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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_________________
FORM 10-K
_________________
(Mark One)
X Annual Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the fiscal year ended December 31, 1999
or
Transition Report Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
[No Fee Required]
For the Transition Period From to
Commission File Number: 000-19370
Curative Health Services, Inc.
(Exact name of registrant as specified in its charter)
MINNESOTA 41-1503914
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
150 Motor Parkway
Hauppauge, New York 11788
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (631) 232-7000
Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $.01 per share
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports
required by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months ( or such shorter period that the registrant was
required to file such reports) and (2) has been subject to such filing
requirements for the past 90 days:
Yes X No______
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be
contained, to the best of Registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form
10-K or any amendment to this Form 10-K. [ X ]
As of March 15, 2000, 9,794,010 shares of Common Stock of Curative
Health Services, Inc. were outstanding and the aggregate market value of such
Common Stock held by nonaffiliates (based upon its closing transaction price
on such date) was approximately $63 million.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of Registrant's Proxy Statement for its 2000 Annual Meeting of
Stockholders, which the Registrant intends to file not later than 120 days
following December 31, 1999, are incorporated by reference to Part III of
this Form 10-K Report.
1
PART I
Item 1 Business
General
Curative Health Services, Inc. is a leading disease management company
in the chronic wound care market. Currently, the Company manages, on behalf of
hospital clients, a nationwide network of Wound Care Centers(R) that offers a
comprehensive range of services which enable the Company to provide customized
wound care. The Company's Wound Management Program consists of diagnostic and
therapeutic treatment regimens which are designed to meet each patient's
specific wound care needs on a cost effective basis. The Company's treatment
regimens are based on critical pathways designed for wound healing. The Company
has a proprietary database of patient outcomes that the Company has collected
since 1988 containing approximately 285,000 patient records which indicate an
overall healing rate of approximately 80% for patients completing therapy. The
Company's Wound Care Center(R) network consists of 158 outpatient clinics
located on or near campuses of acute care hospitals in 34 states. The Company is
developing new service models for other health care delivery settings including
inpatient acute care and long term care facilities. Additionally, the Company
operates four freestanding Wound Care Centers(R).
The Company believes that the high degree of specialization and
expertise offered by the Wound Care Centers(R) provide benefits: (i) to patients
through superior wound care, thus enhancing their quality of life, in many
cases, allowing them to avoid amputation; (ii) to affiliated hospitals by
enabling them to differentiate themselves from their competitors through better
wound care treatment outcomes, to reduce costs by decreasing inpatient lengths
of stay and to increase revenue through the introduction of new patients; (iii)
to affiliated physicians by providing greater access to patients; and (iv) to
insurers and managed care providers by offering a cost effective alternative to
traditional wound care.
Industry
Market Overview. Chronic wounds are common in patients with diabetes
and venous stasis disease, as well as in patients who are immobilized and
afflicted with pressure sores. A chronic wound generally is a wound which shows
no signs of significant healing in four weeks or has not healed in eight weeks.
The healing of a wound is dependent upon adequate blood flow to stimulate new
cell growth and combat infection. When adequate blood flow does not occur, the
healing process is retarded, often resulting in a chronic wound that can last
for months or years. Without effective treatment, a chronic wound may lead to
more severe medical conditions, such as infection, gangrene and amputation,
which are costly to payors and impede the quality of life for the patient.
According to Chronic Wound Care: U.S. Markets for Wound Management
Products (Medical Data International, 1997), it is estimated that at least six
million people suffer from chronic wounds in the United States. Of the six
million people with chronic wounds, an estimated three million have pressure
sores, over two million have diabetic ulcers, and over one million suffer from
venous stasis ulcers. Diabetic ulcers are responsible for 60,000 limb
amputations each year, accounting for more than half of all such procedures not
related to trauma. Venous stasis disease and pressure sores often afflict the
elderly, who constitute the most rapidly growing segment of the U.S. population
and account for a disproportionately large share of total U.S. health care
expenditures. It is estimated that the wound care segment of the U.S. health
care industry generated $5 billion in expenditures in 1997. It is also
anticipated that the wound care market will continue to grow due to the aging
population and the increasing incidence of health disorders, such as diabetes,
which may lead to chronic wounds.
Traditional Approach to Chronic Wound Care. Traditional chronic wound
care treatment, which is typically administered by a primary care physician,
relies principally on cleansing and debriding the wound, controlling infection
with antibiotics and protecting the wound. For example, topical or oral
antibiotics are administered to decrease the bacterial count in the wound,
protective dressings are used to decrease tissue trauma and augment repair and
various topical agents are applied that chemically cleanse the wound and remove
wound exudate. These passive treatments do not directly stimulate the underlying
wound healing process. In many cases, the patient may have to see a number of
health care professionals before effective treatment is received. In addition,
under this traditional care model, patients must manage their own care, which
often leads to non-compliance and treatment failure which may lead to infection,
gangrene and amputation. Although wound care programs have begun to evolve to
more specialized and aggressive treatment regimens, the Company believes that a
significant medical need and market opportunity exists for products and services
that improve and accelerate the wound healing process.
2
The Curative Approach to Chronic Wound Care
The Company's Wound Management Program is a comprehensive array of
diagnostic and therapeutic treatment regimens with all the components of care
necessary to treat chronic wounds. The Company's Wound Management Program is
administered primarily through the Company's nationwide network of Wound Care
Centers. The Company believes the Wound Management Program provides a better
approach to chronic wound management than the traditional approach, which the
Company believes lacks comprehensive wound programs, effective technology,
positive outcomes and cost efficiency. Each Wound Management Program offers its
patients an inter-disciplinary team of health care professionals, including a
medical director, surgeon, nurse, case manager, nutritionist and
endocrinologist.
In most cases, patients arriving at the Company's Wound Care Centers
have been treated with traditional wound healing techniques, but continue to
suffer from chronic wounds. In some cases, patients come to a Wound Care Center
after they have received an opinion from their primary physician that limb
amputation is required. Upon the commencement of treatment under the Company's
Wound Management Program, medical personnel conduct a systematic diagnostic
assessment of the patient. Specialized treatment protocols are then established
for the patient, based on the underlying cause of the wound and the unique
status of the patient. After the assessment phase, the course of treatment in
the Wound Management Program may include revascularization, infection control,
wound debridement, growth factor therapy, skin grafting, nutrition, protection
devices, patient education, referrals, and effective management of care through
patient/provider communications.
To measure the effectiveness of the Company's Wound Management Program,
the Company has developed a functional assessment scoring system to measure the
healing of a wound. Under this system, a chronic wound is considered healed when
(i) it is completely covered by epithelium (i.e., a membranous cellular tissue
that covers and protects a wound as it heals), (ii) maturing skin is present in
the wound, (iii) there is minimal drainage from the wound, (iv) the wound
requires only a protective dressing and (v) the limb involved is functional. The
Company has a proprietary database of patient outcomes that the Company has
collected since 1988 containing approximately 285,000 patient records which
indicate an overall healing rate of approximately 80% for patients completing
therapy.
A unique aspect of the Company's Wound Management Program is the use of
Procuren(R), the Company's wound healing agent which is used to treat
approximately 9% of patients. Procuren(R) is a naturally occurring complex
mixture of several growth factors. Growth factors have been shown to promote the
growth of skin, soft tissue and blood vessels. Procuren(R) is produced by
stimulating the release of growth factors from platelets contained in the
patient's own blood. Blood is taken from the patient at the treatment center and
then sent to a Company-operated blood processing facility located in the same
state where the patient's blood was drawn. To produce Procuren, the Company
separates the platelets from the remainder of the blood sample. Thrombin, a
substance in the body that is active in the wound healing process, is added to
the platelets, causing the platelets to release growth factors. The platelet
shells are discarded and the growth factors are diluted and placed in a buffered
solution which is frozen until used. When required as part of the patient's
wound care treatment program, Procuren is applied topically to the wound area by
soaking a gauze dressing in the Procuren solution and covering the wound area
with the gauze. Procuren, as part of a comprehensive treatment algorithm, has
been used to treat over 55,000 patients to date. The Company believes that
Procuren stimulates a normal wound healing response in patients with chronic
wounds in much the same way as the body naturally initiates healing.
Company-sponsored studies suggest that the use of Procuren as part of
the Company's Wound Management Program is both efficacious and cost-effective.
For example, a Company-sponsored retrospective study of patients with diabetic
ulcers (who tend to have the most severe chronic wounds) published by CP Fylling
and PC McKeown in 1990 found that the average charges for a conventional
treatment program were $19,000 as compared to $14,000 for a specialized wound
management program that included the use of Procuren. In addition to costing
less, the specialized program had a healing rate of 79% as compared to 24% for
patients enrolled in the conventional treatment program. Furthermore, 60% of the
conventionally treated patients required amputations at the end of the study
compared with only 19% in the specialized group of patients.
3
Strategy
The Company's objective is to enhance its position as a leading disease
management company in the chronic wound care market. The Company's growth
strategy is to continue to improve and refine the Wound Management Program while
broadening its delivery models to cover the entire continuum of care for wound
management. Key elements of this strategy include:
Continue to Develop the Company's Nationwide Network of Outpatient
Wound Care Centers. The Company intends to continue to establish additional
outpatient Wound Care Centers on or near the campuses of acute care hospitals.
Despite the Company's rapid growth from 32 outpatient centers in 1991 to 158
outpatient centers as of the end of 1999, the Company believes the opportunity
for further growth remains substantial. The Company has identified over 300
additional markets in the United States which the Company believes have the
population necessary to support a dedicated wound care program. The Company
believes hospitals are continually seeking low cost, high quality solutions to
wound management such as those provided by the Company. In addition, the Company
believes it enables its hospital clients to differentiate themselves from their
competitors through better wound care treatment outcomes, reduced costs due to
decreased inpatient lengths of stay and increased revenue through the
introduction of new patients. As a result, the Company believes there is a
significant opportunity for the Company to continue to expand its Wound Care
Center operations through affiliation with acute care hospitals. Additionally in
response to the needs of acute care hospitals in smaller rural markets the
Company developed a wound care program which effectively unbundles the Company's
value added services. Through this program, hospitals in smaller markets can
purchase components of the Wound Management Program through a licensing
agreement which enables these hospitals to manage wound care patients. As of
December 31, 1999, the Company has established three of the rural hospital wound
care programs.
Develop New Service Models to Enhance Market Penetration. The Company
is actively developing new service models in new health care delivery settings
such as inpatient programs for acute care hospitals and long term care
facilities (e.g., nursing homes and long term acute care hospitals). These new
service models are being operated as a service from the Company's existing
hospital outpatient Wound Care Centers. Pressure sores, the most common form of
chronic wound, usually occur among nursing home, acute care and home patients
due to the sedentary lifestyle associated with those care settings. As the
Company further develops its inpatient service models, the Company believes it
will become more capable of penetrating the large pressure sore market. The
Company operates four freestanding outpatient Wound Care Centers. The
freestanding service model was developed by the Company to strategically grow
its business through select target marketing and enter markets where a suitable
partner is not available or as a method of attracting a hospital partner. The
Company does not have any immediate plans to open additional freestanding
centers and expects to develop the existing freestanding centers into hospital
outpatient Wound Care Centers.
Provide a Comprehensive Managed Care Product. In addition to providing
new revenue opportunities, the Company believes its ability to provide its
services as a comprehensive managed care product in a number of settings will
increase its attractiveness to managed care payors seeking to provide a
continuum of care while reducing risk. With its Wound Management Program and
increasing presence in multiple health care delivery settings, the Company can
offer managed care payors a shared risk relationship which the Company believes
will provide better patient healing outcomes and more cost-effective services
for subscribers. Further, in 1998 the Company entered into a development and
license agreement with Accordant Health Services, Inc., a private disease
management company. As a strategic partner, Accordant has been licensed by the
Company to develop and market a wound care disease management program to the
managed care market. The Company has not generated any revenue from this
business. Additionally, the Company has made a $4 million equity investment in
Accordant.
Enhance the Company's Wound Management Program. The Company currently
offers a unique Wound Management Program which includes assessment, vascular
studies, revascularization, infection control, wound debridement, growth factor
therapy, skin grafting, nutrition, protection devices, patient education,
referrals and effective management of care through patient/provider
communications. In addition, the Company is continually exploring and seeking
advances in wound care management services and products which could enhance its
current Wound Management Program. The Company is actively pursuing such advances
through the continuous development of its current services, and the
consideration of acquisition opportunities and co-marketing arrangements with
other providers of wound care products and services. Current product offerings
include furnishing hyperbaric oxygen services to interested hospital partners,
alliance with companies marketing new wound care technologies and developing
clinical research capabilities for the wound care center network.
4
Expand Into Other Disease Management Areas. Longer term, the Company is
considering capitalizing on its disease management expertise by expanding its
services into other disease management areas to meet the growing continuum of
health care needs of patients and providers. The Company believes that there is
a significant market potential for the delivery of other disease management
services through its existing network of Wound Care Centers. The possibilities
for expansion of the Company's disease management services include the treatment
of chronic wound related diseases such as diabetes, as well as non-chronic wound
related diseases such as cardiovascular disorders.
Wound Care Operations
The Company's wound care operations offer health care providers the
opportunity to create specialty wound care departments designed to meet the
needs of chronic wound patients. The initial focus of the Company's wound care
operations has been hospital outpatient Wound Care Centers. The Company is
currently expanding its programmatic approach to wound care to inpatient
settings such as acute care hospitals and long term care facilities. In these
settings the Company is establishing a wound care program with existing hospital
Wound Care Centers to offer an inter-disciplinary approach to the treatment of
chronic wounds in the inpatient settings. In addition, the Company has
established freestanding outpatient Wound Care Centers.
Hospital Outpatient Wound Care Centers. Outpatient Wound Care Centers,
located on or near the campuses of acute care hospitals, represent the Company's
core business. A typical hospital outpatient Wound Care Center consists of 4,000
square feet of space comprising four to eight exam rooms, a nursing station, and
physician and administrative offices. These Wound Care Centers are designed to
deliver all necessary outpatient services for the treatment of chronic wounds,
with the hospital providing any inpatient care, such as revascularization or
surgical debridement.
The Company currently offers its hospital clients two outpatient Wound
Care Center models: a management model and an "under arrangement" model, with a
primary focus on developing management models. The differences between these two
models relate primarily to the employment of the clinical staff at the Wound
Care Center and the basis for the management fees paid to the Company. In the
management model, generally the only employee of the Company at the Wound Care
Center is the Wound Care Center's Program Director, and the Company generally
receives a fixed monthly management fee and a variable case management fee. In
the "under arrangement" model, the Company employs all of the clinical and
administrative staff (other than physicians) at the Wound Care Center and the
Company generally receives fees based on the services provided to each patient.
In all other material respects the two models are identical. In both models,
physicians remain independent and the Company recruits and trains the physicians
and staff associated with the Wound Care Center. The physicians providing
services at a Wound Care Center are recruited by the Company primarily from
among the doctors who work at the hospital and practice in related areas. In
addition, in both models the Company develops, manages and provides Procuren
processing services for the Wound Care Center, and the Company's field support
departments provide the staff at each Wound Care Center with clinical oversight,
quality assurance, reimbursement consulting, sales and marketing and general
administrative support services. The terms of the Company's contract with each
hospital are negotiated individually. Generally, in addition to the management
fees described above, the contracts provide for development fees and Procuren
processing fees charged to the hospital based on utilization. In both models,
the hospital and the physician bill the patient for the services provided and
are responsible for seeking reimbursement from insurers or other third party
payors.
The first Wound Care Center opened in 1988 and there are currently 158
hospital outpatient Wound Care Centers in operation in 34 states. The Company
has entered into contracts or letters of intent with 9 hospitals to open
additional Wound Care Centers. The Company's hospital client base ranges from
medium-sized community-based hospitals to large hospitals affiliated with
national chains and not-for-profit hospitals in local markets. The Company
selects hospital clients based on a number of criteria. A suitable hospital
client typically can accommodate at least 200 inpatient beds, offers services
which complement the Wound Management Program, including physician specialists
in the areas of general, plastic and vascular surgery, endocrinology and
diabetes, is financially stable and has a solid reputation in the community it
serves. Of the Company's 158 current hospital outpatient Wound Care Centers, 110
are management model centers and 48 are "under arrangement" model centers.
5
In expanding its product offering, the Company furnishes hyperbaric
oxygen therapy (HBO) services to interested hospital partners operating
outpatient wound care centers. These services generally include furnishing HBO
chambers and managing the program. The Company current manages 16 HBO programs
at existing hospital outpatient Wound Care Centers which accounted for
approximately 2% of the Company's revenue.
At December 31, 1999, the Company had management contracts with 23
acute care hospitals directly or indirectly owned by Columbia/HCA. These
hospitals collectively accounted for approximately 13% of the consolidated
revenues of the Company for the year ended December 31, 1999. In 1999 there were
9 Columbia/HCA hospital contracts that terminated and closed. The Company
expects that the Columbia/HCA hospitals collectively will account for less than
12% of future revenues. The Company renegotiated all of its existing
Columbia/HCA hospital contracts in 1999 which resulted in an average 26%
decrease in revenue per contract. There can be no assurance further negotiations
with Columbia/HCA will not result in changes which would have an adverse impact
on the Company's business, financial condition and results of operations,
including, without limitation, contract terminations, price concessions,
contract termination provisions less favorable to the Company, and increased
costs borne by the Company.
Inpatient Wound Care Programs. The Company is addressing the needs of
the inpatient wound care market through the development of new inpatient
programs. These patients often have pressure sores resulting from inactivity.
While not typically as severe as diabetic or venous stasis ulcers, pressure
sores represent the largest segment of the chronic wound market. The Company has
developed a Wound Reduction Assessment Program(sm) for its affiliated acute care
hospitals with outpatient wound care centers that is directed at assisting those
hospitals in identifying and managing inpatients in the acute care hospital that
are at risk or who suffer from chronic wounds. The program is primarily directed
at reducing the length of stay of those patients in the acute care setting. The
Company has also developed a Wound Outreach Program(sm), whereby a nurse
practitioner or physician assistant from an affiliated outpatient wound care
center provides wound related services to long term care facilities in
surrounding cachement areas. Both programs are in the early stages of
development and implementation. There can be no assurance that these programs
will be successful in the future.
Freestanding Outpatient Wound Care Centers. In late 1995, the Company
began to establish freestanding Wound Care Centers in which the Company is the
owner and operator. The Company believes that this delivery model allowed the
Company to expand its market penetration in the outpatient setting by allowing
the Company to strategically penetrate markets without the constraint of finding
a hospital or contracting with competing hospitals. The Company currently has
four freestanding centers in four states. The Company does not have any
immediate plans to open additional freestanding centers and expects to develop
the existing freestanding centers into hospital based outpatient wound care
centers. The freestanding Wound Care Centers resemble standard outpatient
facilities or specialized physician practices. The Company employs the staff of
the Wound Care Center and is responsible for billing patients for all services
provided at the Wound Care Center and for seeking reimbursement from third party
payors, including Medicare. To date the Company has not employed any of the
physicians providing services at its freestanding Wound Care Centers; however,
the Company may employ physicians at these models in the future.
Procuren Production Facilities. The Company currently produces Procuren
in 35 facilities in 34 states, all of which are registered with the FDA as blood
processing facilities. The Company's personnel at these facilities produce
Procuren at the direction of Wound Care Center physicians.
6
Contract Terms and Renewals
Substantially all of the revenues of the Company are derived from
management contracts with acute care hospitals. The contracts generally have
initial terms of three to five years and many have automatic renewal terms
unless specifically terminated. During the year ending December 31, 2000, the
contract terms of 58 of the Company's management contracts will expire,
including 44 contracts which provide for automatic one-year renewals. The
contracts often provide for early termination either by the client hospital if
specified performance criteria are not satisfied, or by the Company under
various other circumstances. Historically, some contracts have expired without
renewal and others have been terminated by the Company or the client hospital
for various reasons prior to their scheduled expiration. During 1999, 4 hospital
contracts expired without renewal and an additional 16 hospital contracts were
terminated prior to their scheduled expiration by the client hospital and in
some cases by the Company. Generally, the Company elects to negotiate a mutual
termination of a management contract if a client hospital desires to terminate
the contract prior to its stated term. The continued success of the Company is
subject to its ability to renew or extend existing management contracts and
obtain new management contracts. Hospitals choose to terminate or not to renew
contracts based on decisions to terminate their programs or to convert their
programs from independently managed programs to programs operated internally.
There can be no assurance that any hospital will continue to do business with
the Company following expiration of its management contract or earlier, if such
management contract is terminable prior to expiration. In addition, any changes
in the Medicare program or third party reimbursement levels which generally have
the effect of limiting or reducing reimbursement levels for health services
provided by programs managed by the Company could result in the early
termination of existing management contracts and would adversely affect the
ability of the Company to renew or extend existing management contracts and to
obtain new management contracts. The termination or non-renewal of a material
number of management contracts could result in a significant decrease in the
Company's net revenues and could have a material adverse effect on the Company's
business, financial condition and results of operations.
Managed Care Operations
The Company's managed care strategy is currently focused on marketing
Wound Care Center services to local managed care organizations ("MCOs") in
concert with its hospital clients' efforts to promote all hospital-based
services to such MCOs. In those instances where hospital clients are unable to
establish contractual relations with a large local MCO or in those markets where
the Company operates freestanding Wound Care Centers where it would otherwise be
appropriate, the Company seeks to establish relations directly with MCOs. The
Company's contractual arrangements with MCOs, which will vary based upon the
needs of the particular MCO, are expected to provide for the Company to receive
compensation on a fee-for-service, fixed case rate or at-risk capitation basis.
While the Company anticipates that initially most of its managed care contracts
will be fee-for-service or case rate contracts, it expects that at-risk
capitation could become a contracting method.
The Company's longer term managed care strategy is to establish a wound
care carve-out product with selected MCOs. The Company has begun to develop
tools to help MCOs assess their current wound care experiences (both clinical
outcomes and costs) against the Company's Wound Management Program in order to
demonstrate that a wound care carve-out product can provide added value. In
order to make itself more attractive to MCOs by offering a broader disease
management program, the Company intends, where appropriate, to align itself with
other disease management companies focused on case management or complementary
diseases such as cardiac care, venous stasis management and diabetes. The
Company expects that contracts for a carve-out product will provide at-risk
arrangements with MCOs (i.e., fixed case rates or capitation).
In 1998, the Company entered into a development and license agreement
with Accordant Health Services, Inc. a private disease management company. As a
strategic partner, Accordant has been licensed by the Company to develop and
market a wound care disease management program to the managed care market
including, Health Maintenance Organizations (HMO's), Preferred Provider
Organization (PPO's) and insurance companies. The wound care disease management
program being developed will include impact models, assessment/intervention
tools and outcome reporting. The model is expected to be a "carve in" approach
whereby registered nurses will monitor health plan subscribers identified as
chronic wound patients through care management programs. The case management
software supports and prompts collection of disease specific data points
utilized by the registered nurses to assist patients in caring for the chronic
condition, identify and monitor patients at risk and educate patients in
preventative measures. The nurses conduct proactive patient monitoring that
assesses patient compliance, complications, functional and clinical health
status and patient satisfaction. The respective health plans are then provided
reports. The program is expected to be launched early in 2000. Additionally,
the Company has made a $4 million equity investment in Accordant.
7
The Company's managed care operations are overseen by a Vice President
of Managed Care and Payor Relations. To date, the Company's managed care
operations have been limited. Although the Company or its hospital clients have
been reimbursed for wound treatment by a number of MCOs on a case-by-case basis,
the Company currently has no contracts that require or incentivize subscribers
to use the Company's wound care services. There can be no assurance that the
Company will be able to successfully expand its managed care operations.
Community Education and Marketing
The Company's community education and marketing strategy consists of a
two-fold approach involving the development of new wound care programs as well
as growth in operating Wound Care Centers. To accomplish this, the Company has
divided the United States into four operating divisions each headed by a
Divisional Vice President. The community education and marketing effort in each
division is directed by a Divisional Sales Director under the supervision of the
Divisional Vice President. The Divisional Sales Director is responsible for the
activities of the Sales Managers, Professional Liaisons, Business Development
Managers. The Professional Liaisons are primarily responsible for community
education efforts directed at physicians and other healthcare professionals to
expand community awareness of the Wound Care Centers. The primary job of the
Business Development Manager is the development of new wound care programs. The
Company's community education and marketing operations are overseen by a Vice
President of Sales and Marketing.
As of December 31, 1999, the Company had four Divisional Sales
Directors, 13 Business Development Managers, five Sales Managers and 53
Professional Liaisons.
In addition to the above, a community education plan and marketing plan
are developed each year at each Wound Care Center. The execution of the plan is
the responsibility of the Program Director at the Wound Care Center. The plan
details the anticipated marketing for the year including radio, print and
television advertising as well as professional symposiums and other community
education. The cost of this plan is generally shared between the Company and the
hospital. The Company markets the Wound Care Center concept to hospitals as a
therapeutic "Center of Excellence." The Company believes that having a Wound
Care Center can differentiate a hospital from its competitors and can increase
the hospital's revenues through the introduction of new patients, which leads to
an increase in ambulatory surgeries, X-rays, laboratory tests and inpatient
surgeries, such as debridements, vascular surgeries and plastic surgeries. The
Company has demonstrated that Wound Care Centers provide significant incremental
revenues to participating hospitals, and therefore provide an attractive
economic opportunity for hospitals at the same time being more cost effective in
terms of total healthcare dollars expanded. Potential benefits to treating
physicians include the healing of difficult-to-heal wounds and an expansion of
the physician's practice.
Patents and Proprietary Rights
The Company's success depends in part on its ability to enforce
patents, maintain trade secret protection and operate without infringing on or
violating the proprietary rights of third parties. One U.S. patent has been
issued, and one additional application for a patent in the United States has
been filed, relating to the manufacture and use of Procuren for wound care.
There can be no assurance that any pending patent applications will be approved
or that any issued patents will provide the Company with competitive advantages
in the future or will not be challenged by any third parties or, if involved in
a challenge, will be found valid and infringed. Furthermore, there can be no
assurance that others will not design around the patents. The issued U.S. patent
is jointly owned by the University of Minnesota and the Company. The joint
interest of the University of Minnesota is licensed exclusively to the Company
under a paid in full, royalty free arrangement. The U.S. Government has a
nonexclusive grant back license under the issued U.S. patent for all government
purposes. The additional pending U.S. application is owned by the Company and is
not subject to the government grant back license.
In addition to patent protection, the Company also relies, in part, on
trade secrets, proprietary know-how and technological advances which it seeks to
protect by measures such as confidentiality agreements with its employees,
consultants and other parties with whom it does business. There can be no
assurance that these agreements will not be breached, that the Company would
have adequate remedies for any breach, that others will not independently
develop products similar to Procuren or that the Company's trade secrets and
proprietary know-how will not otherwise become known, be independently
discovered by others or found to be unprotected. The Company is aware of a
limited number of physicians who appear to be utilizing an autologous platelet
extract for the treatment of chronic wounds.
The Company has registered the names "Procuren" and "Wound Care Center"
as trademarks in the United States for use in connection with the Company's
wound care operations.
8
Government Regulation
The Company's Wound Care Centers and the production and marketing of
its products and services are subject to extensive regulation by numerous
governmental authorities in the United States, both federal and state. Although
the Company believes that it is currently in substantial compliance with
applicable laws, regulations and rules, the Company received a Warning Letter
from FDA in March 1998 admonishing the Company for several alleged deviations
from good manufacturing practices at one of the Company's Wound Care Centers.
The Company has responded to the Warning Letter and believes that it has
adequately addressed FDA's concerns. However, there can be no assurance that
FDA, another governmental agency or a third party will not contend that certain
aspects of the Company's operations or procedures are subject to or are not in
compliance with such laws, regulations or rules or that the state or federal
regulatory agencies or courts would interpret such laws, regulations and rules
in the Company's favor. The sanctions for failure to comply with such laws,
regulations or rules could include denial of the right to conduct business,
significant fines and criminal penalties. Additionally, an increase in the
complexity or substantive requirements of such laws, regulations or rules could
have a material adverse effect on the business, financial position and results
of operations of the Company.
The FDA regulates drugs and biologics that move in interstate commerce
and requires that such products receive pre-marketing approval based on evidence
of safety and efficacy. Since Procuren is produced at one of the Company's blood
processing facilities in the state where the Wound Care Center which will
dispense the Procuren is located and so is not intended to be shipped across
state lines, the Company believes, based on the advice of its counsel, that
under current law and regulations, FDA approval is not required for the Company
to distribute and sell Procuren through the Wound Care Centers on an intrastate
basis. The FDA is currently reassessing its regulation of other autologous and
somatic cell products and has publicly stated that it believes that if any
component of a drug or biological or if any patient receiving such substance
moves in interstate commerce, a sufficient nexus with interstate commerce exists
for FDA to require pre-marketing approval and licensure. The FDA has indicated
to the Company that the status of Procuren would be addressed by the FDA in a
future Federal Register publication, possibly as a part of the FDA's overall
regulation of other autologous and somatic cell products. While the production
of Procuren includes components that are shipped in interstate commerce, to date
the FDA has not determined that Procuren, as currently prepared, is subject to
licensure or pre-market approval. However, in the March 1998 FDA Warning Letter,
FDA objected to the Company providing Procuren to patients who reside in a state
other than the one in which the Wound Care Center is located. The Company ceased
providing Procuren to out-of-state patients. Although the Company believes
interstate shipment of the final biologic product is required to trigger
pre-marketing approval and licensure, a determination by the FDA to require
Procuren to obtain pre-marketing approval would materially and adversely affect
the Company.
Because FDA approval has not been required for Procuren, and state
approvals are generally limited to licensing of facilities, there has been no
independent determination of its efficacy by any governmental entity. If the FDA
were to require submission of a biologics license application ("BLA") as a
condition for the continued distribution and sale of Procuren, the Company might
have to demonstrate the safety, purity, potency and effectiveness of the product
through extensive clinical trials. Neither the Company nor any third party has
conducted the controlled clinical trials required to establish Procuren's
efficacy. Compliance with the requirements for a BLA is time-consuming and
involves the expenditure of substantial resources. There can be no assurance
that the Company would be able to establish efficacy or to obtain or maintain
the necessary FDA approvals to manufacture and distribute Procuren.
Any change in current regulatory interpretations by or positions of
state officials where the Wound Care Center's are located could adversely affect
the Company's distribution of Procuren within those states. In states where
Wound Care Centers are not currently located, the Company intends to utilize the
same approaches adopted elsewhere for achieving state compliance. However, state
regulatory requirements could adversely affect the Company's ability to
establish Wound Care Centers in such other states.
Various state and federal laws regulate the relationships between
providers of health care services and physicians and other clinicians, including
employment or service contracts, investment relationships and referrals for
certain designated health services. These laws include the fraud and abuse
provisions and referral restrictions of the Medicare and Medicaid statutes,
which prohibit the solicitation, payment, receipt or offering of any direct or
indirect remunerations for the referral of Medicare and Medicaid patients or for
the ordering or providing of Medicare or Medicaid covered services, items or
equipment. Violations of these provisions may result in civil or criminal
penalties for individuals or entities including exclusion from participation in
the Medicare or Medicaid programs. Several states have adopted similar laws that
cover patients in private programs as well as government programs. Because the
anti-fraud and abuse laws have been broadly interpreted, they limit the manner
in which the Company can operate its business and market its services to, and
contract for services with, other health care providers.
9
Additionally, federal and some state laws impose restrictions on
physician's referrals for certain designated health services to entities with
which the physician has a financial relationship, but there is considerable
uncertainty about some facets of these laws, especially the federal law since
there are no final rules interpreting the law. The Company believes its
operations do not violate these restrictions to the extent applicable.
Periodically there are efforts to expand the scope of these referral
restrictions from its application to government health care programs to all
payors, and to additional health services. Certain states are considering
adopting similar restrictions or expanding the scope of existing restrictions.
There can be no assurance that the federal government or other states in which
the Company operates will not enact similar or more restrictive legislation or
restrictions or interpret existing laws and regulations in a manner that could
under certain circumstances limit the manner in which the Company can operate
its business and have a negative impact on the Company's business, financial
condition and results of operations.
The Company has been informed of two separate complaints filed under
the Federal Civil False Claims Acts alleging that: the Company's charges were
excessive; the Company shifted costs from non-allowable services to allowable
services; included charges for advertising costs that were not allowable to the
hospital claiming reimbursement from the Medicare program; and violated the
"anti-kickback" statute because a portion of the Company's fee was based on the
number of new patients seen in the wound care centers managed by the Company
(See Item 3 Legal Proceedings for a further discussion on these matters). The
Company disagrees with these characterizations of its contractual arrangements,
its services, and the fees it charges for those services. If the government were
to conclude that the Company engaged in any misconduct, it could result in
affecting the Company's relationship with all its hospital customers,
substantial monetary fines and penalties, and exclusion from governmental
healthcare programs which could have a material adverse effect on the business,
financial position and results of operations of the Company.
The laws of many states prohibit physicians from sharing professional
fees with non-physicians and prohibit non-physician entities, such as the
Company, from practicing medicine and from employing physicians to practice
medicine. The laws in most states regarding the corporate practice of medicine
have been subjected to limited judicial and regulatory interpretation. The
Company believes its current and planned activities do not constitute prohibited
fee splitting or violate any prohibition against the corporate practice of
medicine. There can be no assurance, however, that future interpretations of
such laws will not require structural or organizational modifications of the
Company's existing business or have a negative impact on the Company's business,
financial addition and results of operations.
Pursuant to the federal Occupational Safety and Health Act, employers
have a general duty to provide a work place for their employees that is safe
from hazard. The U.S. Occupational Safety and Health Administration ("OSHA") has
issued rules relevant to certain hazards that are found in the Company's blood
processing facilities. In addition, OSHA issued a standard in 1992 applicable to
protection of workers from blood-borne pathogens. Failure to comply with this
standard relating to blood-borne pathogens, other applicable OSHA rules or with
the general duty to provide a safe work place could subject the Company to
substantial fines and penalties.
Third Party Reimbursement
The Company, through its wound care operations, provides contractual
management services for fees and sells Procuren to acute care hospitals and
other health care providers. These providers, in turn, seek reimbursement from
third party payors, such as Medicare, Medicaid, health maintenance organizations
and private insurers, including Blue Cross/Blue Shield plans. The availability
of reimbursement from such payors has been a significant factor in the Company's
ability to increase its revenue streams and will be important for future growth.
In addition to hospital outpatient Wound Care Centers which it manages
for its clients, the Company owns and operates freestanding outpatient Wound
Care Centers. With respect to services and products provided through its
freestanding centers, the Company is subject to the risks inherent in third
party reimbursement, including the risks associated with billing third party
payors. As of December 31, 1999, the Company operated four freestanding
outpatient Wound Care Centers which contributed approximately $2,508,000 or 2%
of the Company's revenues for the year ended December 31, 1999. However, the
Company anticipates that the number of, and amount of revenues attributable to,
its freestanding centers will decrease in the future since the Company does not
have any immediate plans to open additional freestanding centers and expects to
develop the existing freestanding centers into hospital outpatient wound care
centers. See "Business--Strategy."
10
Each third party payor formulates its own coverage and reimbursements
policies. In 1992, the Health Care Financing Administration ("HCFA"), the agency
that administers the Medicare program nationally, published a national coverage
decision denying coverage for Procuren based on its determination that the
safety and efficacy of Procuren had not been established and so the use of
Procuren was not "reasonable and necessary" within the meaning of applicable
law. Procuren sales represent a significant part of the Company's revenues and
earnings and the Company believes that Procuren, as a component of its Wound
Management Program, is a significant component of the Company's services.
Although the Company has not, and the Company believes that its clients have
not, in general experienced difficulty in securing third party reimbursement for
Wound Care Center services and the use of Procuren from private insurers, some
hospitals have experienced denials, delays and difficulties in obtaining such
reimbursement. In some cases where Procuren reimbursement has been denied by a
payor, the hospitals have ceased providing Procuren to patients whose only means
of payment is through such payor. To the Company's knowledge, no widespread
denials have been received by hospitals regarding reimbursement for other Wound
Care Center services or reimbursement of management fees charged by the Company
to its hospital clients. The Company discusses coverage and reimbursement issues
with its hospital clients and third party payors on a regular basis. Such
discussions will continue as the Company seeks to assure sufficient payments
from third party payors to the Company's hospital customers for services managed
by the Company and for Procuren so that the Company's hospital customers and
potential customers find it financially feasible to renew contracts or enter
into contracts with the Company. Although no individual coverage and
reimbursement decision is material to the Company, a widespread denial of
reimbursement coverage for Procuren or other services would have a material
adverse effect on the Company's business, financial position and results of
operations.
Medicare regulations limit reimbursement for health care charges paid
to related parties. A party is considered "related" to a provider if there is
significant common ownership or common control by the provider. On occasion,
fiscal intermediaries under contract to HCFA to audit hospital Medicare claims
have asserted that one test for determining control for this purpose is whether
the percentage of the total revenues of the party received from services
rendered to the provider is so high that it effectively constitutes control.
Although the Company believes it does not currently receive sufficient revenues
from any customer, including Columbia/HCA, that would make it a related party,
it is possible that such regulations could limit the number of management
contracts that the Company could have with Columbia/HCA or any other client.
The Wound Care Centers managed by the Company on behalf of acute care
hospitals are treated as "provider based entities" for Medicare cost based
reimbursement purposes. This designation is required for the hospital based
program to be covered under the Medicare cost based reimbursement system. In
August 1996 and again in May 1998, HCFA published criteria for determining when
programs may be designated "provider based entities". The interpretation and
application of these criteria are not entirely clear and there is a risk that
some of the programs managed by the Company could be found not to be "provider
based entities". Although the Company believes that the programs it manages meet
the current criteria to be designated "provider based entities", a widespread
denial on such designation would have a material adverse effect on the Company's
business, financial position and results of operations.
In the Balanced Budget Act of 1997, Congress directed HCFA to implement
a prospective payment system for all hospital outpatient department services
furnished to Medicare patients on or after January 1, 1999. The Company has
learned that HCFA's planned implementation date for this new payment system is
July 2000. In September 1998 and then further update in November 1999, HCFA
published the proposed rules, which delineate the framework, services and
operation of the Prospective Payment System. Under the system, a predetermined
rate will be paid to hospitals for clinic services rendered, regardless of the
hospitals cost. Based on review and analysis of the proposed regulations, the
Company believes that the reimbursement rates will be insufficient for many of
its hospital customers, resulting in revenue and income shortfalls for the wound
care center operations managed by the Company on behalf of the hospitals. The
Company expects that it will need to modify its management contracts with many
of its hospital customers which could result in reduced revenues and income to
the Company from those contracts and even contract terminations. The results
could have a material effect on the Company's business, financial condition and
results of operations. Additionally, the new rules will include new criteria for
programs to be designated a "provider based entity". The interpretation and
application of these new criteria are not entirely clear and there is risk that
some of the programs managed by the Company could be determined not to be
"provider based entities". A widespread denial on such designation could have a
material adverse effect on the Company's business, financial position and
results of operations.
11
Political, economic and regulatory influences are subjecting the health
care industry in the United States to fundamental change. Although Congress has
failed to pass comprehensive health care reform legislation thus far, the
Company anticipates that Congress and state legislatures will continue to review
and assess alternative health care delivery and payment systems and may in the
future propose and adopt legislation effecting fundamental changes in the health
care delivery system. It is possible that future legislation enacted by Congress
or state legislatures will contain provisions which may materially adversely
affect the business, financial position and results of operations of the Company
or may change the operating environment for the Company's targeted customers
(including hospitals and managed care organizations). Health care industry
participants may react to such legislation or the uncertainty surrounding
related proposals by curtailing or deferring expenditures and initiatives,
including those relating to the Company's programs and services. It is also
possible that future legislation either could result in modifications to the
nation's public and private health care insurance systems, which could affect
reimbursement policies in a manner adverse to the Company, or could encourage
integration or reorganization of the health care delivery system in a manner
that could materially affect the Company's ability to compete or to continue its
operations without substantial changes. The Company cannot predict which other
legislation relating to its business or to the health care industry may be
enacted, including legislation relating to third party reimbursement, or what
effect any such legislation may have on its business, financial position and
results of operations.
Competition
The Company's principal competition in the chronic wound care market
consists of specialty clinics that have been established by some hospitals or
physicians. Additionally, there are a number of private companies which provide
wound care services through a HBO program format. In the market for disease
management products and services, the Company faces competition from other
disease management facilities, general health care facilities and service
providers, pharmaceutical companies, biopharmaceutical companies and other
competitors. Many of these companies have substantially greater capital
resources and marketing staffs, and greater experience in commercializing
products and services, than the Company. In addition, recently developed
technologies, or technologies that may be developed in the future, are or may be
the basis for products which compete with the Company's chronic wound care
products and which may be in direct competition with Procuren. There can be no
assurance that the Company will be able to enter into co-marketing arrangements
with respect to these products, or that the Company will be able to compete
effectively against such companies in the future.
Employees
As of December 31, 1999, the Company employed 678 full-time employees,
of which 584 employees were in the wound care operations, 40 employees were in
Procuren production, 13 employees were in technical support and 41 employees
were in general administration and finance. The Company expects to add
additional personnel to its wound care operations in the next year. The Company
believes that its relations with its employees are good.
Item 2 Properties
The Company's headquarters and technical support facility is located in
Hauppauge, Long Island, New York. The Company leases this 30,000 square foot
facility under a lease through 2005. The Company believes that its facilities
are adequate and suitable for its operation. The Company also leases one field
operations office for its wound care operations totaling 4,100 square feet, four
freestanding Wound Care Centers totaling 12,919 square feet and 27 production
facilities totaling 53,175 square feet. The Company's facilities at the hospital
outpatient Wound Care Centers are owned or leased by the hospitals.
12
Item 3 Legal Proceedings
In April 1999, the Company learned through a press release from the
United States Department of Justice that a complaint was filed by a
"whistleblower" relator under the Federal Civil False Claims Act alleging that
the Company made improper charges to Columbia/HCA hospitals as well as other
hospitals. The case has been filed as United States ex. rel. Joseph "Mickey"
Parslow v. Columbia/HCA Healthcare Corporation and Curative Health Services,
Inc. and has been assigned civil case number 98-1260-civ-T-23F, in the Federal
District Court for the Middle District of Florida, Tampa Division.
Under this act, the whistleblower relator could be entitled to
approximately 15 percent of any amounts obtained from the defendants. This
potential bounty under the False Claims Act was intended by Congress to motivate
private persons to bring actions of this nature.
The Company's counsel has advised the Company that it is common for the
government to file an amended complaint when it intervenes in a civil False
Claims Act case, and the Company's counsel expects that the Department of
Justice will file an amended complaint in this case. An amended complaint,
originally anticipated to be filed by August 6, 1999 was extended until February
18, 2000. The Department of Justice contacted the Company through its outside
legal counsel, seeking an additional four-month extension. The Company has
agreed to the extension and anticipates receiving an amended complaint on or
before June 18, 2000. The Company has received an Authorized Investigative
Demand (document subpoena) requiring the production of a broad range of
documents from January 1, 1989 to December 31, 1999. The Company's outside
counsel is currently discussing with the United States Department of Justice the
schedule for the production of documents.
The "whistleblower's" complaint alleges that: the Company's charges
were excessive; the Company shifted costs from non-allowable services to
allowable services; included charges for advertising costs that were not
allowable to the hospital claiming reimbursement from the Medicare program; and
violated the "anti-kickback" statute because a portion of the Company's fee was
based on the number of new patients seen in the wound care centers managed by
the Company. The Company disagrees with these characterizations of its
contractual arrangements, its services, and the fees it charges for those
services.
The Company does not believe that it "refers, recommends or arranges"
for a hospital's services in exchange for kickbacks. The Company also believes
that its charges are fair market value for the services that it furnishes, as
supported by the fact that more than 170 hospitals have entered into contracts
with the Company for its services in managing wound care centers. The Company's
charges cover not only direct costs for management services but also the
Company's intellectual property, which includes a unique data base and clinical
pathways that have proven effective in healing intractable wounds in more than
80 percent of the patients that have completed treatment. These are patients who
otherwise would likely have had to have amputations or other invasive,
expensive, and possibly disabling or disfiguring services. The Company has
expended millions of dollars in developing and maintaining its clinical
pathways, and also in training physicians and other clinicians in its clinical
pathways.
The Company notes that the contracts challenged in the
"whistleblower's" civil suit are contracts that its hospital customers have
generally been required to furnish to Medicare auditors as part of cost report
filings. In hundreds of instances, the Company's fees to its hospital customers
have been allowed in full, sometimes after a detailed audit. The Company,
itself, is neither a provider nor a supplier participating in the Medicare
program and does not receive payments from the Medicare program.
The Company has a formal compliance program and management believes
that the Company is in material compliance with applicable laws and ethical
business practices. In the conduct of its business, the Company has relied on
the advice and guidance of nationally recognized law firms in structuring its
business relationships with its hospitals. In this pending litigation, the
Company intends to defend itself vigorously. An adverse result in this qui tam
action could have a material adverse effect on the Company's business, financial
condition and/or results of operations.
13
As previously disclosed in the Company's Form 10-Q for the quarter
ended March 31, 1999, in April 1999 the Company received a document subpoena
from the Office of Inspector General ("OIG") of the U.S. Department of Health
and Human Services, Region II (New York, NY). The subpoena directed the Company
to produce a broad range of documents from January 1, 1993 to the present
relating to various areas including, among others, the Wound Care Centers, wound
care treatment programs and general business practices. The subpoena stated that
it had been delivered in connection with a "Health Care Investigation". In
response to that subpoena, the Company has furnished a large number of documents
to the OIG.
The Company has learned that this "Health Care Investigation" relates
to a qui tam action filed under seal in the United States District Court for the
Southern District of New York in 1998. Pursuant to a court order entered on
January 11, 2000, the seal under which this action was filed was modified to,
among other things, permit the Company to disclose the allegations in the
complaint in its periodic filings with the Securities and Exchange Commission
and as required to fulfill its disclosure obligations under federal and state
securities laws.
The complaint was filed by a "whistleblower" relator under the
Federal Civil False Claims Act and names the Company and hospitals with which it
does business as defendants. The complaint alleges, among other things, that the
defendants violated the "anti-kickback" statute in part because a portion of the
Company's fee was based on the number of new patients seen in the wound care
centers managed by the Company; engaged in prohibited self-referral
transactions; improperly billed Medicare for costs and services not covered by
Medicare; double-billed Medicare for professional services; and submitted false
claims to Medicare. Certain of the allegations are similar to the allegations
made in United States ex. Rel. Joseph "Mickey" Parslow v. Columbia/HCA Health
Care Corporation and Curative Health Services, Inc., qui tam action. The
complaint in the Southern District of New York action asserts that, as a result
of the allegedly wrongful conduct, the United States suffered damages and that
the defendants are liable to the United States for three times the amount of the
alleged damages plus civil penalties of up to $10,000 per false claim.
The United States has not yet decided whether to intervene in the New
York qui tam action. If it does not, then the plaintiff relator may pursue the
claims on his/her own or may withdraw the complaint.
The Company disagrees with the characterizations in the complaint of
its contractual arrangements, its services, and the fees it charges for those
services, and intends to defend itself vigorously in this action. An adverse
result in this qui tam action could have a material adverse effect on the
Company's business, financial condition and/or results of operations.
Further, if the government were to conclude that the Company engaged in
any misconduct, it could result in affecting the Company's relationship with all
its hospital customers, substantial monetary fines and penalties, and even
exclusion from the governmental healthcare programs which could have a material
adverse effect on the business, financial position and results of operations of
the Company.
Subsequent to the disclosure of the Parslow "whistleblower" lawsuit
and Department of Justice action, the Company and, in some cases, certain of its
officers were named in four shareholder lawsuits, namely:
Ernest Hack versus Curative Health Services, Inc et al.
Scott Thompson versus Curative Health Services, Inc et al.
Tirdad Thompson versus Curative Health Services, Inc et al.
William Nolan versus Curative Health Services, Inc et al.
All suits were filed in the United States District Court for the
Eastern District of New York. The four shareholder lawsuits have been
consolidated into one class action lawsuit. The lawsuits allege generally that
the Company and its officers violated federal securities laws by disseminating
materially false and misleading statements and failing to disclose material
information relating to the contractual relationships with Columbia/HCA
Healthcare Corporation and other hospitals, and certain purported
misrepresentations in connection therewith. The suit seeks to recover
unspecified damages from defendants. The Company denies the allegations and
intends to vigorously defend the suits. The Court denied defendants motion to
dismiss and discovery is currently ongoing. An adverse result in this lawsuit
could have a material adverse effect on the Company's business, financial
conditions and/or results of operations.
14
Notwithstanding its belief that it has complied with the law and its
intention to defend itself vigorously, if it is determined to be in the best
interests of the Company, it is possible that the Company will eventually choose
to enter into a settlement with the government related to the qui tam actions
and or the plaintiffs in the securities litigation lawsuit that could have a
material adverse effect on the Company's business, financial condition and or
results of operations.
In addition, the Company, in the ordinary course of business, is the
subject of or party to various lawsuits, the outcome of which in the opinion of
management, will not have a material adverse effect on its financial position or
results of operations.
Item 4 Submission of Matters to a Vote of Security Holders
None.
15
PART II
Item 5 Market for the Registrant's Common Equity and Related Stockholder
Matters
The Company's common stock is traded on The Nasdaq Stock Market under
the symbol "CURE". As of March 15, 2000, there were approximately 214 holders of
record and approximately 3,500 beneficial shareholders of the Company's common
stock. The Company has not paid any cash dividends since its inception. The
Company currently does not intend to pay cash dividends in the foreseeable
future but intends to retain all earnings, if any, for use in its business
operations.
The following table sets forth, for the fiscal periods indicated, the
range of high and low sales prices of the common stock as quoted on The Nasdaq
National Market System:
High Low
1999
Fourth Quarter..................... $ 8 7/8 $ 4 3/4
Third Quarter...................... 6 1/16 4 1/2
Second Quarter..................... 12 1/8 3 3/4
First Quarter...................... 30 3/4 9 7/8
1998
Fourth Quarter..................... $ 35 $ 22 11/16
Third Quarter...................... 32 1/4 20 1/2
Second Quarter..................... 35 3/4 25 3/4
First Quarter...................... 39 1/4 30
16
Item 6 Selected Consolidated Financial Data
Five year selected consolidated financial data and other operating
information of Curative Health Services, Inc., and subsidiaries follow:
Year Ended December 31,
1995 1996 1997 1998 1999
-------------------------------------------------------------------
(In thousands, except per share and operating data)
Statement of Operations Data:
Revenues $ 52,442 $ 67,395 $ 87,906 $ 103,987 $ 101,209
Costs and operating expenses:
Costs of products sales and services.. 26,189 37,828 48,200 56,035 59.945
Selling, general and administrative... 18,209 19,208 22,617 23,358 26,273
Research and development.............. 4,143 - - - -
------ ------ ------ ------ ------
Total costs and operating expenses....... 48,541 57,036 70,817 79,393 86,218
------ ------ ------ ------ ------
Income from operations..................
before interest income .............. 3,901 10,359 17,089 24,594 14,991
Interest income.......................... 528 1,344 2,666 2,660 2,037
----- ------ ------ ------ ------
Income before income taxes............... 4,429 11,703 19,755 27,254 17,028
Income taxes............................. 219 1,008 3,293 10,217 6,566
--- ----- ----- ------ -----
Net income .............................. $ 4,210 $ 10,695 $ 16,462 $ 17,037 $ 10,462
===== ====== ====== ====== ======
Net income per common share, basic...... $ 0.41 $ 0.95 $ 1.33 $ 1.34 $ .99
==== ==== ==== ==== ===
Denominator for basic earnings per share,
weighted average common shares...... 10,192 11,212 12,404 12,704 10,559
Operating Data:
Wound care centers at end of period...... 79 105 132 154 158
Number of new patients................... 30,023 38,699 48,722 58,510 61,539
Balance Sheet Data:
Working capital.......................... $ 12,575 $ 45,760 $ 62,583 $ 76,419 $ 55,456
Total assets............................. 25,030 61,959 84,939 109,121 87,910
Long-term debts
(including capital lease obligation).. 1,198 1,044 7 - -
Retained earnings (deficit).............. (29,925) (19,230) (2,768) 14,269 24,731
Stockholders' equity..................... 15,611 50,270 72,592 93,396 71,600
17
Item 7 Management's Discussion and Analysis of Financial Condition and Results
of Operations
Overview
The Company's principal business is the delivery of chronic wound care
services through its nationwide network of Wound Care Centers located in or near
acute care hospitals. Substantially all of the Company's revenues are currently
generated under its contracts with acute care hospitals for the management of
chronic wound care programs and the production of Procuren. The Company
currently operates two types of Wound Care Center contracts with hospitals: a
management model and an "under arrangement" model.
In the management model, the Company provides management and support
services for a chronic wound care facility owned or leased by the hospital and
staffed by employees of the hospital, and generally receives a fixed monthly
management fee and a variable case management fee. In the "under arrangement"
model, the Company provides management and support services, as well as the
clinical and administrative staff, for a chronic wound care facility owned or
leased by the hospital, and generally receives fees based on the services
provided to each patient. In both models, physicians remain independent, and the
Company recruits and trains the physicians and staff associated with the Wound
Care Center. In addition, in both models, the Company receives fees for the
production of Procuren based on utilization.
Of the 158 hospital outpatient Wound Care Centers in operation as of
December 31, 1999, 110 were management model Wound Care Centers, and 48 were
"under arrangement" model Wound Care Centers. The Company's fees under its
management contracts with acute care hospitals are paid by the hospitals
directly. See "Business--Third Party Reimbursement."
The Company has four freestanding wound care centers that are owned and
operated by the Company. These centers accounted for approximately 2% of the
Company's revenue in 1999. The Company does not have any immediate plans to open
additional freestanding centers and expects to develop the existing freestanding
programs into hospital based wound care centers.
Results of Operations
Fiscal Year 1998 vs. Fiscal Year 1999. The Company's revenues decreased
from $104.0 million in 1998 to $101.2 million in 1999, a 3% decrease. The
Company ended the year with 158 hospital based Wound Care Centers operating
compared with 154 at the end of 1998. The decrease in revenue is attributable to
the termination of 20 programs during 1999, renegotiation of existing contracts
including 24 with Columbia/HCA Healthcare Corporation, which resulted in reduced
revenue to the Company, and a reduction of Procuren revenues as a result of a
decline in Procuren patients. Revenue at existing centers declined 2 % in 1999
primarily due to such renegotiations and declining Procuren revenues. At any
time during the year, 10 % to 20 % of the Company's contracts are being
renegotiated with the client hospital for a variety of contractual terms or
issues. Historically, some contracts have expired without renewal and others
have been terminated by the Company or the client hospital for various reasons
prior to their scheduled expiration. Hospitals are currently facing financial
challenges associated with lower occupancy rates and reduced revenue streams due
to pricing pressures from third party payors. Program terminations by client
hospitals have been effected for such reasons as financial restructuring,
layoffs, bankruptcies or even hospital closings. The termination, non-renewal or
renegotiation of a material number of management contracts could result in a
continued decline in the Company's revenue. As the result of the recent legal
action against the Company, further unanticipated terminations or non-renewals
may take place. Additionally, new business development has been slower than
normal given the legal uncertainties facing the
Company. Any inability of the Company to develop new Wound Care Centers could
continue the revenue decline. Further, the Medicare program will be implementing
a new reimbursement system in year 2000 for hospital outpatient services. The
Company believes that the reimbursement rates to hospitals will be insufficient
resulting in reduced revenues to the hospitals. The Company expects that it will
need to modify its management contracts with many of its hospital customers
which could result in reduced revenue to the Company or even contract
terminations. The Company has a number of initiatives to counter the decline in
revenue, although there can be no assurance that the initiatives will be
successful. Total new patients to the wound care centers increased 5% from
58,510 in 1998 to 61,539 in 1999. The total number of patients receiving
Procuren therapy decreased 29% from 8,164 in 1998 to 5,797 in 1999. The
percentage of patients receiving Procuren decreased from 14% in 1998 to 9% in
1999. The Company believes that this decrease is attributable to an increase in
the percentage of less severe chronic wounds being treated at the Company's
Wound Care Centers(R), for which physicians are less likely to prescribe
Procuren(R), a lack of available reimbursement for Medicare patients, the
inability of hospitals to assume collection risks due to financial constraints
and increased competition from other wound healing products. The Company
anticipates that the percentage of patients receiving Procuren(R) will continue
to decline in the future.
18
Costs of product sales and services increased from $56.0 million in
1998 to $59.9 million in 1999, a 7% increase. The increase is attributable to
additional staffing and operating expenses associated with the operation of 12
additional under arrangement Wound Care Centers at which the services component
of costs is higher than at the Company's other centers due to the additional
clinical staffing and expenses that these models require. As compared with 1998,
the higher services components at these centers along with existing under
arrangement centers accounted for $3.2 million of the increase in product costs
and services for 1999. As a percentage of revenues, costs of product sales and
services for 1999 was 59 % compared to 54 % for 1998. The 5% increase is
attributed to the lower revenue and negative same store sales growth which
decreased margins and created an inability to leverage expenses over a broader
revenue base.
Selling, general and administrative expenses increased from $23.4
million in 1998 to $26.3 million in 1999, a 12% increase. The increase is
primarily attributable to legal and other costs of approximately $1.7 million in
1999, related to the Department of Justice action, the Office of Inspector
General's document subpoena and shareholder class action lawsuits. The Company
expects to continue to incur significant legal and other related costs until the
aforementioned actions are resolved. As a percentage of revenues, selling,
general and administrative expenses were 26 % in 1999 compared to 22 % in 1998.
The increase is due to the higher legal expense and decreased revenue in 1999.
Interest income was $2.0 million in 1999 compared to $2.7 million in
1998. The decline is primarily attributable to the lower cash balances resulting
from the repurchase of Company stock.
Net income decreased from $17.0 million or $1.34 (basic) per share in
1998 to $10.5 million or $.99 (basic) per share in 1999. The decrease in
earnings of $6.5 million is attributable to a reduced revenue base which
impacted wound care center margins, lower interest income, and the additional
unanticipated legal and other costs.
Fiscal Year 1997 vs. Fiscal Year 1998. The Company's revenues increased
from $87.9 million in 1997 to $104.0 million in 1998, an 18% increase. The
increased revenue is primarily attributable to the operation of 132 wound care
centers at the end of 1997 compared with 154 at the end of 1998 and a 10%
increase in revenues at existing wound care centers related to higher patient
volume. The Company's revenue growth declined to 18% in 1998 compared to 30% in
1997. The decline is primarily attributable to the closing of 16 Wound Care
Centers and the modification of contractual terms of six under arrangement
programs during 1998. At any time during a year, 10 % to 15 % of contracts are
being renegotiated with the client hospital for a variety of contractual terms
or issues. Historically, some contracts have expired without renewal and others
have been terminated by the Company or the client hospital for various reasons
prior to their scheduled expiration. The termination or non-renewal of a
material number of management contracts could result in a continued decline in
the Company's revenue growth. The Company has a number of initiatives to counter
the decline of growth in revenue, although there can be no assurance that the
initiatives will be successful. Total new patients to the wound care centers
increased 20% from 48,722 in 1997 to 58,510 in 1998. The total number of
patients receiving Procuren therapy decreased 5% from 8,583 in 1997 to 8,164 in
1998. The percentage of patients receiving Procuren decreased from 18% in 1997
to 14% in 1998. The Company believes that this decrease is attributable
primarily to an increase in the percentage of less severe chronic wounds being
treated at the Company's Wound Care Centers, for which physicians are less
likely to prescribe Procuren, as well as a lack of available reimbursement for
Medicare patients. The Company believes that this shift in the severity of the
wounds treated at a Wound Care Center occurs as the local medical community
becomes familiar with the services offered by the Wound Care Center and refers a
broader range of chronic wound patients to the Wound Care Center for treatment.
The Company anticipates that the percentage of patients receiving Procuren will
continue to decline in the future.
19
Costs of product sales and services increased from $48.2 million in
1997 to $56.0 million in 1998, a 16% increase. The increase is attributable to
the additional staffing and operating expenses of approximately $5.3 million
associated with the operation of 22 additional wound care facilities at the end
of 1998, offset by $2.5 million associated with 16 closed centers, as well as
increased volume at existing wound care facilities. Additionally, these 22
facilities include 14 under arrangement Wound Care Centers at which the services
component of costs is higher than at the Company's other facilities due to the
additional clinic staffing that these models require. As compared with 1997, the
higher services components at these facilities accounted for an additional $3.8
million of the increase in product sales and services for 1998. As a percentage
of revenues, costs of product sales and services was 54% in 1998 compared with
55% in 1997. The decrease is attributable to the ability of the Company to
leverage the fixed overhead components of the cost of product sales and services
over a broader revenue base.
Selling, general and administrative expenses increased from $22.6
million in 1997 to $23.4 million in 1998, a 3% increase. The increase is
attributable to the additional staffing and operating expenses associated with
the growth of the wound care center business related to field support
departments. As a percentage of revenues, selling, general and administrative
expenses were 22% in 1998 compared to 26% in 1997. The decrease is attributable
to the ability of the Company to obtain leverage by spreading the costs of its
overhead structure over a broader revenue base.
Interest income was $2.7 million in 1998 and 1997. Interest income for
1998 is flat when compared to 1997 as the result of increased investment in
lower yielding tax free instruments in 1998 .
Net income increased from $16.5 million or $1.33 (basic) per share in
1997 to $17.0 million or $1.34 (basic) per share in 1998. The increase in
earnings of $.5 million is primarily attributable to an improvement in operating
margins associated with the revenue growth particularly related to existing
wound care facilities and economies of scale achieved through market growth,
offset by an increase in income taxes as a result of a higher effective tax rate
in 1998.
Liquidity and Capital Resources
Working capital was $55.5 million at December 31, 1999 compared to
$76.4 million at December 31, 1998. Total cash, cash equivalents and marketable
securities held-to-maturity as of December 31, 1999 was $47.0 million and was
invested primarily in highly liquid money market funds, commercial paper and
government securities. The decline in total cash equivalents and marketable
securities held-to-maturity in 1999 is primarily attributable to the use of
$32.3 million for the repurchase of 2.7 million shares of the Company's common
stock during the first quarter of 1999. The ratio of current assets to current
liabilities decreased from 5.9:1 at December 31, 1998 to 4.4:1 at December 31,
1999. The Company's decrease in working capital and current ratio is primarily
attributable to the stock repurchase.
Cash flows provided by operations for 1999 totaled $12.9 million
primarily attributable to the net income for the period. Cash flows provided by
investing activities for 1999 totaled approximately $11.4 million primarily
attributable to the excess of sales of marketable securities over purchases
related to funding of the stock repurchase, offset by capital expenditures for
furniture, equipment and leasehold improvements of $2.6 million and the
additional investment in Accordant Health Services, Inc. of $1.0 million (See
Note B of Notes to Consolidated Financial Statements). Cash flows used in
financing activities totaled $32.3 million for 1999 which was primarily
attributable to the repurchase of shares.
During 1999, the Company experienced a $.8 million increase in net
accounts receivable and an increase in the average number of days receivables
outstanding to 76 days as of December 31, 1999 compared to 66 as of December 31,
1998. The increase in days outstanding is attributable to financial and cash
flow constraints being experienced at some hospitals. Further, compared to
December 31, 1998, the Company's accounts payable and accrued expenses increased
$.6 million as of December 31, 1999.
The Company's longer term cash requirements include working capital for
the expansion of its wound care business. Other cash requirements are
anticipated for capital expenditures in the normal course of business, the
acquisition of software, computers and equipment related to the Company's
management information systems, and the repurchase of Company stock.
Additionally the Company expects to incur significant legal costs related to the
Department of Justice action, Office of Inspector General action and
shareholder class action lawsuits filed against the Company during April 1999
(See Legal Proceedings, Part I Item 3). The Company expects that based on its
current business plan, its existing cash, cash equivalents and marketable
securities will be sufficient to satisfy its current working capital needs. The
effect of inflation risk is considered immaterial.
20
Year 2000
During the year, the Company completed its efforts to minimize the risk
of disruption from the Year 2000 Issue. The Year 2000 Issue was the result of
computer programs using two digits rather than four to define the applicable
year. The Company has experienced no significant problems related to the Year
2000 Issue.
Cautionary Statement
This report contains forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933, as amended, and Section 21E of the
Securities Exchange Act of 1934, as amended. These statements include statements
regarding intent, belief or current expectations of the Company and its
management. These forward-looking statements are not guarantees of future
performance and involve a number of risks and uncertainties that may cause the
Company's actual results to differ materially from the results discussed in
these statements. Factors that might cause such differences include, but are not
limited to, changes in the Company's level of business with Columbia/HCA
Healthcare Corporation, terminations or non-renewal of a material number of
contracts or inability to obtain new contracts, changes in the government
regulations relating to the Company's wound care operations or Procuren,
uncertainties relating to health care reform initiatives, changes in the
availability of third party reimbursements for the Company's products and
services, and the other risks and uncertainties detailed throughout this report
and from time to time in the Company's filings with the Securities and Exchange
Commission.
21
Item 7a Quantitative and Qualitative Disclosures About Market Risk
The primary objective of our investment activities is to preserve
principal while at the same time maximizing the income we receive from our
investments without significantly increasing risk. Some of the securities that
we invest in may have market risk. This means that a change in prevailing
interest rates may cause the fair market value of the principal amount of the
investment to fluctuate. For example, if we hold a security that was issued with
a fixed interest rate at the then-prevailing rate and the prevailing interest
rate later rises, the fair value of the principal amount of our investment will
probably decline. To minimize this risk we maintain our portfolio of cash
equivalents and short-term investments in a variety of securities, including
commercial paper, money market funds, government and non-government debt
securities. The average duration of all of our investments has generally been
less than one year. Due to the short-term nature of these investments, we
believe we have no material exposure to interest rate risk arising from our
investments.
Item 8 Consolidated Financial Statements and Supplementary Data
The information required by this item is incorporated herein by
reference to the Consolidated Financial Statements listed in Item 14(a)
of Part IV of this Report.
The following table sets forth the financial results of the Company
for the eight quarters ended December 31, 1999 (in thousands, except per
share data):
Income Per Income Per
Quarter Ended Revenues Gross Profit Net Income Common Share Basic Common Share Diluted
----------------------------------------------------------------------------------------------------------------------
1999:
December 31 $ 24,367 $ 9,702 $ 2,130 $ .21 $ .21
September 30 25,979 10,262 2,201 .22 .22
June 30 25,620 10,131 2,319 .23 .23
March 31 24,243 11,169 3,812 .32 .31
1998:
December 31 $ 26,716 $ 12,412 $ 4,572 $ .36 $ .35
September 30 26,722 12,313 4,392 .34 .34
June 30 26,036 11,959 4,196 .33 .32
March 31 24,513 11,268 3,877 .31 .29
Item 9 Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
None.
22
PART III
This information required by Part III of this Form 10-K is omitted from
this Report in that the Registrant will file a definitive proxy statement
pursuant to Regulation 14(a) for its 2000 Annual Meeting of Stockholders (the
"Proxy Statement") not later than 120 days after the end of the fiscal year
covered by this Report, and certain information included therein is incorporated
herein by reference.
Item 10 Directors and Executive Officers of the Registrant
The information required by this Item is incorporated by reference to
the sections "Election of Directors" and "Executive Officers" of the Company's
Proxy Statement.
Item 11 Executive Compensation
The information required by this Item is incorporated by reference to
the section "Executive Compensation" of the Company's Proxy Statement.
Item 12 Security Ownership of Certain Beneficial Owners and Management
The information required by this Item is incorporated by reference to the
section "Stock Ownership of Certain Beneficial Owners and Management" of the
Company's Proxy Statement.
Item 13 Certain Relationships and Related Transactions
The information required by this Item is incorporated by reference to
the sections "Election of Directors", "Executive Officers" and "Executive
Committee" of the Company's Proxy Statement.
23
PART IV
Item 14 Exhibits, Financial Statement Schedules, and Reports on Form 8-K
(a) 1. Index to Financial Statements.
The following consolidated financial statements of Curative
Health Services, Inc. are included herein:
Page
Number
------
Report of Independent Auditors......................................F-1
Consolidated Balance Sheets at December 31, 1999 and 1998...........F-2
Consolidated Statements of Income for the years ended
December 31, 1999, 1998 and 1997..................................F-3
Consolidated Statements of Stockholders' Equity for the
years ended December 31, 1999, 1998 and 1997......................F-4
Consolidated Statements of Cash Flows for the years ended
December 31, 1999, 1998 and 1997..................................F-5
Notes to Consolidated Financial Statements..........................F-6
2. Financial Statement Schedules. The following financial statement
schedule of Curative Health Services, Inc. is included herein:
Schedule Page
-------- ----
II Valuation and Qualifying Accounts............................S-1
All other schedules are omitted because they are not applicable, or not
required, or because the required information is included in the
consolidated financial statements or notes thereto.
3. Exhibits. The exhibits listed in the accompanying Index to Exhibits
immediately following the financial statement schedules are filed with
this report.
(b) Reports on Form 8-K. No reports were filed on Form 8-K by the
Company during the fiscal quarter ended December 31, 1999.
(c) Exhibits - The response to this portion of Item 14 is submitted as a
separate section of this report.
(d) Financial Statement Schedules - The response to this portion of Item 14
is submitted as a separate section of this report.
24
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.
CURATIVE HEALTH SERVICES, INC.
By: /s/ John Vakoutis
------------------
John Vakoutis
President, Chief Executive Officer
and Director
Dated: March 30, 2000
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature
appears below constitutes and appoints John Vakoutis and John C. Prior, jointly
and severally, his attorneys-in-fact, each with the power of substitution, for
him in any and all capacities, to sign any amendments to this Report on Form
10-K, and to file the same, with exhibits thereto and other documents in
connection therewith, with the Securities and Exchange Commission, hereby
ratifying and confirming all that each of said attorneys-in-fact, or his
substitute or substitutes, may do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934,
this Report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
Signature Title Date
- --------- ----- ----
/s/ John Vakoutis President, CEO March 30, 2000
- ----------------- (Principal Executive Officer) and Director
John Vakoutis
/s/ John C. Prior SVP Finance and CFO March 30, 2000
- ----------------- (Principal Financial and Accounting Officer)
John C. Prior Secretary
/s/ Lawrence J. Stuesser Chairman of the Board and Director March 30, 2000
- ------------------------
Lawrence J. Stuesser
/s/ Paul S. Auerbach Director March 30, 2000
- --------------------
Paul S. Auerbach
/s/ Daniel E. Berce Director March 30, 2000
- -------------------
Daniel E. Berce
/s/ Gerardo Canet
- ----------------- Director March 30, 2000
Gerardo Canet
/s/ Joseph L. Feshbach Director March 30, 2000
- ----------------------
Joseph L. Feshbach
/s/ Daniel A. Gregorie Director March 30, 2000
- ----------------------
Daniel A. Gregorie
/s/ Lawrence C. Hoff Director March 30, 2000
- --------------------
Lawrence C. Hoff
/s/ Timothy I. Maudlin Director March 30, 2000
- ----------------------
Timothy I. Maudlin
Report of Independent Auditors
Board of Directors and Stockholders
Curative Health Services, Inc.
We have audited the accompanying consolidated balance sheets of
Curative Health Services, Inc. and subsidiaries as of December 31, 1999 and
1998, and the related consolidated statements of income, stockholders' equity,
and cash flows for each of the three years in the period ended December 31,
1999. Our audits also included the financial statement schedule listed in the
Index at Item 14(a). These consolidated financial statements and schedule are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these consolidated 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 consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
Curative Health Services, Inc. and subsidiaries at December 31, 1999 and 1998,
and the consolidated results of its operations and its cash flows for each of
the three years in the period ended December 31, 1999, 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 consolidated financial statements taken as a whole, presents fairly
in all material respects the information set forth therein.
/s/ Ernst & Young LLP
Melville, New York
February 7, 2000
F-1
CURATIVE HEALTH SERVICES, INC., AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands)
December 31,
-----------
1999 1998
-----------------------
ASSETS
Cash and cash equivalents............................................ $ 16,215 $ 24,222
Marketable securities held-to-maturity............................... 30,807 45,830
Accounts receivable (less allowance of $2,276 and $1,679
at December 31, 1999 and 1998, respectively)..................... 20,653 19,871
Deferred tax assets.................................................. 2,271 1,042
Prepaid and other current assets..................................... 1,820 1,179
----- -----
Total current assets............................................. 71,766 92,144
Property and equipment, net.......................................... 12,010 13,366
Other assets ........................................................ 4,134 3,611
----- -----
Total assets..................................................... $ 87,910 $ 109,121
====== =======
LIABILITIES & STOCKHOLDERS' EQUITY
Accounts payable..................................................... $ 7,831 $ 8,786
Accrued expenses..................................................... 8,479 6,932
Capital lease obligations............................................ - 7
------ ------
Total current liabilities........................................ 16,310 15,725
Commitments and contingencies
Stockholders' equity:
Preferred stock, $.01 par value per share; 10,000,000
shares authorized, none issued................................. - -
Preferred stock, Series A Junior Participating, par value
$.01 per share, 500,000 shares authorized, none issued.......... - -
Common stock, $.01 par value per share; 50,000,000
shares authorized,10,090,110 shares issued and
outstanding (12,758,282 shares in 1998)........................ 100 127
Additional paid in capital....................................... 46,769 79,000
Retained earnings ............................................... 24,731 14,269
------ ------
Total stockholders' equity........................................... 71,600 93,396
------ ------
Total liabilities and stockholders' equity........................... $ 87,910 $ 109,121
====== =======
See notes to consolidated financial statements
F-2
CURATIVE HEALTH SERVICES, INC., AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Dollars in thousands, except per share data)
Year Ended December 31,
----------------------
1999 1998 1997
----------------------------------------
Revenues .................................................... $ 101,209 $ 103,987 $ 87,906
Costs and operating expenses:
Costs of product sales and services...................... 59,945 56,035 48,200
Selling, general and administrative...................... 26,273 23,358 22,617
------ ------ ------
Total costs and operating expenses................... 86,218 79,393 70,817
------ ------ ------
Income from operations........................................ 14,991 24,594 17,089
Interest income............................................... 2,037 2,660 2,666
----- ----- -----
Income before income taxes.................................... 17,028 27,254 19,755
Income taxes.................................................. 6,566 10,217 3,293
----- ------ -----
Net income.................................................... $ 10,462 $ 17,037 $ 16,462
====== ====== ======
Net income per common share, basic............................ $ .99 $ 1.34 $ 1.33
=== ==== ====
Net income per common share, diluted.......................... $ .97 $ 1.30 $ 1.27
=== ==== ====
Denominator for basic earnings per share, weighted average
common shares............................................ 10,559 12,704 12,404
====== ====== ======
Denominator for diluted earnings per share, weighted
average common shares assuming conversions............... 10,756 13,071 12,954
====== ====== ======
See notes to consolidated financial statements
F-3
CURATIVE HEALTH SERVICES, INC., AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(In thousands, except shares)
Additional Retained Total
Common Stock Paid in Earnings Subscription Stockholders'
Shares Amount Capital (Deficit) Receivable Equity
- ----------------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1996.............. 12,215,423 $ 121 $ 69,421 $ (19,230) $ (42) $ 50,270
Subscription receivable............ 42 42
Exercise of options................ 345,919 4 2,414 2,418
Tax benefit from stock option
exercises................... 3,400 3,400
Net income for 1997................ 16,462 16,462
- ----------------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1997.............. 12,561,342 125 75,235 (2,768) - 72,592
Exercise of options................ 196,940 2 1,916 1,918
Tax benefit from stock option
exercises.................. 1,849 1,849
Net income for 1998................ 17,037 17,037
- ----------------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1998.............. 12,758,282 127 79,000 14,269 - 93,396
Exercise of options................ 6,828 - 33 33
Shares repurchased and retired..... (2,675,000) (27) (32,293) (32,320)
Tax benefit from stock option
exercises.................. 29 29
Net income for 1999................ 10,462 10,462
- ----------------------------------------------------------------------------------------------------------------------------------
Balance, December 31, 1999.............. 10,090,110 $ 100 $ 46,769 $ 24,731 $ - $ 71,600
===================================================================================
- ----------------------------------------------------------------------------------------------------------------------------------
See notes to consolidated financial statements
F-4
CURATIVE HEALTH SERVICES, INC., AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
Year Ended December 31,
----------------------
1999 1998 1997
------------------------------------
OPERATING ACTIVITIES:
Net income...................................................... $ 10,462 $ 17,037 $ 16,462
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation & amortization.................................. 3,983 2,794 2,014
Provision for doubtful accounts.............................. 3,668 1,957 1,648
Equity in operations of investee............................. 496 85 -
Deferred income taxes........................................ (1,229) 193 (1,235)
Tax benefit from stock option exercises...................... 29 1,849 3,400
Change in operating assets and liabilities:
Increase in accounts receivable.............................. (4,450) (7,617) (3,540)
(Increase) decrease in prepaid and other current assets...... (641) (255) 98
Increase in accounts payable and accrued expenses............ 592 3,418 1,795
------ ------ ------
NET CASH PROVIDED BY OPERATING ACTIVITIES....................... 12,910 19,461 20,642
INVESTING ACTIVITIES:
Investment in Accordant Health Services, Inc. and other......... (1,071) (3,000) -
Purchases of property and equipment............................. (2,575) (6,840) (6,476)
Purchases of marketable securities held-to-maturity............. (35,854) (49,942) (56,781)
Sales of marketable securities held-to-maturity................. 50,877 22,919 75,812
------ ------ ------
NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES............. 11,377 (36,863) 12,555
FINANCING ACTIVITIES:
Stock repurchases............................................... (32,320) - -
Proceeds from exercise of stock options, warrants
and subscription receivable.................................. 33 1,918 2,460
Principal payments on capital lease obligations and revolving
line of credit............................................... (7) (40) (1,137)
------ ----- -----
NET CASH (USED IN) PROVIDED BY FINANCING ACTIVITIES............. (32,294) 1,878 1,323
------ ----- -----
(DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS................ (8,007) (15,524) 34,520
Cash and cash equivalents at beginning of year.................. 24,222 39,746 5,226
------ ------ ------
CASH AND CASH EQUIVALENTS AT END OF YEAR........................ $ 16,215 $ 24,222 $ 39,746
====== ====== ======
SUPPLEMENTARY CASH FLOW INFORMATION:
Interest paid................................................ $ 2 $ 31 $ 31
= == ==
Income taxes paid............................................ $ 6,315 $ 5,330 $ 265
===== ===== ===
See notes to consolidated financial statements
F-5
CURATIVE HEALTH SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
NOTE A -- ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES
Organization: The Company was organized under the laws of the State of
Minnesota in October 1984. It is a disease management company in the chronic
wound care business. The Company, operating in one business segment, manages a
nationwide network of Wound Care Centers that offers patients a
multi-disciplinary comprehensive wound treatment program. The Company's
management agreements with hospitals and other health care providers generally
have a term of five years.
Principles of Consolidation: The consolidated financial statements
include the accounts of the Company and its wholly-owned subsidiaries.
Significant intercompany balances and transactions have been eliminated in
consolidation.
Reclassifications: Certain prior year's balances have been
reclassified to conform with the 1999 presentation.
Use of Estimates: The preparation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the amounts reported in the financial
statements and accompanying notes. Actual results could differ from those
estimates.
Net Income Per Share: Basic and diluted earnings per share is
calculated in accordance with Financial Accounting Standards Board ("FASB")
Statement No. 128. All earnings per share amounts for all periods have been
presented, and where appropriate, restated to conform to FASB No. 128
requirements.
Property and Equipment: Property and equipment are recorded at cost.
Depreciation of property and equipment is provided using the straight-line
method over the estimated useful lives (generally 4 to 7 years). Leased
equipment capitalized and leasehold improvements are amortized over the life of
the lease or the useful life of the related asset, whichever is shorter.
Other Assets: As of December 31, 1998 and 1999, other assets totalled
$3,611,000 and $4,134,000 respectively. As of December 31, 1998, other assets
consist principally of costs of filing patents and trademarks of $696,000 and
the net investment of $2,915,000 in Accordant Health Services, Inc. (See
Note B). As of December 31, 1999, other assets consist primarily of costs of
filing patents and trademarks of 644,000, the net investment of $3,419,000 in
Accordant Health Services, Inc. and a note receivable of $71,000. Costs and
expenses related to a 1992 patent of $920,000 are being amortized over the
life of the patent (17 years) and trademarks of $75,000 are being amortized over
the estimated life of the trademark (20 years) using the straight-line method.
Long-Lived Assets: The Company periodically reviews the carrying value
of its long-lived assets in determining the ultimate recoverability of their
unamortized values using future undiscounted cash flows analyses. Such review
has been performed by management and does not indicate an impairment of such
assets.
Cash and Cash Equivalents: Cash and cash equivalents consist of demand
deposits with banks, certificates of deposit with maturities of less than three
months at the time of purchase and highly liquid money market fund investments.
Marketable Securities Held-to-Maturity: Held-to-maturity marketable
securities represent highly liquid money market instruments with maturities of
greater than three months at time of purchase. These securities, consisting
principally of securities of municipalities, commercial paper and U.S.
Government agencies maturing at various dates through November 2000, are valued
at amortized cost which approximates market.
F-6
CURATIVE HEALTH SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
NOTE A -- ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES (Continued)
The Company's investment policy gives primary consideration to safety of
principal, liquidity and return. The Company invests its funds with institutions
that have high credit ratings and to date has not experienced any losses on its
investments. The Company classifies its investments in such securities as
held-to-maturity as the Company has the intent and ability to hold these
securities to maturity. As of December 31, 1998 and 1999, the Company had
approximately $121,000 of unrealized gains and $115,000 of unrealized losses on
marketable securities, respectively.
Concentration of Credit Risk: Substantially all of the Company's
revenues have been generated from Wound Care Centers which the Company has
established as cooperative ventures with acute care hospitals in the United
States to provide a multi-disciplinary treatment protocol for chronic wounds.
The Company provides contractual management services for fees and sells Procuren
to acute care hospitals and other health care providers. Credit is extended
based on an evaluation of the hospital's financial condition and collateral is
generally not required.
Revenues: Revenues are recognized when products are dispensed or as
contractual management services are rendered.
Advertising: The Company expenses advertising and community education
costs when incurred. Advertising and community education expense was
approximately $8,056,000, $10,166,000 and $8,434,000 for 1999, 1998 and 1997
respectively.
Income Taxes: Income taxes have been provided using the liability
method in accordance with FASB No. 109, "Accounting for Income Taxes."
Stock Based Compensation Plans: The Company grants options for a fixed
number of shares to employees with exercise price equal to the fair value of the
shares at the date of grant. The Company accounts for stock option grants in
accordance with APB Opinion No. 25, "Accounting for Stock Issued Employees" and
related Interpretations because the Company believes the alternate fair value
accounting provided for under FASB No. 123, "Accounting for Stock Based
Compensation", requires the use of option valuation models that were not
developed for use in valuing employee stock options. Under APB 25, because the
exercise price of the Company's employee stock options equals the market price
of the underlying stock on the date of grant, no compensation expense is
recorded.
NOTE B -- EQUITY INVESTMENT
On June 4, 1998, the Company signed an agreement with Accordant Health
Services, Inc. ("Accordant") in which the Company agreed to invest $4 million in
Accordant preferred stock. This agreement gives the Company an 11 percent
interest in Accordant and is accounted for using the equity method of accounting
as the Company has the option to convert the Accordant preferred stock into
common stock. In addition, the Company has significant influence over the
operations of Accordant. As of December 31, 1999 the Company invested $4 million
under this agreement and its share of Accordant's 1998 and 1999 net loss was
approximately $85,000 and $496,000 respectively. The Company's investment in
Accordant is not material to the Company's consolidated financial statements.
F-7
CURATIVE HEALTH SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
NOTE C -- PROPERTY AND EQUIPMENT
A summary of property and equipment and related accumulated
depreciation and amortization follows:
December 31,
-----------
1999 1998
-----------------
(In thousands)
-----------------
Property and equipment............................. $ 18,394 $ 16,392
Leased equipment capitalized....................... 1,371 1,371
Leasehold improvements............................. 5,766 5,193
----- -----
25,531 22,956
Less accumulated depreciation and amortization..... 13,521 9,590
------ -----
$ 12,010 $ 13,366
====== ======
NOTE D -- ACCRUED EXPENSES
Accrued expenses are as follows:
December 31,
-----------
1999 1998
------------------
(In thousands)
------------------
Incentive compensation and benefits................ $ 2,616 $ 2,221
Deferred compensation ............................. 874 -
Marketing and community education ................. 691 1,137
Salaries .......................................... 1,431 1,195
Health benefits ................................... 996 682
Other ............................................. 1,871 1,697
----- -----
$ 8,479 $ 6,932
===== =====
NOTE E -- LEASES
The Company has entered into several noncancellable operating leases
for the rental of certain office space expiring in various years through 2005.
The principal lease for office space provides for monthly rent of approximately
$60,000. The following is a schedule of future lease payments, by year and in
the aggregate, under noncancellable operating leases with initial or remaining
terms of one year or more at December 31, 1999:
Operating Leases
----------------
(In thousands)
----------------
2000 ...................................... $ 1,976
2001 ...................................... 1,648
2002....................................... 1,268
2003....................................... 1,015
2004....................................... 857
Thereafter................................. 393
-----
Total...................................... $ 7,157
-----
Rent expense for all operating leases was approximately $2,130,000,
$2,113,000 and $2,118,000 for the years ended December 31, 1999, 1998 and
1997, respectively.
F-8
CURATIVE HEALTH SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
NOTE F -- STOCKHOLDERS' EQUITY
Director Share Purchase Program: The Company maintains a Director Share
Purchase Program (the "Program") to encourage ownership of its common stock by
its directors. Under the Program, each non-employee director can elect to forego
receipt of cash payments for director's annual retainer and meeting fees and, in
lieu thereof, receive shares of common stock at market value equal to the cash
payment. The Program authorized the issuance of up to 120,000 shares of the
Company's common stock at market value. At December 31, 1999 and 1998, 118,406
shares of common stock were reserved for future issuance under the Program.
Stock Repurchase Plan: In February 1999 the Company announced a 2
million share buyback plan. This repurchase plan was completed in March 1999 and
an additional buyback authorization of 1.5 million shares was announced. As of
December 31, 1999, a total of 2,675,000 shares were repurchased at a cost of
$32,320,000.
Rights Plan: On October 25, 1995, the Board of Directors of the Company
declared a dividend of one preferred share purchase right per share for each
outstanding share of common stock of the Company. The dividend was paid on
November 6, 1995 to shareholders of record on that date. Under certain
circumstances each right may be exercised to purchase one-one hundredth of a
share of Series A Junior Participating Preferred Stock, par value $.01, of the
Company for $65. The rights, which are redeemable by the Company at $.01 per
right, expire in November 2005. The purchase right issued under the Company's
Rights Agreement dated October 22, 1995 provides the holder in the event of (i)
the acquisition of 15% or more of the Company's outstanding common stock by an
Acquiring Person (as defined in the Rights Agreement), (ii) the commencement of
a tender offer or exchange offer which results in a person or group owning 15%
or more of the Company's common stock, to exercise each right (other than rights
held by an Acquiring Person) to purchase common stock of the Company or a
successor company with a market value of twice the $65 exercise price.
NOTE G -- STOCK BASED COMPENSATION PLANS
The Company has stock option plans which provide for the granting of
non-qualified or incentive options to employees, directors, consultants and
advisors. The plans authorize granting of up to 3,406,695 shares of the
Company's common stock at the market value at the date of such grants. All
options are exercisable at times as determined by the Board of Directors, not to
exceed ten years after the grant date.
Pro forma information regarding net income and net income per share is
required by FASB No. 123, and has been determined as if the Company has
accounted for its stock options under the fair value method of that Statement.
The fair value for these options was estimated at the date of grant using a
Black-Scholes option pricing model with the following weighted-average
assumptions at December 31, 1999, 1998 and 1997 respectively: risk-free interest
rate of 5.75%, 4.84% and 5.61%; no dividend yields; volatility factor of the
expected market price of the Company's common stock of 74.1%, 55.7% and 58.0%;
and a weighted-average expected life of the options of 4 years.
F-9
CURATIVE HEALTH SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
NOTE G -- STOCK BASED COMPENSATION PLANS - (CONTINUED)
The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options which have no vesting restrictions
and are fully transferable. In addition, option valuation models require the
input of highly subjective assumptions including the expected stock price
volatility. Because the Company's stock options have characteristics
significantly different from those of traded options, and because changes in the
subjective input assumptions can materially affect the fair value estimate, in
management's opinion, the existing models do not necessarily provide a reliable
single measure of the fair value of its stock options. The Company's pro forma
information is as follows:
(In thousands, except per share data)
1999 1998 1997
-----------------------------------------
Net Income: As reported $ 10,462 $ 17,037 $ 16,462
Pro forma 8,403 14,622 14,949
Basic EPS: As reported $ .99 $ 1.34 $ 1.33
Pro forma .80 1.15 1.21
Diluted EPS: As reported $ .97 $ 1.30 $ 1.27
Pro forma .78 1.12 1.15
A summary of the Company's stock option activity and related
information for the years ended is as follows:
1999 1998 1997
-------------------------------------------------------------------------------------
Weighted Avg Weighted Avg Weighted Avg
Options Exercise Price Options Exercise Price Options Exercise Price
Outstanding at beginning of year.... 1,367,434 $ 25.81 1,353,614 $ 22.92 1,177,833 $ 15.04
Granted.......................... 450,550 7.55 250,000 28.14 625,500 28.43
Exercised........................ (6,828) 4.88 (196,940) 9.74 (345,919) 6.99
Cancelled........................ (132,608) 19.13 (39,240) 21.59 (103,800) 19.74
------- ------ -------
Outstanding at end of year......... 1,678,548 24.58 1,367,434 25.81 1,353,614 22.92
========= ========= =========
Exercisable at end of year.......... 710,762 18.58 499,413 16.95 338,303 13.25
======= ======= =======
Weighted average fair value of
options granted.................. $ 4.47 $ 13.85 $ 14.86
==== ===== =====
The following table summarizes information about stock options outstanding at
December 31, 1999:
Options Outstanding Options Exercisable
------------------- -------------------
Weighted Average
Exercise prices Options Remaining Weighted Average Weighted Average
Outstanding Contractual Life Exercise Price Shares Exercise Price
(In Years)
----------------------------------------------------------------------------------------------
$ 1.55 - $ 4.75 99,865 4.65 $ 3.89 99,051 $ 3.89
4.813 - 7.00 380,858 8.10 6.01 58,658 6.00
8.50 - 11.50 193,800 7.32 10.96 75,700 10.13
13.25 - 20.00 116,377 6.21 17.16 116,294 17.16
20.25 - 33.06 240,271 6.79 25.52 225,646 25.39
647,377 8.04 30.30 135,413 29.40
------- ---- -------
1,678,548 6.86 710,762
========= ==== =======
At December 31, 1999, 388,556 shares of common stock were reserved for future
issuance.
F-10
CURATIVE HEALTH SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
NOTE H -- INCOME TAXES
Significant components of the Company's deferred tax assets as of
December 31, 1999 and 1998 are as follows:
1999 1998
--------------------
Bad debt reserve $ 856 $ 630
Affiliate net operating loss carryforward 591 -
Other reserves and accruals 576 300
Book over tax depreciation 248 112
--- ---
Deferred tax assets $ 2,271 $ 1,042
===== =====
Significant components of the provision for income taxes are as follows:
1999 1998 1997
------------------------------------
Current:
Federal $ 6,651 $ 8,434 $ 7,340
State 1,144 1,590 1,050
Deferred (1,229) 193 (1,235)
Utilization of net operating
loss carryforwards - - (3,862)
------ ----- -----
Total income tax provision $ 6,566 $ 10,217 $ 3,293
===== ====== =====
A reconciliation of income tax computed at the U.S. Federal statutory tax rate
to income tax expense is as follows:
1999 1998 1997
------------------------------------
Federal statutory tax rate 35.0% 35.0% 35.0%
State income taxes net
of Federal tax benefit 4.4% 3.8% 3.5%
Reduction in valuation allowance - - (6.2%)
Tax benefit of net operating
loss carryforwards - - (23.0%)
Other (.8%) (1.3%) 7.4%
----- ------ -----
Effective tax rate 38.6% 37.5% 16.7%
===== ===== =====
F-11
CURATIVE HEALTH SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
NOTE I -- MAJOR CUSTOMERS
In 1997, 1998 and 1999, the Company derived 29%, 25% and 13% of its
consolidated revenues from one customer, respectively.
NOTE J -- LEGAL PROCEEDINGS
In April 1999, the Company learned through a press release from the
United States Department of Justice that a complaint was filed by a
"whistleblower" relator under the Federal Civil False Claims Act alleging that
the Company made improper charges to Columbia/HCA hospitals as well as other
hospitals. The case has been filed as United States ex. rel. Joseph "Mickey"
Parslow v. Columbia/HCA Healthcare Corporation and Curative Health Services,
Inc. and has been assigned civil case number 98-1260-civ-T-23F, in the Federal
District Court for the Middle District of Florida, Tampa Division.
Under this act, the whistleblower relator could be entitled to
approximately 15 percent of any amounts obtained from the defendants. This
potential bounty under the False Claims Act was intended by Congress to motivate
private persons to bring actions of this nature.
The Company's counsel has advised the Company that it is common for the
government to file an amended complaint when it intervenes in a civil False
Claims Act case, and the Company's counsel expects that the Department of
Justice will file an amended complaint in this case. An amended complaint,
originally anticipated to be filed by August 6, 1999 was extended until February
18, 2000. The Department of Justice contacted the Company through its outside
legal counsel, seeking an additional four-month extension. The Company has
agreed to the extension and anticipates receiving an amended complaint on or
before June 18, 2000. The Company has received an Authorized Investigative
Demand (document subpoena) requiring the production of a broad range of
documents from January 1, 1989 to December 31, 1999. The Company's outside
counsel is currently discussing with the United States Department of Justice the
schedule for the production of documents.
The "whistleblower's" complaint alleges that: the Company's charges
were excessive; the Company shifted costs from non-allowable services to
allowable services; included charges for advertising costs that were not
allowable to the hospital claiming reimbursement from the Medicare program; and
violated the "anti-kickback" statute because a portion of the Company's fee was
based on the number of new patients seen in the wound care centers managed by
the Company. The Company disagrees with these characterizations of its
contractual arrangements, its services, and the fees it charges for those
services.
The Company does not believe that it "refers, recommends or arranges"
for a hospital's services in exchange for kickbacks. The Company also believes
that its charges are fair market value for the services that it furnishes, as
supported by the fact that more than 170 hospitals have entered into contracts
with the Company for its services in managing wound care centers. The Company's
charges cover not only direct costs for management services but also the
Company's intellectual property, which includes a unique data base and clinical
pathways that have proven effective in healing intractable wounds in more than
80 percent of the patients that have completed treatment. These are patients who
otherwise would likely have had to have amputations or other invasive,
expensive, and possibly disabling or disfiguring services. The Company has
expended millions of dollars in developing and maintaining its clinical
pathways, and also in training physicians and other clinicians in its clinical
pathways.
F-12
CURATIVE HEALTH SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
NOTE J -- LEGAL PROCEEDINGS (CONTINUED)
The Company notes that the contracts challenged in the
"whistleblower's" civil suit are contracts that its hospital customers have
generally been required to furnish to Medicare auditors as part of cost report
filings. In hundreds of instances, the Company's fees to its hospital customers
have been allowed in full, sometimes after a detailed audit. The Company,
itself, is neither a provider nor a supplier participating in the Medicare
program and does not receive payments from the Medicare program.
The Company has a formal compliance program and management believes
that the Company is in material compliance with applicable laws and ethical
business practices. In the conduct of its business, the Company has relied on
the advice and guidance of nationally recognized law firms in structuring its
business relationships with its hospitals. In this pending litigation, the
Company intends to defend itself vigorously. An adverse result in this qui tam
action could have a material adverse effect on the Company's business, financial
condition and/or results of operations.
As previously disclosed in the Company's Form 10-Q for the quarter
ended March 31, 1999, in April 1999 the Company received a document subpoena
from the Office of Inspector General ("OIG") of the U.S. Department of Health
and Human Services, Region II (New York, NY). The subpoena directed the Company
to produce a broad range of documents from January 1, 1993 to the present
relating to various areas including, among others, the Wound Care Centers, wound
care treatment programs and general business practices. The subpoena stated that
it had been delivered in connection with a "Health Care Investigation". In
response to that subpoena, the Company has furnished a large number of documents
to the OIG.
The Company has learned that this "Health Care Investigation" relates
to a qui tam action filed under seal in the United States District Court for the
Southern District of New York in 1998. Pursuant to a court order entered on
January 11, 2000, the seal under which this action was filed was modified to,
among other things, permit the Company to disclose the allegations in the
complaint in its periodic filings with the Securities and Exchange Commission
and as required to fulfill its disclosure obligations under federal and state
securities laws.
The complaint was filed by a "whistleblower" relator under the
Federal Civil False Claims Act and names the Company and hospitals with which it
does business as defendants. The complaint alleges, among other things, that the
defendants violated the "anti-kickback" statute in part because a portion of the
Company's fee was based on the number of new patients seen in the wound care
centers managed by the Company; engaged in prohibited self-referral
transactions; improperly billed Medicare for costs and services not covered by
Medicare; double-billed Medicare for professional services; and submitted false
claims to Medicare. Certain of the allegations are similar to the allegations
made in United States ex. Rel. Joseph "Mickey" Parslow v. Columbia/HCA Health
Care Corporation and Curative Health Services, Inc., qui tam action. The
complaint in the Southern District of New York action asserts that, as a result
of the allegedly wrongful conduct, the United States suffered damages and that
the defendants are liable to the United States for three times the amount of the
alleged damages plus civil penalties of up to $10,000 per false claim.
The United States has not yet decided whether to intervene in the New
York qui tam action. If it does not, then the plaintiff relator may pursue the
claims on his/her own or may withdraw the complaint.
The Company disagrees with the characterizations in the complaint of
its contractual arrangements, its services, and the fees it charges for those
services, and intends to defend itself vigorously in this action. An adverse
result in this qui tam action could have a material adverse effect on the
Company's business, financial condition and/or results of operations.
Further, if the government were to conclude that the Company
engaged in any misconduct, it could result in affecting the Company's
relationship with all its hospital customers, substantial monetary fines and/or
penalties, and even
F-13
CURATIVE HEALTH SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
NOTE J -- LEGAL PROCEEDINGS (CONTINUED)
exclusion from the governmental healthcare programs which could have a material
adverse effect on the business, financial position and results of operations of
the Company.
Subsequent to the disclosure of the Parslow "whistleblower" lawsuit
and Department of Justice action, the Company and, in some cases, certain of its
officers were named in four shareholder lawsuits, namely:
Ernest Hack versus Curative Health Services, Inc et al.
Scott Thompson versus Curative Health Services, Inc et al.
Tirdad Thompson versus Curative Health Services, Inc et al.
William Nolan versus Curative Health Services, Inc et al.
All suits were filed in the United States District Court for the
Eastern District of New York. The four shareholder lawsuits have been
consolidated into one class action lawsuit. The lawsuits allege generally that
the Company and its officers violated federal securities laws by disseminating
materially false and misleading statements and failing to disclose material
information relating to the contractual relationships with Columbia/HCA
Healthcare Corporation and other hospitals, and certain purported
misrepresentations in connection therewith. The suit seeks to recover
unspecified damages from defendants. The Company denies the allegations and
intends to vigorously defend the suits. The Court denied defendants motion to
dismiss and discovery is currently ongoing. An adverse result in this lawsuit
could have a material adverse effect on the Company's business, financial
conditions and/or results of operations.
Notwithstanding its belief that it has complied with the law and its
intention to defend itself vigorously, if it is determined to be in the best
interests of the Company, it is possible that the Company will eventually choose
to enter into a settlement with the government related to the qui tam actions
and or the plaintiffs in the securities litigation lawsuit that could have a
material adverse effect on the Company's business, financial condition and/or
results of operations.
In addition, the Company, in the ordinary course of business, is the
subject of or party to various lawsuits, the outcome of which in the opinion of
management, will not have a material adverse effect on its financial position
and/or results of operations.
NOTE K -- EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted
earnings per share:
1999 1998 1997
(In thousands)
--------------------------------
Denominator:
Denominator for basic earnings per
share, weighted average shares 10,559 12,704 12,404
Effect of dilutive employee stock options (a) 197 367 550
--- --- ---
Denominator for diluted earnings per share,
adjusted weighted average shares and
assumed conversions 10,756 13,071 12,954
====== ====== ======
(a) Potentially dilutive employee and director stock options that have been
excluded from this amount because they are anti-dilutive amounted to 1,198,000,
425,000 and 454,000 in 1999, 1998, 1997, respectively.
F-14
CURATIVE HEALTH SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999
NOTE K -- EARNINGS PER SHARE (CONTINUED)
The numerator for basic and diluted earnings per share for the years
ended December 31, 1999, 1998 and 1997 is the net income for the period.
NOTE L -- EMPLOYEE BENEFITS
The Company maintains a qualified Employee Savings Plan (the
"Plan") for eligible employees under Section 401(k) of the Internal Revenue
Code. The Plan provides for voluntary employee contributions through salary
reductions and employer contributions at the discretion of the Company. The
Company currently has authorized employer contributions of 50% of employees'
contribution up to 2% of the employees' compensation. The Company's contribution
expense was $552,000, $480,000 and $385,000 in 1999, 1998 and 1997,
respectively.
The Company also maintains a non-qualified Deferred Compensation Plan for
certain executives and directors. The Company's expense for this Deferred
Compensation Plan was $145,000 in 1999, the initial year for this plan.
F-15
Schedule II
CURATIVE HEALTH SERVICES, INC. AND SUBSIDIARIES
VALUATION AND QUALIFYING ACCOUNTS
YEAR ENDED DECEMBER 31, 1999
COL. A COL.B COL. C COL. D COL. E
ADDITIONS
Balance at Charged to Charged to Balance at
Beginning Costs and Other Account Deductions End
DESCRIPTION of Period Expenses Describe Describe of Period
Year ended December 1999
Allowance for doubtful accounts $ 1,679,000 $ 3,668,000 $ - $ 3,071,000(1) $ 2,276,000
========= ========= ===== ========= =========
Year ended December 31, 1998:
Allowance for doubtful accounts $ 2,492,000 $ 1,957,000 $ - $ 2,770,000(1) $ 1,679,000
========= ========== ===== ========= =========
Year ended December 31, 1997:
Allowance for doubtful accounts $ 941,000 $ 1,648,000 $ - $ 97,000(1) $ 2,492,000
======= ========= ===== ========= =========
Allowance for deferred tax valuation $ 6,129,000 $ - $ - $ 6,129,000(2) $ -
========= ========= ===== ========= =========
(1) Accounts written off
(2) Reduction in allowances
S-1
INDEX TO EXHIBITS
Exhibit No. Description Page No.
- ---------------------------------------------------------------------------------------------------------
3.1 Articles of Incorporation of the Company (1)
3.2 Bylaws of the Company (1)
4.0 Rights Agreement, dated as of October 25, 1995 between
Curative Technologies, Inc. and Bank Minnesota,
National Association, as Rights Agent (7)
4.1 Stock Purchase Agreement, dated July 6, 1989, among
the Company and certain investors named therein (1) (Ex. 4.2)
10.1 Technology Transfer Agreement, dated September 21, 1990,
between Curative Technologies GmbH and the Company (1) (Ex. 10.8)
10.2 Contractual Agreement for Wound Healing Product effective as
of January 1, 1988, between the Company and the University of
Minnesota Hospital and Clinic (1) (Ex. 10.17)
10.3 Form of Wound Care Center(R)Contract (12)
10.4 Lease Agreement dated June 30, 1997, and amended Lease
Agreement dated November 13, 1997, between New York Life
Insurance Company and the Company (12)
10.5 Employment Agreement, dated as of September 1, 1997 between
John C. Prior and the Company (9)**
10.6 1991 Stock Option Plan (1) (Ex. 10.27)**
10.7 Amendment No. 4 to the 1991 Stock Option Plan (12)**
10.9 Curative Health Services, Inc., Director Share Purchase
Program (3)**
10.10 Employment Agreement, dated as of October 21, 1993, between
Howard Jones and the Company (4)**
10.11 Curative Health Services, Inc. Employee 401(k) Savings Plan,
as amended and restated (5)**
10.12 Settlement Agreement by and between the University of
California, David R. Knighton and the Company dated
September 1, 1993 (6)
10.13 Settlement Agreement by and among the United States of America and
UltraMed, Inc., Robert Baurys, Susan Hrim, Cy Corgan, Chris Rosenski
and the Company dated October 18, 1994 and related agreements (6)
10.14 Amendment of Employment Agreement, dated September 1, 1997
between John Vakoutis and the Company (9)**
10.15 Employment Agreement dated as of September 1, 1997, between
Carol Gleber and the Company (9)**
10.16 Employment Agreement dated as of June 17, 1987, between
Gary Jensen and the Company (6)**
10.19 Curative Technologies, Inc. Non-Employee Director Stock Option
Plan (8)
10.19.1 Amendment No. 1 to Curative Technologies, Inc. Non Employee
Director Stock Option Plan (10) (Ex. 10.19)
10.20 Employment Agreement dated as of October 21, 1998 between
Robert Heisler and the Company (12)**
10.21 Amended Employment Agreement dated December 17, 1997 between
William Tella and the Company (11)**
10.22 Development and Licensing Agreement dated May 19, 1998 between
Accordant Health Services, Inc. and the Company (12)
10.23 Stock Purchase Agreement dated May 1998, among Accordant Health
Services, Inc, the Company and certain investor named herein. (12)
21 Subsidiaries of the Registrant *
23 Consent of Ernst & Young LLP *
24 Power of Attorney (included signature page)
27 Financial Data Schedule
* Filed herewith
** Required to be filed pursuant to Item 601(b) (10) (ii) (A) or (iii) of
Regulation S-K.
(1) Incorporated by reference to similarly numbered exhibit to the
Company's current report on Form 8-K dated May 30, 1996.
(2) Incorporated by reference to the similarly numbered exhibit
(unless otherwise indicated) to the Company's Registration Statement on
Form S-1 (No. 33-39880).
(3) Incorporated by reference to the Company's Registration Statement on Form
S-8 (filed July 7, 1993, No. 33-65710).
(4) Incorporated by reference to Exhibit 10.32 to the Company's Annual Report
on Form 10-K filed for the year ended December 31, 1993.
(5) Incorporated by reference to the Company's Registration Statement on Form
S-8 (filed October 13, 1994, No. 33-85188).
(6) Incorporated by reference to the similarly numbered exhibit to the
Company's Annual Report on Form 10-K filed for the year ended
December 31, 1994.
(7) Incorporated by reference to similarly numbered exhibit to the Company's
Current Report on Form 8-K dated November 6, 1995.
(8) Incorporated by reference to Exhibit 10.25.2 to the Company's Quarterly
Report on Form 10-Q filed for the year ended June 30, 1996.
(9) Incorporated by reference to the similarly numbered exhibit to the
Company's Annual Report and Form 10-K filed the year ended
December 31, 1997.
(10) Incorporated by reference to the similarly numbered exhibit
(unless otherwise indicated) to the Company's Quarterly Report on
Form 10-Q for the quarter ended June 30, 1998.
(11) Incorporated by reference to Exhibit 10.45.1 to the Company's Quarterly
Report on Form 10Q for the quarter ended March 3, 1998.
(12) Incorporated by reference to similarly numbered exhibit to the Company's
Annual Report on From 10K filed for the year ended December 31, 1998.
Exhibit 21
SUBSIDIARIES OF THE REGISTRANT
The following is a list of all of the subsidiaries of the registrant:
1. CHS Services, Inc., organized under the laws of Delaware.
Exhibit 23
CONSENT OF INDEPENDENT AUDITORS
We consent to the incorporation by reference in the Registration Statement
(Form S-8 No. 333-65751) pertaining to the Curative Health Services, Inc. and
subsidiaries 1991 Stock Option Plan, as amended, in Registration Statement (Form
S-8 No. 333-65753) pertaining to Curative Health Services, Inc. Non-Employee
Director Stock Option Plan, as amended, in the Registration Statement (Form S-8
No. 33-19370) pertaining to the Curative Health Services, Inc. and subsidiaries
Director Share Purchase Program and in the Registration Statement (Form S-8 No.
33-85188) pertaining to the Curative Health Services, Inc. and subsidiaries
Employee 401(k) Savings Plan of our report dated February 7, 2000, with respect
to the consolidated financial statements and schedule of Curative Health
Services, Inc. and subsidiaries included in the Annual Report (Form 10-K) for
the year ended December 31, 1999.
/s/ Ernst & Young LLP
Melville, New York
March ___, 2000