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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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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 JULY 2, 2004
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ______ TO ______
COMMISSION FILE NUMBER 0-19952
CHRONIMED INC.
(Exact name of registrant as specified in its charter)
A MINNESOTA CORPORATION IRS EMPLOYER IDENTIFICATION
NO. 41-1515691
10900 RED CIRCLE DRIVE
MINNETONKA, MINNESOTA 55343
TELEPHONE NUMBER (952) 979-3600
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
None
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
Common Stock, $.01 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-K is not contained herein, and will not be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-K
or any amendment to this Form 10-K. [X]
Indicate by checkmark whether the registrant is an accelerated filer
(as defined in Exchange Act Rule 12b-2). Yes [X] No [ ].
The aggregate market value of the voting and non-voting common
equity of Chronimed Inc. held by non-affiliates as of close of business on
December 26, 2003, was approximately $107 million based on the closing price of
$8.44 per share reported on the NASDAQ National Market System. The number of
shares of Common Stock outstanding as of December 26, 2003, was 12,680,595.
The number of shares of Common Stock outstanding as of August 31,
2004, was 12,822,940.
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PART I
FORWARD-LOOKING STATEMENTS
This report contains forward-looking statements, within the meaning
of the Private Securities Litigation Reform Act of 1995, that involve
substantial risks and uncertainties. Forward-looking statements relate to
expectations, beliefs, future plans and strategies, anticipated events, or
trends and similar expressions concerning matters that are not historical facts
or that depend upon future events. In some cases you can identify these
forward-looking statements by terms such as "may," "will," "should," "could,"
"would," "expect," "plan," "anticipate," "believe," "estimate," "project,"
"predict," "potential," and similar expressions. You should read statements that
contain these words carefully for the following reasons:
- the statements discuss our future expectations;
- the statements contain projections of our future earnings or of our
financial condition; and
- the statements state other forward-looking information.
It is important to communicate our expectations to our investors.
There may be events in the future, however, that we are not accurately able to
predict or over which we have no control. The risk factors noted in Exhibit 99.1
to this report, as well as any cautionary language in this report, provide
examples of risks, uncertainties and events that may cause our actual results to
differ materially from expectations.
Before you invest in our common stock, you should be aware that the
occurrence of any of the events described in the risk factors, elsewhere in this
report, and other events that we have not predicted or assessed could have a
material adverse effect on our earnings, financial condition, and business. In
such case, the trading price of our common stock could decline, and you may lose
all or part of your investment.
ITEM 1. BUSINESS
GENERAL
Chronimed Inc. ("Chronimed" or the "Company"), a specialty pharmacy
services provider, distributes prescription drugs, coordinates customer
benefits, and provides specialized therapy management services for people with
certain health conditions, including HIV/AIDS, organ transplants, and conditions
treated with biotech injectable medications. We work with patients, physicians
and other health care providers, pharmaceutical manufacturers, health plans and
insurers, and government agencies to improve clinical and economic outcomes.
We distribute prescription drugs nationally through our Chronimed
mail service and our StatScript Pharmacy retail stores. All sales are attributed
to and all assets are located in the United States.
Our specialty medications are expensive (ranging from $3,000 to
$25,000 per individual per year, with some up to $150,000 per year), often need
refrigerated packaging, may require overnight delivery, and are usually part of
a complex treatment regimen. These are all reasons these medications are not
routinely stocked in traditional mail and retail pharmacies.
Our services are most effective for individuals who:
- have conditions that are generally not being served by
traditional pharmacies because their conditions occur in less
than one percent of the nation's population;
- require high-cost, complex medications that are not always
available through traditional mail and retail pharmacies and
the majority of which must be taken for the rest of the
patient's life;
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- require treatment by pharmacists with advanced knowledge about
the patient's condition;
- require a significant amount of self-management and ongoing
education and where patient compliance is critical for
improving clinical and economic outcomes; and
- have complex reimbursement characteristics requiring payment
submissions to primary, secondary and tertiary payors. We
coordinate the benefits of our customers in order to simplify
their lives and reduce the out of pocket expenses they must
fund while payors process their reimbursement paperwork.
Our key relationships are with:
- Patients: We provide a confidential, convenient, competitively
priced source of prescription drugs, counseling, therapy
management, and a variety of educational materials to help the
patient achieve maximum control over his or her condition.
Educating patients, improving patient compliance, and
increasing provider support favorably affect clinical outcomes
and decrease the long-term costs of care. Our patient-oriented
services include: counseling by highly trained registered
pharmacists, nurses, and internally certified patient
specialists; the provision of educational materials;
compliance monitoring; therapy management; insurance billing;
refill reminders; 24-hour pharmacist availability; automated
reorder capabilities; and timely shipments to patients' homes,
workplaces, physicians' offices, and treatment facilities.
- Physicians and Healthcare Providers: We believe our expertise
makes us a valuable partner for physicians and other
healthcare providers working with patients experiencing
complex chronic health conditions. We have developed
relationships with several treatment centers, foundations, and
medical associations that specialize in the treatment or
support of individuals with specific chronic conditions.
Through these relationships, we are able to provide our
services to a large number of individuals with chronic
conditions and the healthcare specialists treating them. We
handle the individuals' pharmacy needs, we carry the
specialized inventory, and we manage the payor and patient
billing, all designed to free up time for the physician.
- Pharmaceutical Developers and Manufacturers: We believe our
system is well suited for developers and manufacturers of
pharmaceutical products who are targeting specific patient
disease populations. We provide these companies with
assistance in introducing new products to the proper
candidates, a cost-effective means for distributing products
to specific patient populations, specialized packaging for
shipping, secure warehousing facilities, wait list management,
and billing expertise. We also provide valuable data to the
manufacturers, including HIPAA compliant clinical information
about patients, compliance experience, and outcomes
assessments.
- Payors: Managed care plays a significant role in the provision
of healthcare in the United States and a significant number of
our patient referrals come from contracted third-party payors
and the government. These payors benefit from our services
because our experience in managing specific patient groups
allows us to reduce an individual's health care costs
effectively.
We work directly with all of these constituents in a concerted
effort to improve clinical and economic outcomes while enhancing the quality of
life for individuals living with chronic conditions.
Chronimed was founded in 1985 as a Minnesota corporation and has
been publicly traded on the NASDAQ National Market since 1992 under the ticker
symbol CHMD.
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We make available free of charge, through our Internet website at
www.chronimed.com under the "Investor Relations" caption. our annual reports on
Form 10-K, our quarterly reports on Form 10-Q, our current reports on Form 8-K,
and amendments to those reports filed or furnished pursuant to Section 13(a) or
Section 15(d) of the Securities Exchange Act of 1934, as amended, as soon as
reasonably practicable after we electronically file such material with, or
furnish it to, the Securities and Exchange Commission.
In this Form 10-K, fiscal 2004 refers to our fiscal year ended July
2, 2004, which includes 53 weeks. Fiscal 2003, fiscal 2002, fiscal 2001, and
fiscal 2000 refer to our fiscal years ended June 27, 2003, June 28, 2002, June
29, 2001, and June 30, 2000, respectively, each of which represents 52 week
years.
RECENT EVENTS
On August 9, 2004, we announced that the boards of directors of
Chronimed Inc. and MIM Corporation (Nasdaq: MIMS - News) had unanimously
approved a strategic merger and that the companies had signed a definitive
merger agreement. The combined company, which will be named BioScrip Inc., will
have broad disease coverage, focused therapy management, expansive national
retail and mail distribution capabilities and a solid PBM platform. Based on
financial results reported by Chronimed and MIM Corporation for the twelve month
periods ended June 30, and July 2, 2004, respectively, the two companies
generated combined revenues of approximately $1.1 billion and pretax income of
$20.9 million. Upon consummation of the merger, each Chronimed shareholder will
receive 1.025 MIM shares for each Chronimed share held. MIM expects to issue
approximately 13.5 million shares to Chronimed shareholders in the merger.
Following the merger, Chronimed shareholders would own approximately 37% of the
new company and MIM shareholders will own approximately 63%. The transaction is
being structured as a tax-free reorganization for both companies and their
respective shareholders. The closing of the merger is subject to approval of
both companies' shareholders and is expected to occur in December 2004.
On August 2, 2004, Aetna announced their intention to form a jointly
owned specialty pharmacy business with Priority Healthcare. This jointly owned
business is expected to be operational by the third quarter of calendar year
2005. As a result of this announcement, we expect a significant reduction in
sales volume with Aetna to occur in our fiscal first quarter of 2006. Aetna
accounted for approximately 20% of total company revenue in fiscal 2004.
BUSINESS STRATEGY
We believe that we have a competitive advantage because we are
focusing our business resources on specific conditions and because we possess
both mail and retail distribution capabilities to serve our patients,
physicians, manufacturers, and payors. By focusing on a specific condition such
as HIV/AIDS, we have been able to build a leading market share position by
utilizing both our StatScript retail stores and mail service distribution
platform to best serve the customer. We also build a significant knowledge base
that spans both the clinical area as well as the reimbursement area with the
goal to provide the customer with a complete pharmacy services solution. We
continue to enhance our service offering by developing customized therapy
management programs to improve the overall quality of life of our customers. We
have taken a similar approach with our second largest condition - serving
individuals who have received an organ transplant. We believe that building a
comprehensive program around specifically identified conditions gives us a
competitive advantage in the marketplace. We are able to provide more in-depth
clinical expertise by focusing on a select group of conditions.
It is our goal to hold the first or second market share position in
each of the specific conditions we select. We plan to achieve this through our
world class distribution platform, condition specific clinical expertise, and
specifically designed therapy management programs. We expect to continue to add
to our key conditions in a systematic manner. We believe this approach will
drive the long-term growth and positioning of our overall business.
We are committed to improving operating efficiencies and being a low
cost provider through increased investment in technology and process
improvements. Virtually all of our 32 facilities have the capacity to handle
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more business without adding considerable resources.
In order to obtain pharmaceutical manufacturer contracts, we must
provide additional services beyond our excellent drug distribution platform. We
intend to further enhance our capabilities and differentiate ourselves from
competitors by developing condition specific therapy management programs.
Aspects of therapy management including patient education, nurse lines, 24-hour
emergency access to a pharmacist, outgoing calls to patients and physicians,
compliance assurance, and outcomes analysis are part of the contract-winning
process.
Due to the chronic nature of our patients' diseases and the high
level of drug expenditures per patient, our patients represent a high annuity
revenue source. We will continue to invest in building our customer service and
pharmacy fulfillment capabilities in order to not only attract but also retain
these patients over their medication lifetime.
Many new injectable products used in mental health, oncology,
respiratory disorders, neurologic conditions, viral infections, and other health
conditions are in the biotech pipeline for near-term release. We will continue
to investigate opportunities to establish market presence in select new disease
specialty areas.
Finally, we believe that acquisitions will play an important role in
building our business, particularly where the acquisition target can add depth
in new or underserved chronic disease categories and geographic markets. We will
be seeking acquisition opportunities to strengthen our position in specifically
targeted conditions. In accordance with this acquisition strategy, we entered
into an Agreement and Plan of Merger to combine MIM Corporation and Chronimed on
August 9, 2004. The merger is subject to shareholder approval and other
customary conditions. The combined entity is expected to, among other things,
(i) add two key product lines to Chronimed's current product portfolio - IVIG
and a full range of oncology products; (ii) create a larger and more efficient
sales process through expanded disease capabilities, Chronimed's StatScript
community-based pharmacies, broader payor contract coverage and more expansive
pharmaceutical manufacturer relationships; and (iii) create significant growth
opportunities based on Chronimed's position in the market as the leading
distributor of HIV and post-organ transplant medications in the United States,
MIM's experience in the pharmacy benefit management or PBM industry and the
combined sales force of Chronimed and MIM. See the section entitled "Recent
Events" above for a description of the merger.
OUR DISEASE FOCUS
Our patient populations are concentrated among three areas.
Approximately 50% of our patients are persons living with HIV/AIDS, about 20% of
our patients have had organ transplants, and the remaining 30% of our patients
have other complex conditions treated with biotech injectable medications.
Descriptions of these diseases, markets, and our current services to these
populations follow.
HIV/AIDS
Infection with human immunodeficiency virus (HIV) results in a
diminished immune system. HIV attacks and destroys T cells (a form of white
blood cell) that coordinate much of the network of normal immune responses.
Without normal immune responses, people with HIV are unable to fight and
overcome routine infections, leading to a diagnosis of acquired immune
deficiency syndrome (AIDS). People with HIV/AIDS require treatment with complex
medication regimens and often face many long-term physical, financial, social,
and psychological challenges due to the often debilitating nature of the
disease.
The Centers for Disease Control and Prevention (CDC) estimate that
as many as one million people in the U.S may be living with HIV/AIDS (HIV/AIDS
Surveillance Report Vol. 14). Approximately 40,000 people are newly infected
each year in the U.S. AIDS caused over 16,000 deaths in the U.S. in 2002.
Currently, industry estimates indicate that about 350,000 people in
the U.S. with HIV/AIDS are being treated. Treatment typically involves 3 to 4
medications, and often includes other drugs for managing side effects,
preventing potential infections, and helping with nutritional and mental health
challenges from AIDS. The
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combination of these drugs creates highly complex regimens with a large number
of side effects and adherence challenges. The annual cost for the HIV/AIDS
medications alone averages approximately $14,000 per year.
In March 2003, a new class of HIV/AIDS medication was introduced in
Fuzeon(R), an injectable drug that prevents HIV from invading white blood cells.
While a breakthrough medication with life-extending potential, it also increased
the cost of treating HIV/AIDS by up to $25,000 per year and added another
complicating factor in the regimen due to the complex procedures for preparation
and administration of the drug. As the exclusive distributor for Fuzeon(R)
during fiscal 2004, we distributed Fuzeon(R) through our mail service
operations. When the exclusivity period expired, we began distributing Fuzeon(R)
through our StatScript retail stores as well as through our mail service
operations.
We began to serve people with HIV/AIDS through our StatScript
Pharmacy retail chain in 1996. Prescriptions for these patients now account for
more than 50% of Chronimed's overall volume and revenue. Our stores are very
different from traditional retail pharmacies. They are designed to provide
medications and professional guidance and advice to patients in a comfortable,
relaxed, and confidential environment. StatScript Pharmacies dispense all the
medications used to treat HIV/AIDS including Fuzeon(R), and keep these items in
inventory at all times. Patients know that StatScript Pharmacy locations will
have what they need, when they need it. Our pharmacists are specially trained
and certified in HIV/AIDS treatment and work very closely with the HIV/AIDS
doctors and other caregivers in their areas.
Our stores are also experts in billing and coordinating insurance
benefits for HIV/AIDS medications. Unlike traditional pharmacies, where 95% of
their prescription business is covered by a drug card and electronically billed
to a Pharmacy Benefit Manager, many of StatScript Pharmacy's customers are
covered by government or indemnity health plans that pay for drugs under a
medical benefit (similar to doctors and hospitals) and use paper claim forms.
Many more have supplemental coverage with AIDS Drug Assistance Programs (ADAP)
or Ryan White funding. StatScript Pharmacy staff spend as much time as needed to
make sure the patients' benefits are realized in full and that the patient only
pays their required copayment or coinsurance amount. This helps many patients
afford their medications, keeping them on their therapies and maximizing their
outcomes.
Our goals in helping people with HIV/AIDS are to assist them in
gaining maximum control over their disease, lower the incidence of
complications, remove any barriers to receiving therapy, and improve their
quality of life. Meeting these goals creates a significant competitive advantage
over traditional pharmacies and allows StatScript Pharmacy to have strong
customer relationships.
ORGAN TRANSPLANT
According to the United Network for Organ Sharing, as of July 2004
approximately 175,000 people were living with transplanted organs. During the
period January 2004 through May 2004, 10,869 transplants were performed in the
U.S., up from 10,489 in the same period last year, and 86,586 people are
currently waiting for a transplant, up from 82,735 a year ago.
After receiving an organ transplant, people are started on therapies
to suppress their immune systems to prevent organ rejection. These regimens
usually include 3 to 4 medications. In addition to these immunosuppressants,
people are often placed on other medications to manage the disease that
ultimately caused their original organ(s) to fail. These can include drugs to
treat diabetes, high blood pressure, high cholesterol, or other common chronic
diseases. It is not uncommon for some patients to take 15 to 20 medications a
day immediately after their transplant and still be on 8 to 10 drugs after the
first year. These combinations can create large numbers of side effects and drug
interactions, requiring close monitoring by the patients' transplant physicians
and their pharmacists.
Also, these drug therapies are expensive. Our experience has shown
that most transplant recipients require about $12,000 in prescription drugs
during the first year following transplantation and about $9,000 per
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year thereafter. These drug regimens are generally taken for the remainder of
the patients' lives, creating challenges for many patients.
We have been serving people with organ transplants since 1990. We
provide medications through both our mail service pharmacies and our
community-based StatScript Pharmacy retail chain. Our pharmacists and support
staff provide a "high-touch" program focused on optimizing the patients'
therapeutic outcome. We incorporate tools to enhance adherence and persistence
with the complex medication regimens, including monthly telephone or e-mail
refill reminders and routine telephone calls to monitor potential medication
problems.
Our staff also helps patients with insurance benefits. Many people
with organ transplants have multiple insurance plans, including their current
insurance, plus Medicare and Medicaid. Our pharmacy staff coordinates these
plans and attempts to get the patients as much of their insurance benefits as
possible. We also work with patients and insurance companies on copayment and
coinsurance issues to minimize the patients' out-of-pocket payments. All of
these services are considerably more than people would receive at traditional
pharmacies, creating a competitive advantage for our pharmacies and a lasting
relationship with our patients.
BIOTECH INJECTABLE MEDICATIONS
We began distributing biotech injectable medications through our
mail service pharmacies in 1994. Today we provide all medications through both
our mail and retail pharmacies. The biotech injectables we provide treat many
chronic conditions including hepatitis B and C, rheumatoid arthritis, cancer,
anemias, endometriosis, growth hormone deficiency, hemophilia, immune deficiency
disorders, infertility, and multiple sclerosis. A majority of our injectable
business revenue is derived from the following four diseases:
Hepatitis C. According to the US Department of Health and Human
Services in 2004, almost 4 million Americans may be infected with the hepatitis
C virus (HCV), of whom 2.7 million are chronically infected. Each year, there
are about 35,000 new cases of acute hepatitis C. HCV attacks the liver and can
cause long-term renal illnesses such as infection, cirrhosis, and cancer.
According to the National Institutes of Health, HCV is the leading cause of
liver transplantations in the United States and accounts for 10,000 to 12,000
deaths per year.
We sell injectable drugs used to treat HCV, including pegylated
interferons (PEG-Intron(R) and Pegasys(R)) with or without ribavirin.
Combination therapy with pegylated interferon and ribavirin is the treatment of
choice resulting in sustained response rates of 40%-80%. Our programs for these
patients reduce costs through lower acquisition costs, efficient medication
delivery in temperature controlled packaging, counseling, and side effects
management.
Rheumatoid Arthritis. According to the Arthritis Foundation,
rheumatoid arthritis (RA) affects 2.1 million Americans, mostly women. About
50,000 new cases of RA are detected each year. Onset usually occurs in
middle-age, but is often detected in people in their 20s and 30s. RA is an
auto-immune disease, causing inflammation in the joint lining or other internal
organs. It typically affects many different joints, can be chronic, and is a
disease of flares (active) and remissions (little to no activity). The involved
joint can lose its shape and alignment, resulting in pain, stiffness, warmth,
redness, swelling, and loss of movement.
Drug therapy for RA usually starts with medications to reduce the
inflammation and manage the pain. These include drugs like aspirin, ibuprofen,
naproxen, and other non-steroidal anti-inflammatory agents. As RA progresses,
many patients will be placed on disease-modifying antirheumatic drugs (DMARDs)
such as gold, methotrexate, and other immune system modulators. All of these
medications can be obtained at traditional pharmacies and are relatively
inexpensive.
After the anti-inflammatories and DMARDs lose effect, patients will
often start on drugs called biologic response modifiers (BRMs). These drugs
actually prevent the progression of RA and can lead to some improvements in
affected joints. The most common BRMs are Enbrel(R), Remicade(R), Kineret(R),
and Humira(R). All of these medications are injectable, and all but Remicade(R)
can be administered by the patient (Remicade(R) is given by
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intravenous infusion, requiring the patient to go to a doctor's office). They
all are very expensive, costing approximately $15,000 per year.
We supply all required RA medications, from initial therapies to
injectables BRMs, to patients either from our mail service pharmacies or our
StatScript Pharmacy retail chain. We provide reimbursement assistance and
coordination of benefits to minimize our patients' out-of-pocket expenses. Our
pharmacists provide detailed and thorough consultations on the drugs, including
preparation and administration of the injection, to minimize side effects and
other complications. We also contact patients with routine refill reminders to
reduce or eliminate treatment interruptions.
Cancer. Chemotherapeutic agents are used to treat a variety of
cancers by destroying rapidly growing cancer cells within the body. We offer
most of the medications used to treat the different forms of cancer. We
distribute these products to the patient's home for self-administration or to
the physician's office for administration in a clinical setting.
Drugs used to fight cancer also destroy the body's ability to
produce erythropoietin, resulting in a reduction in red blood cells. Low levels
of red blood cells reduce the amount of oxygen available in the body, resulting
in fatigue. We supply medications such as Epogen(R), Procrit(R), and Aranesp(R)
that increase the number of available red blood cells by supplementing the
body's natural erythropoietin production.
White blood cells are responsible for helping the body fight
infections. The chemotherapeutic drugs used to fight cancer substantially reduce
the number of white blood cells in the patient's body leaving the patient
susceptible to common and serious opportunistic infections. We supply
medications such as sargramostim (Leukine(R)) and filgrastim (Neupogen(R)) to
stimulate white blood cell production following chemotherapy treatments.
Multiple Sclerosis. The Multiple Sclerosis Association of America
estimates that more than 400,000 people in the United States have multiple
sclerosis (MS) and that 10,400 new cases are diagnosed every year. MS is a
disease of the central nervous system that damages or destroys the protective
layer surrounding nerve fibers. Once damaged, electrical nerve impulses are not
properly conducted to and from the brain, resulting in the various symptoms of
MS.
Therapy for MS includes use of drugs to lessen the severity or
frequency of attacks, to slow the increase of disability resulting from the
disease, and to treat the various resulting symptoms (muscle stiffness, fatigue,
and bladder problems). We supply patients with all currently available products,
including Avonex(R), Betaseron(R), Copaxone(R) and Rebif(R).
PRODUCT DISTRIBUTION
We distribute our products through 32 distribution facilities. This
includes mail service facilities located in Minnesota, California, Texas,
Tennessee, and Florida and our nationwide StatScript Pharmacy retail chain,
which consists of 28 company-owned, community pharmacies.
MAIL SERVICE
We provide a full-service mail service pharmacy to our patients. We
routinely carry over 4,000 brand name and generic prescription drugs in
inventory, which we distribute directly to the patients and physicians through
our centralized mail service system. What makes us different from traditional
retail and mail service pharmacies is that we stock hundreds of hard-to-find,
specialty items at all times. These include blood factor products for
hemophilia, all self-administered biotech injectables, and drugs used for
HIV/AIDS and solid organ transplants. We believe that we can distribute these
specialty products with considerably higher levels of service at a competitive
price in comparison to local and national retail pharmacies. Cost savings are
accomplished through our distribution of a high volume of relatively less common
products and efficient processing of specialty products unfamiliar to many
retail pharmacists. Patients benefit from the convenience and dependability of
having products
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delivered directly to their homes and, in many cases, at lower initial
out-of-pocket costs than they might obtain from other sources. We maintain
toll-free telephone numbers and automated and online capabilities for patients
to place orders. We primarily ship orders to patients by FedEx or UPS to ensure
prompt delivery.
We have recently expanded and redesigned our primary mail service
facility in Minnetonka, Minnesota to meet the Federal Drug Administration's
current Good Manufacturing Practice (cGMP) standards for drug distribution. Our
new facility is secured and temperature-controlled, and all operational aspects
are documented to meet cGMP requirements. We also installed a motorized conveyor
system and automated prescription dispensing equipment to enhance the speed and
efficiency by which we distribute and process prescription orders. These
improvements allow us to handle significantly higher volumes in our current
location. We are able to distribute any product as needed by specialty
medication manufacturers or product distributors.
Revenue from our mail service distribution channel is derived from
the sale of biotech injectable medications, immunosuppressive drugs for organ
transplant recipients, and HIV/AIDS medications. Patients using the service may
pay cash, have standard indemnity coverage, be Medicare or Medicaid
beneficiaries, or have a pharmacy benefit defined by their managed care health
plan. In fiscal 2004, mail service accounted for 43% of our revenue.
COMMUNITY PHARMACIES
Our StatScript community pharmacies give us a significant national
presence in the retail marketplace. Our StatScript Pharmacy retail chain is the
market leader in providing prescription drugs to people with HIV/AIDS.
StatScript pharmacies support HIV/AIDS patients through physician referrals,
patient education, complete patient tracking, therapy management and interaction
with community service organizations. Our revenue growth in this business comes
from the continued rollout of new combination drug therapies of protease
inhibitors and nucleoside, nucleotide, and non-nucleoside reverse transcriptase
inhibitors, as well as the new fusion inhibitor, Fuzeon(R), introduced in March
2003 by Roche and Trimeris. Future revenue growth may also be generated from
pharmacy acquisitions, pharmacy openings, and increased patient volumes at
existing stores.
We also distribute organ transplant drugs through our localized
retail StatScript pharmacies in order to better meet the needs of transplant
patients and transplant centers. Transplant medications sometimes require
same-day delivery, and our local StatScript pharmacies offer an efficient,
practical solution to meet this need. We also have been using our StatScript
pharmacies to distribute biotech injectable medications, particularly for
hepatitis C. In fiscal 2004, StatScript sales accounted for 57% of our revenue.
As of July 2, 2004, the StatScript chain consisted of 28 pharmacies
located in: Atlanta, Boston, Chicago, Dallas, Ft. Lauderdale, Houston (two
locations), Indianapolis (two locations), Kansas City, Las Vegas, Los Angeles,
Miami Beach, Milwaukee, Minneapolis, Memphis, New York City, Orlando,
Philadelphia, San Diego, San Francisco, Seattle, St. Louis, St. Petersburg,
Tampa, Washington, D.C., West Hollywood, and West Palm Beach.
THERAPY MANAGEMENT
Chronimed provides a range of clinical services designed to educate
patients about their condition, support therapy compliance, and keep patients
healthier. These services include 24-hour emergency access to a pharmacist,
patient counseling, educational material development and distribution, and
automated order and refill reminder calls. As a supporting strategy to our
disease-based business model, during fiscal 2004, we introduced uniquely
designed programs for individuals living with hepatitis C, organ transplant, and
HIV/AIDS. In addition to our traditional services, we will be providing
regularly scheduled nurse counseling calls to patients and providing them and
their physicians with customized therapy progress reports. Managing patient
compliance to physician prescribed regimens helps avoid additional therapy and
costly medical procedures and hospitalizations due to treatment failure, thereby
improving outcomes and reducing the overall costs of managing these conditions.
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MANUFACTURER RELATIONSHIPS AND SERVICES
Developing relationships with drug manufacturers is a key element of
our business strategy. Our objective is to identify those manufacturers who are
developing drugs having product or market characteristics that could benefit
from our specialized distribution and service model. Our goal is to educate
those manufacturers about the value of the services we provide, and by doing so,
gain access to these drugs on a preferred basis.
In general, we provide the following kinds of services for
manufacturers:
Distribution. We combine our mail service and retail capabilities to
offer specialized distribution services to drug manufacturers. This service is
best suited to companies requiring secured tracking, companies with limited
production capabilities (resulting in limited product supplies), or for products
intended for use in small or difficult-to-access patient populations. We also
distribute drugs that are in clinical trials and coordinate trial data
collection on adherence, side effect incidence, and other key attributes.
Data and Analysis. Our large, specialized patient base provides
valuable data on treatments, adherence, usage, and prescribing trends. This
information is generally provided to manufacturers as a fee-for-service product.
Data is shared only following de-identification in compliance with the privacy
requirements of HIPAA.
Promotion and Market Share Support. Due to our local presence and
highly qualified pharmacists, we help drug companies with product usage and
adoption. We support products that are appropriate for our patients and follow
clinical guidelines. We can be very effective in increasing market share for
appropriate target products.
Consultation. We work with drug manufacturers before and after their
product is launched. We provide advice on areas such as reimbursement,
packaging, distribution, marketing, promotion, and pricing. We represent the
views of patients, payors, and pharmacies to help manufacturers align their
sales and marketing efforts to achieve success.
PAYOR RELATIONSHIPS AND SERVICES
Most managed care programs have plan design features that limit the
number of providers eligible to serve plan members. For example, most managed
care plans will not pay for services, or will require substantially higher
co-pays or deductibles, if a patient chooses to use a provider that is
considered "outside" the patient's plan network. The high costs of the specialty
medications we provide create a significant disincentive for recipient patients
to use "out-of-network" providers. Because we provide unique pharmacy sources to
a defined population, our objective is to be included as a "network" pharmacy
provider in as many plans as possible, and to assist plans in creating specialty
pharmacy "carve-out" arrangements. These arrangements typically allow us to
provide significant savings to the plan due to the greater volume of patients
served through these arrangements.
Payors often have difficulty quantifying and controlling the cost of
the increasing number of costly, complex medications used to treat specific
chronic conditions. We help payors identify and lower their costs by reducing
product acquisition costs, offering efficient delivery systems, providing
accurate and efficient reporting of drugs and associated costs of their members'
usage, delivering excellent patient care, and streamlining claims and billing
services. We have payor contracts with HMOs, major health insurers, government
agencies, and other managed health plans covering significant patient
populations. As part of these contracts, we offer payors customized programs
designed to maximize patient care and to manage high-cost medications and low
patient utilization rates. Specifically, we offer payors the following services:
- Distribution of specialty prescription drugs at a cost
competitive with, or lower than, local and national retail and
hospital pharmacies.
10
- Review and monitoring of compliance with prescribed drug
regimens. By monitoring patient order patterns and drug use,
we assist payors and healthcare providers in early
identification of patients whose treatment outcomes may be
improved by more support or assistance in managing their
chronic conditions.
- Disease expertise. By focusing on the needs of specific
patient populations, our pharmacists and nurses are experts in
the requirements and treatment patterns for the identified
patient populations. Our therapy management programs provide
not only the payors, but also the physicians and patients,
accurate and current reports of compliance, usage, and other
variables associated with a specific disease and its care.
- Distribution of educational materials designed to help
patients achieve maximum control over their chronic
conditions.
In fiscal 2004, Aetna, Inc. and its affiliates ("Aetna") accounted
for approximately 20% of our revenue. We entered into a Specialty Pharmacy Mail
Service Vendor Agreement with Aetna effective May 1, 2000. Our Agreement had an
initial term of three years and it was renewed effective May 1, 2003 until
December 31, 2004. On August 2, 2004, Aetna announced its intention to jointly
form a specialty pharmacy business with Priority Healthcare. This new business
is expected to be operational by the third quarter of calendar 2005. As a
result, we are expecting revenue volume to remain at fiscal 2004 levels until
this new facility becomes operational and then .to be significantly reduced.
Other than Aetna, no private payor accounts for 10% or more of our
revenue. In fiscal 2004, approximately 42% of our revenue came from governmental
programs, primarily Medicare (a federal program) and Medicaid (numerous state
programs). The loss of a significant payor, including Aetna, or a significant
reduction in their rates of reimbursement, could have a material adverse effect
on our business and results of operations.
REIMBURSEMENT SERVICES
We have developed a significant level of expertise in managing the
complex world of pharmacy reimbursement. We have invested heavily in this
reimbursement process and our patient adherence rates and accounts receivable
performance have improved accordingly. Generally, before delivering products to
a patient, we contact the appropriate payor (electronically, by fax, or by
telephone) to determine the patient's health plan coverage and the portion of
costs that the payor will reimburse. Our patient service specialists review
issues such as lifetime limits, pre-existing condition clauses, prior
authorization requirements, and the availability of special funding programs. We
accept assignment of benefits from a large number of payors, which substantially
eliminates the claims submission process for many patients. Our goal is to
simplify the reimbursement process for our patients and to help them find
available sources of reimbursement assistance. Our reimbursement services are a
significant value-add offering to patients, payors, and manufacturers and help
differentiate us from our competition.
SALES AND MARKETING ACTIVITIES
We have structured our sales organization around our specifically
identified disease conditions. We employ approximately 25 sales professionals to
call on payors, physicians, case managers, and manufacturers. Our local
pharmacists also call on physicians and other key influencers to grow the
StatScript business. We have four primary sales directives:
- Our HIV sales personnel are located in the high population
areas for HIV positive patients. They call physicians, AIDS
service organizations, and other key influencers.
- Our transplant sales personnel call primarily on transplant
centers and secondarily on transplant case managers.
11
- Our biotech injectables sales personnel call on high
prescribing physicians in specific disease areas. Our current
focus is on rheumatoid arthritis and hepatitis C prescribers.
- Our managed care sales personnel call on large HMOs, insurance
companies, and at-risk physician groups. This is a
cost-containment focus, rather than a disease focus, and
generally reflects an exchange of the payor's employee
prescription volume for our product discount and value-added
services.
We also have a pharmaceutical manufacturer sales team selling our
capabilities as a pre-launch advisor, exclusive product distributor, and patient
and product specific data supplier.
SUPPLIERS
We purchase prescription drugs and related products directly from
manufacturers and wholesalers. We inventory approximately 4,000 brand name and
generic prescription drugs and related products. We take advantage of special
discounts when offered by suppliers. When we receive a prescription for a drug
that we do not have in inventory, we generally obtain the required item from our
wholesaler the same or next day. The availability and prices of the products we
distribute are subject to market conditions. We regularly seek to enhance our
distribution contract opportunities with existing or new manufacturers.
Effective August 2003, we signed a three-year wholesaler agreement
with Cardinal Health, a national drug distributor, to supply pharmaceuticals for
our pharmacies replacing McKesson Corporation. This supplier made up 79% of our
operations inventory purchases for fiscal 2004. During fiscal 2003, we used
McKesson Corporation to supply pharmaceuticals for our pharmacies. This supplier
made up 89%, and 92%, of our operations inventory purchases for fiscal 2003 and
2002, respectively. We also aggressively pursue programs with manufacturers and
group purchasing organizations to lower our drug acquisition costs.
In March 2003, Chronimed signed a one year agreement, which expired
in April 2004, with Roche to be the exclusive distributor of Fuzeon(R), a new
injectable HIV/AIDS medication developed by Roche and Trimeris. We regularly
purchased Fuzeon(R) directly from Roche during the exclusivity period. When the
exclusivity expired, we began purchasing Fuzeon(R) through our regular
wholesales arrangement with Cardinal.
INFORMATION SYSTEMS
Our mail service operations include an automated call center and a
fully integrated information system. The real time information system provides
our customer service representatives with the necessary on-line information to
serve patients, caregivers, and providers including product purchase histories,
payor billing and account balances, inventory levels, and co-payment
requirements. Mail service distribution sites are fully integrated and built
around an order management process using inventory control, purchasing,
shipping, and receiving functions. Our mail operation telephone system has an
automatic call distribution capability utilizing the latest advances in
skills-based call routing to distribute incoming calls to customer service
representatives. We are linked to key customers for eligibility verification and
electronic claims submission.
Over 40% of new prescriptions are received by fax from providers.
These faxes are received into our e-mail system, where they are electronically
date- and time-stamped and stored. An automated response is generated and sent
back to the sender to confirm that we received their fax into our system. Faxes
can be immediately reproduced as needed.
We also offer internet re-ordering capabilities for our existing
customers directly through our automated secure web site at www.chronimed.com.
The web site provides them with convenient electronic confirmation messages and
tracking numbers for their shipped orders. We expect that the proportion of
transactions conducted by electronic commerce will increase each year.
12
The retail operation combines a centrally controlled host which is
linked to each store. The host provides corporate with the ability to monitor
volume, productivity, and profitability across all the StatScript locations. To
improve the customer service and increase productivity, the store systems
integrate automation and workflow to provide prescription processing, claims
adjudication, point of sale, and inventory management. Implementation of a new
retail pharmacy system, originally planned for fiscal 2003 and then delayed to
the second half of fiscal 2004, has been indefinitely delayed. The delay is due
to a software release problem from the vendor.
COMPETITION
The distribution of specialty prescription drugs is a highly
competitive business. The specialty pharmacy industry is experiencing both
horizontal and vertical consolidation. The industry is fragmented, with several
public and many small private companies focusing on different product or
customer niches. Some of our current and potential competitors include specialty
pharmacy distributors such as Accredo Health Inc., Caremark Rx, Priority
Healthcare Corporation, and PharmaCare (a division of CVS Corporation), national
wholesale drug distributors which operate their own specialty distribution
businesses such as Amerisource Bergen Corporation, Cardinal Health, Inc. and
McKesson Corporation, retail pharmacies, specialty pharmacy divisions of
pharmacy benefit managers such as Cura Script which was acquired by Express
Scripts, institutional pharmacies, hospital-based pharmacies, and home infusion
therapy companies. We compete on the basis of service quality, convenience,
product availability, price, and reputation. Some of our competitors are larger
than we are and have significantly greater financial, technical and managerial
resources. Despite the presence of significant competitors in each of our lines
of business, we believe that only a very few competitors offer a similar
combination of mail service and retail specialty pharmacy distribution in the
conditions we serve. Nonetheless, there can be no assurance that competitive
pressures will not have a material, adverse effect on our business.
LIABILITY INSURANCE
Providing healthcare services entails inherent risk. In recent
years, participants in the healthcare industry have become subject to an
increasing number of lawsuits, many of which involve large claims and
significant defense costs. We may from time to time be subject to such suits. We
maintain general liability insurance, including professional liability coverage,
in an amount deemed adequate by management.
GOVERNMENT REGULATION
Our business is subject to substantial federal, state and local
governmental regulation, including laws governing the dispensing of prescription
drugs and laws prohibiting the payment of remuneration for patient referrals.
Because sanctions may be imposed for violations of these laws, compliance is a
significant operational requirement for us. We believe that we are in
substantial compliance with all existing statutes and regulations materially
affecting the conduct of our business. We are routinely subject to periodic
audits regarding compliance with these governmental regulations.
Licensing. Our primary mail pharmacy is regulated under the laws of
the State of Minnesota. We are also regulated by the laws of each state in which
we maintain a retail or mail pharmacy. We also deliver prescription products
from our licensed pharmacies to patients in states in which we do not operate a
pharmacy. Many of these states have laws or regulations requiring out-of-state
pharmacies to be licensed as a condition to the delivery of prescription
products to their residents. We believe that we are in material compliance with
these laws and regulations in substantially all relevant jurisdictions.
Labeling and Dispensing. Federal laws also establish standards
governing the labeling, packaging, advertising, and adulteration of prescription
drugs and the dispensing of "controlled" substances and prescription drugs. The
Federal Trade Commission and United States Postal Service require mail service
pharmacies to engage in truthful advertising, stock a reasonable supply of
drugs, fill mail orders within 30 days and, if that is impossible,
13
inform the consumer of his or her right to a refund. We believe that we are in
substantial compliance with these requirements. Approximately half of our
products are shipped by commercial delivery services.
Fraud and Abuse Provisions. We are subject to various federal laws
that regulate healthcare services receiving governmental reimbursement. These
laws include the "fraud and abuse" provisions of the Social Security Act, which
prohibit remuneration in return for referrals of patients who are eligible for
reimbursement under the Medicare or Medicaid programs. Violations of the law may
result in civil and criminal penalties. Civil penalties range from monetary
fines that may be levied on a per violation basis to temporary or permanent
exclusion from these programs. In addition, numerous states have existing or
pending laws prohibiting financial arrangements among healthcare providers.
Violations of these laws include civil and criminal penalties, as well as the
suspension or termination of a provider's ability to continue to provide
services in the state.
Referral Restrictions. The federal prohibitions on inducements for
referrals are broadly drafted, and the fraud and abuse provisions of the Social
Security Act concerning illegal remuneration arrangements have been broadly
construed by federal courts, the Department of Health and Human Services, and
officials of the Office of Inspector General. "Safe harbor" regulations define a
narrow scope of practices that will be exempted from prosecution or other
enforcement action under the illegal remuneration provisions, but due to the
narrow scope of the safe harbor exemptions, the legality of numerous types of
business and financial relationships between healthcare providers and
practitioners remains uncertain. Similarly, state fraud and abuse laws, which
vary from state to state, are often vague and rarely have been interpreted by
courts or regulatory agencies.
In situations where we purchase or provide services and products or
otherwise contract with healthcare providers who may be in a position to refer
patients to us, we believe we have exercised care in an effort to structure such
arrangements to comply with existing federal and state laws.
Patient Confidentiality. Various federal and state laws establish
minimum standards for the maintenance of medical records and the protection of
patient health information. We maintain medical records for each patient to whom
we dispense pharmaceuticals. As a result, we are subject to one or more of these
medical record and patient confidentiality laws. Of particular significance are
the Health Insurance and Portability and Accountability Act of 1996 (HIPAA)
security and privacy regulations. The HIPAA security regulations, which
establish certain standards for assuring the security and integrity of
electronically maintained health information, were issued as a final rule on
February 20, 2003. "Covered Entities" as defined in the final security rule,
which includes Chronimed, must comply with the requirements of the final
security rule by April 21, 2005. The HIPAA privacy regulations, which establish
standards for protecting the confidentiality and privacy of health information
in any form, were issued as a final rule on December 28, 2000. On August 17,
2002, the Department of Health issued an amended final rule modifying the
privacy rule standards for protecting the confidentiality of health information.
"Covered Entities" as defined in the final privacy rule, which includes
Chronimed, were required to comply with the final privacy rule as of April 14,
2003. We believe that we are in substantial compliance with this privacy rule.
The HIPAA regulations impose significant civil and criminal sanctions for
violations of the rules and improper use or disclosure of patient information.
The HIPAA privacy regulations have required us to make several
changes to our policies, procedures, forms, employee training and information
handling practices. The HIPAA security regulations require that we invest
significant capital in upgrading information systems hardware, software, and
procedures.
Political, economic, and regulatory influences are subjecting the
healthcare industry and prescription drug providers in the United States to
fundamental change. A variety of new approaches have been proposed, including
mandated basic healthcare benefits, controls on healthcare spending through
limitations on the growth of private health insurance premiums and Medicare and
Medicaid spending, creation and regulation of a comprehensive Medicare drug
benefit, and creation of large purchasing groups. In addition, some of the
states in which we operate have adopted or are considering various healthcare
reform proposals. We anticipate that Congress and state legislatures will
continue to review and assess alternative healthcare delivery systems and
payment methods and that public debate of these issues will likely continue in
the future. Any of these developments could affect our ability to carry out our
business.
14
EMPLOYEES
As of July 30, 2004, we employed 403 full-time and 21 part-time
employees. Our employees are vital to our success. We believe we have been
successful in attracting and retaining qualified personnel in a competitive
labor market due to our competitive compensation and benefits, and our rewarding
work environment. None of our employees are represented by a labor union, and we
believe that our employee relations are good.
SEASONALITY
Chronimed's sales do not reflect any significant degree of
seasonality.
ANNUAL MEETING AND RECORD DATES
An annual meeting date will be announced at a later time and only if
the merger with MIM Corporation is not completed.
15
ITEM 2. PROPERTIES
Our properties provide a suitable work environment for our employees
and the necessary productive capacity to distribute our products and services.
We currently lease all of our properties. These properties are described below.
FUNCTIONS LOCATIONS SIZE LEASE TERM
--------- --------- ---- ----------
(SQUARE FEET)
Corporate office and Minnetonka, MN 62,000 Through March 31, 2005
mail service pharmacy,
including
customer service and
distribution
Retail and mail service California, Florida Various Expire over periods
specialty pharmacies Georgia, Illinois, up to extending to June,
Indiana, Massachusetts, 7,500 2010
Minnesota, Missouri,
Nevada, New York,
Pennsylvania,
Tennessee, Texas,
Washington,
Washington D.C.,
Wisconsin
ITEM 3. LEGAL PROCEEDINGS
Subsequent to July 2, 2004, a legal action was commenced on August
16, 2004 in Hennepin County District Court in Minneapolis, Minnesota against
Chronimed and its Board of Directors relating to the merger. The plaintiff
alleges, among other things, that Chronimed's Board of Directors breached
fiduciary duties owed to Chronimed's shareholders in structuring the terms of
the pending merger with MIM Corporation in a manner that is favorable to
defendants and unfair and harmful to Chronimed's shareholders. The plaintiff in
that action seeks to have the court certify his individual action as a class
action on behalf of a class of Chronimed shareholders. The plaintiff in the
action seeks relief:
- declaring that the action is properly maintainable as a class
action;
- declaring that the merger agreement was entered into in breach of
defendant's fiduciary duties and is therefore unlawful and
unenforceable;
- enjoining the consummation of the merger unless and until Chronimed
adopts and implements a procedure or process to obtain the highest
possible price for shareholders;
- directing defendants to exercise their fiduciary duties to obtain a
transaction that is in the best interests of Chronimed's
shareholders;
- rescinding, to the extent already implemented, the merger;
- imposing a constructive trust, in favor of plaintiff, upon benefits
improperly received by defendants as a result of their wrongful
conduct;
- awarding costs and disbursements, including attorneys' and experts'
fees;
- granting such other and further relief as the court deems
appropriate.
While there is no assurance that Chronimed will prevail, Chronimed
believes that the action is without merit and intends to vigorously defend
against it. An unfavorable outcome in the legal action could delay or prevent
completion of the merger.
On June 15, 2001, a putative class action lawsuit captioned Judith
Barclay v. Chronimed Inc., et. al. (01-CV-1092 DWF) was commenced in the United
States District Court for the District of Minnesota against us and certain of
our current and former officers. The Complaint alleges that we and individual
defendants violated Section 10(b) of the Securities Exchange Act of 1934 and
Rule 10(b)-5 promulgated thereunder, and that the
16
individual defendants violated Section 20(a) of the Exchange Act. Eight other
lawsuits asserting claims identical to the Barclay case were filed and the nine
lawsuits were consolidated into a single class action case. On July 11, 2003,
the Company and plaintiffs agreed to settle the case and all claims. The
settlement was approved by the court on June 21, 2004. The $2.2 million
settlement amount is being fully funded by Company insurance.
We have been engaged in discussions with the United States Attorney
for the District of Columbia regarding certain claims for reimbursement we
submitted to DC Medicaid between January and April 2000. The U.S. Attorney has
asserted that these claims were a result of an attempt by a DC resident to
defraud the Medicaid system and divert pharmaceuticals. We have denied
wrongdoing. We have reached a tentative settlement of the government's claims,
which would result in a repayment of $475,000, for which we are fully reserved.
Negotiations regarding a formal settlement agreement are ongoing.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
17
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
PRICE RANGE OF COMMON STOCK
Our Common Stock, $.01 par value per share, is currently traded on
the NASDAQ National Market System. The following table sets forth the quarterly
high and low closing transaction prices as reported by NASDAQ for the years
ended June 27, 2003, and July 2, 2004.
FISCAL YEAR 2003 HIGH LOW
- ---------------------------------------------------------------------
First Quarter $ 5.10 $4.41
Second Quarter 6.11 4.79
Third Quarter 8.80 5.82
Fourth Quarter 10.15 7.66
FISCAL YEAR 2004 HIGH LOW
- ---------------------------------------------------------------------
First Quarter $ 12.11 $ 8.67
Second Quarter 9.65 7.99
Third Quarter 9.95 7.58
Fourth Quarter 8.15 6.51
NUMBER OF SHAREHOLDERS OF RECORD
The number of shareholders of record of our Common Stock as of
August 31, 2004, was approximately 378. The number of beneficial owners of our
Common Stock was approximately 4,500 as of the same date.
DIVIDENDS
We have never declared or paid cash dividends on our Common Stock.
We do not anticipate paying cash dividends in the foreseeable future.
ITEM 6. SELECTED FINANCIAL DATA
The following selected financial data should be read in conjunction
with "Management's Discussion and Analysis of Financial Condition and Results of
Operations" and our Consolidated Financial Statements and notes thereto included
elsewhere in this Annual Report on Form 10-K. The selected financial data, as of
and for the fiscal years ended, as listed below, have been derived from our
audited financial statements included elsewhere in this Annual Report on Form
10-K or previously filed with the SEC. The information set forth below is not
necessarily indicative of the results of future operations.
18
JULY 2, JUNE 27, JUNE 28, JUNE 29, JUNE 30,
FINANCIAL RESULTS 2004 2003 2002 2001 2000
(IN THOUSANDS, EXCEPT PER SHARE DATA) (53 WEEKS) (52 WEEKS) (52 WEEKS) (52 WEEKS) (52 WEEKS)
- ---------------------------------------------------------------------------------------------------------------------
Revenue $ 559,964 $ 435,713 $ 397,437 $ 297,925 $ 222,497
Gross profit 62,929 53,122 47,732 35,693 36,891
Selling, general and administrative expense (49,007) (42,191) (42,370) (34,327) (33,352)
Bad debt expense (3,961) (3,204) (3,504) (7,140) (7,154)
Income (loss) from continuing operations 9,961 7,727 1,858 (5,774) (9,115)
Interest income (expense), net 228 311 104 568 (191)
Other income (loss) 150 - 3,906 (1,837) -
Income tax (expense) benefit (3,328) (3,053) (2,131) 2,585 3,398
Net income (loss) from continuing operations 7,011 4,985 3,737 (4,458) (5,908)
Income from discontinued operations, net of tax - - - 15,235 1,840
--------- --------- --------- --------- ---------
Net income (loss) $ 7,011 $ 4,985 $ 3,737 $ 10,777 $ (4,068)
========= ========= ========= ========= =========
Diluted earnings (loss) per share:
Income (loss) from continuing operations $ 0.54 $ 0.40 $ 0.30 $ (0.37) $ (0.49)
Income from discontinued operations - - - 1.25 0.15
--------- --------- --------- --------- ---------
Net income (loss) per share $ 0.54 $ 0.40 $ 0.30 $ 0.88 $ (0.34)
========= ========= ========= ========= =========
Weighted average shares outstanding -- diluted 13,000 12,512 12,342 12,206 12,116
FINANCIAL POSITION JULY 2, JUNE 27, JUNE 28, JUNE 29, JUNE 30,
(IN THOUSANDS) 2004 2003 2002 2001 2000
- --------------------------------------------------------------------------------------------------------------------
Working capital $ 56,980 $ 51,685 $ 43,850 $ 36,982 $ 36,393
Total assets 114,554 110,000 99,495 98,993 78,430
Shareholders' equity 94,611 85,513 79,401 75,502 63,057
NOTES:
Fiscal 2000 results include the following charges (pre-tax) to
operating expense:
- Write-down of $5.5 million investment in Clinical Partners, an
HIV case management business.
- Expenses of $0.9 million related to the retention of an
investment banker in the review of corporate strategic
alternatives.
- Charges of $0.5 million relating to the contemplated spin-off
of MEDgenesis, Inc.
Fiscal 2001 results include the following gain and loss:
- A $13.8 million after-tax gain on the sale of MEDgenesis, Inc.
in January, 2001, included in discontinued operations.
- A loss on the sale of available-for-sale securities of $1.8
million (pre-tax).
Fiscal 2002 results include the following charge and gain:
- Pre-tax charges of $3.6 million related to the StatScript
retail business for the costs of transferring the Kansas City
retail headquarters to Minneapolis, store closing costs and
costs associated with the fiscal 2001 financial restatement.
19
- A $3.8 million pre-tax gain on the June 2002 collection of a
previously reserved note receivable from the buyer of Home Service
Medical (HSM), included in Other Income.
Fiscal 2004 results include the following:
- A $0.6 million income tax benefit resulting from a reduction in
income tax liabilities associated with prior tax years audited and
closed in the fiscal year.
- An additional week of revenue and expenses compared to the other
fiscal years. See Note 1, Notes to Consolidated Financial Statements
regarding our fiscal year.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
BUSINESS
Chronimed Inc. ("Chronimed" or the "Company"), a specialty pharmacy
services provider, distributes prescription drugs, coordinates customer benefits
and provides specialized therapy management services for people with certain
health conditions, including HIV/AIDS, organ transplants, and conditions treated
with biotech injectable medications. We work with patients, physicians and other
health care providers, pharmaceutical manufacturers, health plans and insurers,
and government agencies to improve clinical and economic outcomes.
We distribute prescription drugs nationally via our Chronimed mail service
and our StatScript Pharmacy retail stores. All sales are attributed to and all
assets are located in the United States.
CRITICAL ACCOUNTING POLICIES
Our consolidated financial statements are prepared in accordance with
United States generally accepted accounting principles, which require us to make
estimates and assumptions (See Note 1, Notes to Consolidated Financial
Statements).
We believe the following critical accounting policies, among others,
affect our more significant judgments and estimates used in the preparation of
our consolidated financial statements.
Revenue Recognition
Revenue is recognized at the time prescriptions are shipped to or picked
up by the patient. We participate in various third-party provider networks and
state Medicaid programs. Under a majority of these networks, the amount to be
paid for our products is determined (or "adjudicated") through electronic
connections with these networks at the time of sale. However, for certain
third-party providers and state Medicaid programs for which there is no
electronic adjudication process available at the time of sale, we bill a
standard list price (versus a known contracted price) and then simultaneously
determine an appropriate estimate for expected payor discount based on our
reimbursement history for each payor class. This reimbursement history is
updated quarterly. Revenue is then reported net of the estimated payor discounts
and adjusted in future periods as final settlements are determined.
Collectibility of Accounts Receivable
Accounts receivable consist primarily of amounts due from third-party
payors (the Medicare and Medicaid programs, other government programs,
prescription benefits managers, managed care health plans, commercial insurance
companies) and to a lesser extent from individual patients. Estimated provisions
for doubtful accounts
20
are recorded to the extent it is probable that a portion or all of a particular
account will not be collected for reasons other than discounts taken by payors
at the time of payment.
In evaluating the collectibility of accounts receivable, we consider a
number of factors, including the age of the accounts and historical write-off
experience. Actual collections of accounts receivable in subsequent periods may
require changes in the estimated provision for loss. Changes in these estimates
are charged or credited to the results of operations in the period of the
change. Bad debt expense was $4.0 million, $3.2 million, and $3.5 million
reflecting 0.7, 0.7, and 0.9 as a percent of revenue in fiscal 2004, 2003, and
2002, respectively. We believe this decrease in our bad debt rates reflects
improvements in our billing and collection processes. However, subsequent
changes in these estimates could be unfavorable.
Goodwill
We have $34.5 million of goodwill on our balance sheet at July 2, 2004. As
of June 30, 2001, we adopted Statement of Financial Accounting Standards No. 142
("Statement 142"), "Goodwill and Other Intangible Assets", which changes the
accounting for goodwill and intangibles with indefinite lives from an
amortization method to an impairment-only approach. Goodwill with indefinite
lives will remain on the consolidated balance sheet and not be amortized.
Goodwill is allocated to the Company's retail or mail service reporting units
based upon the related distribution method. On an annual basis in the fourth
quarter, and when there is reason to suspect that their values have been
diminished or impaired, these assets must be tested for impairment, and
write-downs may be necessary. The Company has established reporting units based
on the Company's method of distributing its products through retail or mail
service channels. The first step of the impairment test compares the fair value
of a reporting unit with its carrying amount, including goodwill and other
indefinite lived intangible assets. If the fair value is less than the carrying
amount, the second step determines the amount of the impairment by comparing the
implied fair value of the goodwill with the carrying amount of that goodwill. An
impairment charge is recognized only when the calculated fair value of a
reporting unit, including goodwill and indefinite lived intangible assets, is
less than its carrying amount. Based on the results of our impairment tests, we
have not been required to recognize an impairment of goodwill.
RESULTS OF OPERATIONS
INCOME AND EXPENSE ITEMS AS A PERCENTAGE OF REVENUE
FISCAL YEAR 2004 2003 2002
----------- ---- ---- ----
Revenue 100.0% 100.0% 100.0%
Cost of revenue 88.8 87.8 88.0
----- ----- -----
Gross profit 11.2 12.2 12.0
Operating expenses
Selling and marketing 1.0 0.9 0.8
General and administrative 7.7 8.8 9.8
Bad debt 0.7 0.7 0.9
===== ===== =====
Total operating expenses 9.4 10.4 11.5
Income from operations 1.8 1.8 0.5
Interest income, net 0.1 - -
Other income - - 1.0
Income tax expense (0.6) (0.7) (0.6)
----- ----- -----
Net income 1.3% 1.1% 0.9%
===== ===== =====
FISCAL 2004 COMPARED TO FISCAL 2003
We use a four-week, four-week, five-week (4-4-5) quarterly accounting
cycle with the fiscal year ending on the Friday closest to June 30. Because this
approach assumes a 364-day year (52 weeks times seven days), every
21
several years Chronimed must add an extra accounting week to its calendar to
stay in step with a normal 365- or 366-day year. Fiscal 2004 was a 53-week
fiscal year. This extra week in the fiscal 2004 fourth quarter and year creates
an aberration when comparing to financial performance in other periods. Overall,
the impact of the extra week was approximately $11.3 million in revenue, $1.2
million in gross profit, $0.8 million in operating expenses, $0.4 million in
operating income, and $0.02 earnings per share.
Revenue
Revenue increased $124.3 million, or 28.5%, from $435.7 million in fiscal
2003 to $560.0 million in fiscal 2004. The increase in revenue was due to
several factors. First, sales of Fuzeon(R), a new HIV medication introduced in
late fiscal 2003, contributed $67.7 million and $4.5 million in revenue in
fiscal 2004 and 2003, respectively. Second, the December 2003 acquisition of
Accent Rx, a specialty mail service pharmacy focusing primarily on HIV/AIDS and
post-organ transplant disease states, contributed approximately $6.3 million in
revenue when integrated into our existing mail service operations in the second
half of fiscal 2004. Third, as noted previously, the extra week in fiscal 2004
added approximately $11.3 million in revenue. Overall, the number of patients
served, particularly patients with HIV, organ transplants, rheumatoid arthritis,
and multiple sclerosis increased by approximately 17%.
The table below shows disease state revenue for fiscal 2004 and 2003 in
dollars and as a percentage of total revenue.
FISCAL 2004 FISCAL 2003
-------------------- --------------------
% OF % OF %
(DOLLAR AMOUNTS IN THOUSANDS) (53 WEEKS) TOTAL (52 WEEKS) TOTAL CHANGE
- ----------------------------- ---------- ------ ---------- ------ ------
HIV/AIDS $301,053 53.8% $198,074 45.5% 52.0%
Transplant 100,989 18.0 85,479 19.6 18.1
Other Disease States 157,922 28.2 152,160 34.9 3.8
-------- ----- -------- ----- ----
Total $559,964 100.0% $435,713 100.0% 28.5%
======== ===== ======== ===== ====
Our HIV patient revenue grew approximately $103.0 million in fiscal 2004,
or 52%, from fiscal 2003. Revenue from Fuzeon(R) patients contributed $63.2
million to this growth. Transplant patient revenue grew approximately $15.5
million, or 18%. The remainder of our patient revenue increased approximately
$5.8 million, or 4%. Revenue from rheumatoid arthritis and multiple sclerosis
patients grew significantly over the prior year, offset by declines in oncology
and hepatitis C. In addition, the fiscal 2003 "Other Disease States" revenue
included $3.6 million from our arrangement to manage three District of Columbia
Department of Mental Health pharmacies from November 2002 through February 2003.
We plan to continue to expand the types of specialty pharmaceutical medications
that we distribute at all of our pharmacies beyond our HIV/AIDS and
post-transplant focus to include hepatitis C, rheumatoid arthritis, multiple
sclerosis, dialysis, and other disease states.
Our business consists of four major payor categories. Aetna, a single
large contracted payor, represented approximately 20% and 24% of revenues in
fiscal 2004 and 2003, respectively. The decrease as a percentage of revenue is
primarily due to growth of non-Aetna payors. Total fiscal 2004 Aetna revenue
dollars were flat compared to fiscal 2003 due to Aetna's decision to transfer
the oncology portion of our specialty pharmacy contract to another provider. The
loss in oncology revenue was partially offset by Aetna's decision to award us
exclusive distribution of bone marrow transplant medications. Except for Aetna,
no other private payor accounted for 10% or more of our revenues in fiscal 2004
and 2003. The approximate mix of our fiscal 2004 total revenue across the
remaining three payor categories is as follows: Medicaid and other state
programs including State of Indiana programs, 35%; Medicare, the federal program
which covers many organ transplant recipients, 7%; and all other payors, 38%.
Beginning in October 2003, a State of Indiana government-sponsored payment
program for HIV positive and other high-cost individuals reduced its
reimbursement rate. This payor represented approximately 3% of our revenues, and
the rate change negatively impacted our revenue and gross margin by a total of
approximately $1.8 million in the last three quarters of fiscal 2004.
22
Aetna's specialty pharmacy business, which is currently served by three
providers, of which one is Chronimed, has publicly announced that it would be
consolidated into Aetna Specialty Pharmacy. Aetna indicated that this new
business will begin in 2005 and that it expected to transition the business
fully into Aetna Specialty Pharmacy by the calendar third quarter of 2005. As
indicated above, Aetna represented approximately 20% of revenues in fiscal 2004,
or approximately $112 million for the year, or $28 million per quarter.
Our one-year exclusive contract with Roche Laboratories Inc. to distribute
Fuzeon(R) ended April 26, 2004. Our Fuzeon(R) product revenue declined in our
fourth quarter of fiscal 2004 by 6%, or $1.3 million, from third quarter. This
decline is likely to continue into fiscal 2005 due to the expanded distribution
network for Fuzeon(R) after April 26, 2004, discontinuation of therapy by
Fuzeon(R) patients, and less than expected new patient prescriptions of
Fuzeon(R).
In fiscal 2004 our retail distribution channel accounted for approximately
57%, or $318.9 million, of our revenue. Our retail pharmacies had
same-store-growth of 27% or $68.5 million in fiscal 2004 compared to last year.
In fiscal 2004, our mail service distribution channel accounted for
approximately 43%, or $241.1 million, of our revenue. Mail service revenue grew
33%, or $59.5 million, due to HIV and Fuzeon(R).
Cost of Revenue and Gross Profit
Total gross profit dollars increased $9.8 million, or 18.5%, from $53.1
million in fiscal 2003 to $62.9 million in fiscal 2004 due to revenue growth
from Fuzeon(R) and new HIV and transplant patients. Gross margins as a
percentage of revenue decreased from 12.2% in fiscal 2003 to 11.2% in fiscal
2004. The expected decline in gross margin rate was due primarily to the
reduction in Medicare transplant reimbursement rates beginning January 2004,
lower-than-average margin rates from Fuzeon(R), and the October 2003 reduction
in the reimbursement rate from a State of Indiana government-sponsored HIV
program as further described below.
The Medicare Prescription Drug Improvement and Modernization Act, signed
in December 2003 and effective January 1, 2004, contained a reimbursement
reduction for transplant medications provided to patients covered under Medicare
Part B. The Act reduced reimbursement approximately 10% on all Medicare-covered
transplant medications. The net impact on revenue and operating income was
approximately $2.0 million in the second half of fiscal 2004. Medicare
represented approximately 7% of our total revenues in fiscal 2004.
We had lower-than-average margin rates on Fuzeon(R) sales of $67.7
million, or 12% of total revenue, and $4.5 million, or 1% of total revenue, in
fiscal 2004 and 2003, respectively.
The October 2003 reduction in the State of Indiana government-sponsored
program's reimbursement rate lowered our revenue and gross margin by a total of
approximately $1.8 million in the last three quarters of fiscal 2004 compared to
fiscal 2003.
Beginning September 2004, Aetna has lowered its reimbursement rate on
several key drugs. This will result in lower revenue, gross margin, and
operating income of approximately $1.7 million for fiscal 2005 from Aetna based
on current volumes through June 2005. Aetna represented approximately 14% and
16% of our gross profit for fiscal 2004 and 2003, respectively.
In fiscal 2005, several state Medicaid programs have reduced or are
considering reductions in their pharmacy reimbursement rates as a result of
state budget pressures. California, Florida and Wisconsin in particular will be
reducing their reimbursement in the first quarter of our fiscal 2005 ending
October 1, 2004, and New York in the third quarter of fiscal 2005. We currently
estimate that these reductions in reimbursement will approximate $2.8 million in
lower revenue, gross margin, and operating income for fiscal 2005 (an annualized
amount of $3.3 million) based on current volume.
Operating Expenses
23
Our operating expenses include selling and marketing, general and
administrative (G&A), and bad debt expenses. Our G&A expenses include both
corporate G&A expenses (corporate management, information systems, accounting,
and human resources) and direct operational G&A expenses (functional management,
customer service, billing, and pharmacy fulfillment). Our business model for
operating expenses is to continue to improve efficiency on greater volume.
Selling and Marketing Expenses
Our selling and marketing expenses increased $2.0 million, or 52.2%, from
$3.8 million in fiscal 2003 to $5.8 million in fiscal 2004. This increase in
expenses is primarily due to the fiscal 2003 fourth quarter additions to our
sales force and increased travel and promotional activities.
General and Administrative Expenses
Our general and administrative expenses increased $4.8 million, or 12.6%,
from $38.4 million in fiscal 2003 to $43.2 million in fiscal 2004. As a
percentage of revenue, general and administrative costs decreased to 7.7% from
8.8% reflecting a leveraging of G&A expenses on growing sales. The dollar
increase for fiscal 2004 was due in part to expense growth of approximately $2.4
million in operating expenses related to patient and revenue growth, $0.5
million investment in business development, $0.3 million in consulting fees
incurred in preparation for compliance with Section 404 of the Sarbanes-Oxley
Act, $0.2 million in higher insurance premiums, and an additional $0.2 million
charge as part of a tentative settlement related to certain reimbursement claims
submitted to the District of Columbia Medicaid between January and April 2000.
Included in fiscal 2003 general and administrative expenses was compensation
expense for restricted stock grants of $0.6 million and higher payroll costs,
legal fees, and insurance costs.
General and administrative expenses related to the August 9, 2004
announced merger with MIM Corporation, are expected to be expensed in the first
half of fiscal 2005. These expenses include investment banking, legal, and
accounting expenses estimated at approximately $1.5 million.
Bad Debt Expense
Our bad debt expense increased $0.8 million, or 23.6%, from $3.2 million
in fiscal 2003 to $4.0 million in fiscal 2004 resulting from a 28.5% increase in
revenue. Bad debt expense represented 0.7% of revenues for fiscal 2004 and 2003.
The allowance for bad debt expense increased from $4.5 million as of June 27,
2003, to $4.7 million as of July 2, 2004, commensurate with increased accounts
receivable balances related to higher revenue.
Interest Income
Interest income, net of interest expense, decreased $0.1 million, from
$0.3 million in fiscal 2003 to $0.2 million in fiscal 2004. Interest income
decreased from fiscal 2003 due to our decreased invested asset levels. We had no
short-term borrowing costs on our line of credit in fiscal 2004 and 2003.
Other Income
We recorded approximately $0.2 million other income for payment on a fully
reserved note receivable in fiscal 2004.
Income Taxes
Our effective income tax rate was 32.2% and 38.0% in fiscal 2004 and 2003,
respectively. Income tax expense for fiscal 2004 was $3.3 million, net of a $0.6
million benefit resulting from a reduction in income tax liabilities associated
with prior tax years that are now audited and closed. Without this reduction,
our income tax rate was 38.0% for fiscal 2004. See Note 6, Notes to Consolidated
Financial Statements for the reconciliation to
24
our statutory rate. Looking forward to fiscal 2005, we expect our combined
Federal and State tax rate to approximate 39.0% due to expanded business in
higher-taxed states.
25
FISCAL 2003 COMPARED TO FISCAL 2002
Revenue
Total revenue for fiscal 2003 grew 9.6% to $435.7 million from
$397.4 million in fiscal 2002 primarily resulting from the growth in sales from
HIV/AIDS, organ transplant, and hepatitis C medications. The table below shows
disease state revenue for fiscal 2003 and 2002 in dollars and as a percentage of
total revenue.
FISCAL 2003 FISCAL 2002
-------------------- --------------------
% OF % OF %
(DOLLAR AMOUNTS IN THOUSANDS) (52 WEEKS) TOTAL (52 WEEKS) TOTAL CHANGE
- ----------------------------- ---------- ------ ---------- ------ ------
HIV/AIDS $198,074 45.5% $193,374 48.6% 2.4%
Transplant 85,479 19.6 68,276 17.2 25.2
Other Disease States 152,160 34.9 135,787 34.2 12.1
-------- ----- -------- ----- ----
Total $435,713 100.0% $397,437 100.0% 9.6%
======== ===== ======== ===== ====
Our HIV patient revenue grew approximately $4.7 million in fiscal 2003, or
2%, from fiscal 2002. Revenue from Fuzeon(R) patients contributed $4.5 million
to this growth. The year-to-year HIV growth was impacted approximately $2.0
million due to our closing 14 of our 41 StatScript pharmacies in the second half
of fiscal 2002. These pharmacies derived the majority of their revenues from HIV
patients. Transplant patient revenue grew approximately $17.2 million, or 25%.
The remainder of our patient revenue increased approximately $16.4 million, or
12%. Revenue from rheumatoid arthritis, multiple sclerosis, and hepatitis C
patients grew over the prior year. In addition, the fiscal 2003 "Other Disease
States" revenue included $3.6 million from our arrangement to manage three
District of Columbia Department of Mental Health pharmacies from November 2002
through February 2003.
Our business consists of four major payor categories including Aetna,
Medicaid and other state programs; Medicare, the federal program which covers
many organ transplant recipients; and all other payors. Aetna, a single large
contracted payor, represented approximately 24% and 26% of revenues in fiscal
2003 and 2002, respectively. Except for Aetna, no other private payor accounted
for 10% or more of our revenues in fiscal 2003 and 2002. Included within the
state program payor category, a State of Indiana government-sponsored payment
program for HIV positive and other high-cost individuals, represented
approximately 3% of our revenues in fiscal 2003 and 2002.
In fiscal 2003 our retail distribution channel accounted for approximately
58%, or $253.9 million, of our revenue. Our retail pharmacies grew 13%, or $29.7
million, in fiscal 2003 compared to last year. This increase was due to
continued additions of new patients at existing stores and a combination of
increased anti-viral medication volume bolstered by increased post-transplant
drug sales. In fiscal 2003, our mail service distribution channel accounted for
approximately 42%, or $181.6 million, of our revenue. Mail service revenue grew
5%, or $8.6 million. This growth was due to the addition of new biotech
injectable patients from several payors and price inflation.
Cost of Revenue and Gross Profit
Total gross profit dollars increased $5.4 million or 11.3%, from $47.7
million in fiscal 2002 to $53.1 million in fiscal 2003. Gross margins as a
percentage of revenue improved slightly from 12.0% in fiscal 2002 to 12.2% in
fiscal 2003. Margins as a percentage of revenue increased slightly from the year
ago period due to improved purchasing programs and a change in product mix
toward higher margin products. We experienced a
26
stabilization in pricing pressures in some markets we serve while experiencing a
reduction in reimbursement rates by several payors, particularly state Medicaid
programs.
Aetna represented approximately 16% and 14% of our gross profit for fiscal
2003 and 2002, respectively. A State of Indiana government-sponsored payment
program represented approximately 5% and 6% of our margins for fiscal 2003 and
2002, respectively.
Selling and Marketing Expenses
Our selling and marketing expenses increased $0.5 million, or 13.8%, from
$3.3 million in fiscal 2002 to $3.8 million in fiscal 2003. This increase in
expenses was primarily due to fiscal 2003 fourth quarter additions to our sales
force and increased travel and promotion activities.
General and Administrative Expenses
Our general and administrative expenses decreased $0.6 million, or 1.6%,
from $39.0 in fiscal 2002 to $38.4 million in fiscal 2003. Included in fiscal
2003 general and administrative expenses was compensation expense for restricted
stock grants of $0.6 million and higher payroll costs, legal fees, and insurance
costs. Fiscal 2002 included charges of $3.6 million related to the StatScript
retail business for the costs of transferring the Kansas City retail
headquarters to Minneapolis, store closing costs, and costs associated with the
fiscal 2001 financial restatement. Excluding these charges, fiscal 2002 general
and administrative expenses were $35.5 million, or 8.9% of revenues.
Bad Debt Expense
Our bad debt expense decreased $0.3 million, or 8.6% in fiscal 2003. Bad
debt expense represented 0.7% and 0.9% of revenues for fiscal 2003 and fiscal
2002, respectively. The allowance for bad debt expense decreased from $5.4
million as of June 28, 2002, to $4.5 million as of June 27, 2003, commensurate
with our declining accounts receivable balance, improved agings, and lower
write-off experience.
Interest Income
Interest income, net of interest expense, increased $0.2 million, from
$0.1 million in fiscal 2002 to $0.3 million in fiscal 2003. Interest income
decreased from fiscal 2002 due to the declining interest rate environment
partially offset by our increased invested asset levels. Interest expense
declined in fiscal 2003 due to no short-term borrowing costs on our line of
credit. Included in interest income for fiscal 2002 was $0.4 million of interest
on a note receivable with the buyer of our Home Service Medical (HSM) business
in September 2000. This note was paid in full during fiscal 2002 and as a result
did not generate interest income in fiscal 2003.
Other Income
Other income of $3.9 million in fiscal 2002 includes a $3.8 million gain
on the collection of a previously reserved note receivable due from the buyer of
our HSM business.
Income Taxes
In fiscal 2003 and 2002 the effective income tax rate was 38.0% and 36.3%,
respectively. See Note 6, Notes to Consolidated Financial Statements for the
reconciliation to our statutory rate.
LIQUIDITY AND CAPITAL RESOURCES
As of July 2, 2004, we had $57.0 million of working capital, compared to
$51.7 million as of June 27, 2003. During fiscal 2004, we generated $0.4 million
of cash from operating activities. Our accounts receivable increased $1.9
million due to the 29% increase in revenue offset by our active collection
efforts and increased
27
electronic billing. We continue to experience a delay in receiving a $2.1
million payment from the District of Columbia Department of Mental Health. The
receivable arose from sales during the period from November 2002 to February
2003. We expect to receive payment on this receivable. Average days sales
outstanding (DSO) of our accounts receivable improved from 34 days at June 27,
2003, to 28 days at July 2, 2004. We expect our accounts receivable days sales
outstanding to hold at about 30 days in fiscal 2005. We used a net $6.6 million
in cash to decrease accounts payable, due primarily to shorter payment terms
with our new pharmaceutical wholesaler. The average days inventory on hand was 8
days at June 27, 2003, and July 2, 2004, respectively. Inventory increased $1.7
million to support the business growth. We expect to maintain our inventory days
on hand level at approximately 8 days throughout fiscal 2005. Working capital
generated from higher accrued expenses provided $2.0 million in cash for the
year due to the timing of salary, commissions, and health care benefit payments.
In addition, we experienced overpayment errors from one of our payors in fiscal
2004 resulting in a $1.2 million payable as of July 2, 2004.
We used approximately $8.5 million of cash in investing activities during
fiscal 2004, consisting of $4.2 million for the purchase of Accent Rx, a mail
service specialty pharmacy, $1.5 million in purchases of short-term investments,
and $2.7 million for leasehold improvements, furniture, equipment, and computer
hardware and software.
We had no outstanding borrowings as of fiscal year end 2004 and 2003.
Shareholders' equity as of fiscal year end 2004 and 2003 was $94.6 million and
$85.5 million, respectively. Net tangible assets, an indicator of borrowing
capacity, as of fiscal years ended 2004 and 2003, were $60.1 million and $55.3
million, respectively. As of July 2, 2004, we had a secured line of credit
totaling $30 million. The borrowing base on the line of credit is a calculated
amount based on our inventory and non-government accounts receivable balances.
We had no borrowings under our line of credit during fiscal 2004. We are in
compliance with the covenants of the line of credit as of July 2, 2004. Under
the terms of the agreement, the debt is secured by receivables and inventory and
bears interest at the Eurodollar rate plus an applicable margin depending on our
covenant calculation (approximately 3.55% at July 2, 2004). The line of credit
expires in April 2006.
We believe that our cash and cash equivalents, short term investments,
line of credit, and cash provided by operating activities should allow us to
meet foreseeable cash requirements and provide the flexibility to fund future
working capital growth. However, we would need to seek additional debt or equity
financing beyond our current $30 million line of credit to fund any major
business acquisitions or capital spending projects. We expect our capital
project requirements to be approximately $3 million in fiscal 2005.
Our future contractual commitments consisting entirely of payments due
under operating leases are as follows:
(IN THOUSANDS)
LESS THAN ONE ONE TO THREE FOUR TO FIVE AFTER FIVE
TOTAL YEAR YEARS YEARS YEARS
- ---------------------------------------------------------------------------------------------------------------------
Total operating lease obligations $ 4,373 $ 2,458 $ 1,538 $ 315 $ 62
RESTRICTED STOCK GRANTS
In August 2002, the Compensation Committee of the Board of Directors
granted 145,000 restricted shares of common stock to our officers under our 2001
Stock Incentive Plan. These restricted shares, valued at $0.7 million based on
our fair market value of $4.71 per common share at the date of grant, were to be
recognized as compensation expense over a four year vesting period, subject to
an acceleration provision based on an increase in our stock price to $7.54 or
more for five consecutive trading days. In October 2002, 20,000 of these shares
were cancelled. The remaining 125,000 restricted shares vested on March 7, 2003,
as provided by the acceleration provision and we recognized compensation expense
of $0.6 million during fiscal 2003.
28
NEW ACCOUNTING PRONOUNCEMENTS
We have reviewed the recent accounting standards and do not believe any of
these standards will have a material impact on the Company's financial position
or operating results.
IMPACT OF INFLATION
Changes in prices charged by biopharmaceutical manufacturers for the drugs
we dispense, along with increasing labor costs, freight and supply costs and
other overhead expenses, affect our cost of revenue and general and
administrative expenses. Historically, we have been able to pass a portion of
the effect of such increases to the payor and patient pursuant to automatic
price adjustments made under our payor contracts. As a result, changes due to
inflation have not had significant adverse effects on our operations.
FORWARD-LOOKING STATEMENTS
Information contained in this Management's Discussion and Analysis of
Financial Condition and Results of Operations, other than historical or current
facts, should be considered forward-looking statements as defined in the Private
Securities Litigation Reform Act of 1995. These statements reflect management's
current views of future events and financial performance that involve a number
of risks and uncertainties. These factors include, but are not limited to, the
following: our ability to maintain satisfactory on-going arrangements with
biopharmaceutical manufacturers and wholesalers, and their ability to satisfy
our volume, pricing, and product requirements; decrease in demand for drugs we
handle; changes in Medicare or Medicaid reimbursement, rules and regulations;
loss of relationships with, and/or significant reductions in reimbursements
from, payors (including Aetna or other material contracts); the commencement of
legal proceedings against us and our Board of Directors; failure of our
shareholders to approve the merger; negative cost containment trends or
financial difficulties by our payors; changes in or unknown violations of
various federal, state, and local regulations; costs and other effects of legal
or administrative proceedings; the adoption of new or changes to existing
accounting policies and practices and the application of such policies and
practices; the amount and rate of growth in our selling, general and
administrative expenses and the impact of unusual items resulting from our
ongoing evaluation of our business strategies, asset valuations and
organizational structures; the impairment of a significant amount of our
goodwill or intangible assets; the effects of and changes in, trade, monetary
and fiscal policies, laws and regulations, and other activities of government
agencies; changes in social and economic conditions; changes in interest rates;
increased competition; our reliance on a single shipping provider to handle our
mail deliveries; our ability to obtain competitive financing to fund operations
and growth; loss or retirement of key executives; continuing qualifications to
list our securities on the Nasdaq National Market; developments in medical
research affecting the treatment or cure of conditions for which we distribute
medications; the ability of management and accounting controls to assure
accurate and timely recognition of revenue and earnings; computer system,
software, or hardware failures or malfunctions; and adverse publicity, news
coverage, and reporting by independent analysts. These and other risks and
uncertainties are discussed in further detail in the cautionary statement filed
as Exhibit 99.1 as part of Chronimed's annual report and Form 10-K filed with
the Securities and Exchange Commission.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to interest rate risk primarily through our borrowing
activities under our line of credit discussed in Item 7 of this report. Our
short-term borrowings would bear interest at variable rates based on the
Eurodollar rate plus an applicable margin depending on our covenant calculation.
A 10% increase in interest rates would not have a significant effect on our
interest expense based on the fact that we had no borrowings in fiscal 2004.
Interest rate risk on our investments is immaterial due to our level of
investment dollars. Foreign currency exchange rate risk, commodity price risk,
or other market risks (e.g. equity price) are not present. We do not use
financial instruments for trading or other speculative purposes and are not a
party to any leveraged financial instruments.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
29
The financial statements and supplementary financial information required
to be filed under this Item are presented on pages F-1 through F-23 of this
Annual Report on Form 10-K, and are incorporated herein by reference.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
ITEM 9A. CONTROLS AND PROCEDURES
Our management, including the Chief Executive Officer and Chief Financial
Officer, have conducted an evaluation of the effectiveness of disclosure
controls and procedures (as such term is defined in Rules 13a-15(e) and
15d-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange
Act")) as of the end of the period covered by this report. Based on such
evaluation, our Chief Executive Officer and Chief Financial Officer have
concluded that, as of the end of such period, our disclosure controls and
procedures are effective.
There have not been any changes in our internal controls over financial
reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the
Exchange Act) during our most recent quarter that have materially affected, or
are reasonably likely to materially affect, our internal controls over financial
reporting.
ITEM 9B. OTHER INFORMATION
None.
30
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF REGISTRANT
DIRECTORS
DIRECTORS SERVING IN OFFICE UNTIL 2004 (CLASS I):
KAREN GILLES LARSON, age 62, director since 2003
PRESIDENT AND CHIEF EXECUTIVE OFFICER, SYNOVIS LIFE TECHNOLOGIES
Ms. Larson is President and Chief Executive Officer of Synovis Life
Technologies. She joined Synovis in 1989 as Director of Finance and
Administration and was named Vice President later that year. The following year
she was given the additional title of Chief Financial Officer and served in that
capacity until she was appointed President and Chief Executive Officer in July
1997. Ms. Larson serves on the board of directors of Synovis Life Technologies
and has served as a director of Reuter Manufacturing.
STUART A. SAMUELS, age 62, director since 2000
MANAGEMENT CONSULTANT
Mr. Samuels has been a management consultant, specializing in business
management, strategic sales and marketing, and business development for several
companies, specifically in the pharmaceutical and healthcare industries since
1990. From 1986 to 1990, Mr. Samuels was Senior Vice President at Rorer
Pharmaceutical Corporation, General Manager at Rorer Pharmaceuticals and
President at Dermik Laboratories. Prior to that time he held several executive
sales and marketing positions at Revlon Health Care Group and various product
management positions at Warner Lambert. He currently serves on the boards of
directors of Afferon Corporation, PharMetrics, Inc., and Target Rx, Inc., and
completed a board term with Health Market Sciences in 2004.
DIRECTORS CONTINUING IN OFFICE UNTIL 2005 (CLASS II):
HENRY F. BLISSENBACH, PHARM.D., age 62, director since 1995
CHAIRMAN OF THE BOARD OF DIRECTORS AND CHIEF EXECUTIVE OFFICER, CHRONIMED INC.
Dr. Blissenbach was appointed Chairman of the Board and Chief Executive
Officer of Chronimed Inc. on July 1, 2000. Dr. Blissenbach was named President
and Chief Operating Officer of the Company in May 1997. He became a director of
the Company in September 1995. From 1992 to 1997, he served as President of
Diversified Pharmaceutical Services, Inc. (DPS), a UnitedHealthcare subsidiary
until 1994 and thereafter a subsidiary of SmithKline Beecham Corp. DPS was a
pharmacy benefit management firm. Dr. Blissenbach also serves as a director of
Ligand Pharmaceuticals Inc., a publicly held biopharmaceutical development
company, and Opportunity Partners, Inc., a non-profit company.
THOMAS F. HEANEY, age 59, director since 2000
MANAGING DIRECTOR, TFH LTD.
Mr. Heaney is the Managing Director of TFH Ltd., a management consulting
firm specializing in executive and board of directors recruitment. Mr. Heaney is
responsible for senior-level and board of director searches. Prior to TFH Ltd.,
Inc., Mr. Heaney was a Managing Director in the Minneapolis office of Korn/Ferry
International, a management consulting firm. Prior to that time, Mr. Heaney
served in various executive roles at UnitedHealthcare Management Company,
UnitedHealthcare Corporation, and Physicians Health Plan of Minnesota (now
Allina Health Systems). Mr. Heaney serves on the boards of directors of the
Illusion Theater, Insight, Inc., the Minnesota News Council, and the Decathlon
Athletic Club.
31
CHARLES V. OWENS, JR., age 77, director since 1991
MANAGEMENT CONSULTANT
Mr. Owens has served as a consultant to several medical device and
diagnostic firms in the United States and Japan since 1988. From 1985 to 1988,
he was Chief Executive Officer of Genesis Labs, Inc., a diagnostics
manufacturing company. Before his employment with Genesis Labs, Inc., Mr. Owens
was an executive officer with various medical device companies, including
Executive Vice President of Miles Laboratories, Inc. Mr. Owens is a past
director of St. Jude Medical, Inc., a medical device company, and was a director
of Genesis Labs, Inc.
DIRECTORS CONTINUING IN OFFICE UNTIL 2006 (CLASS III):
THOMAS A. CUSICK, age 59, director since 2002
RETIRED CHIEF OPERATING OFFICER, TCF FINANCIAL
Mr. Cusick was the Chief Operating Officer and Vice Chairman of TCF
Financial prior to his retirement in December 2002. He had been Chief Operating
Officer since 1997 and had been Vice Chairman since 1993. He had been President
of TCF Financial from its formation in 1987 to 1993. Mr. Cusick also served as
Chief Executive Officer of TCF National Bank from 1993 to 1996. Mr. Cusick is a
past Chairman of the Savings League of Minnesota and a past member of the Board
of Trustees of the College of St. Benedict. Mr. Cusick has been a director of
TCF Financial since 1988 and is a director of First Florida Bank.
MYRON Z. HOLUBIAK, age 57, director since 2002
GROUP PRESIDENT, FIELD LEVEL MARKETING, HEALTHSTAR
Mr. Holubiak has been a partner and Group President of HealthSTAR
Communications, Inc., a health care marketing communications network of 16
companies since 2002. From August 2001 to June 2002, Mr. Holubiak was President,
Chief Operating Officer, and member of the Board of Directors of iPhysicianNet,
Inc., a video detailing company. From December 1998 to August 2001, Mr. Holubiak
served as the President of Roche Laboratories, USA, a major research based
pharmaceutical company. Prior to this he spent 15 years in a variety of
marketing, sales, and executive positions with Roche Laboratories. He also
founded Emron, Inc., a health care consulting company, which was sold to IMS
Health Inc. in 1995. Mr. Holubiak served on the Board of Directors of the Robert
Wood Johnson Hospital Foundation from 1999 to 2001. He currently serves on the
Board of Directors of the Nastech Pharmaceutical Company Inc. and the Children
of Chernobyl Relief Foundation.
DAVID R. HUBERS, age 61, director since 2000
RETIRED CHAIRMAN OF AMERICAN EXPRESS FINANCIAL ADVISORS INC.
Mr. Hubers was Chairman of American Express Financial Advisors Inc. prior
to his retirement. He joined American Express Financial Advisors Inc. in 1965
and held various positions until being named Senior Vice President of Finance
and Chief Financial Officer in 1982. In August 1993 he was appointed President
and Chief Executive Officer and served in that capacity until June 2001. Mr.
Hubers serves on the boards of directors of the Carlson School of Management at
the University of Minnesota, Lawson Software, the National Council on Economic
Education, and American Express Property Casualty Co. He is also chairman of the
Compensation Committee at Lawson Software.
COMMITTEES
Audit Committee - Directors Cusick, Larson, Hubers, and Samuels are
independent directors as defined in Rule 4200(a)(14) of the National Association
of Securities' Dealers (NASD) listing standards and the only members of the
Audit Committee of the Board of Directors. The Committee met five times during
fiscal 2004. The Audit Committee is governed by a written charter and represents
the Board in discharging its responsibilities relating to accounting, reporting,
and financial control practices of the Company. The Committee also annually
selects the Company's independent auditors,
32
reviews the qualifications and objectivity of the independent auditors, reviews
the scope, fees, and results of their audit, and reviews their management
comment letters. Mr. Cusick serves as Chairman.
Compensation Committee - The members of the Compensation Committee, which
oversees compensation for directors, officers, and key employees of the Company,
are Directors Heaney, Holubiak, Owens, and Samuels, who are all independent
directors as defined by the NASD listing standards. The Compensation Committee
met five times during fiscal 2004. Mr. Owens serves as Chairman.
Nominating and Governance Committee - The Nominating and Governance
Committee is comprised of Directors Heaney, Holubiak, and Owens, who are all
independent directors as defined by the NASD listing standards. The Committee
evaluates Board composition, recommends candidates for nomination to the Board,
coordinates Board assessments, and monitors and recommends Board governance
practices. The Committee met three times during fiscal 2004. Mr. Heaney serves
as Chairman.
EXECUTIVE OFFICERS
The Company's executive officers and their ages as of August 31, 2004, are
as follows:
Name Age Position
- --------------------------------------------------------------------------------------------------
Henry F. Blissenbach, Pharm.D. 62 Chairman of the Board and Chief Executive Officer
Gregory H. Keane 49 Vice President, Chief Financial Officer and Treasurer
Anthony J. Zappa, Pharm.D. 43 Executive Vice President, Operations
Brian J. Reagan 43 Vice President, Corporate Development
Kenneth S. Guenthner 48 General Counsel and Secretary
Colleen M. Haberman 43 Vice President, Human Resources
Thomas A. Staloch 40 Vice President, Chief Information Officer
Dr. Blissenbach was appointed Chairman of the Board and Chief Executive
Officer of the Company on July 1, 2000. Dr. Blissenbach was named President and
Chief Operating Officer in May 1997. He became a director of the Company in
September 1995. From 1992 to 1997, he served as President of Diversified
Pharmaceutical Services, Inc. (DPS), a UnitedHealthcare subsidiary until 1994,
and thereafter a subsidiary of SmithKline Beecham Corp. DPS was a pharmacy
benefit management firm (PBM). Dr. Blissenbach also serves as a director of
Ligand Pharmaceuticals Inc., a publicly-held biomedical development company, and
Opportunity Partners, a non-profit company.
Mr. Keane joined the Company as Controller in April 1996. He was appointed
Vice President and Treasurer in March 1999. In February 2000 he was appointed
Chief Financial Officer. From 1983 to 1996, Mr. Keane served in a number of
financial management roles at National Computer Systems, a publicly held systems
and services company based in Minneapolis, Minnesota. Previous employment
included financial management positions in the software industry and public
accounting experience.
Dr. Zappa joined the Company in January 2002 as Executive Vice President,
Operations. Prior to joining Chronimed, Dr. Zappa held a variety of executive
positions in healthcare. He was General Manager at Fairview Home Medical
Equipment from July 2000 to September 2001, Executive Vice President for
Operations at Cranespharmacy.com from May 1999 to July 2000, Vice President for
Clinical Services at Chronimed Inc. from June 1998 to May 1999, and Vice
President of Product Management at Value Rx/Express Scripts from June 1997 to
June 1998.
Mr. Reagan joined the Company as Vice President, Corporate Development in
September 2002. From December 2000 to September 2002, Mr. Reagan served as
President of Orchard Hill Partners, a business consulting
33
firm. Mr. Reagan's previous experience was in the investment banking industry.
He was a Managing Director at John G. Kinnard & Company from 1998 to 2000 and
held a variety of executive positions at Dain Rauscher Inc. from 1987 to 1998.
Mr. Guenthner joined the Company in February 1998 as corporate counsel and
was appointed Secretary in March 1999. He was named General Counsel on July 1,
2000. Prior to joining the Company, Mr. Guenthner maintained a private legal
practice representing both public and private companies.
Ms. Haberman joined the Company in March 2004 as Vice President, Human
Resources. From 1996 to 2002 she served as Vice President, Human Resources for
Express Scripts/ValueRx. From 1983 through 1995 she held a variety of positions
with Residential Services Corporation of America (The Prudential Home Mortgage
Company, now affiliated with Wells Fargo). Most recently she was Vice President
of Client Services for this mortgage banking entity.
Mr. Staloch joined the Company as Director Application Systems in December
2000. He was appointed Vice President, Chief Information Officer in May 2002.
From 1996 to 2000, Mr. Staloch served in two positions, most recently as
Director of Investment Company Services IT at Merrill Corporation based in St.
Paul, Minnesota. From 1987 to 1996, Mr. Staloch served as a Systems Architect at
West Publishing Company based in Eagan, Minnesota.
AUDIT COMMITTEE FINANCIAL EXPERT
The Board of Directors has determined that David R. Hubers and Karen
Gilles Larson are "audit committee financial experts" as defined under the rules
of the Securities and Exchange Commission and are independent as defined under
NASD's listing standards.
SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE
Section 16(a) of the Securities Exchange Act of 1934 requires the
Company's officers, directors, and certain shareholders to file reports of
ownership and changes in ownership of the Company's Common Stock with the
Securities and Exchange Commission. To the Company's knowledge, based on a
review of the copies of such reports furnished to the Company and written
representations that no other reports were required, all Section 16(a) filing
requirements were met during fiscal 2004.
CODE OF ETHICS
Chronimed has adopted a Code of Ethics as defined under the rules of the
Securities and Exchange Commission that applies to all directors, officers, and
employees including Chronimed's chief executive officer and senior financial
officers. The text of the Code of Conduct is included in the Investor Relations,
Management Team section of Chronimed's website at www.chronimed.com. A copy of
the Code of Conduct is available upon request, without charge, by contacting
Brad Schumacher, Director of Investor Relations at (952) 979-3942.
ITEM 11. EXECUTIVE COMPENSATION
The following table sets forth the compensation paid during the fiscal
year ended July 2, 2004, and for fiscal 2003 and 2002, where applicable, to the
Company's Chairman of the Board of Directors and Chief Executive Officer and the
four other most highly paid executive officers (the "named executive officers")
of the Company:
34
LONG TERM
ANNUAL COMPENSATION COMPENSATION AWARDS
----------------------------------- -----------------------
OTHER RESTRICTED SECURITIES ALL
ANNUAL STOCK UNDERLYING OTHER
NAME AND PRINCIPAL FISCAL SALARY BONUS COMPENSATION AWARDS OPTIONS COMPENSATION
POSITION YEAR ($) ($) (1) ($) (2) ($) (3) (#) (4) ($) (5)
- ---------------------------------------------------------------------------------------------------------------------------------
Henry F. Blissenbach 2004 415,000 253,109 5,757 200,910
Chairman of the Board 2003 356,875 250,000 4,816 329,700 176,000 -
and Chief Executive Officer 2002 312,665 210,045 4,585 - 220,000 -
Kenneth S. Guenthner 2004 185,000 53,003 1,858 55,090
General Counsel 2003 168,000 60,000 1,680 65,940 11,000 -
and Secretary 2002 160,000 46,800 2,000 - 20,200 -
Gregory H. Keane 2004 210,000 82,236 2,717 83,500
Vice President, Chief Financial 2003 189,000 85,000 4,077 94,200 35,500 -
Officer and Treasurer 2002 180,000 73,440 3,510 - 20,000 -
Brian J. Reagan (6) 2004 215,000 82,130 - 64,550
Vice President, Corporate 2003 156,615 65,000 - - 25,000 21,000
Development
Anthony J. Zappa (7) 2004 241,500 85,346 2,606 69,780
Executive Vice President, 2003 219,166 90,000 3,958 47,100 52,000 -
Operations 2002 96,154 - - - - -
(1) Bonus amounts represent the bonus earned for the fiscal year shown but
paid in the next fiscal year.
(2) Other Annual Compensation consists of Company 401(k) contribution matches.
(3) In August 2002, the Compensation Committee of the Board of Directors
approved restricted stock grants to our officers under our 2001 Stock
Incentive Plan. These restricted shares were to be recognized as
compensation expense over the four year vesting period of the grant,
subject to an acceleration provision based on increases in our stock
price. The restricted shares fully vested in March 2003 as provided by the
grant acceleration provision and were fully recognized as compensation
expense in fiscal 2003.
(4) Fiscal 2002 option grants reflect options that were granted August 1,
2001, to all officers and certain employees for fiscal 2001, because they
were granted after the Company's June 29, 2001, fiscal year end. Fiscal
2003 option grants reflect options that were granted August 21, 2002, to
all officers and certain employees for fiscal 2002, because they were
granted after the Company's June 28, 2002, fiscal year end. Fiscal 2004
option grants reflect options that were granted August 5, 2003, to all
officers and certain employees for fiscal 2003, because they were granted
after the Company's June 27, 2003, fiscal year end. No options were
granted to officers in August 2004 for fiscal 2004. All non-qualified
stock options are transferable by each officer to his or her immediate
family members and family trusts.
(5) Amount represents compensation paid to Mr. Reagan for consulting services
performed prior to becoming a Chronimed Inc. employee and Vice President,
Corporate Development.
(6) Mr. Reagan joined the Company as Vice President, Corporate Development in
September 2002.
(7) Dr. Zappa joined the Company as Vice President, Operations in January
2002.
35
Stock Options
The following tables summarize stock option grants during fiscal 2004 to
the Company's named executive officers and the value of all options held by the
named executive officers at July 2, 2004. Executive options for fiscal 2003
performance were granted in August 2003, during fiscal year 2004, as shown
below. No executive options for fiscal 2004 performance have been granted as of
August 31, 2004.
OPTION/SAR GRANTS IN FISCAL YEAR 2004
INDIVIDUAL GRANTS
-------------------------------------------
PERCENT OF POTENTIAL REALIZABLE VALUE AT
NUMBER OF TOTAL ASSUMED ANNUAL RATES
SECURITIES OPTIONS/SARs EXERCISE OF STOCK APPRECIATION
UNDERLYING GRANTED TO OR BASE FOR OPTION TERM (2)
OPTIONS/SARs EMPLOYEES PRICE EXPIRATION -----------------------------
NAME GRANTED (#) (1) IN FISCAL YEAR ($/SHARE) DATE 5% ($) 10% ($)
- -----------------------------------------------------------------------------------------------------------------------
Henry F. Blissenbach 200,910 20.0% 10.70 08/05/13 875,159 2,039,492
Kenneth S. Guenthner 55,090 5.5% 10.70 08/05/13 239,971 559,234
Gregory H. Keane 83,500 8.3% 10.70 08/05/13 363,724 847,631
Brian J. Reagan 64,550 6.4% 10.70 08/05/13 281,178 655,265
Anthony J. Zappa 69,780 6.9% 10.70 08/05/13 303,960 708,356
(1) The options were granted under the Company's 1997 and 1999 Stock Option
Plans.
(2) The hypothetical potential appreciation shown in these columns reflects
the required calculations at annual rates of 5% and 10% set by the
Securities and Exchange Commission, and therefore is not intended to
represent either historical appreciation or anticipated future
appreciation of Chronimed's common stock price.
The Company's stock option plans generally provide that upon the
occurrence of certain "acceleration events," the options will become fully
vested. An acceleration event occurs (i) when a person, or group of persons
acting together, becomes the beneficial owner of 15% or more of the Company's
outstanding shares, (ii) when a change in a majority of the Board occurs without
the approval of at least 60% of the prior Board, or (iii) upon the approval by
shareholders of a sale of all or substantially all the assets or a liquidation
or dissolution of the Company.
The following table summarizes the option exercises during the year ended
July 2, 2004, and exercisable and nonexercisable options held as of July 2,
2004, by the Company's Named Executive Officers.
36
AGGREGATED OPTION/SAR EXERCISES IN LAST FISCAL YEAR AND
FISCAL YEAR-END OPTION VALUES
SHARES NUMBER OF SECURITIES VALUE OF UNEXERCISED
ACQUIRED UNDERLYING UNEXERCISED IN-THE-MONEY OPTIONS
ON VALUE OPTIONS AT FISCAL YEAR-END (#) AT FISCAL YEAR-END ($)
EXERCISE REALIZED ------------------------------ ------------------------------
NAME (#) ($) EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- -------------------------------------------------------------------------------------------------------------------------
Henry F. Blissenbach 79,000 26,663 493,800 384,910 909,930 366,068
Kenneth S. Guenthner - - 41,260 71,210 65,447 39,215
Gregory H. Keane 19,975 26,280 104,190 115,500 166,590 52,220
Brian J. Reagan - - 25,000 64,550 85,250 -
Anthony J. Zappa - - 62,000 84,780 179,740 10,650
DIRECTOR COMPENSATION
During fiscal 2004, non-employee directors received an annual retainer of
$30,000, plus fees of $1,500 for each board meeting attended in person or by
telephone and $500 for each committee meeting attended in person or by
telephone. Committee chairpersons received an additional $500 per committee
meeting. Directors were also reimbursed for out-of-pocket expenses incurred in
attending Board and Committee meetings.
Pursuant to the Company's 1994 Stock Option Plan for Directors, each
non-employee director automatically receives an option to purchase 30,000 shares
of Common Stock on the date of the director's initial election to the Board.
Each option has an exercise price equal to the fair market value of the
Company's Common Stock on the date of grant. The option vests on the seventh
anniversary of the date of grant unless vesting is accelerated. The option will
vest as to 5,000 shares if the Company's share price becomes 20 percent greater
than the exercise price on or before the third anniversary of the grant. The
option will vest as to an additional 10,000 shares if the price per share
becomes 60 percent greater than the exercise price on or before the fourth
anniversary of the grant. The option will vest as to the final 15,000 shares if
the price per share becomes 100 percent greater than the exercise price on or
before the fifth anniversary of the grant. Acceleration requires the maintenance
of share-price benchmarks for at least five trading days during any consecutive
30-day period. Further, these options may become immediately exercisable upon
certain change-in-control events as described in the Company's 1994 Stock Option
Plan for Directors. The options expire ten years after date of grant.
Each non-employee director receives an annual option to purchase 10,000
shares of Common Stock pursuant to the 1994 Stock Option Plan for Directors. The
option vests on the seventh anniversary of the date of grant unless vesting is
accelerated. This accelerated vesting is similar to the vesting schedule noted
above for the initial option to purchase 30,000 shares. The options expire ten
years after date of grant. In Fiscal 2004, the Directors received grants from
the 1999 Stock plan with 34%, 67%, and 100% vesting after one, two, and three
years of service, respectively. The options expire ten years after date of
grant.
Based on the above-noted terms and the price of the Company's Common Stock
during fiscal 2004, the following is a chart reflecting the unexercised
non-employee director option grants and related vesting as of August 31, 2004.
37
Option Exercise # of # of
Grant Price Options Options
Name Date ($/Share) Granted (1) Vested
- --------------------------------------------------------------------------------------------------------------------
Thomas A. Cusick 04/26/2002 $ 6.21 30,000 15,000
11/20/2002 $ 4.96 6,667 6,667
11/19/2003 $ 8.92 10,000 -
Thomas F. Heaney 11/13/2000 $ 6.88 30,000 30,000
11/27/2001 $ 4.73 10,000 10,000
11/20/2002 $ 4.96 10,000 10,000
11/19/2003 $ 8.92 10,000 -
Myron Z. Holubiak 09/20/2002 $ 4.79 30,000 30,000
11/20/2002 $ 4.96 2,500 2,500
11/19/2003 $ 8.92 10,000 -
David R. Hubers 12/14/2000 $ 8.13 30,000 15,000
11/27/2001 $ 4.73 10,000 10,000
11/20/2002 $ 4.96 10,000 10,000
11/19/2003 $ 8.92 10,000 -
Karen Gilles Larson 04/22/2003 $ 8.40 30,000 5,000
11/19/2003 $ 8.92 5,836 -
Charles V. Owens, Jr. 09/29/1994 $ 12.50 30,000 30,000
11/13/1996 $ 14.63 5,000 5,000
12/03/1997 $ 11.75 5,000 1,000
11/18/1998 $ 10.75 5,000 1,000
02/23/2000 $ 9.00 5,000 1,000
12/14/2000 $ 8.13 5,000 3,000
11/19/2003 $ 8.92 10,000 -
Stuart A. Samuels 11/13/2000 $ 6.88 30,000 30,000
11/27/2001 $ 4.73 10,000 10,000
11/20/2002 $ 4.96 10,000 10,000
11/19/2003 $ 8.92 10,000 -
(1) All non-qualified options are transferable by each director to his
immediate family members and family trusts.
EMPLOYMENT CONTRACTS AND TERMINATION OF EMPLOYMENT AND CHANGE-IN-CONTROL
ARRANGEMENTS
Employment Arrangements
Chronimed has employment agreements with two of its executive officers,
Henry F. Blissenbach, Chronimed's Chairman of the Board, Chief Executive Officer
and President, and Anthony J. Zappa, Executive Vice President of Operations. Dr.
Blissenbach entered into an employment agreement effective July 1, 2003 with an
initial three-year term expiring on July 1, 2006. The agreement automatically
renews for two-year terms unless
38
terminated for various reasons. Under the agreement, Dr. Blissenbach received a
base salary of $415,000 per year and bonuses, stock options, and benefits
commensurate with his position and responsibilities. His compensation package is
subject to increase based on performance and Board review. Dr. Blissenbach's
employment agreement contains a non-competition provision for up to one year
following termination of employment. Under Dr. Blissenbach's employment
agreement, if his employment is terminated by Chronimed without cause or through
delivery of a non-renewal notice or by him for good reason, Dr. Blissenbach is
entitled to receive (1) his base salary through the date of termination,
including the pro-rated bonus earned for the partial year, if any, (2) base
salary payments for a period of 24 months after termination at the rate in
effect on the date of termination, payable monthly, (3) the average of any
incentive compensation paid or payable by Chronimed for the two most recent
fiscal years, payable monthly, (4) immediate vesting of all unvested stock
options and (5) continuance of healthcare coverage, life insurance and general
employee benefit plans of Chronimed for a period of two years or until Dr.
Blissenbach becomes eligible for such insurance coverages from another employer.
If Dr. Blissenbach's employment is terminated within two years of a change of
control (as defined in the employment agreement) by him for good reason or by
Chronimed without cause, Dr. Blissenbach is entitled to receive (1) his base
salary through the date of termination, including the pro-rated bonus earned for
the partial year, (2) a lump sum payment equal to 36 months of Dr. Blissenbach's
then current annualized base salary plus the aggregate annual bonus compensation
paid for the preceding three full years or three times the target bonus for the
year of termination, whichever is greater, (3) immediate vesting of all unvested
stock options and (4) continued participation in medical, dental, life and
disability insurance benefits at the same premium cost in effect for active
employees for two years. As of August 23, 2004, Dr. Blissenbach holds stock
options to purchase an aggregate of 878,710 Chronimed Common Shares, of which
stock options to purchase 272,601 shares are unvested.
Pursuant to the terms and conditions of an amendment and assumption of
employment agreement entered into among MIM Corporation, Chronimed and Dr.
Blissenbach as of August 9, 2004, and conditioned upon the closing of the
proposed merger between MIM and Chronimed, MIM has agreed to employ, and Dr.
Blissenbach has agreed to accept employment as, MIM's Chief Executive Officer
and President pursuant to the terms of the employment agreement as amended.
Under the amended employment agreement, Dr. Blissenbach has agreed that being
employed in such new positions and terminating his positions as Chairman, Chief
Executive Officer and President of Chronimed will not give Dr. Blissenbach the
right to terminate the employment agreement for good reason.
Dr. Zappa entered into an employment agreement effective February 1, 2003.
The agreement remains in effect until terminated by mutual agreement or for
cause as defined in the agreement. Under the agreement, Dr. Zappa receives a
base salary of not less than $230,000 per year during the term of the agreement,
and bonuses, stock options, and benefits commensurate with his position and
responsibilities. Dr. Zappa's employment agreement contains a non-competition
provision for up to one year following termination of employment. Under Dr.
Zappa's employment agreement, if Chronimed terminates his employment without
cause, Dr. Zappa is entitled to receive (1) base salary payments for a period of
12 months after termination at the rate in effect on the date of termination,
(2) the average of any incentive compensation paid or payable by Chronimed for
the most recent two fiscal years, and (3) immediate vesting of all unvested
stock options. As of August 23, 2004, Dr. Zappa holds stock options to purchase
an aggregate of 146,780 Chronimed Common Shares, of which stock options to
purchase 61,055 shares are unvested.
Change of Control Severance Agreements
Chronimed has entered into change of control severance agreements with the
following executive officers: Gregory H. Keane, Chief Financial Officer; Kenneth
S. Guenthner, General Counsel; Thomas A. Staloch, Chief Information Officer;
Brian J. Reagan, Vice President of Corporate Development; and Colleen M.
Haberman, Vice President of Human Resources. Under the terms of the change of
control severance agreements, if the executive officer is not given an offer to
remain employed with Chronimed or become employed with MIM after completion of
the merger, or the executive officer rejects such an offer, the executive
officer is entitled to receive (1) his or her base salary through the date of
termination, including the pro-rated bonus earned for the partial year, if any,
(2) base salary payments for a period of 12 months after termination at the rate
in effect on the date of termination, payable on a monthly basis, (3) the
average of any bonus or incentive compensation paid or payable by
39
Chronimed to the executive officer for the two most recent fiscal years, payable
in equal monthly installments and (4) immediate vesting of all unvested stock
options, all conditioned upon the executive officer entering into a general
release of all claims against Chronimed and its successors. If the executive
officer accepts an offer to remain employed with Chronimed or become employed
with MIM after completion of the merger, and within one year of completion of
the merger the executive officer terminates his or her employment for good
reason, or Chronimed or MIM, as the case may be, terminates the executive
officer's employment without cause, the executive is entitled to receive the
severance benefits described above conditioned upon the executive officer
entering into a general release of all claims against Chronimed and its
successors. As of August 23, 2004, Messrs. Keane, Guenthner, Staloch, Reagan and
Ms. Haberman hold stock options to purchase an aggregate of 518,540 Chronimed
common shares, of which stock options to purchase 230,316 shares are unvested.
If the employment of each of Chronimed's executive officers (other than Henry F.
Blissenbach) is terminated after the merger under circumstances entitling such
officers to severance compensation under their respective agreements, the
aggregate amount of cash severance that would be payable to such Chronimed
executive officers under such agreements would be approximately $1.5 million.
Compensation Committee Interlocks and Insider Participation
The Compensation Committee of the Board of Directors of the Company
consists of four independent directors. Mr. Owens is the committee chair, and
Mr. Heaney, Mr. Holubiak, and Mr. Samuels are the other members. No member of
the Compensation Committee was, during fiscal 2004, an officer, former officer
or employee of the Company or any of its subsidiaries. No executive officer of
the Company served as a member of (i) the compensation committee of another
entity in which one of the executive officers of such entity served on the
Compensation Committee of the Board of Directors, (ii) the Board of Directors of
another entity in which one of the executive officers of such entity served on
the Compensation Committee of the Board of Directors, or (iii) the compensation
committee of another entity in which one of the executive officers of such
entity served as a member of the Board of Directors during fiscal 2004.
BOARD COMPENSATION COMMITTEE REPORT ON EXECUTIVE COMPENSATION
COMPENSATION COMMITTEE CHARTER. The purpose of the Compensation Committee
of the Board of Directors is to oversee compensation of directors, officers, and
key employees of the Company. The Committee's policy is to insure that
compensation programs contribute directly to the success of the Company,
including enhanced share value. The Company's Compensation Committee is
comprised of four independent directors.
EXECUTIVE COMPENSATION POLICIES AND PROGRAMS. The Company's executive
compensation programs are designed to attract and retain highly qualified
executives and to motivate them to maximize shareholder value by achieving
strategic Company goals. There are three basic components to the Company's
executive compensation program, including base pay, annual incentive bonus, and
long-term, equity-based incentive compensation in the form of stock options and
restricted stock. Each component is established in light of Company and
individual performance, compensation levels at comparable companies, equity
among employees, and cost effectiveness. In addition, employees are eligible to
participate in the Company's 401(k) plan, certain insurance plans, and the
Company's Employee Stock Purchase Plan.
BASE PAY. Base pay is designed to be competitive with salary
levels for equivalent positions at comparable companies. An
executive's actual salary within this competitive framework will
depend on the individual's performance, responsibilities,
experience, leadership, and potential future contribution. Base pay
is administered to remain competitive with the market, yet allow for
significant emphasis on incentive bonus compensation in proportion
to total annual cash compensation.
ANNUAL INCENTIVE BONUS. In addition to base pay, each
executive is eligible to receive an annual cash bonus based on a mix
of the Company's and the executive's performance. Performance
targets are intended to motivate the Company's executives by
providing bonus payments for the achievement of specific financial
goals within the Company's business plan.
40
Bonuses were paid to all named executive officers as defined in
"Summary Compensation Table" for fiscal 2004 with respect to total
company financial performance and with respect to individual
performance.
LONG-TERM, EQUITY-BASED INCENTIVE COMPENSATION. The long-term,
equity-based compensation program is tied directly to shareholder
return. Long-term incentive compensation consists of stock options
that do not fully vest for periods of three to five years and are
exercisable only if an executive is an employee of the Company or
within three months of his/her termination. Stock options are
awarded with an exercise price equal to the fair market value of the
Common Stock on the date of grant. Accordingly, an executive is
rewarded only if Company shareholders receive the benefit of
appreciation in the price of the Common Stock. Because long-term
options vest over time, the Company periodically grants new options
to provide continuing incentives for future performance. The size of
periodic option grants is a function of the scope of an executive's
accountability, recent performance as determined by the Committee,
and other factors. Long-term incentive compensation also may consist
of restricted stock that vests ratably over a defined period subject
to certain acceleration provisions based on the Company's share
price. Restricted stock is an element of an executive's total direct
compensation that aligns management's interests with that of the
shareholder. Restricted stock may be granted based on certain
financial performance criteria. Subsequent vesting occurs only if an
executive is an employee of the Company.
SAVINGS AND INVESTMENT PLAN; BENEFITS. The Company maintains a
401(k) Savings Plan ("Savings Plan"), which is funded by employee
elective salary deferrals. The Savings Plan covers executive
officers and substantially all employees meeting minimum eligibility
requirements. The Savings Plan requires that the Company match 40%
of the first 5% of a participating employee's pay and provides for
additional discretionary contributions by the Company. Through
August 31, 2004, the Company had not made any additional
discretionary contributions to the Savings Plan. In addition, the
Company provides a financial services plan that reimburses officers
for various financial and tax services.
ANNUAL REVIEWS. Each year the Committee reviews its executive
compensation policies and programs and determines changes
appropriate for the following year. In addition, the Committee
reviews the performance of the Chief Executive Officer and, with the
assistance of the Chief Executive Officer, the individual
performance of the other executive officers. The Committee makes
recommendations to the Board of Directors for final approval of all
material compensation matters.
CHIEF EXECUTIVE OFFICER. The annual base salary for Mr. Henry F.
Blissenbach increased from $360,000 in fiscal 2003 to $415,000 in fiscal 2004 in
accordance with the terms of his employment agreement. In establishing Dr.
Blissenbach's contractual base salary, as well as his annual incentive bonus and
long-term equity compensation, the Committee considered compensation programs of
comparable companies, Dr. Blissenbach's individual performance and salary
history, and the Company's historical and planned performance. Specifically, the
Committee established key company performance targets covering earnings,
revenue, and asset management. These and other non-financial factors contributed
heavily to the Committee's decisions relative to Dr. Blissenbach's total
compensation. Dr. Blissenbach earned a $253,109 bonus for his performance in
fiscal 2004. Also, Dr. Blissenbach received options to purchase 200,910 shares
in fiscal 2004 (issued in August 2003) related to his performance in fiscal
2003.
TAX DEDUCTIBILITY OF EXECUTIVE COMPENSATION. Section 162(m) of the
Internal Revenue Code of 1986, as amended, should not affect the deductibility
of compensation paid to the Company's executive officers for the foreseeable
future. The majority of the options available for grant under the Company's
stock option plans will comply with Section 162(m), so that compensation
resulting from these stock options will not be counted toward the $1,000,000
limit on deductible compensation under Section 162(m). The Compensation
Committee has not
41
formulated any policy with respect to qualifying other types of compensation for
deductibility under Section 162(m).
The foregoing Report of the Compensation Committee of the Board of
Directors on Executive Compensation will not be deemed incorporated by reference
by any statement incorporating by reference this Proxy Statement into any
filings under the Securities Act of 1933 or under the Securities Exchange Act of
1934 and shall not otherwise be deemed filed under such Acts.
Submitted by the Compensation Committee of the Chronimed Board of Directors.
Charles V. Owens, Jr., Chairman
Thomas F. Heaney
Myron Z. Holubiak
Stuart A. Samuels
COMPARABLE STOCK PERFORMANCE
The graph below compares the cumulative total shareholder return on the
Company's Common Stock for the last five fiscal years with the cumulative total
return of the NASDAQ Total Return Index (U.S. Companies) and the NASDAQ Health
Services Stock Index for the period July 2, 1999, through July 2, 2004. The
graph and table assume the investment of $100 on July 2, 1999, in the Company's
Common Stock, the NASDAQ Total Return Index, and the NASDAQ Health Services
Stock Index. The cumulative return calculations were performed by the Center for
Research in Security Prices, University of Chicago. The graph below shall not be
deemed incorporated by reference by any general statement incorporating by
reference the Company's proxy statement into any filing under the Securities Act
of 1933 or under the Securities Exchange Act of 1934 and shall not otherwise be
deemed filed under such Acts.
[COMPARABLE STOCK PERFORMANCE GRAPH]
42
July 2, June 30, June 29, June 28, June 27, July 2,
1999 2000 2001 2002 2003 2004
-----------------------------------------------------------------
Chronimed, Inc. 100.0 89.1 90.1 84.9 163.3 135.3
Nasdaq Stock Market 100.0 144.8 78.6 53.6 59.5 73.4
Nasdaq Health Services Stocks 100.0 84.3 120.3 118.1 124.5 180.0
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
EQUITY COMPENSATION PLANS
Information as to the Company's outstanding equity compensation plans as
of July 2, 2004, is set forth below. Other than options issued under the
Company's stock option and stock incentive plans, there are no warrants or other
rights to acquire securities of the Company outstanding as of July 2, 2004.
NUMBER OF NUMBER OF SECURITIES
SECURITIES TO BE REMAINING AVAILABLE FOR
ISSUED UPON WEIGHTED-AVERAGE FUTURE ISSUANCE UNDER
EXERCISE OF EXERCISE PRICE OF EQUITY COMPENSATION
OUTSTANDING OUTSTANDING PLANS (EXCLUDING
OPTIONS, WARRANTS, OPTIONS, WARRANTS, SECURITIES REFLECTED IN
AND RIGHTS AND RIGHTS COLUMN (a))
----------------------------------------------------------------------
PLAN CATEGORY COLUMN (a) COLUMN (b) COLUMN (c)
- -----------------------------------------------------------------------------------------------------------------------
Equity compensation plans approved by 2,468,403 $8.10 1,445,167
security holders
Equity compensation plans not approved by
security holders - - -
--------- ----- ---------
2,468,403 $8.10 1,445,167
========= ===== =========
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table shows information concerning each person or group who
to the knowledge of the Company was the beneficial owner of more than 5% of the
Company's Common Stock, the number of shares of Common Stock beneficially owned
by each of the Company's named executive officers and directors, and all
directors and executive officers as a group, as of August 31, 2004. All persons
have sole or joint with spouse voting and investment power with respect to all
shares shown as beneficially owned by them.
43
TOTAL
SHARES OWNED EXERCISABLE SHARES
NAME AND ADDRESS OF DIRECTLY OR STOCK OPTION BENEFICIALLY PERCENT
BENEFICIAL OWNERS INDIRECTLY (1) SHARES (1, 2) OWNED OF CLASS
- -------------------------------------------------------------------------------------------------------------------
Heartland Advisors, Inc. 1,755,250 - 1,755,250 13.7%
789 North Water Street
Milwaukee, WI 53202-3508
Wells Capital Management, Inc. 1,014,875 - 1,014,875 7.9%
525 Market St., 10th Fl.
San Francisco, CA 94105-2718
Dimensional Fund Advisors, Inc. 856,112 - 856,112 6.7%
1299 Ocean Avenue, 11th Floor
Santa Monica, CA 90401
Thomas A. Cusick 5,000 21,677 26,677 *
Thomas F. Heaney - 50,000 50,000 *
Myron Z. Holubiak - 32,500 32,500 *
David R. Hubers - 35,000 35,000 *
Karen Gilles Larson - 5,000 5,000 *
Charles V. Owens, Jr. 22,840 41,000 63,840 *
Stuart A. Samuels - 50,000 50,000 *
Henry F. Blissenbach 85,142 632,109 717,251 5.3%
Kenneth S. Guenthner 13,204 66,030 79,234 *
Gregory H. Keane 23,840 146,580 170,420 1.3%
Brian J. Reagan 6,000 46,947 52,947 *
Anthony J. Zappa 12,737 85,725 98,462 *
All directors and executive officers 170,292 1,253,135 1,423,427 10.1%
as a group (14 persons)
- ------------------------------------
* Less than 1%
(1) Information as of August 31, 2004, except as noted above.
(2) Includes the following options exercisable within 60 days of August 31,
2004, to acquire shares of Common Stock.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
No transactions with management and others, business relationships, or
indebtedness of management existed in fiscal 2004 that are required to be
reported under Item 13 pursuant to Item 404 of Regulation S-K.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
Ernst & Young LLP acts as the principal auditor for Chronimed Inc. and
also provides certain other services. The following table shows the aggregate
fees billed to the Company by Ernst & Young LLP for services rendered during the
years ended July 2, 2004, and June 28, 2003:
44
YEAR ENDED
---------------------
JULY 2, JUNE 28,
(in thousands) 2004 2003
- -------------- ---------------------
Audit fees $ 278 $ 236
Audit-related fees 68 11
Tax fees (1) - -
All other fees - -
------ ------
Total $ 346 $ 247
====== ======
(1) PriceWaterhouseCoopers LLP billed the Company $45,900 and $60,769 in fiscal
years ended July 2, 2004, and June 28, 2003, respectively for tax compliance,
tax advice, and tax planning services.
Audit Fees
Audit fees for the fiscal years ended July 2, 2004, and June 28, 2003,
were for professional services rendered for audits of the annual consolidated
financial statements on Form 10-K and reviews of the quarterly financial
statements included in the Company's quarterly reports on Form 10-Q filed with
the SEC.
Audit-Related Fees
Audit-related fees for the fiscal year ended July 2, 2004, were for due
diligence services relating to acquisitions, an audit of our employee benefit
plan, and internal control reporting advisory services. Audit-related fees for
the fiscal year ended June 28, 2003, were for an audit of our employee benefit
plan.
Tax Fees
No tax services were provided by and no fees for tax services were billed
by Ernst & Young LLP in fiscal years ended July 2, 2004, and June 28, 2003.
All Other Fees
No other services were provided by and no other fees were billed by Ernst
& Young LLP in fiscal years ended July 2, 2004, and June 28, 2003.
Audit Committee Pre-approval Policies and Procedures
In accordance with the provisions of the Audit Committee Charter, the
Audit Committee must pre-approve all audit services, and the related fees,
provided to the Company by our independent auditors. In addition, the audit
Committee must review and approve in advance the terms of all engagements of an
independent public accounting firm to provide non-audit services and determine
whether such services are permitted under Section 10A of the Exchange Act of
1934. Accordingly, the Audit Committee pre-approved all services and fees
provided by Ernst & Young LLP during the year ended July 2, 2004, and has
concluded that the provision of these services is compatible with the
accountant's independence.
45
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) DOCUMENTS INCLUDED IN THIS REPORT
PAGE
----
1. Financial Statements
Index to Financial Statements...................................................... F-1
Report of Independent Registered Public Accounting Firm............................ F-2
Consolidated Balance Sheets as of July 2, 2004, and June 27, 2003 ................. F-3
Consolidated Statements of Income for the years ended July 2, 2004,
June 27, 2003, and June 28, 2002................................................. F-4
Consolidated Statements of Shareholders' Equity for the years ended July 2, 2004,
June 27, 2003, and June 28, 2002................................................. F-5
Consolidated Statements of Cash Flows for the years ended July 2, 2004,
June 27, 2003, and June 28, 2002................................................. F-6
Notes to Consolidated Financial Statements......................................... F-7
2. Financial Statement Schedule
Schedule II -- Valuation and Qualifying Accounts and Reserves...................... S-1
Financial Statement schedules not included in this Report have been
omitted because they are not applicable or the required information is
shown in the Audited Consolidated Financial Statements or Notes thereto.
(b) REPORTS ON FORM 8-K
A Current Report on Form 8-K with a report date of April 27, 2004, was
filed during the fourth quarter of fiscal 2004 to provide the full text of the
third quarter financial results press release dated April 27, 2004.
(c) EXHIBITS
Exhibits designated by the symbol * are filed with this Annual Report on
Form 10-K. All exhibits not so designated are incorporated by reference to a
prior filing as indicated.
We will furnish any shareholder a copy of any of the following exhibits
upon payment to us of the reasonable costs incurred by us in furnishing any such
exhibit.
46
EXHIBIT
NUMBER DESCRIPTION
- ------- -----------
2.1 Agreement and Plan of Merger dated August 9, 2004 among MIM
Corporation, Corvette Acquisition, and Chronimed Inc. (15)
3.1 Articles of Incorporation of the Company, as amended. (6)
3.2 Bylaws of the Company, as amended. (7)
4.1 Specimen form of the Company's Common Stock certificate. (2)
4.2 Shareholder Rights Agreement between the Company and Wells Fargo
Bank, National Association (formerly Norwest Bank Minnesota, N.A.)
dated December 18, 1996. (5)
10.1 Form of Restricted Stock Grant Agreement. (1) (13)
10.2 Pharmacy Participation Agreement with Aetna Health Management, Inc.
(9)
10.2a Amendment to Pharmacy Services Agreement between Chronimed and Aetna
Inc. dated May 1, 2003 (without exhibits or schedules). (13)
10.3 Employment Agreement effective July 1, 2003, by and between the
Company and Henry F. Blissenbach. (1) (16)
10.3a Amendment and Assumption to Employment Agreement dated August 9,
2004, by and among the Company, Henry F. Blissenbach, and MIM
Corporation, amending Dr. Blissenbach's Employment Agreement. (1)
(17)
10.4 Chronimed Inc. 1994 Stock Option Plan. (3)
10.5 Chronimed Inc. 1994 Stock Option Plan for Directors. (3)
10.6 Chronimed Inc. 1997 Stock Option Plan. (4)
10.7 Chronimed Inc. 1999 Stock Option Plan. (8)
10.8 Chronimed Inc. 2001 Stock Incentive Plan. (10)
10.9 Facility Lease Agreement with Red Circle L.L.P. dated November 1996.
(5)
10.9a Amendments dated April 1997, December 1997, and July 1998 to
Facility Lease Agreement with Red Circle L.L.P. (8)
10.10 Promissory Note of Maurice R. Taylor, II, dated July 24, 2000. (1)
(11)
10.11 Specialty Pharmacy Fuzeon(R) Agreement between Chronimed Inc. and
Roche Laboratories dated March 7, 2003 (without exhibits or
schedules). (12)
10.12 Prime Vendor Agreement between Chronimed Inc. and Cardinal Health
dated April 24, 2003. (12)
10.13 Amended and Restated Revolving Credit Agreement between Chronimed
Inc. and U.S. Bank National Association, M&I Marshall and Ilsey
Bank, and UMB Bank, N.A. dated April 17, 2003 (without exhibits or
schedules). (13)
10.14 Employment agreement effective February 1, 2003 between the Company
and Anthony J. Zappa. (1) (13)
10.15 Asset Purchase Agreement dated December 9, 2003 by and between
Accent Rx, Ascentia, Inc., and Chronimed Inc. (without exhibits or
schedules). (14)
47
10.16* Form of Change of Control Severance Agreement, dated June 14, 2004,
between Chronimed and each of the following executive officers:
Kenneth S. Guenthner, Colleen Haberman, Gregory H. Keane, Brian J.
Reagan, and Thomas Staloch. (1)
14.1* Code of Conduct (including our Code of Ethics for Senior Financial
Officers).
21.1* List of Subsidiaries.
23.1* Consent of Independent Registered Public Accounting Firm.
31.1* Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of
2002 (Chief Executive Officer).
31.2* Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of
2002 (Chief Financial Officer).
32.1* Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (Chief
Executive Officer).
32.2* Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (Chief
Financial Officer).
99.1* Cautionary Statements for Purposes of the "Safe Harbor" Provisions
of the Private Securities Litigation Reform Act.
- -----------------
* Filed herewith.
(1) Management contract or compensatory plan or arrangement.
(2) Incorporated by reference to the Company's Registration Statement on Form
S-1 (File No. 33-45644), as amended.
(3) Incorporated by reference to the Company's quarterly report on Form 10-Q
filed with The Commission on January 31, 1995, under file number 0-19952.
(4) Incorporated by reference to the Company's quarterly report on Form 10-Q
filed with The Commission on November 5, 1996, under file number 0-19952.
(5) Incorporated by reference to the Company's 1997 Annual Report on Form 10-K
filed with The Commission on September 25, 1997, under file number
0-19952.
(6) Incorporated by reference to the Company's quarterly report on Form 10-Q
filed with the Commission on February 6, 1998, under file number 0-19952.
(7) Incorporated by reference to the Company's quarterly report on Form 10-Q
filed with The Commission on May 5, 1998, under file number 0-19952.
(8) Incorporated by reference to the Company's 1998 Annual Report on Form 10-K
filed with The Commission on September 30, 1998, under file Number
0-19952.
(9) Incorporated by reference to the Company's 2000 Annual Report on Form 10-K
filed with The Commission on September 27, 2000, under file Number
0-19952.
(10) Incorporated by reference from Exhibit A in the Company's Definitive Proxy
Statement filed with The Commission on Schedule 14A, October 13, 2000,
under file Number 0-19952.
48
(11) Incorporated by reference to the Company's quarterly report on Form 10-Q
filed with The Commission on May 14, 2001, under file Number 0-19952.
(12) Incorporated by reference to the Company's quarterly report on Form 10-Q
filed with The Commission on May 9, 2003, under file Number 0-19952.
(13) Incorporated by reference to the Company's 2003 Annual Report on Form 10-K
filed with The Commission on September 18, 2003, under file Number
0-19952.
(14) Incorporated by reference to Exhibit 99.1 in the Company's Form 8-K filed
with The Commission December 16, 2003, under file Number 0-19952.
(15) Incorporated by reference to Exhibit 99.2 in the Company's Form 8-K filed
with The Commission August 9, 2004, under file Number 0-19952.
(16) Incorporated by reference to Exhibit 99.1 in the Company's Form 8-K filed
with The Commission August 26, 2004, under file Number 0-19952.
(17) Incorporated by reference to Exhibit 99.2 in the Company's Form 8-K filed
with The Commission August 26, 2004, under file Number 0-19952.
49
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
CHRONIMED INC.
Dated: September 14, 2004
By /s/ HENRY F. BLISSENBACH
------------------------------------
Henry F. Blissenbach
Chief Executive Officer and
Chairman of the Board of Directors
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
/s/ HENRY F. BLISSENBACH September 14, 2004
- --------------------------------------------------
Henry F. Blissenbach - Chief Executive Officer
(Principal Executive Officer and Chairman of
the Board of Directors)
/s/ GREGORY H. KEANE September 14, 2004
- --------------------------------------------------
Gregory H. Keane - Vice President, Chief Financial
Officer and Treasurer
(Principal Financial and Accounting Officer)
/s/ THOMAS A. CUSICK September 14, 2004
- --------------------------------------------------
Thomas A. Cusick (Director)
/s/ THOMAS F. HEANEY September 14, 2004
- --------------------------------------------------
Thomas F. Heaney (Director)
/s/ MYRON Z. HOLUBIAK September 14, 2004
- --------------------------------------------------
Myron Z. Holubiak (Director)
/s/ DAVID R. HUBERS September 14, 2004
- --------------------------------------------------
David R. Hubers (Director)
/s/ KAREN GILLES LARSON September 14, 2004
- --------------------------------------------------
Karen Gilles Larson (Director)
/s/ CHARLES V. OWENS, JR. September 14, 2004
- --------------------------------------------------
Charles V. Owens, Jr. (Director)
/s/ STUART A. SAMUELS September 14, 2004
- --------------------------------------------------
Stuart A. Samuels (Director)
50
INDEX TO FINANCIAL STATEMENTS
Report of Independent Registered Public Accounting Firm................... F-2
Consolidated Balance Sheets............................................... F-3
Consolidated Statements of Income......................................... F-4
Consolidated Statements of Shareholders' Equity........................... F-5
Consolidated Statements of Cash Flows..................................... F-6
Notes to Consolidated Financial Statements................................ F-7
Schedule II - Valuation and Qualifying Accounts and Reserves.............. S-1
F-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Shareholders of Chronimed Inc.
We have audited the accompanying consolidated balance sheets of Chronimed
Inc. as of July 2, 2004 and June 27, 2003, and the related consolidated
statements of income, shareholders' equity and cash flows for each of the three
years in the period ended July 2, 2004. Our audits also included the financial
statement schedule listed in Item 15(a). These financial statements and schedule
are the responsibility of the Company's management. Our responsibility is to
express an opinion on these financial statements and schedule based on our
audits.
We conducted our audits in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of Chronimed Inc.
at July 2, 2004 and June 27, 2003, and the consolidated results of its
operations and its cash flows for each of the three years in the period ended
July 2, 2004, in conformity with U.S. generally accepted accounting principles.
Also, in our opinion, the related financial statement schedule, when considered
in relation to the basic financial statements taken as a whole, presents fairly
in all material respects, the information set forth therein.
/s/ Ernst & Young LLP
Minneapolis, Minnesota
August 5, 2004
F-2
CHRONIMED INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
JULY 2, JUNE 27,
2004 2003
------- --------
ASSETS
Current assets
Cash and cash equivalents $ 16,624 $ 22,854
Short-term investments 1,507 -
Accounts receivable (net of allowances
of $6,321 and $5,940, respectively) 41,932 40,001
Inventory 10,348 8,614
Prepaid expenses 1,441 1,071
Income taxes receivable 220 -
Deferred taxes 2,913 2,607
-------- --------
Total current assets 74,985 75,147
Property and equipment, net 4,942 4,487
Goodwill 34,480 30,233
Other assets, net 147 133
-------- --------
Total assets $114,554 $110,000
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities
Accounts payable $ 12,486 $ 19,085
Accrued expenses 3,865 2,136
Accrued bonus 1,654 1,420
Income taxes payable - 821
-------- --------
Total current liabilities 18,005 23,462
Deferred taxes 1,938 1,025
Shareholders' equity
Preferred stock - -
Common stock, issued and outstanding shares--
12,823 and 12,541 respectively 128 125
Additional paid-in capital 58,332 56,248
Retained earnings 36,151 29,140
-------- --------
Total shareholders' equity 94,611 85,513
-------- --------
Total liabilities and shareholders' equity $114,554 $110,000
======== ========
See notes to consolidated financial statements
F-3
CHRONIMED INC.
CONSOLIDATED STATEMENTS OF INCOME
(IN THOUSANDS, EXCEPT PER SHARE DATA)
YEAR ENDED
--------------------------------------
JULY 2, JUNE 27, JUNE 28,
2004 2003 2002
(53 WEEKS) (52 WEEKS) (52 WEEKS)
---------- ---------- ----------
Revenue $ 559,964 $ 435,713 $ 397,437
Cost of revenue 497,035 382,591 349,705
--------- --------- ---------
Gross profit 62,929 53,122 47,732
Operating expenses
Selling and marketing 5,804 3,790 3,329
General and administrative 43,203 38,401 39,041
Bad debt 3,961 3,204 3,504
--------- --------- ---------
Total operating expenses 52,968 45,395 45,874
Income from operations 9,961 7,727 1,858
Interest income 234 311 493
Interest expense (6) - (389)
Other income 150 - 3,906
--------- --------- ---------
Income before income taxes 10,339 8,038 5,868
Income tax expense (3,328) (3,053) (2,131)
--------- --------- ---------
Net income $ 7,011 $ 4,985 $ 3,737
========= ========= =========
Basic net income per share $ 0.55 $ 0.40 $ 0.30
Diluted net income per share $ 0.54 $ 0.40 $ 0.30
--------- --------- ---------
Basic weighted average shares 12,671 12,356 12,321
Diluted weighted average shares 13,000 12,512 12,342
See notes to consolidated financial statements
F-4
CHRONIMED INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(IN THOUSANDS)
PAID-IN RETAINED
SHARES AMOUNT CAPITAL EARNINGS TOTAL
------ ------ ------- -------- -----
Balance June 29, 2001 12,315 $123 $54,961 $ 20,418 $75,502
Shares issued for employee stock
purchase and option plans 38 1 161 - 162
Net income and comprehensive income - - - 3,737 3,737
------ ---- ------- -------- -------
Balance June 28, 2002 12,353 124 55,122 24,155 79,401
Shares issued for employee stock
purchase, restricted stock, and
option plans 188 1 957 - 958
Tax benefit of restricted stock vesting - - 169 - 169
Net income and comprehensive income - - - 4,985 4,985
------ ---- ------- -------- -------
Balance June 27, 2003 12,541 $125 $56,248 $ 29,140 $85,513
Shares issued for employee stock
purchase and option plans 282 3 1,890 - 1,893
Tax benefit of non-qualified option exercises - - 194 - 194
Net income and comprehensive income - - - 7,011 7,011
------ ---- ------- -------- -------
Balance July 2, 2004 12,823 $128 $58,332 $ 36,151 $94,611
====== ==== ======= ======== =======
See notes to consolidated financial statements
F-5
CHRONIMED INC.
CONSOLIDATED STATEMENTS OF CASH FLOW
(IN THOUSANDS)
YEAR ENDED
------------------------------------
JULY 2, JUNE 27, JUNE 28,
2004 2003 2002
(53 WEEKS) (52 WEEKS) (52 WEEKS)
---------- ---------- ----------
Operating activities
Net income $ 7,011 $ 4,985 $ 3,737
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 2,265 2,351 2,871
Amortization of restricted stock - 592 -
Deferred income taxes 607 1,511 1,855
Gain on sale of Home Service Medical business - - (3,797)
Income tax benefit of stock option exercises and
restricted stock vesting 194 169 -
Changes in operating assets and liabilities:
Accounts receivable (1,931) 4,460 (4,139)
Income taxes (1,041) 173 7,018
Inventory (1,734) (280) 499
Accounts payable (6,599) 4,274 (713)
Accrued expenses 1,963 (735) 424
Other assets (384) 15 (3)
-------- -------- --------
Net cash provided by operating activities 351 17,515 7,752
Investing activities
Acquisition of Accent Rx (4,247) - -
Proceeds from sale of Home Service Medical business - - 3,797
Purchases of property and equipment (2,702) (1,333) (1,305)
Purchases of short-term investments (1,525) - -
-------- -------- --------
Net cash (used in) provided by investing activities (8,474) (1,333) 2,492
Financing activities
Net proceeds from issuance of common stock 1,893 366 162
Net proceeds from (repayments of) borrowings - - (4,100)
-------- -------- --------
Net cash provided by (used in) financing activities 1,893 366 (3,938)
(Decrease) increase in cash and cash equivalents (6,230) 16,548 6,306
Cash and cash equivalents at beginning of year 22,854 6,306 -
-------- -------- --------
Cash and cash equivalents at end of year $ 16,624 $ 22,854 $ 6,306
======== ======== ========
SUPPLEMENTAL DISCLOSURES
Income taxes paid $ 3,717 $ 2,290 $ 401
Interest payments $ 6 $ - $ 389
See notes to consolidated financial statements
F-6
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SIGNIFICANT ACCOUNTING POLICIES
BUSINESS
Chronimed Inc. ("Chronimed" or the "Company"), a specialty pharmacy,
distributes prescription drugs and provides specialized therapy management
services for people with certain health conditions, including HIV/AIDS, organ
transplants, and diseases treated with biotech injectable medications. We work
with patients, physicians and other health care providers, pharmaceutical
manufacturers, health plans and insurers, and government agencies to improve
clinical and economic outcomes.
FISCAL YEAR
We use a four-week, four-week, five-week (4-4-5) quarterly accounting
cycle with the fiscal year ending on the Friday closest to June 30 which was
July 2, 2004, for this fiscal year. Because this approach assumes a 364-day year
(52 weeks times seven days), every several years Chronimed must add an extra
accounting week to its calendar to stay in step with a normal 365- or 366-day
year. Fiscal 2004 is a year Chronimed had a 53-week fiscal year. This extra week
in the fiscal 2004 fourth quarter and year creates an aberration when comparing
to financial performance in other periods. Overall, the impact of the extra week
is approximately $11.3 million in revenue, $1.2 million in gross profit, $0.8
million in operating expenses, $0.4 million in operating income, and $0.02
earnings per share.
The fiscal years referenced herein are as follows:
FISCAL YEAR YEAR ENDED
- ----------- ----------
2004 July 2, 2004 (53 weeks)
2003 June 27, 2003 (52 weeks)
2002 June 28, 2002 (52 weeks)
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Company
and its wholly owned subsidiaries. All inter-company accounts and transactions
between consolidated entities have been eliminated.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements and
accompanying notes. Those assumptions and estimates are periodically reassessed,
and actual results could differ from those estimates.
REVENUE RECOGNITION
Revenue is recognized at the time prescriptions are shipped to or
picked up by the patient. We participate in various third-party provider
networks, Medicare and state Medicaid programs. Under a majority of these
networks, the amount to be paid for our products is determined (or
"adjudicated") through electronic connections with these networks at the time of
sale. However, for certain payors for which there is no electronic adjudication
process available at the time of sale, we bill a standard list price (versus a
known contracted price) and then simultaneously determine an appropriate
estimate for expected payor discount based on our reimbursement history
F-7
for each payor class. This reimbursement history is updated quarterly. Revenue
is then reported net of the estimated payor discounts and adjusted in future
periods as final settlements are determined.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
SHIPPING AND HANDLING COSTS
Product shipping and handling costs are included in cost of revenue. These
costs were $5.2 million, $3.2 million, and $3.1 million in fiscal 2004, 2003,
and 2002, respectively.
STOCK-BASED COMPENSATION
At July 2, 2004, we have various stock-based employee compensation plans
which are described more fully in Note 7. We have adopted the disclosure-only
provisions of Statement of Financial Accounting Standards No. 123 (Statement No.
123), "Accounting for Stock-Based Compensation," as amended by Statement of
Financial Accounting Standards No. 148 but apply Accounting Principles Board
Opinion No. 25 (APB 25) and related interpretations in accounting for our stock
plans. Under APB 25, when the exercise price of an employee stock option equals
the market price of the underlying stock on the date of grant, no compensation
expense is recognized.
In fiscal 2003, the Compensation Committee of the Board of Directors
approved restricted stock grants to our officers under our 2001 Stock Incentive
Plan. The 125,000 non-canceled restricted shares fully vested in fiscal 2003,
and we recognized compensation expense of $367,000, net of related tax effects
(see Note 7, "Shareholders' Equity"). The following table illustrates the effect
on net income and net income per share if we had applied the fair value
recognition provisions of Statement No. 123 to stock-based employee
compensation.
2004 2003 2002
(IN THOUSANDS, EXCEPT PER SHARE DATA) (53 WEEKS) (52 WEEKS) (52 WEEKS)
- ------------------------------------- ---------- ---------- ----------
Net income - as reported $ 7,011 $ 4,985 $ 3,737
Plus reported stock-based employee
compensation cost, net of related tax effects - 367 -
Deduct pro forma stock-based employee
compensation cost, net of related tax effects (1,773) (2,063) (1,371)
--------- --------- ---------
Net income - pro forma $ 5,238 $ 3,289 $ 2,366
========= ========= =========
Net income per share - basic as reported $ 0.55 $ 0.40 $ 0.30
Net income per share - basic pro forma $ 0.41 $ 0.27 $ 0.19
Net income per share - diluted as reported $ 0.54 $ 0.40 $ 0.30
Net income per share - diluted pro forma $ 0.40 $ 0.26 $ 0.19
The fair value of each option grant is estimated on the date of the grant
using the Black-Scholes option-pricing model with the following weighted average
assumptions for the fiscal years shown:
2004 2003 2002
---- ---- ----
Expected dividend yield - % - % - %
Expected stock price volatility 66.3% 66.4% 65.4%
Risk-free interest rate 3.2% 3.2% 4.4%
Expected life of options (in years) 5.1 5.4 5.0
F-8
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
The Black-Scholes option-pricing model was developed for use in estimating
the fair value of traded options, which have no vesting restrictions and are
fully transferable. In addition, option pricing models require the input of
highly subjective assumptions. Because our employee stock options have
characteristics significantly different from those of traded options, and
because changes in the subjective input assumptions can materially affect the
fair value estimate, the existing models may not necessarily provide a reliable
single measure of the fair value of our employee stock options. Using the
foregoing assumptions, the weighted-average fair value of each option granted
during fiscal 2004, 2003, and 2002, was $6.04, $3.13, and $3.22, respectively.
CASH AND CASH EQUIVALENTS
We consider all investments with an original maturity of 90 days or less
when purchased to be cash equivalents. Cash equivalents are carried at cost,
which approximates fair market value, and consist principally of money market
accounts.
SHORT-TERM INVESTMENTS
We classify our investments with maturities of over 90 days when purchased
as available-for-sale. These investments are stated at market value, with any
material unrealized gains or losses, net of tax, included as a component of
shareholders' equity until realized. Interest income is included as a component
of current earnings.
As of July 2, 2004, our short-term investments consisted of $1.5 million
in government agency securities with remaining maturities of less than twelve
months. These investments are stated at cost which approximates market value.
There were no material unrealized gains or losses.
ACCOUNTS RECEIVABLE ALLOWANCES
Allowance for Doubtful Accounts
We determine an allowance for doubtful accounts amount based upon an
analysis of the aging of the accounts receivable and historical write-off
experience. Bad debt expense is recorded as an operating expense in our
Consolidated Statements of Income.
Allowance for Payor Discounts
We determine an allowance for payor discounts based on an analysis of
historical payment experience. Payor discount allowances are recorded as offsets
to revenue in our Consolidated Statements of Income.
INVENTORIES
Inventories consist of goods held for resale and are carried at the lower
of cost or market determined under the average cost method.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Depreciation on property and
equipment is computed using the straight-line method over the estimated useful
lives of one to seven years. Depreciation expense was $2,247,000, $2,330,000,
and $2,847,000 in fiscal 2004, 2003, and 2002, respectively.
F-9
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
Property and equipment consisted of the following at July 2, 2004, and
June 27, 2003:
FISCAL YEAR
----------------------
(IN THOUSANDS) 2004 2003
-------------- ---- ----
Leasehold improvements $ 5,402 $ 4,885
Furniture and fixtures 4,144 3,437
Computer hardware and software 9,826 8,479
-------- --------
Total property and equipment 19,372 16,801
Less: accumulated depreciation (14,430) (12,314)
-------- --------
Net property and equipment $ 4,942 $ 4,487
======== ========
GOODWILL
As of June 30, 2001, we adopted Statement of Financial Accounting
Standards No. 142 ("Statement 142"), "Goodwill and Other Intangible Assets",
which changes the accounting for goodwill and intangibles with indefinite lives
from an amortization method to an impairment-only approach. Goodwill with
indefinite lives will remain on the consolidated balance sheet and not be
amortized. Goodwill is allocated to the Company's retail or mail service
reporting units based upon the related distribution method. On an annual basis
in the fourth quarter, and when there is reason to suspect that their values
have been diminished or impaired, these assets must be tested for impairment,
and write-downs may be necessary. The Company has established reporting units
based on the Company's method of distributing its products through retail or
mail service channels. The first step of the impairment test compares the fair
value of a reporting unit with its carrying amount, including goodwill and other
indefinite lived intangible assets. If the fair value is less than the carrying
amount, the second step determines the amount of the impairment by comparing the
implied fair value of the goodwill with the carrying amount of that goodwill. An
impairment charge is recognized only when the calculated fair value of a
reporting unit, including goodwill and indefinite lived intangible assets, is
less than its carrying amount. Based on the results of our impairment tests, we
have not been required to recognize an impairment of goodwill.
IMPAIRMENT OF LONG-LIVED ASSETS
We evaluate our long-lived assets for impairment losses when indicators of
impairment are present by comparing the undiscounted cash flows to the carrying
amount of the assets. An impairment loss is recorded if necessary.
INCOME TAXES
We account for income taxes using the liability method. Deferred income
taxes are provided for temporary differences between financial reporting and the
tax basis of assets and liabilities.
NEW ACCOUNTING PRONOUNCEMENTS
We have reviewed the recent accounting standards and do not believe any of
these standards will have a material impact on the Company's financial position
or operating results.
F-10
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
NET INCOME PER SHARE
Net income per share is calculated in accordance with Statement No. 128,
"Earnings Per Share." Potential common shares are included in the diluted net
income calculation when dilutive. Potential common shares consisting of common
stock issuable upon exercise of outstanding common stock options are computed
using the treasury stock method. Our basic net income per share is computed by
dividing income by the weighted average number of common shares outstanding
during the period. Diluted net income per share is computed by dividing income
by the weighted average number of common shares outstanding during the period,
increased to include dilutive potential common shares issuable upon the exercise
of stock options that were outstanding during the period. A reconciliation of
the numerator and denominator in the basic and diluted net income per share
calculation is as follows:
FISCAL YEAR
--------------------------------------------
2004 2003 2002
(IN THOUSANDS, EXCEPT PER SHARE DATA) (53 WEEKS) (52 WEEKS) (52 WEEKS)
- -------------------------------------------------- ---------- ---------- ----------
Numerator
Net income $ 7,011 $ 4,985 $ 3,737
======== ======== ========
Denominator
Denominator for basic net income per share -
weighted average shares outstanding 12,671 12,356 12,321
Effect of dilutive stock options 329 156 21
-------- -------- --------
Denominator for diluted net income per share -
weighted average shares outstanding 13,000 12,512 12,342
======== ======== ========
Basic net income per share $ 0.55 $ 0.40 $ 0.30
Diluted net income per share $ 0.54 $ 0.40 $ 0.30
Employee stock options of 1,032,001, 1,048,795, and 1,241,520, for fiscal
2004, 2003, and 2002, respectively, have been excluded from the basic and
diluted net income per share calculation because their effect would be
anti-dilutive.
2. ACQUISITION
On December 9, 2003, we purchased certain assets of Accent Rx for $4.2
million in cash. Accent Rx is a specialty mail service pharmacy focusing
primarily on the distribution of pharmaceutical products to individuals living
with HIV/AIDS and post-organ transplants. Accent Rx has been integrated into our
existing mail service operations. We paid cash for customer prescription records
and allocated the $4.2 million purchase price as goodwill.
Beginning December 10, 2003, customers of Accent Rx were served through
Chronimed's mail service operations, resulting in approximately $6.3 million in
revenue during fiscal 2004.
The following unaudited pro forma combined financial information is in
accordance with Statement of Financial Accounting Standards No. 141, "Business
Combinations," and is based on the respective historical financial results of
Chronimed and Accent Rx, Inc. as though the business combination had been
completed as of the beginning of the periods presented.
F-11
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
YEAR ENDED
---------------------------
JULY 2, JUNE 27,
2004 2003
(IN THOUSANDS, EXCEPT FOR SHARE DATA) (53 WEEKS) (52 WEEKS)
- ------------------------------------- ----------- ----------
Revenue $568,802 $455,822
Income from operations 9,250 6,339
Net income $ 6,147 $ 3,601
Basic net income per share $ 0.49 $ 0.29
Diluted net income per share $ 0.47 $ 0.29
3. SALE OF HOME SERVICE MEDICAL BUSINESS
We sold our Home Service Medical (HSM) business on September 1, 2000, to
Express-Med, Inc. of New Albany, Ohio for $6.5 million. We received $2.7 million
in cash and a $3.8 million note maturing in 42 months and bearing an annual
interest rate of 11%. We deferred the $3.8 million gain on the sale of HSM in
accordance with the SEC Staff Accounting Bulletin No. 81, "Gain Recognition on
the Sale of a Business or Operating Assets to a Highly Leveraged Entity."
Because we had no guarantee that Express-Med would be able to repay the note and
due to the long-term nature of the note, the gain was deferred until principal
payments under the promissory note were received or deemed to be fully
collectable. In June 2002, we received payment of $3.8 million in full
satisfaction of this note and recorded the gain in other income on the Statement
of Income.
4. OPERATING LEASES AND RENT EXPENSE
We lease our office space, distribution facilities, retail locations, and
various equipment under operating lease agreements. The remaining lease terms
range from one to six years as of July 2, 2004.
Future minimum lease payments, including current real estate taxes and
operating expenses, under the operating leases with original lease terms in
excess of one year at July 2, 2004, are approximately as follows:
(IN THOUSANDS)
FISCAL YEAR AMOUNT
- -------------- -------
2005 $2,458
2006 1,172
2007 366
2008 163
2009 152
Beyond 62
------
Total $4,373
======
Total rent expense was $2,922,000, $2,774,000, and $3,898,000, during
fiscal 2004, 2003, and 2002, respectively.
F-12
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
5. CREDIT ARRANGEMENTS
We have a secured line of credit totaling $30 million that will terminate
in April 2006. The credit agreement includes certain restrictive covenants of
which we were in compliance as of July 2, 2004. Under the terms of the line of
credit agreement, the debt is secured by receivables and inventory and bears
interest at the Eurodollar rate plus the applicable margin dependent on our
covenant calculation. The borrowing base on the line of credit is a calculated
amount based on our inventory and non-government accounts receivable balances.
During 2004 and as of July 2, 2004, we had no borrowings outstanding under this
line of credit.
6. INCOME TAXES
The components of the provision for income taxes are as follows:
FISCAL YEAR
------------------------------------
(IN THOUSANDS) 2004 2003 2002
-------------- ---- ---- ----
Current
Federal $2,435 $1,380 $ 438
State 286 162 37
Deferred
Federal 543 1,352 1,525
State 64 159 131
------ ------ ------
Income tax expense $3,328 $3,053 $2,131
====== ====== ======
Our income tax expense differs from the applicable federal rate of 34% in
fiscal 2004, 2003, and 2002. The reconciliation of differences is as follows:
FISCAL YEAR
-------------------------------
(IN THOUSANDS) 2004 2003 2002
-------------- ---- ---- ----
Federal income tax at statutory rates $ 3,515 $ 2,733 $ 1,995
State taxes, net of federal benefit 414 241 264
Reduction in income tax reserves (597) - -
Other, net (4) 79 (128)
------- ------- -------
Income tax expense $ 3,328 $ 3,053 $ 2,131
======= ======= =======
The reduction in income tax reserves was due to a $0.6 million reduction
in income tax liabilities associated with prior tax years that are now audited
and closed.
Deferred income taxes reflect the net effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components of
our deferred tax assets and liabilities are as follows:
F-13
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
FISCAL YEAR
-----------------------
(IN THOUSANDS) 2004 2003
-------------- ------- --------
Deferred tax assets
Allowance for doubtful accounts $ 1,794 $ 1,720
Inventory reserve 122 114
Allowance for payor discounts 608 538
Other reserves 662 301
Vacation accrual 231 191
Accrued expenses 96 202
Depreciation - 79
------- -------
Deferred tax assets subtotal 3,513 3,145
------- -------
Deferred tax liabilities
Sales tax refunds receivable (52) (52)
Prepaid assets (548) (407)
Goodwill amortization (1,932) (1,104)
Depreciation (6) -
------- -------
Deferred tax liabilities subtotal (2,538) (1,563)
------- -------
Net deferred tax assets $ 975 $ 1,582
======= =======
7. SHAREHOLDERS' EQUITY
We have 5,000,000 shares of $.01 par value Preferred Stock authorized and
issuable in one or more series as the Board of Directors may determine, none of
which are outstanding. We have 40,000,000 authorized shares of $.01 par value
Common Stock. There are no restrictions on retained earnings.
We have four employee Stock Option Plans (1994, 1997, 1999 and 2001).
Options to purchase our Common Stock are granted to employees at 100% of fair
market value on the grant date and generally become exercisable at 20% of the
total grant at the end of each year. In addition, the August 2002 option grants
included an accelerated vesting provision based on defined increases in the
price of the Company's common stock. The options are cumulatively exercisable
and expire seven years after the grant date. In fiscal 2004 options to purchase
common stock granted to employees will become exercisable at 34%, 33%, and 33%
of the total grant at the end of each of three consecutive years and will expire
ten years after the grant date.
In August 2002, the Compensation Committee of the Board of Directors
approved restricted stock grants to our officers totaling 145,000 shares of
restricted common stock under our 2001 Stock Incentive Plan. These restricted
shares, valued at $683,000 based on our fair market value of $4.71 per common
share at the date of grant, were to be recognized as compensation expense over
the four year vesting period of the grant, subject to an acceleration provision
based on increases in our stock price. In October 2002, 20,000 of these shares
were cancelled. The remaining 125,000 restricted shares vested by March 2003 as
provided by the grant acceleration provision. We recognized compensation expense
of $367,000, net of tax, or $0.03 per share in fiscal 2003.
We also have a director performance Stock Option Plan that reserved
300,000 shares of Common Stock for option grants. The options are granted with
exercise prices equal to market value on the date of the grant. The options
become exercisable after seven years and expire ten years after the date of
grant. Certain acceleration provisions apply if the stock price increases
significantly prior to the end of seven years. Grants under this plan are made
upon a director's first election to our Board. Thereafter, directors receive
annual grants under one of the four option plans available to employees.
F-14
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
Stock option activity is summarized as follows:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
--------------------------- ---------------------------
WEIGHTED WEIGHTED
SHARES AVERAGE AVERAGE
AVAILABLE NUMBER PRICE NUMBER PRICE
FOR GRANT OF SHARES PER SHARE OF SHARES PER SHARE
--------- --------- --------- --------- ---------
Balance June 29, 2001 1,951,046 2,404,252 $ 9.90 1,271,303 $ 10.97
Granted (591,900) 591,900 5.51
Exercised - (2,000) 7.09
Cancelled 1,345,532 (1,345,532) 10.48
Expired (55,840) -
---------- --------- ------- --------- -------
Balance June 28, 2002 2,648,838 1,648,620 7.85 598,588 9.16
Options granted (604,867) 604,867 5.25
Restricted stock granted (125,000) -
Exercised - (45,700) 6.33
Cancelled 235,925 (235,925) 8.50
---------- --------- ------- --------- -------
Balance June 27, 2003 2,154,896 1,971,862 7.01 1,187,504 7.15
Options granted (1,004,096) 1,004,096 10.36
Exercised - (220,995) 6.80
Cancelled 286,560 (286,560) 9.50
Expired (5,800)
---------- --------- ------- --------- -------
Balance July 2, 2004 1,431,560 2,468,403 $ 8.10 1,135,217 $ 6.89
========== ========= ======= ========= =======
The following table summarizes information about stock options outstanding
at July 2, 2004.
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
------------------------------------------ ------------------------
WEIGHTED
AVERAGE WEIGHTED WEIGHTED
REMAINING AVERAGE AVERAGE
RANGE OF NUMBER CONTRACTUAL PRICE NUMBER PRICE
EXERCISE PRICES OF SHARES LIFE PER SHARE OF SHARES PER SHARE
- --------------- --------- ---- --------- --------- ---------
$ 4.33 - 5.03 481,607 5.1 yrs $ 4.87 460,907 $ 4.87
5.24 - 5.28 291,600 4.1 yrs 5.25 112,380 5.25
5.56 - 7.87 452,100 4.1 yrs 7.16 254,400 7.14
8.13 - 10.44 298,931 5.3 yrs 8.49 135,195 8.30
10.75 751,630 9.1 yrs 10.70 - -
10.76 - 14.63 192,535 1.4 yrs 11.92 172,335 11.89
--------- --- ------ --------- -------
$ 4.33 - 14.63 2,468,403 5.7 yrs $ 8.10 1,135,217 $ 6.89
========= === ====== ========= =======
8. EMPLOYEE BENEFIT PLANS
We have a qualified 401(k) Employee Savings Plan covering substantially
all employees. Our required contributions to the Plan, representing 401(k)
matching contributions only, were $211,000, $216,000, and $209,000 in fiscal
2004, 2003, and 2002, respectively.
F-15
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
We have an Employee Stock Purchase Plan. We issued 60,229 shares, 18,115
shares, and 35,187 shares of common stock under the plan during fiscal 2004,
2003, and 2002, respectively. We had 13,607 shares available for purchase under
the Plan at July 2, 2004.
9. RELATED PARTY TRANSACTIONS
On April 9, 1997, we entered into a guaranty of a personal loan with U.S.
Bank on behalf of Maurice R. Taylor, at the time our Chairman and Chief
Executive Officer. Taylor's U.S. Bank loan allowed him to avoid liquidation of a
substantial number of our shares pledged as security. The balance of
indebtedness under the guaranty was $675,000 on June 30, 2000. On July 1, 2000,
Taylor resigned as Chairman and became Chairman and CEO of our wholly-owned
subsidiary, MEDgenesis Inc. MEDgenesis assumed our guaranty of Taylor's loan on
that date, and subsequently loaned Taylor funds sufficient to pay off his debt
to U.S. Bank. U.S. Bank extinguished our guaranty at that time and Taylor gave
MEDgenesis a promissory note, due December 31, 2001, a residential mortgage, and
a pledge agreement. Taylor's term as a Director ended on November 27, 2000.
When we sold the MEDgenesis assets to Medisys on January 5, 2001, Medisys
did not acquire the Taylor promissory note, pledge agreement, or mortgage.
Accordingly, these commitments remained assets belonging to us as parent
company. Taylor failed to pay the full balance due on the note when it came due
on December 31, 2001 and defaulted under the terms of the note and residential
mortgage. As a result we fully reserved for this note. We commenced a lawsuit
against Taylor to obtain a judgment for the sum due and an order permitting
foreclosure of the residential mortgage. On August 15, 2003 the parties agreed
to a settlement and pursuant to the settlement, the Court dismissed the lawsuit.
The Settlement Agreement and its terms are confidential. Because we fully
reserved for this note, any subsequent collections from Mr. Taylor have been or
will be recognized as other income. The Company recognized $150,000 as other
income in fiscal 2004. As of August 13, 2004, the note has been paid in full.
10. SIGNIFICANT CONCENTRATIONS
Payor reimbursements from Aetna, Inc. represented 20%, 24%, and 26% of our
revenue in fiscal 2004, 2003, and 2002, respectively. No other private payor or
single government agency represented more than 10% of our revenues. Our
Specialty Pharmacy Mail Service Vendor Agreement with Aetna is effective until
December 31, 2004. On August 2, 2004, Aetna announced their intention to form a
jointly owned specialty pharmacy business with Priority Healthcare. The new
facility is expected to be operational by the third quarter of calendar year
2005. As a result of this announcement, we expect a significant reduction in
sales volume with Aetna to occur in our fiscal first quarter of 2006.
We signed a contract with Roche Laboratories Inc. in March 2003, which
expired in April 2004, to be the exclusive U.S. distributor of Fuzeon(R), its
new HIV medication, during the initial twelve month progressive distribution
phase. Fuzeon(R) sales contributed approximately 12% and 1% of our revenue or
$67.7 million and $4.5 million in fiscal 2004 and 2003, respectively. Although
Fuzeon(R) is now available through retail and specialty pharmacies, Chronimed
will continue to be a distributor for Fuzeon(R) and the exclusive distributor
for Fuzeon(R) patients receiving their medications through Roche's Patient
Assistance Program.
We signed a three-year wholesaler agreement with Cardinal Health, a large
national distributor, for the majority of our pharmaceutical purchases effective
August 2003. We used McKesson Corporation, another large national distributor,
for the majority of our pharmaceutical purchases in fiscal 2003 and 2002 and
until August 2003 in our fiscal 2004. Cardinal Health made up approximately 79%
of our inventory purchases in fiscal 2004. McKesson Corporation made up
approximately 89% and 92% of our inventory purchases for fiscal 2003 and 2002,
respectively. In the event that we are unable to purchase pharmaceuticals
through Cardinal Health, we believe we
F-16
would be able to purchase the same inventory through other national
pharmaceutical distributors under similar terms and conditions.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
Our primary concentration of credit risk is third party payor accounts
receivable, which consist of amounts owed by various governmental agencies and
insurance companies. We manage our receivables by regularly reviewing accounts
and contracts and by providing appropriate allowances for uncollectible amounts.
Aetna, Inc. represented 7% and 16% of our accounts receivable balance for the
fiscal years ended 2004 and 2003, respectively. No other private payor or single
government agency represented more than 10% of our accounts receivable balances.
Concentration of credit risk relating to accounts receivable is limited to some
extent by the diversity and number of patients and payors and the geographic
dispersion of our operations.
11. BUSINESS SEGMENT INFORMATION
For fiscal year 2004, we are operating and reporting in one segment.
Previously, we had identified two reportable operating segments, Mail Service
and Retail, based on separate management, emphasis on different diseases, and a
different distribution method for each segment. Three primary factors have
diminished the distinction between Mail Service and Retail. First, we
consolidated critical elements. In fiscal 2002, we transferred our Kansas City
retail headquarters to Minneapolis and consolidated our accounts receivable and
collection, accounting, and information service functions into a single
location. In addition, we changed our management structure from a vice president
for each of our then-defined operating segments to one vice president for all
operations.
Second, over the past year we have begun to serve persons living with
HIV/AIDS and persons with organ transplants at both our Retail and Mail Service
pharmacies. In the past, our Retail pharmacies had predominantly served persons
living with HIV/AIDS, and our Mail Service pharmacies had served persons with
organ transplants and others needing biotech injectable medications. In fiscal
2003 we began to serve many more persons with organ transplants through our
Retail pharmacies. We also entered into an agreement with Roche Laboratories
Inc. in fiscal 2003 to distribute Fuzeon(R) to persons with HIV/AIDS. We
distribute this drug through both our Mail Service and Retail pharmacies.
Third, we have added mail service capabilities to our retail pharmacies as
an enhancement to the local "walk-in" business model. In summary, although we
continue to apply two primary distribution methods, the distribution method no
longer drives the decisions made by our chief decision makers regarding resource
allocation. The chief decision makers regularly review financial information
related to, and make operating decisions based on, a number of factors including
disease state, drugs, payors, and dispensing location in order to efficiently
distribute prescription drugs and provide specialized therapy management
services.
F-17
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
12. CONTINGENCIES
On June 15, 2001, a putative class action lawsuit captioned Judith Barclay
v. Chronimed Inc., et. al. (01-CV-1092 DWF) was commenced in the United States
District Court for the District of Minnesota against Chronimed and certain of
our current and former officers. The Complaint alleges that Chronimed and
individual defendants violated Section 10(b) of the Securities Exchange Act of
1934 and Rule 10(b)-5 promulgated thereunder, and that the individual defendants
violated Section 20(a) of the Exchange Act. Eight other lawsuits asserting
claims identical to the Barclay case were filed and the nine lawsuits were
consolidated into a single case. On July 11, 2003, the Company and plaintiffs
agreed to settle the case and all claims. The settlement was approved by the
court on June 21, 2004.. The $2.2 million settlement amount is being fully
funded by Company insurance.
We have been engaged in discussions with the United States Attorney for
the District of Columbia regarding certain claims for reimbursement we submitted
to DC Medicaid between January and April 2000. The U.S. Attorney has asserted
that these claims were a result of an attempt by a DC resident to defraud the
Medicaid system and divert pharmaceuticals. We have denied wrongdoing. We have
reached a tentative settlement of the government's claims, which would result in
a repayment of $475,000, for which we are fully reserved. Negotiations regarding
a formal settlement agreement are ongoing.
Healthcare payors, whether private insurers or government funded programs,
routinely audit providers' billing processes, records, and legal or contractual
compliance. Audits frequently can and do result in requests for repayment of
previously recorded revenues. We have established a reserve to reflect the
possibility that revenues could be subject to repayment as a result of payor
audits.
F-18
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
13. QUARTERLY RESULTS - UNAUDITED
The following tables present our results of operations and earnings per
share on a quarterly basis for fiscal 2004 and 2003.
QUARTERLY RESULTS
FISCAL 2004
--------------------------------------------------------------
QUARTER 1 QUARTER 2 QUARTER 3 QUARTER 4 YEAR ENDED
SEP 26, DEC 26, MAR 28, JUL 2, JUL 2,
2003 2003 2004 2004 2004
(IN THOUSANDS, EXCEPT PER SHARE DATA) (13 WEEKS) (13 WEEKS) (13 WEEKS) (14 WEEKS) (53 WEEKS)
- ------------------------------------- ---------- ---------- ---------- ---------- -----------
Revenue $128,602 $131,361 $142,342 $157,659 $559,964
Gross profit 15,175 15,597 15,366 16,791 62,929
Net income 2,003 1,461 1,516 2,031 7,011
======== ======== ======== ======== ========
Basic net income per share $ 0.16 $ 0.12 $ 0.12 $ 0.16 $ 0.55
Diluted net income per share $ 0.15 $ 0.11 $ 0.12 $ 0.16 $ 0.54
======== ======== ======== ======== ========
Basic weighted average shares 12,583 12,663 12,706 12,729 12,671
Diluted weighted average shares 13,096 12,990 13,032 12,938 13,000
Our net income for the first quarter ended September 26, 2003, included a
$0.6 million income tax benefit resulting from a reduction in income tax
liabilities associated with prior tax years audited and closed in the fiscal
year.
Our revenue, gross profit, and net income for the fourth quarter ended
July 2, 2004, include approximately $11.3 million, $1.2 million, and $0.4
million respectively, relating to the extra week provided in fiscal 2004.
FISCAL 2003
---------------------------------------------------------------------
QUARTER 1 QUARTER 2 QUARTER 3 QUARTER 4 YEAR ENDED
SEP 27, DEC 27, MAR 28, JUN 27, JUN 27,
2003 2002 2002 2003 2003
(IN THOUSANDS, EXCEPT PER SHARE DATA) (13 WEEKS) (13 WEEKS) (13 WEEKS) (13 WEEKS) (52 WEEKS)
- ------------------------------------- ---------- ---------- ---------- ---------- ----------
Revenue $ 99,893 $108,636 $111,804 $115,380 $435,713
Gross profit 11,976 13,660 13,602 13,884 53,122
Net income 975 1,387 1,229 1,394 4,985
======== ======== ======== ======== ========
Basic and diluted net income per share $ 0.08 $ 0.11 $ 0.10 $ 0.11 $ 0.40
======== ======== ======== ======== ========
Basic weighted average shares 12,353 12,353 12,400 12,368 12,356
Diluted weighted average shares 12,363 12,444 12,644 12,754 12,512
Our net income for the third quarter ended March 28, 2003 included a $0.3
million compensation charge, net of tax, relating to the accelerated vesting of
restricted stock grants.
F-19
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
14. SUBSEQUENT EVENTS
On August 9, 2004, we announced that the boards of directors of Chronimed
Inc. and MIM Corporation (Nasdaq: MIMS - News) had unanimously approved a
strategic merger and that the companies had signed a definitive merger
agreement. The combined company, which will be named BioScrip Inc. will have
broad disease coverage, focused therapy management, expansive national retail
and mail distribution capabilities and a solid PBM platform. Based on financial
results reported by each company for the twelve month periods ended June 30, and
July 2, 2004, respectively, the two companies generated combined revenues of
approximately $1.1 billion and pretax income of $20.9 million. Upon consummation
of the merger, each Chronimed shareholder will receive 1.025 MIM shares for each
Chronimed share held. MIM expects to issue approximately 13.5 million shares to
Chronimed shareholders in the merger. Following the merger, Chronimed
shareholders would own approximately 37% of the new company and MIM shareholders
will own approximately 63%. The transaction is structured as a tax-free
reorganization for both companies and their respective shareholders. The closing
of the merger is subject to approval of both companies' shareholders and is
expected to occur in December 2004.
Subsequent to July 2, 2004, a legal action was commenced on August 16,
2004 in Hennepin County District Court in Minneapolis, Minnesota against
Chronimed and its Board of Directors relating to the merger. The plaintiff
alleges, among other things, that Chronimed's Board of Directors breached
fiduciary duties owed to Chronimed's shareholders in structuring the terms of
the pending merger with MIM Corporation in a manner that is favorable to
defendants and unfair and harmful to Chronimed's shareholders. The plaintiff in
that action seeks to have the court certify his individual action as a class
action on behalf of a class of Chronimed shareholders.
While there is no assurance that Chronimed will prevail, Chronimed
believes that the action is without merit and intends to vigorously defend
against it. An unfavorable outcome in the legal action could delay or prevent
completion of the merger.
F-20
CHRONIMED INC.
SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
(IN THOUSANDS)
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E
- ------------------------------------- --------- ------------------------ ------------ --------
BALANCE CHARGED CHARGED BALANCE
AT TO COSTS TO OTHER AT
BEGINNING AND ACCOUNTS - DEDUCTIONS - END OF
DESCRIPTION OF PERIOD EXPENSES DESCRIBE DESCRIBE PERIOD
- ------------------------------------- --------- -------- ---------- ------------ --------
Year ended July 2, 2004
Reserves and allowances deducted from
asset accounts:
Allowance for doubtful accounts $ 4,525 $ 3,961 $ - $ 3,766 (3) $ 4,720
Allowance for payor discounts 1,415 9,367 (1) 9,181 (2) 1,601
------- ------- -------- -------- -------
$ 5,940 $ 3,961 $ 9,367 $ 12,947 $ 6,321
Year ended June 27, 2003
Reserves and allowances deducted from
asset accounts:
Allowance for doubtful accounts $ 5,428 $ 3,204 $ - $ 4,107 (3) $ 4,525
Allowance for payor discounts 3,495 - 10,119 (1) 12,199 (2) 1,415
------- ------- -------- -------- -------
$ 8,923 $ 3,204 $ 10,119 $ 16,306 $ 5,940
Year ended June 28, 2002
Reserves and allowances deducted from
asset accounts:
Allowance for doubtful accounts $ 4,490 $ 3,504 $ - $ 2,566 (3) $ 5,428
Allowance for payor discounts 5,174 - 23,051 (1) 24,730 (2) 3,495
------- ------- -------- -------- -------
$ 9,664 $ 3,504 $ 23,051 $ 27,296 $ 8,923
(1) Estimated payor discounts charged to revenue
(2) Actual payor discounts taken
(3) Uncollectible accounts written off, net of recoveries
S-1
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION
- ------- ---------------------------------------------------------------------------------------
2.1 Agreement and Plan of Merger dated August 9, 2004 among MIM Corporation, Corvette
Acquisition, and Chronimed Inc. (15)
3.1 Articles of Incorporation of the Company, as amended. (6)
3.2 Bylaws of the Company, as amended. (7)
4.1 Specimen form of the Company's Common Stock certificate. (2)
4.2 Shareholder Rights Agreement between the Company and Wells Fargo Bank, National
Association (formerly Norwest Bank Minnesota, N.A.) dated December 18, 1996. (5)
10.1 Form of Restricted Stock Grant Agreement. (1) (13)
10.2 Pharmacy Participation Agreement with Aetna Health Management, Inc. (9)
10.2a Amendment to Pharmacy Services Agreement between Chronimed and Aetna Inc. dated May 1,
2003 (without exhibits or schedules). (13)
10.3 Employment Agreement effective July 1, 2003, by and between the Company and Henry F.
Blissenbach. (1) (16)
10.3a Amendment and Assumption to Employment Agreement dated August 9, 2004, by and among the
Company, Henry F. Blissenbach, and MIM Corporation, amending Dr. Blissenbach's
Employment Agreement. (1) (17)
10.4 Chronimed Inc. 1994 Stock Option Plan. (3)
10.5 Chronimed Inc. 1994 Stock Option Plan for Directors. (3)
10.6 Chronimed Inc. 1997 Stock Option Plan. (4)
10.7 Chronimed Inc. 1999 Stock Option Plan. (8)
10.8 Chronimed Inc. 2001 Stock Incentive Plan. (10)
10.9 Facility Lease Agreement with Red Circle L.L.P. dated November 1996. (5)
10.9a Amendments dated April 1997, December 1997, and July 1998 to Facility Lease Agreement
with Red Circle L.L.P. (8)
10.10 Promissory Note of Maurice R. Taylor, II, dated July 24, 2000. (1) (11)
10.11 Specialty Pharmacy Fuzeon(R) Agreement between Chronimed Inc. and Roche Laboratories
dated March 7, 2003 (without exhibits or schedules). (12)
10.12 Prime Vendor Agreement between Chronimed Inc. and Cardinal Health dated April 24, 2003.
(12)
10.13 Amended and Restated Revolving Credit Agreement between Chronimed Inc. and U.S. Bank
National Association, M&I Marshall and Ilsey Bank, and UMB Bank, N.A. dated April 17,
2003 (without exhibits or schedules). (13)
10.14 Employment agreement effective February 1, 2003 between the Company and Anthony J.
Zappa. (1) (13)
10.15 Asset Purchase Agreement dated December 9, 2003 by and between Accent Rx, Ascentia,
Inc., and Chronimed Inc. (without exhibits or schedules). (14)
10.16* Form of Change of Control Severance Agreement, dated June 14, 2004, between Chronimed
and each of the following executive officers: Kenneth S. Guenthner, Colleen Haberman,
Gregory H. Keane, Brian J. Reagan, and Thomas Staloch. (1)
14.1* Code of Conduct (including our Code of Ethics for Senior Financial Officers).
21.1* List of Subsidiaries.
23.1* Consent of Independent Registered Public Accounting Firm.
31.1* Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (Chief Executive
Officer).
31.2* Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (Chief Financial
Officer).
32.1* Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 (Chief Executive Officer).
32.2* Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002 (Chief Financial Officer).
99.1* Cautionary Statements for Purposes of the "Safe Harbor" Provisions of the Private
Securities Litigation Reform Act.
- ------------------------
* Filed herewith.
(1) Management contract or compensatory plan or arrangement.
(2) Incorporated by reference to the Company's Registration Statement on
Form S-1 (File No. 33-45644), as amended.
(3) Incorporated by reference to the Company's quarterly report on Form
10-Q filed with The Commission on January 31, 1995, under file number
0-19952.
(4) Incorporated by reference to the Company's quarterly report on Form
10-Q filed with The Commission on November 5, 1996, under file number
0-19952.
(5) Incorporated by reference to the Company's 1997 Annual Report on Form
10-K filed with The Commission on September 25, 1997, under file number
0-19952.
(6) Incorporated by reference to the Company's quarterly report on Form
10-Q filed with the Commission on February 6, 1998, under file number
0-19952.
(7) Incorporated by reference to the Company's quarterly report on Form
10-Q filed with The Commission on May 5, 1998, under file number
0-19952.
(8) Incorporated by reference to the Company's 1998 Annual Report on Form
10-K filed with The Commission on September 30, 1998, under file Number
0-19952.
(9) Incorporated by reference to the Company's 2000 Annual Report on Form
10-K filed with The Commission on September 27, 2000, under file Number
0-19952.
(10) Incorporated by reference from Exhibit A in the Company's Definitive
Proxy Statement filed with The Commission on Schedule 14A, October 13,
2000, under file Number 0-19952.
(11) Incorporated by reference to the Company's quarterly report on Form
10-Q filed with The Commission on May 14, 2001, under file Number
0-19952.
(12) Incorporated by reference to the Company's quarterly report on Form
10-Q filed with The Commission on May 9, 2003, under file Number
0-19952.
(13) Incorporated by reference to the Company's 2003 Annual Report on Form
10-K filed with The Commission on September 18, 2003, under file Number
0-19952.
(14) Incorporated by reference to Exhibit 99.1 in the Company's Form 8-K
filed with The Commission December 16, 2003, under file Number 0-19952.
(15) Incorporated by reference to Exhibit 99.2 in the Company's Form 8-K
filed with The Commission August 9, 2004, under file Number 0-19952.
(16) Incorporated by reference to Exhibit 99.1 in the Company's Form 8-K
filed with The Commission August 26, 2004, under file Number 0-19952.
(17) Incorporated by reference to Exhibit 99.2 in the Company's Form 8-K
filed with The Commission August 26, 2004, under file Number 0-19952.