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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10 - K
[ X ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1999
OR
[ ] TRANSITION REPORT PURSUANT SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File No. 0-23998
FIRST CHOICE HEALTH NETWORK, INC.
(Exact name of Registrant as specified in its charter)
Washington 91-1272766
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
601 Union Street
Suite 1100
Seattle, Washington 98101-1838
(Address of principal
executive offices)
Issuer's Telephone Number, Including Area Code
(206) 292-8255
(Issuer's telephone number, including area code)
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Securities registered pursuant to Section 12 (b) of the Act: None
Securities to be registered under Section 12 (g) of the Act:
Class A Common Stock, par value $1.00 par value per share
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-B is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]
There is no trading market for the Registrants voting stock (Class A Common
Stock, $1.00 par value and Class B Common Stock, $1.00 par value) and,
accordingly, the market value of the voting stock held by non-affiliates of
the Registrant based on bid and asked prices cannot be determined.
The aggregate number of Registrant's shares outstanding on December 31, 1999
was 585 shares of Class A Common Stock, and 40,600 shares of Class B Common
Stock, $1.00 par value, respectively.
Transitional Small Business Disclosure Format ( check one ):
Yes ______ No __X__
Documents incorporated by reference:
None
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PART I
ITEM 1 BUSINESS 4
ITEM 2 PROPERTIES 10
ITEM 3 LEGAL PROCEEDINGS 10
ITEM 4 SUBMISSION OF MATTERS
TO A VOTE OF SECURITY HOLDERS 10
PART II
ITEM 5 MARKET FOR COMMON EQUITY AND
RELATED STOCKHOLDER MATTERS 10
ITEM 6 SELECTED FINANCIAL DATA 11
ITEM 7 MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS 11
ITEM 7A QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT
MARKET RISK 15
ITEM 8 FINANCIAL STATEMENTS AND
SUPPLEMENTARY DATA 15
ITEM 9 CHANGES IN AND DISAGREEMENTS WITH
ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE 35
PART III
ITEM 10 DIRECTORS AND EXECUTIVE OFFICERS OF
FIRST CHOICE HEALTH NETWORK, INC. 36
ITEM 11 EXECUTIVE COMPENSATION 42
ITEM 12 SECURITY OWNERSHIP OF CERTAIN
BENEFICIAL OWNERS AND MANAGEMENT 43
ITEM 13 CERTAIN RELATIONSHIPS AND RELATED
TRANSACTIONS 45
PART IV
ITEM 14 EXHIBITS, FINANCIAL STATEMENT SCHEDULES,
AND REPORTS ON FORM 8-K 46
SIGNATURES 49
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PART I
ITEM 1. DESCRIPTION OF BUSINESS AND PRODUCTS
GENERAL
First Choice Health Network, Inc., ("The Network_) is a provider-owned,
managed health care company which has established a network of physicians,
hospitals and other health care providers (a "Preferred Provider Organization"
or "PPO") located almost exclusively in the State of Washington for the
provision of health care services; a small portion of the PPO is located in
each of Alaska, Idaho and Montana. Subscribers (or members) in Oregon can
also access a network of health care providers (marketed as a separate PPO).
The Network contracts with the health care providers in its PPO for the
provision of health care services on a discounted fee basis and contracts with
self-insured employers, indemnity insurers, health maintenance organizations
and union trusts (collectively, "Health Plans") and third party administrators
("TPAs"), to provide their subscribers (or members) access to the PPO, for
which it receives a fee from the Health Plan or the TPA, as applicable,
typically on a per subscriber (or member) per month basis; an additional per
subscriber (or member) monthly fee is received in the event the Health Plan or
TPA elects to receive utilization management services. In addition, the
hospitals participating in the PPO pay First Choice an administrative fee
under their respective participating health care facility service contracts.
At December 31, 1999, First Choice had arrangements with third party
administrators and health plans representing approximately 1,022,000 members
and their dependents (collectively "Covered Persons"). Practically all of
the Company's revenues were derived from services performed in the state of
Washington during the year ended December 31, 1999.
The Network's success depends to a significant degree on its ability to
control health care costs for the Health Plans utilizing its PPO. In addition
to its discounted fee arrangements with the health care providers
participating in its PPO, The Network controls health care costs with respect
to a portion of the subscribers to its PPO through a primary care physician
"gatekeeper" system of health care delivery and utilization management
programs (third-party review of the utilization of health care services), the
latter of which is available to the Health Plan for an additional per
subscriber (or member) monthly fee.
An integral part of The Network's PPO is its comprehensive quality assurance
program, which is designed to maintain and improve proper medical care and
includes, among other things, verification of physicians' credentials and
hospital accreditation, medical care evaluations, outcome studies which
evaluate hospital admissions and referral patterns and the processing of
Covered Persons' grievances. In excess of 73% of the PPO physicians are board
certified or board eligible in one or more specialties.
First Choice Health Network, a corporation organized under the laws of the
state of Washington in 1984, is owned by 467 physicians, all of whom own Class
A Common Stock; seven hospitals who own Class B Common Stock, and four
hospital participants.
During 1995, The Network formed a wholly-owned subsidiary, First Choice Health
Plan, Inc.(_The Plan_), to operate as a health care service contractor
(_HCSC_) that permits the Company to assume risk for healthcare services in
its operations.
An HCSC is an organization that arranges for the provision and delivery of
health care services to a voluntarily enrolled population, either directly or
indirectly as a subcontractor through a Health Plan, for a fixed periodic
premium through a network of providers who generally receive either a
capitation fee (a fixed periodic fee per covered member) or a negotiated fee
for the health care services rendered. HCSCs, like health maintenance
organizations ("HMOs"), may utilize a "gatekeeper" system of health care
delivery whereby each member is serviced by a primary care physician
(generally, a family practitioner, pediatrician or internist) who provides
medical care related to the general health of the HMO member and refers
members to specialists and other health care providers, as appropriate. HCSCs
differ from PPOs in that they are permitted to assume the financial risk of
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the cost of health care services exceeding the premiums received from
members,subscribers or Health Plans. HCSCs are required to register with the
state of Washington Department of Insurance which requires, among other
items, filing copies of organizational documents, financial disclosure, forms
of agreements to be issued to members, a schedule of proposed rates of
reimbursement to providers, solicitation materials and a description of
grievance procedures and a quality assurance program.
Risked Based Capital (RBC) requirements were adopted by the state of
Washington and the NAIC effective for 1998 and 1999, which established that
certain required amounts of capital be maintained. As of December 31, 1998
and 1999, the Company's RBC exceeded the required amount in connection with
its statutory filing.
Effective July 1, 1997, The Plan merged with Health First Partners, Inc. and
Health Washington L.L.C. which added approximately 18,000 fully insured
members.
Effective December 1, 1998 First Choice Health Network, Inc. acquired
Providence Plan Partners Preferred-Washington preferred provider organization,
or PPO Business. The acquired business consists of approximately 1,000
physicians, which serves about 125,000 subscribers with an annual revenue
stream of approximately $4.0 million. Under the terms of the purchase First
Choice Health Network, Inc. purchased substantially all of the assets for
Providence Plan Partners PPO Business for a minimum price of $2.8 million to
be paid with interest of six percent over 18 months. There is a potential
contingent payment of up to $668,000 to be determined based on the revenues
received by First Choice Health Network from the PPO Business during the
twelve months after the closing date. This transaction was accounted for
using the purchase method. As of the date of this filing, the contingent
payment of $668,000 has been paid.
The Plan has filed an application with the Federal Health Care Financing
Administration (_HCFA_) for a license to offer a Medicare risk product called
SeniorsFirst. The medicare application was approved in the third quarter of
1998 with the first sales of the product occurred on January 1, 1999. As of
December 31, 1999, there were 15,934 members and collected premiums of
$5,990,985.
Redeemable Equity Participation
On December 20, 1999, First Choice Health Network, Inc. executed an agreement
with University of Washington Academic Medical Center (UWMC) to become a
participant in the administration, operations and any incentives bestowed upon
any shareholders in First Choice Health Network effective January 1, 2000.
First Choice offers and operates a preferred provider organization and a
managed care delivery system for cost-effective, quality health care benefits,
and for comprehensive health care claims processing and administration.
University of Washington Academic Medical Center has agreed to pay the
affiliation fee of $2,520,000, payable $1,260,000 upon execution of the
Agreement and the remaining $1,260,000 will be paid in three equal payments of
$420,000 due annually for three years plus interest at five percent (5%).
UWMC does not become a shareholder or member of the Network. UWMC shall
participate in any incentive or reward program established by the Network as
if UWMC owned 5,800 shares of class B common stock. Dividends, distributions,
and liquidation of the Network are also determined as if UWMC owned 5,800
shares of class B stock.
If the Network performs certain actions that substantially change the
organization, the Network discontinues the health care facility services
contract with UWMC, or if total managed care enrollment falls below 500,000
member months, then UWMC can withdraw from the agreement, but no refunds are
given. If the Network merges, is sold, or if the Network takes a material
action that proves detrimental to UWMC, then UWMC may redeem their interest
for the equivalent of the fair value of 5,800 class B common shares of FC
stock, less any amounts still owed by UWMC.
PRODUCTS
First Choice Health Network's PPO
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The Network's PPO is comprised of physicians, hospitals and other health care
providers in the states of Washington, Alaska, Idaho and Montana who are
required to sign preferred physician contracts, health care facility service
contracts and provider contracts, respectively, under which the health care
provider agrees to accept, as payment in full, the discounted fee schedule
negotiated by The Network for each covered service; such agreements are
terminable on 90 days' notice. Subscribers (or members) also have access to a
network of providers (marketed as a separate PPO) in the state of Oregon.
Physicians
In the primary care physician "gatekeeper" system of health care delivery, a
Covered Person receives care from a participating primary care physician who,
in turn, refers the Covered Person to specialists and hospitals, as required.
Primary care physicians, consisting of family practitioners, pediatricians,
general practitioners and internists, are important to the Company's health
care cost containment as they control utilization of hospitals, specialists
and other health care providers.
The Network seeks to include within its PPO high-quality, cost-effective
physicians who have admitting privileges at a participating PPO hospital. In
addition, physicians are recruited in geographic areas in which the Company's
PPO does not have a physician presence if a prospective Health Plan has a
large number of Covered Persons in such area. Upon receipt of an application
by a physician to participate in the PPO, The Network conducts its own
credentialing process (separate and distinct from those performed by
participating hospitals with respect to physicians with admitting privileges),
evaluating relevant information such as malpractice insurance, claims activity
and the physician's standing with licensing regulatory authorities.
Hospitals
The Network has contracts with hospitals in most counties in the State of
Washington and in each county in which it conducts business in other states.
The PPO offers Covered Persons a full range of hospital services, including
tertiary care.
The Network seeks to attract hospitals rendering high-quality, cost-effective
care. Prior to contracting with a hospital, the Company reviews the
hospital's accreditation, federal and state certifications, and internal and
external claims data and reports, including data available from regulatory
agencies.
Other Health Care Providers
The Network has contracts with many health care providers (other than
physicians and hospitals) which, among other services, provide mental health
care, diagnostic services, chiropractic services, physical therapy, out-
patient surgery, laboratory services and home health care.
The Network has also developed a pharmacy network in the state of Washington
which provides data with respect to utilization of prescribed drugs by
physicians participating in the PPO, which the Company intends to incorporate
into its utilization management program.
Utilization Management Services
In addition to providing Health Plans with access to its PPO, The Network
offers a utilization management program for an additional per subscriber (or
member) monthly fee to the Health Plan. The goal of the utilization
management program is to ensure that high quality health care is consistently
delivered to Covered Persons in an efficient and cost-effective manner. The
program includes individual case reviews of hospital admissions, outpatient
surgery, primary care physician referrals to specialists, management of
catastrophic, psychiatric and substance abuse cases, profiling practice
patterns of individual physicians and evaluation of hospital utilization
patterns.
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At December 31, 1999, The Network had contractual arrangements through which
Health Plans in both the public and private sectors representing approximately
1,022,000 Covered Persons, utilized the Company's PPO. The Network receives a
fee for providing access to its PPO, typically on a per subscriber (or member)
per month basis, from the Health Plan, either directly or indirectly through a
TPA. The per subscriber (or member) monthly fee is generally fixed for a
twelve-month period under contracts with each Health Plan or TPA, and is based
upon the extent of the network utilized (hospitals and/or physicians), whether
utilization management services are requested and the number of Covered
Persons.
First Choice Health Plan Products
The Plan offers health care coverage to individual groups, Association Plans
as well as a Medicare Risk and Medicare Supplement product:
Association Plan
These plans include a plan offered through Costco Wholesale, a plan offered
through the Employers Health Purchasing Cooperative, a plan offered through
the Bellevue Chamber of Commerce, and a plan offered through the Association
of Washington Businesses which are tailor made to a targeted population of
employees.
Medicare Risk
The Plan offers a medicare risk product called SeniorsFirst for persons
eligible to receive Medicare (parts A and B) at no or minimal cost to the
member. SeniorsFirst is a medicare managed care plan combines health
insurance and health services in one organization, a Medicare + Choice HMO.
SeniorsFirst offer the same benefits that original medicare offers and
additional benefits, which may change from year to year. Under this program,
the Health Care Financing Administration of the United States Department of
Health and Human Services (HCFA) pays a fixed premium for coverage of each
member based on a formula of the projected medical expense of each Medicare
member.
Medicare Supplement
Under the HCSC license, The Plan contracted with Olympic Health Management
Systems, Inc., to develop and implement a Medicare Supplement product. The
rate schedules for the first phase of this proposed offering were filed and
approved by the state Office of Insurance Commissioner in the spring of 1996.
Upon acceptance of the proposed rates, the Company and Olympic Health
Management representatives marketed this product to the general public. Rate
schedules for a second phase, a non-agent plan, of this Medicare supplement as
of this time have not been submitted to the OIC.
The Plan offers three basic types of health care plans to prospective employer
groups: Managed Plans, Triple Option Plans and Point of Service Plans.
Managed Plans
All health care, except emergency services, under this plan is provided or
arranged by a primary care physician (PCP) which is chosen by the member
during enrollment. The PCP will refer the member to specialists, as well as
arrange hospital and other services with a Community Network of providers.
Point of Service Plan
This plan offers the same coverage as the Managed Plan but provides another
level of benefit coverage. The member is required to choose a PCP during
enrollment. The member may choose to have his/her services coordinated
through the PCP in order to have the highest level of benefit coverage
available. The member also has the choice to self-refer to an Extended PPO
Network Provider which is paid at a lower level.
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Triple Option Health Plan
This plan offers three different levels of benefit coverage: the Community
Network benefit level, the Extended PPO Network benefit level and an out-of-
network benefit level. The member is required to choose a PCP during
enrollment. The member may choose to have his/her services coordinated
through the PCP in order to receive the highest level of benefit coverage
available. However, the member may choose to self-refer to an Extended PPO
Network Provider or a non-participating provider which is covered at a lower
reimbursement.
MARKETING AND SALES
The Network markets its PPO and utilization management services through an
internal marketing staff to TPAs and, in conjunction with the TPAs and
independent brokers and agents, to the Health Plans. The Network generally
does not market directly to subscribers or their dependents, although it does
engage in limited direct mailings relating to product development.
The Plan distributes its products through it direct sales force and
telemarketing representatives and through independent insurance agents and
brokers.
Direct Sales Force and Telemarketing
The Plan maintains a direct sales staff of account executives. The account
executives sell the managed care and point of service to employer groups. In
addition, they are the principal administrative contact for employers and
their benefit managers by conducting on-site employee meetings and various
other requests.
The Plan employs a staff of telemarketing representatives who sell the Costco
Health Insurance product directly to small groups.
Independent Insurance Agents and Brokers
Independent insurance agents and brokers have been responsible for a
significant portion of The Plan's enrollment growth of the managed care
products. They are compensated pursuant to commission arrangements that vary
depending on the particular company products and services sold.
MAJOR CUSTOMER
The Company's largest customer, the Boeing Company, accounted for
approximately 34% of the Company's premium revenue in fiscal 1999 and
approximately 43% in fiscal 1998. Boeing accounted for approximately
$24,500,000 and $19,800,000 of the Company's consolidated revenues for 1999 an
1998, respectively. The Company believes that it relationship with Boeing is
excellent.
COMPETITION
The managed health care industry is highly competitive, primarily on the basis
of price, the size, quality and geographic location of the network of
physicians, hospitals and other health care providers, benefits provided and
quality of service. The Network competes with other managed health care
companies, such as health maintenance organizations and indemnity health
insurance companies, and approximately twelve other PPOs in the state of
Washington and believes, that through its licensure as a HCSC, it can maintain
its PPO base and expand into additional areas of the marketplace.
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GOVERNMENTAL REGULATION
State Health Care Legislation
The 1999 legislative session did not pass any health care related legislation.
There were, however a number of Rule Making Orders issued by the Office of the
Insurance Commissioner related to Health Care. These Rule Making Orders are
summarized below:
R 98-17 (Filed 11/29/99) Standards for Expedited Review of Health Care Service
Denials by Health Carriers
The effective date is December 30, 1999. The effected WAC Chapters are 284-
43-610, 284-43-620, 284-44-043, 284-46-507, 284-50-377, 284-96-015
The purpose is to set standards for expedited review of health care service
denials by health carriers when an enrollee's life and health would be
jeopardized by the timelines and procedures for more routine enrollee
grievances. These standards shorten the time frames in which Health Carriers
may respond to member appeals. There is a business impact on First Choice as
this requirement results in increased costs associated with staffing
increases, and significant costs associated with contracting with outside
review organizations in order to meet standards set forth in this regulation.
R 98-21 (Filed 10/11/99) Health Care Provider Contracts
The effective date is November 11, 1999. The effected WAC Chapter is 284-43.
The following is a summary of what is contained in this Rule Making Order:
Provisions requiring carriers to provide 60 days advance notice of changes in
procedures must be given only for those changes that affect compensation or
health care service delivery. 60 day notice is not required where changes in
law prevent the carriers from giving 60 day notice. No change to the contract
can be made retroactive without express consent of the provider. Prompt
payment standards were modified to reflect standards required by the Health
Care Financing Administration for Medicare. Carriers must clearly report the
reasons for a claim denial and must have a process for answering health care
provider questions about claims. Audit standards were substantially removed
in favor of a new cooperative process to establish uniform standards for
claims procedures later. Instead, basic standards related to carrier access
to records is addressed. Dispute resolution provisions were simplified.
Different disputes may be settled through different methods appropriate to the
type of dispute. Carriers may require the provider to use the dispute
resolution process before resorting to judicial means. Carriers must resolve
standard disputes within a reasonable time frame and billing disputes within
60 days. The audit standards have been replaced with a few general standards
relating to carrier access to records. Carriers are permitted to use contract
forms upon filing with the Office if the contract changes do not affect
regulatory requirements. The above changes require procedural and
documentation revisions. This has a business impact on First Choice in that
there are costs associated with increased staffing and overtime required to
meet the time frames, potential interest costs, and costs associated with
system modifications to calculate the interest. There are also operational
costs such as legal review costs associated with the development of new
contracting language as well as costs associated with issuing new contract
materials to providers.
R 98-7 (Filed 9/8/99) Advertisement of Mental Health Benefits
The effective date is October 9, 1999. The effected WAC Chapters are 284-43-
130, 284-43-810. Improve uniformity in the terminology used in the advertising
of mental health benefits and increase the understanding of consumers who
read, hear, or view the advertisement. There is no business impact on First
Choice.
R 99-4 (Filed 8/25/99) Washington State Health Insurance Pool
The effective date is September 25, 1999. The effected WAC Chapter is 284-91-
060.
Many state residents are unable to purchase health insurance in some counties
of the state. These rules require the Washington State Health Insurance Pool
to provide coverage in Washington counties where no individual health plans
are commercially available from health carriers. There is a business impact on
First Choice as per member per month assessments on a Plan by Plan basis have
substantially increased.
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R 98-20 (Filed 7/28/99) Every Category of Health Care Provider
The effective date is August 28, 1999. The effected WAC Chapters are 284-43-
205.
The rules are intended to implement RCW 48.43.045 by identifying health
carrier practices that would violate the statute. The rules supersede an
earlier declaratory order (G 96-13) filed on May 21, 1996. There is a business
impact on First Choice as this rule has a premium rating increase associated
with it to accommodate in part the expected higher utilization costs. There
are also operational costs associated with system modifications and cost
increases associated with additional network contracting.
R 99-3 (Filed 7/28/99) Filing of Annual Reports
The effective date is August 28, 1999. The effected WAC Chapter is 284-07-
050. Reduce the amount of copies of the annual reports that must be filed
with the Commissioner. There is no business impact on First Choice.
R 97-8 (Filed 12/18/97) Standards for Coverage of Chemical Dependency
The effective date is August 22, 1999. The effected WAC Chapter is 284-53.
The rule was identified in the Commissioner's Regulatory Improvement process
as one that was out of date and should be reviewed and updated. References in
the existing rule are outdated and benefit minimums established in 1987 have
become ceilings and are no longer considered adequate to pay for increasingly
effective but expensive treatment. The lifetime dollar maximum has been
deleted and the 24 month dollar maximum has been raised to $10,000. There is a
business impact on First Choice as this benefit change has resulted in an
increase in premium rates to lessen the impact of the higher benefit maximum,
and also increased costs associated with system changes required to
accommodate the benefit modifications.
Employees
At December 31, 1999, the Company had 193 employees, 190 of which were full-
time. None of the Company's employees are unionized or subject to collective
bargaining agreements with the Company, and the Company believes its
relationships with its employees to be good.
ITEM 2. DESCRIPTION OF PROPERTY
First Choice leases and occupies two offices in separate buildings in downtown
Seattle. The administrative, finance and marketing departments occupy an
office consisting of approximately 20,675 square feet of space in an office
building at 601 Union Street, Suite 1100, Seattle, Washington expiring March
2003.
Pursuant to the purchase of Providence Plan Partner Preferred_Washington
Preferred Provider Organization described on page 5, The Company renewed the
lease at the office building at 1100 Olive way, Suite 1480, Seattle,
Washington expiring July 2003. This location consists of 11,209 square feet.
Item 3. LEGAL PROCEEDINGS
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted in the fourth quarter of 1999.
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
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There is no public trading market for any of the Company's equity
securities.
As of December 31, 1999, there were 467 holders of the Company's Class A
Common Stock, seven holders of the Company's Class B Common Stock, and four
Hospital Participants.
Holders of each class of Common Stock are entitled to share ratably on a
share-for-share basis with respect to any dividends on such class of Common
Stock, when, as and if declared by the Board of Directors out of funds
legally available. Therefore, such dividends may not be paid while an
obligation to repurchase shares remains outstanding. Pursuant to the
Company's contracts with the Hospital Participants, if First Choice pays any
dividends or other distributions with respect to the Class B Common Stock,
First Choice must make an equivalent distribution to the Hospital
Participants. The Company does not currently anticipate paying cash dividends
on its capital stock.
ITEM 6. SELECTED FINANCIAL DATA
1999 1998 1997 1996 1995
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C>
Operating revenue $92,097,975 $56,878,270 $25,581,122 $6,199,506 $5,383,522
Net income $ 1,660,238 $ 703,551 $ 380,868 $1,037,714 1,020,050
Net income per common share 28.33 12.00 6.49 20.57 21.66
Total assets 30,667,873 20,712,398 19,262,806 10,473,153 7,403,850
Total liabilities 16,394,980 8,868,805 8,349,601 902,543 787,114
Redeemable equity participation 1,260,000
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
OVERVIEW
The Network's ability to retain existing clients and attract new clients is
largely dependent on its ability to control health care costs by creating and
maintaining a network of high quality, efficient, fully credentials providers
who agree to accept competitive reimbursement rates and on its ability to
control excess utilization through its utilization management program. During
1999, the Company continued to expand its PPO network. In 1999, The
Network continued its system of physician reimbursement which had commenced in
July 1993, referred to as the Resource Based Relative Value System, whereby
fees to physicians are weighted more toward cognitive services (i.e., overall
patient care) as opposed to procedural services (e.g., surgery and diagnostic
tests). This system is consistent with the Company's belief in the importance
of managing the full scope of patient care to provide the most appropriate
level of service for each patient and its focus on the primary care
"gatekeeper" model for its PPO, whereby a Covered Person must obtain a
referral from a primary care physician prior to obtaining health care services
from specialists and other health care providers.
Since its inception, the Company has negotiated reimbursement to its principal
hospitals under a Diagnostic Related Group (DRG) system under which payments
are based on the diagnosis of the patient's condition, generally
notwithstanding the length of hospitalization. In 1997, The Network
negotiated with additional hospitals to change the basis upon which DRGs are
determined from an "All Medicare Grouper" to an "All Patient Grouper" and
concurrently introduced Washington State-specific hospital weights to more
closely match reimbursement payments to actual resource consumption.
In anticipation of the proposed Washington State health care reform and to
enhance its competitive position in the health care industry, The Plan
obtained, on January 13, 1995, a Certificate of Registration to operate as a
health care
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service contractor ("HCSC_), in the state of Washington, which permits The
Plan to assume financial risk in its operations.
The Plan's revenues consist primarily of commercial premiums resulting from
the offering of health insurance products. However, this is supplemented by
the Plan's rental of the PPO network beginning January 1, 1998. See the
_First Choice Health Plan Products_ under _Description of Business_ for
further explanation of products currently being offered by The Plan.
Medical expenses are largely comprised of capitation arrangements with the
physician organizations (PO) in which the risk for health insurance coverage
has been passed to the PO. The Plan passes much of the premium to the POs and
keeps a certain percentage for administrative fees which covers services that
the Plan provides on behalf of the PO. In addition, as a result of the merger
with Health First Partners, The Plan assumes the full risk for a small amount
of membership. For the membership that The Plan is at risk for, the medical
expenses are comprised of payments to physicians, hospitals and other health
care providers which includes an estimated amount for incurred but not
reported claims (_IBNR_).
The Plan has a license with the Federal Health Care Financing Administration
(_HCFA_) to offer a Medicare risk product. The medicare application was
approved in the third quarter of 1998 with the first sales of the product
occurring on January 1, 1999. Upon sale of this product, the Plan will be
paid a fixed per member per month capitation amount by the HCFA based on a
formula of the projected medical expense of each Medicare member. Medicare
risk contracts provide revenues which are higher per member than those for
non-Medicare members which provide an opportunity for increased profits and
cash flow. However, these contracts also carry certain risks such as higher
comparative medical costs, government regulatory and reporting requirements
and the possibility of reduced government reimbursement in the future.
The Plan transferred an additional $1 million on February 19, 1998 and
$400,000 on March 31, 1998 to it restricted depository account in order to
satisfy statutory requirements for additional restricted deposits related to
the Medicare business.
RESULTS OF OPERATIONS
YEAR ENDED DECEMBER 31, 1999 COMPARED TO YEARS ENDED DECEMBER 31, 1998 AND
1997
Operating revenue for the year ended December 31, 1999 increased 61.92% to
approximately $92.1 million in 1999 from approximately $57.0 million in 1998
and $26.5 million in 1997. The majority of the increase was due to the
increase in Plan health insurance membership resulting from increased growth
in 1999 . The Plan's membership increased from 166,297 member months in 1997,
395,659 member months in 1998 to 602,856 member months in 1999. The Company's
network access fees increased 39.80% from $4.1 million in 1997, $5.6 million
in 1998 to $7.8 million in 1999. The increase was a result of growth in the
Company's rental of the PPO network as well as the purchase of the Sound
Health network and related membership in December 1999. Hospital
administrative fees also increased 32.44% from $2.5 million in 1997, $4.8
million in 1998 to $5.9 million in 1999. The growth in this line item was
primarily due to a large contract beginning in January 1998 which was part of
the merger with Health First Partners. Network access fees and hospital
administrative fees will continue to show growth over the previous year with
the expansion of the PPO network arising from the acquisition of the
Providence Plan Partner-Washington Preferred Provider Organization.
Total operating expenses increased 60.09% to approximately $90.6 million in
1999 versus approximately $56.6 million in 1998 and $26.4 million in 1997.
Medical expenses drove the majority of the increase as a direct result of the
increase in Plan health insurance membership. Selling, general and
administrative costs increased to
12
13
approximately $9.7 million in 1999 from approximately $7.5 million in 1998 and
$4.6 million in 1997 as a result of increased marketing expenditures related
to the new health insurance products as well as the premium and business taxes
associated with The Plan's business. Payroll and related expenses increased
50.35% from approximately $4.3 million in 1997, $6.6 million in 1998 compared
to approximately $10.0 million in 1999. The Company increased the number of
employees as a result of the increased Plan membership and also absorbed 25
employees from the acquisition of the Providence Plan Partner-Washington
Preferred Provider Organization.
Inflation
Health care costs in the United States have increased more rapidly than the
national consumer price index in recent years, and that trend is expected to
continue. The Company operating results have not significantly been affected
by inflation, and the Company does not anticipate that inflation will have a
significant impact on its operating results in the near term. However,
inflation in healthcare costs could affect operations if the Company were
unable to submit new rates to the OIC in a timely manner in order to obtain
approval of increased rates necessary to mitigate its risk from this factor.
The Company obtained licensure as an HCSC in January 1995 and assumes risk for
medical costs. The Company transfers risk to health care providers through
capitation arrangements and risk-sharing provisions and is generally not
directly impacted by significant escalation of health care costs.
Market Risk
HMOs and health insurance companies operate in a highly competitive
environment. The Company has numerous competitors, including for-profit and
not-for-profit HMOs, preferred provider organizations ("PPOs"), and indemnity
insurance carriers, some of which have substantially larger enrollments and
greater financial resources than the Company. The Network's ability to retain
existing clients and attract new clients is largely dependent on its ability
to control health care costs by creating and maintaining a network of high
quality, efficient, fully credentials providers who agree to accept
competitive reimbursement rates and on its ability to control excess
utilization through its utilization management program.
LIQUIDITY AND CAPITAL RESOURCES
Since inception in 1986, the Company has financed its operations from equity
investments from over 870 physicians, from the seven hospitals constituting
the Company's Class B shareholders, non-equity capital contributions from
four additional hospitals pursuant to their respective participation
agreements, and funds from operations.
In July 1996, First Choice issued 5,800 shares of its Class B common Stock
to Swedish Medical Center in exchange for $931,484. This equity investment
increased the number of Class B shareholders to six.
In December, 1996, First Choice issued 5,800 shares of its Class B Common
Stock to Overlake Hospital Medical Center in exchange for $1,000,000 in cash
and two additional payments of $250,000 each due in December of 1997 and 1998.
The final payment of $250,000 was received by the Company in December 1998.
This equity investment increased the number of Class B shareholders to seven.
At December 31, 1999, the Company had cash and cash equivalents of
approximately $13.1 million as compared to approximately $5.7 million
at December 31, 1998.
In January 1995, the Company transferred cash and investments of $1.5 million
to its subsidiary, First Choice Health Plan, Inc., in connection with its
licensure as an HCSC. In the first and second quarters of 1997, the Company
transferred $5 million of additional cash and investments to it subsidiary.
Of the total cash held by The Plan, $1.4 million was transferred to restricted
deposits to increase the statutory deposits in the first quarter of 1998 to
satisfy regulatory requirements.
13
14
In May 1996 the Company's subsidiary, First Choice Health Plan, Inc.,
introduced into the marketplace a Medicare Supplement program in conjunction
with two of its owner hospitals, Northwest Hospital and Valley Medical Center.
At December 31, 1999 there were 473 policies in force and collected premiums
of $347,455. The Company has contracted with Olympic Health Management
Systems to act as the plan administrator. Its primary responsibilities are
maintenance of an adequate sales force legally licensed in Washington state,
and to perform premium billing and collection, claims processing and payment,
and financial reporting to all applicable parties including the appropriate
reports necessary for compliance with the Office of Insurance Commissioner of
the State of Washington.
On July 1, 1997, First Choice Health Network, Inc. (The Network), First Choice
Health Plan, Inc. (The Plan), Health First Partners, Inc. (Health First) and
Health Washington, L.L.C. (Health WA) entered into a merger and asset purchase
agreement. The agreement between the four companies consisted of three
transactions as described in the paragraphs below.
First, The Plan purchased substantially all of the assets of Health WA in
exchange for 34,523 shares of The Plan's Common Stock. These shares were
issued to the former shareholders of Health WA. The assets of Health WA
consisted primarily of Health WA's rights to various provider contracts, a
large group contract, as well as other intangible property including
trademarks. Estimated growth in membership was 12,500 as a result of this
merger. These shares represent approximately 12.6% ownership in FC Health
Plan.
Secondly, Health First merged with and into The Plan with Health First
ceasing operations and The Plan as the surviving corporation. FC Health
Plan issued 33,572 shares of stock to the former shareholders of Health First
for the net assets of Health First as well as the rights to various provider
and group contracts. The net assets purchased included those assets and
liabilities that existed as of July 1, 1997 which had a book value of
approximately $1.0 million. Estimated growth in membership was 5,500 as
a result of this merger. These shares represent approximately 12.3% ownership
stake in The Plan.
Third, The Network, formerly the sole shareholder of The Plan, became
obligated to contribute cash to The Plan in exchange for 55,436 shares of FC
Health Plan stock. This is facilitated by a Contribution Agreement that
states that The Network shall contribute a certain percentage of revenues over
the next ten years in exchange for those shares. The Network's ownership in
the subsidiary, The Plan, was approximately 75.1%.
In January 1998, the owners of the Plan signed an agreement which gave the
Company an 80% ownership in the common stock of the Plan. The purpose of the
increase in common stock ownership was to allow for consolidation of Plan
income or losses in the Company's filing of consolidated tax return which
includes the Plan. This transaction by Health Washington exchanging 8,613
shares of common stock for the same number of preferred shares. Two other
owners made a similar exchange of 4,187 shares each. In order to facilitate
this transaction, the Plan amended their Articles of Incorporation to
authorize 1,000,000 shares of preferred stock. This stock has a par value of
$29.10 and is nonvoting and noncumulative, but has a dividend preference rate
of 8.75% of the par value per share.
Effective February 1, 1998, the Network and Plan entered into a tax sharing
agreement which provides for the sharing of Federal income tax liabilities and
benefits in the filing of consolidated tax returns.
In July, 1998, the Plan amended the Articles of Incorporation to increase the
authorization of preferred shares to 1,000,000. The Network then increased
its investment in the Plan by purchasing 3,000,000 dollars in the Plan's
preferred stock.
Effective December 1, 1998, the Company executed a purchase agreement to
acquire Providence Plan Partners Preferred-Washington PPO Business. The
acquired business consists of approximately 125,000 subscribers with an annual
revenue
14
15
stream of approximately $4.0 million. The purchase was $2.8 million to be
paid with interest at a rate of six percent over 18 months, and a contingent
payment of $668,000 based on revenue received by the Company in the twelve
months after the closing date. The revenue was received and the $668,000 paid
before February 15, 2000.
On December 20, 1999, First Choice Health Network, Inc. executed an agreement
with University of Washington Academic Medical Center to become a participant
in the administration, operations and any incentives bestowed upon any
shareholders in First Choice Health Network effective January 1, 2000.
University of Washington Academic Medical Center shall pay the affiliation fee
of $2,520,000, payable $1,260,000 upon execution of this Agreement and the
remaining $1,260,000 will be paid in three equal payments of $420,000 due
annually for three years plus interest at five percent (5%).
UWMC does not become a shareholder or member of the Network. UWMC shall
participate in any incentive or reward program established by the Network as
if UWMC owned 5,800 shares of class B common stock. Dividends, distributions,
and liquidation of the Network are also determined as if UWMC owned 5,800
shares of class B stock.
If the Network performs certain actions that substantially change the
organization, the Network discontinues the health care facility services
contract with UWMC, or if total managed care enrollment falls below 500,000
member months, then UWMC can withdraw from the agreement, but no refunds are
given. If the Network merges, is sold, or if the Network takes a material
action that proves detrimental to UWMC, then UWMC may redeem their interest
for the equivalent of the fair value of 5,800 class B common shares of FC
stock, less any amounts still owed by UWMC.
The Company anticipates that the revenues generated by operations cash and
cash equivalents as of December 31, 1999 will be sufficient to meet its cash
requirements throughout 2000.
Throughout 1999 and early 2000, the Plan contracted with Cascade Medical Group
(Cascade) for capitated health care services. The Plan did not have insurance
risk for the covered individuals to the extent that Cascade could continue to
pay the Plan for claims paid on their behalf. In March of 2000, Cascade
management dissolved the organization. The dissolution of Cascade does not
affect the financial position or results of operations in 1999 because the
Plan had a payable to Cascade as of December 31, 1999. However, management
believes a loss of between $500,000 and $700,000 will be incurred in 2000
for claims paid in 2000 for which the Plan does not expect to be reimbursed.
Management is evaluating the financial impact of this event. The ultimate
financial impact of this event will be determined, and the expense recorded,
during 2000.
Year 2000 Update
The Company has assessed its computer systems and facilities regarding the
Year 2000 problem. The Year 2000 problem is defined as storing the year as
two digits rather than storing the year with four digits to include the
century. Date sensitive calculations or reports may treat the year 00 as
1900 rather than 2000 resulting in erroneous results or calculations. As of
January 1, 2000, the Company has evaluated its systems and applications to
determine whether or not those systems were impacted by Year 2000. Based
upon its testing and review, the core business systems operated effectively
and there was no impact of Year 2000.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable as of December 31, 1999.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTAL DATA
15
16
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Independent Auditors' Report . . . . . . . . . . . . . . . . . . . . . . 16
Consolidated Balance Sheets as of December 31, 1999 and 1998 . . . . . . 17
Consolidated Statements of Income
for the years ended December 31, 1999, 1998, and 1997 . . . . . . . . 19
Consolidated Statements of Shareholders' Equity
for the years ended December 31, 1999, 1998, and 1997 . . . . . . . . 20
Consolidated Statements of Cash Flows
for the years ended December 31, 1999, 1998, and 1997 . . . . . . . . 21
Notes to Consolidated Financial Statements . . . . . . . . . . . . . . . . 23
INDEPENDENT AUDITORS' REPORT
Shareholders and Board of Directors
First Choice Health Network, Inc.
We have audited the accompanying consolidated balance sheets of First Choice
Health Network, Inc. and subsidiary (the Company) as of December 31, 1999 and
1998, and the related consolidated statements of income, shareholders' equity,
and cash flows for each of the three years in the period ended December 31,
1999. These consolidated financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
consolidated financial statements based on our 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 audits to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of the
Company as of December 31, 1999 and 1998, and the results of its operations
and its cash flows for each of the three years in the period ended December
31, 1999, in conformity with accounting principles generally accepted in the
United States of America.
Deloitte & Touche LLP
Seattle, Washington
March 24, 2000
16
17
17
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 1999 AND 1998
ASSETS 1999 1998
CURRENT ASSETS:
Cash and cash equivalents $13,082,130 $ 5,759,751
Service fees receivable, net of allowance for doubtful
accounts of $252,361 and $146,000 for 1999 and 1998 3,929,493 2,234,969
Service fees and premiums
receivable from related parties 1,213,593 1,504,537
Premiums receivable, net of allowance for doubtful
accounts of $65,427 and $215,014 for 1999 and 1998 2,562,710 1,997,926
Due from unrelated provider organizations 1,891,651 1,586,381
Due from related provider organizations 684,606 972,785
Prepaid expenses 572,935 390,748
Deferred tax assets (Note 4) 548,735 152,318
Other current assets 170,581 81,178
----------- -----------
Total current assets 24,656,434 14,680,593
FURNITURE, EQUIPMENT, AND COMPUTER SOFTWARE:
Furniture and equipment 3,353,485 2,601,718
Computer software 324,385 306,522
----------- -----------
3,677,870 2,908,240
Less accumulated depreciation and amortization 2,011,730 1,488,358
----------- -----------
Furniture, equipment and computer software, net 1,666,140 1,419,882
DEFERRED TAX ASSETS (Note 4) 314,384
OTHER ASSETS:
Restricted indemnity cash 1,747,626 1,705,956
Goodwill, net of accumulated amortization of $137,614
and $113,616 137,646 307,310
Other intangible assets, net of accumulated amortization
of $1,212,757 and $91,743 2,145,643 2,598,657
----------- -----------
Total other assets 4,030,915 4,611,923
----------- -----------
TOTAL $30,667,873 $20,712,398
=========== ============
See accompanying notes to consolidated financial statements.
17
18
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 1999 AND 1998
LIABILITIES AND STOCKHOLDERS' EQUITY 1999 1998
CURRENT LIABILITIES:
Accounts payable $ 520,046 $ 377,850
Accrued expenses 2,275,005 1,609,202
Reserve for unpaid claims adjustment expenses 3,210,613 2,102,364
Due to unrelated provider organizations 5,104,101 1,229,331
Due to related provider organizations 421,711 247,355
Federal income tax payable 28,417
Unearned premiums 3,104,521 137,280
Deferred income taxes 146,979 136,715
Current portion of note payable 1,612,004 1,887,996
----------- ----------
Total current liabilities 16,394,980 7,756,510
NOTE PAYABLE (Note 10) 999,671
DEFERRED INCOME TAXES (Note 4) 112,624
MINORITY INTEREST 864,249 1,320,085
REDEEMABLE EQUITY PARTICIPATION 1,260,000
COMMITMENTS (Note 5 and 13)
SHAREHOLDERS' EQUITY:
Common Stock:
Class A, par value $1 - Authorized, 30,000 shares;
issued and outstanding, 585 and 619 shares 585 619
Class B, par value $1 - Authorized, 70,000 shares;
issued and outstanding, 40,600 and 40,600 shares 40,600 40,600
Additional paid-in capital 4,350,034 4,385,102
Shareholder receivable
Paid-in capital from affiliates 1,472,108 1,472,108
Retained earnings 6,285,317 4,625,079
----------- ------------
Total shareholders' equity 12,148,644 10,523,508
----------- ------------
TOTAL $30,667,873 $20,712,398
=========== ============
See accompanying notes to consolidated financial statements.
18
19
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
1999 1998 1997
OPERATING REVENUE:
Premium revenue $64,496,942 $42,634,121 $15,711,616
Premium revenue, related parties 7,204,129 3,720,738 4,050,286
Medicare revenue 6,338,440
Network access fees 7,838,999 5,607,173 4,172,888
Hospital administrative fees 4,289,828 2,956,822 1,283,982
Hospital administrative fees, related party 1,609,000 1,841,789 1,243,123
Other 320,637 117,627 119,227
--------------------------- ----------
Total operating revenue 92,097,975 56,878,270 26,581,122
OPERATING EXPENSES:
Medical expenses 41,812,940 25,149,892 10,472,784
Medical expenses, related parties 27,875,293 17,125,490 7,074,205
Payroll and related expenses 10,012,045 6,659,224 4,305,685
Selling, general, and administrative costs 9,741,831 7,517,177 4,533,543
Amortization expense 1,191,012 160,333 34,151
------------------------- ----------
Total operating expenses 90,633,121 56,612,116 26,420,368
--------------------------- ----------
Operating income 1,464,854 266,154 160,754
OTHER INCOME (EXPENSE):
Interest 361,200 504,415 511,257
Other 46,000 (155,928) 97,366
--------------------------- ----------
Total other income, net 407,200 348,487 608,623
--------------------------- ----------
Income before federal income taxes
and minority interest 1,872,054 614,641 769,377
FEDERAL INCOME TAXES 279,143 429,348 504,006
--------------------------- ----------
1,592,911 185,293 265,371
MINORITY INTEREST 67,327 518,258 115,497
-------------------------- ----------
NET INCOME $1,660,238 $ 703,551 $ 380,868
========= ========= ==========
NET INCOME PER COMMON SHARE $ 28.33 $ 12.00 $ 6.49
========= ========== ==========
WEIGHTED AVERAGE SHARES OUTSTANDING 58,601 58,619 58,650
========= ========== ==========
See accompanying notes to consolidated financial statements.
19
20
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
Common Stock
------------
Class A Class B Additional Balance
------- ------- paid-in Shareholder carried
Shares Amount Shares Amount capital receivable forward
------ ------ ------ ------ ------- ---------- -------
C>
Balances at January 1, 1997 656 $656 40,600 $40,600 5,046,417 (500,000) $4,587,673
Cash received from shareholder receivable 250,000 250,000
Repurchase of Class A common stock
and membership rights from physicians (8) (8) (1,728) (1,736)
Reduction in equity from issuance of subsidiary's stock (628,599) (628,599)
Net income
Change in unrealized loss on securities available
for sale, net of deferred taxes
Net income
----- ----- ------- ------- ---------- --------- ----------
Balances at December 31, 1997 648 $648 40,600 $40,600 4,416,090 (250,000) 4,207,338
Cash received from shareholder receivable 250,000 250,000
Repurchase of Class A common stock
and membership rights from physicians (29) (29) (30,988) (31,017)
Net income
----- ----- ------- ------- ---------- --------- ----------
BALANCE, December 31, 1998 619 $619 40,600 $40,600 $4,385,102 $4,426,321
Repurchase of Class A common stock and (34) (34)
Membership rights from physicians (35,068) (35,102)
Net income
----- ----- ------- ------- ---------- --------- ----------
BALANCE, December 31, 1999 585 $585 40,600 $40,600 $4,350,034 $4,391,219
===== ===== ======= ======= ========== ========== ==========
Net unrealized
loss on
investment
securities
Balance Paid-in available for Total
brought capital from Retained sale, net of shareholders'
forward affiliates earnings deferred taxes equity
------- ---------- -------- -------------- ------
Balances at January 1, 1997 $4,587,673 $1,472,108 $3,540,660 $(29,831) $9,570,610
Cash received from shareholder receivable 250,000 250,000
Repurchase of Class A common stock
and membership rights from physicians (1,736) (1,736)
Reduction in equity from issuance of
subsidiary's stock (628,599) (628,599)
Net income - 380,868 380,868
Change in unrealized loss on securities
available for sale, net of deferred taxes - 29,831 29,831
---------- ----------- ---------- --------- ----------
BALANCES at December 31, 1997 4,207,338 1,472,108 3,921,528 9,600,974
Cash received from shareholder receivable 250,000 250,000
Repurchase of Class A common stock
and membership rights from physicians (31,017) (31,017)
Net income 703,551 703,551
---------- ----------- ---------- --------- ----------
BALANCE, December 31, 1998 $4,426,321 $1,472,108 $4,625,079 $ - $10,523,508
Cash received from shareholder receivable
Repurchase of Class A common stock and (35,102) (35,102)
membership rights from physicians
Net income 1,660,238 1,660,238
---------- ----------- ---------- --------- ----------
BALANCE, December 31, 1999 $4,391,219 $1,472,108 $6,285,317 $ $12,148,644
========== =========== ========== ========= ==========
See accompanying notes to consolidated financial statements.
20
21
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
1999 1998 1997
OPERATING ACTIVITIES:
Net income $ 1,660,238 $ 703,551 $ 380,868
Adjustments to reconcile net income to net cash
provided (used) by operating activities:
Gain on sale of Dental Network (44,500)
Depreciation 523,372 384,620 283,945
Amortization 1,191,012 160,333 34,151
Deferred income taxes, net (813,161) (268,589) (78,604)
Provision for doubtful accounts 207,356 307,000 57,796
Minority interest (67,327) (518,258) (115,497)
Cash provided (used) by changes in operating
assets and liabilities:
Service fees receivable (1,631,435) (1,520,090) (848,307)
Premiums receivable (544,285) (405,968) (1,672,363)
Prepaid expenses (182,187) (98,636) (59,791)
Other current assets (89,403) 316,923 (373,622)
Intangibles and other (390,009) 353,497 58,942
Accounts payable 142,196 171,648 48,279
Accrued expenses 665,805 (193,372) 761,129
Reserve for unpaid claims and claims
adjustment expenses 1,108,249 708,257 (737)
Due to (from) unrelated provider organizations 462,536 (533,992) 1,386,205
Due to (from) related provider organizations 3,569,500 (3,057,956) 1,279,573
Federal income tax payable (28,417) 28,417
Unearned premiums 2,967,241 (198,349) 321,261
--------- -------- ---------
Net cash provided (used) by operating activities 8,706,778 (3,660,964) 1,463,228
INVESTING ACTIVITIES:
Purchase of investment securities available for sale (7,457,715)
Sales and maturities of investment securities
available for sale 15,301,865
Acquisition of Health First Partners, net of
cash acquired (97,936)
Sale of Dental Network 90,000
Purchase of furniture, equipment, and
computer software (769,630) (810,032) (508,715)
Increase in restricted indemnity cash (41,671) (1,344,582)
--------- ----------- ----------
Net cash provided (used) by investing activities (721,301) (2,154,614) 7,237,499
--------- ----------- ----------
BALANCE, carried forward 7,985,477 (5,815,578) 8,700,727
========= =========== ==========
See accompanying notes to consolidated financial statements.
21
22
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
CONSOLDIATED STATEMENTS OF CASH FLOWS (CONTINUED)
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
1999 1998 1997
BALANCE, brought forward $7,985,477 $(5,815,578) $8,700,727
FINANCING ACTIVITIES:
Repurchase of Class A common stock and membership
rights from physicians (35,102) (31,017) (1,736)
Receipt of shareholder receivable 250,000 250,000
Redeemable equity participation 1,260,000
Payment of note payable (1,887,996)
---------- --------- ----------
Net cash provided by financing activities (663,098) 218,983 248,264
---------- ----------- ---------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 7,322,379 (5,596,595) 8,948,991
CASH AND CASH EQUIVALENTS:
Beginning of period 5,759,751 11,356,346 2,407,355
--------- ---------- ----------
End of year $13,082,130 $5,759,751 $11,356,346
========== =========== ==========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the year for federal income taxes $1,350,000 $ 250,000 $ 955,000
Cash paid during the year for interest 94,174
SUPPLEMENTAL DISCLOSURE OF NONCASH INVESTING
ACTIVITIES:
Net assets for common stock (Note 8) 525,303
Business acquired for note payable 612,333 837,920
See accompanying notes to consolidated financial statements.
22
23
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
NOTE 1: DESCRIPTION OF BUSINESS AND SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES
Description of business: First Choice Health Network, Inc. (the Company)
was incorporated under the laws of the state of Washington on September 28,
1984. The Company was formed to organize a network of independent
participating physicians and hospitals to provide a comprehensive, managed
health care delivery system for group plans established by employers and
benefit groups. The Company's business is conducted primarily in
Washington, Oregon, and Alaska.
The Company's majority owned subsidiary, First Choice Health Plan, Inc.,(the
Plan) is a health care services contractor which was formed on January 31,
1995, to offer fully insured health care services to an enrolled population
in Washington state.
Principles of consolidation: The consolidated financial statements include
the accounts of the Company and the Plan. All significant intercompany
accounts have been eliminated in consolidation.
New accounting pronouncements: On June 16, 1998, the Financial Accounting
Standards Board (FASB) issued Statement of Financial Accounting Standards
(SFAS) No. 133, Accounting for Derivative Financial Instruments and Hedging
Activities, which is effective for quarters of fiscal years beginning after
June 15, 2000. SFAS No. 133 establishes accounting and reporting standards
for derivative instruments and hedging activities. Under this statement,
certain derivatives are recognized at fair value and changes in fair market
value are recognized as gains or losses. Management is currently studying
this pronouncement to determine its effect, if any, on the Company's
financial statements.
Cash equivalents: The Company considers all investments purchased with an
original maturity of three months or less to be cash equivalents. At
December 31, 1999 and 1998, cash and cash equivalents consist of cash
management funds of $13,082,130 and $5,759,751, respectively.
Service fees receivable: Service fees receivable consist primarily of
estimates for hospital administrative fees receivable related to claims
incurred on or before the balance sheet date but not reported. The Company
evaluates the reasonableness of hospital administrative fees receivable
based on claims reported in subsequent periods. These estimates are
subject to the effects of trends in claims. Although considerable
variability is inherent in such estimates, management believes that the
hospital administrative fees receivable is reasonable. The estimates are
continually reviewed and adjusted as necessary in the period new
information becomes known.
Allowance for doubtful accounts: The Company performs periodic credit
evaluations of its customers and maintains an allowance for potential
credit losses related to receivables.
Premiums receivable: Premiums receivable represents monthly group health
insurance premiums billed and outstanding.
23
24
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Furniture, equipment, and computer software: Furniture, equipment, and
computer software are recorded at cost. Depreciation and amortization are
computed using the straight-line method over the lesser of the estimated
useful lives of the assets or lease term ranging from three to five years.
Restricted indemnity cash: Restricted indemnity cash consists of amounts
required to be restricted for potential claims from enrollees as required
by the Office of Insurance Commissioner of the State of Washington.
Other intangible assets: Intangible assets assumed in the Providence Plan
Partners PPO network acquisition were trademarks, contracts, and a
noncompetition agreement. Intangible assets are amortized using the
straight-line method over three years.
Goodwill: Goodwill is determined as the difference between the purchase
price and fair value of identifiable net assets purchased. Goodwill is
amortized using the straight-line method over three to five years. Events
or changes in circumstances have not occurred that indicate the value of
goodwill has been impaired as of December 31, 1999 and 1998.
Reserve for unpaid claims and claims adjustment expenses: This liability
represents reported and unreported claims which have been incurred but have
not been paid at the date of the financial statements. The reserve for
unreported claims is determined actuarially using prior experience and the
nature of current health insurance contracts and volume. Included in the
liability is an estimate of the expenses necessary to settle claims. Due
to the uncertainties inherent in the estimation process, actual costs may
differ from the estimated amounts in the near term, and these differences
may be significant.
Due to (from) related (unrelated) provider organizations: This liability
or asset is the amount due to (from) health care providers in conjunction
with capitation arrangements, which is computed by subtracting the claims
payments made on behalf of the provider from the capitated amounts
contractually allocated to them. The ultimate payout or receipt of these
amounts is subject to a settlement process subsequent to the contract year
end. The Company believes the amounts recorded appropriately reflect the
ultimate settlement amounts.
Unearned premiums: Unearned premiums consist of insurance premiums
received prior to fiscal year end for health insurance coverage subsequent
to year end.
Operating revenue: Operating revenue consist primarily of premium revenue,
medicare revenue, network access fees, and hospital administrative fees.
Premium revenue represents amounts charged for health care services and is
recognized as revenue in the period for which enrollees are entitled to
medical care. Medicare revenue is paid at a fixed per member per month
capitation amount by the HCFA based on the projected medical cost for each
Medicare member and are recognized as revenue over the coverage period.
Network access fees are recognized as earned during the period of coverage
and are recorded at contractual rates. Hospital administrative fees are
recognized as earned in the period hospital claims are incurred by a
subscriber and are recorded at a contractual percentage of the claims.
For the year ended December 31, 1999 and 1998, 34% and 43%, respectively,
of the premium revenue related to one subscriber group.
24
25
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Income taxes: Deferred tax assets and liabilities are recognized for the
future tax consequences attributable to differences between the financial
statement carrying amounts of assets and liabilities and their respective
tax bases. Deferred tax assets and liabilities are measured using enacted
tax rates expected to apply to taxable income in the years in which those
temporary differences are expected to reverse. The effect on the deferred
tax assets and liabilities of a change in tax rates is recognized in income
in the period that includes the enactment date. A valuation allowance is
established to the extent that it is more likely than not that deferred tax
assets will not be realized.
Valuation of long-lived assets: Using its best estimates, based on
reasonable and supportable assumptions and projections, the Company reviews
its long-lived assets for impairment whenever events or changes in
circumstances have indicated that the carrying amounts of its assets might
not be recoverable. At December 31, 1999 and 1998, no write downs were
required.
Earnings per share: Net income per common share (class A and B) is
computed by dividing income available to common shareholders by the
weighted average number of common shares outstanding during the period,
including 41,201, 41,219 and 41,248 common shares and 17,400, 17,400, and
17,402 shares applicable to affiliate common share equivalents (Note 2) in
1999, 1998 and 1997, respectively. Shares issued and reacquired during
each period were weighted for the portion of the period that they were
outstanding. There are no dilutive securities.
Use of estimates: Preparation of consolidated financial statements in
conformity with generally accepted accounting principles requires
management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported
amounts of revenues and expenses during the reporting period. Actual
results could differ from those estimates.
Reclassifications: Certain prior year amounts have been reclassified to
conform to the current year presentation.
NOTE 2: SHAREHOLDERS' EQUITY
Ownership of stock: Class A voting common stock may be held solely by
physicians licensed in the state of Washington who contract with the
Company to provide health care services and who hold active, associate, or
provisional medical staff privileges at one or more of the hospitals that
contract with the Company to provide health care services.
Class B voting common stock may be held by hospitals in the state of
Washington that contract with the Company to provide health care services.
Voting rights: Holders of each outstanding share of Class A or Class B
common stock are entitled to one vote on each matter submitted to a vote at
meetings of shareholders, and each class of common stock votes as a
separate class.
Transfer of stock: Shareholders may only transfer their stock in the
Company to the Company for repurchase. The repurchase price is established
by the Board of Directors each fiscal year as set forth in the bylaws.
Class A shares were repurchased at $1,031.95, $1,014.91 and $1,108.15 per
share during 1999, 1998 and 1997, respectively.
25
26
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Dividends: The Board of Directors may declare and pay dividends on one or
more classes of common stock at such times and in such amounts as it
designates, but in no event may dividends be paid while there is an
outstanding obligation to repurchase shares. Dividends are allocated among
shareholders of each class of stock according to the number of shares
outstanding to each Class A or B shareholder. Any dividends paid to the
Class B shareholders must be shared with the nonshareholders that have
rights equivalent to that of the other shareholders.
Liquidation rights: Upon liquidation or dissolution, the Board of
Directors, at its discretion, will allocate the value of assets among the
classes of its outstanding stock in proportion to the capital contributions
of shareholders of each class. For these purposes, the contributions by
the nonshareholder district hospitals that have rights equivalent to that
of the Class B shareholders and the membership fees paid by Class A
shareholders are considered capital contributions. The allocation to Class
A shareholders will be shared among all Class A shareholders in accordance
with the number of shares outstanding to each Class A shareholder. The
allocation of the Class B shareholders must be shared with the
nonshareholder hospitals that have rights equivalent to that of Class B
shareholders.
Paid-in capital from affiliates: District hospitals are not shareholders
of the Company, but have contractual agreements with the Company that
provide for certain rights and obligations equivalent, but not identical,
to those of Class B shareholders, including liquidation and dividend
rights. The capital contributions of the nonshareholders are recorded as
paid-in capital from affiliates. These contractual agreements are
considered to be common share equivalents for purposes of calculating net
income per common share.
Common stock: In January 1998, the owners of the Plan entered into an
agreement, which increased the Company's ownership in the common stock of
the Plan from 75.1% to 80%. The purpose of the increase in common stock
ownership was to allow for the consolidation of tax returns between the
Company and the Plan. This transaction included exchanging common stock
held by the minority owners of the Plan, who are also stockholders in the
company, for the same number of preferred shares. This preferred stock is
nonvoting and noncumulative and has a dividend rate of 8.75%.
NOTE 3: REDEEMABLE EQUITY PARTICIPATION
On December 20, 1999, First Choice
Health Network, Inc. executed an agreement with University of
Washington Academic Medical Center (UWMC) to become a participant in
the administration, operations and any incentives bestowed upon any
shareholders in the Company effective January 1, 2000. UWMC will pay a
fee of $2,520,000, payable $1,260,000 upon execution of this Agreement
and the remaining $1,260,000 in three equal payments of $420,000 due
annually for three years plus interest at five percent (5%).
UWMC does not become a shareholder or member of the Company. UWMC shall
participate in any incentive or reward program established by the Company
as if UWMC owned 5,800 shares of class B common stock. Dividends,
distributions, and liquidation of the Company are also determined as if
UWMC owned 5,800 shares of class B stock.
If the Company performs certain actions that substantially change the
organization, the Company discontinues the health care facility services
contract with UWMC, or if total managed care enrollment falls below 500,000
member months, then UWMC can withdraw from the agreement, but no refunds
are given. If the Company merges, is sold, or if the Company takes a
material action that proves detrimental to UWMC, then UWMC may redeem their
interest for the equivalent of the fair value of 5,800 class B common
shares of FC stock, less any amounts still owed by UWMC. Since redemption,
under certain terms, is outside the control of the Company, the amounts
received are recorded as a redeemable equity participation.
26
27
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 4: FEDERAL INCOME TAXES
Federal income taxes consist of the following components:
Years Ended December 31,
------------------------
1999 1998 1997
------ ------ ------
Current $1,092,304 $697,937 $582,610
Deferred (813,161) (268,589) (78,604)
---------- --------- --------
$279,143 $429,348 $504,006
========== ========= ========
Federal income taxes differ from the amount computed by applying the expected
U.S. corporate income tax rate to income before federal income taxes for the
years ended December 31 as follows:
1999 1998 1997
------ ------ -----
Amount Percent Amount Percent Amount Percent
------- ------- ------ ------- ------ -------
Computed expected rate $636,498 34.0% $208,978 34.0% $261,558 34.0%
Tax effect of permanent differences:
Valuation allowance on Plan NOLs 66,640 10.8 179,481 23.4%
Change in valuation allowance (73,608) (3.9)%
Provision reconciliation to return
filed (283,747) (15.2)%
Political contributions 139,328 22.7% 34,026 5.6%
Other 14,402 2.3% 28,911 3.8%
--------- ----- -------- ------ ------ -----
$279,143 14.9% $429,348 69.8% $504,006 66.8%
======== ===== ======== ===== ======= =====
27
28
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The deferred tax assets and liabilities resulting from the tax effects of
temporary differences at December 31 are presented below:
1999 1998
---- ----
Deferred tax assets:
Net operating losses $2,200,080 $1,598,029
Reduction of shareholders' equity 213,724 213,724
Allowance for doubtful accounts 108,048 122,745
Unearned Premium 211,107
Amortization 209,848
Vacation 87,506
Other 32,886 53,664
--------- ----------
Gross deferred tax assets 3,063,199 1,988,162
Valuation allowance (2,200,080) (1,835,844)
--------- ----------
Net deferred tax assets 863,119 152,318
Deferred tax liabilities:
Cash to accrual adjustment 112,624 225,248
Furniture, equipment and computer software 34,355 24,091
--------- --------
Total deferred tax liabilities 146,979 249,339
--------- --------
Deferred income tax asset (liability), net $716,140 ($97,021)
========= ========
Current portion of deferred tax assets 548,735 152,318
Long-term portion of deferred tax assets 314,384
-------- --------
Deferred income tax assets $863,119 $152,318
======== ========
Current portion of deferred tax liabilities $146,979 $136,715
Long-term portion of deferred tax liabilities 112,624
--------- --------
Deferred income tax liability $146,979 $ 249,339
======== ========
28
29
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The valuation allowance was established in 1997 for the tax benefit of the
1997 NOLs of the Company since the Company filed a separate federal income
tax return for the final six months of 1997 and the first three weeks of 1998
and the realization of the tax benefit is unlikely. The allowance also
provides for NOLs acquired in the Health First Partners, Inc. acquisition as
described in Note 8. The following schedule represents the amounts of the
Plan's NOLs and their expiration date:
2007 150,754
2008 53,781
2009 20,754
2010 1,584,667
2011 2,075,894
2012 2,353,449
2013 231,526
----------
$6,470,825
==========
NOTE 5: COMMITMENTS
Leases: The Company leases its office facilities and some office equipment
under operating leases expiring through 2003. The leases provide for
monthly minimum rent payments, and some include renewal options for an
additional five years.
Rental expense charged to operations under the operating leases for the
years ended December 31, 1999, 1998 and 1997, was $749,108, $510,316 and
$254,247, respectively.
Future minimum lease payments under the operating leases for the years
ended December 31 are as follows:
2000 817,500
2001 815,204
2002 830,026
2003 431,540
----------
$2,894,270
==========
NOTE 6: REPORTABLE OPERATING SEGMENTS
Factors management used to identify the enterprise's reportable segments:
The Company has two reportable segments which correspond to the
organization of the Company and its majority-owned subsidiary, the
Plan. Each segment requires distinct tracking capabilities in the areas of
revenues, claims processing, marketing strategies and reporting to
regulatory organizations.
29
30
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Description of the types of products and services from which each
reportable segment derives its revenue: The Company has two primary
products which have been aggregated into one reportable segment: network
access fees and hospital administration fees. Network access fees arise
from the rental of the Company's large PPO network while hospital
administration fees arise from charges to the network hospitals based on
claims incurred by members. The other reportable segment, the Plan, offers
a variety of fully insured health insurance plans to employer groups.
Measurement of segment profit or loss and segment assets: 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 and loss from operations before income taxes not including
nonrecurring gains and losses. The Company accounts for intersegment
revenues by assigning a management fee to the Plan that is an estimate of
resources expended on the Plan's behalf.
Information about profit or loss and assets of reportable segments:
NOTE 5 #1
First Choice First Choice
Health Network Health Plan Total
-------------- ----------- -----
1999:
Revenues from external customers $ 11,850,166 $80,247,809 $92,097,975
Revenue from intercompany 337,226 337,226
Interest revenue (expense) (44,726) 405,926 361,200
Depreciation/amortization expense 1,497,695 216,689 1,714,384
Income tax expense (benefit) 640,470 (361,327) 279,143
Expenditures on furniture, equipment
and computer software 769,630 769,630
Segment profit (loss) 1,748,182 (155,271) 1,592,911
Assets $23,515,062 $20,555,995 $44,071,057
Liabilities $6,213,590 $10,413,052 $16,626,642
1998:
Revenues from external customers $ 8,711,788 $48,166,482 $56,878,270
Revenue from intercompany 345,184 345,184
Interest revenue 65,587 438,828 504,415
Depreciation/amortization expense 391,902 153,051 544,953
Income tax expense (benefit) 1,639,030 (1,209,682) 429,348
Expenditures on furniture, equipment
and computer software 181,330 628,702 810,032
Segment profit (loss) 2,837,133 (2,651,840) 185,293
Assets $20,522,701 $12,374,475 $32,897,176
Liabilities $5,328,643 $4,267,933 $9,596,576
1997:
Revenues from external customers 6,545,852 20,035,270 26,581,122
Revenue from intercompany 86,918 86,918
Interest revenue 131,520 379,737 511,257
Depreciation/amortization expense 265,570 51,926 317,496
Income tax expense (benefit) 537,730 (33,724) 504,006
Expenditures on furniture, equipment
and computer software 508,715 - 508,715
Segment profit (loss) 2,601,835 (2,336,464) 265,371
Assets $13,761,732 $12,817,130 $26,578,862
Liabilities $1,466,574 $7,531,774 $8,998,348
30
31
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 5 #2
1999 1998 1997
---- ----- ----
Revenues:
Total revenues for reportable segments
and consolidated revenues $92,097,975 $56,878,270 $ 26,581,122
=========== =========== ===========
Profit or loss:
Total profit or loss for reportable
segments $1,592,911 $185,293 $ 265,371
Adjustment for minority interest in
consolidated statements 67,327 518,258 115,497
---------- -------- --------
Consolidated net income $1,660,238 $703,551 $380,868
========== ======== =========
Assets:
Total assets for reportable segments $44,071,057 $32,897,176 $26,578,862
Elimination of intercompany investment (13,171,522) (11,457,007) (6,667,309)
Elimination of intercompany balances (231,662) (727,771) (648,747)
----------- ----------- ----------
Consolidated total assets $30,667,873 $20,712,398 $19,262,806
========== =========== ===========
Liabilities:
Total liabilities for reportable
segments $16,626,642 $9,596,576 $8,998,348
Elimination of intercompany balances (231,662) (727,771) (648,747)
----------- --------- -----------
Consolidated total liabilities $16,394,980 $8,868,805 $8,349,601
=========== ========== ==========
31
32
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Substantially all of the revenues from external customers are derived from
within the state of Washington.
Revenues from one customer of the Plan represent approximately $24,500,000
and $19,800,000 of the Company's consolidated revenues for 1999 and 1998,
respectively.
NOTE 7: FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amount of cash and cash equivalents, service fees and premiums
receivable, accounts payable, notes payable, and due to provider
organizations approximates fair value because of the short maturity of
these instruments.
NOTE 8: RETIREMENT PLAN
The Company has a qualified 401(k) Employee Savings and Profit Sharing Plan
covering all full-time employees. Under the plan, employees can defer up to
12% of eligible compensation. The Company matches 50% of the employee
contribution, up to 6% of the employee's eligible salary. Employees become
fully vested in employee and employer contributions when the contributions are
made. The Company also has the option to make an additional profit sharing
contribution to the plan. Employer contributions to the plan for the years
ended December 31, 1999 and 1998 amounted to $141,117 and $90,768
respectively.
NOTE 9: ACQUISITIONS
Health First Partners and Health Washington contract: Effective July 1, 1997,
the Plan acquired 100% of the stock of Health First Partners, Inc., a health
care services contractor operating in the state of Washington, in which
shareholders of the Company have and interest, by issuing 33,572 shares of
stock. The acquisition has been accounted for as a purchase with a cost of
the net assets acquired of approximately $936,000. The purchase price was
allocated based on the fair value of assets and liabilities at the date of
acquisition as follows: $660,740 working capital and $275,260 goodwill. The
results of operations of Health First Partners, Inc. have been included in the
Company's consolidated financial statements from the date of acquisition. At
the same time, the Plan acquired a large contract from Health Washington,
L.L.C., a limited liability company licensed under the laws of the state of
Washington, in which shareholders of the Network have an interest, by issuing
34,523 shares of common stock. The primary asset acquired through this
acquisition was an employer group health insurance contract and supporting
health care network of providers for which fair value has been determined to
be minimal, accordingly, no amounts have been attributed to this contract in
the accompanying financial statements. The acquisition has been accounted for
as a purchase. The results of operations attributable to the contract have
been included in the Company's consolidated financial statements from the date
of acquisition. As a result of the above transactions, there was a reduction
in the Company's equity as the carrying value of the stock issued exceeded
the fair value of the contract.
The Company retained 75.1% interest in the voting common stock of the Plan
as a result of these acquisitions. In addition, the Company is required to
contribute to the capital of the Plan, a percentage of the Company's
administrative fee revenue for the ten years following July 1, 1997, if any.
No minimum amounts of contributions are required. The Company contributed
$1,714,515 for common stock and additional paid-in-capital on a percentage
of the Company's revenues for the year ended December 31, 1999. The investment
in the Plan is eliminated in consolidation. Prior to December 31, 1998, the
Company contributed $1,159,667 in accordance with the contract based on
expected revenues for the period ended December 31, 1998. The investment in
the Plan is eliminated in consolidation. Subsequent to December 31, 1997,
$630,031 was contributed for common stock and additional paid-in capital on
a percentage of the Company's revenues for the year ended December 31, 1997.
In 1998, three shareholders of the Plan converted a portion of their common
stock to preferred stock that increased to 80% the percentage of share of
the Company in the Plan.
32
33
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Providence Plan Partners PPO: On December 1, 1998, the Company purchased all
of the assets of Providence Plan Partners PPO Business for a purchase price
of $3,500,000 in the form of a note payable to be paid with interest at a rate
of 6% over 18 months. The assets acquired consist of provider contracts
($1,680,000), trade name ($140,000), a noncompetition agreement ($840,000),
computer equipment, and software licenses ($140,000). There is a contingent
payment of $668,000 to be determined based on the revenues received by the
Company from the acquired business during the 12 months after the closing
date. This acquisition was accounted for using the purchase method. Results
operations are included in the financial statements of the Company from the
effective date of the acquisition December 1, 1998.
NOTE 10: NOTES PAYABLE
The Company has an unsecured note payable at December 31, 1999 and 1998,
related to the acquisition of Providence Partners PPO business (note 8)
of $1,612,004 and $2,887,667, respectively. The note is payable in 18
equal monthly installments plus interest of 6%, starting December 1998.
33
34
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 11: RESERVE FOR UNPAID CLAIMS AND CLAIMS ADJUSTMENT EXPENSES
Activity in the reserve for unpaid claims and claims adjustment expenses is
summarized as follows for the years ended December 31:
1999 1998
------- ------
Balance, beginning of year $2,102,364 $ 1,394,107
Incurred related to:
Current year 12,042,521 8,543,200
Prior year (848,750) (339,144)
---------- -----------
Total incurred 11,193,771 8,204,056
Paid related to:
Current year 8,831,908 6,440,836
Prior year 1,253,614 1,054,963
---------- -----------
Total paid 10,085,522 7,495,799
---------- -----------
Balance, end of year $3,210,613 $2,102,364
========== ==========
As a result of changes in estimates of insured events in the prior year for
1999 and 1998, and recovery of duplicate claims payments of approximately
$700,000 in 1999, the provision for unpaid claims and claims adjustment
expenses for 1997 and 1998 decreased because of lower than anticipated losses.
The Company negotiated contracts with two contracted provider organizations
in 1998 that impacted incurred expenses in 1997. Both renegotiated contracts
related to the transfer of medical risk to the Company from contracts where
each provider organization previously held risk. Claims incurred in 1998
include $1,502,904 for the retention of this risk. Claims paid in 1998
that related to 1997 were $905,107.
34
35
FIRST CHOICE HEALTH NETWORK, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 12: REGULATORY MATTERS
The Company is subject to regulation by the Office of Insurance Commissioner
(OIC)in the state of Washington including the requirement to follow statutory
accounting principles (SAP), which differ from accounting principles generally
accepted in the United States of America (GAAP). The OIC also requires that
certain levels of capital be maintained. The State of Washington has adopted a
risk-based capital (RBC) calculation for determining statutory capital
requirements. This methodology became effective for the year ended December
31, 1999. At December 31, 1999, the Company was in compliance with the new
capital requirements.
The primary differences in reporting between the SAP and GAAP result from
goodwill, accounts receivables over 90 days past due, and prepaid expenses
being treated as _non-admitted_ assets under SAP.
The NAIC has developed statutory accounting practices (the codification) which
are expected to constitute the only source of prescribed statutory accounting
practices. The NAIC anticipates the effective date for health-related
organizations to be January 1, 2001. The codification will have no effect on
those financial statements which are in accordance with accounting principles
generally accepted in the United States of America. Statutory-basis
shareholders' equity as filed in the OIC statement was $6,627,243 and
$7,121,270 as of December 31, 1999 and 1998, respectively. Statutory-basis
net loss as filed in the OIC statements was $364,612 and $2,651,839 for the
year ended December 31, 1999 and 1998, respectively.
The Company is subject to regulations which limit dividend payments and
regulate other intercompany transactions. At December 31, 1999 and 1998, the
Company had negative statutory basis earned surplus and therefore must seek
regulatory approval prior to payment. No dividends were paid by the Company
during 1999 or 1998.
NOTE 13: SUBSEQUENT EVENTS
Throughout 1999 and early 2000, the Plan contracted with Cascade Medical Group
(Cascade) for capitated health care services. The Plan did not have insurance
risk for the covered individuals to the extent that Cascade could continue to
pay the Plan for claims paid on their behalf. In March of 2000, Cascade
management dissolved the organization. The dissolution of Cascade does not
affect the financial position or results of operations in 1999 because the
Plan had a payable to Cascade as of December 31, 1999. However, management
believes a loss of between $500,000 and $700,000 will be incurred in 2000 for
claims paid in 2000 for which the Plan does not expect to be reimbursed.
Management is evaluating the financial impact of this event. The ultimate
financial impact of this event will be determined, and the expense will be
recorded, during 2000.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
There were no disagreements with accountants on accounting and
financial disclosure.
35
36
PART III
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16 (a)OF THE EXCHANGE ACT.
The executive officers and directors of First Choice are as follows:
Name Age Position
Gary R. Gannaway 53 President & Chief Executive Officer
David Peel 39 Sr. Vice President _Chief Financial Officer
Ross D. Heyl 46 Sr. Vice President & Chief Marketing Officer
Julie Keeffe 42 Sr. Vice President-Medical Mgmt & Member
Services
Joe Leinonen, M.D. 55 Chief Medical Officer
Paul M. Elliott 59 Director (III)
Andrew Fallat 52 Director (II)
James J. Finley, M.D. 60 Director (III)
Kenneth D. Graham 53 Director (I)
Phillip J. Haas 51 Director (III)
William F. Johnston, M.D. 54 Director (II)
John F. Koster, M.D. 50 Director (III)
R. Dean Martz, M.D. 42 Director (III)
Barbara L. Mauk 54 Director (I)
Richard A. McGee, M.D. 54 Director (I)
Richard H. Peterson 57 Director (I)
Richard E. Rust, M.D. 73 Director (I)
Robert H. Smith,III 55 Director (II)
Richard Stubbs, M.D., M.B.A. 54 Director (III)
Clyde D. Walker 44 Director (II)
(I) Term Expires in 2000
(II) Term Expires in 2001
(III) Term Expires in 2002
Gary R. Gannaway assumed the position of President and Chief Executive Officer
of First Choice in January 1996. Mr. Gannaway has an extensive background in
the development and marketing of managed health care and creating innovative
partnerships between physicians and hospitals. Mr. Gannaway has served as
Principal and President of Dauner, Gannaway and Associates, a managed care
consulting and management company, with offices in Phoenix, Arizona and
Wichita, Kansas, from 1987 to 1995. During the same period he has served as
President and CEO of Premier healthcare of Arizona, a statewide HMO; as
President of the Arizona Healthcare Alliance of Phoenix, which developed and
marketed seven area PHOs; and Vice President for western U.S. managed care
operations at Aetna Health Plans.
David Peel, Senior Vice President, Chief Financial Officer, and Treasurer
joined First Choice Health Network in July 1996. He served as the Vice
President of Product Development and Underwriting until assuming the position
of Chief Financial Officer in February 1997. Mr. Peel served as Vice
President and Chief Financial Officer for Premier Healthcare of Arizona from
1995 to 1996 and as Associate Director, Provider Contracting for Samaritan
Health Plan in Phoenix, Arizona from 1987 to 1995.
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Ross D. Heyl, Senior Vice President, Chief Marketing Officer, joined First
Choice in 1985. From 1982 to 1985, Mr. Heyl was an account executive for
Rollins Burdick Hunter of Washington; and from 1980 to 1982, he was employed
by Penn Mutual Life Insurance Company in San Francisco and Seattle. Mr. Heyl
is a licensed health insurance agent in the state of Washington.
Julie Keeffe, Senior Vice President, Medical Management and Member Services,
joined First Choice in May 1997. Julie has worked in health care since 1979.
Prior to coming to First Choice Health, she provided health care management
consulting services for Milliman and Robertson, Inc, where she implemented
successful strategies for the medical management systems of health plans and
delivery systems. Earlier, Julie was Director of Utilization and Quality
Management for the Virginia Mason Health Plan for nine years. Her background
includes indemnity, PPO, and HMO utilization management and analysis. Her
clinical experience includes several years of inpatient, outpatient, and
emergency care nursing. Julie's expertise is in designing medical management
that meets the needs of the provider as well as the payer. Her areas of
interest include utilization and quality management, specialty referral.
Joe Leinonen, M.D., Chief Medical Officer, joined First Choice Health in April
1998 although he was also one of the original developers of First Choice
Health in 1984. He brings 18 years of managed care experience as a physician
executive in a variety of positions with national, regional and local
responsibilities. Dr. Leinonen was born and raised in Seattle, obtained his
undergraduate degree from Stanford University and his medical degree from the
University of Washington. He received his hospital training at Virginia Mason
and served on the medical staff of Northwest Hospital for 17 years of which 2
years were served as Chief of Family Practice. He has also served as General
Manager and Medical Director for Equicor's operations in Washington, Executive
Director and Medical Director for CIGNA's Managed Care Operations for the
Northwest Region and was the First President and CEO for Health Washington.
Paul M. Elliott, CPA
Mr. Elliott, recently retired, was formerly Senior Vice President of Finance
and Operations for the Alpac Corporation. From August 1969 to August 1981, he
was Vice President-Controller for Airborne Freight Corporation in Seattle. He
is a member of the Board of Visitors for Central Washington University, on the
Board of the Boys & Girls Clubs of South Snohomish County and a member of
Rotary Club International.
Andrew Fallat, FACHE
Mr. Fallat has served as the Chief Executive Officer of Evergreen Healthcare
since 1981. Evergreen Healthcare is a provider of a broad range of services
in King and Snohomish Counties including a 149 bed acute care hospital, 17 bed
skilled nursing facility, a free standing surgical center, Puget Sound's
largest and most comprehensive hospital based hospice and home health program,
mobile paramedic services and a broad range of other community-based health
assistance programs. He is board member on the Foundation for Health Care
Quality and is a Fellow in the American College of Healthcare Executives. Mr.
Fallat holds a Masters degree in Healthcare Administration from George
Washington University and a B.S. in Zoology from Duke University.
James G. Finley, M.D.
Dr. Finley joined The Everett Clinic in 1973 as a gastroenterologist. A
native of Tennessee, he received his B.S. degree from Rhodes College in
Memphis, Tennessee. His medical degree was received from Vanderbilt in 1966
and internship and first year Internal Medicine residency were also completed
at Vanderbilt. A second year of Internal Medicine and two years of
gastroenterology fellowship were completed at the University of Washington,
followed by two years in San Diego with the United States Navy Hospital as a
gastroenterologist.
Dr. Finley is a Diplomat of the American Board of Internal Medicine and the
American Board of Gastroenterology since 1972. In addition to his practice of
Gastroenterolgy, he has served as Medical Director of The Everett Clinic since
1983.
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Since January 1998, this position now occupies 100% of his professional time.
He serves in board positions with Medical Partners Northwest and Washington
Medical Group Alliance.
Kenneth D. Graham, FACHE
Mr. Graham has served as President and CEO at Overlake Hospital Medical Center
since 1994, and has overseen significant changes in the organization. The
hospital has: developed a new facilities master plan; introduced operational
controls that have significantly improved hospital efficiency; established
contracts with more than 25 managed care companies and implemented new
programs like an adolescent psychiatric care program; a Multiple Sclerosis
Center; a Level III Emergency Center and a Women's Hospital. He serves as
Chair of the Overlake Venture Center and also the Chair of Dr. Goodwell.com;
an Internet based virtual clinic service.
Mr. Graham also currently serves as the voluntary Executive Director of
RotaCare International; an organization dedicated to providing free clinics in
association with local Rotary clubs. RotaCare serves homeless, migrant
workers, new immigrants and the uninsured or underinsured.
Mr. Graham is committed to community involvement in local, regional and
national organizations including the Bellevue Chamber of Commerce and the
Rotary Club of Bellevue. He previously served as a member or advisor of more
than a dozen hospitals or health care organization boards.
He earned a B.S. degree in Public Health and a Masters degree in Public Health
Hospital Administration, both from UCLA. He is a Fellow in the American
College of Health Care Executives and is the College's Regent for the State of
Washington.
Phillip J. Haas
Mr. Haas is Administrator-Managed Care of Valley Medical Center, a 304-bed
acute care public district hospital, with responsibility for negotiating,
implementing, and administering contracts and joint ventures linking payers
with the hospital, its clinic network, individual practice associations, and
medical staff. Since joining Valley Medical Center in November 1993, he
managed the development of a clinic network including seven primary care
clinics, a family practice residency clinic, a behavioral health clinic, and
two occupational health clinics.
From 1988 through 1993, Mr. Haas was Executive Director of Virginia Mason
Health Plan, an HMO serving over 40,000 members. From 1985 to 1988, he was
President of First Choice Health Network, a preferred provider organization.
His prior experiences include serving as Senior Vice President of the Illinois
Hospital Association, president of a hospital shared services organization,
and administrative director of a medical school-based prepaid group practice
plan. He is a Fellow of the American College of Healthcare Executives and a
Director of First Choice Health Network, Inc. He received a M.B.A. degree
from the University of Chicago and a B.A. degree from Northwestern University
in Evanston, Illinois.
William F. Johnston, M.D., F.A.C.E.P.
Dr. Johnston is the Medical Director of Emergency Services at Northwest
Hospital. Besides the supervision of the physicians who deliver emergency
medical care at the hospital, his position provides an interface between
administration, nursing, the medical staff and other hospital departments to
help support the smooth delivery of emergency medical services at the
hospital. He serves on the Executive Committee of the hospital as Chairman of
the Department of Emergency Medicine. Bill also practices as an emergency
physician and helps teach Advanced Cardiac Life Support and Advanced Trauma
Life Support Courses. He received his M.D., M.B.A. and M.S.E.E.
Bioengineering) degrees from the University of Washington.
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John Koster, M.D.
John Koster, M.D. joined Sisters of Providence Health System in April 1997 as
vice president of Clinical and Physician Services. In May of 1998 he was
promoted to senior vice president in the Office of the CEO and chief executive
of the Washington region. The Sisters of Providence Health System is
comprised of 20 hospitals, 9 freestanding long-term care facilities, physician
practices, managed care plans and other health and social services in the
states of Alaska, Washington, Oregon and California.
Prior to joining Sisters of Providence, Dr. Koster was senior vice president
of Targeted Member Services at VHA, a nationwide network of leading community-
owned healthcare organizations and physicians. He focused on business
development and educational needs of specific segments such as physician group
practices and HMOs. He has served as an advisor to physicians and management
staff in healthcare organizations in every part of the country.
Dr. Koster also served as vice president of Presbyterian Healthcare Services
in Albuquerque, New Mexico, an integrated health care financing and delivery
system serving 14 communities in New Mexico and Colorado. Dr. Koster was
senior vice president of Rocky Mountain Healthcare Corporation, which managed
BCBS plans of Colorado, New Mexico and Nevada. Board certified in Internal
medicine, Dr. Koster was in private practice with a multispecialty group of
primary care physicians from 1980 until 1988.
Dr. Koster graduated from New Mexico Tech with a bachelor's degree in biology.
He earned his medical degree from the University of New Mexico. His
postgraduate studies include Internship at Providence Hospital in Portland,
Oregon and a residency in Internal medicine at the University of New Mexico
Medical School.
R. Dean Martz, M.D.
Dr. Martz is a practicing neurosurgeon in Spokane since 1990. He is an active
staff member of both Sacred Heart Medical and Deaconess Medical Centers in
Spokane. He is a member of the American Medical Association, American
Association of Neurological Surgeons, and was certified by the American Board
of Neurological Surgeons in 1993. He received his medical degree from Case
Western Reserve University in Cleveland, Ohio. He trained neurological
surgery at the University of Michigan Hospitals in Ann Arbor.
Barbara L. Mauk
Ms. Mauk is the Director, Human Resources for Valley Medical Center, Renton,
Washington. Previously, she was the Managing Partner of ClearPoint, an
employee benefits brokerage and consulting firm. She has previously served as
the Chief Operating Officer of The Reppond Company; Vice President Human
Resources for KIRO Broadcasting, Inc.; and Personnel Director for Northwest
Hospital. She is active with Bellevue Rotary, the American Compensation
Association, Society of Human Resource Management, and the Employee Benefits
Planning Association.
Richard A. McGee, M.D., F.A.C.P.
Dr. McGee has a full-time private medical oncology practice and is President
of Washington Cancer Centers, the largest medical oncology group in Washington
State. He was previously the Medical Director of Stevens Healthcare, a Public
Hospital District, and is a consultant in Medical Staff Affairs to other area
hospitals. He is a diplomat of the American Board of Internal Medicine as
well as the specialty Boards of both the American Board of Hematology and the
American Board of Medical Oncology. He is President of the Washington State
Medical Oncology Society. He is Chairman of the Quality Assurance Committee
of Stevens Health Network, a local PHO. He is a Clinical Professor of
Medicine at the University of Washington and is a Fellow of the American
College of Physicians. He is a member of the Clinical Practice Committee of
the American Society of Clinical Oncology and Assistant Editor for Clinical
Practice on their Web site. In the past, he has served as Chief of the
Medical Staff
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and Chairman of several hospital committees. He was Vice-Chairman of the
Board of Directors of Snohomish County Physicians Corporation, a Blue Shield
company. His undergraduate studies were at John Carroll University, his
graduate studies at Johns Hopkins University Medical School and his post
graduate work was done at the University of Washington Hospital and the
National Institutes of Health in Bethesda, Maryland.
Richard H. Peterson
Mr. Peterson is President and Chief Executive Officer of Swedish Health
Services, a non-profit organization comprised of a 163-bed community hospital
on the Ballard campus and a 697-bed tertiary care hospital on the First Hill
campus. Mr. Peterson previously served as President and Chief Executive
Officer of Fairview Riverside Medical Center in Minneapolis, Minnesota. In
all, his career in health system administration has spanned more than 25
years. A native of Minnesota, Mr. Peterson holds a master's degree in
hospital and health care administration from the University of Minnesota and a
B.A. from Macalester College in St. Paul, Minnesota.
Richard E. Rust, M.D.
Dr. Rust is a retired family practitioner. Dr. Rust has served on the First
Choice Health Network Board of Directors since 1985. Additional activities
have included serving as Trustee of the Washington Academy of Family
Physicians; Trustee, King County Medical Society; Trustee and Vice Chairman of
King County Medical Blue Shield; and President of King County Academy of
Family Physicians. He was Chief of Medical Staff of Northwest Hospital in
1965.
Robert H. Smith, III
Mr. Smith is Executive Vice President and Chief Financial Officer of Good
Samaritan Community Healthcare. Mr. Smith holds an M.B.A. from San Diego
State University, is a certified public accountant (CPA) and a certified
healthcare executive (CHE). Previously, Mr. Smith served as Chief Financial
Officer for Roseville Community Hospital near Sacramento, Merle West Medical
Center in Klamath Falls, Oregon and was a senior accountant with Ernst & Young
in San Diego. He has served actively with the Healthcare Financial Management
Association in various posts, including chapter president, and has recently
served as treasurer of the Board of Directors of several non-profit
organizations.
Richard Stubbs, M.D., M.B.A
Dr. Stubbs is the Vice President, Medical Affairs and the senior physician
manager in the MultiCare Health System with direct responsibility for medical
staff relationships and the departments of Medical Staff Services, Family
Practice Residency Education, Quality Management, Medical Records,
Transcription, Pharmacy, Cancer Services, Perinatal and Neonatal Services.
Dr. Stubbs' position represents the key link between MultiCare Health Systems
and the physician community in the Pierce and South King County areas. Dr.
Stubbs previously served as Medical Director, McKay-Dee Hospital Center in
Ogden, Utah, Medical Director for Blue Cross and Blue Shield of Virginia, in
Richmond, Virginia, and Medical Director, IPA and Group Plans, FHP in Southern
California. Dr. Stubbs received his undergraduate and medical degrees from
the University of Arkansas and his M.B.A. from the University of Phoenix. He
is Fellow of the American Board of Family Practice and a Fellow of the
American College of Physician Executives where he currently serves on the
Council of Fellows. He teaches Medical Ethics for the Tulane University
Masters of Medical Management program.
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Clyde D. Walker
Mr. Walker is Vice President, Human Resources of PRIMEX Aerospace and
Electronics Division and PRIMEX Aerospace Company in Redmond, WA. Mr. Walker
has over ten years experience in the human resources field and over twenty
years of business administration and management experience. Since 1977, Mr.
Walker has held positions of increasing levels of responsibility in areas
including subcontract administration, contract administration, pricing and
human resources. He received an M.B.A. degree from City University in Seattle
and a B.A. degree in business administration from the University of Washington.
Mr. Walker recently served as Chairman of the Board of Directors of Big
Brothers/Big Sisters of King County and led both boards through the
combination of the two independent agencies. He remains on the resultant
combined Board and also serves on the Board of Directors of First Choice
Health Network.
The Company's Board of Directors proposed an amendment of the Bylaws to modify
the membership of the Board, and on June 29, 1999, the shareholders approved
the changes unanimously.
Classification of Directors. - The management of this corporation shall be
vested in a Board of Directors. Effective from June 29, 1999, the Board of
Directors shall consist of fifteen individuals: Six (6) directors (the "Class
A Directors") shall be physicians representing Class A shareholders. Six (6)
directors (the "Class B Directors") shall represent Class B shareholders and
any public hospitals that have made capital contributions to the corporation
("participating hospitals"). Three (3) directors (the "Class C Directors")
shall represent employers other than health care providers and/or be consumers
of health care services.
The Board shall be divided into three categories as follows:
Category I: Two Class A Directors, two Class B Directors, and one Class
C Director.
Category II: Two Class A Directors, two Class B Directors, and one Class
C Director.
Category III: Two Class A Directors, two Class B Directors, and one Class
C Director.
Directors may be removed, with or without cause, by an affirmative vote of the
holders of at least 75% of the outstanding shares of each class of Common
Stock, and the number, classification, qualifications and terms of directors
may not be altered except by such class voting.
A quorum of six (6) directors is generally required to transact business at a
meeting of the Board, except that a quorum of eight (8) directors is required
for determination of the admission and expulsion of shareholders and "members"
i.e., PPO physicians), the fees charged for and/or paid to health care
providers, and any issues reviewed by the Board regarding the limitation or
termination of health care provider contracts.
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ITEM 11. EXECUTIVE COMPENSATION
The following table sets forth a summary of the compensation earned by the
Company's President and Chief Executive Officer and each other executive
officer who earned in excess of $100,000 in each of the last three fiscal
years:
Name and Principal Annual Compensation All Other
Position Year Salary Bonus Compensation
- ----------------------- ---- ------ ----- ------------
Gary Gannaway (1) 99 $238,218 $100,000 $7,484
President and CEO 98 $226,518 $126,000
97 $221,589 $126,000
Ross Heyl 99 $112,879 $15,930 $5,208
Senior Vice President, Marketing 98 $95,108 $18,000
97 $93,467 $18,000
Julie Keeffe, R.N. 99 $143,205 $11,820 $475
Senior Vice President, Medical 98 $117,500 $5,300
Management & Member Services
Joe Leinonen, M.D. 99 $195,539 $12,610 $6,250
Chief Medical Officer 98 $139,500
David Peel 99 $143,637 $22,250 $6,250
Senior Vice President, Finance 98 $122,497 $22,900
97 $121,384 $22,900
Barbara L. Mauk, the Chairman of the Board, has been compensated $500 per
month (inclusive of attendance at regular Board meeting) and an additional
$150 per hour for committee meetings since July 1, 1994. All other directors
have received $75 per hour for attendance at Board and committee meetings
since February 1, 1995. The Chairman and directors compensation remained the
same through December 31, 1999.
EMPLOYMENT AGREEMENTS
On October 19, 1995, Gary R. Gannaway entered into a five year employment
agreement as the Company's President and Chief Executive Officer, filling the
vacancy created by the resignation in April 1995 of James G. Stumpfel. Mr.
Gannaway commenced employment on January 16, 1996. Under his employment
agreement with First Choice, Mr. Gannaway will be employed for a five-year
term expiring January 15, 2001 and will receive an annual base salary of
$200,000 for 1996, subject to a minimum 5% annual increase, and will be
allowed $6,000 per annum for automobile expenses. The Company has also agreed
to provide Mr. Gannaway with group life insurance coverage in a dollar amount
equal to twice his annual base salary as well as comprehensive medical, dental
and disability insurance coverage.
In each of the years of the employment agreement subsequent to the initial
year, Mr. Gannaway will be eligible to receive a bonus of up to 60% of his
annual base salary, based on achieving performance criteria established by the
Board of Directors.
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At December 31, 1997, the respective employment agreements of Mr. Gannaway,
and Mr. Heyl provided that in the event the Company merges with, acquires or
is sold to another entity or business and it can reasonably be determined that
Mr. Gannaway or Mr. Heyl, as the case may be, is no longer being authorized to
perform substantially the duties of President and Chief Executive Officer
(with respect to Mr. Gannaway), or Vice President, Marketing (with respect to
Mr. Heyl), Mr. Gannaway or Mr. Heyl, as the case may be, may elect to
terminate his respective employment, in which event he shall be entitled to
the same severance pay and benefits that he would otherwise have been entitled
to following a termination without cause, for a period of 12 months (with
respect to Mr. Gannaway) or six months (with respect to Mr. Heyl) or until the
applicable person secures other employment, whichever occurs first.
At December 31, 1997, the respective employment agreements provided that Mr.
Gannaway may terminate his employment on 90 days' prior written notice, and
Mr. Heyl on 30 days' prior written notice, and that Mr. Gannaway, and Mr. Heyl
will keep information about the Company confidential and will not compete with
the Company by accepting employment or otherwise becoming associated with any
other managed care organization owned or operated in any geographic areas
served by the Company, for a period of 12 months ( with respect to Mr.
Gannaway) and nine months (with respect and Mr. Heyl) following their
respective voluntary termination's of employment. Mr. Heyl's employment
agreements at December 31, 1996 also provided that if, at the expiration of
the term of their respective contracts, the Company offers a new contracts Mr.
Heyl the terms of which are no less favorable than the terms of his present
contract, and Mr. Heyl do not accept such offer, then Mr. Heyl will not accept
employment by or be associated with any other managed care organization owned
and operated in geographic areas served by the Company for a period of 12
months following the expiration of his present contract.
At December 31, 1997, the respective employment agreements of Mr. Heyl also
provided that the Company will indemnify Mr. Heyl against any liabilities
incurred by either in the conduct of his individual employment other than
those as to which they are adjudged to have been liable for misconduct in the
performance of his respective duties, as such standards of conduct are set
forth in the Company's Restated Articles of Incorporation and Bylaws. The
Company has also agreed to obtain officers' and directors' liability
insurance, subject to its reasonable availability, providing coverage for Mr.
Heyl for any liability incurred by him arising out of his position, whether or
not the Company would otherwise be required to indemnify him.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth as of March 31, 1998, information with respect
to the beneficial ownership of the Company's Class A Common Stock and Class B
Common Stock by (i) each person known by the Company to own beneficially more
than five percent of either the Class A Common Stock or Class B Common Stock,
(ii) each of the persons named in the Summary Compensation Table set forth in
"Item 10. Executive Compensation" of this Part I of this Annual Report, (iii)
each director, and (iv) all directors and executive officers as a group,
together with their percentage ownership of each such class of Common Stock.
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Shares Owned Percent of
Name Class A Class B Class A Class B
- ------ ------- ------- ------- -------
Northwest Hospital - 5,800 - 14.3%
1550 North 155th
Seattle, WA 98133
Providence-General - 5,800 - 14.3%
14th and Colby
Everett, WA 98201
Good Samaritan - 5,800 - 14.3%
Community Healthcare
407-14th Avenue SE
Puyallup, WA 98371
Multicare Medical Center - 5,800 - 14.3%
409 South J
Tacoma, WA 98405
Empire Health Services - 5,800 - 14.3%
80 Fifth Avenue
Spokane, WA 99210
Swedish Medical Center - 5,800 - 14.3%
747 Broadway
Seattle, WA 98114
Overlake Hospital Medical Center - 5,800 - 14.3%
1035 116th Avenue NE
Bellevue, WA 98004
Paul M. Elliott - - - -
Andrew Fallat - - - -
William F. Johnston, M.D. 1 - * -
Phillip J. Haas - - - -
Barbara L. Mauk - - - -
Richard A. McGee, M.D. 1 - * -
Richard H. Peterson - - - -
Richard E. Rust, M.D. 1 - * -
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Shares Owned Percent of
Name Class A Class B Class A Class B
-------- ------- ------- ------- -------
Richard Stubbs, M.D., M.B.A. - - - -
Robert H. Smith - - - -
Clyde D. Walker - - - -
Kenneth D. Graham - - - -
James J. Finley, M.D. - - - -
John Koster, M.D. - - - -
R. Dean Martz, M.D - - - -
All directors and executive
officers as a group (3 persons) 3 40,600 * 100%
Four additional hospitals in the state of Washington (Evergreen Hospital
Medical Center, 12040 Northeast 128th Street, Kirkland, WA 98034, Valley
Medical Center, 400 S. 43rd Street, Renton WA 98055, Stevens Memorial
Hospital, 21601 76th Avenue, Edmonds, WA 98026, and University of Washington
Medical Center, 1959 Northeast Pacific Street, Seattle, WA 98195) are not
shareholders of the Company, but have made capital contributions to the
Company in consideration of contractual rights substantially similar to the
rights to which each holder of Class B Common Stock is entitled, including
liquidation and dividend rights, but excluding voting rights. See "Item 8.
Description of Securities."
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
In December 1996, Overlake Hospital Medical Center, a Washington non-profit
corporation, purchased 5,800 shares of the Company's Class B Common Stock at
a purchase price of $258.62 per share, or an aggregate of $1,500,000. On
December 19, 1996, $1,000,000 was received by the Company and accordance with
the terms of the contract $250,000 is to be paid in December 1997 and $250,000
in December 1998. The Company received the final payment in December 1998.
Pursuant to their respective health care facility service contracts with The
Network, the holders of the Class B Common Stock and the Hospital Participants
paid the following aggregate fee to First Choice in 1984: Northwest Hospital:
$81,159; Providence-General: $150,174; Good Samaritan Community Healthcare:
$136,808; Multicare Medical Center: $207,271; Empire Health Services:
$138,525; Evergreen General Hospital: $100,997; Valley Medical Center:
$134,144; and Stevens Memorial Hospital: $88,093; Swedish Hospital:
$265,861; and Overlake Hospital Medical Center: $ 0.
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PART IV
Item 14. EXHIBITS, FINANCIAL STATEMENTS SCHEDULES, AND REPORTS ON FORM 8-K.
(a) Exhibits
2.1 Copy of Registrant's Restated Articles of
Incorporation.*
2.2 Copy of Registrant's By-Laws.*
2.3 Copy of Contribution, Merger and Asset Purchase Agreement dated June
2, 1997
2.4 Purchase agreement dated as November 12, 1998, among First Choice
Health Network, Inc. and Providence Plan Partners.
10.1 Form of Agreement between Registrant and
Physician participating in PPO. **
10.2 Form of Health Care Facility Service Contract
between Registrant and Hospital participating in PPO.*
10.2a Copy of Agreements dated May 1, 1985, and May 17, 1993,
respectively, with Northwest Hospital.*
10.2b Copy of Agreement dated May 1, 1985, with Providence-
General (formerly General Hospital of Everett).*
10.2c Copy of Agreement dated May 1, 1985, and amendment dated
July 1, 1993, with Good Samaritan Community Hospital.*
10.2d Copy of Agreement dated March 10, 1986, with Multicare
Medical Center.*
10.2e Copy of Addendum to Agreement dated April 30, 1992, with
Empire Health Services.*
10.2f Copy of Agreement dated September 6, 1985, and addendum
dated June 17, 1992, with Evergreen General Hospital .*
10.2g Copy of Agreement dated November 19, 1993, with General
Hospital of Everett.*
10.2h Copy of Agreement dated December 9, 1991, and addendum dated
November 1, 1992 with Stevens Memorial Hospital .*
10.3 Form of Agreement between Registrant and Health Care
Provider other than Hospitals and Physicians participating in PPO.*
10.4 Form of Agreement between Registrant and Third Party Administrator.*
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10.5 Form of Agreement between Registrant and Insurance Company .*
10.6 Copy of Participation Agreement dated March 27, 1985, between
Registrant and King County Public Hospital District No.2 ( Evergreen
General Hospital ).*
10.7 Copy of Participation Agreement dated March 26, 1985, between
Registrant and Valley Medical Center.*
10.8 Copy of Participation Agreement dated December 19, 1991, between
Registrant and Public Hospital District No.2 of Snohomish County
(Stevens Memorial Hospital) and related Promissory Note in the
aggregate principal amount of $ 566,000.*
10.9a Copy of Promissory Note dated June 10, 1991, in aggregate principal
amount of $453,000 issued by Empire Health Services.*
10.9b Copy of Subscription Agreement dated July 25, 1991, between
Registrant and Empire Health Services.*
10.9c Copy of Stock Pledge Agreement dated July 25, 1991, between
Registrant and Empire Health Services.*
10.10 Copy of Settlement Agreement effective December 16, 1993, among
the Attorney General of the State of Washington, the Sisters of
Providence in Washington and General Hospital Medical Center .*
10.11 Copy of Employment Agreement dated September 1, 1993, as amended,
between Registrant and Clayton S. Field.*
10.12 Copy of Employment Agreement dated January 17, 1994, between
Registrant and James G. Stumpfel, and related Promissory Note dated
March 18, 1994, in the aggregate principal amount of $18,500.*
10.13a Copy of Lease dated December 5, 1988, between Registrant and
Martin Selig.*
10.13b Copy of Lease Amendments date April 5, 1990, May 29, 1992,
December 2, 1992, and December 20, 1993, respectively, each
between Registrant and Martin Selig.*
10.14 Copy of $300,000 Line of Credit dated June 13, 1991, from
Seafirst Bank.*
10.15 Copy of acquisition agreement dated February 1, 1995, between
Registrant and Pacific Health Systems, Inc.
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10.16 Copy of Employment Agreement dated March 1, 1994, between
Registrant and Randolph R. Barker.**
10.17 Copy of Employment Agreement dated October 19, 1995 between
Registrant and Gary R. Gannaway.**
10.18 Copy of Registrant's Amended By-Laws dated June 29, 1995.
10.19 Copy of Subscription Agreement dated July 16, 1996, between
Registrant and Swedish Medical Center.
10.20 Copy of Agreement dated April 22, 1996 between Registrant and
Olympic Health Management Systems, Inc. Production Line
Management - Medicare Select.
10.20a Copy of Agreement dated April 22, 1996 between Registrant and
Olympic Health Management Systems, Inc. for Administrative
Agreement.
10.20b Copy of Agreement dated April 22, 1996 between Registrant and
Olympic Health Management Systems, Inc. for Independent Agent
Agreement.
10.20c Copy of Agreement dated April 22, 1996 between Registrant and
Olympic Health Management Systems, Inc. for Supervising Agent
Addendum to Independent Agent Agreement.
10.21 Copy of Subscription Agreement dated July 16,1996, between
Registrant and Overlake Hospital Medical Center.
10.22 Copy of Employment Agreement dated March 1, 1994 between
Registrant and Mr. Ross D. Heyl.**
10.23 Copy of Participation Agreement dated December 20, 1999, between
Registrant and University of Washington Medical Center and related
Promissory Note in the aggregate principal amount of $ 1,260,000.*
16 Letter of change in certifying accountant (b)
* Filed as same numbered Exhibit in Registrant's Registration Statement
on Form 10-SB.
** Denotes a management contract or compensatory plan or arrangement
required to be filed as an exhibit to this Annual Report on Form 10K-SB.
(b) Reports on Form 8-K.
16 Report dated December 30, 1999. Participation Agreement of University
of Washington Medical Center.
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SIGNATURES
In accordance with Section 13 or 15 (d) of the Exchange Act, the Registrant
caused this report to be signed on its behalf by the undersigned, thereunto
duly authorized, on the 14th day of April 2000.
FIRST CHOICE HEALTH NETWORK, INC.
By: /s/DAVID PEEL
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DAVID PEEL
Chief Financial Officer
In accordance with the 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 on April 14, 2000.
SIGNATURE TITLE
--------- -------
/ s / GARY R. GANNAWAY Principal Executive Officer
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GARY R. GANNAWAY
/ s / DAVID PEEL Principal Financial Officer
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DAVID PEEL
/ s / WILLIAM F. JOHNSTON Director
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WILLIAM F. JOHNSTON
/ s / PAUL M. ELLIOTT Director
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PAUL M. ELLIOTT
/ s / ANDREW FALLAT Director
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ANDREW FALLAT
/ s / RICHARD STUBBS Director
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RICHARD STUBBS
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/ s / PHILLIP J. HAAS Director
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PHILLIP J. HAAS
/ s / BARBARA L. MAUK Director
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BARBARA L. MAUK
/ s / RICHARD A. MCGEE, M.D. Director
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RICHARD A. MCGEE, M.D.
/ s / RICHARD H. PETERSON Director
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RICHARD H. PETERSON
/ s / RICHARD E. RUST, M.D. Director
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RICHARD E. RUST, M.D.
/ s / ROBERT H. SMITH, III Director
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ROBERT H. SMITH, III
/ s / CLYDE D. WALKER Director
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CLYDE D. WALKER
/ s / KENNETH D. GRAHAM Director
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KENNETH D. GRAHAM
/ s / JAMES J. FINLEY Director
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JAMES J. FINLEY, M.D.
/ s / JOHN KOSTER Director
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JOHN KOSTER, M.D.
/ s / R. DEAN MARTZ Director
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R. DEAN MARTZ, M.D.
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