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U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
________________________________________________________________________________
[X] Annual Report under Section 13 or 15(d) of the Securities Exchange Act of
1934
For the fiscal year ended August 31, 2002
[_] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
Commission file number: 000-20554
DYNACQ INTERNATIONAL, INC.
(Exact name of registrant as specified in its charter)
Nevada 76-0375477
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(State or Other Jurisdiction of Incorporation or Organization) (I.R.S. Employer Identification No.)
10304 Interstate 10 East, Suite 369, Houston, Texas 77029
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(Address of Principal Executive Office) (Zip Code)
713-673-6432
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(Registrant's Telephone Number, Including Area Code)
Securities registered pursuant to Section 12(b) of the Exchange Act: None
Securities registered pursuant to Section 12(g) of the Exchange Act: Common
Stock, par value $.001
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [ X ] No [_]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in the definitive proxy or information statement
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
The aggregate market value of the voting stock held by non-affiliates of the
registrant on November 11, 2002 was $84,523,789.
As of November 11, 2002 registrant had 14,831,100 shares of common stock
outstanding, all of one class.
Documents Incorporated by Reference:
Part III--Portions of the registrant's definitive proxy statement to be issued
in conjunction with registrant's annual stockholders' meeting to be held on
February 12, 2003.
This annual report contains forward-looking statements. These statements
relate to future events or future financial performance and involve known and
unknown risks, uncertainties and other factors that may cause the Company or its
industry's actual results, levels of activity, performance or achievements to be
materially different from any future results, levels of activity, performance or
achievements expressed or implied by the forward- looking statements. These
factors include, without limitation:
. the ongoing availability of favorable reimbursement by governmental
and commercial payors;
. the quality of care, including responsiveness of service and quality
of professional personnel, offered by the Company;
. the Company's ability to establish and maintain relationships with
surgeons;
. the Company's ability to attract and retain managers and allied
health professionals;
. the Company's ability to successfully identify and integrate new
surgical campuses.
In some cases, you can identify forward-looking statements by
terminology such as "may," "will," "should," "expects," "plans," "anticipates,"
"believes," "estimates," "predicts," "potential," or the negative of these terms
or other comparable terminology. These statements are only predictions. Actual
events or results may differ materially.
Although the Company believes that the expectations reflected in the
forward-looking statements are reasonable, it cannot guarantee future results,
levels of activity, performance, or achievements. Moreover, neither the Company
nor any other person assumes responsibility for the accuracy and completeness of
these forward-looking statements. The Company is under no duty to update any of
the forward- looking statements after the date of this report to conform its
prior statements to actual results.
PART I
Item 1. Business
General
Dynacq International, Inc., a Nevada corporation (referred to as the
"Company"), is in the surgical specialty hospital business. The Company's
strategy is to develop and operate surgical specialty hospitals focusing on
certain surgical specialties, including, orthopedic surgery, neurosurgery, and
general surgery. The Company's surgical hospitals include operating rooms, pre-
and post-operative space, intensive care units, nursing units, and
state-of-the-art diagnostic facilities.
The Company was incorporated in June 1989. In August 1992, the Company
commenced operations as a provider of healthcare services and supplies to
patients in their homes, specializing in home infusion therapy. The Company's
home infusion therapy business was its core operation for several years before
it focused on its healthcare operations. Since 1996, the Company's focus has
been on the operation and development of surgical facilities, and since 2000, on
specialty surgical hospitals. The Company's current operations include:
. the ownership of 90% and the management of a surgical hospital in
Pasadena, Texas (referred to as the "Vista Hospital");
. the ownership of 100% of Vista West, an outpatient surgical facility
in west Houston; and
. a newly developed surgical hospital in Baton Rouge, Louisiana
expected to be opened during the
1
first calendar quarter of 2003.
During fiscal 2002, the Company's primary sources of revenue were
derived from the Vista Hospital, and from an outpatient surgery center adjacent
to the Vista Hospital. During the first quarter of fiscal 2003, the Company
received state approval to consolidate the outpatient surgical facilities into
the Vista Hospital operating license, thereby achieving a total of 8 operating
rooms that can be utilized for both inpatient and outpatient procedures.
In November 2001, the Company purchased the Charis Hospital in Baton
Rouge, Louisiana for $3,400,000. The Company is renovating the existing facility
and is constructing approximately 20,000 square feet of new surgical rooms and
support space, for an aggregate cost of approximately $4,500,000. The renovated
facility, which now contains approximately 49,500 square feet of space, is
called the Vista Surgical Hospital of Baton Rouge, and is expected to open in
the first calendar quarter of 2003. The hospital will have 2 procedure rooms, 4
operating rooms, an intensive care unit, 39 hospital beds, and diagnostic
facilities. In connection with the renovation and operation of the hospital, the
Company, through one of its subsidiaries, will lease approximately $10,000,000
of diagnostic equipment and general furnishings for the hospital.
In September 1993, the Company's common stock commenced trading on the
Nasdaq Small Cap System under the trading symbol DYII. In February 1998, the
Company effectuated a four to one reverse stock split. In January 2000 and March
2001, the Company completed two separate stock splits effected in the form of a
100% stock dividend. In April 2000, the Company's common stock started trading
on the Nasdaq National Market System under the same trading symbol, DYII.
Industry Background
The development of proprietary general acute care hospital networks
occurred during the 1970s. During the past 20 years, freestanding outpatient
surgery centers were developed to compete with these general hospitals for
outpatient procedures. Freestanding outpatient surgery centers allowed surgeons
to perform outpatient procedures in specialized facilities, designed to improve
efficiency and enhance patient care. The Company believes the creation of
specialty surgical hospitals, which the Company has focused on developing, has
occurred primarily due to ongoing medical innovation that permits the
performance of more complex inpatient procedures at freestanding facilities, as
opposed to general hospitals. The Company believes that specialty surgical
hospitals allow surgeons to perform inpatient procedures at facilities that
provide similar efficiencies as those provided at outpatient surgery centers.
Private surgical hospitals are designed with the goal of improving
surgeon efficiency. The Company believes that this is due to the elective nature
of the procedures performed and the use of block scheduling, which allows
surgeons to schedule their time more efficiently and therefore increase the
number of surgeries they can perform in a given amount of time. Block scheduling
provides surgeons with specified blocks of time in which they can schedule
procedures. In addition, as the Company's facilities contain multiple operating
rooms, block scheduling permits surgeons to schedule multiple elective
procedures in adjacent operating rooms, which allows for greater scheduling
flexibility and more consistent staffing. In addition, the Company believes that
many surgeons choose to perform surgery in the Company's facilities because
their patients prefer the comfort of a less institutional atmosphere and the
convenience of simplified admissions and discharge procedures.
Vista Hospital and Vista West
Pending the opening of the Baton Rouge hospital campus, the Company's
current primary operating campus is the Vista Hospital. The Vista Hospital is
located in Pasadena, Texas, and currently consists of 8 operating rooms and 37
operating beds. During fiscal year 2002, the Vista Hospital represented
approximately 94% of the Company's net patient service revenues. This percentage
includes both inpatient and outpatient procedures performed at the Vista
Hospital and at the outpatient surgical facility, which, as previously
discussed, was consolidated into the Vista
2
Hospital during the first quarter of fiscal 2003. For fiscal 2002, the
outpatient surgical facility represented approximately 17% of the Company's net
patient service revenues. The Vista Hospital's areas of surgical specialty
include orthopedic surgery, general surgery, and neurosurgery.
The Vista Hospital, and the land on which the hospital is located, is
held by a wholly owned subsidiary of the Company, which leases the facility to a
separate entity that is owned 90% by Doctors Practice Management, Inc., a wholly
owned subsidiary of the Company ("DPMI"), and 10% by Halcyon, L.L.C. DPMI also
manages the Vista Hospital.
Vista West was established in March 2001, and is a satellite surgical
center to the Vista Hospital located in west Houston. Vista West houses 2
operating rooms. This facility's primary areas of practice include orthopedic
surgery, general surgery, and pain management. For fiscal 2002, Vista West
represented approximately 3% of the Company's net patient service revenues.
DPMI was originally established for the purpose of providing fee-based
management services to physician groups. As part of the Company's overall
business strategy to concentrate its resources on the operation of its current
hospital campuses and on identifying future hospital projects, it is not
pursuing additional physician management agreements at this time. This portion
of the Company's business represented a nominal amount of revenue for the
Company during fiscal 2002. DPMI's primary current activities involve the
management of certain of the Company's medical facilities.
Business Growth Strategy
Since 1996, the Company has focused on developing and expanding its
surgical services. The primary elements of the Company's current business
strategy involve:
. Actively seeking and pursuing new opportunities to develop and/or
acquire additional surgical specialty hospitals;
. Identifying new geographic markets for possible expansion;
. Adding new capabilities to its existing hospital campuses;
. Further developing and refining its surgical hospital prototype to,
among other things, enhance the facility design of its hospitals to
provide efficient, effective, and quality patient care;
. Creating and maintaining relationships with quality surgeons;
. Exploring the addition of new surgical product lines and
ancillaries;
. Providing an attractive work environment to retain highly qualified
allied health professionals; and
. Attracting and retaining key management, marketing, and operating
personnel at the corporate level.
Marketing and Sales
The Company maintains a corporate development division, headed by one of
its executive officers, which continually evaluates and seeks new development
projects in the surgical hospital space. Each of the Company's existing
facilities maintains a marketing team responsible for management of the
facilities' marketing needs.
Competition
3
Presently, the Company operates only in the greater Houston metropolitan
market, but expects to begin competing in the Baton Rouge, Louisiana market upon
the opening of the Baton Rouge hospital campus. In each market, the Company
competes with other providers, including major acute care hospitals. Hospitals
may have various competitive advantages over the Company, including their
community position, capital resources, and proximity to surgeon office
buildings. The Company also encounters competition with other companies for
acquisition and development of facilities and for strategic relationships with
surgeons.
The Company estimates that there are two publicly held companies, and
numerous privately held companies, that acquire and develop freestanding private
surgical hospitals and outpatient surgery centers. Many of these competitors
have greater resources than the Company. The principal competitive factors that
affect the Company's ability and the ability of its competitors to acquire or
develop private surgical hospitals are experience and reputation, and access to
capital. Further, some surgeon groups develop surgical facilities without a
corporate partner. The Company can provide no assurance that it will be able to
successfully compete in this market.
Healthcare Regulation
The healthcare industry is highly regulated at the federal and state
levels. The various relationships between the Company and its affiliated surgeon
groups, however, are varying and in some respects unique, and many aspects of
these relationships have not been the subject of judicial or regulatory
interpretation. There can be no assurance that a review of the Company's
business by courts or by healthcare, tax, labor or other regulatory authorities
would not result in determinations that could adversely affect the Company's
operations or that the healthcare regulatory environment will not change so as
to restrict the Company's existing operations or potential for expansion.
A federal statute, referred to as the "anti-kickback statute," prohibits
the offer or payment of remuneration, or the solicitation or receipt of
remuneration, to induce either (a) the purchase of any item or service
reimbursable in whole or in part by Medicare or certain state healthcare
programs (including Medicaid); or (b) the referral of an individual for the
furnishing of any item or service reimbursable in whole or in part by Medicare
or certain state healthcare programs. Both criminal and civil penalties can be
imposed for violations of the anti-kickback statute, including exclusion from
participation in the Medicare and Medicaid programs. The Department of Health
and Human Services ("DHHS") and law enforcement authorities are increasingly
scrutinizing arrangements between healthcare providers and referring physicians
to ensure that those arrangements do not constitute mechanisms for paying for
referrals. In addition, a number of states have adopted similar legislation that
applies to patients not covered by Medicare or Medicaid programs. The Company
does not believe that its business operations violate federal or state
anti-kickback statutes. Nevertheless, because of the breadth of federal and
state anti-kickback statutes and the absence of court decisions interpreting
their application to arrangements such as those entered into by the Company,
there can be no assurance that the Company's activities will not be challenged
by regulatory authorities or that the Company's position will prevail if
challenged.
The Company's facilities are currently located in Louisiana and Texas.
Both states impose licensing, certification and other requirements on the
Company's facilities, and may require additional licenses or certifications or
become subject to new regulations as the Company expands its facilities or
acquire additional facilities in each state. The Company may become subject to
additional regulations as it expands or enters new markets. In addition, the
Company's facilities are subject to state and local licensing regulations
ranging from the adequacy of medical care to compliance with building codes and
environmental protection laws.
The Health Insurance Portability and Accountability Act of 1996
contains, among other measures, provisions that require many organizations,
including the Company, to implement very significant and potentially expensive
new computer systems and business procedures designed to protect each patient's
individual healthcare information. The Health Insurance Portability and
Accountability Act of 1996 requires the DHHS to issue rules to define and
implement patient privacy standards. The Company expects that compliance with
these standards will
4
require significant commitment and action, and may cause significant
expenditures. The Company cannot predict the total financial impact of the
regulations on its operations.
The federal government and the various states regulate and license
various aspects of the Company's business. Federal laws require, among other
things, that the Company's facilities comply with rules relating to controlled
substances. These rules include an obligation to register with various
government agencies and to meet certain requirements concerning security, record
keeping, inventory controls, prescription forms, order forms and labeling. The
Company's nurses and pharmacists also are subject to state licensing
requirements and laws regarding standards of professional conduct. Each nurse
and pharmacist practicing at the Company must have a valid license. The Company
believes that its operations comply in all material respects with all applicable
licensing requirements.
Numerous legislative proposals have been introduced or proposed in
Congress and in some state legislatures that would effect major changes in the
United States healthcare system nationally or at the state level. It is not
clear at this time what proposals, if any, will be adopted or, if adopted, what
effect, if any, such proposals would have on the Company's business. Certain
proposals, such as reducing Medicare and Medicaid, could adversely affect the
Company. There can be no assurance that currently proposed or future healthcare
legislation or other changes in the administration or interpretation of
governmental healthcare programs will not have a material adverse effect on the
Company.
Insurance
The Company maintains separate insurance policies for each of its
facilities. The Company maintains both malpractice insurance and general
liability insurance in amounts management deems adequate. In addition, the
physicians practicing at the Company's facilities also maintain malpractice
insurance.
Employees
As of November 1, 2002, the Company employed approximately 288 full-time
employees and 50 part-time employees.
Executive officers of the registrant
The following table sets forth the name, age, present title, principal
occupation, and certain biographical information for the past five years for the
Company's executive officers.
Chiu M. Chan, age 50, has served as a director and as president,
secretary, and chief executive officer since July 1992. Mr. Chan is a registered
pharmacist and since May 1978 was employed by various health care service
organizations in Houston, Texas prior to his affiliation with Dynacq. Mr. Chan
earned a Bachelor of Science degree in Pharmacy from the University of Houston.
Philip S. Chan, age 51, has served as a director and as vice president
of finance, chief financial officer, and treasurer since July 1992. Mr. Chan
earned advanced accounting degrees from the University of Houston and is a CPA
in the State of Texas. Prior to his employment with Dynacq, Mr. Chan had
previous corporate and outside accounting experience. Philip S. Chan is not
related to Chiu M. Chan.
Sarah C. Garvin, age 55, has served as vice president of operations and
strategic planning from December 2000 and was named chief operating officer and
executive vice president in October 2001. Prior to joining Dynacq, Ms. Garvin
was an officer in Surgi+Group, Inc., which was acquired by Dynacq. From mid-1993
to June 1996, Ms. Garvin was senior vice president of Surgical Health
Corporation and from June 1996 to June 2000 served as chief executive officer of
its spin-out subsidiary company, Physician Health Corporation.
5
Irvin T. Gregory, age 64, has served as executive vice president of
development and chief development officer since October 2001, and served as vice
president of development from December 2000 until October 2001. Since September
2000, Mr. Gregory served as president of Surgi+Group, Inc., which was acquired
by Dynacq. From June 1999 until September 2000, Mr. Gregory served as president
of Gregory & Associates, Inc., a surgery center consulting business. From May
1997 until April 1999, Mr. Gregory served as president and chief executive
officer of Physicians Surgical Care, Inc., a privately owned surgery center
company. From December 1994 until May 1997, Mr. Gregory served as president and
chief executive officer of Amedysis Surgery Centers, Inc., a division of
Amedysis, Inc., a publicly held healthcare services company.
Risk Factors
The following factors affect the Company's business and the industry in
which it operates. The risks and uncertainties described below are not the only
ones facing the Company. Additional risks and uncertainties not presently known
or that the Company currently considers immaterial may also have an adverse
effect on the Company. If any of the matters discussed in the following risk
factors were to occur, the Company's business, financial condition, results of
operations, cash flows or prospects could be materially adversely affected.
The Company is highly dependent on the Vista Hospital for the majority of its
revenues.
Although the Company's business strategy is to open additional
facilities in the future, at the present time, the majority of the Company's
revenues are derived from the management and operation of the Vista Hospital.
Therefore, the success of the Company is directly dependent on the successful
operation of the Vista Hospital. If the operations of the Vista Hospital are
adversely affected for any reason, the Company's operating results will be
severely damaged.
The Company is dependent upon establishing and maintaining surgeon
relationships.
The Company's success will depend on its ability to develop and maintain
productive relationships with the surgeons utilizing its facilities. Identifying
appropriate surgeons groups and negotiating and implementing affiliations with
these groups can be a lengthy process. There can be no assurance that the
Company will be successful in identifying and establishing relationships with
these surgeons, and if relationships are established, there can be no assurance
that such relationships will be maintained.
If a federal or state agency asserts a different position or enacts new laws or
regulations regarding illegal remuneration or other forms of fraud and abuse,
the Company could suffer penalties or be required to make significant changes to
its operations.
A federal law, referred to as the anti-kickback statute, prohibits
healthcare providers and others from soliciting, receiving, offering or paying,
directly or indirectly, any remuneration with the intent of generating referrals
or orders for services or items covered by a federal healthcare program. The
anti-kickback statute is very broad in scope and many of its provisions have not
been uniformly or definitively interpreted by case law or regulations.
Violations of the anti-kickback statute may result in substantial civil or
criminal penalties and exclusion from participation in the Medicare and Medicaid
programs, which would have a material adverse effect on the Company's business.
DHHS has published final safe harbor regulations that outline categories of
activities that are protected from prosecution under the anti-kickback statute.
The structure of the Company's limited partnerships and limited liability
companies operating surgical hospitals and surgery centers may not satisfy all
of the requirements of any safe harbor. Nevertheless, a business arrangement
that does not completely comply with a safe harbor is not necessarily illegal
under the anti-kickback statute. In addition, the states in which the Company
operates also have adopted laws, similar to the anti-kickback statute, that
prohibit payments to physicians in exchange for referrals, some of which apply
regardless of the source of payment for care. These statutes typically impose
criminal and civil penalties as well as loss of license.
6
If the Company fails to comply with applicable laws and regulations, it could
suffer penalties or be required to make significant changes to its operations.
The healthcare industry is highly regulated. The Company is subject to
many laws and regulations at the federal, state and local government levels in
the jurisdictions in which it operates. These laws and regulations require that
the Company's surgical hospitals and surgery center and its operations meet
various licensing, certification and other requirements, including those
relating to:
. the adequacy of medical care, equipment, personnel, operating
policies and procedures;
. qualifications of medical and support personnel;
. maintenance and protection of records;
. billing for services by healthcare providers; and
. privacy and security of healthcare information.
If the Company fails to comply with applicable laws and regulations, it
could suffer civil or criminal penalties, including the loss of its licenses to
operate. In the future, different interpretations or enforcement of existing or
new laws and regulations could subject the Company's current practices to
allegations of impropriety or illegality, or could require the Company to make
changes in its facilities, structure, equipment, personnel, services, capital
expenditure programs and operating expenses. There is no assurance that current
or future legislative initiatives or government regulation will not have a
material adverse effect on the Company.
The Company's business success depends on its relationships with surgeon
partners, which may be subject to conflicts of interest and disputes.
The business of the Company depends upon the efforts and success of the
surgeon partners who perform surgical procedures at the Company's facilities and
the strength of its relationship with these surgeons. The Company's business
could be adversely affected if these surgeons do not maintain the quality of
medical care or do not follow required professional guidelines at the Company's
facilities, if there is damage to the reputation of a key surgeon or group of
surgeons, or if the relationship with a key surgeon partner or group of surgeon
partners is impaired. As the owner of majority interests in the partnerships and
limited liability companies that own the Company's facilities, the Company owes
a fiduciary duty to the surgeons who are minority interest holders in these
entities and may encounter conflicts between the interests of the Company and
that of the minority holders. In these cases, the Company's representatives in
each joint venture are obligated to exercise reasonable, good faith judgment to
resolve the conflicts and may not be free to act solely in the Company's own
best interests.
The Company relies on insurance coverage and reimbursement, which may not cover
the total costs of services performed.
A portion of the services utilized by patients at the Company's
facilities are covered by private insurance coverage and reimbursement. Many
carriers limit payment to usual, customary, and reasonable charges within the
industry. The amount billed by a Company facility may sometimes exceed the
amount the insurer will pay. In those cases, the facility can collect only a
proportion of billed charges from the carrier. In addition, many insurers pay
only a percentage of covered charges, with the remainder being paid by the
patient. If the Company is unable to collect the amounts owed from patients or
it is prohibited by its agreement with insurers from collecting such amounts
from patients, its financial condition could be adversely affected.
The Company is subject to complex and changing licensing, certification, and
reporting requirements.
7
The laws regulating the healthcare industry are complex and subject to
frequent change and there can be no assurance that the Company and its
facilities will comply with, or stay in compliance with, such laws. The
Company's failure to comply with some or all of those laws, including state
licensing or Medicare certification requirements, could result in revocation of
the Company's facilities' licenses, loss of certification as a Medicare
provider, or other adverse regulatory consequences. Any such action could have a
detrimental effect on the Company's use of its facilities and thus the
profitability of the Company.
The Company may be required to spend significant amounts complying with new
federal and state requirements relating to patient privacy.
There are currently numerous legislative and regulatory initiatives at
the state and federal levels addressing patient privacy concerns. These health
privacy regulations extensively regulate the use and disclosure of individually
identifiable health-related information. In addition, new standards will be
implemented in the future to protect the security of health-related information.
The proposed security regulations would require healthcare providers to
implement organizational and technical practices to protect the security of
electronically maintained or transmitted health-related information. Compliance
with the initial standards was initially required by October 16, 2002. However,
Congress recently extended the compliance date until October 16, 2003 for
entities that file a plan with DHHS that demonstrates how they intend to comply
with the regulations by the extended deadline. The Company has filed the
foregoing extension, and as such, has until October 16, 2003 to comply with the
above provisions. Although the total financial or other impact of these
regulations on the Company's business is unknown, compliance with these
regulations could require it to spend substantial sums, including but not
limited to purchasing new computer systems. Additionally, failure to comply with
these regulations could expose the Company to civil and criminal penalties, and
to substantial monetary fines. In addition, the Company's facilities will
continue to remain subject to state laws that may be more restrictive than the
federal privacy regulations.
If the Company is unable to acquire and develop additional facilities on
favorable terms and manage its growth, it will be unable to execute its
development strategy.
The Company's strategy includes continuing to develop or acquire
additional private surgical hospitals. The Company's efforts to execute its
development strategy may be affected by its ability to identify suitable
candidates and negotiate and close acquisition and development transactions. The
Company is currently evaluating potential acquisitions and development projects
and expects to continue to evaluate acquisitions and development projects in the
foreseeable future. To accommodate the Company's past and anticipated future
growth, and to compete effectively, the Company will need to continue to
implement and improve its management, operational, and financial information
systems. There is no assurance that the Company will be able to successfully
integrate any additional projects that it pursues.
If the Company does not have sufficient capital resources for its expansion
strategy its growth could be limited.
The Company will need capital to develop and operate additional
facilities. The Company may finance future development projects through debt or
equity financings, or through the issuance of equity. To the extent that the
Company undertakes these types of financings or uses common stock as
consideration, the Company's current shareholders may experience ownership
dilution. If the Company does not have sufficient capital resources, its growth
could be limited. There is no assurance that the Company will be able to obtain
financing necessary for its expansion strategy, or that, if available, the
financing will be on acceptable terms.
Item 2. Properties
The Vista Hospital, the office building adjacent to such facility, and
the land upon which the facilities are located are held by a wholly owned
subsidiary of the Company. The office building is approximately 36,000 square
feet and the Vista Hospital (including the recently consolidated outpatient
space) is approximately 45,000 square
8
feet. The purchase of the Vista Hospital, the office building, and the land upon
which the facilities are located was made through the issuance of a $1,670,000
promissory note payable in 84 monthly installments of $26,447 at an interest
rate of 8.5% per annum. Management believes the facility is adequately covered
by insurance. The property tax rate is approximately 3% of appraised value and
the annual real and personal property taxes are approximately $324,000. The
Vista Hospital, the land upon which the Vista Hospital is located, and all
furniture, fixtures, and equipment located at the facility are subject to a
first lien deed of trust to secure the Company's revolving credit facility,
which, as of August 31, 2002, has not been drawn upon.
The surgical hospital to be opened in Baton Rouge, Louisiana, and the
land on which the facility is located, is held by a wholly owned subsidiary of
the Company. The land and building were purchased during fiscal year 2002 for
approximately $3,400,000. The Company is renovating the facility and upon
opening it is expected to consist of approximately 49,500 square feet of space.
Management believes the facility is adequately covered by insurance.
In July 1996, DPMI leased approximately 3,000 square feet of office
space from the City of Pasadena pursuant to a five-year lease with an option for
an additional five years. DPMI has exercised the five-year lease option to
expire on June 30, 2006, which requires lease payments of $10,800 annually.
The Company leases office space for its executive offices, which
consists of approximately 1,000 square feet, and are leased on a month-to-month
basis for $1,286 per month. The lessor of the office space is Capital Bank, of
which Mr. Earl Votaw, one of the Company's directors, is a director. Management
believes that the lease rate being paid is consistent with other commercial
rates available in the East Houston area.
Item 3. Legal Proceedings
In January 2002, the Company and two of its officers were named as
defendants in a shareholder class action lawsuit in the United States District
Court for the Southern District of Texas alleging violations of federal
securities laws and regulations. The putative class covers those persons who
purchased the Company's shares between November 29, 1999 and January 16, 2002.
The various complaints that have been consolidated claim that the Company
violated Sections 10(b) and 20(a) and Rule 10b-5 under the Securities Exchange
Act of 1934 (the "Exchange Act") by making materially false or misleading
statements or omissions regarding revenues and receivables and regarding whether
the Company's operations complied with various federal regulations. The district
court has consolidated these actions and appointed a lead plaintiff in the
matter. The lead plaintiff filed a consolidated amended complaint on September
6, 2002. The Company anticipates moving to dismiss that consolidated amended
complaint. These actions are at an early stage, and no discovery has taken place
at this time. The Company intends to defend these claims vigorously.
In March 2002, the Company accepted service of a shareholder derivative
action brought in the 295th District Court of Harris County, Texas brought on
behalf of the Company against its officers and directors, outside auditor, and
investment bank, and two analysts affiliated with that investment bank. The suit
alleges breach of fiduciary duty, aiding and abetting breach of fiduciary duty,
negligence and breach of contract. Plaintiff makes general allegations of the
defendants' alleged misconduct in "(i) causing or allowing the Company to
conduct its business in an unsafe, imprudent and unlawful manner; (ii) failing
to implement and maintain an adequate internal control system; and (iii)
exposing Dynacq to enormous losses," including allegations that various press
releases and/or public statements issued between January 1999 and January 2002
were misleading. Plaintiffs further allege sales by Company insiders while in
possession of material non-public information. The plaintiffs made no demand on
either the Company or its Board of Directors prior to filing suit. A separate
action was brought in United States District Court for the Southern District of
Texas making similar allegations in federal court against only officers and
directors of the Company. The plaintiff in this action also did not make a
demand on the Company prior to filing suit. Another derivative suit making
similar allegations was filed in the 152nd District Court of Harris County,
Texas; however, at the plaintiff's request, the Court dismissed that action.
9
The Board of Directors has appointed a Special Litigation Committee to
conduct an investigation and make a determination as to how the Company should
proceed on the claims asserted in the shareholder derivative actions. On October
7, 2002, the 295th district court stayed the state-court shareholder derivative
case for 60 days pending the Special Litigation Committee's investigation. On
November 12, 2002, the federal district court presiding over the shareholder
derivative action filed there stayed that action pending conclusion of the
shareholder class action lawsuit.
In June 1999, the Company filed a suit entitled Dynacq International,
Inc. and Doctors Practice Management Inc. v. Benchmark, an Architectural
Corporation, and David Bush, in the 151st Judicial District Court of Harris
County, Texas. This case involves a dispute regarding the construction and
renovation of Vista Community Medical Center, L.L.C. The Company has filed suit
against the architect, general contractors, engineers, and some sub-contractors
for fraud, negligence, breach of contract, loss of profits and/or goodwill, and
punitive damages arising out of certain construction defects in connection with
the completion and remodeling of Vista Community Medical Center, L.L.C. Doctors
Practice Management has filed a non-suit in this case and is no longer involved.
The Company is suing for actual damages of $10,000,000 and punitive damages of
$10,000,000. Benchmark filed a counterclaim for approximately $40,116 in actual
damages arising from breach of contract, quantum meruit, substantial
performance, and satisfaction of the lien causes of action, $2,000,000 for
damages as a result of fraud, and another $2,000,000 in punitive damages.
Benchmark's claims for fraud and punitive damages have been disposed of via
summary judgment in favor of the Company. The matter is in the discovery phase.
From time to time, the Company is involved in litigation incidental to
its business. In the Company's opinion, no litigation to which the Company is
currently a party is likely to have a material adverse effect on the Company's
results of operations, cash flows, or financial condition.
Item 4. Submission of Matters to a Vote of Security Holders
None.
10
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters
The Company's common stock began trading under the symbol "DYII" on the
Nasdaq National Market System in April 2000, prior to which it traded on the
Nasdaq Small Cap Market under the same trading symbol. The following table sets
forth the high and low bid price of the common stock for the past two fiscal
years, as reported by the Nasdaq National Market. These prices reflect
inter-dealer prices, without retail mark-ups, mark-downs or commissions, and may
not necessarily represent actual transactions. All prices reflect two separate
two for one stock dividends affected January 2000 and March 2001.
HIGH LOW
FISCAL 2001
-----------
First quarter ended November 30, 2000 $ 5.77 $ 4.38
Second quarter ended February 28, 2001 15.19 4.56
Third quarter ended May 31, 2001 15.69 11.85
Fourth quarter ended August 31, 2001 21.36 13.56
FISCAL 2002
-----------
First quarter ended November 30, 2001 $25.79 $11.00
Second quarter ended February 28, 2002 29.25 5.70
Third quarter ended May 31, 2002 18.00 9.06
Fourth quarter ended August 31, 2002 17.25 11.31
As of November 13, 2002, there were approximately 371 record owners of
the Company's common stock. This number does not include shareholders who hold
the Company's securities in nominee accounts with broker-dealer firms or
depository institutions.
The Company has not paid any cash dividends on its common stock during
the past two fiscal years and intends to retain all earnings for operations and
expansion of its business. The Company does not anticipate paying cash dividends
in the foreseeable future. Any future determination as to the payment of cash
dividends will depend upon the Company's results of operations, financial
condition and capital requirements, as well as such other factors as the
Company's Board of Directors may consider.
Recent Sales of Unregistered Securities
During fiscal 2002, the Company issued and sold 21,442 shares of common
stock to two accredited investors, for an aggregate consideration of $281,105.
The Company believes that the transaction was exempt from registration under the
Securities Act pursuant to Section 4(2) as transactions not involving any public
offering because such securities were sold to accredited investors that were
purchasing for investment without a view to further distribution. The Company
took steps to ensure that the purchaser was acquiring securities for purposes of
investment and not with a view to distribution. All sales of the Company's
securities were made by officers of the Company who received no commission or
other remuneration for the solicitation of any person in connection with the
respective sales of securities described above. Restrictive legends were placed
on the stock certificates evidencing the shares.
Item 6. Selected Financial Data
11
Item 6. Selected Financial Data
The data that follows should be read in conjunction with our
consolidated financial statements and the notes thereto included in Item 8 and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
Year ended August 31,
---------------------
2002 2001 2000 1999 1998
---- ---- ---- ---- ----
Operating Data:
Net patient service revenue $ 64,883,235 $ 43,803,619 $ 26,032,441 $ 16,212,656 $ 8,740,111
Operating expenses 37,734,009 25,817,947 15,878,423 12,286,411 6,979,357
--------------------------------------------------------------------------
Operating income 27,149,226 17,985,672 10,154,018 3,926,245 1,760,754
Other income, net 367,799 591,886 372,840 294,095 121,504
Minority interest (2,033,387) (2,476,750) (807,452) (146,508) (220,415)
Income tax provision (10,044,459) (5,040,000) (3,861,000) (1,410,000) (716,000)
--------------------------------------------------------------------------
Net income $ 15,439,179 $ 11,060,808 $ 5,858,406 $ 2,663,832 $ 945,843
==========================================================================
Earnings per share from
continuing operations (basic) $ 1.05 $ 0.76 $ 0.43 $ 0.21 $ 0.07
Weighted average
common shares (basic) 14,759,404 14,614,692 13,489,586 12,973,442 13,728,020
Earnings per share from
continuing operations (diluted) $ 1.03 $ 0.75 $ 0.41 $ 0.19 $ 0.07
Weighted average
common shares (diluted) 15,047,829 14,673,775 14,268,390 13,788,794 13,870,168
Statement of Cash Flows Data:
Cash provided by operating activities $ 12,182,072 $ 2,743,364 $ 5,456,591 $ 3,211,876 $ 2,325,812
Cash used by investing
activities (7,369,437) (2,171,805) (1,251,679) (4,390,026) (375,874)
Cash provided (used) by financing
activities
(2,260,493) 158,532 (1,067,284) (71,572) (379,024)
Other Data:
Cash dividends per share $ - $ - $ - $ - $ -
As of August 31,
----------------
2002 2001 2000 1999 1998
---- ---- ---- ---- ----
Balance Sheet Data:
Total assets $ 51,078,621 $ 35,865,401 $ 23,046,241 $ 15,512,512 $ 9,612,056
Long-term debt - 519,075 387,965 685,487 954,144
Total stockholders' equity 44,568,373 27,545,182 14,568,509 8,364,402 5,804,518
12
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
You must read the following discussion of the results of the operations
and financial condition of the Company in conjunction with its consolidated
financial statements, including the notes, included in this Form 10-K filing.
See also "Selected Financial Data."
Overview
Historically, the Company has derived revenue from various business
operations, including infusion therapy, physician practice management, emergency
and inpatient surgical operations, clinic and outpatient surgical operations,
and property and equipment operations. Revenues derived from the Company's
surgical hospital and outpatient surgical facilities consist primarily of
facility and service fees, and management and administrative fees. These fees do
not include charges from the patient's physicians, which are billed directly by
the physician. The infusion therapy business primarily involves the
administration of physician-prescribed nutrients, antibiotics and other
medicines to cancer patients in their homes. Physician practice management
consists of office space and fee-based management services for physicians. The
property and equipment operations involve the leasing of equipment and
facilities. The Company aligns its operations among three reportable segments:
surgical hospital, outpatient surgical centers, and corporate and management
services.
The Company business strategy is to focus on the operation and
development of surgical specialty hospitals, which provide a variety of surgical
services. The Company's current operations include:
. the ownership of 90% of Vista Hospital, a surgical hospital;
. the ownership of 100% of Vista West, an outpatient surgical
facility; and
. a newly developed surgical hospital in Baton Rouge, Louisiana
expected to be opened during the first calendar quarter of 2003.
For the year ended August 31, 2002 ("Fiscal 2002"), the Company
operated an outpatient surgical facility adjacent to the Vista Hospital.
Subsequent to Fiscal 2002, the Company received state approval to consolidate
the outpatient surgical facilities into the Vista Hospital operating license,
thereby increasing the number of rooms that can be utilized by the Vista
Hospital. As such, the Company expects that revenues from its outpatient
surgical services will decrease during the fiscal year ending August 31, 2003,
as compared with prior periods, as operating rooms previously utilized for such
procedures are now available to be utilized for inpatient surgical procedures.
The Company expects to continue to focus its primary resources on
developing its surgical hospital business, and expects to commence operations of
its newly developed surgical hospital located in Baton Rouge, Louisiana in the
first calendar quarter of 2003. Accordingly it is expected that the surgical
hospital business will generate a majority of the Company's revenue during
Fiscal 2003. The Company believes that this segment of operations presents the
best opportunity for growth.
For Fiscal 2002, approximately 76% of the Company's revenue resulted
from its surgical hospital activities, 21% from its two outpatient surgical
centers, and 3% from other activities, which include physician practice
management and infusion therapy services. For the year ended August 31, 2001
("Fiscal 2001"), 53% of the Company's revenue resulted from its surgical
hospital activities, 40% from its outpatient surgical center activities, and 7%
from other activities, which include physician practice management and infusion
therapy services. For the year ended August 31, 2000 ("Fiscal 2000"), 28% of the
Company's revenue resulted from its surgical hospital activities, 58% from its
outpatient surgical center activities, and 14% from other activities, which
includes physician's practice management and infusion therapy services.
Critical Accounting Policies and Estimates
13
General
The Consolidated Financial Statements and Notes to Consolidated
Financial Statements contain information that is pertinent to the management's
discussion and analysis. The preparation of financial statements in conformity
with accounting principles generally accepted in the United States requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of any contingent assets and liabilities.
Management believes these accounting policies involve judgment due to the
sensitivity of the methods, assumptions and estimates necessary in determining
the related asset and liability amounts. Management believes it has exercised
proper judgment in determining these estimates based on the facts and
circumstances available to its management at the time the estimates were made.
The significant accounting policies are described in the Company's financial
statements (see Note 1 in Notes to the Consolidated Financial Statements). Of
these policies, management believes the following ones may involve a higher
degree of judgment and complexity.
Revenue Recognition
The Company's revenue recognition policy is significant because it is
the primary component of its results of operations. The Company follows specific
and detailed policies on recognizing revenue. Revenue from patient services are
recognized as performed based on net realizable amounts from patients,
third-party payors, and others for services rendered under reimbursement
agreements. Allowances for discounts on services or adjustments for non-covered
costs and expenses are recognized in the period in which the related revenues
are provided.
Accounts Receivable and Allowances for Doubtful Accounts
As explained under "Revenue Recognition" the Company records revenue
and related accounts receivable based on net realizable amounts from the
patients, third-party payors, and others for services rendered under
reimbursement agreements with third-party payors. As with any healthcare
provider, some of the accounts receivable will ultimately prove uncollectible,
primarily due to the inability of patients to satisfy their financial
obligations to the Company. Allowances for doubtful accounts are determined by
the Company's management based on historical experience and an assessment of the
circumstances applicable to individual accounts.
Results of Operations
General
Year Ended August 31
--------------------
2002 2001 2000
---- ---- ----
Net Patient Service Revenues 100.0% 100.0% 100.0%
Costs and expenses:
Compensation and benefits 14% 14% 17%
Medical supplies 23% 21% 17%
Contract payments to physicians 3% 5% 5%
Depreciation and amortization 2% 2% 3%
Rent and occupancy 1% 1% 1%
Other general & administrative expenses 14% 16% 18%
Other costs 1% 0% 0%
Total costs and expenses 58% 59% 61%
Income from Operations 42% 41% 39%
14
Income before incomes taxes & minority interests 42% 42% 40%
Net Income 24% 25% 23%
Comparison of the Fiscal Years Ended August 31, 2002 and August 31, 2001.
Net patient service revenue increased $21,079,616, to $64,883,235 for
Fiscal 2002 compared to $43,803,619 for Fiscal 2001. Revenues from the Company's
surgical hospital activities increased to $49,566,300 during Fiscal 2002 from
$23,328,310 during Fiscal 2001, the result of an increase in surgical cases from
Fiscal 2001. During Fiscal 2002 there was an increase of 95% in inpatient
procedures and an increase of 44% in patient days compared to that of Fiscal
2001. Revenues in the Company's outpatient surgical centers decreased to
$13,943,089 during Fiscal 2002 from $17,798,282 during Fiscal 2001, primarily
due to the decrease in outpatient surgical cases since the Company is focusing
more on inpatient cases. Corporate and management services revenue decreased to
$1,605,600 in Fiscal 2002 from $3,029,141 at Fiscal 2001 primarily due to a
decrease in activities related to the ambulatory infusion therapy services and
the decrease in physician management practices. The overall increase in the net
patient service revenues for the Fiscal 2002 was the result of the Company's
primary focus on expanding its surgical hospital operations. The Management's
current strategy is to continue to focus on this operating segment.
For Fiscal 2002, total costs and expenses increased by $11,916,062 or
46% from Fiscal 2001. The increase is primarily due to significant increases in
the surgical hospital activities. The significant increases in the component
expense categories of the operating expenses are as follows:
. Compensation and benefits expense increased by $3,237,252 or
54% from Fiscal 2001. The increase is primarily due to the
significant increase in surgical activities compared to that
of Fiscal 2001, which required increased hospital staffing and
an increase it the number of Company employees at the
corporate level.
. Medical supplies increased by $6,032,953 or 65% from Fiscal
2001. The increase is primarily due to the significant
increase in surgical activities compared to that of Fiscal
2001.
. Contract payments to physicians decreased by $532,679 or 23%
from Fiscal 2001, which is attributable to the decrease in
activities related to the Company's physician management
practice. This area of the Company's business will continue to
decrease during the fiscal year ending August 31, 2003, as the
Company continues to focus on other areas of its operations.
. Other general and administrative expenses increased by
$2,307,451 or 32% from Fiscal 2001. The increase is primarily
due to the significant increase in activities at the Company's
facilities, as well as an increase in general corporate
activity compared to such activities in 2001.
Comparison of the Fiscal Years Ended August 31, 2001 and August 31, 2000.
Net patient service revenue increased $17,771,178 to $43,803,619 for
Fiscal 2001 compared to $26,032,441 for Fiscal 2000. Revenues from the Company's
surgical hospital increased to $23,328,310 during Fiscal 2001 compared to
$7,410,621 during Fiscal 2000, the result of an increase in surgical cases.
During Fiscal 2001 there was an increase of 70% in inpatient procedures and an
increase of 107% in patient days compared to that of Fiscal 2000. Revenues from
the Company's outpatient surgical centers increased to $17,798,282 during Fiscal
2001 from $15,396,058 during Fiscal 2000, primarily due to an increase in
outpatient surgical cases related to the addition of Vista West during Fiscal
2001. Corporate and management services revenue decreased to $3,029,141 during
Fiscal 2001 from
15
$3,614,061 at Fiscal 2000 primarily due to decrease in activities related the
ambulatory infusion therapy services.
For Fiscal 2001 total costs and expenses increased $9,939,524 or 63%
from Fiscal 2000 primarily due to significant increases in the Company's
surgical activities. The significant increases in the component expense
categories of the consolidated operating expenses are as follows:
. Compensation and benefits expense increased by $1,609,084 or 37%,
of which $767,239 was attributable to the increase in surgical
activities, $353,705 was attributable to Vista Hospital and the
newly acquired Vista West center which had six months of
operations, $488,140 was attributable to DPMI, which added
development, administration and supporting personnel to handle the
increase in the Company's activities.
. Medical supplies increased by $4,818,348 or 108% which was
primarily attributable to the increase in surgical activities.
. Contract payments to physicians increased by $1,065,725 or 87%, of
which $969,872 was attributable to the increase in surgical
activities, and $92,853 was attributable to DPMI due to an
increase in patient load.
. Other general and administrative expenses increased by $2,326,155
or 48% of which $1,200,124 was attributable to the increase in
surgical activities, and $1,121,281 was attributable to DPMI,
related to the increase in expenses supporting the growth of the
Company.
Liquidity and Capital Resources
The Company maintained sufficient liquidity in Fiscal 2002 to meet its
business needs. As of August 31, 2002, its principal source of liquidity
included $7,583,756 in cash and cash equivalents, of which $7,036,844 is
invested in money market accounts. These instruments are short-term, highly
liquid instruments and, accordingly, their fair value approximates cost.
Cash flow from operating activities provided $12,182,072 and $2,743,364
in Fiscal 2002 and 2001, respectively. The primary contributor to the increase
in cash flow provided by operating activities is the decrease in accounts
receivable of $5,697,341 and $10,352,299 for Fiscal 2002 and 2001, respectively.
The net income of $15,439,179 and $11,060,808 included non-cash charges for
depreciation and amortization of $1,213,573 and $813,143 for Fiscal 2002 and
2001, respectively.
Cash of $7,369,437 and $2,171,805 was used in investing activities in
Fiscal 2002 and 2001, respectively. For Fiscal 2002 the Company expended
$3,400,000 related to the purchase of the land and building in Baton Rouge,
Louisiana in connection with its newly developed surgical hospital and
subsequent to such purchase, the Company expended an additional $1,100,000 to
renovate and prepare the facility for new construction. The Company also used
cash of approximately $3,000,000 to renovate and to purchase medical equipment
for its Vista Hospital facility in Pasadena.
The Company used $2,260,493 in financing activities in Fiscal 2002
compared to $158,532 provided by financing activities in Fiscal 2001. The
Company used $708,697 and $537,715 in Fiscal 2002 and 2001, respectively, to
repay the outstanding principal balances related to long-term debt. As of August
31, 2002, the Company has no outstanding balance related to its long-term debt.
Other uses for cash flow from financing activities in Fiscal 2002 included
acquisition of treasury stock for $768,905, distributions to minority interest
for $1,300,000, and purchase of minority interests for $590,000. Cash provided
by financing activities included proceeds from exercise of stock options for
$1,107,109 in Fiscal 2002.
The Company had working capital of $30,493,267 as of August 31, 2002,
and
16
maintained a liquid position evidenced by a current ratio of
approximately 11 to 1. In addition the Company had no outstanding balance
related to long-term debt at August 31, 2002. The Company expects to continue to
have positive cash flow from operations for Fiscal 2003.
The Company is actively targeting opportunities to expand in the
surgical hospital market through the acquisition of existing facilities or the
construction of new facilities. The Company's management believes that available
cash funds and funds generated from operations will be sufficient for the
Company to finance working capital requirements for the current fiscal year. The
Company has a reducing revolving line of credit with a financial institution.
The original amount available under the line of credit was for $8,000,000. The
line of credit is reduced monthly by an amount equal to 1/180th of the original
$8,000,000 loan amount, effective August 2001. The amount available under the
line of credit at August 31, 2002 is $7,400,000. The interest rate on the line
of credit is a variable rate of 2.3% plus the "Dealer Commercial Paper" rate.
The line of credit is secured by the land and buildings in Pasadena, Texas and
the contents therein. There were no borrowings outstanding under the credit
facility as of August 31, 2002. The Company believes it has the ability to
borrow additional funds if necessary to meet its capital needs. However, there
can be no assurance that the Company will have sufficient funds available to
meet all of its capital needs.
Recent Accounting Pronouncements
In July 2001, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 141, Business Combinations, and SFAS No. 142, Goodwill and Other
Intangible Assets, which is effective for the Company in the first quarter of
fiscal year 2003 and for purchase business combinations consummated after June
30, 2001. These standards change the accounting for business combinations by,
among other things, eliminating pooling-of-interests accounting and requiring a
change in the method of expensing goodwill and certain intangible assets with an
indefinite useful life. Goodwill and intangible assets deemed to have an
indefinite useful life will be subject to an annual review for impairment rather
than periodic amortization. Finite lived intangibles will continue to be
amortized over their useful lives.
During 2003, the Company will evaluate existing goodwill and intangible
assets acquired in purchase business combinations completed prior to July 1,
2001. The carrying amount of recognized intangible assets that meet the criteria
for recognition apart from goodwill or any identifiable intangible assets that
have been presented with goodwill and other intangible assets for financial
reporting purposes will be reclassified and reported separately from goodwill.
The unamortized balance of any negative goodwill will be recognized as the
cumulative effect of a change in accounting principle. The Company will also
test goodwill for impairment during 2003, using the two-step process prescribed
in SFAS No. 142. The first step is a screen for potential impairment, while the
second step measures the amount of impairment, if any. The Company does not
believe the effect of these tests will have a material impact on the earnings
and financial position of the Company.
In October 2001, the FASB issued SFAS No. 144, Impairment of Long-Lived
Assets, SFAS No. 144 supersedes SFAS No. 121, Accounting for the Impairment of
Long-lived Assets and for Long-lived Assets To Be Disposed Of. SFAS No. 144
retains the requirements of SFAS No. 121 to (a) recognize an impairment loss
only if the carrying amount of a long-lived asset is not recoverable from its
undiscounted cash flows and (b) measure an impairment loss as the difference
between the carrying amount and the fair value of the asset. SFAS No. 144
removes goodwill from its scope. SFAS No. 144 is applicable to financial
statements issued for fiscal years beginning after December 15, 2001. The
adoption of SFAS No. 144 is not expected to have any material impact on the
financial position of the Company.
Inflation
Inflation has not significantly impacted the Company's financial
position or operations.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
17
Market risks relating to the Company's operations result primarily from
changes in interest rates as well as credit risk concentrations. All of the
Company's contracts are denominated in US$ and, therefore, the Company has no
foreign currency risk.
Interest Rate Risk
The Company is exposed to market risk from changes in interest rates on
funded debt. This exposure relates to the Company's reducing revolving credit
facility. There were no borrowings outstanding under the credit facility as of
August 31, 2002. Borrowings under the credit facility bear interest at variable
rates based on the "dealer commercial paper" rate plus 2.30%. As no borrowings
have been made against the credit facility, an interest rate change would not
have any current impact on the Company's results of operations.
The Company's cash and cash equivalents are invested in money market
accounts. Accordingly, the Company is subject to changes in market interest
rates. However, the Company does not believe a change in these rates would have
a material adverse effect on the Company's operating results, financial
condition, and cash flows. There is an inherent roll over risk on these funds as
they accrue interest at current market rates. The extent of this risk is not
quantifiable or predictable due to the variability of future interest rates.
Credit Risks
The Company's financial instruments that are exposed to concentrations
of credit risk consist primarily of trade receivables from various private
insurers. The Company monitors its exposure for credit losses and maintains
allowances for anticipated losses, but does not require collateral from these
parties.
Item 8. Financial Statements and Supplementary Data
The information required by this Item 8 is contained in a separate
section of this annual report. See "Index to Consolidated Financial Statements"
on page F-1.
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
The Company filed a Form 8-K on June 5, 2002, reporting the engagement
of Ernst & Young LLP to serve as the Company's independent public accountants
for the fiscal year ended August 31, 2002.
18
PART III
Item 10. Directors and Executive Officers of the Registrant
The information required by this item with respect to the directors and
compliance with Section 16(a) of the Exchange Act is incorporated by reference
from the information provided under the headings "Election of Directors" and
"Section 16(a) Beneficial Ownership Reporting Compliance," respectively,
contained in the Company's Proxy Statement to be filed with the Securities and
Exchange Commission in connection with the solicitation of proxies for the
Company's Annual Meeting of Stockholders. The information required by this item
with respect to the Company's executive officers is contained in Part I of this
Annual Report under the heading "Executive Officers of the Registrant.
Item 11. Executive Compensation
The information required by this item is incorporated by reference from
the information provided under the heading "Executive Compensation" of the
Company's Proxy Statement.
Item 12. Security Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters
Equity Compensation Plan Information
The following table gives information about the Company's common stock
that may be issued upon the exercise of options under its Year 2000 Stock
Incentive Plan as of August 31, 2002, which has been approved by the Company's
stockholders. There are no shares of Company common stock authorized for
issuance under compensation arrangements that were not approved by the Company's
stockholders.
Number of securities
remaining available for
Number of securities to be future issuance under equity
issued upon exercise of Weighted average exercise compensation plans
outstanding options, warrants price of outstanding (excluding securities
and rights options, warrants and rights reflected in column A)
Plan Category (A) (B) (C)
- ------------- --- --- ---
Equity Compensation Plans
Approved by Security
Holders 1,082,000 $4.69 1,283,386
Equity Compensation Plans
Not Approved by Security
Holders -0- n/a -0-
-----------------------------------------------------------------------------------------
Total 1,082,000 $4.69 1,283,386
Other information required by this item is incorporated herein by
reference from the information provided under the heading "Security 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 herein by
reference from the information provided in the Company's Proxy Statement.
19
Item 14. Controls and Procedures
Based on their evaluation as of a date within 90 days of the filing
date of this Annual Report on Form 10-K, the Company's principal executive
officer and principal financial officer have concluded that the Company's
disclosure controls and procedures (as defined in Rules 13a-14(c) and 15d-14(c)
under the Exchange Act) are effective to ensure that information required to be
disclosed by the Company in reports that it files or submits under the Exchange
Act is recorded, processed, summarized and reported within the time periods
specified in Securities and Exchange Commission rules and forms. There were no
significant changes in the Company's internal controls or in other factors that
could significantly affect these controls subsequent to the date of their
evaluation. There were no significant deficiencies or material weaknesses, and
therefore there were no corrective actions taken.
Item 15. Exhibits, Financial Statements, Schedules, and Reports on Form 8-K
(a)(1) Financial Statements.
(a)(2) Financial Statement Schedule.
(a)(3) Exhibits. The following exhibits are to be filed as part of
the annual report:
EXHIBIT NO. IDENTIFICATION OF EXHIBIT
Exhibit 2.1 Stock Sale Agreement, dated July 21, 1992, pertaining to a
change in control of Dynacq International, Inc. which was
previously filed in and is incorporated herein by this
reference to, the Company's Registration Statement on Form
10, File No. 0-20554.
Exhibit 2.2 Exchange Agreement by and among Dynacq International, Inc.,
Vista Healthcare, Inc. and certain Vista shareholders which
was previously filed in, and is incorporated by this
reference to, the Company's Current Report on Form 8-K, dated
August 4, 1994. Exhibit 3.1 Articles of Incorporation, filed
June 16, 1989, which were previously filed in, and are hereby
incorporated by reference to the Company's Registration
Statement on Form 10, File No. 0-20554.
Exhibit 3.2 Amendment to Articles of Incorporation, filed February 12,
1992, which was previously filed in, and is hereby
incorporated by reference to, the Company's Registration
Statement on Form 10, File No. 0-20554.
Exhibit 3.3 Amendment to Articles of Incorporation, filed July 20, 1992,
which was previously filed in, and is hereby incorporated by
reference to, the Company's Registration Statement on Form
10, File No. 0-20554.
Exhibit 3.4 Amendment to Articles of Incorporation filed February 10,
1998, filed with the Company's Annual Report on Form 10-KSB
for the fiscal year ended August 31, 1998.
Exhibit 3.5 Bylaws (amended August 1, 1995), which were previously filed
in and are hereby incorporated by reference to the Company's
Amended Form 10-K for fiscal 1995 dated May 1, 1996.
Exhibit 4.1 Form of Common Stock Certificate
Exhibit 10.1 1995 Incentive Stock Option Plan for Employees and Employee
Directors, filed with the Company's Annual Report on Form
10-K for the fiscal year ended August 31, 1996.
Exhibit 10.2 1995 Non-Qualified Stock Option Plan for Consultants and
Non-Employee Directors, filed with the Company's Annual
Report on Form 10-K for the fiscal year ended August 31,
1996.
Exhibit 10.3 Full Service Facility and Management Agreement between DPMI
and JCW Medical Associates, P.A. dated May 1, 1996, filed
with the Company's Annual Report on Form 10-K for the fiscal
year ended August 31, 1996.
20
1996.
Exhibit 10.4 Lease Agreement effective July 1, 1996 by and between DPMI as
Tenant and the City of Pasadena as Landlord relating to 3,000
square feet of office space in Pasadena, Texas, filed with the
Company's Annual Report on Form 10-K for the fiscal year ended
August 31, 1997.
Exhibit 10.5 Amendment No. 1 effective September 1, 1996 to Full Service
Facility and Management Agreement between DPMI and JCW Medical
Associates, P.A. dated May 1, 1996, filed with the Company's
Annual Report on Form 10-K for the fiscal year ended August
31, 1997.
Exhibit 10.6 Office/Surgical Care Center Lease Agreement dated September 1,
1998, between the Company as Landlord and Vista as Tenant,
filed with the Company's Annual Report on Form 10-K for the
fiscal year ended August 31, 1998.
Exhibit 10.7 Management Support and Marketing Agreement dated October 1,
1998, by and between DPMI and Ultramed, L.C., filed with the
Company's Annual Report on Form 10-K for the fiscal year ended
August 31, 1998.
Exhibit 10.8 Full Service Management Agreement dated October 1, 1998, by
and between DPMI and Vista Healthcare, Inc., filed with the
Company's Annual Report on Form 10-K for the fiscal year ended
August 31, 1998.
Exhibit 10.9 Real Estate Lien Note dated September 1, 1998, in the
principal amount of $1,400,000.00 from the Company to Vista
Healthcare, Inc., filed with the Company's Annual Report on
Form 10-K for the fiscal year ended August 31, 1998.
Exhibit 10.10 Warranty Deed with Vendor's Lien from Vista Healthcare, Inc.
to the Company dated September 1, 1998, relating to 4.5799
acres of land in Pasadena, Texas, filed with the Company's
Annual Report on Form 10-K for the fiscal year ended August
31, 1998.
Exhibit 10.11 Deed of Trust dated September 1, 1998 from the Company
regarding 4.5799 acres of land in Pasadena, Texas, filed with
the Company's Annual Report on Form 10-K for the fiscal year
ended August 31, 1998.
Exhibit 10.12 Hospital Lease Agreement from Dynacq to Vista Community
Medical Center, L.L.C. for 23,000 square with annual retails
of $57,500 per month for through January 31, 2004, filed with
the Company's Annual Report on Form 10-K for the fiscal year
ended August 31, 1999.
Exhibit 10.13 Dynacq International, Inc.'s Real Estate Lien Note dated
September 1, 1998 in the principal amount of $270,000 payable
to Vista Healthcare, Inc., filed with the Company's Annual
Report on Form 10-K for the fiscal year ended August 31, 1999.
Exhibit 10.14 Deed of Trust dated September 1, 1998, from the Company with
respect to its real estate properties in Pasadena, Texas,
filed with the Company's Annual Report on Form 10-K for the
fiscal year ended August 31, 1999.
Exhibit 10.15 Regulations of Vista Community Medical Center, L.L.C., filed
with the Company's Annual Report on Form 10-K for the fiscal
year ended August 31, 1999.
21
Exhibit 10.16 Dynacq International, Inc.'s Year 2000 Stock Incentive Plan
adopted on August 29, 2000, and incorporated by reference as
Appendix B from the Company's Definitive Proxy Statement on
Schedule 14A filed August 9, 2000.
Exhibit 10.17 Employment Agreement entered into between Sarah Garvin and
Dynacq International, Inc., filed with the Company's Annual
Report on Form 10-KSB for the fiscal year ended August 31,
2001.
Exhibit 10.18 Employment Agreement entered into between Irvin T. Gregory and
Dynacq International, Inc., filed with the Company's Annual
Report on Form 10-KSB for the fiscal year ended August 31,
2001.
Exhibit 10.19 Purchase Agreement entered into by and among Dynacq
International, Inc. and Charis Hospital, LLC, filed with the
Company's Annual Report on Form 10-KSB for the fiscal year
ended August 31, 2001.
Exhibit 21.1 Listing of subsidiaries of Dynacq International, Inc., filed
with the Company's Annual Report on Form 10-KSB for the fiscal
year ended August 31, 2000.
Exhibit 23.1 Consent of Ernst & Young LLP
Exhibit 23.2 Consent of KenWood & Associates, P.C.
Exhibit 99.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
Exhibit 99.2 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
(b) Reports on Form 8-K. The Company filed a Form 8-K on June 5,
2002, reporting the engagement of Ernst & Young LLP to serve as the Company's
independent public accountants for the fiscal year ended August 31, 2002.
22
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
Dynacq International, Inc.
By: /s/ Chiu M. Chan
______________________________
Chiu M. Chan, President
________________________________
Pursuant to the requirements of Section 13 or 15(d) 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/ Chiu M. Chan
___________________________________ Chairman of the Board, CEO, November 27, 2002
Chiu M. Chan President, and Secretary
(principal executive officer)
/s/ Philip S. Chan
___________________________________ Director, Vice President - Finance, November 27, 2002
Philip S. Chan CFO, and Treasurer
(principal financial and accounting officer)
/s/ Stephen L. Huber
___________________________________ Director November 27, 2002
Stephen L. Huber
/s/ Earl R. Votaw
___________________________________ Director November 27, 2002
Earl R. Votaw
/s/ Ping S. Chu
___________________________________ Director November 27, 2002
Ping S. Chu
23
CERTIFICATIONS
I, Chiu M. Chan, Chief Executive Officer, certify that:
1. I have reviewed this annual report on Form 10-K of Dynacq International,
Inc.;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this annual
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated subsidiaries,
is made known to us by others within those entities, particularly during the
period in which this annual report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this annual
report (the "Evaluation Date"); and
c) presented in this annual report our conclusions about the effectiveness of
the disclosure controls and procedures based on our evaluation as of the
Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent
functions):
a) all significant deficiencies in the design or operation of internal controls
which could adversely affect the registrant's ability to record, process,
summarize and report financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in this
annual report whether there were significant changes in internal controls or in
other factors that could significantly affect internal controls subsequent to
the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.
Date: November 27, 2002
/s/ Chiu M. Chan
____________________________
Chiu M. Chan,
Chief Executive Officer
24
I, Philip S. Chan, Chief Financial Officer, certify that:
1. I have reviewed this annual report on Form 10-K of Dynacq International,
Inc.;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this annual
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated subsidiaries,
is made known to us by others within those entities, particularly during the
period in which this annual report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this annual
report (the "Evaluation Date"); and
c) presented in this annual report our conclusions about the effectiveness of
the disclosure controls and procedures based on our evaluation as of the
Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent
functions):
a) all significant deficiencies in the design or operation of internal controls
which could adversely affect the registrant's ability to record, process,
summarize and report financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in this
annual report whether there were significant changes in internal controls or in
other factors that could significantly affect internal controls subsequent to
the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.
Date: November 27, 2002
/s/ Philip S. Chan
____________________________
Philip S. Chan,
Chief Financial Officer
25
Dynacq International, Inc.
Consolidated Financial Statements
August 31, 2002 and 2001
Contents
Report of Independent Auditors ...................................... F-1
Consolidated Financial Statements
Consolidated Balance Sheets ......................................... F-3
Consolidated Statements of Operations ............................... F-5
Consolidated Statements of Stockholders' Equity ..................... F-6
Consolidated Statements of Cash Flows ............................... F-7
Notes to Consolidated Financial Statements .......................... F-9
i
Report of Independent Auditors
To the Stockholders and Board of Directors
Dynacq International, Inc.
We have audited the accompanying consolidated balance sheet of Dynacq
International, Inc. (the "Company"), as of August 31, 2002, and the related
consolidated statements of operations, stockholders' equity, and cash flows for
the year then ended. Our audit also included the financial statement schedule
listed in the Index at Item 15(a). These financial statements and schedule are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these consolidated financial statements and schedule based on our
audit.
We conducted our audit 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 audit provides a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Dynacq
International, Inc. at August 31, 2002, and the consolidated results of their
operations and their cash flows for the year then ended, in conformity with
accounting principles generally accepted in the United States. Also, in our
opinion, the related financial statement schedule, when considered in relation
to the basic financial statements taken as a whole, presents fairly in all
material respects the information set forth therein.
Ernst & Young LLP
Houston, Texas
November 22, 2002
F-1
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Shareholders and Board of Directors
Dynacq International, Inc.
Houston, Texas
We have audited the accompanying consolidated balance sheets of Dynacq
International, Inc. and its subsidiaries (the "Company") as of August 31, 2001,
and the related consolidated statements of operations, stockholders' equity and
cash flows for the years ended August 31, 2001 and 2000. Our audits also
included the financial statement schedule listed in the Index at Item 15(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 of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the consolidated
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the consolidated 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 financial position of the Company as of
August 31, 2001, and the results of its operations and its cash flows for the
years ended August 31, 2001 and 2000, in conformity with accounting principles
generally accepted in the United States of America. 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.
KenWood & Associates, P.C.
Sugar Land, Texas
November 26, 2001
F-2
Dynacq International, Inc.
Consolidated Balance Sheets
August 31
2002 2001
------------------------------
Assets
Current assets:
Cash and cash equivalents $ 7,583,756 $ 5,031,614
Accounts receivable, net of allowances for contractual
adjustments and uncollectible accounts of approximately
$58,010,000 and $50,370,000 at August 31, 2002 and
2001, respectively 24,340,971 18,993,648
Inventories 893,727 511,248
Prepaid expenses 262,958 109,993
Deferred tax asset 149,295 71,000
Income taxes receivable 373,575 -
------------------------------
Total current assets 33,604,282 24,717,503
Property and equipment, net 16,715,425 10,497,730
Goodwill, net 483,944 519,278
Other assets 274,970 130,890
------------------------------
Total assets $ 51,078,621 $ 35,865,401
==============================
See accompanying notes
F-3
Dynacq International, Inc.
Consolidated Balance Sheets (continued)
August 31
2002 2001
------------------------------
Liabilities and stockholders' equity
Current liabilities:
Accounts payable $ 2,327,410 $ 798,787
Accrued liabilities 744,530 725,412
Income taxes payable - 3,246,620
Current maturities of long-term debt 39,075 228,697
------------------------------
Total current liabilities 3,111,015 4,999,516
Noncurrent liabilities:
Long-term debt, net of current maturities - 519,075
Negative goodwill, net 851,859 851,859
Deferred income taxes 483,219 29,000
------------------------------
Total noncurrent liabilities 1,335,078 1,399,934
Commitments and contingencies - -
Minority interests 2,064,155 1,920,769
Stockholders' equity:
Preferred stock, $.01 par value; 5,000,000 shares
authorized, none issued or outstanding - -
Common stock, $.001 par value; 300,000,000 shares
authorized, 16,515,166 and 16,266,331 shares issued at
August 31, 2002 and 2001, respectively 16,515 16,266
Additional paid-in capital 9,778,701 6,690,042
Retained earnings 37,884,622 22,445,443
Treasury stock, 1,685,984 and 1,599,984 shares at August
31, 2002 and 2001, respectively, at cost (1,959,412) (1,190,507)
Deferred compensation (1,152,053) (416,062)
------------------------------
Total stockholders' equity 44,568,373 27,545,182
------------------------------
Total liabilities and stockholders' equity $ 51,078,621 $35,865,401
==============================
See accompanying notes.
F-4
Dynacq International, Inc.
Consolidated Statements of Operations
Year ended August 31
2002 2001 2000
---------------------------------------------
Net patient service revenue $ 64,883,235 $ 43,803,619 $26,032,441
Costs and expenses:
Compensation and benefits 9,191,313 5,954,061 4,344,977
Medical supplies 15,332,788 9,299,835 4,481,487
Contract payments to physicians 1,759,026 2,291,705 1,225,980
Depreciation and amortization 1,213,573 813,143 780,890
Rent and occupancy 423,121 244,225 153,940
Provision for uncollectible accounts 350,018 58,259 60,585
Other general and administrative expenses 9,464,170 7,156,719 4,830,564
---------------------------------------------
Total costs and expenses 37,734,009 25,817,947 15,878,423
---------------------------------------------
Income from operations 27,149,226 17,985,672 10,154,018
Other income (expense):
Rent and other income 231,754 352,114 388,299
Interest income 163,584 299,901 111,042
Interest expense (27,539) (60,129) (126,501)
---------------------------------------------
Total other income 367,799 591,886 372,840
---------------------------------------------
Income before income taxes and minority interests 27,517,025 18,577,558 10,526,858
Provision for income taxes 10,044,459 5,040,000 3,861,000
---------------------------------------------
Net income before minority interests 17,472,566 13,537,558 6,665,858
Minority interests in earnings (2,033,387) (2,476,750) (807,452)
---------------------------------------------
Net income $ 15,439,179 $ 11,060,808 $ 5,858,406
=============================================
Basic net income per share of common stock $ 1.05 $ 0.76 $ 0.43
=============================================
Diluted net income per share of common stock $ 1.03 $ 0.75 $ 0.41
=============================================
Weighted average common shares - basic 14,759,404 14,614,692 13,489,586
=============================================
Weighted average common shares - diluted 15,047,829 14,673,775 14,268,390
=============================================
See accompanying notes.
F-5
Dynacq International, Inc.
Consolidated Statements of Stockholders' Equity
Additional
Common Stock Treasury Stock Paid-In Retained Deferred
Shares Amount Shares Amount Capital Earnings Compensation Total
----------------------------------------------------------------------------------------------------
Balance, August 31, 1999 3,606,628 $ 3,607 371,017 $ (729,847) $ 3,552,761 $ 5,537,881 $ - $ 8,364,402
Restricted stock issued for
services 47,500 47 - - 189,953 - - 190,000
Restricted stock issued for
compensation 37,600 38 - - 150,362 - - 150,400
Restricted stock issued on
exercise of options 263,000 263 - - 416,737 - - 417,000
Stock dividend 3,704,128 3,704 375,184 - - (3,704) - -
Treasury stock acquired, net - - 48,191 (411,699) - - - (411,699)
Net income - - - - - 5,858,406 - 5,858,406
----------------------------------------------------------------------------------------------------
Balance, August 31, 2000 7,658,856 7,659 794,392 (1,141,546) 4,309,813 11,392,583 - 14,568,509
Restricted stock issued for
acquisitions 65,751 66 - - 617,152 - - 617,218
Restricted stock issued for
compensation 20,620 20 - - 173,042 - - 173,062
Restricted stock issued on
exercise of options 572,878 573 - - 1,069,635 - - 1,070,208
Stock dividend 7,948,226 7,948 799,992 - - (7,948) - -
Treasury stock acquired, net - - 5,600 (48,961) - - - (48,961)
Net income - - - - - 11,060,808 - 11,060,808
Deferred compensation
recognized for options
granted - - - - 520,400 - (520,400) -
Deferred compensation
amortization - - - - - - 104,338 104,338
----------------------------------------------------------------------------------------------------
Balance, August 31, 2001 16,266,331 16,266 1,599,984 (1,190,507) 6,690,042 22,445,443 (416,062) 27,545,182
Restricted stock issued on
exercise of options 248,835 249 - - 1,106,860 - - 1,107,109
Income tax benefit from
exercise of stock options - - - - 1,072,799 - - 1,072,799
Treasury stock acquired, net - - 86,000 (768,905) - - - (768,905)
Net income - - - - - 15,439,179 - 15,439,179
Deferred compensation
recognized for options
granted - - - - 909,000 - (909,000) -
Deferred compensation
amortization - - - - - - 173,009 173,009
----------------------------------------------------------------------------------------------------
Balance, August 31, 2002 16,515,166 $ 16,515 1,685,984 $(1,959,412) $ 9,778,701 $ 37,884,622 $(1,152,053) $44,568,373
====================================================================================================
See accompanying notes.
F-6
Dynacq International, Inc.
Consolidated Statements of Cash Flows
Year ended August 31
2002 2001 2000
-------------------------------------------
Cash flows from operating activities
Net income $15,439,179 $ 11,060,808 $ 5,858,406
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 1,213,573 813,143 780,890
Provision for uncollectible accounts 350,018 58,259 60,585
Deferred income taxes 180,905 (858,000) (13,000)
Minority interests 2,033,387 2,476,750 807,452
Expense related to stock issued for
compensation - 173,062 150,400
Deferred compensation amortization 173,009 104,338 -
Changes in operating assets and liabilities:
Accounts receivable (5,697,341) (10,352,299) (4,074,699)
Other receivables - - 32,625
Inventories (382,479) (139,279) (315,100)
Prepaid expenses (152,965) (109,993) -
Income taxes receivable (373,575) - -
Other assets (170,578) (66,353) (2,953)
Accounts payable 1,528,623 (327,283) 294,575
Accrued liabilities 19,118 43,897 (465,230)
Income taxes payable (1,978,802) (133,686) 2,343,000
--------------------------------------------
Net cash provided by operating activities 12,182,072 2,743,364 5,456,951
Cash flows from investing activities
Purchase of property and equipment, net (7,369,437) (1,163,472) (1,326,679)
Repayment of notes receivable - - 75,000
Acquisitions of Surgi+Group and Piney Point - (1,008,333) -
--------------------------------------------
Net cash used in investing activities (7,369,437) (2,171,805) (1,251,679)
F-7
Dynacq International, Inc.
Consolidated Statements of Cash Flows (continued)
Year ended August 31
2002 2001 2000
----------------------------------------
Cash flows from financing activities
Principal payments on long-term debt $ (708,697) $ (537,715) $ (268,657)
Proceeds from long-term debt - 600,000 -
Repayment of notes payable - - (250,000)
Proceeds from common stock issuance - - 190,000
Proceeds from exercise of stock options 1,107,109 1,070,208 417,000
Acquisition of treasury stock, net (768,905) (48,961) (411,699)
Distributions to minority stockholders (1,300,000) (875,000) (410,000)
Purchase of minority interests (590,000) (50,000) (333,928)
----------------------------------------
Net cash (used in) provided by financing activities (2,260,493) 158,532 (1,067,284)
----------------------------------------
Net increase in cash and cash equivalents 2,552,142 730,091 3,137,988
Cash and cash equivalents at beginning of year 5,031,614 4,301,523 1,163,535
----------------------------------------
Cash and cash equivalents at end of year $ 7,583,756 $5,031,614 $ 4,301,523
========================================
Supplemental cash flow disclosures
Cash paid during year for:
Interest $ 27,539 $ 74,724 $ 169,117
Income taxes 9,500,000 6,057,347 1,521,000
Noncash investing and financing activities:
Deferred compensation recognized for options
granted 909,000 520,400 -
Income tax benefit from stock options exercised 1,072,799 - -
Stock dividend issued - 7,948 3,704
Stock issued for acquisition of Surgi+Group - 380,000 -
Stock issued for acquisition of Piney Point - 141,667 -
Stock issued for purchase of minority interests - 95,551 -
Fair value of minority interests purchased in
excess of cash paid and stock issued - 364,101 733,654
See accompanying notes.
F-8
Dynacq International, Inc.
Notes to Consolidated Financial Statements
August 31, 2002
1. Significant Accounting Policies
Business and Organization
Dynacq International, Inc.(the "Company") is in the surgical hospital business.
The Company's strategy is to develop and operate surgical specialty hospitals
focusing on orthopedic surgery, general surgery, and neurosurgery. Historically,
the Company has also offered a variety of healthcare services and supplies. For
Fiscal 2002, the surgical hospital and outpatient surgical centers are the
predominant revenue generating segments.
The Company was incorporated under the laws of the State of Utah in September
1983, reincorporated in Nevada in 1989, and adopted its current corporate name
in 1992. The Company's common stock commenced trading on the Nasdaq Small Cap
System in 1993 and became listed on the Nasdaq National Market System in 2000.
In August 1994, the Company consummated the acquisition of approximately 65% of
the outstanding stock of Vista Healthcare, Inc. ("Vista"), which operates a
medical clinic and outpatient surgical center in Pasadena, Texas.
In September 1994, the Company formed Doctors Practice Management, Inc.
("DPMI"). DPMI was originally established for the purpose of providing fee-based
management services to physician groups. As part of the Company's overall
business strategy to concentrate its resources on the operation of its current
hospital campuses and on identifying future hospital projects, it is not
pursuing additional physician management agreements at this time. This portion
of the Company's business represented a nominal amount of revenue for the
Company during fiscal 2002. DPMI's primary current activities involve the
management of certain of the Company's medical facilities.
In May 1998, DPMI organized Vista Community Medical Center, L.L.C. ("Vista
Medical"), a Texas limited liability company, for the purpose of operating a
General Acute Hospital (the "Hospital"). The Hospital is located adjacent to the
Vista Medical center and outpatient surgical center in Pasadena, Texas. DPMI had
a 70% membership interest in Vista Medical in 2001 and 2000, and has a 90%
membership interest in 2002.
On February 11, 2000, Texas Gulf Coast Surgical Care Center, L.L.C. ("Gulf
Coast") was renamed Vista Land and Equipment, L.L.C. ("Vista Land"), a Texas
limited liability company. Gulf Coast was organized by the Company in October
1998. The Company has a 100% membership interest in Vista Land, the entity which
holds substantially all of the Company's real estate, property, and equipment.
F-9
Dynacq International, Inc.
Notes to Consolidated Financial Statements (continued)
During March 2001, DPMI organized Vista Surgical Center West, L.L.C. ("Vista
Surgical"), a Texas limited liability company, for the purpose of acquiring and
operating Piney Point Surgery Center ("Piney Point"). Vista Surgical is a fully
operational ambulatory surgical center in Houston, Texas.
Principles of Consolidation
The consolidated financial statements include the accounts of the Company and
its wholly and majority owned subsidiaries. Intercompany accounts and
transactions have been eliminated in consolidation.
Use of Estimates
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions that affect the amounts reported in the consolidated financial
statements and accompanying notes. Actual results could differ from those
estimates.
Net Patient Service Revenue and Related Allowances
Net patient service revenue is reported at the estimated net realizable amounts
from patients, third-party payors, and others for services rendered. Allowances
for contractual discounts on services or adjustments for non-covered costs and
expenses are recognized in the period in which the related services are
provided. Allowances for doubtful accounts are determined by management based
upon historical experience and an assessment of the circumstances applicable to
individual accounts.
Stock-Based Compensation
The Company accounts for stock-based compensation arrangements with employees
under the provisions of Accounting Principles Board ("APB") Opinion No. 25,
Accounting for Stock Issued to Employees, and has elected to follow the
"disclosure only" alternative prescribed by Statement of Financial Accounting
Standards ("SFAS") No. 123, Accounting for Stock-Based Compensation, which
requires pro forma disclosure of compensation expense using a fair value-based
method of accounting for stock-based compensation plans.
F-10
Dynacq International, Inc.
Notes to Consolidated Financial Statements (continued)
Cash and Cash Equivalents
The Company considers all highly liquid investments with original maturities of
three months or less to be cash equivalents. Cash equivalents were composed
primarily of investments in money market funds.
Inventories
Inventories are stated at the lower of cost or market, with cost determined by
use of the first-in, first-out valuation method.
Property and Equipment
Property and equipment are recorded at cost. Ordinary maintenance and repairs
are charged to expense as incurred. Expenditures, which extend the physical or
economic life of the assets, are capitalized and depreciated. Gains or losses on
the disposition of assets sold are recognized in the results of operations and
the related asset and accumulated depreciation accounts are adjusted
accordingly.
Depreciation is computed using the straight-line method over the estimated
useful lives of the assets ranging from 3 to 39 years.
Impairment of Long-Lived Assets
The Company reviews its property and equipment and unamortized intangible assets
whenever events or changes in circumstances indicate that the carrying amount
may not be recoverable. The Company estimates the future cash flows expected to
result from operations and if the sum of the expected undiscounted future cash
flows is less than the carrying amount of the long-lived asset, the Company
recognizes an impairment loss by reducing the unamortized cost of the long-lived
asset to its estimated fair value. To date the Company has not recognized any
significant impairment on long-lived assets.
Net Negative Goodwill
Net assets acquired in excess of costs incurred (negative goodwill) from the
Vista acquisition and subsequent related purchases of minority interests are
amortized on the straight-line basis over a period of 14 years. Costs incurred
in excess of net assets acquired (goodwill) from the Surgi+Group and Piney Point
acquisitions are amortized on the straight-line basis over a period of 15 years.
The amortization of net negative goodwill is included in the consolidated
statements of operations as a reduction in
F-11
Dynacq International, Inc.
Notes to Consolidated Financial Statements (continued)
consolidated depreciation and amortization. For the years ended August 31, 2002,
2001, and 2000, amortization expense was $35,333, $51,203, and $35,924,
respectively.
Income Taxes
The Company uses the liability method in accounting for income taxes. Under this
method, deferred tax liabilities or assets are determined based on differences
between the income tax basis and the financial reporting basis of assets and
liabilities and are measured using the enacted tax rates and laws that will be
in effect when the differences are expected to reverse.
Minority Interests
The equity of minority investors in certain subsidiaries of the Company is
reported on the consolidated balance sheets as minority interests. Minority
interests reported in the consolidated income statements reflect the respective
interests in the income or loss of the limited partnerships or limited liability
companies attributable to the minority investors (ranging from 2.14% to 10% at
August 31, 2002), the effect of which is removed from the results of operations
of the Company. The minority interest at August 31, 2002 includes amounts
related to a contingency associated with the Company's acquisition of a minority
interest.
Net Income Per Share
Basic earnings per share is calculated based on the weighted average number of
common shares outstanding during the period. Diluted earnings per share would
give effect to the dilutive effect of common stock equivalents consisting of
stock options and warrants (calculated using the treasury stock method).
Recent Pronouncements
In July 2001, the Financial Accounting Standards Board ("FASB") issued SFAS No.
141, Business Combinations, and SFAS No. 142, Goodwill and Other Intangible
Assets, which is effective for the Company in the first quarter of fiscal year
2003 and for purchase business combinations consummated after June 30, 2001.
These standards change the accounting for business combinations by, among other
things, eliminating pooling-of-interests accounting and requiring a change in
the method of expensing goodwill and certain intangible assets with an
indefinite useful life. Goodwill and intangible assets deemed to have an
indefinite useful life will be subject to an annual review for
F-12
Dynacq International, Inc.
Notes to Consolidated Financial Statements (continued)
impairment rather than periodic amortization. Finite lived intangibles will
continue to be amortized over their useful lives.
During 2003, the Company will evaluate existing goodwill and intangible assets
acquired in purchase business combinations completed prior to July 1, 2001. The
carrying amount of recognized intangible assets that meet the criteria for
recognition apart from goodwill or any identifiable intangible assets that have
been presented with goodwill and other intangible assets for financial reporting
purposes will be reclassified and reported separately from goodwill. In
addition, the unamortized balance of the Company's remaining negative goodwill
will be written off and recognized as the cumulative effect of a change in
accounting principle. The Company will also test goodwill for impairment during
2003, using the two-step process prescribed in SFAS No. 142. The first step is a
screen for potential impairment, while the second step measures the amount of
impairment, if any. The Company does not believe the effect of these tests will
have a material impact on the earnings and financial position of the Company.
In October 2001, the FASB issued SFAS No. 144, Impairment of Long-Lived Assets,
SFAS No. 144 supersedes SFAS No. 121, Accounting for the Impairment of
Long-lived Assets and for Long-lived Assets To Be Disposed Of. SFAS No. 144
retains the requirements of SFAS No. 121 to (a) recognize an impairment loss
only if the carrying amount of a long-lived asset is not recoverable from its
undiscounted cash flows and (b) measure an impairment loss as the difference
between the carrying amount and the fair value of the asset. SFAS No. 144
removes goodwill from its scope. SFAS No. 144 is applicable to financial
statements issued for fiscal years beginning after December 15, 2001. The
adoption of SFAS No. 144 is not expected to have any material impact on the
financial position of the Company.
Reclassifications
Certain accounts in the prior year consolidated financial statements have been
reclassified to conform to the presentation in the current year.
2. Vista Healthcare, Inc.
During 2000 and 2001, the Company purchased 21.09% and 6.83%, respectively, of
the common stock of Vista for cash of $333,929 and $50,000. Additionally,
$95,551 of the Company's common stock was given as consideration during 2001.
The fair value of the minority interests purchased in 2001 and 2000 was $364,101
and $733,654, respectively, in excess of the cash and stock consideration paid.
As of August 31, 2002, the Company owned approximately 98% of the outstanding
common stock of Vista.
F-13
Dynacq International, Inc.
Notes to Consolidated Financial Statements (continued)
3. Property and Equipment
At August 31, property and equipment consisted of the following:
2002 2001
------------------------------
Land $ 3,795,035 $ 497,110
Buildings and improvements 8,450,596 8,630,037
Equipment 7,156,190 5,445,175
------------------------------
19,401,821 14,572,322
Less accumulated depreciation (5,129,246) (4,074,592)
Construction in progress 2,442,850 -
------------------------------
Net property and equipment $ 16,715,425 $ 10,497,730
==============================
For the years ended August 31, 2002, 2001, and 2000, depreciation expense was
$1,163,075, $853,770, and $812,239, respectively. The estimated cost to complete
the construction in progress at August 31, 2002 is approximately $3,500,000.
4. Long-Term Debt
At August 31, long-term debt consisted of the following:
2002 2001
------------------------------
Note payable to a former shareholder, payable in monthly
installments of $10,007, including interest at 11.5%, through
December 2002, uncollateralized $ 39,075 $ 147,772
Note payable to a financing company payable at variable
monthly installments, including variable interest of 2.3%
plus the "Dealer Commercial Paper" rate, through July
2006, collateralized by the property and equipment of
the Company - 600,000
------------------------------
39,075 747,772
Less current maturities 39,075 228,697
------------------------------
$ - $ 519,075
==============================
F-14
Dynacq International, Inc.
Notes to Consolidated Financial Statements (continued)
The Company has a reducing revolving line of credit with a financial
institution. The original amount available under the line of credit was $8
million. The line of credit is reduced monthly by an amount equal to 1/180/th/
of the original $8 million loan amount, effective August 2001. The amount
available under the line of credit at August 31, 2002 is $7,400,000. The
interest rate on the line of credit is a variable rate of 2.3% plus the "Dealer
Commercial Paper" rate. The line of credit is secured by the buildings in
Pasadena, Texas and the contents therein. There are no borrowings outstanding on
the line of credit at August 31, 2002.
5. Income Taxes
The provision for income tax expense consisted of the following:
Year Ended August 31,
2002 2001 2000
--------------------------------------------------
Current tax expense:
Federal $ 9,064,749 $ 5,424,000 $ 3,599,000
State 798,805 474,000 275,000
--------------------------------------------------
Total current 9,863,554 5,898,000 3,874,000
Deferred tax expense (benefit):
Federal 167,238 (795,000) (12,000)
State 13,667 (63,000) (1,000)
--------------------------------------------------
Total deferred 180,905 (858,000) (13,000)
--------------------------------------------------
Total income tax expense $ 10,044,459 $ 5,040,000 $ 3,861,000
==================================================
In 2002, income tax benefits of $1,072,799 resulting from deductions relating to
nonqualified stock option exercises and disqualifying dispositions of certain
employee incentive stock options were recorded as increases in stockholders'
equity.
The provision for income tax expense for the year ended August 31, 2002 includes
additional expense of approximately $300,000 to reflect the tax expense of
certain prior year items.
Deferred taxes arise primarily due to the use of the specific charge-off method
for tax reporting, and accelerated methods of computing depreciation
F-15
Dynacq International, Inc.
Notes to Consolidated Financial Statements (continued)
for tax purposes. The components of the provision for deferred income taxes, at
August 31, were as follows:
2002 2001 2000
--------------------------------------------------
Applicable to:
Cash basis of accounting for federal
income tax purposes $ - $ (678,000) $ (159,000)
Use of reserve for bad debts for financial
reporting and specific charge-off
method for tax reporting (78,019) (22,000) (22,000)
Special allocation of interest in
partnership operations - (163,000) 163,000
Difference in method of computing
depreciation for tax and financial
reporting purposes and other 258,924 5,000 5,000
--------------------------------------------------
$ 180,905 $ (858,000) $ (13,000)
==================================================
Significant components of the Company's deferred tax liabilities and assets were
as follows at August 31, 2002:
Current Noncurrent
--------------------------------
Deferred tax liabilities:
Basis in property and equipment $ - $ (483,219)
Deferred tax assets:
Reserve for bad debts 149,295 -
--------------------------------
Net deferred tax asset (liability) $ 149,295 $ (483,219)
================================
Significant components of the Company's deferred tax liabilities and assets were
as follows at August 31, 2001:
F-16
Dyncaq International, Inc.
Notes to Consolidated Financial Statements (continued)
Current Noncurrent
---------------------------------
Deferred tax liabilities:
Basis in property and equipment $ - $ (29,000)
Deferred tax assets:
Reserve for bad debts 71,000 -
---------------------------------
Net deferred tax asset (liability) $ 71,000 $ (29,000)
=================================
The following table reconciles the federal statutory income tax rate and the
Company's effective income tax rate:
2002 2001 2000
--------------------------------------------------
Provision for income taxes at federal
statutory rate 35.0% 34.0% 34.0%
State tax provision, net of federal benefits 3.0 3.0 3.0
Minority interest in income of partnership (2.6) (5.4) (0.1)
Tax benefit of non-qualified stock option - (4.7) -
Other differences 1.8 2.9 (0.2)
--------------------------------------------------
Effective tax rate 37.2% 29.8% 36.7%
==================================================
6. Related Party Transactions
The Company leases to its president his personal residence at a monthly rate of
$1,400. Total rent income for the years ended August 31, 2002, 2001, and 2000,
was $16,800 for each year.
During 2002 and 2001, the Company distributed $1,200,000 and $675,000,
respectively, to a minority member of Vista Medical. Additionally, the Company
distributed $100,000 and $200,000 during 2002 and 2001, respectively, to a
minority member of Vista Surgical.
7. Stock Option Plans
The Company's 1995 Incentive Plan, and the 2000 Incentive Plan provide for
options and other stock-based awards that may be granted to eligible employees,
officers, consultants, and non-employee directors of the Company or its
subsidiaries. An aggregate of 4,500,000 shares of common stock of the Company is
authorized to be issued under the Incentive Plans. All awards previously granted
to employees under the Incentive Plans have been stock options, primarily
intended to qualify as "incentive stock options" within the meaning of Section
422 of the Internal Revenue Code (the "Code"). The Incentive
F-17
Dynacq International, Inc.
Notes to Consolidated Financial Statements (continued)
Plans also permit stock awards, stock appreciation rights, performance units,
and other stock-based awards, all of which may or may not be subject to the
achievement of one or more performance objectives.
The purposes of the Incentive Plans generally are to retain and attract persons
of training, experience, and ability to serve as employees of the Company and
its subsidiaries and to serve as non-employee directors of the Company, to
encourage the sense of proprietorship of such persons and to stimulate the
active interest of such persons in the development and financial success of the
Company and its subsidiaries.
The Incentive Plans are administered by the Compensation Committee of the board
of directors (the "Committee"). The Committee has the power to determine which
eligible employees will receive awards, the timing and manner of the grant of
such awards, the exercise price of stock options (which may not be less than
market value on the date of grant), the number of shares, and all of the terms
of the awards. The Company may at any time amend or terminate the Incentive
Plans. However, no amendment that would impair the rights of any participant,
with respect to outstanding grants, can be made without the participant's prior
consent. Stockholder approval of an amendment to the Incentive Plans is
necessary only when required by applicable law or stock exchange rules.
The following summarizes stock option activity and related information:
Year ended August 31
2002 2001 2000
---------------------------------------------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
---------------------------------------------------------
(Share Amounts In Thousands)
Outstanding - beginning of year: 1,399 $3.65 952 $0.92 1,303 $0.66
Granted 169 6.07 1,139 4.44 200 2.00
Exercised (261) 4.44 (692) 1.17 (551) 0.71
Canceled (225) 1.07 - - - -
---------------------------------------------------------
Outstanding - end of year 1,082 4.37 1,399 3.65 952 0.92
---------------------------------------------------------
Exercisable - end of year 385 4.58 1,399 3.65 952 0.92
---------------------------------------------------------
Weighted average fair value of
options granted during year $8.72 $4.44 $4.00
======== ======== ========
F-18
Dynacq International, Inc.
Notes to Consolidated Financial Statements (continued)
The following summarizes information related to stock options outstanding at
August 31, 2002:
Options Outstanding Options Exercisable
----------------------------------------------------
Weighted
Average Weighted Weighted
Remaining Average Average
Life Exercise Exercise
Range of Exercise Prices Shares (Years) Price Shares Price
- ---------------------------------------------------------------------------------------------------
(Share Amounts In Thousands)
$4.44 913 3.3 $4.44 333 $4.44
$6.07 169 4.5 6.07 32 6.07
----------------------------------------------------
Total 1,082 3.5 $4.69 365 $4.58
====================================================
The Company has elected to follow APB Opinion No. 25, Accounting for Stock
Issued to Employees (APB 25), and related interpretations in accounting for its
stock-based compensation arrangements because, as discussed below, the
alternative fair value accounting provided for under SFAS No. 123, Accounting
for Stock-Based Compensation, requires use of option valuation models that were
not developed for use in valuing employee stock options. Under APB No. 25, no
compensation expense has been recognized where the exercise price of the
Company's employee stock options has equaled the market price of the underlying
stock on the date of grant.
During 2002, an employee was granted options to purchase 100,000 shares of
common stock at an exercise price of $6.07. The fair market value of the stock
on the date of grant was $15.16. The Company will recognize $909,000 as
compensation expense over the five-year life of the grant. The Company
recognized approximately $70,000 during 2002.
Pro forma information regarding net income and net income per share is required
by SFAS No. 123, which also requires that the information be determined as if
the Company had accounted for its employee stock options granted subsequent to
December 31, 1994, under the fair value method prescribed by SFAS No. 123. The
fair value for these options was estimated at the date of grant using a
Black-Scholes option pricing model with the following assumptions:
Year ended August 31
2002 2001 2000
------------------------------------
F-19
Dynacq International, Inc.
Notes to Consolidated Financial Statements (continued)
Risk-free interest rate 4.0% 6.0% 6.1%
Expected dividend yield 0.0% 0.0% 0.0%
Expected volatility 0.89 0.95 1.64
Weighted average expected life (in years) 3.0 3.0 3.0
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 employee stock options have characteristics significantly
different from those of traded options, and because changes in the subjective
input assumptions can materially affect the fair value estimate, in the
Company's opinion, the existing models do not necessarily provide a reliable
single measure of the fair value of its employee stock options.
For purposes of pro forma disclosures, the estimated fair value of the options
is amortized to expense over the options' vesting period. The Company's pro
forma information, as if the Company had accounted for its employee stock
options granted subsequent to December 31, 1994, under the fair value method
prescribed by SFAS No. 123, follows:
Year ended August 31
2002 2001 2000
-------------------------------------
Pro forma net income $13,880,446 $9,608,917 $5,183,395
Pro forma basic net income per share $ 0.94 $ 0.66 $ 0.38
Pro forma diluted net income per share $ 0.92 $ 0.66 $ 0.36
8. Employee Benefit Plan
The Company sponsors a defined contribution covering substantially all employees
of the Company and provides for voluntary contributions by these employees,
subject to certain limits. The plan was effective June 1, 2001. The Company
makes discretionary contributions to the plan. The Company's contributions for
the years ended August 31, 2002 and 2001, were $225,857 and $155,962,
respectively.
9. Earnings Per Share
The numerator used in the calculations of both basic and diluted net income per
share for all periods presented was net income. The denominator for each period
presented was determined as follows:
F-20
Dynacq International, Inc.
Notes to Consolidated Financial Statements (continued)
Year ended August 31
2002 2001 2000
-------------------------------------
Denominator:
Basic net income per share - weighted average
shares outstanding 14,759,404 14,614,692 13,489,586
Effect of dilutive securities:
Common stock options - treasury stock method 288,425 59,083 778,804
-------------------------------------
Diluted net income per share - weighted average
shares outstanding plus effect of dilutive
securities 15,047,829 14,673,775 14,268,390
=====================================
F-21
Dynacq International, Inc.
Notes to Consolidated Financial Statements (continued)
10. Commitments and Contingencies
Leases
The Company leases certain of its facilities and equipment under operating
leases with net aggregate future lease payments of $3,300,173 at August 31,
2002, payable as follows:
Year ending August 31,
2003 $ 684,136
2004 689,032
2005 682,764
2006 645,030
2007 455,688
2008 143,523
----------------
Total at August 31, 2002 $ 3,300,173
================
Rent expense related to its facilities and equipment leases, for the years ended
August 31, 2002, 2001, and 2000, was $158,547, $113,826, and $97,243,
respectively.
The Company also leases corporate office space under an operating lease on a
month-to-month basis. Rent expense for its corporate lease was $15,432 for each
of the years ended August 31, 2002, 2001, and 2000.
In addition, the Company pays certain operating leases on behalf of the
physicians being managed by DPMI. For the years ended August 31, 2002, 2001, and
2000, total physicians' operating lease expenses were $33,155, $114,967, and
$41,265, respectively.
Total rent expenses, including those physicians' operating leases paid by the
Company, for the years ended August 31, 2002, 2001, and 2000, was approximately
$423,121, $244,225, and $153,940, respectively.
Risks and Uncertainties
The Company maintains insurance for automobile, general liability, property
loss, health insurance and medical malpractice claims. The Company has
claims-made malpractice coverage and has purchased tail coverage effective
through August 31, 2003. The Company is self-insured for worker's compensation
claims. Management does not believe the Company's exposure to medical
malpractice or workers' compensation is
F-22
Dynacq International, Inc.
Notes to Consolidated Financial Statements (continued)
significant, and is not aware of any significant pending or potential claims
against the Company
In January 2002, the Company and two of its officers were named as defendants in
a shareholder class action lawsuit in the United States District Court for the
Southern District of Texas alleging violations of federal securities laws and
regulations. The putative class covers those persons who purchased the Company's
shares between November 29, 1999 and January 16, 2002. The various complaints
that have been consolidated claim that the Company violated Sections 10(b) and
20(a) and Rule 10b-5 under the Securities Exchange Act of 1934 (the "Exchange
Act") by making materially false or misleading statements or omissions regarding
revenues and receivables and regarding whether the Company's operations complied
with various federal regulations. The district court has consolidated these
actions and appointed a lead plaintiff in the matter. The lead plaintiff filed a
consolidated amended complaint on September 6, 2002. The Company anticipates
moving to dismiss that consolidated amended complaint. These actions are at an
early stage, and no discovery has taken place at this time. The Company intends
to defend these claims vigorously.
In March 2002, the Company accepted service of a shareholder derivative action
brought in the 295/th/ District Court of Harris County, Texas brought on behalf
of the Company against its officers and directors, outside auditor, and
investment bank, and two analysts affiliated with that investment bank. The suit
alleges breach of fiduciary duty, aiding and abetting breach of fiduciary duty,
negligence and breach of contract. Plaintiff makes general allegations of the
defendants' alleged misconduct in "(i) causing or allowing the Company to
conduct its business in an unsafe, imprudent and unlawful manner; (ii) failing
to implement and maintain an adequate internal control system; and (iii)
exposing the Company to enormous losses," including allegations that various
press releases and/or public statements issued between January 1999 and January
2002 were misleading. Plaintiffs further allege sales by Company insiders while
in possession of material non-public information. The plaintiffs made no demand
on either the Company or its Board of Directors prior to filing suit. A separate
action was brought in United States District Court for the Southern District of
Texas making similar allegations in federal court against only officers and
directors of the Company. The plaintiff in this action also did not make a
demand on the Company prior to filing suit. Another derivative suit making
similar allegations was filed in 152nd District Court of Harris County, Texas;
however, at the plaintiff's request, the Court dismissed that action.
The Board of Directors has appointed a Special Litigation Committee to conduct
an investigation and make a determination as to how the Company should proceed
on the
F-23
Dynacq International, Inc.
Notes to Consolidated Financial Statements (continued)
claims asserted in the shareholder derivative actions. On October 7, 2002, the
295th district court stayed the state-court shareholder derivative case for 60
days pending the Special Litigation Committee's investigation. On November 12,
2002, the federal district court presiding over the shareholder derivative
action filed there stayed that action pending conclusion of the shareholder
class action lawsuit.
From time to time, the Company is involved in litigation incidental to its
business. In the Company's opinion, no litigation to which the Company is
currently a party is likely to have a material adverse effect on the Company's
results of operations, cash flows, or financial condition.
11. Concentrations of Credit Risk and Fair Value of Financial Instruments
The Company has financial instruments that are exposed to concentrations of
credit risk and consist primarily of cash investments and trade accounts
receivable. The Company routinely maintains cash and temporary cash investments
at certain financial institutions in amounts substantially in excess of FDIC
insurance limits; however, management believes that these financial institutions
are of high quality and the risk of loss is minimal. As is customary in the
healthcare business, the Company has trade accounts receivable from various
third party payors, and the balance due from a particular payor at any point in
time may be in excess of the allowance for doubtful accounts. The Company does
not request collateral from its customers and continually monitors its exposure
for credit losses and maintains allowances for anticipated losses. Trade
receivables from third party payors are normally in excess of 90% of the total
trade receivables at any point in time. The mix of gross receivables from
self-pay patients and third-party payors at August 31, 2002 and 2001 is as
follows:
2002 2001
---------------------------
Workers' compensation 70% 74%
Commercial 18% 15%
Medicare 4% 3%
Self-pay 1% 1%
Other 7% 7%
---------------------------
100% 100%
===========================
The carrying amounts of cash and cash equivalents, short-term investments,
receivables, notes payable, and accounts payable approximate fair value due to
the short-term nature
F-24
Dynacq International, Inc.
Notes to Consolidated Financial Statements (continued)
of these instruments. The carrying amounts of the Company's long-term
borrowings, at August 31, 2002 and 2001, approximate their fair value.
12. Segment and Related Information
The Company has three reportable segments: surgical hospital, outpatient
surgical centers, and corporate and management services. The surgical hospital
segment is comprised of a 37-bed hospital that provides a wide range of medical
services including major surgical cases, which require hospitalization. The
outpatient surgical centers segment provides outpatient surgical facilities,
contracted X-ray diagnostic services and full service laboratory testing. The
corporate and management services segment holds all of the fixed assets of the
surgical hospital and the outpatient surgical center segments, provides office
space and fee-based management services to physicians, and encompasses all other
operations of the Company.
The accounting policies of the segments are the same as those described in the
summary of significant accounting policies. The Company evaluates performance
based on profit or loss from operations before income taxes not including
nonrecurring gains and losses.
The Company accounts for intersegment sales and expenses as if the sales or
transfers were to third parties, that is, at current market prices. All
intersegment eliminations have been made in the table below.
The Company's reportable segments are business units that offer different
services. They are managed separately because each business requires different
technology and marketing strategies.
Summarized financial information concerning the Company's reportable segments is
shown in the following table.
Outpatient Corporate and
Surgical Surgical Management
Hospital Centers Services Total
---------------------------------------------------------------------
2002
Revenues - external $ 49,566,300 $ 13,943,089 $ 1,605,600 $ 65,114,989
Intersegment revenues 298,000 83,835 19,663,741 20,045,576
Segment assets 21,598,714 9,246,000 26,909,592 57,754,305
Segment profit 14,068,079 846,280 2,558,207 17,472,566
Depreciation and amortization - - 1,213,573 1,213,573
Income taxes - 488,686 9,555,773 10,044,459
2001
Revenues - external $ 23,328,310 $ 17,798,282 $ 3,029,141 $ 44,155,733
F-25
Dynacq International, Inc.
Notes to Consolidated Financial Statements (continued)
Intersegment revenues - - 19,532,536 19,532,536
Segment assets 13,818,634 13,876,916 22,253,842 49,949,392
Segment profit 7,193,259 4,130,192 2,214,107 13,537,558
Depreciation and amortization - 9,297 803,846 813,143
Income taxes - 2,164,263 2,875,737 5,040,000
2000
Revenues - external $ 7,410,621 $ 15,396,058 $ 3,614,061 $ 26,420,740
Intersegment revenues - - 15,626,519 15,626,519
Segment assets 5,103,347 10,263,699 18,420,069 33,787,115
Segment profit 1,223,010 2,397,412 3,045,436 6,665,858
Depreciation and amortization - 61,151 719,739 780,890
Income taxes 709,000 1,413,000 1,739,000 3,861,000
The following table provides a reconciliation of the reportable segments'
revenues and profit to the consolidated totals for twelve months ended August
31, 2002, 2001, and 2000, respectively.
2002 2001 2000
----------------------------------------------------
Revenues
Total revenues for reportable segments $ 65,114,989 $ 44,155,733 $ 26,420,740
Interest income 247,419 402,701 231,267
Elimination of intersegment interest income (83,835) (102,800) (120,225)
----------------------------------------------------
Consolidated total revenues $ 65,278,573 $ 44,455,634 $ 26,531,782
====================================================
Profit
Total profit for reportable segments $ 17,472,566 $ 13,537,558 $ 6,665,858
Elimination of minority interests (2,033,387) (2,476,750) (807,452)
----------------------------------------------------
Consolidated net income $ 15,439,179 $ 11,060,808 $ 5,858,406
====================================================
13. Business Combinations
On February 1, 2001, the Company acquired Surgi+Group in a business combination
accounted for as a purchase. Prior to the acquisition, Surgi+Group was a
privately held surgery center development company. To culminate this
transaction, the Company issued 27,942 shares of its restricted common stock,
issued under Rule 144, valued at $380,000 and paid no cash to Surgi+Group.
Goodwill in the approximate amount of $360,000 resulted from this transaction.
The acquisition of Surgi+Group gave the Company access to surgery center
acquisition and development opportunities previously developed by Surgi+Group.
The purchase agreement allowed for specific success fees to be paid to the
former shareholders of Surgi+Group based on certain acquisition and development
opportunities, initiated prior to the acquisition by the Company, that are
executed within the first 18 months subsequent to acquisition. The former
shareholders of Surgi+Group are officers of the Company.
F-26
Dynacq International, Inc.
Notes to Consolidated Financial Statements (continued)
On March 22, 2001, the Company acquired Piney Point in a business combination
accounted for as a purchase. To consummate the transaction, the Company paid
$1,000,000 in cash. The acquisition of Piney Point, developed from opportunities
achieved through the Surgi+Group acquisition, provides the Company with a fully
operational ambulatory surgical center containing two surgical suites, patient
treatment and recovery areas, and physician clinical space. As a result of the
acquisition, Dynacq paid the former stockholders of Surgi+Group a success fee
worth $170,000 through a combination of cash and restricted common stock.
Goodwill in the approximate amount of $170,000 resulted from this transaction,
primarily as a result of the success fee paid to the Surgi+Group former
stockholders.
14. Quarterly Financial Data (unaudited)
Quarter ended
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Nov. 30 Feb. 28 May 31 Aug. 31
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Year ended August 31, 2002
Revenues $ 13,854,531 $ 15,036,293 $ 19,621,751 $ 16,370,660
Operating income 5,733,814 5,880,990 7,022,297 8,512,125
Net income 3,377,615 3,542,027 4,127,165 4,392,371
Basic net income per share 0.23 0.24 0.28 0.30
Diluted net income per share 0.23 0.24 0.27 0.29
Year ended August 31, 2001
Revenues $ 8,904,528 $ 9,787,411 $ 12,788,986 $ 12,322,694
Operating income 4,273,421 4,217,799 5,138,791 4,355,661
Net income 2,372,119 2,416,219 2,782,617 3,489,853
Basic net income per share 0.17 0.17 0.20 0.22
Diluted net income per share 0.17 0.17 0.19 0.22
F-27
Supplemental Schedule
Dynacq International, Inc.
Schedule II - Valuation and Qualifying Accounts
For the Years Ended August 31, 2002, 2001, and 2000
Balance at Charged to Charged to Balance at
Beginning of Costs and Other End of
Period Expenses Accounts Deductions Period
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Allowance for contractual adjustments
and uncollectible accounts
included under the balance sheet
caption "Accounts receivable":
Year ended August 31, 2002 50,370,000 350,018 7,289,982 - 58,010,000
Year ended August 31, 2001 28,488,000 58,259 21,823,741 - 50,370,000
Year ended August 31, 2000 8,381,000 60,585 20,046,415 - 28,488,000
Exhibit Index
Exhibit Number Exhibit Description
- -------------- -------------------
Exhibit 2.1 Stock Sale Agreement, dated July 21, 1992, pertaining to a
change in control of Dynacq International, Inc. which was
previously filed in and is incorporated herein by this
reference to, the Company's Registration Statement on Form 10,
File No. 0-20554.
Exhibit 2.2 Exchange Agreement by and among Dynacq International, Inc.,
Vista Healthcare, Inc. and certain Vista shareholders which
was previously filed in, and is incorporated by this reference
to, the Company's Current Report on Form 8-K, dated August 4,
1994.
Exhibit 3.1 Articles of Incorporation, filed June 16, 1989, which were
previously filed in, and are hereby incorporated by reference
to the Company's Registration Statement on Form 10, File No.
0-20554.
Exhibit 3.2 Amendment to Articles of Incorporation, filed February 12,
1992, which was previously filed in, and is hereby
incorporated by reference to, the Company's Registration
Statement on Form 10, File No. 0-20554.
Exhibit 3.3 Amendment to Articles of Incorporation, filed July 20, 1992,
which was previously filed in, and is hereby incorporated by
reference to, the Company's Registration Statement on Form 10,
File No. 0-20554.
Exhibit 3.4 Amendment to Articles of Incorporation filed February 10,
1998, filed with the Company's Annual Report on Form 10-KSB
for the fiscal year ended August 31, 1998.
Exhibit 3.5 Bylaws (amended August 1, 1995), which were previously filed
in and are hereby incorporated by reference to the Company's
Amended Form 10-K for fiscal 1995 dated May 1, 1996.
Exhibit 4.1 Form of Common Stock Certificate.
Exhibit 10.1 1995 Incentive Stock Option Plan for Employees and Employee
Directors, filed with the Company's Annual Report on Form 10-K
for the fiscal year ended August 31, 1996.
Exhibit 10.2 1995 Non-Qualified Stock Option Plan for Consultants and
Non-Employee Directors, filed with the Company's Annual Report
on Form 10-K for the fiscal year ended August 31, 1996.
Exhibit 10.3 Full Service Facility and Management Agreement between DPMI
and JCW Medical Associates, P.A. dated May 1, 1996, filed with
the Company's Annual Report on Form 10-K for the fiscal year
ended August 31, 1996.
Exhibit 10.4 Lease Agreement effective July 1, 1996 by and between DPMI as
Tenant and the City of Pasadena as Landlord relating to 3,000
square feet of office space in Pasadena, Texas, filed with the
Company's Annual Report on Form 10-K for the fiscal year ended
August 31, 1997.
Exhibit 10.5 Amendment No. 1 effective September 1, 1996 to Full Service
Facility and Management
Agreement between DPMI and JCW Medical Associates, P.A. dated
May 1, 1996, filed with the Company's Annual Report on Form
10-K for the fiscal year ended August 31, 1997.
Exhibit 10.6 Office/Surgical Care Center Lease Agreement dated September 1,
1998, between the Company as Landlord and Vista as Tenant,
filed with the Company's Annual Report on Form 10-K for the
fiscal year ended August 31, 1998.
Exhibit 10.7 Management Support and Marketing Agreement dated October 1,
1998, by and between DPMI and Ultramed, L.C., filed with the
Company's Annual Report on Form 10-K for the fiscal year ended
August 31, 1998.
Exhibit 10.8 Full Service Management Agreement dated October 1, 1998, by
and between DPMI and Vista Healthcare, Inc., filed with the
Company's Annual Report on Form 10-K for the fiscal year ended
August 31, 1998.
Exhibit 10.9 Real Estate Lien Note dated September 1, 1998, in the
principal amount of $1,400,000.00 from the Company to Vista
Healthcare, Inc., filed with the Company's Annual Report on
Form 10-K for the fiscal year ended August 31, 1998.
Exhibit 10.10 Warranty Deed with Vendor's Lien from Vista Healthcare, Inc.
to the Company dated September 1, 1998, relating to 4.5799
acres of land in Pasadena, Texas, filed with the Company's
Annual Report on Form 10-K for the fiscal year ended August
31, 1998.
Exhibit 10.11 Deed of Trust dated September 1, 1998 from the Company
regarding 4.5799 acres of land in Pasadena, Texas, filed with
the Company's Annual Report on Form 10-K for the fiscal year
ended August 31, 1998.
Exhibit 10.12 Hospital Lease Agreement from Dynacq to Vista Community
Medical Center, L.L.C. for 23,000 square with annual retails
of $57,500 per month for through January 31, 2004, filed with
the Company's Annual Report on Form 10-K for the fiscal year
ended August 31, 1999.
Exhibit 10.13 Dynacq International, Inc.'s Real Estate Lien Note dated
September 1, 1998 in the principal amount of $270,000 payable
to Vista Healthcare, Inc., filed with the Company's Annual
Report on Form 10-K for the fiscal year ended August 31, 1999.
Exhibit 10.14 Deed of Trust dated September 1, 1998, from the Company with
respect to its real estate properties in Pasadena, Texas,
filed with the Company's Annual Report on Form 10-K for the
fiscal year ended August 31, 1999.
Exhibit 10.15 Regulations of Vista Community Medical Center, L.L.C., filed
with the Company's Annual Report on Form 10-K for the fiscal
year ended August 31, 1999.
Exhibit 10.16 Dynacq International, Inc.'s Year 2000 Stock Incentive Plan
adopted on August 29, 2000, and incorporated by reference as
Appendix B from the Company's Definitive Proxy Statement on
Schedule 14A filed August 9, 2000.
Exhibit 10.17 Employment Agreement entered into between Sarah Garvin and
Dynacq International, Inc., filed with the Company's Annual
Report on Form 10-KSB for the fiscal year ended August 31,
2001.
Exhibit 10.18 Employment Agreement entered into between Irvin T. Gregory and
Dynacq International, Inc., filed with the Company's Annual
Report on Form 10-KSB for the fiscal year ended August 31,
2001. Exhibit 10.26 Purchase Agreement entered into by and
among Dynacq International, Inc. and Charis Hospital, LLC,
filed with the Company's Annual Report on Form 10-KSB for the
fiscal year ended August 31, 2001.
Exhibit 10.19 Purchase Agreement entered into by and among Dynacq
International, Inc. and Charis Hospital, LLC, filed with the
Company's Annual Report on Form 10-KSB for the fiscal year
ended August 31, 2000.
Exhibit 21.1 Listing of subsidiaries of Dynacq International, Inc., filed
with the Company's Annual Report on Form 10-KSB for the fiscal
year ended August 31, 2000.
Exhibit 23.1 Consent of Ernst & Young LLP
Exhibit 23.2 Consent of KenWood & Associates, P.C.
Exhibit 99.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
Exhibit 99.2 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.