UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _______________ to _______________
Commission file number 0-23430
South Dakota State Medical Holding Company, Incorporated
(Exact name of registrant as specified in its charter)
South Dakota 46-0401087
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1323 South Minnesota Avenue, Sioux Falls, South Dakota 57105
(Address of principal executive office, including Zip Code)
(605) 334-4000
(Registrant's telephone number, including area code)
______________________________
(Former name, former address, and former fiscal year, if changed
since last report)
Indicate by check mark whether the registrant (1) has filed
all reports required to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 12 months (or
for such shorter period that the registrant was required to file
such reports) and (2) has been subject to such filing requirements
for the past 90 days.
YES X NO
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act) YES NO X
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Class Outstanding at November 4, 2004
Class C Common Stock 1,365,604
SOUTH DAKOTA STATE MEDICAL HOLDING COMPANY, INCORPORATED
FORM 10-Q
INDEX
Page Number
Part 1. Financial Information (unaudited)
Item 1. Financial Statements
Consolidated Balance Sheets at
September 30, 2004 and December 31, 2003 2
Consolidated Statements of Operations for the Three
and Nine Months Ended September 30, 2004 and 2003 3
Consolidated Statement of Stockholders' Equity
for the Nine Months Ended September 30, 2004 4
Consolidated Statements of Cash Flows
for the Nine Months Ended September 30, 2004 and 2003 5
Condensed Notes to Consolidated Financial Statements 6-8
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operations 8-13
Item 3. Quantitative and Qualitative Disclosures
about Market Risk 13
Item 4. Controls and Procedures 13
Part II. Other Information 14
Item 1. Legal Proceedings 14
Item 2. Unregistered Sales of Equity Securities and
Use of Proceeds 14
Item 3. Defaults Upon Senior Securities 14
Item 4. Submission of Matters to a Vote
of Security Holders 14
Item 5. Other Information 14
Item 6. Exhibits and Reports on Form 8-K 14
Signatures 15
1
PART 1: FINANCIAL INFORMATION
Item 1. Financial Statements
SOUTH DAKOTA STATE MEDICAL HOLDING COMPANY, INCORPORATED d/b/a DAKOTACARE
CONSOLIDATED BALANCE SHEETS
September 30, December 31,
ASSETS 2004 2003
(Unaudited) (Audited)
- --------------------------------------------------------------------------------------
Cash and cash equivalents $ 21,065,735 $ 14,518,442
Investment in securities held to maturity 404,787 409,138
Certificates of deposit 1,300,000 1,400,000
Receivables 1,507,727 2,490,688
Prepaids and other assets 68,500 75,500
Deferred income taxes 1,447,400 344,200
------------- -------------
Total current assets 25,794,149 19,237,968
------------- -------------
Investment in securities held to maturity 4,448,240 3,981,591
Investment in securities available for sale 153,400 148,600
Certificates of deposit 600,000 100,000
Contracts with life insurance companies and other 105,235 96,668
------------- -------------
Total long-term investments 5,306,875 4,326,859
------------- -------------
Property and equipment, net of accum. depreciation 491,151 581,353
------------- -------------
Deferred income taxes 985,800 1,492,500
------------- -------------
$ 32,577,975 $ 25,638,680
============= =============
LIABILITIES
Reported and unreported claims payable $ 9,649,705 $ 12,854,487
Unearned premiums and administration fees 3,373,487 2,275,579
Accounts payable and accrued expenses 2,314,663 1,477,274
Contingency reserves payable 2,928,162 --
------------- -------------
Total current liabilities 18,266,017 16,607,340
Contingency reserves payable 4,809,332 6,080,812
------------- -------------
Total liabilities 23,075,349 22,688,152
------------- -------------
STOCKHOLDERS' EQUITY
Class A preferred, voting, no par value, $10 stated value,
2,500 shares authorized; 1,438 and 1,424 shares issued
and outstanding at September 30, 2004 and December 31, 2003;
liquidation preference of outstanding shares of $14,850 and
$14,240 at Sept. 30, 2004 and December 31, 2003, respectively 14,850 14,240
Class B preferred, voting, no par value, $1 stated value,
2,500 shares authorized; 1,800 shares issued
and outstanding; liquidation preference of outstanding
shares of $1,800 1,800 1,800
Class C common, nonvoting, $.01 par value, 10,000,000
shares authorized; issued 1,505,760 shares 15,058 15,058
Additional paid-in capital 3,749,342 3,749,342
Retained Earnings 7,047,586 496,484
Accumulated other comprehensive income 3,169 2,783
Less cost of Class C common treasury stock, 140,156 shares (1,329,179) (1,329,179)
------------- -------------
9,502,626 2,950,528
------------- -------------
$ 32,577,975 $ 25,638,680
============= =============
See Condensed Notes to Consolidated Financial Statements.
2
SOUTH DAKOTA STATE MEDICAL HOLDING COMPANY, INCORPORATED d/b/a DAKOTACARE
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
2004 2003 2004 2003
- ---------------------------------------------------------------------------------------
Revenues:
Premiums, net of reins. ceded $ 19,838,331 $ 22,287,362 $ 60,721,484 $ 64,691,455
Third party administration fees 1,374,651 1,385,321 4,080,478 4,234,368
Investment income 110,754 91,639 291,141 284,509
Other income 355,832 360,475 1,015,131 1,059,672
------------- ------------- ------------- -------------
Total revenues 21,679,568 24,124,797 66,108,234 70,270,004
------------- ------------- ------------- -------------
Operating expenses:
Claims incurred,
net of reins. recoveries 13,846,803 20,926,031 45,968,109 59,521,189
Personnel expense 1,688,770 1,523,211 4,857,288 4,707,504
Commissions 629,232 804,041 2,296,871 2,455,073
Professional fees expense 140,467 203,906 659,974 675,429
Office expense 174,691 192,265 665,352 676,069
Advertising 81,683 102,095 388,288 378,707
Occupancy expense 162,329 167,749 579,622 622,790
State insurance taxes 292,145 291,551 783,402 814,428
Other general and
administrative expenses 227,735 119,765 943,152 704,432
------------- ------------- ------------- -------------
Total operating expenses 17,243,855 24,330,614 57,142,058 70,555,621
------------- ------------- ------------- -------------
Income (loss) before income taxes
and minority interest 4,435,713 (205,817) 8,966,176 (285,617)
Income taxes (benefit) 1,456,700 (100) 2,414,800 (95,012)
------------- ------------- ------------- -------------
Income before minority
interest 2,979,013 (205,717) 6,551,376 (190,605)
Minority interest in income (loss)
of subsidiary (3,857) (3,687) 274 (3,108)
------------- ------------- ------------- -------------
Net income (loss) $ 2,982,870 $ (202,030) $ 6,551,102 $ (187,497)
============= ============= ============= =============
Earnings (loss) per common share $ 2.18 $ (0.15) $ 4.80 $ (0.14)
============= ============= ============= =============
Comprehensive income (loss) $ 2,985,827 $ (204,423) $ 6,551,488 $ (189,588)
============= ============= ============= =============
Weighted average number of
common shares outstanding 1,365,604 1,365,604 1,365,604 1,365,604
============= ============= ============= =============
See Condensed Notes to Consolidated Financial Statements.
3
SOUTH DAKOTA STATE MEDICAL HOLDING COMPANY, INCORPORATED d/b/a DAKOTACARE
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
NINE MONTHS ENDED SEPTEMBER 30, 2004
(Unaudited)
Accumulated
Additional Other
Capital Paid-In Retained Comprehensive Treasury
Stock Capital Earnings Income Stock Total
- --------------------------------------------------------------------------------------------
Balance,
December 31, 2003 $31,098 $3,749,342 $ 496,484 $ 2,783 $(1,329,179) $2,950,528
Issuance of Class A
preferred stock 610 -- -- -- -- 610
Comprehensive income:
Net income -- -- 6,551,102 -- --
Net change in un-
realized gain on
securities avail-
able for sale -- -- -- 386 --
Comprehensive income -- -- -- -- -- 6,551,488
-------- ----------- ------------ --------- ------------ -----------
Balance, Sept. 30, 2004 $31,708 $3,749,342 $ 7,047,586 $ 3,169 $(1,329,179) $9,502,626
======== =========== ============ ========= ============ ===========
See Condensed Notes to Consolidated Financial Statements.
4
SOUTH DAKOTA STATE MEDICAL HOLDING COMPANY, INCORPORATED d/b/a DAKOTACARE
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Nine Months Ended
September 30,
2004 2003
- ----------------------------------------------------------------------------------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income (loss) $ 6,551,102 $ (187,497)
Adjustments to reconcile net income (loss) to net
cash provided by operating activities:
Depreciation 150,956 200,924
Minority interest in income (loss) of subsidiary 274 (3,108)
Amortization of discounts and premiums on investments, net (82,298) (98,300)
Loss on disposal of equipment 3,328 --
(Increase) decrease in receivables 982,961 (53,568)
(Increase) decrease in prepaids and other assets 7,000 (2,558)
(Increase) in deferred income taxes (596,500) (446,000)
Increase (decrease) in reported and unreported
claims payable (3,204,782) 274,928
Increase in unearned premiums and administration fees 1,097,908 444,165
Increase in accounts payable and
accrued expenses 837,389 213,332
Increase in contingency reserves payable 1,656,682 2,148,328
------------- -------------
Net cash provided by operating activities $ 7,404,020 $ 2,490,646
------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of securities available for sale $ (4,414) $ (3,992)
Held to maturity securities:
Matured 420,000 292,000
Purchased (800,000) (199,483)
Proceeds from maturities of certificates of deposit 200,000 1,100,000
Purchase of certificates of deposit (600,000) (1,100,000)
(Increase) in contracts with life
insurance companies (9,000) (10,000)
Proceeds from sale of property and equipment 5,812 --
Purchase of property and equipment (69,894) (88,238)
------------- -------------
Net cash (used in) investing activities $ (857,496) $ (9,713)
------------- -------------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of capital stock $ 610 $ 1,330
Increase in minority investment of subsidiary 159 1,044
------------- -------------
Net cash provided by financing activities $ 769 $ 2,374
------------- -------------
Increase in cash and cash equivalents $ 6,547,293 $ 2,483,307
CASH AND CASH EQUIVALENTS
Beginning 14,518,442 10,543,214
------------- -------------
Ending $ 21,065,735 $ 13,026,521
============= =============
Supplemental Disclosures of Cash Flow Information
Cash payments for:
Income taxes, net of (refunds) $ 2,745,000 $ 70,000
Supplemental Disclosures of Noncash Investing
And Financing Activities
Increase (decrease) in unrealized gain on
securities available for sale $ 386 $ (2,091)
See Condensed Notes to Consolidated Financial Statements.
5
SOUTH DAKOTA STATE MEDICAL HOLDING COMPANY, INCORPORATED D/B/A DAKOTACARE
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. BASIS OF PRESENTATION
The consolidated financial statements of South Dakota State Medical Holding
Company, Incorporated, d/b/a DAKOTACARE (the "Company"), its
wholly-owned subsidiaries, DAKOTACARE Administrative Services, Incorporated
("DAS"), and DAKOTACARE Insurance Ltd. ("DIL"), and its majority owned
subsidiary, CareWest, Inc. ("CW"), contained in this report are unaudited but
reflect all adjustments, consisting only of normal recurring adjustments,
which, in the opinion of management, are necessary for a fair presentation of
the financial information for the periods presented. The results of operations
for the nine months ended September 30, 2004, are not necessarily
indicative of the results to be expected for the full year or any other interim
period. This report should be read in conjunction with the audited consolidated
financial statements included in the Company's Annual Report on Form 10K for the
year ended December 31, 2003.
2. EARNINGS (LOSS) PER COMMON SHARE
Earnings (loss) per common share is calculated by dividing net income by the
Weighted average number of shares of the Class C Common Stock ("Common Stock")
outstanding during the period. All references to earnings (loss) per share in
the consolidated financial statements are to basic earnings (loss) per share,
as the Company has no potentially issuable Common Stock.
3. TREASURY STOCK
As a service to the Company's shareholders to facilitate liquidity for the
Common Stock in the event of death, disability, or retirement of a shareholder,
the Company's Board of Directors has a Stock Repurchase Program, which was
publicly announced on March 4, 1998 (the "Program"). Participation in the
Program is voluntary. No shareholder is required to sell his or her shares
of Common Stock under the Program nor is the Company required to purchase any
Common Stock under the Program. The purchase and sale of Common Stock under
the Program is subject to repurchase conditions as described in the Program.
The Board of Directors of the Company may, at any time, modify or terminate
the Program. The Company may also, at its discretion, offer to repurchase
shares of Common Stock outside the Program in compliance with applicable laws.
There were no shares repurchased through September 30, 2004 or in the fiscal
year ended December 31, 2003.
4. SEGMENT INFORMATION
The Company has three reportable segments: Health Maintenance Organization
("HMO"), Third Party Administration ("TPA") and Reinsurance. The HMO segment
consists of the operations of the Company. The Company is a South Dakota
licensed HMO engaged in the development of comprehensive health care delivery
systems. The TPA segment consists of the operations of DAS and CW. These
subsidiaries are TPA's of health care plans for independent employer companies.
The reinsurance segment consists of the operations of DIL. DIL's primary
activity is in providing reinsurance quota share excess medical stop loss
coverage to DAS's self funded customers.
The Company evaluates performance and allocates resources based on net income
determined under accounting principles generally accepted in the United States
of America. The accounting policies of the reportable segments are the same
as those described in Note 1 to the Company's Annual Report on Form 10-K for
the fiscal year ended December 31, 2003. The Company allocates payroll costs
incurred based on the activities of admitting new enrollees and in adjudicating
claims.
6
The HMO segment income includes the equity in net income (loss) of the TPA and
reinsurance segments. Intersegment revenues primarily relate to equipment
rental charges which are based on the depreciation of the underlying assets.
Segment assets include the investment in subsidiaries.
The Company's reportable segments are derived from the operations of the
Company and subsidiaries that offer different products. The reportable
segments are managed separately because they provide distinct services.
- ---------------------------------------------------------------------------------------
For the Three Months Ended September 30, 2004
HMO TPA Reinsurance Totals
----------------------------------------------------------
Revenues from external sources $ 20,125,999 $ 1,507,095 $ 322,740 $ 21,955,834
Intersegment revenues -- 55,934 -- 55,934
Segment income 2,982,870 154,490 117,918 3,255,278
Segment assets 31,806,940 2,297,357 625,449 34,729,746
The total segment income is more than the consolidated net income by
$272,408 because the equity in net income of subsidiaries has not been
eliminated from the individual segment amounts.
For the Three Months Ended September 30, 2003
- ---------------------------------------------------------------------------------------
HMO TPA Reinsurance Totals
----------------------------------------------------------
Revenues from external sources $ 21,989,359 $ 1,487,276 $ 347,573 $23,824,208
Intersegment revenues -- 63,689 -- 63,689
Segment income (loss) (202,030) 137,954 (438,543) (502,619)
Segment assets 22,791,148 2,206,717 401,468 25,399,333
The total segment loss is greater than the consolidated net loss by
$300,589 because the equity in net loss of subsidiaries has not been
eliminated from the individual segment amounts.
For the Nine Months Ended September 30, 2004
- ---------------------------------------------------------------------------------------
HMO TPA Reinsurance Totals
----------------------------------------------------------
Revenues from external sources $ 60,747,275 $ 4,413,240 $1,006,241 $66,166,756
Intersegment revenues -- 169,485 -- 169,485
Segment income(loss) 6,551,102 132,364 (73,568) 6,609,898
Segment assets 31,806,940 2,297,357 625,449 34,729,746
The total segment income is more than the consolidated net income by
$58,796 because the equity in net income of subsidiaries has not been
eliminated from the individual segment amounts.
For the Nine Months Ended September 30, 2003
- ---------------------------------------------------------------------------------------
HMO TPA Reinsurance Totals
----------------------------------------------------------
Revenues from external sources $ 64,373,023 $ 4,539,684 $1,092,675 $70,005,382
Intersegment revenues -- 185,994 -- 185,994
Segment income(loss) (187,499) 199,078 (463,700) (452,121)
Segment assets 22,791,148 2,206,717 401,468 25,399,333
The total segment loss is greater than the consolidated net loss by
$264,622 because the equity in net loss of subsidiaries has not been
eliminated from the individual segment amounts.
5. COMPREHENSIVE INCOME (LOSS)
Comprehensive income (loss) was $2,985,827 and ($204,423) for the three months
ended September 30, 2004 and 2003, respectively, and was $6,551,488 and
($189,588) for the nine months ended September 30, 2004 and 2003, respectively.
The difference between comprehensive income (loss) and net income (loss)
presented in the Consolidated Statements of Operations is attributed solely to
the change in unrealized gains and losses on securities available for sale
during the periods presented.
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
The Company markets its products under the tradename of DAKOTACARE. Its
products include group managed health care products, such as HMO products, and
cafeteria plan administration and workers compensation managed care services.
Its DAS and CW subsidiaries' products are managed care and claims
administration services for self-insured employer groups. Its subsidiary,
DIL, accepts reinsurance risk on some of DAS's self-funded and insured
customers' life and stop-loss insurance policies. The Company and its DAS and
CW subsidiaries market their products through a network of independent
insurance agents throughout South Dakota.
7
The Company contracts with over 98% of the physicians in the state of South
Dakota, 100% of the hospitals in the state of South Dakota, and many other
health care providers to provide medical services to its enrollees. At
September 30, 2004, the Company's HMO medical care enrollment was approximately
29,400, while its DAS and CW subsidiaries had combined medical care
enrollment of approximately 70,600. The Company also offers ancillary
products and the resulting exclusive enrollment under the HMO was
approximately 2,100, while its DAS and CW subsidiaries had combined ancillary
product exclusive enrollment of approximately 5,600. The resulting total
population served by the Company through any of its products resulted in
a total of approximately 107,700 members at September 30, 2004.
This discussion and analysis contains certain forward-looking terminology such
as "believes," "anticipates," "will," "intends," or comparable terminology.
Such statements are subject to certain risks and uncertainties that could
cause actual results to differ materially from those projected. Potential
purchasers of the Company's securities are cautioned not to place undue
reliance on such forward-looking statements which are qualified in their
entirety by the cautions and risks described herein and in other reports filed
by the Company with the Securities and Exchange Commission.
COMPARISON OF THE THREE MONTHS ENDED SEPTEMBER 30, 2004 AND SEPTEMBER 30, 2003
General
The Company's net income was $2,982,870 for the three months ended
September 30, 2004 as compared to a loss of ($202,030) for the three months
ended September 30, 2003, which represents an increase of $3,184,900. The
resulting increase in net income was primarily due to the decrease in total
operating expenses to a greater amount than the decrease in revenues. Total
revenues decreased $2,445,229 for the three months ended September 30, 2004,
while total operating expenses decreased $7,086,759 for the same period. This
was partially offset by the increase in the provision for income taxes of
$1,456,800 for the three months ended September 30, 2004 as compared to
September 30, 2003.
8
Revenues
Total revenues decreased $2,445,229, or 10.1%, for the three months ended
September 30, 2004, as compared to September 30, 2003. The revenues from the
net premiums generated by the HMO segment decreased $2,424,714, or 11.1%. This
decrease is attributable to a decrease in the enrollment of 22.0%, but was
partially offset by a 14.0% increase in the premiums earned per enrollee, for
the three months ended September 30, 2004, as compared to September 30, 2003.
Management anticipates that enrollment will not substantially decrease in the
future and that the increases in premiums earned per enrollee will decrease.
Revenues from the TPA fees decreased by $10,670, or 0.8%, due to a decrease in
enrollment, but was partially offset by the increase of fees generated per
employee and additional services provided for the groups.
Operating Expenses
Total operating expenses decreased $7,086,759, or 29.1%, for the three months
ended September 30, 2004, as compared to September 30, 2003. This was due to
a decrease in claims incurred, commissions, professional fees, and office
expense, but was partially offset by an increase in personnel expense and other
general and administrative expense.
Net claims expense generated by the HMO segment decreased $6,556,215, or 32.4%.
Average claims expense per enrollee decreased 13.4% for the three months ended
September 30, 2004, as compared to September 30, 2003, while the number of
enrollees decreased 22.0%. Commissions decreased $174,809, or 21.7%, due to
the decrease in revenues generated from the HMO and the loss of enrollees in
the TPA for the three months ended September 30, 2004, as compared to
September 30, 2003. State insurance taxes, which only apply to the HMO
segment, also recorded a decrease since it is payable for a percentage of HMO
premium revenue, but appeared comparable to the prior year due to the increase
in amounts paid to the State of South Dakota in the creation of a risk pool.
This is the first full year of payments funded into the pool since the State
set up the pool to cover un-insured individuals. The pool is required to be
funded by all carriers within the State. Professional fees decreased $63,439,
or 31.1% due to the decrease in consultants used for the three months ended
September 30, 2004, as compared to September 30, 2003. Additional consulting
services were previously requested from August 2003 through March 2004 and the
decreased amount for the current quarter is more representative of the budgeted
amounts expected for the quarter. The additional services included consulting
for the compliance of Health Insurance Portability and Accountability Act of
1996(HIPAA) and business planning consultants. Further, accounting and
legislative consultant fees are typically higher in the first two quarters of
each year. Office expense decreased $17,574, or 9.1% primarily due to postage
costs decreasing due to the lesser amount of members for all companies for the
three months ended September 30, 2004, as compared to September 30, 2003.
Personnel expense increased $165,559, or 10.9% for the three months ended
September 30, 2004, as compared to September 30, 2003. At September 30, 2004
the average salary is approximately 6% higher than the previous year due to the
annual raises given each June 1. Also, an accrual for $75,000 for the estimated
employee bonuses was accrued, since the Company anticipates it will reach its
profit goals. General and administrative expenses increased $107,970 when
compared to the prior year's quarter due to increased insurance expenses. The
Company has experienced significantly higher insurance costs for liability,
Errors & Omissions(E&O) and Directors and Officers(D&O) coverages. The Company
Believes that this increased insurance costs are the result of numerous carriers
discontinuing services and increased public scrutiny over financial statements
of public entities. These coverages were recently renewed without a rate
increase for the next 12 months. Although these do not constitute all of the
Company's insurance plans, they do constitute a majority of plans and insurance
costs. These are not all of our plans, but they are a majority. The Company
anticipates little change for the next 12 months for insurance costs.
9
Income Taxes
Income tax expense or benefit should represent 35.0% of income or loss, but
fluctuates each period due to adjustments for a valuation allowance for
deferred tax assets and permanent tax differences. For the three months ended
September 30, 2004, the income tax provision represented 32.8% of the income
before taxes and minority interest. The changes in the components of the
deferred tax assets accounted for adjustments to the valuation allowance
and for the provision to vary as a percentage. Deferred tax assets are
reduced by a valuation allowance when, in the opinion of management, it is
more likely than not that some portion or all of the deferred tax assets will
not be realized. The valuation allowance is also effected by the losses
incurred by a subsidiary which has no prior cumulative taxable income from
which to recover the taxes. Even though the subsidiary files within the
consolidated tax return, cumulative losses are nondeductible due to an
agreement signed with the government of the foreign subsidiary, which prohibits
the deductions until income is produced by the subsidiary. A significant
portion of the Company's valuation allowance has been reversed and the Company
anticipates that future income tax expense will be closer to a 35% effective
tax rate.
COMPARISON OF THE NINE MONTHS ENDED SEPTEMBER 30, 2004 AND SEPTEMBER 30, 2003
General
The Company's net income was $6,551,102 for the nine months ended
September 30, 2004 as compared to a loss of ($187,497) for the nine months
ended September 30, 2003, which represents an increase of $6,738,599. The
resulting increase in net income was primarily due to the decrease in total
operating expenses to a greater amount than the decrease in revenues. Total
revenues decreased $4,161,770 for the nine months ended September 30, 2004,
while total operating expenses decreased $13,413,563 for the same period.
This was partially offset by the increase in the provision for income taxes
of $2,509,812 for the nine months ended September 30, 2004 as compared to
September 30, 2003.
Revenues
Total revenues decreased $4,161,770, or 5.9%, for the nine months ended
September 30, 2004, as compared to September 30, 2003. The revenues from the
net premiums generated by the HMO segment decreased $3,883,334, or 6.1%. This
decrease is attributable to a decrease in the enrollment of 18.8%, but was
partially offset by a 15.6% increase in the premiums earned per enrollee, for
the nine months ended September 30, 2004, as compared to September 30, 2003.
Management anticipates that enrollment will not substantially decrease in the
future and that the increases in premiums earned per enrollee will decrease.
Revenues from the TPA fees decreased by $153,890, or 3.6%, due to a decrease in
enrollment, but was partially offset by the increase of fees generated per
employee and additional services provided for the groups.
Operating Expenses
Total operating expenses decreased $13,413,563, or 19.0%, for the nine months
ended September 30, 2004, as compared to September 30, 2003. This was due to
a decrease in claims incurred, commissions, state insurance taxes, and
occupancy expense, but was partially offset by an increase in personnel expense
and other general and administrative expense.
10
Net claims expense generated by the HMO segment decreased $13,553,080, or 22.8%.
Average claims expense per enrollee decreased 4.5% for the nine months ended
September 30, 2004, as compared to September 30, 2003, while the number of
enrollees decreased 18.8%. Commissions decreased $158,202, or 6.4%, due to
the decrease in revenues generated from the HMO and the loss of enrollees in
the TPA for the nine months ended September 30, 2004, as compared to
September 30, 2003. State insurance taxes, which only apply to the HMO
segment, also recorded a decrease since it is payable for a percentage of HMO
premium revenue, but appeared comparable to the prior year due to the increase
in amounts paid to the State of South Dakota in the creation of a risk pool.
This is the first full year of payments funded into the pool since the State
set up the pool to cover un-insured individuals. The pool is required to be
funded by all carriers within the State. Occupancy expense decreased by
$43,168, or 6.9%, due to a decrease in depreciation expense for the Company.
Personnel expense increased $149,784, or 3.2% for the nine months ended
September 30, 2004, as compared to September 30, 2003. At September 30, 2004
the average salary is approximately 6% higher than the previous year due to the
annual raises given each June 1. Also, an accrual for $75,000 for the estimated
employee bonuses was accrued, since the Company anticipates it will reach its
profit goals. These increases in wages were partially offset by the decrease
in number of employees' months paid through September 30, 2004 as compared to
those paid through September 30, 2003. This is due to efficiencies achieved
and the reduction of overall enrollees of the Company. Other general and
administrative expenses increased $238,720, or 33.9%, when compared to the
prior year due to increased insurance expenses. The Company has experienced
significantly higher insurance costs for liability, Errors & Omissions(E&O)
and Directors and Officers(D&O) coverages. The Company believes that this
increased insurance costs are the result of numerous carriers discontinuing
services and increased public scrutiny over financial statements of public
entities. These coverages were recently renewed without a rate increase for
the next 12 months. Although these do not constitute all of the Company's
insurance plans, they do constitute a majority of plans and insurance costs.
These are not all of our plans, but they are a majority. The Company
anticipates little change for the next 12 months for insurance costs.
Income Taxes
Income tax expense or benefit should represent 35.0% of income or loss, but
fluctuates each period due to adjustments for a valuation allowance for
deferred tax assets and permanent tax differences. For the nine months
ended September 30, 2004, the income tax provision represented 26.9% of the
income before taxes and minority interest. The generation of taxable income
which can be used to realize recorded deferred tax assets for which a valuation
allowance was previously recorded, and changes in the components of the
deferred tax assets accounted for the reversal of a portion of the valuation
allowance and for the provision to be smaller than expected. Deferred tax
assets are reduced by a valuation allowance when, in the opinion of
management, it is more likely than not that some portion or all of the
deferred tax assets will not be realized. The valuation allowance is also
effected by the losses incurred by a subsidiary which has no prior cumulative
taxable income from which to recover the taxes. Even though the subsidiary
files within the consolidated tax return, cumulative losses are nondeductible
due to an agreement signed with the government of the foreign subsidiary,
which prohibits the deductions until income is produced by the subsidiary.
A significant portion of the Company's valuation allowance has been reversed
and the Company anticipates that future income tax expense will be closer to
a 35% effective tax rate.
LIQUIDITY AND CAPITAL RESOURCES
The Company's principal sources of cash have been premium and fee revenue,
collection of premiums in advance of the claims costs associated with them, and
an agreement with participating physicians in which a percentage of fees for
services is withheld for cash flows of the Company. The Company in the past has
had borrowings from banks and affiliated companies, but currently does not need
to borrow for liquidity purposes.
11
Net cash provided by operating activities increased by $4,913,374 to $7,404,020
for the nine months ended September 30, 2004, as compared to September 30, 2003.
Cash provided by operations was mainly attributed to net income, the decrease in
receivables, the increase in unearned premiums and administration fees, the
increase in accounts payable and accrued expenses, and an increase in
contingency reserves payable. The cash provided by this increase was partially
offset by an increase in deferred income taxes and a decrease in reported and
unreported claims payable. Receivables decreased due to the collection of
various receivables since December 31, 2003. Most were related to bonus and
incentive receivables. Unearned premiums and administrative expenses and
accounts payable and accrued expenses increased since December 31, 2003. The
increases for these accounts are normal fluctuations which occur within the
accounts as cash flow is received or paid on these accounts. There was no
payment of contingency reserves to physicians for the nine months ended
September 30, 2004, and the claims withheld from physician payments paid in 2004
increased the contingency reserves payable since December 31, 2003. Deferred
income taxes increased primarily due to the increase in contingency reserves
payable, which are not deductible until paid to the physicians. Reported and
unreported claims payable decreased due to the decrease in enrollment and thus
a decrease in reserves needed on the HMO and Reinsurance segments.
Cash flows used in investing and financing activities increased from the prior
year. The net increase in the amount of certificates of deposit purchased was
$400,000 and the net increase in the amount of securities purchased was
approximately $380,000. Equipment was also purchased in the normal course of
business, but was minimal.
The Company is not contractually obligated to pay out the contingency reserves
Withheld. No dividends have been declared or paid for the nine months
ended September 30, 2004. Future dividend payments are dependent on operations
and liquidity of the Company. The Company believes that cash flows generated
by operations, withholding of contingency reserves payable, cash on hand, and
short-term investment balances will be sufficient to fund operations, pay out
the projected contingency reserves payable, and pay dividends on the Class C
common stock. Even though cash flows may provide for the payment of dividends
and contingency reserves, the Board of Directors determines the amounts to be
paid, subject to approval from the Division of Insurance of the State of South
Dakota. Risk based capital requirements, budgeted cash expenditures and a
number of other factors may influence the Board's decision for these payments.
INFLATION
A substantial portion of the Company's operating expenses consist of health
care costs, which, in the general economy, have been rising at a rate greater
than that of the overall Consumer Price Index. The Company believes that its
cost control measures and risk sharing arrangements reduce the effect of
inflation on such costs. Historically, market conditions and the regulatory
environment in which the Company operates have permitted the Company to offset
a portion or all of the impact of inflation on the cost of health care
benefits through premium increases. If the Company was not able to continue to
increase premiums, a material adverse impact on the Company's operations could
result. Inflation has not had a material effect on the remainder of the
Company's operating expenses.
TRENDS, EVENTS, OR UNCERTAINTIES
In recent years, there has been a trend by clients to switch to plans with
higher employee cost-sharing levels in order to maintain lower premiums. As a
provider of cost effective managed care plans for medium and small employers,
the Company believes it is delivering products and services that address
current health care reform issues. The Company will continue to evaluate its
business strategy as necessary to maximize its ability to adapt to the
changing health care marketplace.
12
CRITICAL ACCOUNTING POLICIES
Our significant accounting policies are summarized in Note 1 to the
Company's 2003 Annual Consolidate Financial Statements included in its Annual
Report on Form 10-K for the year ended December 31, 2003.
Estimates are used extensively in determining the claims liability at the
date of the balance sheet. The information used to determine the liability
is historical data, current enrollment levels and other trends as they may
apply. The liability is then adjusted to a number which represents
management's best estimate at that time. The actual liability may change
continuously for 18 months, but becomes more determinable as the length
of time increases from the balance sheet date. There were no material
changes made to the Company's critical accounting estimates or assumptions or
the judgments affecting the application of those estimates and assumptions.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
The Company does not have any material risk as defined by Item 305 of
Regulation S-K. The Company has market risk with its cash and investments, but,
due to the conservative nature of the invested assets, management feels that
the market risk is limited.
Item 4. Controls and Procedures
As of the end of the period covered by this report, the Company conducted an
evaluation, under the supervision and with the participation of the principal
executive officer and principal financial officer, of the Company's disclosure
controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the
Securities Exchange Act of 1934 (the "Exchange Act")). Based on this
evaluation, the principal executive officer and principal financial officer
concluded that the Company's disclosure controls and procedures 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 was no change in the Company's
internal control over financial reporting during the Company's most recently
completed fiscal quarter that has materially affected, or is reasonably likely
to materially affect, the Company's internal control over financial reporting.
13
PART II: OTHER INFORMATION
Item 1. Legal Proceedings
None
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Although the Company has in place a Stock Repurchase Program, which was
publicly announced on March 4, 1998, no shares of Common Stock were
repurchased during the Company's third quarter of its fiscal year ending
December 31, 2004.
Item 3. Defaults Upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
None
Item 5. Other Information
None
Item 6. Exhibits
31.1 Certification of Chief Executive Officer Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002
31.2 Certification of Senior Vice President and Chief Operating Officer Pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002
31.3 Certification of Vice President Finance and Chief Financial Officer
Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1 Certification of Chief Executive Officer Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
32.2 Certification of Senior Vice President and Chief Operating Officer Pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002
32.3 Certification of Vice President Finance and Chief Financial Officer
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
14
SIGNATURES
Pursuant to the requirements 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.
South Dakota State Medical Holding Company, Incorporated
(Registrant)
Date:_11/12/2004___ By: _/s/ L. Paul Jensen____
L. Paul Jensen
Chief Executive Officer
(Duly Authorized Officer)
Date:_11/12/2004___ By: _/s/ Kirk J. Zimmer____
Kirk J. Zimmer
Senior Vice President/Chief Operating Officer
(Principal Financial Officer)
15
Exhibit 31.1
CERTIFICATIONS
I, L. Paul Jensen, certify that:
1. I have reviewed this Quarterly Report on Form 10-Q of South Dakota State
Medical Holding Company, Incorporated.;
2. Based on my knowledge, this 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 report;
3. Based on my knowledge, the financial statements, and other financial
information included in this 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 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-15(e) and 15d-15(e) and internal control over financial
reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the
registrant and have:
a) Designed such disclosure controls and procedures, or caused such disclosure
controls and procedures to be designed under our supervision, 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 report is being prepared;
b) Designed such internal control over financial reporting, or caused such
internal control over financial reporting to be designed under our supervision,
to provide to reasonable assurance regarding the reliability of financial
reporting and the preparation of financial statements for external purposes in
accordance with generally accepted accounting principles;
c) Evaluated the effectiveness of the registrant's disclosure controls and
procedures and presented in this report our conclusions about the effectiveness
of the disclosure controls and procedures, as of the end of the period covered
by this report based on such evaluation; and
d) Disclosed in this report any change in the registrant's internal control
over financial reporting that occurred during the registrant's most recent
fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual
report) that has materially affected, or is reasonably likely to materially
affect, the registrant's internal control over financial reporting; and
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation of internal control over financial reporting, to
the registrant's auditors and the audit committee of the registrant's board of
directors:
a) All significant deficiencies and material weaknesses in the design or
operation of internal control over financial reporting which are reasonably
likely to adversely affect the registrant's ability to record, process,
summarize and report financial information; and
b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal control
over financial reporting.
/s/__L. Paul Jensen_____
L. Paul Jensen
Chief Executive Officer
Date: November 12, 2004
Exhibit 31.2
CERTIFICATIONS
I, Kirk J. Zimmer, certify that:
1. I have reviewed this Quarterly Report on Form 10-Q of South Dakota State
Medical Holding Company, Incorporated.;
2. Based on my knowledge, this 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 report;
3. Based on my knowledge, the financial statements, and other financial
information included in this 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 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-15(e) and 15d-15(e) and internal control over financial
reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the
registrant and have:
a) Designed such disclosure controls and procedures, or caused such disclosure
controls and procedures to be designed under our supervision, 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 report is being prepared;
b) Designed such internal control over financial reporting, or caused such
internal control over financial reporting to be designed under our supervision,
to provide to reasonable assurance regarding the reliability of financial
reporting and the preparation of financial statements for external purposes in
accordance with generally accepted accounting principles;
c) Evaluated the effectiveness of the registrant's disclosure controls and
procedures and presented in this report our conclusions about the effectiveness
of the disclosure controls and procedures, as of the end of the period covered
by this report based on such evaluation; and
d) Disclosed in this report any change in the registrant's internal control
over financial reporting that occurred during the registrant's most recent
fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual
report) that has materially affected, or is reasonably likely to materially
affect, the registrant's internal control over financial reporting; and
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation of internal control over financial reporting, to
the registrant's auditors and the audit committee of the registrant's board of
directors:
a) All significant deficiencies and material weaknesses in the design or
operation of internal control over financial reporting which are reasonably
likely to adversely affect the registrant's ability to record, process,
summarize and report financial information; and
b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal control
over financial reporting.
/s/__Kirk J. Zimmer____
Kirk J. Zimmer
Senior Vice President/Chief Operating Officer
Date: November 12, 2004
Exhibit 31.3
CERTIFICATIONS
I, Bruce E. Hanson, certify that:
1. I have reviewed this Quarterly Report on Form 10-Q of South Dakota State
Medical Holding Company, Incorporated.;
2. Based on my knowledge, this 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 report;
3. Based on my knowledge, the financial statements, and other financial
information included in this 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 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-15(e) and 15d-15(e) and internal control over financial
reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the
registrant and have:
a) Designed such disclosure controls and procedures, or caused such disclosure
controls and procedures to be designed under our supervision, 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 report is being prepared;
b) Designed such internal control over financial reporting, or caused such
internal control over financial reporting to be designed under our supervision,
to provide to reasonable assurance regarding the reliability of financial
reporting and the preparation of financial statements for external purposes in
accordance with generally accepted accounting principles;
c) Evaluated the effectiveness of the registrant's disclosure controls and
procedures and presented in this report our conclusions about the effectiveness
of the disclosure controls and procedures, as of the end of the period covered
by this report based on such evaluation; and
d) Disclosed in this report any change in the registrant's internal control
over financial reporting that occurred during the registrant's most recent
fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual
report) that has materially affected, or is reasonably likely to materially
affect, the registrant's internal control over financial reporting; and
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation of internal control over financial reporting, to
the registrant's auditors and the audit committee of the registrant's board of
directors:
a) All significant deficiencies and material weaknesses in the design or
operation of internal control over financial reporting which are reasonably
likely to adversely affect the registrant's ability to record, process,
summarize and report financial information; and
b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal control
over financial reporting.
/s/__Bruce E. Hanson_______
Bruce E. Hanson
Vice President Finance/Chief Financial Officer
Date: November 12, 2004
Exhibit 32.1
CERTIFICATION PURSUANT TO
18 U.S.C. Sec. 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report of South Dakota State Medical Holding
Company, Inc., dba DAKOTACARE (the "Company") on Form 10-Q for the
period ended September 30, 2004, as filed with the Securities and Exchange
Commission on the date hereof (the "Report"), I, L. Paul Jensen, Chief
Executive Officer of the Company, certify, pursuant to 18 U.S.C. Sec. 1350,
as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that to
the best of my knowledge:
(1)The Report fully complies with the requirements of Section 13(a) or 15(d)
of the Securities Exchange Act of 1934; and
(2)The information contained in the Report fairly presents, in all material
respects, the financial condition and results of operations of the Company.
_/s/ L. Paul Jensen_____
Chief Executive Officer
Date: November 12, 2004
A signed original of this written statement required by Section 906 has been
provided to the Company and will be retained by the Company and furnished to
the Securities and Exchange Commission or its staff upon request.
Exhibit 32.2
CERTIFICATION PURSUANT TO
18 U.S.C. Sec. 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report of South Dakota State Medical Holding
Company, Inc., dba DAKOTACARE (the "Company") on Form 10-Q for the
period ended September 30, 2004, as filed with the Securities and Exchange
Commission on the date hereof (the "Report"), I, Kirk Zimmer, Senior Vice
President and Chief Operating Officer of the Company, certify, pursuant to 18
U.S.C. Sec. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002, that to the best of my knowledge:
(1)The Report fully complies with the requirements of Section 13(a) or 15(d)
of the Securities Exchange Act of 1934; and
(2)The information contained in the Report fairly presents, in all material
respects, the financial condition and results of operations of the Company.
_/s/ Kirk J. Zimmer_____
Senior Vice President/Chief Operating Officer
Date: November 12, 2004
A signed original of this written statement required by Section 906 has been
provided to the Company and will be retained by the Company and furnished to
the Securities and Exchange Commission or its staff upon request.
Exhibit 32.3
CERTIFICATION PURSUANT TO
18 U.S.C. Sec. 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report of South Dakota State Medical Holding
Company, Inc., dba DAKOTACARE (the "Company") on Form 10-Q for the
period ended September 30, 2004, as filed with the Securities and Exchange
Commission on the date hereof (the "Report"), I, Bruce Hanson, Vice President
Finance and Chief Finance Officer of the Company, certify, pursuant to 18
U.S.C. Sec. 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002, that to the best of my knowledge:
(1)The Report fully complies with the requirements of Section 13(a) or 15(d)
of the Securities Exchange Act of 1934; and
(2)The information contained in the Report fairly presents, in all material
respects, the financial condition and results of operations of the Company.
_/s/ Bruce E. Hanson____
Vice President Finance/Chief Finance Officer
Date: November 12, 2004
A signed original of this written statement required by Section 906 has been
provided to the Company and will be retained by the Company and furnished to
the Securities and Exchange Commission or its staff upon request.