carry inventory in its mail order facility and
specialty pharmacy. The Company also requires cash for potential acquisitions of
other pharmacy benefit management companies or of companies providing related
services. As of June 30, 2003, the Company had a working capital deficit of
$32.6 million as compared to a working capital deficit of $42.7 million as of
June 30, 2002. The primary reason for the improvement in working capital was the
profitability generated by the Company during the fiscal year ended June 30,
2003. The Company has now acquired four companies since July 2000 (and a fifth
in July 2003) utilizing primarily cash. This has had the effect of increasing
the Company's working capital deficits until sufficient profitability is
generated to pay back the cost of the acquisitions. In addition, the Company's
revolving credit facility is treated all as a short-term liability per generally
accepted accounting principles even though its terms do not expire until January
2005.
Net cash provided by operating activities was $12.4 million and $15.7
million for the fiscal years ended June 30, 2002 and 2003, respectively. One
factor leading to the $3.3 million increase in cash provided by operations was
the $1.9 million of incremental net income generated during the fiscal year
ended June 30, 2003 as compared to the fiscal year ended June 30, 2002. Another
factor in the increase in cash was the changes in accounts receivables and
payables during the two years. For the year ended June 30, 2002 accounts payable
and accrued expenses increased by $41.7 million while receivables increased by
$37.7 million, providing $4.0 million of cash. For the year ended June 30, 2003,
accounts payable increased by $6.8 million while receivables decreased by $1.3
million generating $8.1 million of cash. Thus, $4.1 million more cash was
provided by operations from changes in receivables and payables during the
fiscal year ended June 30, 2003 as compared to June 30, 2002.
Historically, the timing of the Company's accounts receivable and accounts
payable has generally been a net source of cash from operating activities. This
is the result of the terms of trade in place with plan sponsors on the one hand,
and the Company's pharmacy network on the other hand. These terms generally lead
to the Company's payments to participating pharmacies being slower than its
corresponding collections from plan sponsors. The Company believes that this
situation is not unusual in the pharmacy benefit management industry and expects
to operate on similar terms for the foreseeable future. However, there can be no
assurance that such terms of trade will continue in the future and, if they were
to change materially, the Company could require additional working capital
financing. The Company has put in place a $40 million revolving credit facility
for acquisitions and working capital financing. However, if such terms of trade
were to change materially, and/or if the Company were unable to obtain
additional working capital financing, there could be a material adverse effect
on the Company's business, financial condition, or results of operations.
Net cash used in investing activities was $6.0 million for the year ended
June 30, 2003, as compared to $42.9 million for the year ended June 30, 2002.
The primary differences in the two periods were the acquisition of Centrus for
$40 million in the year ended June 30, 2002, and the acquisition of Integrail in
the year ended June 30, 2003. The net cash outlay for Integrail was $1,472,425,
representing the initial payment of $1,400,000 plus $72,425 of related expenses.
No cash was assumed in the acquisition.
During the year ended June 30, 2003 the Company borrowed a net of
approximately $1.8 million under its revolving credit facility. These funds were
primarily utilized to repay the principal balance of the Convertible Notes,
which had been put in place to acquire Centrus, which has had the effect of
significantly reducing the interest expense that the Company incurs. The Company
also paid $0.8 million towards its outstanding capital lease and other debt
obligations during the fiscal year ended June 30, 2003.
The Company has entered into various capital lease transactions for
hardware and software. The Company has also assumed various capital leases
through its acquisitions. The principal balance of all capital leases as of June
30, 2003 was approximately $808,000.
The Company has entered into various real estate operating leases with both
related and unrelated parties. The Company has entered into various operating
leases with unrelated third parties for office equipment. These leases have
different payment terms and expirations dates. The Company also entered into a
sale-leaseback operating lease of certain fixed assets (principally computer
hardware and externally developed software) with an affiliate of the Company's
Vice Chairman. See Note 9 to the Consolidated Financial Statements comprising
Item 8 hereof for a further description of these various leases.
On January 29, 2002, the Company entered into a $40 million revolving
credit facility, details of which are set forth in Item 1 above and in Note 9 to
the Consolidated Financial Statements comprising Item 8 hereof. Borrowings of
$28.7 million under the Facility were used to finance part of the purchase price
of the Company's acquisition of Centrus. The Facility contains various covenants
that, among other things, require the Company to maintain certain financial
ratios, as defined in the agreements governing the Facility. As of September 15,
2003, approximately $19.1 million was outstanding under the Facility, and the
Company was in compliance with its financial-ratios covenants.
The total future payments under these contractual obligations as of
June 30, 2003 is as follows:
Payments Due by Period
Contractual Obligations ($ in thousands)
Less than After 5
Total 1 year 1-3 years 4-5 years Years
----- ------ --------- --------- -----
Long Term Debt $ 15,683 $ 15,683 $ __ $ __ $ __
Capital Lease Obligations 808 481 327 __ __
Operating Leases 11,206 2,414 4,370 1,934 2,488
Sale-leaseback 592 444 148 __ __
________ _______ ________ ______ _______
Total Contractual Cash
Obligations $ 28,289 $ 19,022 $ 4,845 $1,934 $ 2,488
========= ========= ======== ======= ========
The members of PMP are eligible to receive additional consideration of up
to $1,000,000 if certain PMP clients are retained over the first three years
after acquisition. These targets were not met in the first two years so no
additional consideration was due and payable. It is the Company's expectations
that these amounts will not be earned in the third year either as the identified
clients were not generally retained directly, although they were replaced.
The shareholders of Centrus are eligible to receive additional
consideration of up to $4,000,000, payable over three years, if certain
financial targets are met over the first two years. The financial performance
targets were achieved during the first year and $2 million has been earned. Of
this amount, $1 million was paid in May 2003 and another $1 million will be paid
in May 2004.
The Sellers of Integrail are eligible to receive from monies put in escrow
up to $700,000 if certain operational milestones are achieved over the first
twelve months.
In February 1998, the Company entered into an agreement with an
unaffiliated party for computer software products and professional services. The
agreement required the Company to pay an initial license fee. In addition, if
certain milestones are met based on the number of processed claims, as defined
in the agreement, the initial license fee increases in specified increments. To
date, four such milestones have been met, resulting in a 100% increase in the
license fee. The agreement also provides for the annual payment of a fee for
maintenance and updating services equal to 18% of the initial license fee, as
defined. It is anticipated that, based on internal growth and the Centrus
acquisition, that the last milestone will be met. If the remaining milestone is
reached, the cash outlay by the Company would be $100,000.
The Company anticipates that current cash positions, after its five
acquisitions and the repayment of certain affiliate and shareholder debt,
together with anticipated cash flow from operations, will be sufficient to
satisfy the Company's contemplated cash requirements for at least 24 months.
This is based upon current levels of capital expenditures, anticipated inventory
levels and anticipated operating results for the next 24 months. However, it is
one of the Company's stated goals to acquire other pharmacy benefit management
companies and companies providing related services, evidenced by the five
acquired since July 2000. This will require cash and depending on the Company's
evaluation of future acquisitions, additional cash may be required. In addition,
the Company is completing the build out of its mail order facility in Florida
which will require cash to build out the facility and to acquire inventory. In
the event that the Company's plans change or its assumptions prove to be
inaccurate, or the proceeds from the Facility prove to be insufficient to fund
operations and acquisitions, the Company could be required to seek additional
financing sooner than anticipated. There can be no assurance that such financing
could be obtained at rates or on terms acceptable to the Company, if at all.
Other Matters
Inflation
Management does not believe that inflation has had a material adverse
impact on Health Card's net income.
Subsequent Events
On July 31, 2003, the Company entered into a Stock Purchase Agreement with
Portland Professional Pharmacy ("PPRX"), Professional Pharmacy Associates
("PRXA", and together with PPRX, "PPP") and the individual shareholders (the
"PPP Shareholders") to purchase all of the shares of PPP for $3,150,000 (the
"PPP Acquisition"). In addition, the Company agreed to pay to the PPP
Shareholders up to $7,000,000 over a three-year period if the PPP business
achieved certain financial targets. PPP provides specialty-pharmacy services in
a broad range of areas, including women's health, pediatric care, men's health
and transplant. Funds for the PPP Acquisition were supplied by the Company's
revolving credit facility.
In connection with the PPP Acquisition, several members of PPP's management
team have joined the Company as employees, and have been granted stock options
to purchase an aggregate of 150,000 shares of Common Stock, under the Company's
1999 Stock Option Plan, as amended. As of August 1, 2003, the Company's
wholly-owned subsidiary, Ascend Specialty Pharmacy Services, Inc. ("Ascend")
assumed all of the shares of PPP. Each of PRXA and PPRX continues to operate
under their respective names, as subsidiaries of Ascend, in the state of Maine.
The Company intends to position Ascend as a preferred provider with PPP's target
markets while focusing on the extension of their specialty services to the
Company's PBM division.
Critical Accounting Policies and Estimates
General
Health Card's discussion and analysis of its financial condition and
results of operations are based upon Health Card's Consolidated Financial
Statements, which have been prepared in accordance with accounting principles
generally accepted in the United States. The preparation of these financial
statements requires Health Card to make estimates and judgments that affect the
reported amounts of assets, liabilities, revenues and expenses; these estimates
and judgments also effect related disclosure of contingent assets and
liabilities. On an on-going basis, Health Card evaluates its estimates,
including those related to rebate income, bad debt, intangible assets, income
taxes and financing operations. Health Card bases its estimates on experience
and on various other assumptions that are believed to be reasonable under the
circumstances, the results of which form the basis for making judgments about
the carrying values of assets and liabilities that are not readily apparent from
other sources. Actual results may differ from these estimates under different
assumptions or conditions.
The Company believes that of its significant accounting policies (see Note
1 to the Consolidated Financial Statements comprising Item 8 hereof), the
following may involve a higher degree of judgment and complexity than others:
Revenue Recognition
The Company has historically entered into two types of arrangements for the
payment of administrative fees: fee for service (per claim charges) and
capitation (per member per month charges). Under the fee for service
arrangement, the Company is paid by its sponsors for the Company's contractually
agreed upon rates based upon actual claims adjudicated plus a fixed transaction
fee. Under the capitation arrangement, the fee is based on the number of
participants per month; the Company pays for the cost of prescriptions filled
and thus shares the risk of operating profit or loss with these plans. Since
January 1, 2000, all services have been provided on a fee for service basis
only.
Revenue under the fee for service arrangement is recognized when the claims
are adjudicated. Included as revenue are the Company's administrative fees, and
charges relating to pharmaceuticals dispensed by the Company's network of
pharmacies. Revenue is reduced by the amount of rebates paid to the Company's
sponsors.
The specific terms of the contracts that Health Card enters into with its
sponsors will determine whether Health Card recognizes the gross revenue related
to the cost of the prescriptions filled. In certain cases, the Company has not
recognized the gross revenue or cost related to prescriptions filled for a
specific sponsor. This has no impact on the Company's gross profit since neither
the revenue nor the related cost of the prescriptions is recorded.
Rebates are recognized when the Company is entitled to them in accordance
with the terms of its arrangements with drug manufacturers, third party rebate
administrators, and sponsors, and when the amount of the rebates is
determinable. The Company records the gross rebate receivable and the
appropriate payable to the sponsors based on estimates, which are subject to
final settlement. The estimates are based upon the claims submitted and the
Company's rebate experience, and are adjusted as additional information becomes
available.
Bad Debt
Health Card maintains allowances for doubtful accounts for estimated losses
resulting from the liability of its sponsors to make required payments. If the
financial condition of Health Card's sponsors were to deteriorate, resulting in
an impairment of their ability to make payments, additional allowances may be
required.
Deferred Taxes
Health Card periodically considers whether or not it should record a
valuation allowance to reduce its deferred tax assets to the amount that is more
likely than not to be realized. While Health Card has considered future taxable
income and ongoing tax planning strategies in assessing the need for the
valuation allowance, in the event Health Card were to determine that it would be
able to realize its deferred tax assets in the future in excess of its net
recorded amount, an adjustment to the deferred tax asset would increase income
in the period such determination was made. Likewise, should Health Card
determine that it would not be able to realize all or part of its net deferred
tax asset in the future, an adjustment to the deferred tax asset would be
charged to income in the period such determination was made.
Goodwill and Intangible Impairment
In assessing the recoverability of the Company's goodwill and other
intangibles, the Company must make assumptions regarding estimated future cash
flows and other factors to determine the fair value of the respective assets. If
these estimates or their related assumptions change in the future, the Company
may be required to record impairment charges for these assets not previously
recorded. On July 1, 2001 the Company adopted Statement of Financial Accounting
Standards No. 142, "Goodwill and Other Intangible Assets," and will be required
to analyze its goodwill for impairment issues on a periodic basis thereafter.
During the year ended June 30, 2003, the Company did not record any impairment
losses related to goodwill and other intangible assets.
Capitalized Software
The costs of software developed for internal use incurred during the
preliminary project stage are expensed as incurred. Direct costs incurred during
the application development stage are capitalized. Costs incurred during the
post-implementation/operation stage are expensed as incurred. Capitalized
software development costs are amortized on a straight-line basis over their
estimated useful lives, commencing on the date the software is placed into use,
primarily three years.
Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
MARKET RISK.
Not applicable.
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The audited financial statements of Health Card as of June 30, 2003, 2002
and 2001, and the related Schedules, are included in this Form 10-K following
Item 14 hereof.
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
Reference is made to the Current Report on Form 8-K dated July 19, 2002,
and to the Current Report on Form 8-K dated June 15, 2001, regarding Health
Card's dismissals of its independent auditors.
Item 9A. CONTROLS AND PROCEDURES
Health Card has established disclosure controls and procedures to ensure
that material information relating to Health Card, including its consolidated
subsidiaries, is made known to the officers who certify the financial reports of
Health Card and to other members of senior management and the Board of
Directors.
Health Card's principal executive officer and principal financial officer
have concluded that, based on their evaluation as of a date within 90 days of
the filing date of this Annual Report on Form 10-K, the disclosure controls and
procedures (as defined in Rules 13a-14(c) and 15d-14(c) under the Securities
Exchange Act of 1934, as amended (the "Exchange Act")) are effective to ensure
that the information required to be disclosed by Health Card in reports that it
files or submits under the Exchange Act is recorded, processed, summarized and
reported within the time periods specified by the SEC rules and forms.
There were no significant changes in Health Card's internal controls or in
other factors that could significantly affect those controls subsequent to the
date of its most recent evaluation.
PART III
Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required is incorporated herein by reference to the fiscal
year 2003 definitive Proxy Statement under the caption "Election of Directors",
which the Company anticipates will be filed by October 28, 2003.
Item 11. EXECUTIVE COMPENSATION
The information required by this item is incorporated herein by reference
to the fiscal 2003 Definitive Proxy Statement under the caption "Executive
Compensation", which the Company anticipates will be filed by October 28, 2003.
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item is incorporated herein by reference
to the fiscal 2003 Definitive Proxy Statement under the captions "Security
Ownership of Certain Beneficial Owners" and Security Ownership of Management",
which the Company anticipates will be filed by October 28, 2003.
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTONS
The information required by this item is incorporated herein by reference
to the fiscal 2003 Definitive Proxy Statement under the caption "Certain
Relationships and Related Transactions", which the Company anticipates will by
filed by October 28, 2003.
Item 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
Not applicable because this report is filed for a period ending prior
to December 15, 2003.
PART IV
Item 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON
FORM 8-K
(a) 1. Financial Statements
The following Consolidated Financial Statements of Health Card are
included herein:
Independent Auditors' Reports F-2 - F-3
Consolidated Balance Sheet as of June 30, 2002 and 2003 F-4
Consolidated Statement of Income for each of the years ended
June 30, 2001, 2002 and 2003 F-5
Consolidated Statement of Stockholders' Equity for each
of the years ended June 30, 2001, 2002 and 2003 F-6
Consolidated Statement of Cash Flows for each of the years ended
June 30, 2001, 2002 and 2003 F-7
Notes to Consolidated Financial Statements F-8 - F-31
2. Financial Statement Schedule
Schedule II: Valuation and Qualifying Accounts S-1 - S-2
3. Exhibits
Exhibit
Number Description of Exhibit
2.1 Asset Purchase Agreement dated as of November 1, 2002, by and between Health Card,
Integrail Acquisition Corp., Health Solutions, Ltd., and certain security
holders of Health Solutions, Ltd. (10)
2.2 Assignment Agreement dated as of November 1, 2002, by and between
Health Card, Integrail Acquisition Corp., and Health Solutions, Ltd. (10)
2.3 Stock Purchase Agreement dated July 31, 2003, among Health Card and Portland
Professional Pharmacy, Portland Professional Pharmacy Associates and the
individuals listed on Schedule I thereto
3.1 Certificate of Incorporation of Health Card (7)
3.4 By-Laws of Health Card (7)
4.1 Form of Specimen Common Stock Certificate (9)
4.2 Form of Warrant Agreement, including form of Representatives' Warrants (1)
10.1 Mail Service Provider Agreement, dated July 1, 1996, between Health Card and
Thrift Drug, Inc. d/b/a Express Pharmacy Services (1)
10.2 Amendment to Mail Service Provider Agreement, dated January 1, 1997, between
Health Card and Thrift Drug, Inc. d/b/a Express Pharmacy Services (1)
10.3 Software License Agreement and Professional Service Agreement, dated February
18, 1998, between Health Card and Prospective Health, Inc. (1)
10.4 1999 Stock Option Plan (1)
10.5 Employee Covenant Agreement, dated June 15, 1998, between Health Card
and Mary Casale (1)
10.6 Employee Covenant Agreement, dated June 16, 1998, between Health Card
and Ken Hammond (1)
10.7 Stock Option Agreement, dated August 3, 1999, between Health Card and Ken
Hammond (4)
10.8 Employment Agreement, dated March 27, 2000, between Health Card and
David Gershen (4)
10.9 Stock Option Agreement, dated May 1, 2000, between Health Card and David
Gershen (4)
10.10 Employment Agreement, dated May 3, 2000, between Health Card and James
Bigl (4)
10.11 Stock Option Agreement, dated June 12, 2000, between Health Card and James
Bigl (4)
10.12 Stock Option Agreement, dated August 3, 1999, between Health Card and
Kenneth J. Daley (4)
10.13 Stock Option Agreement, dated August 3, 1999, between Health Card and
Gerald Angowitz (4)
10.14 Assignment, dated November 1, 1996, from Sandata, Inc., to BFS Realty,
LLC (1)
10.15 Lease, dated August 10, 1998, between 61 Manorhaven Boulevard, LLC and
Health Card (1)
10.16 Letter, dated June 3, 1999, from Bert Brodsky to Health Card (1)
10.17 Letter, dated June 3, 1999, from Gerald Shapiro to Health Card (1)
10.18 Agreement of Guaranty, dated June 1, 1998, by Bert E. Brodsky in favor of Health Card (1)
10.19 Promissory Note, dated July 31, 2000, made payable by P.W. Capital, LLC to the
order of Health Card, in the amount of $3,890,940 (4)
10.20 Letter, dated June 8, 1999, from P.W. Capital Corp. to Health Card (1)
10.21 Letter, dated June 9, 1999, from Bert E. Brodsky to Health Card (1)
10.22 Letter, dated June 8, 1999, from the Bert E. Brodsky Revocable Trust to Health Card (1)
10.23 Letter Agreement, dated June 30, 1999, between the Bert E. Brodsky Revocable
Trust and Health Card (1)
10.24 Employment Agreement, dated July 1, 1999, between Health Card and Bert E. Brodsky (1)
10.25 Letter, dated June 8, 1999, from Bert E. Brodsky to Health Card (1)
10.26 Form of Lock-Up Agreement (1)
10.27 Acquisition and Merger Agreement, dated as of June 27, 2000, between
Health Card and Pharmacy Associates, Inc. (3)
10.28 Lease Agreement, dated March 4, 1996, between Pharmacy Associates, Inc. and
Executive Park Partnership (4)
10.29 Amendment to Lease, dated November 2, 1998, between Pharmacy Associates, Inc.
and Executive Park Partnership (4)
10.30 Amendment to Lease, dated November 19, 1998, between Pharmacy Associates, Inc.
and Executive Park Partnership (4)
10.31 Lease Agreement, dated July 8, 1999, between Pharmacy Associates, Inc. and
Executive Park Partnership (4)
10.32 Asset Purchase Agreement dated as of March 5, 2001 among National Medical Health
Card Systems, Inc., PMP Acquisition Corp., Provider Medical Pharmaceutical, LLC
and members of PMP (5)
10.33 Employment Agreement, dated June 4, 2001, between National Medical Health Card
Systems, Inc. and Tery Baskin (6)
10.34 Stock Option Agreement, dated June 4, 2001, between National Medical Health Card
Systems, Inc. and Tery Baskin (6)
10.35 Stock Option Agreement, dated June 12, 2001, between National Medical Health Card
Systems, Inc. and James Bigl (6)
10.36 Asset Purchase Agreement dated January 29, 2002 by and among the Company,
Health Solutions Limited ("HSL"), HSL Acquisition Corp., a wholly-owned
subsidiary of the Company, and the security holders of HSL (8)
10.37 Receivables Purchase and Transfer Agreement dated January 29, 2002 by and
among the Company and certain of its subsidiaries and NMHC Funding, LLC (8)
10.38 Loan and Security Agreement dated January 29, 2002, by and between NMHC Funding, LLC
and HFC Healthco-4, LLC, an affiliate of Healthcare Finance Group, Inc. (8)
10.39 Lease Agreement dated as of August 1, 2001, between National Medical Health
Card Systems, Inc. and BFS Realty, LLC (6)
10.40 Amended Lease Agreement dated as of August 1, 2001, between National Medical
Health Card Systems, Inc. and BFS Realty, LLC (6)
10.41 2003 Employee Stock Purchase Plan (11)
10.42 Amendment No. 2 dated April 15, 2002 to Employment Agreement between
Health Card and James Bigl
10.43 Amendment No. 3 dated October 14, 2002 to Employment Agreement between
Health Card and James Bigl
10.44 Amendment No. 4 dated November 6, 2002 to Employment Agreement between
Health Card and James Bigl
10.45 Stock Option Agreement between Health Card and James Bigl dated February 20, 2001
10.46 Stock Option Agreement between Health Card and James Bigl dated April 30. 2002
10.47 Stock Option Agreement between Health Card and James Bigl dated June 26, 2002
10.48 Stock Option Agreement between Health Card and James Bigl dated July 22, 2003
10.49 Employment Agreement dated October 14, 2002 between Health Card and Bert Brodsky
10.50 Employment Agreement dated November 20, 2002 between Health Card and Agnes Hall
10.51 Stock Option Agreement between Health Card and Agnes Hall dated January 8, 2001
10.52 Amendment to Stock Option Agreement between Health Card and Agnes Hall dated
January 8, 2001
10.53 Stock Option Agreement between Health Card and Agnes Hall dated August 10, 2001
10.54 Amendment to Stock Option Agreement between Health Card and Agnes Hall dated August 10, 2001
10.55 Stock Option Agreement between Health Card and Agnes Hall dated December 4, 2001
10.56 Amendment to Stock Option Agreement between Health Card and Agnes Hall dated December 4, 2001
10.57 Stock Option Agreement between Health Card and Agnes Hall dated July 31, 2002
10.58 Amendment to Stock Option Agreement between Health Card and Agnes Hall dated July 31, 2002
10.59 Stock Option Agreement between Health Card and Agnes Hall dated August 1, 2003
10.60 First Amendment dated November 6, 2002 to Employment Agreement between Health Card
and David Gershen
10.61 Stock Option Agreement between Health Card and David Gershen dated February 20, 2001
10.62 Stock Option Agreement between Health Card and David Gershen dated September 24, 2001
10.63 Stock Option Agreement between Health Card and David Gershen dated August 1, 2002
10.64 Stock Option Agreement between Health Card and David Gershen dated August 1, 2003
10.65 First Amendment dated November 6, 2002 to Employment Agreement between Health Card
and Tery Baskin
10.66 Stock Option Agreement between Health Card and Tery Baskin dated July 20, 2000
10.67 Stock Option Agreement between Health Card and Tery Baskin dated August 10, 2001
10.68 Stock Option Agreement between Health Card and Tery Baskin dated August 1, 2002
10.69 Stock Option Agreement between Health Card and Tery Baskin dated September 19, 2002
10.70 Stock Option Agreement between Health Card and Tery Baskin dated August 1, 2003
10.71 Employment Agreement between Health Card and Patrick McLaughlin dated January 29, 2002
10.72 Stock Option Agreement between Health Card and Patrick McLaughlin dated January 29, 2002
10.73 Stock Option Agreement between Health Card and Patrick McLaughlin dated August 1, 2003
10.74 Amendment to Stock Option Agreement dated January 29, 2002 between Health Card and
Patrick McLaughlin
10.75 Stock Option Agreement between Health Card and Gerald Angowitz dated November 20, 2000
10.76 Stock Option Agreement between Health Card and Gerald Angowitz dated February 20, 2001
10.77 Stock Option Agreement between Health Card and Gerald Angowitz dated April 9, 2003
10.78 Stock Option Agreement between Health Card and Kenneth J. Daley dated November 20, 2000
10.79 Stock Option Agreement between Health Card and Kenneth J. Daley dated February 20, 2001
10.80 Stock Option Agreement between Health Card and Kenneth J. Daley dated April 9, 2003
10.81 Stock Option Agreement between Health Card and Ronald L. Fish dated November 20, 2000
10.82 Stock Option Agreement between Health Card and Ronald L. Fish dated February 20, 2001
10.83 Stock Option Agreement between Health Card and Ronald L. Fish dated April 9, 2003
10.84 Stock Option Agreement between Health Card and Paul J. Konigsberg dated November 20, 2000
10.85 Stock Option Agreement between Health Card and Paul J. Konigsberg dated February 20, 2001
10.86 Stock Option Agreement between Health Card and Paul J. Konigsberg dated April 9, 2003
10.87 Stock Option Agreement between Health Card and Bert E. Brodsky dated February 20, 2001
10.88 Stock Option Agreement between Health Card and Gerald Shapiro dated February 20, 2001
10.89 Lease dated November 1, 2002 between B/A Airport Park Solutions, LLC and Health Card
10.90 Lease Addendum dated March 10, 2003 between B/A Airport Park Solutions, LLC and Health Card
10.91 Lease Agreement dated November 18, 2002 between Sunbeam Development Corporation and
NMHCRx Mail Order, Inc.
10.92 Lease Expansion and Modification Agreement dated July 31, 2003 between Sunbeam Development
Corporation and NMHCRx Mail Order, Inc.
10.93 AmerisourceBergen Prime Vendor Agreement, dated July 21, 2003 between NMHCRx Mail Order, Inc.
d/b/a NMHCmail and AmerisourceBergen Drug Corporation
14. Code of Ethics
21. List of Subsidiaries
23.1 Consent of Ernst & Young LLP to the incorporation by reference in the
Registration Statement on Form S-8 (File No. 333-8224) of its report
dated September 29, 2003
23.2 Consent of Goldstein Golub Kessler LLP to the incorporation by reference in the
Registration Statement on Form S-8 (File No. 333-8224) of its report
dated September 29, 2003
31.1 Rule 13a-14(a)/15d-14(a) Certification of CEO pursuant to Section 302 of
the Sarbanes-Oxley Act 31.2 Rule 13a-14(a)/15d-14(a) Certification of CFO
pursuant to Section 302 of the Sarbanes-Oxley Act
32.1 Section 1350 Certification of CEO as adopted by Section 906 of the Sarbanes-Oxley Act
32.2 Section 1350 Certification of CFO as adopted by Section 906 of the Sarbanes-Oxley Act
(1) Denotes document filed as an Exhibit to Health Card's Registration
Statement on Form S-1 (Registration Number: 333-72209) and incorporated herein
by reference.
(2) Denotes documentation filed as an Exhibit to Health Card's Report on
Form 10-K for the fiscal year ended June 30, 1999.
(3) Denotes document filed as an Exhibit to Health Card's Form 8-K for an
event dated July 20, 2000 and incorporated herein by reference.
(4) Denotes documentation filed as an Exhibit to Health Card's Report on
Form 10-K for the year ended June 30, 2000.
(5) Denotes document filed as an Exhibit to Health Card's Form 8-K for an
event dated March 5, 2001.
(6) Denotes document filed as an Exhibit to Health Card's Report on Form
10-K for the year ended June 30, 2001.
(7) Denotes document filed as an Exhibit to Health Card's Definitive Proxy
Statement on Schedule 14-A filed on December 21, 2001 and incorporated herein by
reference.
(8) Denotes document filed as an Exhibit to Health Card's Current Report on
Form 8-K for events dated January 29, 2002 and incorporated herein by reference.
(9) Denotes document filed as an Exhibit to Health Card's Amendment number
1 on Form 8-K/A filed with the Securities and Exchange Commission on May 21,
2002 and incorporated herein by reference.
(10) Denotes document filed as an Exhibit to Health Card's Form 10-Q for
the quarter ended September 30, 2002 and incorporated herein by reference.
(11) Denotes document filed as an Exhibit to Health Card's Definitive Proxy
Statement on Schedule 14-A on October 25, 2002 and incorporated herein by
reference.
(b) Reports on Form 8-K
A Form 8-K was filed with the Securities and Exchange Commission on May 16,
2003 and August 12, 2003.
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.
NATIONAL MEDICAL HEALTH CARD SYSTEMS, INC.
- -----------------------------------------------------------------------
(Registrant)
By /s/Bert E. Brodsky
--------------------------------------------------------------------
Bert E. Brodsky, Chairman
Date: September 29, 2003
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.
By /s/ Bert E. Brodsky
--------------------------------------------------------------------
Bert E. Brodsky, Chairman of the Board
Date: September 29, 2003
By /s/ Gerald Shapiro
---------------------------------------------------------------------
Gerald Shapiro, Vice Chairman of the Board, Secretary
Date: September 29, 2003
By /s/ James J. Bigl
-------------------------------------------------------------------
James J. Bigl, Chief Executive Officer, Principal Executive
Officer and Director
Date: September 29, 2003
By /s/ Gerald Angowitz
-------------------------------------------------------------------
Gerald Angowitz, Director
Date: September 29, 2003
By /s/ Kenneth J. Daley
-------------------------------------------------------------------
Kenneth J. Daley, Director
Date: September 29, 2003
By /s/ Paul J. Konigsberg
-------------------------------------------------------------------
Paul J. Konigsberg, Director
Date:September 29, 2003
By /s/ Ronald L. Fish
-------------------------------------------------------------------
Ronald L. Fish, Director
Date: September 29, 2003
By /s/ David J. Gershen
-------------------------------------------------------------------
David J. Gershen, Principal Financial and Accounting Officer
Date: September 29, 2003
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
- ------------------------------------------------------------------------------
Independent Auditors' Reports F-2 - F-3
Consolidated Financial Statements:
Balance Sheet F-4
Statement of Income F-5
Statement of Stockholders' Equity F-6
Statement of Cash Flows F-7
Notes to Consolidated Financial Statements F-8 - F-31
Report of Independent Auditors
The Board of Directors and Stockholders of
National Medical Health Card Systems, Inc. and Subsidiaries
We have audited the accompanying consolidated balance sheets of National
Medical Health Card Systems, Inc. and subsidiaries as of June 30, 2003 and 2002,
and the related consolidated statements of income, stockholders' equity, and
cash flows for the years then ended. Our audits also included the financial
statement schedule listed in the index at Item 15(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 auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of National
Medical Health Card Systems, Inc. and subsidiaries at June 30, 2003 and 2002,
and the consolidated results of their operations and their cash flows for the
years then ended in conformity with accounting principles generally accepted in
the United States. 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.
As discussed in note 1 to the consolidated financial statements, the
Company changed its method of accounting for goodwill and other intangible
assets effective July 1, 2001.
/s/ Ernst & Young LLP
Melville, New York
September 5, 2003
F-2
INDEPENDENT AUDITOR'S REPORT
Board of Directors
National Medical Health Card Systems, Inc.
We have audited the accompanying consolidated statements of income,
stockholders' equity (deficiency), and cash flows for the year ended June 30,
2001 of National Medical Health Card Systems, Inc. and Subsidiaries. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audit.
We conducted our audit in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the results of National Medical Health
Card Systems, Inc. and Subsidiaries' operations and their cash flows for the
year ended June 30, 2001 in conformity with accounting principles generally
accepted in the United States of America.
GOLDSTEIN GOLUB KESSLER LLP
New York, New York
August 31, 2001
F-3
NATIONAL MEDICAL HEALTH CARD SYSTEMS, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------------------------------------
CONSOLIDATED BALANCE SHEET
($ in thousands)
- -------------------------------------------------------------------------------------------------------------------
June 30, June 30,
Assets 2002 2003
---- ----
Current:
Cash and cash equivalents (including cash equivalent investments of $1,187 $ 1,768 $ 5,222
and $1,189, respectively)
Restricted cash 2,653 2,383
Accounts receivable, less allowance for doubtful accounts of $2,248
and $2,014, respectively 59,285 52,022
Rebates receivable 15,775 24,584
Due from affiliates 504 4,165
Deferred tax assets 1,542 2,065
Other current assets 610 1,714
- ---------------------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------------
Total current assets 82,137 92,155
Property, equipment and software development costs, net 9,031 8,239
Due from affiliates 3,620 -
Intangible assets, net of accumulated amortization of $406 and $1,210,
respectively 2,523 2,291
Goodwill 52,035 53,669
Other assets 549 386
- ---------------------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------------
Total Assets $ 149,895 $ 156,740
- ---------------------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------------
Liabilities and Stockholders' Equity
Current Liabilities:
Accounts payable and accrued expenses $ 100,525 $ 106,675
Revolving credit facility and loans payable-current 13,835 15,683
Convertible notes payable 8,000 -
Current portion of capital lease obligations 556 481
Due to officer/stockholder 696 1,117
Income Taxes payable - 629
Other current liabilities 1,178 137
- ---------------------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------------
Total current liabilities 124,790 124,722
Capital lease obligations, less current portion 809 327
Other long term liabilities 865 1,020
Deferred tax liability 2,154 2,245
- ---------------------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------------
Total liabilities 128,618 128,314
- ---------------------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------------
Commitments and Contingencies
Stockholders' Equity:
Preferred stock $.10 par value; 10,000,000 shares authorized, none outstanding - -
Common Stock, $.001 par value, 25,000,000 shares authorized, 7,550,239 and
7,812,907 shares issued, 7,359,239 and 7,621,907 outstanding, respectively 8 8
Additional paid-in-capital 14,292 15,027
Retained earnings 7,721 14,135
Treasury stock at cost, 191,000 shares (744) (744)
- ---------------------------------------------------------------------------------------------------------------------------
Total stockholders' equity 21,277 28,426
- ---------------------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------------
Total Liabilities and Stockholders' Equity $ 149,895 $ 156,740
- ---------------------------------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements
F-4
NATIONAL MEDICAL HEALTH CARD SYSTEMS, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------------------------------------
CONSOLIDATED STATEMENT OF INCOME
(All amounts in thousands, except per share amounts)
Years ended June 30,
2001 2002 2003
---- ---- ----
- --------------------------------------------------------------------------------------------------------------------
Revenue $ 272,119 $ 459,832 $ 573,266
Cost of claims 249,572 424,733 525,472
- -------------------------------------------------------------------------------------------------------------------
Gross profit 22,547 35,099 47,794
Selling, general and administrative expenses* 21,423 27,230 35,974
- ------------------------------------------------------------------------------------------------------------------
Operating income 1,124 7,869 11,820
- ------------------------------------------------------------------------------------------------------------------
Other income (expense):
Interest expense (236) (1,125) (1,209)
Interest income 1,113 522 252
Other income, net - 101 153
- ------------------------------------------------------------------------------------------------------------------
877 (502) (804)
- ------------------------------------------------------------------------------------------------------------------
Income before provision for income taxes 2,001 7,367 11,016
Provision for income taxes 843 2,900 4,602
- ------------------------------------------------------------------------------------------------------------------
Net income $ 1,158 $ 4,467 $ 6,414
==================================================================================================================
Earnings per common share:
Basic $ 0.16 $ 0.62 $ 0.85
==================================================================================================================
Diluted $ 0.16 $ 0.56 $ 0.80
==================================================================================================================
Weighted-average number of common shares outstanding:
Basic 7,101 7,213 7,590
==================================================================================================================
Diluted 7,200 7,909 8,036
==================================================================================================================
* Includes amounts charged by affiliates aggregating: $ 4,081 $ 1,889 $ 862
- ------------------------------------------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements
F-5
NATIONAL MEDICAL HEALTH CARD SYSTEMS, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------------------------------------------
Consolidated Statement Of Stockholders' Equity
(All amounts in thousands)
Notes
Receivable Preferred Stock Common Stock Additional Retained Treasury Stock
---------- --------------- ------------ ----------- --------- --------------
Stockholders Shares Amount Shares Amount Paid-in-Capital Earnings Shares Amount
------------ ------ ------ ------ ------ --------------- -------- ------ ------
Balance at June 30, 2000 $ (339) - $ - 6,912 $ 7 $ 12,405 $ 2,096 191 $ (744)
Principal paid on notes receivable 65 - - - - - - - -
Interest paid on notes receivable (26) - - - - - - - -
Stock issued - PAI acquisition - - - 400 - 850 - - -
Net income - - - - - - 1,158 - -
--------------------------------------------------------------------------------------------------------------------------------
--------------------------------------------------------------------------------------------------------------------------------
Balance at June 30, 2001 (300) - - 7,312 7 13,255 3,254 191 (744)
Principal paid on notes receivable 300 - - - - - - - -
Exercise of stock options - - - 175 1 787 - - -
Stock issued - PAI acquisition - - - 63 - 250 - - -
Net income - - - - - - 4,467 - -
--------------------------------------------------------------------------------------------------------------------------------
--------------------------------------------------------------------------------------------------------------------------------
Balance at June 30, 2002 - - - 7,550 8 14,292 7,721 191 (744)
Exercise of stock options - - - 221 - 485 - - -
Stock issued - PAI acquisition - - - 42 - 250 - - -
Net income - - - - - - 6,414 - -
--------------------------------------------------------------------------------------------------------------------------------
--------------------------------------------------------------------------------------------------------------------------------
Balance at June 30, 2003 $ - - $ - 7,813 $ 8 $ 15,027 $14,135 191 $ (744)
--------------------------------------------------------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements
F-6
NATIONAL MEDICAL HEALTH CARD SYSTEMS, INC. AND SUBSIDIARIES
- --------------------------------------------------------------------------------------------------------------------------
CONSOLIDATED STATEMENT OF CASH FLOWS
($ in thousands)
Years Ended June 30,
---------------------------------------
---------------------------------------
2001 2002 2003
---- ---- ----
Cash flows from operating activities:
Net income $ 1,158 $ 4,467 $ 6,414
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 2,585 3,264 4,437
Amortization of deferred gain - (102) (153)
Net gain on disposal of capital assets - (331) (13)
Provision for doubtful accounts 857 546 164
Compensation expense accrued to officer/stockholder 482 154 821
Deferred income taxes 391 13 (433)
Interest accrued on stockholders'/affiliate's loans (26) - (165)
Changes in assets and liabilities, net of effect from acquisitions:
Restricted cash (468) (1,055) 270
Accounts receivable (10,155) (29,750) 7,486
Rebates receivable (1,304) (7,986) (8,809)
Other current assets (594) 387 (1,028)
Due to/from affiliates (346) 351 (276)
Other assets 42 (54) (19)
Accounts payable and accrued expenses 19,527 41,713 6,844
Income taxes payable and other current liabilities (56) 83 (163)
Other long term liabilities (2) 715 308
- --------------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 12,091 12,415 15,685
- --------------------------------------------------------------------------------------------------------------------------
- ------------ -------------------------------------------------------------------------------------------------------------
Cash flows from investing activities:
Capital expenditures (3,842) (3,196) (2,468)
Acquisition of Integrail, net of cash acquired - - (1,482)
Acquisition of Centrus, net of cash acquired - (40,287) (1,070)
Acquisition of PAI, net of cash acquired (4,614) (1,000) (1,000)
Acquisition of PMP, net of cash acquired (6,706) - -
Proceeds from disposal of capital assets 30 1,321 22
Repayment of note by stockholder - 300 -
Principal received on notes from stockholders 65 - -
- --------------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------------
Net cash used in investing activities (15,067) (42,862) (5,998)
- --------------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------------
Cash flows from financing activities:
Proceeds from exercise of stock options - 788 485
Proceeds from convertible note offering - 11,600 -
Repayment of convertible note offering - (3,600) (8,000)
Proceeds from revolving credit facility 4,000 28,700 688,750
Repayment of revolving credit facility (4,000) (14,887) (686,901)
Deferred financing costs - (486) 183
Repayment of debt and capital lease obligations (742) (777) (750)
- ------------ -------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------------
Net cash (used in) provided by financing activities (742) 21,338 (6,233)
- --------------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------------
Net (decrease) increase in cash and cash equivalents (3,718) (9,109) 3,454
Cash and cash equivalents at beginning of year 14,595 10,877 1,768
- --------------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents at end of year $ 10,877 $ 1,768 $ 5,222
- --------------------------------------------------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements
F-7
NATIONAL MEDICAL HEALTH CARD, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(All $ in thousands, except per share amounts)
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
1. PRINCIPAL BUSINESS ACTIVITY AND SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES: National Medical Health Card Systems, Inc. (the "Company," "Health
Card") provides comprehensive pharmacy benefit management ("PBM") services to
plan sponsors, which include managed care organizations, local governments,
unions, corporations and third party health care plan administrators through its
network of licensed pharmacies throughout the United States. The Company's
pharmacy benefit management services include electronic point-of-sale pharmacy
claims management, retail pharmacy network management, mail order pharmacy
claims management, specialty pharmacy claims management, benefit design
consultation, preferred drug management programs, drug review and analysis,
consulting services, disease information services, data access, reporting and
information analysis, and physician profiling. In addition, the Company operates
a mail order pharmacy, a specialty pharmacy, and health informatics company.
The audited consolidated financial statements include the accounts of
National Medical Health Card Systems, Inc., and its wholly owned subsidiaries,
Pharmacy Associates, Inc. ("PAI"), Interchange PMP, Inc. ("PMP"), Centrus
Corporation f/k/a HSL Acquisition Corp. (see Note 2) ("Centrus") National
Medical Health Card IPA, Inc. ("IPA"), Specialty Pharmacy Care, Inc.
("Specialty"), NMHCRX Contracts, Inc. ("Contracts"), PBM Technology Inc. ("PBM
Tech"), NMHCRX Mail Order, Inc. ("Mail Order") and Integrail, Inc.
("Integrail"). Also included on a consolidated basis are the accounts of NMHC
Funding, LLC ("Funding"), a limited liability company of which the Company and
some of its subsidiaries are the owners of all of the membership interests.
Unless the context otherwise requires, references herein to the "Company" or
"Health Card" refer to the Company and its subsidiaries, on a consolidated
basis. All material intercompany balances and transactions have been eliminated
in the consolidation
In October 1998, the Company acquired IPA, which is an independent practice
association under the laws of New York. The Company acquired PSCNY IPA, Inc.
(`PSCNY") as part of the Centrus Acquisition (see Note 2). Health Card's IPA was
dissolved. PSCNY was utilized by Centrus to contract with Health Maintenance
Organizations or providers containing financial risk-sharing provisions which
represents some of Centrus' largest sponsors. PSCNY's name was changed to IPA in
September 2002. IPA is subject to the regulatory authority of the Department of
Health and the laws, rules and regulations applicable to independent practice
associations in New York.
Specialty was incorporated in January 2000. This wholly owned subsidiary
was established to provide manufacturer rebate administration services to Health
Card. Effective as of April 2000, Health Card began to enter into rebate
agreements directly with drug manufacturers. Although some of these agreements
are between Health Card and drug manufacturers, Specialty administers these
contracts on behalf of Health Card. Specialty is paid administrative fees by the
drug manufacturers and/or retains a percentage of rebates collected. Currently,
Specialty does not have any full-time employees. Specialty reimburses the
Company for the use of its employees on an as-needed basis.
In April, 2002, Contracts was incorporated. This subsidiary was formed to
contract with certain larger sponsors. The nature of the contractual terms with
these sponsors leads the Company to recognize revenue on a net basis (see
revenue recognition policy below). Contracts does not currently have any full
time employees.
PBM Tech was incorporated in April 2002. This subsidiary was formed to
manage the Company's intellectual property. PBM Tech maintains an office in
Wilmington, Delaware and employs its own employees.
NMHCRX Mail Order, Inc. was incorporated in August 2002 to provide mail
order pharmacy services to the Company's existing sponsors as well as other
small regional PBMs. Prior to opening its own facility in Miramar, Florida, the
Company outsourced all its mail order business. The subsidiary has its own
employees and rents the facility, including a warehouse, from an unrelated third
party. All revenue generated by Mail Order for fulfillment of prescriptions for
the Company's members, with the exception of co-pays collected from members, is
eliminated in consolidation. The revenue is eliminated on Mail Order's books as
the revenue is recorded in the Company's PBM's books, as it is the entity that
has contracted with the sponsor.
The Company considers all highly liquid debt instruments and other
short-term investments with an initial maturity date of three months or less
from purchase date to be cash equivalents. These also include short-term, highly
liquid municipal bonds with interest rates that are reset monthly which are
readily convertible into cash at par value (cost). Restricted cash balances at
June 30, 2002 and 2003 includes approximately $2,653 and $2,383, respectively,
which are restricted as to their use as related to the maintenance of minimum
cash balances in accordance with Ohio statute.
The Company has historically entered into two types of arrangements for the
payment of administrative fees: fee for service (per claim charges) and
capitation (per member per month charges). Under the fee for service
arrangement, the Company is paid by its sponsors for the Company's contractually
agreed upon rates based upon actual claims adjudicated plus a fixed transaction
fee. Under the capitation arrangement, the Company receives its fee based on the
number of participants per month and pays for the cost of prescriptions filled
and thus shares the risk of operating profit or loss with these plans. Since
January 1, 2000, all services have been provided by the Company on a fee for
service basis only.
Revenue under the fee for service arrangement related to the sales of
prescription drugs by the Company's nationwide network of pharmacies is
recognized when the claims are adjudicated. At the point-of-sale, the pharmacy
claims are adjudicated using the Company's on-line processing system.
Adjudication is the process by which the plan participant is checked for
eligibility of coverage, the prescription is compared to the plan parameters
established by the sponsor, the particular drug is reviewed for
contraindications based upon the plan participant's drug history, age and sex,
and the information is placed into a database available for reporting and query.
The Company invoices plan sponsors and includes as revenue the Company's
administrative fees and charges relating to pharmaceuticals dispensed by the
Company's network of pharmacies. Revenue is reduced by the amount of rebates
paid to the Company's sponsors. Cost of claims includes the amounts paid to the
Company's network of pharmacies for pharmaceutical claims reduced by gross
rebates received from drug manufacturers. The Company does not take possession
or legal ownership of the pharmaceutical drugs dispensed by the pharmacy network
excluding its own mail order facility. The Company assumes the legal
responsibility and financial risk of paying for dispensed pharmaceuticals
whether or not the Company is paid by its sponsors.
The specific terms of the contracts that Health Card enters into with its
sponsors will determine whether Health Card recognizes the gross revenue related
to the cost of the prescriptions filled. In certain cases, the Company has not
recognized the gross revenue or cost related to prescriptions filled for a
specific sponsor. This has no impact on the Company's gross profit since neither
the revenue nor the related cost of the prescriptions is recorded.
The Company follows the provisions of EITF 00-14, Accounting for Certain
Sales Incentives - Coupons, Rebates and Discounts in connection with the
Company's rebates to sponsors. These rebates are recognized when the Company is
entitled to them in accordance with the terms of the Company's arrangements with
drug manufacturers, third party rebate administrators, and the Company's
sponsors, and when the amount of the rebates is determinable. The Company
records the gross rebate receivable and the appropriate payable to the sponsors
based on estimates, which are subject to final settlement. The estimates are
based upon the claims submitted and the Company's rebate experience, and are
adjusted as additional information becomes available. Currently some rebates are
processed by a third party rebate administrator and the remaining rebates are
submitted by Specialty directly to the drug manufacturers for reimbursement. For
the years ended June 30, 2001, 2002 and 2003 the rebates retained by the Company
were approximately $4,255, $6,513 and $5,398, respectively.
Mail Order began filling prescriptions out of the Miramar facility on
August 1, 2003. Mail Order maintains an inventory of pharmaceuticals, which it
purchases from a drug wholesaler or direct from the manufacturer. Mail Order
recognizes revenue at the point of adjudication for both the co-pay collected
from the individual member, as well as for the "sale" of the prescription to the
PBM at specified prices. Revenue from this sale is eliminated in consolidation.
Inventory is stated at the lower of cost (first in, first out method) or market.
Integrail invoices its customers quarterly primarily for license fees,
connectivity charges, analytical support and implementation charges. Based upon
the contract with the customer, they are invoiced either retroactively or
prospectively. Revenue is recognized equally over the quarter that is invoiced
for. License fees are based on an annual formula, which includes a flat base fee
and then a per member amount charge when the number of members exceeds various
thresholds.
Property and equipment is recorded at cost. Depreciation is provided for by
the straight-line method over the estimated useful lives of the property and
equipment (generally 3 to 7 years). Leasehold improvements are amortized on a
straight-line basis over the shorter of the term of the lease or the estimated
useful lives of the assets.
The costs of software developed for internal use incurred during the
preliminary project stage are expensed as incurred. Direct costs incurred during
the application development stage are capitalized. Costs incurred during the
post-implementation/operation stage are expensed as incurred. Capitalized
software development costs are amortized on a straight-line basis over their
estimated useful lives. During the years ended June 30, 2002 and 2003,
approximately $824 and $1,012, respectively, in software development costs
related to internal programming time were capitalized.
Amortization of capitalized amounts commences on the date the software is
placed into use and is computed using the straight-line method over the
estimated economic life of the software, which prior to June 2001 was five years
and subsequently has been primarily three years. Amortization expense was
approximately $1,327, $1,834, and $2,245 for the years ended June 30, 2001, 2002
and 2003, respectively.
A significant portion of the Company's computer software for its reporting
system was previously developed by a company affiliated by common ownership (see
Note 4). Currently, the Company's development is performed by its own employees
or by unrelated third party consultants. The cost includes development of
software programs and enhancements, which may either expand or modify existing
programs which allows the Company to do customized reporting from its claims
adjudication system.
The Company accounts for income taxes in accordance with SFAS No. 109,
Accounting for Income Taxes. Under this standard, deferred taxes on income are
provided for those items for which the reporting period and methods for income
tax purposes differ from those used for financial statement purposes using the
asset and liability method. Deferred income taxes are recognized for the tax
consequences of "temporary differences" by applying enacted statutory rates
applicable to future years to differences between the financial statement
carrying amounts and the tax bases of existing assets and liabilities.
Basic earnings per share has been computed using the weighted-average
number of shares of common stock outstanding. Diluted earnings per share has
been computed using the basic weighted-average shares of common stock issued
plus outstanding stock options and warrants, and contingently issuable shares,
in the periods in which such options and warrants, and contingently issuable
shares have a dilutive effect under the treasury stock method.
The Company accounts for stock option grants to employees under the
recognition and measurement principles of APB No. 25, "Accounting for Stock
Issued to Employees," and related Interpretations. Under APB No. 25, because the
exercise price of the Company's employee stock options equals the market price
of the underlying stock on the date of grant, no compensation expense is
recorded.
Pro forma information regarding net loss applicable to common stockholders
is required by SFAS 123, "Accounting for Stock-Based Compensation," which also
requires that the information be determined as if the Company has accounted for
its stock options under the fair value method of that statement. For purposes of
pro forma disclosures, the estimated fair value of the options is amortized to
expense over the options' vesting period. The fair value for these options was
estimated using the Black-Scholes option-pricing model with the following
weighted-average assumptions used for all grants in the years ended June 30,
2001, 2002, and 2003: no dividend yield, weighted-average expected life of the
option of five years, risk-free interest rate ranges of .84% to 5.82% and a
volatility of 90.8%, 86.2%, and 83.2%, respectively, for all grants. The
weighted-average value of options granted is $.96, $6.77, and $4.99 for the
three years ended June 30, 2001, 2002, and 2003.
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure." SFAS No. 148 amends SFAS No. 123,
"Accounting for Stock-Based Compensation," to provide alternative methods of
transition to SFAS No. 123's fair value method of accounting for stock-based
employee compensation. SFAS No. 148 also amends the disclosure provisions of
SFAS No. 123 to require disclosure in the summary of significant accounting
policies of the effects of an entity's accounting policy with respect to
stock-based employee compensation on reported net income. While SFAS No. 148
does not amend SFAS No. 123 to require companies to account for employee stock
options using the fair value method, the disclosure provisions of SFAS No. 148
are applicable to all companies with stock-based employee compensation,
regardless of whether they account for that compensation using the fair value
method of SFAS No. 123 or the intrinsic value method of APB No. 25. The Company
adopted SFAS No. 148 effective December 31, 2002.
The following table illustrates the effect on net loss if the Company had
applied the fair value recognition provisions of SFAS No. 123 to stock-based
compensation:
Year ended June 30, 2001 2002 2003
----------------------------------------------------------------------------
Reported net income $1,158 $4,467 $6,414
Stock compensation expense
included in net income - - -
Pro forma compensation expenses (320) (666) (1,574)
----------------------------------------------------------------------------
Pro forma net income $ 838 $3,801 $4,840
============================================================================
Pro forma earnings per share:
Basic $ .12 $ .53 $ .64
Diluted $ .12 $ .48 $ .60
============================================================================
The Company may be subject to a concentration of credit risk with respect
to its trade receivables. The Company performs ongoing credit evaluations of its
customers and generally does not require collateral. The Company maintains
allowances to cover potential or anticipated losses for uncollectible accounts.
Financial instruments which potentially subject the Company to
concentrations of credit risk are cash balances deposited in financial
institutions which exceed FDIC or SIPC insurance limits. Amounts on deposit with
financial institutions, which exceeded the FDIC or SIPC insurance limits at June
30, 2002 and 2003, were approximately $7,710 and $5,694, respectively.
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires the Company to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenue and expenses during
the reporting period. Actual results could differ from those estimates.
The carrying amounts of financial instruments, including cash, accounts
receivable, accounts payable, accrued liabilities, and revolving credit
facility, approximate fair value because of the current nature of these
instruments. Loans due from affiliates and an officer bear market interest
rates; therefore, the Company believes that the carrying amount approximates
fair value.
For comparability, certain 2001 and 2002 amounts have been reclassified,
where appropriate, to conform to the financial statement presentation used in
2003.
In July 2001, the Financial Accounting Standards Board ("FASB") issued SFAS
Nos. 141 and 142, Business Combinations and Goodwill and Other Intangibles,
respectively. FASB 141 requires all business combinations initiated after June
30, 2001 to be accounted for using the purchase method. Under FASB 142, goodwill
is no longer subject to amortization over its estimated useful life. Rather,
goodwill is subject to at least an annual assessment for impairment by applying
a fair-value based test. Additionally, an acquired intangible asset should be
separately recognized if the benefit of the intangible asset is obtained through
contractual or other legal rights, or if the intangible asset can be sold,
transferred, licensed, rented or exchanged, regardless of the acquirer's intent
to do so. The Company has adopted SFAS Nos. 141 and 142 as of July 1, 2001 and
has performed the requisite impairment testing. As of June 30, 2003 there is no
impairment to the goodwill recorded on the accompanying balance sheet.
SFAS 142 requires the disclosure of net income and earnings per share
computed on a pro forma basis by reversing the goodwill amortized in the periods
presented. Such pro forma disclosures are required in the period of adoption and
thereafter until all periods presented reflect goodwill accounted for in
accordance with SFAS 142. The goodwill amortized in the year ended June 30, 2001
was $396. Therefore, had SFAS 142 been effective prior to July 1, 2001, the
Company's net income would have been $1,554 or $0.22 per basic and diluted share
for the year ended June 30, 2001.
The Company follows the provisions of SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets, that is applicable to financial
statements issued for fiscal years beginning after December 15, 2001, with
transition provisions for certain matters. FASB's new rules on asset impairment
supersede SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and
for Long-Lived Assets to be Disposed of, and provide a single accounting model
for long-lived assets to be disposed of. Although retaining many of the
fundamental recognition and measurement provisions of SFAS No. 121, the new
rules significantly change the criteria that would have to be met to classify an
asset as held-for-sale. The new rules supersede the provisions of Accounting
Principals Board Opinion No. 30 ("APB No. 30") with regard to reporting the
effects of a disposal of a segment of a business and require expected future
operating losses from discontinued operations to be displayed in discontinued
operations in the period in which the losses are incurred rather than as of the
measurement date as presently required by APB No. 30. In addition, more
dispositions will qualify for discontinued operations treatment in the income
statement. The implementation of SFAS No. 144 had no impact on the Company's
financial statements as of and for the year ending June 30, 2003.
Prior to July 1, 2002, long-lived assets were evaluated for impairment when
events or changes in circumstances indicated that the carrying amount of the
assets may not be recoverable through the estimated undiscounted future cash
flows from the use of these assets. When any such impairment existed, the
related assets would have been written down to fair value. No such impairment
existed through June 30, 2002.
2. ACQUISITIONS: As of November 1, 2002, the Company and its wholly-owned
subsidiary, Integrail Acquisition Corp., entered into an Asset Purchase
Agreement with Health Solution, Ltd. ("HSL"), a New York corporation, and
certain of its security holders (together with HSL, the "Sellers"). Pursuant to
the Agreement, Health Card acquired substantially all of the assets of the
Integrail division of HSL's operations, for a purchase price of $1,400.
Integrail provides software and analytical tools in the area of informatics
which allows for the blending of medical and pharmacy data to predict future
outcomes.
Half of the $1,400 purchase price was paid at the closing directly to the
Sellers, and half was deposited into escrow as security for the performance of
certain indemnification obligations of the Sellers. The Company acquired
approximately $500 of HSL's assets, which included $158 of property and
equipment, $225 of software, $76 of prepaid expenses, and $41 of accounts
receivable. The Company also agreed to assume approximately $500 of liabilities
related to Integrail, which included $166 of debt under capital leases, $75 of
miscellaneous payables, and $259 due to HSL for prior equipment and services
provided to Integrail by HSL. The acquisition was accounted for under the
purchase method of accounting and the results of Integrail's operations were
included in the consolidated financial statement commencing with the acquisition
date. The excess of the acquisition costs over the fair value of identifiable
net assets acquired was $1,482, which consists of the following components; (i)
software and company know how valued at $575, which will be amortized over three
(3) years; and (ii) goodwill of $907, which will not be amortized for book
purposes per SFAS 142 (see Note 1). The allocation of the purchase price is
preliminary subject to final valuation. For tax purposes, the goodwill and other
intangibles will be amortized over fifteen years. Funds for this transaction
were supplied by the Company's revolving credit facility. The agreement provides
that if certain operational milestones are achieved over the next 12 months,
certain amounts will be released from the escrow to the Sellers.
The Company entered into an Asset Purchase Agreement (the "Asset Purchase
Agreement"), dated as of January 29, 2002, with HSL, HSL Acquisition Corp., a
Delaware corporation and a wholly-owned subsidiary of the Company ("Sub"), and
the security holders of HSL named therein, pursuant to which the Company agreed
to acquire certain assets of HSL relating to the pharmacy benefit management
business conducted by HSL under the name "Centrus" (the "Acquisition"). Centrus
provides PBM services primarily to managed care organizations in the northeast.
The Company intends to continue to use the Centrus assets to provide PBM
services. The Centrus business complements the Company's business while
significantly strengthening the Company's presence in the managed care market.
The aggregate purchase price of the Acquisition was $40,000 in cash, of
which $3,000 was held in escrow to secure certain indemnification obligations.
(All escrow funds have been released as of January 2003). The Company acquired
approximately $1,400 of HSL's assets which included $900 of property and
equipment and $500 of software. The Company also agreed to assume approximately
$1,400 of HSL's liabilities relating to the Centrus business which included
$1,100 of rebates due to sponsors, $100 of capital leases, and $200 of
miscellaneous payables. The acquisition was accounted for under the purchase
method of accounting and the results of Centrus' operations were included in the
consolidated financial statements commencing with the acquisition date. The
excess of the acquisition costs over the fair value of identifiable net assets
acquired was $40,672, which consists of the following components: (i) customer
relationships valued at $2,415, which will be amortized over five (5) years;
(ii) an employment agreement valued at $83, which will be amortized over two (2)
years: (iii) non-compete contracts valued at $76, which will be amortized over
four (4) years, and (iv) goodwill of $38,098, which will not be amortized for
book purposes per SFAS 142 (see Note 1). For tax purposes, the goodwill and
other intangibles will be amortized over fifteen years. In addition, the Company
has agreed to pay HSL, as additional purchase price, up to $4,000 over a period
of three (3) years if the acquired Centrus business achieves certain financial
performance targets during the two-year period following the Closing. HSL may
also be entitled to an additional incentive payment based on the financial
performance of the Centrus business during the one-year period following the
Closing.
The financial performance targets were achieved during the first year and
$2,000 has been earned. Of this amount, $1,000 was paid in May 2003 and another
$1,000 will be paid in May 2004. The additional incentive payment target was not
achieved and thus, there will be no payout of this item.
Simultaneously with the consummation of the Acquisition, the Company
entered into an Employment Agreement and a Stock Option Agreement with the
former president of Centrus, pursuant to which he will serve as President of PBM
Services for the Company. Additionally, several members of Centrus' management
team have joined the Company as employees and have been granted stock options to
purchase an aggregate of 300,000 shares of Common Stock, under the Company's
1999 Stock Option Plan, as amended.
On January 29, 2002, the Company and certain of its subsidiaries entered
into a $40,000 secured revolving credit facility (the "Facility") with HFG
Healthco-4 LLC, a specialty finance company. In connection with the Facility,
the Company and certain of its subsidiaries have agreed to transfer, on an
on-going basis, their accounts receivable to Funding. Funding utilizes those
receivables as collateral to secure borrowing under the Facility. The Facility
has a three year term, provides for borrowing up to $40,000 at the London
InterBank Offered Rate (LIBOR) plus 2.40% (3.5% at June 30, 2003) and is secured
by receivables and other assets of the Company and certain of its subsidiaries,
as defined. Borrowings of $28,700 under the Facility were used to finance part
of the purchase price of the Acquisition and will also be used by the Company
and certain of its subsidiaries for working capital purposes and future
acquisitions in support of its business plan. The outstanding balance as of June
30, 2003 was approximately $15,662, which is classified as short term. The
excess available balance on June 30, 2003 was approximately $24,338. The
Facility requires the Company to maintain certain financial and other covenants.
The Company was in compliance with all covenants at June 30, 2003. Details of
this financing are disclosed in Note 9 "Commitments and Contingencies".
On January 22, 2002 the Company completed a convertible note offering (the
"Note Offering") in the aggregate principal amount of $11.6 million, which was
subordinated to the Facility. Pursuant to the Note Offering, subscribers
received a promissory note (each a "Note") paying interest quarterly on the
unpaid principal balance at the rate of 12% per annum. The subscribers,
including two who are directors of the Company, were all accredited investors.
The Notes had a term of one year, unless otherwise extended pursuant to the
terms of the Note. The Notes were convertible at any time at the election of the
holders into shares of the common stock, par value $.001 per share (the "Common
Stock") of the Company ("Conversion Shares") at a conversion price of $12.00 per
share, the fair value of the Common Stock on January 22, 2002. The Note holders
were granted certain registration rights. Proceeds from the Note Offering were
used to finance part of the purchase price of the Acquisition. The Notes were
repaid in full on June 26, 2002. However, as of June 30, 2002, $8,000 of the
$11,600 had not yet cleared the bank for payment. As a result, this amount was
re-classified back to notes payables as of June 30, 2002. The $8,000 cleared the
bank in early July 2002 which eliminated the notes payable at that time.
On March 5, 2001, the Company acquired substantially all of the assets, and
certain of the liabilities, of Provider Medical Pharmaceutical, LLC ("PMP"), an
Oklahoma limited liability company, pursuant to an Asset Purchase Agreement
among the Company, a wholly owned subsidiary of the Company, PMP and the members
of PMP. The assets acquired from PMP included, among other things, PMP's
accounts receivable and intellectual property, PMP's rights under various
contracts and the goodwill value of PMP's business.
The purchase price for the assets consisted of (i) $4,000 in cash, (ii) the
satisfaction by the Company of PMP's bank indebtedness of $1,255, and (iii)
cancellation of the $1,500 promissory note from PMP to the Company, dated
January 16, 2001. Part of the cash portion of the purchase price ($722) was paid
into an escrow account to provide security for the indemnification obligations
of PMP and its members to the Purchaser. The acquisition was accounted for under
the purchase method of accounting and the results of PMP's operations were
included in the consolidated financial statements commencing with the
acquisition date. The excess of the acquisition costs over the fair value of
identifiable net assets acquired was $6,475 which consists of the following
components: (i) customer relationships valued at $305, which will be amortized
over 2.5 years using the straight-line method of amortization, and (ii) goodwill
of $6,170, which has not been amortized for book purposes since July 1, 2001 in
accordance with SFAS 142. For tax purposes, the goodwill and customer
relationships will be amortized over fifteen years. The Company will be required
to pay up to $1,000 of additional cash consideration if certain financial
targets relating to PMP's business are met over the first three years after
closing, which would be accounted for as an addition to goodwill. The targets
which were related to retaining specific contracts were not achieved in either
of the first two years and consequently no additional consideration was paid for
those periods.
Two claims were filed against the sellers of PMP by the Company for non
collection of certain accounts receivable and for certain other
misrepresentations. A settlement was reached whereby the Company received in
July 2003, $540 out of escrowed funds to cover both claims of which $346 was
applied towards reducing goodwill.
Pursuant to the terms of the Agreement and Plan of Merger between the
Company and Pharmacy Associates, Inc. ("PAI"), dated July 20, 2000 (the "PAI
Agreement"), the Company acquired PAI, a regional pharmacy benefit management
company operating in Arkansas, Louisiana and Mississippi. Under the terms of the
merger agreement, stockholders of PAI received an aggregate of $6,000 in cash
and 400,000 shares of the Company's common stock, which was valued at $850, on
the acquisition date. Of the 400,000 shares, 200,000 were placed in escrow for
two years to secure certain indemnification obligations. All of those shares
were released from escrow in July of 2002. The acquisition was accounted for
under the purchase method of accounting and the results of PAI's operations were
included in the consolidated financial statements commencing with the
acquisition date. The excess of the acquisition costs over the fair value of
identifiable net assets acquired was $6,345, which consists of the following
components: (i) customer relationships valued at $131, which was amortized
entirely over the first year, (ii) noncompete contracts valued at $44, which
will be amortized over five years using the straight-line method of
amortization, and (iii) goodwill of $6,170, which has not been amortized for
book purposes, since July 1, 2001 in accordance with SFAS 142. The goodwill
associated with this acquisition is not deductible for tax purposes. PAI
stockholders were entitled to receive additional consideration of up to $2,000
payable in a combination of cash and unregistered common stock over a two-year
period if certain financial targets of PAI are met, which will be accounted for
as an addition to goodwill. The financial targets were achieved for both years;
therefore, $750 in cash and $250 in Common Stock (62,500 shares valued at $4.00
per share) was paid and issued in August, 2001, and $750 in cash and $250 in
Common Stock (41,668 shares valued at $6.00 per share) were paid and issued in
August, 2002.
The following summarized unaudited pro forma results of operations set
forth below for the years ended June 30, 2002 and 2003 assume the Centrus and
Integrail acquisitions had occurred as of the beginning of these periods:
June 30, 2002 2003
- -------------------------------------------------------------------------------
Revenue $619,562 $573,485
Net income $1,145 $4,827
Net income per common share:
Basic $0.16 $0.64
Diluted $0.14 $0.60
Pro forma weighted-average number of
common shares outstanding:
Basic 7,212,536 7,590,425
Diluted 7,909,054 8,036,398
- -------------------------------------------------------------------------------
This pro forma financial information is presented for information purposes
only. The pro forma adjusted net income per common share, including
acquisitions, may not be indicative of actual results, primarily because pro
forma earnings include historical results of operations of the acquired entity
and do not reflect any cost savings or potential sales erosion that may result
from the Company's integration efforts.
The change in the carrying amount of goodwill for the year ended June 30,
2003 is as follows:
Balance as of July 1, 2002 $52,035
Centrus additional consideration earned 1,073
Integrail acquisition 907
Settlement of PMP preacquisition claim (346)
-------
Balance as of June 30, 2003 $53,669
Approximately $45,796 of the Company's June 30, 2003 goodwill is deductible
for income tax purposes on a straight-line basis over 15 years.
Acquired intangible assets subject to amortization consisted of the
following as of June 30:
2002 2003
========================== ==========================
========================== ==========================
Gross Gross
Asset Class Carrying Accumulated Carrying Accumulated
Amount Amortization Amount Amortization
--------- ------------ -------- ------------
Customer $ 2,720 $ 362 $ 2,720 $ 967
relationships
Non-compete 120 25 120 53
agreements
Employment 89 19 86 62
agreements
Company know how - - 575 128
-------- -------- --------- --------
-------- -------- --------- --------
$ 2,929 $ 406 $ 3,501 $ 1,210
========= ======== ========= ========
The weighted average remaining amortization period for all intangible
assets is approximately 3.2 years at June 30, 2003. Amortization period by
intangible asset class is as follows:
Asset Class Amortization Period
Customer relationships 2.5 - 5 years
Non-compete agreements 4 - 5 years
Employment agreements 2 years
Company know how 3 years
The aggregate amortization expense was approximately $804 for the year
ended June 30, 2003, and the estimated amortization for future years ended June
30 is as follows:
Year ending June 30,
2004 $749
2005 703
2006 561
2007 278
- -----------------------------------------------------------------------------
$2,291
=============================================================================
3. PROPERTY, Property, equipment and software development costs consist of the following:
EQUIPMENT
AND SOFTWARE Estimated
DEVELOPMENT June 30, 2002 2003 Useful Life
COSTS:
-----------------------------------------------------------------------------------
Equipment $ 3,748 $ 4,602 3 to 5 years
Software 9,673 11,241 3 to 5 years
Leasehold improvements 528 935 Term of lease
Automobile 44 44 5 years
Equipment acquired under
capital leases 2,575 2,575 5 to 8 years
- -----------------------------------------------------------------------------------------------------------------
16,568 19,397
Accumulated depreciation
and amortization 7,537 11,158
- -----------------------------------------------------------------------------------------------------------------
$9,031 $ 8,239
=================================================================================================================
Accumulated depreciation on equipment acquired under capital lease
obligations was $867 and $1,240 as of June 30, 2002 and 2003, respectively.
Depreciation and amortization expense on property, equipment and software
development costs for the years ended June 30, 2001, 2002, and 2003, was
approximately $2,028, $2,898, and $3,150, respectively.
4. RELATED PARTY TRANSACTIONS: Due to affiliates historically represented
trade payables for developed software, other software services, operating leases
and maintenance costs.
The Company had historically entered into various verbal and written
agreements with Sandata Technologies, Inc. ("Sandata") and its wholly owned
subsidiaries. The Company's Chairman of the Board is also a principal
stockholder of Sandata. Sandata provides computerized data processing services
and custom software and programming services.
As of June 30, 2001, Sandata owed Health Card $504, pursuant to a
promissory note, dated May 31, 2000, in the original principal amount of $500,
plus interest at the rate of 9 1/2%; interest on such note was payable quarterly
and such note was paid in full on May 31, 2001. On June 9, 2001, Sandata again
gave a promissory note to Health Card in the principal amount of $500, with
interest at the rate of 7%, which was to have been due on June 8, 2002. The note
was paid in full on August 15, 2001. As of June 30, 2003, Sandata owed Health
Card $11 for pharmacy benefit services.
Due from affiliates includes a note from another company affiliated by
common ownership. As of June 30, 2003, the balance due from this affiliate
including accrued interest was $3,782. Such amount bore interest at 8.5% per
annum, payable quarterly. The note was collateralized by 1,022,758 shares of
$.001 par value common stock of the Company registered in the name of the
Company's Chairman of the Board and was subject to his personal guarantee. The
note was payable in annual installments of $400, consisting of principal and
interest at the rate of 8 1/2% per annum on each of the first and second
anniversary dates, with the total remaining balance of principal and interest
due and payable on July 31, 2003. The first two $400 payments due under the note
as of July 31, 2001 and 2002 were satisfied by offsetting an equal amount owed
by the Company to the Chairman of the Board. The balance of the note, including
accrued interest, was paid in full on July 31, 2003. The note was satisfied
through a combination of monies owed by the Company to the Chairman of the Board
and a cash payment made by the affiliate to the Company. Effective July 31,
2001, the interest rate on the note was changed to the prime rate in effect from
time to time (4.25% at June 30, 2003). For the years ended June 30, 2001, 2002,
and 2003, the amount of interest income accrued related to this note was
approximately $340, $206, and $163, respectively.
On Feb 8, 2001, the President gave to the Company his Promissory Note in
the amount of $34 as evidence of the loan by the Company to the President. On
April 12, 2002, the Promissory Note was amended and the Company agreed to
increase the loan to $100. The loan bears interest at 8%, and is due on April
25, 2003. The interest rate was lowered effective July 1, 2002 to the rate at
which the Company borrows money (3.5% at June 30, 2003). The President's
repayment obligation under the Promissory Note has been absolved by the Company.
The Company set-off from the bonus paid the President in July 2003, as part of
his annual compensation, the amount that was otherwise payable by the President
under the Promissory Note including accrued interest.
In connection with a potential bonus, to be earned pursuant to an
employment agreement dated September 30, 2002, between the President of the
Company's mail order operations and the Company, the Company has loaned him $250
as an advance against the potential bonus. The loan is evidenced by a promissory
note executed by the Mail Order President in favor of the Company. The loan
bears an interest rate of 9% and is due and payable on September 30, 2003 in the
event the bonus is not earned.
The Company has accrued approximately $176 of interest income from
affiliates arising from the three loans described above during the year ended
June 30, 2003.
Certain costs paid to affiliates were capitalized as software development
costs. For the year ended June 30, 2002, the amounts charged by affiliates and
capitalized was approximately $96.
The Company purchased computer equipment and furniture and fixtures from
affiliates during the years ended June 30, 2002 and 2003 for approximately $122
and $4, respectively.
For the periods presented, certain general, administrative and other
expenses reflected in the financial statements include allocations of certain
corporate expenses from affiliates which take into consideration personnel,
estimates of the time spent to provide services or other appropriate bases.
These allocations include services and expenses for information systems
maintenance, financial consulting, employee benefits administration, legal
communications and other miscellaneous services.
Management believes the foregoing allocations were made on a reasonable
basis. Although these allocations do not necessarily represent the costs which
would have been or may be incurred by the Company on a stand-alone basis,
management believes that any variance in costs would not be material.
General and administrative expenses related to transactions with affiliates
included in the consolidated statement of income are:
Year ended June 30, 2001 2002 2003
- -------------------------------------------------------------------------------
Software maintenance and
related services and supplies (a) $ 1,244 $ 496 $0
Management and consulting fees (b) 1,294 303 84
Administrative, accounting
services and supplies (c) 894 548 236
Rent and utilities (d) 649 542 542
- -------------------------------------------------------------------------------
$4,081 $1,889 $862
===============================================================================
(a) A company affiliated by common ownership historically provided a
significant portion of the Company's software maintenance (Note 1), certain
other software services, computer hardware under operating leases and maintained
certain computer hardware.
(b) The Company incurred fees to certain other affiliated companies for
various management and consulting services.
(c) A company affiliated by common ownership provides the Company with
various administrative, legal and accounting services.
(d) See Note 9 for information regarding leases with related parties.
Notes receivable - stockholders represented a loan to a stockholder to
purchase the Company's stock. This note bore interest at 8.5% and had a
repayment date of July 1, 2002. The note was paid in full in January 2002.
For the years ended June 30, 2002 and 2003, the Company paid the annual
premium of approximately $60 on behalf of the Company's Chairman of the Board
for a life insurance policy. The aggregate amount of premiums paid for such
policy will be repaid to the Company upon the payment of the policy's benefits
to the beneficiary.
5. ACCOUNTS PAYABLE Accounts payable and accrued expenses consist of the following:
AND ACCRUED EXPENSES:
June 30, 2002 2003
-----------------------------------------------------------------------------------
Claims payable $78,436 $76,195
Rebates payable to sponsors 17,921 24,082
Trade payables, accrued expenses and other payables 4,168 6,398
- -----------------------------------------------------------------------------------------------------------------
$100,525 $106,675
=================================================================================================================
6. CAPITAL LEASE
OBLIGATIONS:
The following is a schedule, by year, of future
minimum lease payments under capitalized leases,
together with the present value of the net minimum
lease payments at June 30, 2003:
Payments for the year ending June 30,
2004 $533
2005 336
-----------------------------------------------------------------------------
Total minimum lease payments 869
Less amount representing interest 61
- -----------------------------------------------------------------------------
Present value of net minimum lease payments 808
Less current portion 481
- -----------------------------------------------------------------------------
Long-term lease obligations $327
=============================================================================
7. MAJOR CUSTOMERS AND PHARMACIES: For the year ended June 30, 2001,
approximately 16% of revenue was from one plan sponsor, which was the only
sponsor that represented more then 10% of the Company's revenues. For the year
ended June 30, 2002, approximately 15% and 10% of revenue was from two plan
sponsors. For the year ended June 30, 2003, approximately 28% of revenue was
from one plan sponsor. Amounts due from the respective sponsors at June 30, 2002
and 2003 approximated $13,386 and $7,049, respectively. As of June 30, 2003, the
Company's arrangement with its current major sponsor is for three years ending
December 31, 2005. One of the Company's major sponsors terminated its contract
as of June 30, 2002 and another one terminated its contract as of December 31,
2002.
During the year ended June 30, 2001, the Company settled certain fees due
from a major sponsor related to a capitation arrangement for calendar year 1999.
The impact of this settlement was to reduce revenue by $733. The calendar year
2000 and 2001 contract with this sponsor was no longer a capitation arrangement.
During the year ended June 30, 2001, the Company also reached an agreement with
a former major sponsor to settle amounts due. This settlement increased selling,
general and administrative expenses by $588.
For the year ended June 30, 2001, approximately 44% and 26%, respectively,
of the cost of claims were from two pharmacy chains. For the year ended June 30,
2002, approximately 22% of the cost of claims was from one pharmacy chain. For
the year ended June 30, 2003, approximately 21% and 11%, respectively, of the
cost of claims were from two pharmacy chains. Amounts payable to the two
pharmacy chains at June 30, 2003 was approximately $23,189.
8. TAXES ON INCOME:
Provisions for federal and state income taxes consist of the following:
- --------------------------------------------------------------------------------
Year ended June 30, 2001 2002 2003
Current:
Federal $364 $ 2,149 $ 3,953
State 89 738 1,085
- -------------------------------------------------------------------------------
453 2,887 5,038
- -------------------------------------------------------------------------------
Deferred:
Federal 324 23 (356)
State 66 (10) (80)
- -------------------------------------------------------------------------------
390 13 (436)
- -------------------------------------------------------------------------------
Total provision $843 $2,900 $4,602
===============================================================================
Differences between the federal statutory rate and the Company's effective tax
rate are as follows:
Year ended June 30, 2001 2002 2003
- -------------------------------------------------------------------------------
Statutory rate 34.0% 34.0% 35.0%
State taxes - net of federal taxes 5.1 5.1 6.7
Permanent differences 4.2 0.3 0.1
Other (1.2) -- --
- -------------------------------------------------------------------------------
42.1 % 39.4% 41.8%
===============================================================================
Deferred income tax assets (current and noncurrent)resulting from temporary
differences are as follows:
June 30, 2002 2003
- -------------------------------------------------------------------------------
Accounts receivable allowances $1,004 $836
Vacation expense accrual 100 138
Officer/stockholder bonus accrual 326 973
Deferred revenue 102 118
Other 10 -
- -------------------------------------------------------------------------------
$1,542 $2,065
===============================================================================
Deferred income tax liabilities of $2,154 and $2,245 at June 30, 2002 and
2003, respectively, resulted from temporary differences between depreciation and
amortization of property and equipment.
9. COMMITMENTS AND CONTINGENCIES: The Company currently occupies
approximately 26,500 square feet of office space at 26 Harbor Park Drive, Port
Washington, New York 11050 (the "Leased Premises"). The Company subleases the
Leased Premises from BFS Realty, LLC, an affiliate of the Chairman of the Board
(the "Affiliate"). The Affiliate leases the Leased Premises from the Nassau
County Industrial Development Agency, pursuant to a lease which was entered into
by the agency and the Affiliate in July 1994, and which expires in March 2005.
The Affiliate has the right to purchase the Leased Premises upon expiration of
this lease. The Affiliate subleases a portion of the Leased Premises to the
Company (the "Lease"). As of November 1, 2001, the Company and the Affiliate
amended the Lease. The Lease provides that, effective August 1, 2001, the rent
payable by the Company shall be an aggregate annual rent of $308. While formerly
the Company made estimated monthly real estate tax, utilities and maintenance
expense payments to the Affiliate, the Lease now provides that the Company will
pay its pro-rata share of such expenses directly, to the entities to whom
payment must be made. The Company estimates that such monthly expenses will
approximate an aggregate of $336, per year. The annual rent will increase by 5%
per year during the term of the Lease. The annual expenses are also expected to
increase, although the Company cannot estimate by how much. The Lease expires in
July, 2010. Additional space is currently being built in the Leased Premises
which will allow the Company to reconfigure its existing space and to move all
its employees in Port Washington into contiguous space. As part of this process,
the Company will reassess its space needs and occupy additional space as
required. It is expected that any additional space taken would not exceed an
annual rent of $200,000. The space is currently planned to be available by
January, 2004. Leasehold improvements made to this space during the years ended
June 30, 2002 and 2003 were approximately $60 and $1, respectively.
Pursuant to a lease dated August 10, 1998 and expiring on August 31, 2005,
Health Card occupies approximately 1,500 square feet at 63 Manorhaven Boulevard,
Port Washington, New York, which is used as a pharmacy. The landlord for these
premises is 61 Manorhaven Boulevard, LLC, of which the Company's Chairman is the
sole member. The current rent is $1,914 per month. The annual rent increases by
5% per year. Additional rent, in the form of certain expenses, is also payable.
In August 2001, the Company entered into a lease with P.W. Capital, LLC, an
affiliated Company, to rent a two family home for the use of out-of-town
employees while in Port Washington. The Company evaluated the cost of hotels for
these individuals and determined it was more cost efficient to rent the house at
a monthly rate of $5,500. During the fiscal year ended June 30, 2003, the
Company paid P.W. Capital, LLC, $66,000 in rent for this facility. For the same
reasons, the Company rents two houses from Living in Style, LLC, an entity owned
by three of the Company's executive officers. Pursuant to leases dated May 1,
2002 and expiring April 30, 2007, the Company paid an aggregate of $127,050 in
rent for these two facilities during the fiscal year ended June 30, 2003. The
annual rent for each of the facilities increases by 5% per year.
Additionally, the Company leases office space through its subsidiaries in
Little Rock, Arkansas, Tulsa, Oklahoma and Latham, New York. The Company also
leases space for its mail order pharmacy, plus warehouse space, in Miramar,
Florida. The aggregate annual rental payments for leased space in Little Rock,
Arkansas, Tulsa, Oklahoma and Latham, New York. The Company also leases space
for its mail order pharmacy, plus warehouse space in Miramar, Florida. The
aggregate annual rental payments for leased space in Little Rock are
approximately $194; for leased space in Tulsa are approximately $24; for Latham,
approximately $383; and for Miramar approximately $142. The Company intends to
move its current office space in Portland, Maine, which was acquired on July 31,
2003 (see Note 16), to a larger office and warehouse space in South Portland,
Maine.
Real estate rental expense, including utilities, for the years ended June
30, 2001, 2002, and 2003, was approximately $792, 1,169, and $1,792,
respectively. Of these amounts, approximately $564, $542, and $542,
respectively, were charged by affiliates under operating leases.
The Company has entered into various other operating leases with unrelated
third parties for office equipment. These leases have different payment terms
and expiration dates.
Future minimum payments under the noncancelable operating leases for real
estate and office equipment with related and other parties at June 30, 2003 are
as follows:
Year ending June 30,
2004 $ 2,414
2005 2,405
2006 1,965
2007 1,059
2008 875
Thereafter 2,488
- -------------------------------------------------------------------------------
$11,206
===============================================================================
In addition to the operating leases above, the Company entered into a
sale-leaseback operating lease of certain fixed assets (principally computer
hardware and externally developed software) with an affiliate of the Company's
Vice Chairman. The minimum future operating lease payments at June 30, 2003 are
as follows:
Year ending June 30,
2004 $ 444
2005 148
- -------------------------------------------------------------------------------
$ 592
===============================================================================
In February 1998, the Company entered into an agreement to purchase
computer software products and professional services with an unrelated company.
The agreement required the Company to pay an initial license fee of $400, of
which $100 was paid upon signing and $25 was payable monthly through February
1999. The initial license fee of $400 has been capitalized and fully amortized
as of June 30, 2002. In addition, if certain milestones are reached based on the
number of processed claims, as defined, the license fee increases incrementally,
up to an additional $500 over the term of the agreement. In February 1999, 2001
and 2002, the Company met certain milestones, resulting in total additional
license fees of $400. These amounts were capitalized and are being amortized
over three years. The agreement also provides for the annual payment of 18% of
the then current cumulative license fee, as defined, as a service maintenance
fee which is expensed as incurred.
An action was commenced against the Company on December 8, 1998 by the West
Contra Costa Unified School District (the "School District") and an individual
plaintiff in the State of California. The case was subsequently moved to Federal
court. The complaint alleged, among other things, that the parties entered into
a contract in November 1996, and that the Company unilaterally terminated the
contract on December 16, 1996. The complaint further alleged that the
termination resulted in the School District incurring approximately $150 in
costs and $867 in expenses to obtain coverage from December 1996 until October
1997. The complaint also sought treble damages. The parties reached an agreement
pursuant to which the Company paid to the plaintiffs an amount that was lower
than the amount of costs and expenses claimed, and is funding a part of the
plaintiffs' litigation against another defendant. The proceeds of any settlement
with or verdict against such defendant will be divided between the Company and
the School District.
An action was commenced against the Company on April 30, 2002 by Midwest
Health Plan Inc. ("MHP") in the United States District Court for the Eastern
District of Michigan. The amended complaint alleges, among other things, that
the parties entered into a contract dated July 1999 (the "Agreement"), and
further alleges that the Company has overcharged MHP for the administration of
prescription benefit services in contravention to the terms of the Agreement and
breached its fiduciary duties by making a profit. MHP is seeking $3,000 in
damages. The Company filed an answer and counterclaim on June 12, 2002. In the
counterclaim, the Company claimed damages in excess of $2,800 based on Midwest's
failure to pay under a contract. In late June 2002, Midwest agreed to make two
payments in the amount of $1,340 and $1,360 to partially settle the Company's
claims against Midwest. Midwest has now added a fiduciary duty claim. The
Company continues to have counterclaims totaling over $200 against Midwest for
Midwest's failure to pay the amounts it agreed to pay Health Card for goods and
services. The Company's motion for partial summary judgment and motion to
dismiss the fiduciary duty claim will be heard on November 6, 2003. Discovery
will close September 30, 2003. The court has not set a trial date. The Company
believes the claims alleged in the complaint are without merit and intends to
vigorously defend the action.
The Company has entered into employment agreements with its Chairman, Chief
Executive Officer and President, Chief Marketing Officer, Chief Financial
Officer, President of PBM Services, and Chief Information Officer. The
agreements provide for (i) participation in the bonus pool for senior
executives, (ii) eligibility for stock option grants under the Company's then
current stock option plan, and (iii) certain termination benefits which,
depending upon the reason for termination, can equal up to one year of salary
for all of these senior executives.
On January 29, 2002, the Company and certain of its subsidiaries entered
into the Facility, a $40 million secured revolving credit facility with a
specialty finance company. In connection with the Facility, the Company and
certain of its subsidiaries have agreed to sell, on an on-going basis, their
accounts receivable to Funding. Funding utilizes those receivables as collateral
to secure borrowings under the Facility. The Facility has a three-year term,
provides for borrowing up to $40 million at the London InterBank Offered Rate
(LIBOR) plus 2.4% (3.5% at June 30, 2003) and is secured by receivables and
other assets of the Company and certain of its subsidiaries. The outstanding
balance as of June 30, 2003 was $15,662, which was all classified as short term.
The Facility requires the Company to maintain certain financial and other
covenants. The Company was in compliance with all covenants at June 30, 2003.
10. STOCK OPTIONS AND WARRANTS: During the years ended June 30, 2001, 2002,
and 2003, the Company granted stock options under the 1999 Stock Option Plan
(the "Plan"). During 2002, the Company amended the Plan and increased the number
of shares issuable in connection with options granted under the Plan. The total
number of shares of common stock reserved by the Company for issuance under the
Plan is 2,850,000 plus an indeterminable number of shares of common stock
issuable upon the exercise of "reload options." There are no options outstanding
that contain the "reload" provision. Stock options outstanding have a life of 4
to 10 years, as defined in Section 422 of the Internal Revenue Code. Incentive
options may not be granted for a price less than 100% of the fair market value
of the common stock as of the date of the grant or 110% in the case of an
individual who owns more than 10% of the combined voting power of all classes of
stock of the Company. All options to date have been issued with an option
exercise price at or above the fair market value of those options on the date of
grant.
The following tables summarize information about stock option activity for
the years ended June 30, 2001, 2002, and 2003:
- -----------------------------------------------------------------------------------------------
Weighted-
Average
Exercise
Number of Price per
Options Share
Outstanding options at June 30, 2000 656,469 $ 5.98
Canceled (251,127) 6.23
Granted 837,942 2.92
---------------------------------------------------------------------------------------
Outstanding options at June 30, 2001 1,243,284 3.87
Canceled (222,775) 8.46
Granted 1,015,760 10.36
Exercised (175,243) 4.49
----------------------------------------------------------------------------------------
Outstanding options at June 30, 2002 1,861,026 6.77
Canceled (73,634) 6.99
Granted 402,498 8.46
Exercised (221,000) 2.20
----------------------------------------------------------------------------------------
Outstanding options at June 30, 2003 1,968,890 $ 7.61
========================================================================================
The following table summarizes information about stock options outstanding
at June 30, 2003:
Outstanding Exercisable
-------------------------------------------- --------------------------
-------------- --------------- ------------- ------------ -------------
Weighted- Weighted- Weighted-
Average Average Average
Option Number of Remaining Exercise Number of Exercise
Price Range Shares Life Price Shares Price
----------------------- -------------- ------------ ------------- ------------ ------------
----------------------- -------------- ------------ ------------- ------------ ------------
$ 1.67 to $ 2.51 365,995 2.65 years $1.81 165,995 $1.77
$ 2.52 to $ 3.78 26,000 3.09 years $3.12 15,435 $3.07
$ 3.79 to $ 5.69 192,900 2.57 years $4.60 132,955 $4.73
$ 5.70 to $ 8.55 300,801 2.39 years $7.67 105,782 $7.48
$ 8.56 to $ 12.84 1,081,355 4.44 years $10.19 147,277 $10.41
$ 12.85 to $ 15.10 1,839 3.63 years $14.68 617 $14.68
----------------------- -------------- ------------ ------------- ------------ ------------
----------------------- -------------- ------------ ------------- ------------ ------------
$ 1.67 to $15.10 1,968,890 3.13 years $7.61 568,061 $5.81
======================= ============== ============ ============= ============ ============
The Company granted the underwriters of the Public Offering 200,000
warrants for nominal consideration. The warrants entitle the holders thereof to
purchase 200,000 shares of common stock from the Company at $9.00 per share and
are exercisable for four years commencing on July 29, 2000. Of such warrants,
80,000 were subsequently purchased from the underwriters by the Company's
Chairman of the Board and are exercisable for four years commencing on July 29,
2000.
11. 2000 RESTRICTED STOCK GRANT PLAN: On October 16, 2000, the board of
directors approved the adoption of the Company's 2000 Restricted Stock Grant
Plan (the "Stock Grant Plan"). The Stock Grant Plan was subsequently adopted by
the shareholders at the Company's annual meeting on November 20, 2000. The Stock
Grant Plan provides for the issuance of shares that are subject to both standard
restrictions on the sale or transfer of such shares (e.g., the standard
seven-year vesting schedule set forth in the Stock Grant Plan) and/or
restrictions that the board may impose, such as restrictions relating to length
of service, corporate performance or other restrictions. As of June 30, 2003, no
grants had been made under the Stock Grant Plan and, therefore, no shares had
vested under it. There are 700,000 shares of common stock reserved for issuance
in connection with grants made under the Stock Grant Plan.
Supplemental cash flow information is as follows:
Year ended June 30, 2001 2002 2003
---------------------------------------------------------------------------
Cash paid:
Interest $ 236 $ 1,110 $ 1,194
Income taxes 1,287 2,277 4,039
Noncash investing and
financing activities:
Issuance of common stock
in connection with the
acquisition of PAI 850 250 250
- -------------------------------------------------------------------------------
13. EMPLOYEE BENEFIT PLAN: The Company maintains a 401-K plan that covers
substantially all Company employees. Participants may elect to contribute to the
plan a minimum of 1% to a maximum of 18% of their annual compensation, not to
exceed a dollar limit set by law. Monthly, the Company will determine a
discretionary matching contribution equal to a percentage of each participant's
contribution. Contributions made by the Company for the years ended June 30,
2001, 2002, and 2003 were approximately $109, $79, and $228, respectively.
14. EARNINGS PER SHARE: A reconciliation of shares used in calculating
basic and diluted earnings per share follows:
Year ended June 30, 2001 2002 2003
- -------------------------------------------------------------------------------
Basic 7,100,674 7,212,536 7,590,425
Effect of assumed conversion
of employee stock options 65,406 661,999 445,973
Contingently issuable shares
(see Note 2) 33,446 34,519 -
- --------------------------------------------------------------------------------
Diluted 7,199,526 7,909,054 8,036,398
================================================================================
Outstanding options and warrants to purchase shares of common stock which
were antidilutive were not included in the computation of diluted earnings per
share (see Note 10). These options were as follows:
Year ended June 30, 2001 2002 2003
- -------------------------------------------------------------------------------
Number of options and warrants 866,284 435,700 922,787
===============================================================================
===============================================================================
Weighted-average exercise price $ 5.22 $ 12.23 $ 10.47
15. QUARTERLY FINANCIAL DATA (UNAUDITED):
(In thousands, except per share amounts) FY 2003 FY 2002
- -----------------------------------------------------------------------------------------------------------------------------------
Quarters ended 6/30 3/31 12/31 9/30 6/30 3/31 12/31 9/30
- -----------------------------------------------------------------------------------------------------------------------------------
Revenue $148,397 $126,538 $150,964 $147,367 $145,995 $145,683 $87,509 $80,645
Income before provision for income taxes 2,986 2,941 2,777 2,313 2,323 1,839 1,799 1,406
Net income 1,676 1,735 1,638 1,365 1,327 1,103 1,048 989
Earnings per common share:
Basic .22 .23 .22 .18 .18 .15 .15 .14
Diluted .21 .22 .20 .17 .16 .14 .13 .13
Common share prices:
High 11.84 9.65 9.75 10.80 12.90 15.61 10.40 4.82
Low 8.00 8.00 6.58 6.40 7.90 9.10 2.65 1.45
16. SUBSEQUENT EVENTS: On July 31, 2003, the Company entered into a Stock
Purchase Agreement with Portland Professional Pharmacy ("PPRX"), Professional
Pharmacy Associates ("PRXA", and together with PPRX, "PPP") and the individual
shareholders (the "PPP Shareholders") to purchase all of the shares of PPP for
$3,150 (the "PPP Acquisition"). In addition, the Company agreed to pay to the
PPP Shareholders up to $7,000 over a three-year period if the PPP business
achieved certain financial targets. PPP provides specialty-pharmacy services in
a broad range of areas, including women's health, pediatric care, men's health
and transplant. Funds for the PPP Acquisition were supplied by the Company's
revolving credit facility.
In connection with the PPP Acquisition, several members of PPP's management
team have joined the Company as employees, and have been granted stock options
to purchase an aggregate of 150,000 shares of Common Stock, under the Company's
1999 Stock Option Plan, as amended. As of August 1, 2003, the Company's
wholly-owned subsidiary, Ascend Specialty Pharmacy Services, Inc. ("Ascend")
assumed all of the shares of PPP. Each of PRXA and PPRX continues to operate
under their respective names, as subsidiaries of Ascend, in the State of Maine.
The Company intends to position PPP as a preferred provider with PPP's target
markets while focusing on the extension of their specialty services to the
Company's PBM division.
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS ON
FINANCIAL STATEMENT SCHEDULE
Board of Directors
National Medical Health Card Systems, Inc.
The audit referred to in our report to the board of directors of National
Medical Health Card Systems, Inc. and Subsidiaries, dated August 31, 2001,
relating to the consolidated financial statements of National Medical Health
Card Systems, Inc. and Subsidiaries, included the audit of the schedule listed
under Item 15 of Form 10-K for the year ended June 30, 2001. This financial
statement schedule is the responsibility of the Company's management. Our
responsibility is to express an opinion on this financial statement schedule
based upon our audit.
In our opinion, such financial statement schedule presents fairly, in all
material respects, the information set forth therein.
GOLDSTEIN GOLUB KESSLER LLP
New York, New York
August 18, 2001
S-1
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
- -------------------------------------------------------------------------------------------------------------------
($ in thousands)
Additions
Balance at Charged to Balance
Beginning Costs and Other at End
Description of Year Expense (a) Write-offs Changes of Year
- -------------------------------------------------------------------------------------------------------------------
Reserves and allowances deducted from asset accounts:
Allowance for doubtful accounts
Year ended June 30, 2001 $ 727 $ 942 $ (96) $ 274 (b) $ 1,847
Year ended June 30, 2002 1,847 546 (145) - 2,248
Year ended June 30, 2003 2,248 164 (279) (119)(c) 2,014
(a) Charged to bad debts
(b) Opening reserve balances of acquisitions
(c) Collection of acquisition opening balance applied against goodwill
S-2