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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2002
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OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
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Commission file number 0-23367
BIRNER DENTAL MANAGEMENT SERVICES, INC.
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(Exact name of registrant as specified in its charter)
COLORADO 84-1307044
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(State or other jurisdiction of incorporation or (IRS Employer
organization) Identification No.)
3801 EAST FLORIDA AVENUE, SUITE 508
DENVER, COLORADO 80210
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number: (303) 691-0680
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
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None. None.
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, without par value
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(Title of Class)
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
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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. [ ___ ]
The aggregate market value of the Registrant's voting stock held by
non-affiliates of the Registrant computed by reference to the price at which the
common equity was as of June 28, 2002, the last business day of the Registrant's
most recent completed second fiscal quarter was $7,370,919. This calculation
assumes that certain parties may be affiliates of the Registrant and that,
therefore, 909,990 shares of voting stock are held by non-affiliates. As of
March 24, 2003, the Registrant had 1,354,137 shares of its common stock, without
par value ("Common Stock") outstanding.
On February 26, 2001 the Registrant affected a reverse stock split in which the
Registrant issued one share of Common Stock for every four shares of Common
Stock then outstanding. Therefore, all shares, options, share prices, option
prices and earnings per share calculations for all periods in this document have
been restated to reflect the effect of the reverse stock split.
DOCUMENTS INCORPORATED BY REFERENCE
The information required by Part III of this Report (Items 10,11,12 and 13) is
incorporated by reference from the Registrant's Proxy Statement to be filed
pursuant to Regulation 14A with respect to the annual meeting of shareholders
scheduled to be held on or about June 3, 2003.
FORWARD-LOOKING STATEMENTS
Statements contained in this Annual Report on Form 10-K ("Annual Report") of
Birner Dental Management Services, Inc. (the "Company"), which are not
historical in nature, are forward-looking statements within the meaning of the
Private Securities Litigation Reform Act of 1995. These forward-looking
statements include statements in Items 1. and 2., "Business and Properties,"
Item 5., "Market for the Registrant's Common Equity and Related Stockholder
Matters" and Item 7., "Management's Discussion and Analysis of Financial
Condition and Results of Operations," regarding the intent, belief or current
expectations of the Company or its officers with respect to the development or
acquisition of additional dental practices and the successful integration of
such practices into the Company's network, recruitment of additional dentists,
funding of the Company's expansion, capital expenditures, payment or nonpayment
of dividends and cash outlays for income taxes.
Such forward-looking statements involve certain risks and uncertainties that
could cause actual results to differ materially from anticipated results. These
risks and uncertainties include regulatory constraints, changes in laws or
regulations concerning the practice of dentistry or dental practice management
companies, the availability of suitable new markets and suitable locations
within such markets, changes in the Company's operating or expansion strategy,
failure to consummate or successfully integrate proposed developments or
acquisitions of dental practices, the ability of the Company to manage
effectively an increasing number of dental practices, the general economy of the
United States and the specific markets in which the Company's dental practices
are located or are proposed to be located, trends in the health care, dental
care and managed care industries, as well as the risk factors set forth in Item
7. "Management's Discussion and Analysis of Financial Condition and Results of
Operations - Risk Factors," and other factors as may be identified from time to
time in the Company's filings with the Securities and Exchange Commission or in
the Company's press releases.
2
Birner Dental Management Services, Inc.
Form 10-K
Table of Contents
Part Item(s) Page
I. 1. and 2. Business and Properties 4
General 4
Dental Services Industry 4
Operations 5
Existing Offices 6
Patient Services 7
Dental Practice Management Model 7
Payor Mix 9
The Company Dentist Philosophy 9
Expansion Program 10
Affiliation Model 11
Competition 12
Government Regulation 12
Insurance 14
Trademark 14
Facilities and Employees 15
3. Legal Proceedings 15
4. Submission of Matters to a Vote of Security Holders 15
II. 5. Market for Registrant's Common Equity and Related Stockholder Matters
16
Equity Compensation Plan Information 17
6. Selected Financial Data 18
7. Management's Discussion and Analysis of Financial Condition and Results of
Operations 19
7A. Quantitative and Qualitative Disclosures About Market Risk 34
8. Financial Statements and Supplementary Data 35
9. Changes in and Disagreements with Accountants on Accounting and Financial
Disclosure 58
III. 10. Directors and Executive Officers of the Registrant 59
11. Executive Compensation 59
12. Security Ownership of Certain Beneficial Owners and Management 59
13. Certain Relationships and Related Transactions 59
14. Controls and Procedures
IV. 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K 60
3
PART I
ITEMS 1. AND 2. BUSINESS AND PROPERTIES.
General
The Company acquires, develops, and manages geographically dense dental practice
networks in select markets, currently including Colorado, New Mexico and
Arizona. With its 40 dental practices ("Offices") in Colorado and eight Offices
in New Mexico, the Company believes, based on industry knowledge and contacts,
that it is the largest provider of dental management services in Colorado and
New Mexico. The Company provides a solution to the needs of dentists, patients,
and third-party payors by allowing the Company's affiliated dentists to provide
high-quality, efficient dental care in patient-friendly, family practice
settings. Dentists practicing at the various locations provide comprehensive
general dentistry services, and the Company increasingly offers specialty dental
services through affiliated specialists. The Company currently manages 54
Offices, of which 37 were acquired and 17 were developed internally ("de novo
Offices").
Dental Services Industry
According to the Centers for Medicare and Medicaid Services ("CMS") dental
expenditures in the U.S. increased from $31.5 billion in 1990 to $65.6 billion
in 2001. CMS also projects that dental expenditures will reach approximately
$118.3 billion by 2012, representing an increase of approximately 80.3% over
2001 dental expenditures. The Company believes this growth is driven by (i) an
increase in the number of people covered by third-party payment arrangements and
the resulting increase in their utilization of dental services, (ii) an
increasing awareness of the benefits of dental treatments, (iii) the retention
of teeth into later stages of life, (iv) the general aging of the population, as
older patients require more extensive dental services, and (v) a growing
awareness of and demand for preventative and cosmetic services.
Traditionally, most dental patients have paid for dental services themselves
rather than through third-party payment arrangements such as indemnity
insurance, preferred provider plans or managed dental plans. More recently,
factors such as increased consumer demand for dental services and the desire of
employers to provide enhanced benefits for their employees have resulted in an
increase in third-party payment arrangements for dental services. Current market
trends, including the rise of third-party payment arrangements, have contributed
to the increased consolidation of practices in the dental services industry and
to the formation of dental practice management companies. The Company believes
that the percentage of people covered by third-party payment arrangements will
continue to increase due in part to the popularity of such arrangements.
4
Operations
Location of Offices
[MAP INSERTED HERE]
5
Existing Offices
As of the date of this Annual Report, the Company managed a total of 54 Offices
in Colorado, New Mexico, and Arizona. The following table identifies each
Office, the location of each Office, the date each Office was acquired or de
novo developed, and any specialty dental services offered at that Office in
addition to comprehensive general dental services:
Date Acquired/ Specialty
Office Name Office Address Developed* Services
----------- -------------- -------------- ---------
Colorado
Boulder
Perfect Teeth/Boulder 4155 Darley, #F September 1997
Perfect Teeth/Folsom 1840 Folsom, Suite 302 April 1998
Castle Rock
Perfect Teeth/Castle Rock 390 South Wilcox, Unit D October 1995
Colorado Springs
Perfect Teeth/Cheyenne Meadows 827 Cheyenne Meadows Road June 1998*
Perfect Teeth/Garden of the Gods 4329 Centennial Boulevard July 1996*
Perfect Teeth/South 8th Street 1050 South Eighth Street August 1998 1,2
Perfect Teeth/Uintah Gardens 1768 West Uintah Street May 1996*
Perfect Teeth/Union & Academy 5140 North Union September 1997
Perfect Teeth/Woodman Valley 6914 North Academy Boulevard, Unit 1B April 1998*
Perfect Teeth/Powers 5929 Constitution Avenue March 1999* 1,2
Denver
Perfect Teeth/64th and Ward 12650 West 64th Avenue, Unit J January 1996*
Perfect Teeth/88th and Wadsworth 8749 Wadsworth Boulevard September 1997 1,2,4
Perfect Teeth/Arapahoe 7600 East Arapahoe Road, #311 October 1995 1
Perfect Teeth/Bowmar 5151 South Federal Boulevard, #G-2 October 1995
Perfect Teeth/Buckley and Quincy 4321 South Buckley Road September 1997 1,2
Perfect Teeth/Central Denver 1633 Fillmore Street, Suite 200 May 1996
Perfect Teeth/East 104th Avenue 2200 East 104th Avenue, #112 May 1996 1
Perfect Teeth/East Cornell 12200 East Cornell Avenue, # E August 1996
Perfect Teeth/East Iliff 16723 East Iliff Avenue May 1997
Glendale Dental Group 4521 East Virginia Avenue February 1999
Perfect Teeth/Golden 17211 South Golden Road, #100 June 1999*
Perfect Teeth/Green Mountain 13035 West Alameda Parkway December 1998*
Perfect Teeth/Highlands Ranch 9227 Lincoln Avenue, Suite 100 July 1999* 1
Perfect Teeth/Ken Caryl 7660 South Pierce September 1997
Perfect Teeth/Leetsdale 7150 Leetsdale Drive, #110A March 1996*
Mississippi Dental Group 11175 East Mississippi Avenue, #110 September 1998
Perfect Teeth/Monaco and Evans 2121 South Oneida, Suite 321 November 1995 1,2,3,4
Perfect Teeth/North Sheridan 11550 North Sheridan, #101 May 1996
Perfect Teeth/Parker 11005 South Parker Road December 1998* 1
Perfect Teeth/Sheridan and 64th Avenue 5169 West 64th Avenue May 1996
Perfect Teeth/South Holly Street 8211 South Holly Street September 1997 2
Perfect Teeth/Speer 700 East Speer Boulevard February 1997
Perfect Teeth/West 38th Avenue 7760 West 38th Avenue, #200 May 1996 1
Perfect Teeth/West 120th Avenue 6650 West 120th Avenue, A-6 September 1997
Perfect Teeth/West Jewell 8064 West Jewell April 1998
Perfect Teeth/Yale 7515 West Yale Avenue, Suite A April 1997 1,3
Fort Collins
Perfect Teeth/South Fort Collins 1355 Riverside Avenue, Unit D May 1996
Greeley
Perfect Teeth/Greeley 902 14th Street September 1997
Longmont
Perfect Teeth/Longmont 641 Ken Pratt Boulevard September 1997
Loveland
Perfect Teeth/ Loveland 3400 West Eisenhower Boulevard September 1996
6
Date Acquired/ Specialty
Office Name Office Address Developed* Services
----------- -------------- -------------- ---------
New Mexico
Albuquerque
Perfect Teeth/Alice 5909 Alice NE February 1998
Perfect Teeth/Candelaria 6101 Candelaria NE April 1997
Perfect Teeth/Cubero Drive 5900 Cubero Drive NE, Suite E September 1998
Perfect Teeth/Four Hills 13140-E Central Avenue, SE August 1997* 3
Perfect Teeth/Fourth Street 5721 Fourth Street NW August 1997
Perfect Teeth/Wyoming and Candelaria 8501 Candelaria NE, Suite D3 August 1997
Rio Rancho
Perfect Teeth/Rio Rancho 4500 Arrowhead Ridge Drive July 1999* 3
Santa Fe
Perfect Teeth/Plaza Del Sol 720 St. Michael Drive, Suite O May 1998* 3
Arizona
Goodyear
Perfect Teeth/Palm Valley 14175 West Indian School Bypass Road,#B6 March 2000*
Mesa
Perfect Teeth/Power & McDowell 2733 North Power Road, Suite 101 October 2000*
Phoenix
Perfect Teeth/Thomas and 15th Avenue 3614 North 15th Avenue, Suite B September 1998
Scottsdale
Perfect Teeth/Bell Road & 64th Street 6345 East Bell Road, Suite 1 July 1998 1,2,3
Perfect Teeth/Shea & 90th Street 9393 North 90th Street, Suite 207 September 1998
Tempe
Perfect Teeth/Elliot and McClintock 7650 S. McClintock Dr., #110 June 1999*
(1) Orthodontics
(2) Periodontics
(3) Oral Surgery
(4) Pedodontics
The Offices typically are located either in shopping centers, professional
office buildings or stand-alone buildings. The majority of the de novo Offices
are located in supermarket-anchored shopping centers. The Offices have from four
to 16 treatment rooms and range in size from 1,200 square feet to 7,300 square
feet.
Patient Services
The Company seeks to develop long-term relationships with patients. A
comprehensive exam and evaluation is conducted during a patient's first visit.
Through patient education, the patients develop an awareness of the benefits of
a comprehensive, long-term dental care plan. The Company believes that it will
retain these patients longer and that these patients will have a higher
utilization of the Company's dental services including specialty, elective, and
cosmetic services.
Dentists practicing at the Offices provide comprehensive general dentistry
services, including crowns and bridges, fillings (including state-of-the-art
gold, porcelain and composite inlays/onlays), and aesthetic procedures such as
porcelain veneers and bleaching. In addition, hygienists provide cleanings and
periodontal services including root planing and scaling. If appropriate, the
patient is offered specialty dental services, such as orthodontics, oral surgery
and periodontics, which are available at certain of the Company's Offices, as
indicated on the table above. These services are provided by affiliated
specialists who rotate through certain offices in the Company's existing
markets. The addition of specialty services is a key component of the Company's
strategy, as it enables the Company to capture revenue from typically higher
margin services that would otherwise be referred to non-affiliated providers. In
addition, by offering a broad range of dental services within a single practice,
the Company is able to distinguish itself from its competitors and realize
operating efficiencies and economies of scale through higher utilization of
professionals and facilities.
Dental Practice Management Model
The Company has developed a dental practice management model designed to achieve
its goal of providing personalized, high-quality dental care in a patient
friendly setting similar to that found in a traditional private practice. The
Company's dental practice management model consists of the following components:
7
Recruiting of Dentists. The Company seeks dentists with excellent skills and
experience, who are sensitive to patient needs, interested in establishing
long-term patient relationships and are motivated by financial incentives to
enhance Office operating performance. The Company believes that practicing in
its network of Offices offers both recently graduated dentists and more
experienced dentists advantages over a solo or smaller group practice, including
relief from the burden of administrative responsibilities and the resulting
ability to focus almost exclusively on practicing dentistry. Advantages to
dentists affiliated with the Company also include a compensation structure that
rewards productivity, employee benefits such as health insurance, a 401(k) plan,
continuing education, payment of professional membership fees and malpractice
insurance. The Company's effort to recruit managing dentists is primarily
focused on dentists with three or more years of practice experience. The Company
typically recruits associate dentists graduating from residency programs. It has
been the Company's experience, that many dentists in the early stages of their
careers have incurred substantial student loans. As a result, they face
significant financial constraints in starting their own practices or buying into
existing practices, especially in view of the capital-intensive nature of modern
dentistry.
The Company advertises for the dentists it seeks in national and regional dental
journals, local market newspapers, professional conferences and directly at
dental schools with strong residency programs. In addition, the Company has
found that its existing affiliated dentists provide a good referral source for
recruiting future dentists.
Training of Non-Dental Employees. The Company has developed a formalized
training program for non-dental employees, which is conducted by the Company's
staff. This program includes training in patient interaction, scheduling, use of
the computer system, office procedures and protocols, and third-party payment
arrangements. Additionally, the Company encourages its employees to attend
continuing education seminars as a supplement to the Company's formalized
training program. In addition, Company regional directors also meet weekly with
the Company's senior management and administrative staff to review pertinent and
timely topics and generate ideas that can be shared with all Offices. Management
believes that its training program and the on-going meetings with employees have
contributed to an improvement in the operations at its Offices.
Staffing Model. The Company's staffing model attempts to maximize profitability
in the Offices by adjusting personnel according to an Office's revenue level.
Staffing at mature Offices can vary based on the number of treatment rooms, but
generally includes one to three dentists, two to four dental assistants, one to
three hygienists, one to three hygiene assistants and two to five front office
personnel. Staffing at de novo Offices typically consists initially of one
dentist, one dental assistant and one front office person. As the patient base
builds at an Office, additional staff is added to accommodate the growth as
provided in the staffing model developed by the Company. The Company currently
has a staff of five regional directors in Colorado and one regional director for
New Mexico and Arizona. These regional directors, who are each responsible for
four to 14 Offices and the specialty practice, oversee operations, development
of non-dental employees, recruiting and work to implement the Company's dental
practice management model to maximize revenues and profitability.
Management Information Systems. All of the Offices have the same management
information system, which allows the Company to receive uniform data that can be
analyzed easily in order to measure and improve operating performance in the
Offices. As part of its acquisition integration process, the Company converts
acquired Offices to its management information system as soon as practicable.
The Company's current system enables it to maintain on-line contact with each of
its Offices and allows the Company to monitor the Offices by obtaining real-time
data relating to patient and insurance information, treatment plans, scheduling,
revenues and collections. The Company provides each Office with monthly
operating and financial data, which is analyzed and used to improve the Office's
performance.
Advertising and Marketing. The Company seeks to increase patient volume at its
Offices from time to time through television, radio, print advertising and other
marketing techniques. The Company's advertising efforts are primarily aimed at
increasing its fee-for-service business and emphasizes the high-quality care
provided, as well as the timely, individualized attention received from the
Company's affiliated dentists.
Quality Assurance. The Company has designed and implemented a quality assurance
program for dental personnel, including a background check. Each affiliated
dentist is a graduate of an accredited dental program, and most State licensing
authorities require dentists to undergo annual training. The dentists and
hygienists practicing at the Offices obtain a portion of their required
continuing education through the Company's internal training programs.
8
Purchasing / Vendor Relationships. The Company has negotiated arrangements with
a number of its more significant vendors, including dental laboratory and supply
providers, to reduce per unit costs. By aggregating supply purchasing and
laboratory usage, the Company believes that it has received favorable pricing
compared to solo or smaller group practices. This system of centralized buying
and distribution on an as-needed basis reduces the storage of inventory and
supplies at the Offices.
Payor Mix
The Company's payors include indemnity insurers, preferred provider plans,
managed dental care plans, and uninsured patients. The Company seeks to optimize
the revenue mix at each Office between fee-for-service business and capitated
managed care plans, taking into account the local dental market. While
fee-for-service business generally provides a greater margin than capitated
managed dental care business, capitated managed dental care business serves to
increase facility utilization and dentist productivity. Consequently, the
Company seeks to supplement its fee-for-service business with revenue derived
from contracts with capitated managed dental care plans. The Company negotiates
the managed care contracts on behalf of the professional corporations that
operate the Offices (the "P.C.s"), although the P.C.s enter into the contracts
with the various managed care plans. Managed care relationships also provide
increased co-payment revenue, referrals of additional fee-for-service patients
and opportunities for dentists practicing at the Offices to educate patients
about the benefits of elective dental procedures that may not be covered by the
patients' capitated managed dental care plans.
During the years ended December 31, 2000, 2001, and 2002 the following companies
were responsible for the corresponding percentages of the Company's total dental
group practice revenue (includes capitation premiums and co-payments): Aetna
Healthcare was responsible for 9.1%, 7.4% and 6.6%, respectively, CIGNA Dental
Health was responsible for 5.9%, 6.0% and 6.3%, respectively and Delta Care was
responsible for 8.6%, 8.0% and 6.6%, respectively.
The Company has successfully reduced the percentage of its business that comes
from managed dental care plans, from 51.4% of gross revenues in 1998 to 27.5% of
gross revenues in 2002, and replaced that revenue stream with higher margin
fee-for-service revenues. This higher margin fee-for-service revenue has
predominantly been business derived from preferred provider plans.
The Company Dentist Philosophy
The Company seeks to develop long-term relationships with its dentists by
building the practice at each of its Offices around a managing dentist. The
Company's dental practice management model provides managing dentists the
autonomy and independence of a private family practice setting without the
capital commitment and with the administrative burdens such as
billing/collections, payroll, accounting, and marketing. This gives the managing
dentists the ability to focus primarily on providing high-quality dental care to
their patients. The managing dentist retains the responsibilities of team
building and developing long-term relationships with patients and staff by
building trust and providing a friendly, relaxed atmosphere in his or her
Office. The managing dentist exercises his or her own clinical judgment in
matters of patient care. In addition, managing dentists are given an economic
incentive to improve the operating performance of their Offices, in the form of
a bonus based upon the operating performance of the Office. In addition,
managing dentist's may be granted stock options in the Company that ordinarily
vest over a three-to-five year period.
When the revenues of an Office justify expansion, associate dentists can be
added to the team. Associate dentists are typically recent graduates from
residency programs, and usually spend up to two years working with a managing
dentist. Depending on performance and abilities, an associate dentist may be
given the opportunity to become a managing dentist.
9
Expansion Program
Overview
Since its formation in May 1995, the Company has acquired 42 practices,
including five practices that have been consolidated with existing Offices. Of
those acquired practices (including the five practices consolidated with
existing Offices), 34 were located in Colorado, five were located in New Mexico,
and three were located in Arizona. Although the Company has acquired and
integrated several group practices, many of the Company's acquisitions have been
solo dental practices. The Company has developed 18 de novo Offices (including
one practice that was consolidated with an existing Office). During 2000, the
Company's growth strategy shifted from an acquisition and development approach
to an approach that is focused on greater utilization of existing physical
capacity through recruiting more dentists and support staff.
The following table sets forth the change in the number of Offices managed by
the Company from January 1, 1998 through December 31, 2002.
1998 1999 2000 2001 2002
---- ---- ---- ---- ----
Offices at beginning of the period 34 49 54 56 54
De novo Offices 5 5 2 0 0
Acquired Offices 10 1 0 0 0
Consolidation of Offices 0 (1) 0 (2) 0
---- ---- ---- ---- ----
Offices at end of the period 49 54 56 54 54
==== ==== ==== ==== ====
Capacity Utilization
The Company expects to expand in existing markets primarily by enhancing the
operating performance of its existing Offices. Enhancing operating performance
will principally be accomplished through the addition of dentists and hygienists
to further utilize existing physical capacity in the Offices.
De Novo Office Developments
One method by which the Company enters new markets and expands its operations in
existing markets is through the development of de novo Offices. Five of the
Company's seven Colorado Springs Offices, six of the Company's 29 Denver metro
area Offices, three of the Company's eight New Mexico Offices and three of the
Company's six Arizona Offices were de novo developments. The Company generally
locates de novo Offices in prime retail locations in areas where there is
significant population growth. These locations provide high visibility for the
Company's signage and easy walk-in access for its customers. Historically, the
Company has used consistent office designs, colors, logo and signage for each of
its de novo Offices.
The average investment by the Company in each of its 17 de novo Offices has been
approximately $194,000, which includes the cost of equipment, leasehold
improvements and working capital associated with the initial operations. The de
novo Offices, which were opened between January 1996 and October 2000, began
generating positive contribution from dental offices, on average, within eight
months of opening.
Acquisition Strategy
Prior to entering a new market, the Company considers the population,
demographics, market potential, competitive and regulatory environment, supply
of available dentists, needs of managed care plans or other large payors and
general economic conditions within the market. Once the Company has established
a presence in a new market, the Company seeks to increase its presence in that
market through acquisitions and by developing de novo Offices. The Company
identifies potential acquisition candidates through a variety of means,
including selected inquiries of dentists by the Company, direct inquiries by
dentists, referrals from other dentists, participation in professional
conferences and referrals from practice brokers. The Company seeks to identify
and acquire dental practices for which the Company believes application of its
dental practice management model will improve revenue and operating performance.
10
Recent Acquisitions and De Novo Offices
Colorado: During 2002, the Company acquired the remaining 50% interest in two
existing Offices in Colorado.
Affiliation Model
Relationship with Professional Corporations (P.C.s)
Each Office is operated by a P.C., which is owned by one of six different
licensed dentists practicing within the Company's network. The Company has
entered into agreements with owners of 53 of the P.C.s which provide that upon
the death, disability, incompetence or insolvency of the owner, a loss of the
owner's license to practice dentistry, a termination of the owner's employment
by the P.C. or the Company, a conviction of the owner for a criminal offense, or
a breach by the P.C. of the Management Agreement (as defined below) with the
Company, the Company may require the owner to sell his or her shares in the P.C.
for a nominal amount to a third-party designated by the Company. These
agreements also prohibit the owner from transferring or pledging the shares in
the P.C.s except to parties approved by the Company who agree to be bound by the
terms of the agreements. Upon a transfer of the shares to another party, the
owner agrees to resign all positions held as an officer or the director of the
P.C.
One licensed dentist who owns a P.C. operating an Office in Colorado has entered
into stock purchase, pledge and security agreements with the Company. Under this
agreement, if certain events occur including the failure to perform the
obligations under the employment agreement with the P.C., cessation of
employment with the P.C. for any reason, death or insolvency or directly or
indirectly causing the P.C. to breach its obligations under the Management
Agreement, then the Company may cause the P.C. to redeem the dentist's ownership
interest in the P.C. for an agreed price which is not considered to be material
by the Company. Two of the three directors of this P.C. are nominees of the
Company and the dentist has given the Company's Chief Executive Officer, Fred
Birner an irrevocable proxy to vote his shares in the P.C.
Management Agreements with Affiliated Offices
The Company derives all of its revenue from its management agreements with the
P.C.s (the "Management Agreements"). Under each of the Management Agreements,
the Company manages the business and marketing aspects of the Offices, including
(i) providing capital, (ii) designing and implementing marketing programs, (iii)
negotiating for the purchase of supplies, (iv) staffing, (v) recruiting, (vi)
training of non-dental personnel, (vii) billing and collecting patient fees,
(viii) arranging for certain legal and accounting services, and (ix) negotiating
with managed care organizations. The P.C. is responsible for, among other
things, (i) supervision of all dentists and dental hygienists, (ii) ensuring
compliance with all laws, rules and regulations relating to dentists and dental
hygienists, and (iii) maintaining proper patient records. The Company has made,
and intends to make in the future, loans to P.C.s in Colorado, New Mexico and
Arizona to fund their acquisition of dental assets from third parties in order
to comply with the laws of such states. Because the Company's financial
statements are consolidated with the financial statements of the P.C.s, these
loans are eliminated in consolidation.
Under the typical Management Agreement used by the Company, the P.C. pays the
Company a management fee equal to the Adjusted Gross Center Revenue of the P.C.
less compensation paid to the dentists and dental hygienists employed at the
Office of the P.C. Adjusted Gross Center Revenue is comprised of all fees and
charges booked each month by or on behalf of the P.C. as a result of dental
services provided to patients at the Office, less any adjustments for
uncollectible accounts, professional courtesies and other activities that do not
generate a collectible fee. The Company's costs include all direct and indirect
costs, overhead and expenses relating to the Company's provision of management
services at the Office under the Management Agreement, including (i) salaries,
benefits and other direct costs of Company employees who work at the Office,
(ii) direct costs of all Company employees or consultants who provide services
to or in connection with the Office, (iii) utilities, janitorial, laboratory,
supplies, advertising and other expenses incurred by the Company in carrying out
its obligations under the Management Agreement, (iv) depreciation expense
associated with the P.C.'s assets and the assets of the Company used at the
Office, and the amortization of intangible asset value relating to the Office,
(v) interest expense on indebtedness incurred by the Company to finance any of
its obligations under the Management Agreement, (vi) general and malpractice
insurance expenses, lease expenses and dentist recruitment expenses, (vii)
personal property and other taxes assessed against the Company's or the P.C.'s
assets used in connection with the operation of the Office, (viii) out-of-pocket
expenses of the Company's personnel related to mergers or acquisitions involving
the P.C., (ix) corporate overhead charges or any other expenses of the Company
including the P.C.'s pro rata share of the expenses of the accounting and
computer services provided by the Company, and (x) a collection reserve in the
amount of 5.0% of Adjusted Gross Center Revenue. As a result, substantially all
costs associated with the provision of dental services at the Office are borne
by the Company, other than the compensation and benefits of the dentists and
hygienists who work at the Offices of the P.C.s.
11
This enables the Company to manage the profitability of the Offices. Each
Management Agreement is for a term of 40 years. Further, each Management
Agreement generally may be terminated by the P.C. only for cause, which includes
a material default by or bankruptcy of the Company. Upon expiration or
termination of a Management Agreement by either party, the P.C. must satisfy all
obligations it has to the Company.
The Company plans to continue to use the current form of its Management
Agreement to the extent possible. However, the terms of the Management Agreement
are subject to change to comply with existing or new regulatory requirements or
to enable the Company to compete more effectively.
Employment Agreements
Most dentists practicing at the Offices have entered into employment agreements
or independent contractor agreements with a P.C. The majority of such agreements
can be terminated by either party without cause with 90 days notice. The
employment agreement for one of the managing dentists who is also a shareholder
of a P.C. has a term of 20 years and can only be terminated by the employer P.C.
upon the occurrence of certain events. If the employment of the managing dentist
is terminated for any reason, the employer P.C. has the right to redeem the
shares of the P.C. operating the Office held by the managing dentist. Such
agreements typically contain non-competition provisions for a period of up to
three to five years following their termination within a specified geographic
area, usually a specified number of miles from the associated Office, and
restrict solicitation of patients and employees. Managing dentists receive
compensation based upon a specified amount per hour worked or a percentage of
revenue or collections attributable to their work, or a bonus based upon the
operating performance of the Office, whichever is greater. Associate dentists
are compensated based upon a specified amount per hour worked or a percentage of
revenue or collections attributable to their work, whichever is greater.
Specialists are compensated based upon a percentage of revenue or collections
attributable to their work. The P.C. with whom the dentist has entered into an
employment agreement pays the dentists' compensation and benefits.
Competition
The dental services industry is highly fragmented, consisting primarily of solo
and smaller group practices. The dental practice management segment of this
industry is highly competitive and is expected to become more competitive. In
this regard, the Company expects that the provision of multi-specialty dental
services at convenient locations will become increasingly more common. The
Company is aware of several dental practice management companies that are
operating in its markets, including Dental One, American Dental Partners, Inc.
and Dental Health Centers of America. Companies with dental practice management
businesses similar to that of the Company which currently operate in other parts
of the country, may begin targeting the Company's existing markets for
expansion. Such competitors may have greater financial resources or otherwise
enjoy competitive advantages, which may make it difficult for the Company to
compete against them or to acquire additional Offices on terms acceptable to the
Company.
The business of providing general and specialty dental services is highly
competitive in the markets in which the Company operates. The Company believes
it competes with other providers of dental and specialty services on the basis
of factors such as brand name recognition, convenience, cost and the quality and
range of services provided. Competition may include practitioners who have more
established practices and reputations. The Company also competes against
established practices in the retention and recruitment of general dentists,
specialists, hygienists and other personnel. If the availability of such
individuals begins to decline in the Company's markets, it may become more
difficult to attract and retain qualified personnel to sufficiently staff the
existing Offices or to meet the staffing needs of the Company's planned
expansion.
Government Regulation
The practice of dentistry is regulated at both the state and federal levels, and
the regulation of health care-related companies is increasing. There can be no
assurance that the regulatory environment in which the Company or the P.C.s
operate will not change significantly in the future. The laws and regulations of
all states in which the Company operates impact the Company's operations but do
not currently materially restrict the Company's operations in those states. In
addition, state and federal laws regulate health maintenance organizations and
other managed care organizations for which dentists may be providers. In
connection with its operations in existing markets and expansion into new
markets, the Company may become subject to additional laws, regulations and
interpretations or enforcement actions. The laws regulating health care are
broad and subject to varying interpretations, and there is currently a lack of
case law construing such statutes and regulations. The ability of the Company to
operate profitably will depend in part upon the ability of the Company and the
P.C.s to operate in compliance with applicable health care regulations.
12
State Regulation
The laws of many states, including Colorado and New Mexico, permit a dentist to
conduct a dental practice only as an individual, a member of a partnership or an
employee of a professional corporation, limited liability company or limited
liability partnership. These laws typically prohibit, either by specific
provision or as a matter of general policy, non-dental entities, such as the
Company, from practicing dentistry, from employing dentists and, in certain
circumstances, hygienists or dental assistants, or from otherwise exercising
control over the provision of dental services. Under the Management Agreements,
the P.C.s control all clinical aspects of the practice of dentistry and the
provision of dental services at the Offices, including the exercise of
independent professional judgment regarding the diagnosis or treatment of any
dental disease, disorder or physical condition. Persons to whom dental services
are provided at the Offices are patients of the P.C.s and not of the Company.
The Company does not employ the dentists who provide dental services at the
Offices nor does the Company have or exercise any control or direction over the
manner or methods in which dental services are performed or interfere in any way
with the exercise of professional judgment by the dentists.
Many states, including Colorado, limit the ability of a person other than a
licensed dentist, to own or control dental equipment or offices used in a dental
practice. Some states allow leasing of equipment and office space to a dental
practice, under a bona fide lease, if the equipment and office remain under the
control of the dentist. Some states, including Arizona and New Mexico, require
all advertisements to be in the name of the dentist. A number of states,
including Arizona, Colorado and New Mexico, also regulate the content of
advertisements of dental services. In addition, Colorado, New Mexico and
Arizona, and many other states impose limits on the tasks that may be delegated
by dentists to hygienists and dental assistants. Some states require entities
designated as "clinics" to be licensed, and may define clinics to include dental
practices that are owned or controlled in whole or in part by non-dentists.
These laws and their interpretations vary from state to state and are enforced
by the courts and by regulatory authorities with broad discretion.
Many states have fraud and abuse laws which are similar to the federal fraud and
abuse law described below, and which in many cases apply to referrals for items
or services reimbursable by any third-party payor, not just by Medicare and
Medicaid. A number of states, including Arizona, Colorado and New Mexico,
prohibit the submitting of false claims for dental services.
Many states, including Colorado and New Mexico, also prohibit "fee-splitting" by
dentists with any party except other dentists in the same professional
corporation or practice entity. In most cases, these laws have been construed to
apply to the practice of paying a portion of a fee to another person for
referring a patient or otherwise generating business, and not to prohibit
payment of reasonable compensation for facilities and services (other than the
generation of referrals), even if the payment is based on a percentage of the
practice's revenues.
In addition, many states have laws prohibiting paying or receiving any
remuneration, direct or indirect, that is intended to include referrals for
health care items or services, including dental items and services.
In addition, there are certain regulatory risks associated with the Company's
role in negotiating and administering managed care contracts. The application of
state insurance laws to third party payor arrangements, other than
fee-for-service arrangements, is an unsettled area of law with little guidance
available. As the P.C.s contract with third-party payors, on a capitation or
other basis under which the relevant P.C. assumes financial risk, the P.C.s may
become subject to state insurance laws. Specifically, in some states, regulators
may determine that the Company or the P.C.s are engaged in the business of
insurance, particularly if they contract on a financial-risk basis directly with
self-insured employers or other entities that are not licensed to engage in the
business of insurance. In Arizona, Colorado and New Mexico, the P.C.s currently
only contract on a financial-risk basis with entities that are licensed to
engage in the business of insurance and thus are not subject to the insurance
laws of those states. To the extent that the Company or the P.C.s are determined
to be engaged in the business of insurance, the Company may be required to
change the method of payment from third-party payors and the Company's revenue
may be materially and adversely affected.
Federal Regulation
Federal laws generally regulate reimbursement, billing and self referral
practices under Medicare and Medicaid programs. Because the P.C.s currently
receive no revenue under Medicare or Medicaid, the impact of these laws on the
Company to date has been negligible. There can be no assurance, however, that
the P.C.s will not have patients in the future covered by these laws, or that
the scope of these laws will not be expanded in the future, and if expanded,
such laws or interpretations thereunder could have a material adverse effect on
the Company's business, financial condition and operating results.
13
Federal regulations also allow state licensing boards to revoke or restrict a
dentist's license in the event such dentist defaults in the payment of a
government-guaranteed student loan, and further allow the Medicare program to
offset such overdue loan payments against Medicare income due to the defaulting
dentist's employer. The Company cannot assure compliance by dentists with the
payment terms of their student loans, if any.
Revenues of the P.C.s or the Company from all insurers, including governmental
insurers, are subject to significant regulation. Some payors limit the extent to
which dentists may assign their revenues from services rendered to
beneficiaries. Under these "reassignment" rules, the Company may not be able to
require dentists to assign their third-party payor revenues unless certain
conditions are met, such as acceptance by dentists of assignment of the payor
receivable from patients, reassignment to the Company of the sole right to
collect the receivables, and written documentation of the assignment. In
addition, governmental payment programs such as Medicare and Medicaid limit
reimbursement for services provided by dental assistants and other ancillary
personnel to those services which were provided "incident to" a dentist's
services. Under these "incident to" rules, the Company may not be able to
receive reimbursement for services provided by certain members of the Company's
Offices' staff unless certain conditions are met, such as requirements that
services must be of a type commonly furnished in a dentist's office and must be
rendered under the dentist's direct supervision and that clinical Office staff
must be employed by the dentist or the P.C. The Company does not currently
derive a significant portion of its revenue under such programs.
The operations of the Offices are also subject to compliance with regulations
promulgated by the Occupational Safety and Health Administration ("OSHA"),
relating to such matters as heat sterilization of dental instruments and the use
of barrier techniques such as masks, goggles and gloves. The Company incurs
expenses on an ongoing basis relating to OSHA monitoring and compliance.
Although the Company believes its operations as currently conducted are in
material compliance with existing applicable laws and regulations, there can be
no assurance that the Company's contractual arrangements will not be
successfully challenged as violating applicable laws and regulations or that the
enforceability of such arrangements will not be limited as a result of such laws
and regulations. In addition, there can be no assurance that the business
structure under which the Company operates, or the advertising strategy the
Company employs will not be deemed to constitute the unlicensed practice of
dentistry or the operation of an unlicensed clinic or health care facility. The
Company has not sought judicial or regulatory interpretations with respect to
the manner in which it conducts its business. There can be no assurance that a
review of the business of the Company and the P.C.s by courts or regulatory
authorities will not result in a determination that could materially and
adversely affect their operations or that the regulatory environment will not
change so as to restrict the Company's existing or future operations. In the
event that any legislative measures, regulatory provisions or rulings or
judicial decisions restrict or prohibit the Company from carrying on its
business or from expanding its operations to certain jurisdictions, structural
and organizational modifications of the Company's organization and arrangements
may be required which could have a material adverse effect on the Company, or
the Company may be required to cease operations.
Commencing April 14, 2003, health care providers, including the Company, are
required to comply with the electronic data security and privacy requirements of
the Health Insurance Portability and Accountability Act of 1996 ("HIPAA"). HIPAA
delegates enforcement authority to the Centers for Medicare Services Office for
Civil Rights. Noncompliance with HIPAA regulations can result in severe
penalties up to $250,000 in fines and up to ten years in prison. While the
Company is in full compliance with all requirements, it cannot presently predict
the ultimate impact of the HIPAA regulations on the Company and its business.
Insurance
The Company believes that its existing insurance coverage is adequate to protect
it from the risks associated with the ongoing operation of its business. This
coverage includes property and casualty, general liability, workers
compensation, director's and officer's corporate liability, employment practices
liability, corporate errors and omissions liability, excess liability and
professional liability insurance for dentists, hygienists and dental assistants
at the Offices.
Trademark
The Company is the registered owner of the PERFECT TEETH(R) trademark in the
United States.
14
Facilities and Employees
The Company's corporate headquarters are located at 3801 E. Florida Avenue,
Suite 508, Denver, Colorado, in approximately 9,500 square feet occupied under a
lease, which expires in January 2006. The Company believes that this space is
adequate for its current needs. The Company also leases real estate at the
location of each Office under leases ranging in term from one to 10 years. The
Company believes the facilities at each of its Offices are adequate for their
current level of business. The Company generally anticipates leasing and
developing new Offices in its current markets rather than significantly
expanding the size of its existing Offices.
As of December 31, 2002, the Company had 77 general dentists, 13 specialists and
60 affiliated hygienists that were employed by the P.C.s, and 341 non-dental
employees.
ITEM 3. LEGAL PROCEEDINGS.
From time to time the Company is subject to litigation incidental to its
business. Such claims, if successful, could result in damage awards exceeding,
perhaps substantially, applicable insurance coverage. The Company is not
presently a party to any material litigation.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
15
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The Company received notice from the Nasdaq Stock Market that the Company did
not comply with the requirements for continued listing on the Nasdaq National
Market System. In order to satisfy Nasdaq's listing requirements for the Nasdaq
SmallCap Market, effective February 26, 2001, the Company's Board of Directors
approved a one-for-four reverse stock split. The SmallCap Market's maintenance
standards, among other things, require the Company to have 1) at least 500,000
shares of Common Stock held by non-affiliates; 2) an aggregate market public
float of at least $1,000,000; 3) at least 300 shareholders who own 100 shares of
Common Stock or more; and 4) a minimum bid price of at least $1.00 per share.
All shares, share prices and earnings per share calculations for all periods
have been restated to reflect this reverse stock split.
The Common Stock is quoted on the Nasdaq SmallCap Market under the symbol
"BDMS". The following table sets forth, for the period indicated, the range of
high and low sales prices per share of Common Stock, as reported on The Nasdaq
National Market System up to February 26, 2001 and The Nasdaq SmallCap Market
thereafter:
HIGH LOW
---- ---
2001
----
First Quarter $ 3.25 $ 1.88
Second Quarter 2.20 1.94
Third Quarter 3.02 1.95
Fourth Quarter 4.91 2.60
2002
----
First Quarter $ 7.55 $ 4.33
Second Quarter 11.85 6.16
Third Quarter 11.50 8.11
Fourth Quarter 11.00 9.02
2003
----
First Quarter (January 1, 2003 through March 24, 2003) $ 14.25 $ 9.31
At March 24, 2003 the last reported sale price of the Company's Common Stock was
$12.25 per share. As of the same date, there were 1,354,137 shares of Common
Stock outstanding held by 70 holders of record and approximately 525 beneficial
owners.
The Company has not declared or paid dividends on its Common Stock since its
formation, and the Company does not anticipate paying dividends in the
foreseeable future. The Company's existing credit facility prohibits the payment
of cash dividends on the Common Stock without the lender's consent. Any future
credit facility, which the Company may obtain, is also likely to prohibit the
payment of dividends. Declaration or payment of dividends, if any, in the
future, will be at the discretion of the Board of Directors and will depend on
the Company's then current financial condition, results of operations, capital
requirements and other factors deemed relevant by the Board of Directors.
16
Equity Compensation Plan Information
The following table sets forth information concerning options, warrants and
rights outstanding and available for granting as of December 31, 2002:
(a) (b) (c)
Plan category Number of securities to be Weighted-average exercise Number of securities
issued upon exercise of price of outstanding remaining available for
outstanding options, options, warrants and future issuance under
warrants and rights rights equity compensation plans
(excluding securities
Equity compensation plans
approved by security holders 221,088 $7.64 217,876
Equity compensation plans
not approved by security holders 30,000 $5.06 0
Total 251,088 $7.33 217,876
Warrants issued are for a period of five years and vest 33% each year for three
years, provided however, that upon a sale of the Company, all Warrants shall
automatically become vested.
17
ITEM 6. SELECTED FINANCIAL DATA.
The following table sets forth selected consolidated financial and operating
data for the Company. The data for the years ended December 31, 2000, 2001, and
2002 should be read in conjunction with the Company's consolidated financial
statements included elsewhere in this document. The selected consolidated
financial data for the 1998 and 1999 periods are derived from the Company's
historical consolidated financial statements.
A one-for-four split of the Company's stock became effective as of February 26,
2001. As a result, all earnings per share data presented in the following table
has been restated to reflect this reverse stock split.
The data in the following table is in thousands except per share data, number of
offices and number of dentists:
Years Ended December 31,
1998 1999 2000 2001 2002
---- ---- ---- ---- ----
Statements of Operations Data: (1)
Net revenue $ 21,741 $ 28,553 $ 29,419 $ 29,249 $ 30,255
Direct expenses 17,287 24,425 25,475 25,158 25,105
Contribution from dental offices 4,454 4,128 3,944 4,091 5,150
Corporate expenses 3,182 4,038 3,747 3,270 3,304
Operating income 1,272 90 197 822 1,846
Income (loss) before income taxes 843 (389) (434) 371 1,501
Income tax (expense) benefit (128) 111 113 (121) (567)
Income (loss) before change in accounting 715 (278) (321) 250 934
principle
Cumulative effect of change in accounting (39) - - - -
principle
Net income (loss) 675 (278) (321) 250 934
Basic earnings per share of Common Stock:
Income (loss) before cumulative effect of change .46 (.18) (.21) .17 .63
in accounting principle
Cumulative effect of change in accounting (.03) - - - -
principle
Net income (loss)(2) .43 (.18) (.21) .17 .63
Diluted earnings per share of Common Stock:
Income (loss) before cumulative effect of change .44 (.18) (.21) .16 .58
in accounting principle
Cumulative effect of change in accounting (.02) - - - -
principle
Net income (loss)(2) .42 (.18) (.21) .16 .58
Balance Sheet Data (3):
Cash and cash equivalents $ 2,170 $ 807 $ 691 $ 949 $ 1,073
Working capital (deficit) 2,309 1,467 2,043 301 (1,541)
Total assets 25,543 27,949 26,333 24,762 24,230
Long-term debt, less current maturities 3,240 6,771 6,682 3,296 1,087
Total shareholders' equity 18,746 16,905 16,471 16,721 16,759
Dividends declared per share of Common Stock - - - - -
Operating Data:
Number of offices (3) 49 54 56 54 54
Number of dentists (3)(4) 73 90 91 86 90
Total net revenue per office $444 $529 $525 $542 $560
- ---------------------
(1) Acquisitions of Offices and development of de novo Offices affect the
comparability of the data. In 1998, the Company acquired an additional
10 Offices and opened five de novo Offices. In 1999, the Company
acquired one Office, opened five de novo Offices and consolidated two
existing Offices into one. In 2000, the Company opened two de novo
Offices. During 2001, the Company consolidated four existing Offices
into two.
(2) Computed on the basis described in Note 2 of Notes to Consolidated
Financial Statements of the Company.
(3) Data is as of the end of the respective periods presented.
(4) This represents the actual number of dentists employed by the P.C.s and
specialists who contract with the P.C.s to provide specialty dental
services.
18
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
General
The following discussion and analysis relates to factors, which have affected
the consolidated results of operations and financial condition of the Company
for the three years ended December 31, 2002. Reference should also be made to
the Company's consolidated financial statements and related notes thereto and
the Selected Financial Data included elsewhere in this document. This document
contains forward-looking statements. Discussions containing such forward-looking
statements may be found in the material set forth below and under Items 1 and 2.
"Business and Properties," Item 5., "Market for the Registrant's Common Equity
and Related Stockholder Matters" as well as in this document generally.
Prospective investors are cautioned that any such forward-looking statements are
not guarantees of future performance and involve risks and uncertainties. Actual
events or results may differ materially from those discussed in the
forward-looking statements as a result of various factors, including, without
limitation the risk factors set forth in this Item 7 under the heading "Risk
Factors."
Overview
The Company was formed in May 1995, and currently manages 54 Offices in
Colorado, New Mexico, and Arizona staffed by 77 dentists and 13 specialists. The
Company has acquired 42 practices (five of which were consolidated into existing
Offices) and opened 18 de novo Offices (one of which was consolidated into an
existing Office). Of the 42 acquired practices, only three (the first three
practices, which were acquired from the Company's President, Mark Birner,
D.D.S.) were acquired from affiliates of the Company. The Company derives all of
its Revenue (as defined below) from its Management Agreements with the P.C.s. In
addition, the Company assumes a number of responsibilities when it acquires a
new practice or develops a de novo Office, which are set forth in the Management
Agreement, as described below. The Company expects to expand in existing markets
primarily by enhancing the operating performance of its existing Offices and by
developing de novo Offices. The Company has historically expanded in existing
markets by acquiring solo and group dental practices and may do so in the future
if an economically feasible opportunity presents itself. Generally, the Company
seeks to acquire dental practices for which the Company believes application of
its Dental Practice Management Model will improve operating performance. See
Items 1 and 2. "Business and Properties - Operations - Dental Practice
Management Model."
The Company was formed with the intention of becoming the leading dental
practice management company in Colorado. The Company's success in the Colorado
market led to its expansion into New Mexico and Arizona. The Company commenced
operations in Colorado in October 1995 with the acquisition of three practices,
and acquired a fourth practice in November 1995. During 1996, the Company
developed five de novo Offices and acquired 12 practices (including three
practices which were consolidated with existing Offices). In 1997, the Company
developed one de novo Office and acquired 15 practices. In 1998, the Company
developed five de novo Offices and acquired 10 practices. In 1999, the Company
developed five de novo Offices, acquired one practice and consolidated two
practices into one. In 2000, the Company developed two de novo Offices and
purchased the remaining 50% interest in two existing Offices. In 2001, the
Company consolidated four existing Offices into two Offices and acquired the
remaining 50% interest in one existing Office. In 2002 the Company acquired the
remaining 50% interest in two existing Offices.
The combined purchase amounts for the four practices acquired in 1995, the 12
practices acquired in 1996, the 15 practices acquired in 1997, the 10 practices
acquired in 1998, and the practice acquired in 1999 were approximately $412,000,
$4.4 million, $5.3 million, $5.8 million and $760,000, respectively. The 17
remaining de novo Offices which were opened between January 1996 and October
2000 began generating positive contribution from dental offices, on average,
within eight months of opening. See Items 1 and 2. "Business and Properties -
Expansion Program."
The Company has grown primarily through the ongoing development of a dense
dental practice network and the implementation of its dental practice management
model. During the three years ended December 31, 2002, net revenue was $29.4
million in 2000, $29.2 million in 2001, and $30.3 million in 2002. During the
three years ended December 31, 2002, contribution from dental offices increased
from $3.9 million in 2000 to $4.1 million for 2001, and increased to $5.1
million for 2002. During the three years ended December 31, 2002, operating
income increased from $197,000 for 2000 to $822,000 in 2001 and to $1.8 million
in 2002.
19
At December 31, 2002, the Company's total assets of $24.2 million included $15.5
million of identifiable intangible assets related to Management Agreements. At
that date, the Company's total shareholders' equity was $16.8 million. The
Company reviews the recorded amount of intangible assets and other long-lived
assets for impairment for each Office whenever events or changes in
circumstances indicate the carrying amount of the assets may not be recoverable.
If this review indicates that the carrying amount of the assets may not be
recoverable as determined based on the undiscounted cash flows of each Office,
whether acquired or developed, the carrying value of the asset is reduced to
fair value. Among the factors that the Company will continually evaluate are
unfavorable changes in each Office, relative market share and local market
competitive environment, current period and forecasted operating results, cash
flow levels of Offices and the impact on the net revenue earned by the Company,
and the legal and regulatory factors governing the practice of dentistry. As of
December 31, 2002 a review by the Company determined that there was no permanent
impairment of any long-lived or intangible asset at any Office.
Components of Revenue and Expenses
Total dental group practice revenue ("Revenue") represents the revenue of the
Offices, reported at estimated realizable amounts, received from third-party
payors and patients for dental services rendered at the Offices. Net revenue
represents Revenue less amounts retained by the Offices. The amounts retained by
the Offices represent amounts paid as salary, benefits and other payments to
employed dentists and hygienists. The Company's net revenue is dependent on the
Revenue of the Offices. Management service fee revenue represents the net
revenue earned by the Company for the Offices for which the Company has
management agreements, but does not have control. Direct expenses consist of the
expenses incurred by the Company in connection with managing the Offices,
including salaries and benefits (for personnel other than dentists and
hygienists), dental supplies, dental laboratory fees, occupancy costs,
advertising and marketing, depreciation and amortization and general and
administrative (including office supplies, equipment leases, management
information systems and other expenses related to dental practice operations).
The Company also incurs personnel and administrative expenses in connection with
maintaining a corporate function that provides management, administrative,
marketing, development and professional services to the Offices.
Under each of the Management Agreements, the Company manages the business and
marketing aspects of the Offices, including (i) providing capital, (ii)
designing and implementing marketing programs, (iii) negotiating for the
purchase of supplies, (iv) staffing, (v) recruiting, (vi) training of non-dental
personnel, (vii) billing and collecting patient fees, (viii) arranging for
certain legal and accounting services, and (ix) negotiating with managed care
organizations. The P.C. is responsible for, among other things, (i) supervision
of all dentists and dental hygienists, (ii) complying with all laws, rules and
regulations relating to dentists and dental hygienists, and (iii) maintaining
proper patient records. The Company has made, and intends to make in the future,
loans to P.C.s in Colorado, New Mexico and Arizona to fund their acquisition of
dental assets from third parties in order to comply with the laws of such
states.
Under the typical Management Agreement used by the Company, the P.C. pays the
Company a management fee equal to the Adjusted Gross Center Revenue of the P.C.
less compensation paid to the dentists and dental hygienists employed at the
Office of the P.C. Adjusted Gross Center Revenue is comprised of all fees and
charges booked each month by or on behalf of the P.C. as a result of dental
services provided to patients at the Office, less any adjustments for
uncollectible accounts, professional courtesies and other activities that do not
generate a collectible fee. The Company's costs include all direct and indirect
costs, overhead and expenses relating to the Company's provision of management
services at the Office under the Management Agreement, including (i) salaries,
benefits and other direct costs of Company employees who work at the Office,
(ii) direct costs of all Company employees or consultants who provide services
to or in connection with the Office, (iii) utilities, janitorial, laboratory,
supplies, advertising and other expenses incurred by the Company in carrying out
its obligations under the Management Agreement, (iv) depreciation expense
associated with the P.C.'s assets and the assets of the Company used at the
Office, and the amortization of intangible asset value relating to the Office,
(v) interest expense on indebtedness incurred by the Company to finance any of
its obligations under the Management Agreement, (vi) general and malpractice
insurance expenses, lease expenses and dentist recruitment expenses, (vii)
personal property and other taxes assessed against the Company's or the P.C.'s
assets used in connection with the operation of the Office, (viii) out-of-pocket
expenses of the Company's personnel related to mergers or acquisitions involving
the P.C., (ix) corporate overhead charges or any other expenses of the Company
including the P.C.'s pro rata share of the expenses of the accounting and
computer services provided by the Company, and (x) a collection reserve in the
amount of 5.0% of Adjusted Gross Center Revenue. As a result, substantially all
costs associated with the provision of dental services at the Office are borne
by the Company, other than the compensation and benefits of the dentists and
hygienists who work at the Offices of the P.C.s. This enables the Company to
manage the profitability of the Offices. Each Management Agreement is for a term
of 40 years. Further, each Management Agreement generally may be terminated by
the P.C. only for cause, which includes a material default by or bankruptcy of
the Company. Upon expiration or termination of a Management Agreement by either
party, the P.C. must satisfy all obligations it has to the Company.
20
The Company's revenue is derived principally from fee-for-service revenue and
revenue from capitated managed dental care plans. Fee-for-service revenue
consists of P.C. revenue received from indemnity dental plans, preferred
provider plans and direct payments by patients not covered by any third-party
payment arrangement. Managed dental care revenue consists of P.C. revenue
received from capitated managed dental care plans, including capitation payments
and patient co-payments. Capitated managed dental care contracts are between
dental benefits organizations and the P.C.s. Under the Management Agreements,
the Company negotiates and administers these contracts on behalf of the P.C.s.
Under a capitated managed dental care contract, the dental group practice
provides dental services to the members of the dental benefits organization and
receives a fixed monthly capitation payment for each plan member covered for a
specific schedule of services regardless of the quantity or cost of services to
the participating dental group practice obligated to provide them. This
arrangement shifts the risk of utilization of these services to the dental group
practice providing the dental services. Because the Company assumes
responsibility under the Management Agreements for all aspects of the operation
of the dental practices (other than the practice of dentistry) and thus bears
all costs of the P.C.s associated with the provision of dental services at the
Office (other than compensation and benefits of dentists and hygienists), the
risk of over-utilization of dental services at the Office under capitated
managed dental care plans is effectively shifted to the Company. In addition,
dental group practices participating in a capitated managed dental care plan
often receive supplemental payments for more complicated or elective procedures.
In contrast, under traditional indemnity insurance arrangements, the insurance
company pays whatever reasonable charges are billed by the dental group practice
for the dental services provided. See Items 1 and 2. "Business and Properties -
Payor Mix."
The Company seeks to increase its fee-for-service business by increasing the
patient volume of existing Offices through effective marketing and advertising
programs and by opening new Offices. The Company seeks to supplement this
fee-for-service business with Revenue from contracts with capitated managed
dental care plans. Although the Company's fee-for-service business generally
provides a greater margin than its capitated managed dental care business,
capitated managed dental care business serves to increase facility utilization
and dentist productivity. The relative percentage of the Company's Revenue
derived from fee-for-service business and capitated managed dental care
contracts varies from market to market depending on the availability of
capitated managed dental care contracts in any particular market and the
Company's ability to negotiate favorable contractual terms. In addition, the
profitability of managed dental care Revenue varies from market to market
depending on the level of capitation payments and co-payments in proportion to
the level of benefits required to be provided.
Results of Operations
As a result of the shift in focus from expansion of the Company's business
through acquisitions and the development of de novo Offices to the greater
utilization of existing physical capacity through the recruitment of additional
dentists and staff, the Company believes that the period-to-period comparisons
set forth below may not be representative of future operating results.
For the year ended December 31, 2002, Revenue increased to $42.7 million
compared to $41.4 million for the year ended December 31, 2001, an increase of
$1.3 million or 3.1%. This was attributable to higher revenues generated in the
54 Offices in existence during both full periods.
For the year ended December 31, 2001, Revenue increased to $41.4 million
compared to $41.2 million for the year ended December 31, 2000, an increase of
$200,000 or 0.4%. An increase in Revenue of $454,000 was attributable to the two
de novo Offices that were opened during 2000, which was partially offset by a
decrease in Revenue of $300,000 at the 52 Offices in existence during both full
periods.
The Company has successfully reduced the percentage of its business which comes
from capitated managed dental care plans from 51.4% of Revenue in 1998 to 27.5%
of Revenue in 2002, and replaced that capitated revenue stream with higher
margin fee-for-service business. This higher margin fee-for-service revenue has
predominately been business derived from preferred provider plans.
21
The following table sets forth the percentages of Net Revenue represented by
certain items reflected in the Company's Consolidated Statements of Operations.
The information contained in the table represents the historical results of the
Company. The information that follows should be read in conjunction with the
Company's consolidated financial statements and related notes thereto.
Years Ended December 31,
-------------------------------------------------------------------
2000 2001 2002
------------------ ----------------- ----------------
Net revenue 100.0 % 100.0 % 100.0 %
Direct expenses:
Clinical salaries and benefits 40.9 40.4 38.3
Dental supplies 6.4 6.0 5.9
Laboratory fees 8.9 8.4 7.8
Occupancy 11.0 11.2 11.3
Advertising and marketing 1.1 1.1 1.2
Depreciation and amortization 8.2 8.4 7.9
General and administrative
10.1 10.5 10.6
------------------ ----------------- ----------------
86.6 86.0 83.0
------------------ ----------------- ----------------
Contribution from dental offices 13.4 14.0 17.0
Corporate expenses:
General and administrative 11.6 10.1 9.8
Depreciation and amortization 1.1 1.1 1.1
------------------ ----------------- ----------------
Operating income 0.7 2.8 6.1
Interest expense, net (2.2) (1.5) (1.1)
------------------ ----------------- ----------------
Income (loss) before income taxes (1.5) 1.3 5.0
Income tax (expense) benefit 0.4 (0.4) (1.9)
Net income (loss) (1.1)% 0.9 % 3.1 %
================== ================= ================
Year Ended December 31, 2002 Compared to Year Ended December 31, 2001
Net revenue. Net revenue increased from $29.2 million for the year ended
December 31, 2001 to $30.3 million for the year ended December 31, 2002, an
increase of $1.0 million or 3.4%. The increase in net revenue was attributable
to the 54 practices in existence during both full periods.
Clinical salaries and benefits. Clinical salaries and benefits decreased from
$11.8 million for the year ended December 31, 2001 to $11.6 million for the year
ended December 31, 2002, a decrease of $205,000 or 1.7%. This decrease was due
primarily to attrition of support staff at the Offices that began in the second
quarter of 2001 and continued into the third quarter of 2002 as well as a wage
freeze that was implemented during 2001 and continued through 2002. As a
percentage of net revenue, clinical salaries and benefits decreased from 40.4%
in 2001 to 38.3% in 2002.
Dental supplies. Dental supplies remained constant at $1.8 million for the years
ended December 31, 2001 and December 31, 2002. As a percentage of net revenue,
dental supplies decreased from 6.0% in D2001 to 5.9% in 2002.
Laboratory fees. Laboratory fees decreased from $2.5 million for the year ended
December 31, 2001 to $2.4 million for the year ended December 31, 2002, a
decrease of $104,000 or 4.2%. This decrease was primarily due to the Company's
efforts to consolidate the use of dental laboratories so that improved pricing
could be obtained based upon the Company's laboratory case volume. As a
percentage of net revenue, laboratory fees decreased from 8.4% in 2001 to 7.8%
in 2002.
Occupancy. Occupancy increased from $3.3 million for the year ended December 31,
2001 to $3.4 million for the year ended December 31, 2002, an increase of
$127,000 or 3.9%. This increase was due to increased rental payments resulting
from the renewal of Office leases at current market rates for Offices whose
leases expired subsequent to the 2001 period. As a percentage of net revenue,
occupancy expense increased from 11.2% in 2001 to 11.3% in 2002.
Advertising and marketing. Advertising and marketing increased from $315,000 for
the year ended December 31, 2001 to $353,000 for the year ended December 31,
2002, an increase of $38,000 or 12.0%. This increase was primarily due to
additional yellow page advertising in local directories. As a percentage of net
revenue, advertising and marketing increased from 1.1% in 2001 to 1.2% in 2002.
22
Depreciation and amortization. Depreciation and amortization, which consists of
depreciation and amortization expense incurred at the Offices, decreased from
$2.5 million for the year ended December 31, 2001 to $2.4 million for the year
ended December 31, 2002, a decrease of $73,000 or 3.0%. This decrease is related
to the decrease in the Company's depreciable and amortizable asset base. As a
percentage of net revenue, depreciation and amortization decreased from 8.4% in
2001 to 7.9% in 2002.
General and administrative. General and administrative costs which are
attributable to the Offices, increased from $3.1 million for the year ended
December 31, 2001 to $3.2 million for the year ended December 31, 2002, an
increase of $132,000 or 4.3%. This increase was the result of higher expenses
for office supplies and computer supplies, which includes the cost of the data
network between the individual Offices and the Corporate Office. As a percentage
of net revenue, general and administrative expenses increased from 10.5% in 2001
to 10.6% in 2002.
Contribution from dental offices. As a result of the above, contribution from
dental offices increased from $4.1 million for the year ended December 31, 2001
to $5.1 million for the year ended December 31, 2002, an increase of $1.1
million or 25.9%. As a percentage of net revenue, contribution from dental
offices increased from 14.0% in 2001 to 17.0% in 2002.
Corporate expenses - general and administrative. Corporate expenses - general
and administrative increased from $2.9 million for the year ended December 31,
2001 to $3.0 million for the year ended December 31, 2002, an increase of
$29,000 or 1.0%. As a percentage of net revenue, corporate expense - general and
administrative decreased from 10.1% in 2001 to 9.8% in 2002.
Corporate expenses - depreciation and amortization. Corporate expenses -
depreciation and amortization increased from $322,000 for the year ended
December 31, 2001 to $327,000 for the year ended December 31, 2002, an increase
of $5,000 or 1.6%. This increase was a result of higher depreciation expense as
a result of the development of computer software relating to the implementation
of the Perfect Teeth Dental Plan which began in 2001. As a percentage of net
revenue, corporate expenses - depreciation and amortization remained constant at
1.1% from 2001 to 2002.
Operating income. As a result of the above, operating income increased from
$822,000 for the year ended December 31, 2001 to $1.8 million for the year ended
December 31, 2002, an increase of $1.0 million or 124.6%. As a percentage of net
revenue, operating income increased from 2.8% in 2001 to 6.1% in 2002.
Interest expense, net. Interest expense, net decreased from $451,000 for the
year ended December 31, 2001 to $345,000 for the year ended December 31, 2002, a
decrease of $106,000 or 23.5%. This decrease was primarily the result of a lower
average interest rate and a lower average outstanding debt balance during 2002.
As a percentage of net revenue, interest expense, net decreased from 1.5% in
2001 to 1.1% in 2002.
Net income. As a result of the above, the Company reported net income of
$934,000 for the year ended December 31, 2002 compared to net income of $250,000
for the year ended December 31, 2001, an increase of $684,000 or 273.6%. As a
percentage of net revenue, net income increased from 0.9% in 2001 to 3.1% in
2002. Net income for the year ended December 31, 2002 was net of income tax
expense of $567,000 while net income for the year ended December 31, 2001 was
net of income tax expense of $121,000.
Year Ended December 31, 2001 Compared to Year Ended December 31, 2000
Net revenue. Net revenue decreased from $29.4 million for the year ended
December 31, 2000 to $29.2 million for the year ended December 31, 2001, a
decrease of $169,000 or 0.6%. A decrease in net revenue of $451,000 was
attributable to the 52 practices in existence during both full periods, of which
$282,000 was offset by an increase in net revenue attributable to two de novo
offices that were opened during the 2000 fiscal year.
Clinical salaries and benefits. Clinical salaries and benefits decreased from
$12.0 million for the year ended December 31, 2000 to $11.8 million for the year
ended December 31, 2001, a decrease of $217,000 or 1.8%. This decrease was due
primarily to attrition of support staff at the Offices who were not replaced and
also because of a wage freeze that was implemented during 2001. As a percentage
of net revenue, clinical salaries and benefits decreased from 40.9% in 2000 to
40.4% in 2001.
Dental supplies. Dental supplies decreased from $1.9 million for the year ended
December 31, 2000 to $1.8 million for the year ended December 31, 2001, a
decrease of $115,000 or 6.2%. This decrease was primarily due to fewer de novo
Office starts that require additional expenses to establish a start-up
inventory. As a percentage of net revenue, dental supplies decreased from 6.4%
in 2000 to 6.0% in 2001.
23
Laboratory fees. Laboratory fees decreased from $2.6 million for the year ended
December 31, 2000 to $2.5 million for the year ended December 31, 2001, a
decrease of $164,000 or 6.2%. This decrease was primarily due to the Company's
efforts to consolidate the use of dental laboratories so that improved pricing
could be obtained based upon the Company's laboratory case volume. As a
percentage of net revenue, laboratory fees decreased from 8.9% in 2000 to 8.4%
in 2001.
Occupancy. Occupancy increased from $3.2 million for the year ended December 31,
2000 to $3.3 million for the year ended December 31, 2001, an increase of
$39,000 or 1.2%. This increase was due to certain Offices which were only open
for part of the year ended December 31, 2000 and a full year in 2001 as well as
increased rental payments resulting from the renewal of Office leases at current
market rates for Offices whose leases expired subsequent to the 2000 period.
This was partially offset by lower costs associated with the consolidation of
four offices into two during 2001. As a percentage of net revenue, occupancy
expense increased from 11.0% in 2000 to 11.2% in 2001.
Advertising and marketing. Advertising and marketing decreased from $328,000 for
the year ended December 31, 2000 to $315,000 for the year ended December 31,
2001, a decrease of $13,000 or 4.0%. This decrease was primarily due to the fact
that no new Offices were opened in 2001 as compared to the opening of two new
Offices in 2000 and the corresponding savings of the initial expense of
promoting new Offices. As a percentage of net revenue, advertising and marketing
remained constant at 1.1% for both 2000 and 2001.
Depreciation and amortization. Depreciation and amortization, which consists of
depreciation and amortization expense incurred at the Offices, increased from
$2.4 million for the year ended December 31, 2000 to $2.5 million for the year
ended December 31, 2001, an increase of $53,000 or 2.2%. This increase is
related to the increase in the Company's depreciable and amortizable asset base.
As a percentage of net revenue, depreciation and amortization increased from
8.2% in 2000 to 8.4% in 2001.
General and administrative. General and administrative costs which are
attributable to the Offices, increased from $3.0 million for the year ended
December 31, 2000 to $3.1 million for the year ended December 31, 2001, an
increase of $99,000 or 3.4%. This increase was primarily due to certain Offices
which were only open for part of the year ended December 31, 2000 and a full
year in 2001. As a percentage of net revenue, general and administrative
expenses increased from 10.1% in 2000 to 10.5% in 2001.
Contribution from dental offices. As a result of the above, contribution from
dental offices increased from $3.9 million for the year ended December 31, 2000
to $4.1 million for the year ended December 31, 2001, an increase of $148,000 or
3.8%. As a percentage of net revenue, contribution from dental offices increased
from 13.4% in 2000 to 14.0% in 2001.
Corporate expenses - general and administrative. Corporate expenses - general
and administrative decreased from $3.4 million for the year ended December 31,
2000 to $2.9 million for the year ended December 31, 2001, a decrease of
$467,000 or 13.7%. This decrease is attributable to a management initiative in
the second quarter of 2001 to lower corporate expenses through a reduction in
personnel and other cost cutting measures. As a percentage of net revenue,
corporate expense - general and administrative decreased from 11.6% in 2000 to
10.1% in 2001.
Corporate expenses - depreciation and amortization. Corporate expenses -
depreciation and amortization decreased from $332,000 for the year ended
December 31, 2000 to $322,000 for the year ended December 31, 2001, a decrease
of $10,000 or 3.0%. This decrease was a result of the Company's efforts to
control capital expenditures and the fact that some corporate assets have become
fully depreciated. As a percentage of net revenue, corporate expenses -
depreciation and amortization remained constant at 1.1% from 2000 to 2001.
Operating income. As a result of the above, operating income increased from
$197,000 for the year ended December 31, 2000 to $822,000 for the year ended
December 31, 2001, an increase of $625,000 or 317.8%. As a percentage of net
revenue, operating income increased from 0.7% in 2000 to 2.8% in 2001.
Interest expense, net. Interest expense, net decreased from $630,000 for the
year ended December 31, 2000 to $451,000 for the year ended December 31, 2001, a
decrease of $180,000 or 28.5%. This decrease was primarily the result of a lower
average interest rate and a lower average outstanding debt balance during 2001.
As a percentage of net revenue, interest expense, net decreased from 2.2% in
2000 to 1.5% in 2001.
Net income (loss). As a result of the above, the Company reported net income of
$250,000 for the year ended December 31, 2001 compared to a net loss of
$(321,000) for the year ended December 31, 2000. Net income for the year ended
December 31, 2001 was net of income tax expense of $121,000 while the net loss
for the year ended December 31, 2000 included an income tax benefit of $113,000.
24
Critical Accounting Policies
The Company's financial statements have been prepared in accordance with
accounting principles generally accepted in the United States, which require the
Company to make estimates and judgments that affect the reported amounts of
assets, liabilities, revenues and expenses, and the related disclosures. A
summary of those significant accounting policies can be found in the Company's
Notes to Consolidated Financial Statements. The estimates used by management are
based upon the Company's historical experiences combined with management's
understanding of current facts and circumstances. Certain of the Company's
accounting policies are considered critical as they are both important to the
portrayal of the Company's financial condition and the results of its operations
and require significant or complex judgments on the part of management.
Management has not determined how reported amounts would differ based on the
application of different accounting policies. Management has also not determined
the likelihood that materially different amounts could be reported under
different conditions or using different assumptions. Management believes that
the following represent the critical accounting policies of the Company as
described in Financial Reporting Release No. 60, "Cautionary Advice Regarding
Disclosure About Critical Accounting Policies", which was issued by the
Securities and Exchange Commission: Impairment of intangible and long-lived
assets, allowance for doubtful accounts and deferred income taxes.
The Company's dental practice acquisitions involve the purchase of tangible and
intangible assets and the assumption of certain liabilities of the acquired
Offices. As part of the purchase price allocation, the Company allocates the
purchase price to the tangible and identifiable intangible assets acquired and
liabilities assumed, based on estimated fair market values. Costs of acquisition
in excess of the net estimated fair value of tangible and identifiable
intangible assets acquired and liabilities assumed are allocated to the
Management Agreement. The Management Agreement represents the Company's right to
manage the Offices during the 40-year term of the agreement. The assigned value
of the Management Agreement is amortized using the straight-line method over a
period of 25 years. In the event that facts and circumstances indicate that the
carrying value of long-lived and intangible assets may be impaired, an
evaluation of recoverability would be performed. If this evaluation indicates
that the carrying amount of the assets may not be recoverable as determined
based on the undiscounted cash flows of each Office, whether acquired or
developed, the carrying value of the asset is reduced to fair value. Among the
factors that the Company will continually evaluate are unfavorable changes in
each Office, relative market share and local market competitive environment,
current period and forecasted operating results, cash flow levels of Offices and
the impact on the net revenue earned by the Company, and the legal and
regulatory factors governing the practice of dentistry.
The Company's allowance for doubtful accounts reflects a reserve that reduces
customer accounts receivable to the net amount estimated to be collectible.
Estimating the credit worthiness of customers and the recoverability of customer
accounts requires management to exercise considerable judgment. In estimating
uncollectible amounts, management considers factors such as general economic and
industry-specific conditions, historical customer performance and anticipated
customer performance. While management considers the Company's processes to be
adequate to effectively quantify its exposure to doubtful accounts, changes in
economic, industry or specific customer conditions may require the Company to
adjust its allowance for doubtful accounts.
Deferred income taxes are recognized for the expected tax consequences in future
years for differences between the tax bases of assets and liabilities and their
financial reporting amounts, based upon enacted tax laws and statutory tax rates
applicable to the periods in which the differences are expected to affect
taxable income. The Company's significant deferred tax assets are related to:
Accruals not currently deductible, allowance for doubtful accounts, AMT tax
credit carry-forward, tax benefit of stock options exercised and depreciation
expense for tax which is less than depreciation expense for books. The Company
has not established a valuation allowance to reduce deferred tax assets as the
Company expects to fully recover these amounts in future periods. The Company's
significant deferred tax liability is the result of intangible asset
amortization expense for tax being greater than the intangible asset
amortization expense for books. Management reviews and adjusts those estimates
annually based upon the most current information available. However, because the
recoverability of deferred taxes are directly dependent upon the future
operating results of the Company, actual recoverability of deferred taxes may
differ materially from management's estimates.
Liquidity and Capital Resources
Since its inception, the Company has financed its growth through a combination
of private sales of convertible subordinated debentures and Common Stock, cash
provided by operating activities, a bank line of credit (the "Credit Facility"),
seller notes and the initial public offering of Common Stock.
Net cash provided by operating activities was $1.7 million, $4.0 million, and
$5.0 million for the years ended December 31, 2000, 2001 and 2002, respectively.
During the year ended December 31, 2002, excluding net income and after adding
back non-cash items, the Company's cash provided by operating activities
consisted primarily of an increase in accounts payable and accrued expenses of
approximately $738,000 and a decrease in accounts receivable of approximately
25
$367,000. During the year ended December 31, 2001, excluding net income and
after adding back non-cash items, the Company's cash provided by operating
activities consisted primarily of a decrease in accounts receivable of
approximately $784,000, an increase in accounts payable and accrued expenses of
approximately $294,000 offset, in part, by an increase in prepaid expenses of
approximately $289,000. During the year ended December 31, 2000 after adding
back depreciation and amortization and other non-cash expenses, the Company's
cash used in operating activities consisted primarily of a reduction in accounts
payable and accrued expenses of approximately $705,000 offset, in part, by a
decrease in prepaid expenses of approximately $122,000.
Net cash used in investing activities was $1.5 million, $1.1 million, and $1.4
million for the years ended December 31, 2000, 2001 and 2002, respectively.
During the year ended December 31, 2002, $514,000 was invested in the purchase
of additional property and equipment and $1.2 million was used for acquiring the
remaining 50% interest in two existing Offices. This was partially offset by the
repayment of $284,000 in notes receivable from related parties. During the year
ended December 31, 2001, $547,000 was invested in the purchase of additional
property and equipment and $435,000 was used for acquiring the remaining 50%
interest in one existing Office. During the year ended December 31, 2000, $1.1
million was invested in the purchase of additional property and equipment
(including $428,000 for two de novo Offices) and $197,000 for acquiring the
remaining 50% interest in two existing Offices.
For the years ended December 31, 2000, 2001 and 2002 net cash used in financing
activities was $401,000, $2.7 million and $3.4 million, respectively. For the
year ended December 31, 2002, net cash used in financing activities was
comprised of $2.1 million for the pay-down on the bank term-loan, $168,000 for
the pay-down on the Company's line of credit, $312,000 for the repayment of
long-term debt and $1.2 million for the purchase and retirement of common stock.
This was partially offset by $111,000 of proceeds from the exercise of Common
Stock options and $95,000 from the tax benefit of Common Stock options
exercised. For the year ended December 31, 2001, net cash used in financing
activities was comprised of $2.4 million for the pay-down on the Company's line
of credit, $203,000 for the repayment of long-term debt and $67,000 for the
payment of financing costs. For the year ended December 31, 2000, net cash used
in financing activities was comprised of $195,000 for the repayment of long-term
debt, $113,000 for the purchase and retirement of Common Stock and $93,000 for
the pay-down on the Company's line of credit.
Under the Company's Credit Facility (as amended on September 9, 2002), the
Company may borrow on a revolving basis up to the lesser of an applicable
Borrowing Base (calculated in accordance with the most recent Borrowing Base
Certificate delivered to the Lender) or $2.0 million and on a non-revolving
basis, an aggregate principal amount not in excess of $4.0 million for working
capital, restructuring of the Original Loan and for other general corporate
purposes. Balances bear interest at the lender's prime rate. The Company is also
obligated to pay an annual facility fee of .50% on the average unused amount of
the revolving line of credit during the previous full calendar month. Borrowings
are limited to an availability formula based on the Company's eligible accounts
receivable. As amended, both the revolving loan and the non-revolving note
mature on April 30, 2003. At December 31, 2002, the Company had no borrowings
outstanding and approximately $2.0 million available for borrowing under the
revolving line of credit and $1.825 million outstanding under the non-revolving
loan. The Credit Facility is secured by a lien on the Company's accounts
receivable and its Management Agreements. The Credit Facility prohibits the
payment of dividends and other distributions to shareholders, restricts or
prohibits the Company from incurring indebtedness, incurring liens, disposing of
assets, making investments or making acquisitions, and requires the Company to
maintain certain financial ratios on an ongoing basis. At December 31, 2002 the
Company was in full compliance with all of its covenants under this agreement.
As of December 31, 2002, the Company had approximately $1.4 million in notes
payable issued in connection with various Office acquisitions, which bear
interest at 8.0%. At December 31, 2002, the Company's had no material
commitments for capital expenditures. The Company's retained earnings as of
December 31, 2002 were approximately $799,000 and the Company had a working
capital deficit on that date of approximately $1.5 million, which was in part
the result of the classification of the entire amount outstanding under the
non-revolving loan as a short-term liability. The Company believes the
non-revolving loan will be extended beyond its current maturity date. The
Company's earnings before interest, taxes, depreciation and amortization
("EBITDA") increased 26.5% to $4.6 million for the twelve months ended December
31, 2002 compared to $3.6 million for the same twelve-month period in 2001.
During the 2002 fiscal year, the Company reduced total bank debt outstanding by
$2.2 million to $1.8 million as of December 31, 2002.
The Company believes that cash generated from operations will be sufficient to
fund its anticipated working capital needs and capital expenditures for at least
the next 12 months, even in the event the Company is not able to successfully
negotiate a new Line of Credit at the end of its term. The Company believes,
however, that it will be able to renew the Line of Credit with its current
lender or a different lender with the same or better terms than currently exist.
In addition, in order to meet its long-term liquidity needs the Company may need
to issue additional equity and debt securities, subject to market and other
conditions. There can be no assurance that such additional financing will be
available on terms acceptable to the Company. The failure to raise the funds
necessary to finance its future cash requirements could adversely affect the
Company's ability to pursue its strategy and could negatively affect its
operations in future periods. See "Risk Factors - Need for Additional Capital;
Uncertainty of Additional Financing" in this Item 7.
26
On September 5, 2000, the Company's Board of Directors unanimously approved the
purchase of shares of the Company's Common Stock on the open market, total value
not to exceed $150,000. On May 8, 2002 the Company's Board of Directors
unanimously approved the purchase of shares of the Company's Common Stock on the
open market up to $1.0 million. On October 24, 2002 the Company's Board of
Directors unanimously approved an incremental increase of $500,000 in the amount
that could be used to purchase shares of the Company's Common Stock on the open
market to $1.5 million. During 2000, the Company, in 18 separate transactions,
purchased 26,282 shares of its Common Stock for total consideration of
approximately $113,000 at prices ranging from $3.80 to $6.68 per share. During
2002, the Company, in 93 separate transactions, purchased 117,236 shares of its
Common Stock for total consideration of approximately $1.2 million at prices
ranging from $7.35 to $11.25 per share, of which approximately $60,000 was
recorded as compensation expense in accordance with Financial Accounting
Standards Board Interpretation Number 44.
Recent Accounting Pronouncements
In June 2001, the FASB approved for issuance SFAS 143, Asset Retirement
Obligations. SFAS 143 establishes accounting requirements for retirement
obligations associated with tangible long-lived assets, including (1) the timing
of the liability recognition, (2) initial measurement of the liability, (3)
allocation of asset retirement cost to expense, (4) subsequent measurement of
the liability and (5) financial statement disclosures. SFAS 143 requires that an
asset retirement cost should be capitalized as part of the cost of the related
long-lived asset and subsequently allocated to expense using a systematic and
rational method. The statement is effective for the financial statements issued
for fiscal years beginning after June 15, 2002. The Company does not believe
that the adoption of this statement will have a material effect on its financial
position, results of operations, or cash flows.
In April 2002, the FASB approved for issuance Statements of Financial Accounting
Standards No. 145, "Rescission of FASB Statements No. 4, 44 and 64, Amendment of
SFAS 13, and Technical Corrections" ("SFAS 145"). SFAS 145 rescinds previous
accounting guidance, which required all gains and losses from extinguishment of
debt be classified as an extraordinary item. Under SFAS 145 classification of
debt extinguishment depends on the facts and circumstances of the transaction.
SFAS 145 is effective for fiscal years beginning after May 15, 2002 and adoption
is not expected to have a material effect on the Company's financial position or
results of its operations.
In July 2002, the FASB issued Statements of Financial Accounting Standards No.
146, "Accounting for Costs Associated with Exit or Disposal Activities" (SFAS
146). SFAS 146 requires companies to recognize costs associated with exit or
disposal activities when they are incurred rather than at the date of a
commitment to an exit or disposal plan. Examples of costs covered by SFAS 146
include lease termination costs and certain employee severance costs that are
associated with a restructuring, discontinued operation, plant closing, or other
exit or disposal activity. SFAS 146 is to be applied prospectively to exit or
disposal activities initiated after December 31, 2002. The adoption of SFAS 146
is not expected to have a material effect on the Company's financial position or
results of its operations.
In August 2002, the FASB issued Statements of Financial Accounting Standards No.
147, "Acquisitions of Certain Financial Institutions" (SFAS 147). SFAS 147
requires financial institutions to follow the guidance in SFAS 141 and SFAS 142
for business combinations and goodwill and intangible assets, as opposed to the
previously applied accounting literature. This statement also amends SFAS 144 to
include in its scope long-term customer relationship intangible assets of
financial institutions. The provisions of SFAS 147 do not apply to the Company.
In December 2002, the FASB issued Statements of Financial Accounting Standards
No.148, "Accounting for Stock-Based compensation - Transition and Disclosure -
an amendment of FASB Statement 123" (SFAS 123). For entities that change their
accounting for stock-based compensation from the intrinsic method to the fair
value method under SFAS 123, the fair value method is to be applied
prospectively to those awards granted after the beginning of the period of
adoption (the prospective method). The amendment permits two additional
transition methods for adoption of the fair value method. In addition to the
prospective method, the entity can choose to either (i) restate all periods
presented (retroactive restatement method) or (ii) recognize compensation cost
from the beginning of the fiscal year of adoption as if the fair value method
had been used to account for awards (modified prospective method). For fiscal
years beginning December 15, 2003, the prospective method will no longer be
allowed. The Company currently accounts for its stock-based compensation using
the intrinsic value method as proscribed by Accounting Principles Board Opinion
No. 25, "Accounting for Stock Issued to Employees" and plans on continuing using
this method to account for stock options, therefore, it does not intend to adopt
the transition requirements as specified in SFAS 148. The Company will adopt the
new SFAS 148 disclosure requirements in the first quarter of fiscal 2003.
27
Risk Factors
This Annual Report contains forward-looking statements. Discussions containing
such forward-looking statements may be found in the material set forth in this
Item 7. "Management's Discussion and Analysis of Financial Condition and Results
of Operations," Items 1 and 2. "Business and Properties" and Item 5. "Market for
the Registrant's Common Equity and Related Stockholder Matters," as well as in
this Annual Report generally. Investors are cautioned that any such
forward-looking statements are not guarantees of future performance and involve
risks and uncertainties. Actual events or results may differ materially from
those discussed in the forward-looking statements as a result of various
factors, including, without limitation, the risk factors set forth below and the
matters set forth in this Annual Report generally.
Demands on Management from Growth. The Company has been providing dental
practice management services since October 1995. Prior to April 1997, the
Company provided dental practice management services exclusively in Colorado.
The Company's growth has placed, and will continue to place, strains on the
Company's management, operations and systems. The growth has required the hiring
and training of additional employees to oversee the operations and training of
non-dental employees in the new Offices, the use of management resources to
integrate the operations of the new Offices with the operations of the Company,
and the incurring of incremental costs to convert to or install the Company's
management information system. The Company's ability to compete effectively will
depend upon its ability to hire, train and assimilate additional management and
other employees, and its ability to expand, improve and effectively utilize its
operating, management, marketing and financial systems to accommodate its
expanded operations. Any failure by the Company's management to effectively
anticipate, implement and manage the changes required to sustain the Company's
growth may have a material adverse effect on the Company's business, financial
condition and operating results. See Items 1 and 2. "Business and Properties -
Expansion Program."
Dependence Upon Availability of Dentists and Other Personnel. The Company
believes that the profitability and operations of its Offices and its expansion
strategy are dependent on the availability and successful recruitment and
retention of dentists, dental assistants, hygienists, specialists and other
personnel. The Company may not be able to recruit or retain dentists and other
personnel for its existing and newly established Offices, which may have a
material adverse effect on the Company's expansion strategy and its business,
financial condition and operating results. See Items 1 and 2. "Business and
Properties - Operations - Dental Practice Model."
Dependence on Management Agreements, the P.C.s and Affiliated Dentists. The
Company receives management fees for services provided to the P.C.s under
Management Agreements. The Company owns most of the non-dental operating assets
of the Offices but does not employ or contract with dentists, employ hygienists
or control the provision of dental care. The Company's revenue is dependent on
the revenue generated by the P.C.s. Therefore, effective and continued
performance of dentists providing services for the P.C.s is essential to the
Company's long-term success. Under each Management Agreement, the Company pays
substantially all of the operating and non-operating expenses associated with
the provision of dental services except for the salaries and benefits of the
dentists and hygienists and principal and interest payments of loans made to the
P.C. by the Company. Any material loss of revenue by the P.C.s would have a
material adverse effect on the Company's business, financial condition and
operating results, and any termination of a Management Agreement (which is
permitted in the event of a material default or bankruptcy by either party)
could have such an effect. In the event of a breach of a Management Agreement by
a P.C., there can be no assurance that the legal remedies available to the
Company will be adequate to compensate the Company for its damages resulting
from such breach. See Items 1 and 2. "Business and Properties - Affiliation
Model."
Need for Additional Capital; Uncertainty of Additional Financing. Implementation
of the Company's growth strategy has required significant capital resources.
Such resources will be needed to establish additional Offices, maintain or
upgrade the Company's management information systems, and for the effective
integration, operation and expansion of the Offices. The Company historically
has used principally cash and promissory notes as consideration in acquisitions
of dental practices and intends to continue to do so. If the Company's capital
requirements over the next several years exceed cash flow generated from
operations and borrowings available under the Company's existing Credit Facility
or any successor credit facility, the Company may need to issue additional
equity securities and incur additional debt. If additional funds are raised
through the issuance of equity securities, dilution to the Company's existing
shareholders may result. Additional debt or non-Common Stock equity financings
could be required to the extent that the Common Stock fails to maintain a market
value sufficient to warrant its use for future financing needs. If additional
funds are raised through the incurrence of debt, such debt instruments will
likely contain restrictive financial, maintenance and security covenants. The
Company's existing credit facility limits the amount the Company may spend in
any calendar year to acquire dental practices. The Company may not be able to
obtain additional required capital on satisfactory terms, if at all. The failure
to raise the funds necessary to finance the expansion of the Company's
operations or the Company's other capital requirements could have a material and
adverse effect on the Company's ability to pursue its strategy and on its
business, financial condition and operating results. See "Liquidity and Capital
Resources" in this Item 7.
28
Risks Associated with De Novo Office Development. The Company utilizes internal
and external resources to identify locations in suitable markets for the
development of de novo Offices. Identifying locations in suitable geographic
markets and negotiating leases can be a lengthy and costly process. Furthermore,
the Company will need to provide each new Office with the appropriate equipment,
furnishings, materials and supplies. To date, the Company's average cost to open
a de novo Office has been approximately $194,000. Future de novo Office
development may require a greater investment by the Company. Additionally, new
Offices must be staffed with one or more dentists. Because a new Office may be
staffed with a dentist with no previous patient base, significant advertising
and marketing expenditures may be required to attract patients. There can be no
assurance that a de novo Office will become profitable for the Company. See
Items 1 and 2. "Business and Properties - Expansion Program - De Novo Office
Developments."
Government Regulation. The practice of dentistry is regulated at both the state
and federal levels. There can be no assurance that the regulatory environment in
which the Company or P.C.s operate will not change significantly in the future.
In addition, state and federal laws regulate health maintenance organizations
and other managed care organizations for which dentists may be providers. In
general, regulation of health care companies is increasing. In connection with
its operations in existing markets and expansion into new markets, the Company
may become subject to additional laws, regulations and interpretations or
enforcement actions. The laws regulating health care are broad and subject to
varying interpretations, and there is currently a lack of case law construing
such statutes and regulations. The ability of the Company to operate profitably
will depend in part upon the ability of the Company to operate in compliance
with applicable health care regulations.
The laws of many states, including Colorado and New Mexico, permit a dentist to
conduct a dental practice only as an individual, a member of a partnership or an
employee of a professional corporation, limited liability company or limited
liability partnership. These laws typically prohibit, either by specific
provision or as a matter of general policy, non-dental entities, such as the
Company, from practicing dentistry, from employing dentists and, in certain
circumstances, hygienists or dental assistants, or from otherwise exercising
control over the provision of dental services.
Many states, including Colorado, limit the ability of a person other than a
licensed dentist to own or control dental equipment or offices used in a dental
practice. In addition, Arizona, Colorado, New Mexico, and many other states
impose limits on the tasks that may be delegated by dentists to hygienists and
dental assistants. Some states, including Arizona, Colorado and New Mexico,
regulate the content of advertisements of dental services. Some states require
entities designated as "clinics" to be licensed, and may define clinics to
include dental practices that are owned or controlled in whole or in part by
non-dentists. These laws and their interpretations vary from state to state and
are enforced by the courts and by regulatory authorities with broad discretion.
Many states, including Colorado and New Mexico, also prohibit "fee-splitting" by
dentists with any party except other dentists in the same professional
corporation or practice entity. In most cases, these laws have been construed as
applying to the practice of paying a portion of a fee to another person for
referring a patient or otherwise generating business, and not to prohibit
payment of reasonable compensation for facilities and services (other than the
generation of referrals), even if the payment is based on a percentage of the
practice's revenues.
Many states have fraud and abuse laws, which apply to referrals for items or
services reimbursable by any third-party payor, not just by Medicare and
Medicaid. A number of states, including Arizona, Colorado and New Mexico,
prohibit the submitting of false claims for dental services.
In addition, there are certain regulatory risks associated with the Company's
role in negotiating and administering managed care contracts. The application of
state insurance laws to third party payor arrangements, other than
fee-for-service arrangements, is an unsettled area of law with little guidance
available. Specifically, in some states, regulators may determine that the P.C.s
are engaged in the business of insurance, particularly if they contract on a
financial-risk basis directly with self-insured employers or other entities that
are not licensed to engage in the business of insurance. If the P.C.s are
determined to be engaged in the business of insurance, the Company may be
required to change the method of payment from third-party payors and the
Company's business, financial condition and operating results may be materially
and adversely affected.
Federal laws generally regulate reimbursement and billing practices under
Medicare and Medicaid programs. The federal fraud and abuse statute prohibits,
among other things, the payment, offer, solicitation or receipt of any form of
remuneration, directly or indirectly, in cash or in kind to induce or in
exchange for (i) the referral of a person for services reimbursable by Medicare
or Medicaid, or (ii) the purchasing, leasing, ordering or arranging for or
recommending the purchase, lease or order of any item, good, facility or service
which is reimbursable under Medicare or Medicaid. Because the P.C.s receive no
revenue under Medicare and Medicaid, the impact of these laws on the Company to
date has been negligible.
29
There can be no assurance, however, that the P.C.s will not have patients in the
future covered by these laws, or that the scope of these laws will not be
expanded in the future, and if expanded, such laws or interpretations thereunder
could have a material adverse effect on the Company's business, financial
condition and operating results.
Commencing April 14, 2003, health care providers, including the Company, are
required to comply with the electronic data security and privacy requirements of
the Health Insurance Portability and Accountability Act of 1996 ("HIPAA"). HIPAA
delegates enforcement authority to the Centers for Medicare Services Office for
Civil Rights. Noncompliance with HIPAA regulations can result in severe
penalties up to $250,000 in fines and up to ten years in prison. While the
Company is in full compliance with all requirements, it cannot presently predict
the ultimate impact of the HIPAA regulations on the Company and its business.
Although the Company believes that its operations as currently conducted are in
material compliance with applicable laws, there can be no assurance that the
Company's contractual arrangements will not be successfully challenged as
violating applicable fraud and abuse, self-referral, false claims,
fee-splitting, insurance, facility licensure or certificate-of-need laws or that
the enforceability of such arrangements will not be limited as a result of such
laws. In addition, there can be no assurance that the business structure under
which the Company operates, or the advertising strategy the Company employs,
will not be deemed to constitute the unlicensed practice of dentistry or the
operation of an unlicensed clinic or health care facility. The Company has not
sought judicial or regulatory interpretations with respect to the manner in
which it conducts its business. There can be no assurance that a review of the
business of the Company and the P.C.s by courts or regulatory authorities will
not result in a determination that could materially and adversely affect their
operations or that the regulatory environment will not change so as to restrict
the Company's existing or future operations. In the event that any legislative
measures, regulatory provisions or rulings or judicial decisions restrict or
prohibit the Company from carrying on its business or from expanding its
operations to certain jurisdictions, structural and organizational modifications
of the Company's organization and arrangements may be required, which could have
a material adverse effect on the Company, or the Company may be required to
cease operations or change the way it conducts business. See Items 1 and 2.
"Business and Properties - Government Regulation."
Risks Associated with Acquisitions. The Company has grown substantially in a
relatively short period of time, in large part through acquisitions of existing
Offices and through the development of de novo Offices. Since its organization
in May 1995, the Company has completed 42 dental practice acquisitions, five of
which have been consolidated into existing Offices. The Company has recently
shifted its focus from expansion by acquisitions and development of de novo
Offices to the greater utilization of existing physical capacity through the
recruitment of additional dentists and staff. The success of future acquisitions
will depend on factors, which include the following:
* Ability to Identify Suitable Dental Practices. Identifying
appropriate acquisition candidates and negotiating and consummating
acquisitions can be a lengthy and costly process. Furthermore, the
Company may compete for acquisition opportunities with companies that
have greater resources than the Company. There can be no assurance that
suitable acquisition candidates will be identified or that acquisitions
will be consummated on terms favorable to the Company, on a timely
basis or at all. If a planned acquisition fails to occur or is delayed,
the Company's quarterly financial results may be materially lower than
analysts' expectations, which likely would cause a decline, perhaps
substantial, in the market price of the Common Stock. In addition,
increasing consolidation in the dental management services industry may
result in an increase in purchase prices required to be paid by the
Company to acquire dental practices.
* Integration of Dental Practices. The integration of acquired dental
practices into the Company's networks is a difficult, costly and time
consuming process which, among other things, requires the Company to
attract and retain competent and experienced management and
administrative personnel and to implement and integrate reporting and
tracking systems, management information systems and other operating
systems. In addition, such integration may require the expansion of
accounting controls and procedures and the evaluation of certain
personnel functions. There can be no assurance that substantial
unanticipated problems, costs or delays associated with such
integration efforts or with such acquired practices will not occur.
There also can be no assurance that the Company will be able to
successfully integrate acquired practices in a timely manner or at all,
or that any acquired practices will have a positive impact on the
Company's results of operations and financial condition.
* Management of Acquisitions. The success of acquisitions made by the
Company will depend in part on the Company's ability to manage
effectively an increasing number of Offices. The addition of Offices
may impair the Company's ability to provide management services
efficiently and successfully to existing Offices and to manage and
supervise adequately the Company's employees. The Company's results of
operations and financial condition could be materially adversely
affected if it is unable to do so effectively.
30
* Availability of Funds for Acquisitions. Additional acquisitions may
require substantial capital investment and adequate financing. Funds
are needed for (i) the purchase of assets of dental practices, (ii) the
integration of operations of acquired dental practices, and (iii) the
purchase of additional equipment and technology for acquired practices.
In addition, increasing consolidation in the dental services industry
may result in an increase in purchase prices required to be paid by the
Company to acquire dental practices. Any inability of the Company to
obtain suitable financing could cause the Company to limit or otherwise
modify its acquisitions, which could have a material adverse effect on
the Company's results of operations and financial condition. See "Risk
Factors - Need for Additional Capital; Uncertainty of Additional
Financing" in this Item 7.
* Ability to Increase Revenues and Operating Income of Acquired
Practices. A key element of the Company's growth strategy is to
increase revenues and operating income at its acquired Offices. There
can be no assurance that the Company's revenues and operating income
from its acquired Offices will improve or that revenues or operating
income from existing Offices will continue to improve. Any failure by
the Company in improving revenues or operating income at its Offices
could have a material adverse effect on the Company's results of
operations and financial condition.
Reliance on Certain Personnel. The success of the Company, depends on the
continued services of a relatively limited number of members of the Company's
senior management, including its President, Mark Birner, D.D.S., its Chief
Executive Officer, Fred Birner, and its Chief Financial Officer, Treasurer and
Secretary, Dennis Genty. Some key employees have only recently joined the
Company. The Company believes its future success will depend in part upon its
ability to attract and retain qualified management personnel. Competition for
such personnel is intense and the Company competes for qualified personnel with
numerous other employers, some of which have greater financial and other
resources than the Company. The loss of the services of one or more members of
the Company's senior management or the failure to add or retain qualified
management personnel could have a material adverse effect on the Company's
business, financial condition and operating results.
Risks Associated with Cost-Containment Initiatives. The health care industry,
including the dental services market, is experiencing a trend toward cost
containment, as payors seek to impose lower reimbursement rates upon providers.
The Company believes that this trend will continue and will increasingly affect
the provision of dental services. This may result in a reduction in per-patient
and per-procedure revenue from historic levels. Significant reductions in
payments to dentists or other changes in reimbursement by payors for dental
services may have a material adverse effect on the Company's business, financial
condition and operating results.
Risks Associated with Capitated Payment Arrangements. Part of the Company's
growth strategy involves selectively obtaining capitated managed dental care
contracts. Under a capitated managed dental care contract, the dental practice
provides dental services to the members of the plan and receives a fixed monthly
capitation payment for each plan member covered for a specific schedule of
services regardless of the quantity or cost of services to the participating
dental practice which is obligated to provide them, and may receive a co-pay for
each service provided. This arrangement shifts the risk of utilization of such
services to the dental group practice that provides the dental services. Because
the Company assumes responsibility under its Management Agreements for all
aspects of the operation of the dental practices (other than the practice of
dentistry) and thus bears all costs of the provision of dental services at the
Offices (other than compensation and benefits of dentists and hygienists), the
risk of over-utilization of dental services at the Offices under capitated
managed dental care plans is effectively shifted to the Company. In contrast,
under traditional indemnity insurance arrangements, the insurance company
reimburses reasonable charges that are billed for the dental services provided.
In 2002, the Company derived approximately 13.0% of its revenues from capitated
managed dental care contracts, and 14.5% of its revenues from associated
co-payments. Risks associated with capitated managed dental care contracts
include principally (i) the risk that the capitation payments and any associated
co-payments do not adequately cover the costs of providing the dental services,
(ii) the risk that one or more of the P.C.s may be terminated as an approved
provider by managed dental care plans with which they contract, (iii) the risk
that the Company will be unable to negotiate future capitation arrangements on
satisfactory terms with managed care dental plans, and (iv) the risk that large
subscriber groups will terminate their relationship with such managed dental
care plans which would reduce patient volume and capitation and co-payment
revenue. There can be no assurance that the Company will be able to negotiate
future capitation arrangements on behalf of P.C.s on satisfactory terms or at
all, or that the fees offered in current capitation arrangements will not be
reduced to levels unsatisfactory to the Company. Moreover, to the extent that
costs incurred by the Company's affiliated dental practices in providing
services to patients covered by capitated managed dental care contracts exceed
the revenue under such contracts, the Company's business, financial condition
and operating results may be materially and adversely affected. See Items 1 and
2. "Business and Properties - Operations - Payor Mix."
31
Risks of Becoming Subject to Licensure. Federal and state laws regulate
insurance companies and certain other managed care organizations. Many states,
including Colorado, also regulate the establishment and operation of networks of
health care providers. In most states, these laws do not apply to
discounted-fee-for-service arrangements. These laws also do not generally apply
to networks that are paid on a capitated basis, unless the entity with which the
network provider is contracting is not a licensed health insurer or other
managed care organization. There are exceptions to these rules in some states.
For example, certain states require a license for a capitated arrangement with
any party unless the risk-bearing entity is a professional corporation that
employs the professionals. The Company believes its current activities do not
constitute the provision of insurance in Colorado or New Mexico, and thus, it is
in compliance with the insurance laws of these states with respect to the
operation of its Offices. There can be no assurance that these laws will not be
changed or that interpretations of these laws by the regulatory authorities in
those states, or in the states in which the Company expands, will not require
licensure or a restructuring of some or all of the Company's operations. In the
event that the Company is required to become licensed under these laws, the
licensure process can be lengthy and time consuming and, unless the regulatory
authority permits the Company to continue to operate while the licensure process
is progressing, the Company could experience a material adverse change in its
business while the licensure process is pending. In addition, many of the
licensing requirements mandate strict financial and other requirements, which
the Company may not immediately be able to meet. Further, once licensed, the
Company would be subject to continuing oversight by and reporting to the
respective regulatory agency. The regulatory framework of certain jurisdictions
may limit the Company's expansion into, or ability to continue operations
within, such jurisdictions if the Company is unable to modify its operational
structure to conform to such regulatory framework. Any limitation on the
Company's ability to expand could have a material adverse effect on the
Company's business, financial condition and operating results.
Risks Arising From Health Care Reform. Federal and state governments currently
are considering various types of health care initiatives and comprehensive
revisions to the health care and health insurance systems. Some of the proposals
under consideration, or others that may be introduced, could, if adopted, have a
material adverse effect on the Company's business, financial condition and
operating results. It is uncertain what legislative programs, if any will be
adopted in the future, or what action Congress or state legislatures may take
regarding health care reform proposals or legislation. In addition, changes in
the health care industry, such as the growth of managed care organizations and
provider networks, may result in lower payments for the services of the
Company's managed practices.
Risks Associated with Intangible Assets. At December 31, 2002, intangible assets
on the Company's consolidated balance sheet were $15.5 million, representing
64.0% of the Company's total assets at that date. The Company expects the amount
allocable to intangible assets on its balance sheet to increase in the future in
connection with additional acquisitions, which will increase the Company's
amortization expense. In the event of any sale or liquidation of the Company or
a portion of its assets, there can be no assurance that the value of the
Company's intangible assets will be realized. In addition, the Company
continually evaluates whether events and circumstances have occurred indicating
that any portion of the remaining balance of the amount allocable to the
Company's intangible assets may not be recoverable. When factors indicate that
the amount allocable to the Company's intangible assets should be evaluated for
possible impairment, the Company may be required to reduce the carrying value of
such assets. Any future determination requiring the write off of a significant
portion of unamortized intangible assets could have a material adverse effect on
the Company's business, financial condition and operating results.
Possible Exposure to Professional Liability. In recent years, dentists have
become subject to an increasing number of lawsuits alleging malpractice. Some of
these lawsuits involve large claims and significant defense costs. Any suits
involving the Company or dentists at the Offices, if successful, could result in
substantial damage awards that may exceed the limits of the Company's insurance
coverage. The Company provides practice management services; it does not engage
in the practice of dentistry or control the practice of dentistry by the
dentists or their compliance with regulatory requirements directly applicable to
providers. There can be no assurance, however, that the Company will not become
subject to litigation in the future as a result of the dental services provided
at the Offices. The Company maintains professional liability insurance for
itself and provides for professional liability insurance covering dentists,
hygienists and dental assistants at the Offices. While the Company believes it
has adequate liability insurance coverage, there can be no assurance that the
coverage will be adequate to cover losses or that coverage will continue to be
available upon terms satisfactory to the Company. In addition, certain types of
risks and liabilities, including penalties and fines imposed by governmental
agencies, are not covered by insurance. Malpractice insurance, moreover, can be
expensive and varies from state to state. Successful malpractice claims could
have a material adverse effect on the Company's business, financial condition
and operating results. See Items 1 and 2. "Business and Properties - Insurance."
Risks Associated with Non-Competition Covenants and Other Arrangements with
Managing Dentists. The Management Agreements require the P.C.s to enter into
employment agreements with dentists which include non-competition provisions
typically for three to five years after termination of employment within a
specified geographic area, usually a specified number of miles from the relevant
Office, and restrict solicitation of employees and patients.
32
In Colorado, covenants not to compete are prohibited by statute with certain
exceptions. One exception permits enforcement of covenants not to compete
against executive and management personnel and officers and employees who
constitute professional staff to executive and management personnel. Permitted
covenants not to compete are enforceable in Colorado only to the extent their
terms are reasonable in both duration and geographic scope. Arizona and New
Mexico courts have enforced covenants not to compete if their terms are found to
be reasonable. It is thus uncertain whether a court will enforce a covenant not
to compete in those states in a given situation. In addition, there is little
judicial authority regarding whether a practice management agreement will be
viewed as the type of protectable business interest that would permit it to
enforce such a covenant or to require a P.C. to enforce such covenants against
dentists formerly employed by the P.C. Since the intangible value of a
Management Agreement depends primarily on the ability of the P.C. to preserve
its business, which could be harmed if employed dentists went into competition
with the P.C., a determination that the covenants not to compete contained in
the employment agreements between the P.C. and its employed dentists are
unenforceable could have a material adverse impact on the Company. See Items 1
and 2. "Business and Properties - Affiliation Model- Employment Agreements." In
addition, the Company is a party to various agreements with managing dentists
who own the P.C.s, which restrict the dentists' ability to transfer the shares
in the P.C.s. See Items 1 and 2. "Business and Properties - Affiliation Model -
Relationship with P.C.s." There can be no assurance that these agreements will
be enforceable in a given situation. A determination that these agreements are
not enforceable could have a material adverse impact on the Company.
Seasonality. The Company's past financial results have fluctuated somewhat due
to seasonal variations in the dental service industry, with Revenue typically
declining in the fourth calendar quarter. The Company expects this seasonal
fluctuation to continue in the future.
Competition. The dental practice management segment of the dental services
industry is highly competitive and is expected to become increasingly more
competitive. There are several dental practice management companies that are
operating in the Company's markets. There are also a number of companies with
dental practice management businesses similar to that of the Company currently
operating in other parts of the country which may enter the Company's existing
markets in the future. As the Company seeks to expand its operations into new
markets, it is likely to face competition from dental practice management
companies, which already have established a strong business presence in such
locations. The Company's competitors may have greater financial or other
resources or otherwise enjoy competitive advantages, which may make it difficult
for the Company to compete against them or to acquire additional Offices on
terms acceptable to the Company. See Items 1 and 2. "Business and Properties -
Competition."
The business of providing general dental and specialty dental services is highly
competitive in the markets in which the Company operates. Competition for
providing dental services may include practitioners who have more established
practices and reputations. The Company competes against established practices in
the retention and recruitment of general dentists, specialists, hygienists and
other personnel. If the availability of such dentists, specialists, hygienists
and other personnel begins to decline in the Company's markets, it may become
more difficult to attract qualified dentists, specialists, hygienists and other
personnel. There can be no assurance that the Company will be able to compete
effectively against other existing practices or against new single or
multi-specialty dental practices that enter its markets, or to compete against
such practices in the recruitment and retention of qualified dentists,
specialists, hygienists and other personnel. See Items 1 and 2. "Business and
Properties - Competition."
Volatility of Stock Price. The market price of the Common Stock could be subject
to wide fluctuations in response to quarterly variations in operating results of
the Company or its competitors, changes in earnings estimates by analysts,
developments in the industry or changes in general economic conditions.
Restrictions on Payment of Dividends. The Company has not declared or paid cash
dividends on its Common Stock since its formation, and the Company does not
anticipate paying cash dividends on its Common Stock in the foreseeable future.
The payment of dividends is prohibited under the terms of the Company's existing
credit facility and may be prohibited under any future credit facility, which
the Company may obtain. See Item 5. "Market for Registrant's Common Equity and
Related Stockholder Matters" and "Liquidity and Capital Resources" in this Item
7.
33
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Market risk represents the risk of loss that may impact the financial position,
results of operations or cash flows of the Company due to adverse changes in
financial and commodity market prices and rates. The Company is exposed to
market risk in the area of changes in United States interest rates. Historically
and as of December 31, 2002, the Company has not used derivative instruments or
engaged in hedging activities.
Interest Rate Risk. The interest payable on the Company's line-of-credit and
term-loan is variable based upon the prime rate and, therefore, affected by
changes in market interest rates. At December 31, 2002, $1.825 million was
outstanding with an interest rate of 4.25% (prime). The Company may repay the
balance in full at any time without penalty. As a result, the Company does not
believe that any reasonably possible near-term changes in interest rates would
result in a material effect on future earnings, fair values or cash flows of the
Company. Based on calculations performed by the Company, a 1.0% increase in the
interest rate on the Company's Credit Facility would have resulted in additional
interest expense of approximately $32,000 for the twelve months ended December
31, 2002.
34
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
INDEX TO FINANCIAL STATEMENTS
Birner Dental Management Services, Inc. and subsidiaries' consolidated financial
statements as of December 31, 2001 and 2002 and for the three years ended
December 31, 2002:
Page
----
Report of Independent Public Accountants 36
Consolidated Balance Sheets 38
Consolidated Statements of Operations 39
Consolidated Statements of Shareholders' Equity 40
Consolidated Statements of Cash Flows 41
Notes to Consolidated Financial Statements 43
35
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Birner Dental Management Services, Inc.:
We have audited the accompanying consolidated balance sheets of Birner Dental
Management Services, Inc. (a Colorado corporation) and subsidiaries as of
December 31, 2002 and 2001 and the related consolidated statements of
operations, shareholders' equity and cash flows for the years then ended. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Birner Dental Management
Services, Inc. and subsidiaries as of December 31, 2002 and 2001 and the results
of their operations and their cash flows for the years then ended, in conformity
with accounting principles generally accepted in the United States.
Hein + Associates LLP
Denver, Colorado,
February 11, 2003
36
The following report of independent public accountants is a copy of a previously
issued Arthur Andersen LLP report and has not been reissued by Arthur Andersen
LLP.
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Birner Dental Management Services, Inc.:
We have audited the accompanying consolidated balance sheet of Birner Dental
Management Services, Inc. (a Colorado corporation) and subsidiaries as of
December 31, 2000, and the related consolidated statements of operations,
shareholders' equity and cash flows for each of the two years in the period
ended December 31, 2000. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Birner Dental Management
Services, Inc. and subsidiaries as of December 31, 2000, and the results of
their operations and their cash flows for each of the two years in the period
ended December 31, 2000, in conformity with accounting principles generally
accepted in the United States.
ARTHUR ANDERSEN LLP
Denver, Colorado,
March 2, 2001
37
BIRNER DENTAL MANAGEMENT SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31,
------------------------------
ASSETS 2001 2002
------------------------------
CURRENT ASSETS:
Cash and cash equivalents $ 949,236 $ 1,072,757
Accounts receivable, net of allowance for doubtful
accounts of $201,795 and $212,803, respectively 3,086,648 2,708,231
Deferred tax asset 112,214 120,622
Prepaid expenses and other assets 724,429 738,119
----------- ---------
Total current assets 4,872,527 4,639,729
PROPERTY AND EQUIPMENT, net 5,369,198 3,926,422
OTHER NONCURRENT ASSETS:
Intangible assets, net 13,915,362 15,496,271
Deferred charges and other assets 216,285 167,098
Notes receivable - related parties 284,479 -
Deferred tax asset, net 104,074 -
----------- -----------
Total assets $24,761,925 $24,229,520
=========== ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable and accrued expenses $ 3,239,202 $ 4,011,466
Current maturities of long-term debt 1,332,158 2,169,713
----------- -----------
Total current liabilities 4,571,360 6,181,179
LONG-TERM LIABILITIES:
Deferred tax liability, net - 24,258
Long-term debt, net of current maturities 3,296,304 1,087,422
Other long-term obligations 173,089 177,635
----------- -----------
Total liabilities 8,040,753 7,470,494
COMMITMENTS AND CONTINGENCIES (Note 10)
SHAREHOLDERS' EQUITY:
Preferred Stock, no par value, 10,000,000 shares
authorized; none outstanding - -
Common Stock, no par value, 20,000,000 shares
authorized; 1,506,705 and 1,434,817 shares issued and
outstanding, respectively 16,855,661 15,959,829
Retained earnings (accumulated deficit) (134,489) 799,197
----------- -----------
Total shareholders' equity 16,721,172 16,759,026
----------- -----------
Total liabilities and shareholders' equity $24,761,925 $24,229,520
=========== ===========
The accompanying notes are an integral part of these consolidated balance
sheets.
38
BIRNER DENTAL MANAGEMENT SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Years Ended December 31,
2000 2001 2002
---- ---- ----
NET REVENUE: $29,418,772 $29,249,333 $30,254,749
DIRECT EXPENSES:
Clinical salaries and benefits 12,020,083 11,803,291 11,598,162
Dental supplies 1,870,396 1,754,923 1,788,471
Laboratory fees 2,634,975 2,471,087 2,366,710
Occupancy 3,250,974 3,289,937 3,416,877
Advertising and marketing 328,149 315,083 352,947
Depreciation and amortization 2,409,223 2,462,604 2,389,556
General and administrative 2,961,451 3,060,699 3,192,266
----------- ----------- -----------
25,475,251 25,157,624 25,104,989
----------- ----------- -----------
Contribution from dental offices 3,943,521 4,091,709 5,149,760
CORPORATE EXPENSES:
General and administrative 3,415,031 2,948,082 2,977,096
Depreciation and amortization 331,738 321,690 326,879
Operating income 196,752 821,937 1,845,785
Interest expense, net 630,410 450,869 344,738
Income (loss) before income taxes (433,658) 371,068 1,501,047
Income tax expense (benefit) (112,756) 120,812 567,361
Net income (loss) $ (320,902) $ 250,256 $ 933,686
=========== ============ ===========
Net income (loss) per share of Common Stock:
Basic $ (.21) $ .17 $ .63
=========== ============ ===========
Diluted $ (.21) $ .16 $ .58
=========== ============ ===========
Weighted average number of shares of Common Stock and dilutive securities:
Basic 1,523,594 1,506,705 1,480,490
=========== ============ ===========
Diluted 1,523,594 1,529,549 1,614,315
=========== ============ ===========
The accompanying notes are an integral part of these consolidated financial
statements.
39
BIRNER DENTAL MANAGEMENT SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Retained
Earnings Total
Common Stock (Accumulated Shareholders'
Shares Amount Deficit) Equity
------ ------ --------- -----------
BALANCES, December 31, 1999 1,532,987 $16,968,454 $ (63,843) $16,904,611
Purchase and retirement of Common Stock (26,282) (112,793) - (112,793)
Net loss, FYE 2000 - - (320,902) (320,902)
--------- ----------- --------- -----------
BALANCES, December 31, 2000 1,506,705 16,855,661 (384,745) 16,470,916
Net Income, FYE 2001 - - 250,256 250,256
--------- ----------- --------- -----------
BALANCES, December 31, 2001 1,506,705 16,855,661 (134,489) 16,721,172
Common Stock options exercised 45,348 111,359 111,359
Purchase and retirement of Common Stock (117,236) (1,161,812) (1,161,812)
Exercise of Common Stock options
recorded as compensation expense - 60,054 - 60,054
Tax benefit of Common Stock options
exercised - 94,567 - 94,567
Net Income, FYE 2002 933,686 933,686
--------- ----------- --------- -----------
BALANCES, December 31, 2002 1,434,817 $15,959,829 $799,197 $16,759,026
========= =========== ======== ===========
The accompanying notes are an integral part of these consolidated financial
statements.
40
BIRNER DENTAL MANAGEMENT SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31,
2000 2001 2002
---- ---- ----
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ (320,902) $ 250,256 $ 933,686
Adjustments to reconcile net income (loss) to net
cash provided by operating activities:
Depreciation and amortization 2,740,961 2,784,294 2,716,435
(Gain) Loss on disposition of property - 7,956 (23,312)
Provision for doubtful accounts 2,963 748 11,008
Provision for (benefit from) deferred income taxes (112,756) 72,333 172,924
Amortization of debt issuance costs 23,662 21,824 66,578
Changes in assets and liabilities, net of effects from
acquisitions:
Accounts receivable (49,852) 784,422 367,409
Prepaid expense, income tax receivable
and other assets 122,422 (289,187) (14,770)
Accounts payable and accrued expenses (705,196) 293,680 737,524
Income taxes payable - 48,479 (18,260)
Other long-term obligations 37,563 44,269 4,546
------------- ------------ -------------
Net cash provided by operating activities 1,738,865 4,019,074 4,953,768
CASH FLOWS FROM INVESTING ACTIVITIES:
Notes receivable - related parties, net (140,042) (70,367) 284,479
Capital expenditures (688,930) (546,798) (513,779)
Development of new dental offices (427,731) - -
Acquisition of dental offices (197,163) (435,006) (1,158,477)
------------- ------------ -------------
Net cash used in investing activities (1,453,866) (1,052,171) (1,387,777)
------------- ------------ -------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net repayments - line of credit (93,000) (2,439,000) (168,000)
Repayment of bank term-loan - - (2,050,000)
Repayment of long-term debt (194,743) (202,827) (312,327)
Payment of financing costs - (67,257) (16,311)
Proceeds from exercise of Common Stock options - - 111,359
Purchase and retirement of Common Stock (112,793) - (1,161,812)
Exercise of Common Stock options recorded
as compensation expense - - 60,054
Tax benefit of Common Stock options exercised - - 94,567
Net cash used in financing activities (400,536) (2,709,084) (3,442,470)
------------- ------------ -------------
NET INCREASE (DECREASE) IN CASH
AND CASH EQUIVALENTS (115,537) 257,819 123,521
CASH AND CASH EQUIVALENTS, beginning of year 806,954 691,417 949,236
------------- ------------ -------------
CASH AND CASH EQUIVALENTS, end of year $ 691,417 $ 949,236 $ 1,072,757
============= ============= =============
The accompanying notes are an integral part of these consolidated financial
statements.
41
BIRNER DENTAL MANAGEMENT SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31,
2000 2001 2002
---- ---- ----
SUPPLEMENTAL DISCLOSURE OF CASH
FLOW INFORMATION:
Cash paid during the year for interest $ 630,570 $ 503,979 $ 345,081
=============== =============== ============
Cash paid during the year for income taxes $ - $ -
=============== =============== ============
370,880
SUPPLEMENTAL DISCLOSURES OF NONCASH
INVESTING AND FINANCING ACTIVITIES:
Notes payable incurred from:
Acquisition of dental offices $ 189,000 $ 434,000 $ 1,159,000
=============== =============== ============
The accompanying notes are an integral part of these consolidated financial
statements.
42
BIRNER DENTAL MANAGEMENT SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) DESCRIPTION OF BUSINESS AND ORGANIZATION
Birner Dental Management Services, Inc., a Colorado corporation (the "Company"),
was incorporated on May 17, 1995 and manages dental group practices. As of
December 31, 2000, 2001 and 2002 the Company managed 56, 54, and 54 dental
practices (collectively referred to as the "Offices"), respectively. The Company
provides management services, which are designed to improve the efficiency and
profitability of the dental practices. These Offices are organized as
professional corporations and the Company provides its management activities
with the Offices under long-term management agreements (the "Management
Agreements").
The Company has grown primarily through acquisitions and de novo developments.
The following table highlights the Company's growth through December 31, 2002 as
follows:
De Novo Office
Acquisitions Developments Consolidations
1998 and Prior * 41 11 (3)
1999 1 5 (1)
2000 - 2 -
2001 - - (2)
2002 - - -
------------- --------------- ---------------
Total 42 18 (6)
============= =============== ================
* Includes three dental Offices acquired from one of the Company's founders.
The Company's operations and expansion strategy are dependent, in part, on the
availability of dentists, hygienists and other professional personnel and the
ability to hire and assimilate additional management and other employees to
accommodate expanded operations.
(2) SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation/Basis of Consolidation
The accompanying consolidated financial statements have been prepared on the
accrual basis of accounting. These financial statements present the financial
position and results of operations of the Company and the Offices, which are
under the control of the Company. All intercompany accounts and transactions
have been eliminated in the consolidation. Certain prior year amounts have been
reclassified to conform to the presentation used in 2001.
The Company treats Offices as consolidated subsidiaries where it has a long-term
and unilateral controlling financial interest over the assets and operations of
the Offices. The Company has obtained control of substantially all of the
Offices via long-term contractual management arrangements. Certain key features
of these arrangements either enable the Company at any time and in its sole
discretion to cause a change in the shareholder of the P.C. (i.e., "nominee
shareholder") or allow the Company to vote the shares of stock held by the owner
of the P.C. and to elect a majority of the board of directors of the P.C. The
accompanying statements of operations reflect net revenue, which is the amount
billed to patients, less dentists' and hygienists' compensation. Direct expenses
consist of all the expenses incurred in operating the Offices and paid by the
Company. Under the Management Agreements the Company assumes responsibility for
the management of most aspects of the Offices' business (other than the
provision of dental services) including personnel recruitment and training,
comprehensive administrative business and marketing support and advice, and
facilities, equipment, and support personnel as required to operate the
practice. The accompanying consolidated financial statements are presented
without regard to where the costs are incurred since under the management and
other agreements the Company believes it has long-term and unilateral control
over the assets and operations of substantially all of the Offices.
43
The Emerging Issues Task Force ("EITF") Issue 97-2 of the Financial Accounting
Standards Board ("FASB") covers financial reporting matters relating to the
physician practice management industry, including the consolidation of
professional corporation revenue and expenses, the accounting for business
combinations and the treatment of stock options for dentists as employee
options. The Company's accounting policies in these areas are consistent with
the provisions of EITF Issue 97-2.
A summary of the components of net revenue for the years ended December 31,
2000, 2001, and 2002 follows:
Years Ended December 31,
2000 2001 2002
Total dental group practice revenue, net $ 41,232,288 $ 41,388,573 $ 42,679,654
Less - revenue from managed offices, net 4,979,535 3,941,061 -
--------------- -------------- ---------------
Dental office revenue, net 36,252,753 37,447,512 42,679,654
Less - amounts retained by dental offices 10,261,702 10,904,069 12,424,905
--------------- -------------- ---------------
Net revenue from consolidated dental offices 25,991,051 26,543,443 30,254,749
Management service fee revenue 3,427,721 2,705,890 -
--------------- -------------- ---------------
Net revenue $ 29,418,772 $ 29,249,333 $ 30,254,749
================ ============== ===============
Total Dental Group Practice Revenue, Net
"Total dental group practice revenue, net" represents the revenue of the
consolidated and managed Offices reported at the estimated realizable amounts
from insurance companies, preferred provider and health maintenance
organizations (i.e., third-party payors) and patients for services rendered, net
of contractual and other adjustments. Dental services are billed and collected
by the Company in the name of the Offices.
Revenue under certain third-party payor agreements is subject to audit and
retroactive adjustments. There are no material claims, disputes or other
unsettled matters that exist to management's knowledge concerning third-party
reimbursements.
During 2000, 2001, and 2002, 18.5%, 15.4%, and 13.0%, respectively, of the
Company's gross revenue was derived from capitated managed dental care
contracts. Under these contracts the Offices receive a fixed monthly payment for
each covered plan member for a specific schedule of services regardless of the
quantity or cost of services provided by the Offices. Additionally, the Offices
may receive a co-pay from the patient for certain services provided. Revenue
from the Company's capitated managed dental care contracts is recognized as
earned on a monthly basis.
During the years ended December 31, 2000, 2001 and 2002, the following companies
were responsible for the corresponding percentages of the Company's total dental
group practice revenue (includes capitation premiums and co-payments): Aetna
Healthcare was responsible for 9.1%, 7.4% and 6.6%, respectively, CIGNA Dental
Health was responsible for 5.9%, 6.0% and 6.3%, respectively and Delta Care was
responsible for 8.6%, 8.0% and 6.6%, respectively.
Net Revenue from Consolidated Dental Offices
"Net revenue from consolidated dental offices" represents the "Total dental
group practice revenue, net" less amounts retained by the Offices primarily for
compensation paid by the professional corporations to dentists and hygienists.
Dentists receive compensation based upon a specified amount per hour worked or a
percentage of revenue or collections attributable to their work, and a bonus
based upon the operating performance of the Office.
44
Management Service Fee Revenue
During 2000 and 2001 for the Offices for which the Company has Management
Agreements, but did not have control, the Company received management service
fee revenue included with net revenue in the accompanying statements of
operations. "Management service fee revenue" is equal to gross revenue less
compensation for dentists and hygienists for the Offices. Direct expenses
associated with the operations of these Offices are also included in the
accompanying statements of operations.
Contribution From Dental Offices
The "Contribution from dental offices" represents the excess of net revenue from
the operations of the Offices over direct expenses associated with operating the
Offices. The revenue and direct expense amounts relate exclusively to business
activities associated with the Offices. The contribution from dental offices
provides an indication of the level of earnings generated from the operation of
the Offices to cover corporate expenses, interest expense charges and income
taxes.
Advertising and Marketing
The costs of advertising, promotion and marketing are expensed as incurred.
Cash and Cash Equivalents
For purposes of the consolidated balance sheets and statements of cash flows,
cash and cash equivalents include money market accounts and all highly liquid
investments with original maturities of three months or less.
Accounts Receivable
Accounts receivable represents receivables from patients and other third-party
payors for dental services provided. Such amounts are recorded net of
contractual allowances and other adjustments at time of billing. In addition,
the Company has estimated allowances for uncollectible accounts. In those
instances when payment is not received at the time of service, the Offices
record receivables from their patients, most of who are local residents and are
insured under third-party payor agreements. Management continually monitors and
periodically adjusts the allowances associated with these receivables.
Property and Equipment
Property and equipment are stated at cost or fair market value at the date of
acquisition, net of accumulated depreciation. Property and equipment are
depreciated using the straight-line method over their useful lives of five years
and leasehold improvements are amortized over the remaining life of the leases.
Depreciation was $2,114,446, $2,125,756, and $1,979,506 for the years ended
December 31, 2000, 2001 and 2002, respectively.
Intangible Assets
The Company's dental practice acquisitions involve the purchase of tangible and
intangible assets and the assumption of certain liabilities of the acquired
Offices. As part of the purchase price allocation, the Company allocates the
purchase price to the tangible and identifiable intangible assets acquired and
liabilities assumed, based on estimated fair market values. Costs of acquisition
in excess of the net estimated fair value of tangible and identifiable
intangible assets acquired and liabilities assumed are allocated to the
Management Agreement. The Management Agreement represents the Company's right to
manage the Offices during the 40-year term of the agreement. The assigned value
of the Management Agreement is amortized using the straight-line method over a
period of 25 years. Amortization was $626,515, $658,538 and $736,929 for the
years ended December 31, 2000, 2001, and 2002, respectively.
The Management Agreements cannot be terminated by the related professional
corporation without cause, consisting primarily of bankruptcy or material
default by the Company.
45
Impairment of Long-Lived and Intangible Assets
In the event that facts and circumstances indicate that the carrying value of
long-lived and intangible assets may be impaired, an evaluation of
recoverability would be performed. If an evaluation were required, the estimated
future undiscounted cash flows associated with the asset would be compared to
the asset's carrying amount to determine if a write-down to market value or
discounted cash flow value would be required.
Concentrations of Credit Risk
Financial instruments which potentially subject the Company to concentration of
credit risk are primarily cash and cash equivalents and accounts receivable. The
Company maintains its cash balances in the form of bank demand deposits and
money market accounts with financial institutions that management believes are
creditworthy. The Company may be exposed to credit risk generally associated
with healthcare and retail companies. The Company established an allowance for
uncollectible accounts based upon factors surrounding the credit risk of
specific customers, historical trends and other information. The Company has no
significant financial instruments with off-balance sheet risk of accounting
loss, such as foreign exchange contracts, option contracts or other foreign
currency hedging arrangements.
Use of Estimates
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenue and expenses during the reporting
period.
The application of accounting policies requires the use of judgment and
estimates. As it relates to the Company, estimates and forecasts are required to
determine any impairment of assets, allowances for bad debts, deferred tax asset
valuation reserves, if any, deferred revenue and employee benefit-related
liabilities.
These matters that are subject to judgments and estimation are inherently
uncertain, and different amounts could be reported using different assumptions
and estimates. Management uses its best estimates and judgments in determining
the appropriate amount to reflect in the financial statements, using historical
experience and all available information. The Company also uses outside experts
where appropriate. The Company applies estimation methodologies consistently
from year to year.
Income Taxes
The Company accounts for income taxes (Note 11) pursuant to Statement of
Financial Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes,"
which requires the use of the asset and liability method of computing deferred
income taxes. The objective of the asset and liability method is to establish
deferred tax assets and liabilities for the temporary differences between the
book basis and the tax basis of the Company's assets and liabilities at enacted
tax rates expected to be in effect when such amounts are realized or settled.
46
Earnings Per Share
The Company has adopted SFAS No. 128 which establishes standards for computing
and presenting earnings per share ("EPS") for entities with publicly held common
stock. The standard requires presentation of two categories of EPS - basic EPS
and diluted EPS. Basic EPS excludes dilution and is computed by dividing income
available to common stockholders by the weighed-average number of common shares
outstanding for the year. Diluted EPS reflects the potential dilution that could
occur if securities or other contracts to issue common stock were exercised or
converted into common stock or resulted in the issuance of common stock that
then shared in the earnings of the Company.
Years Ended December 31,
2000 2001 2002
Weighted Per Weighted Per Weighted Per
Average Share Average Share Average Share
Loss Shares Amount Income Shares Amount Income Shares Amount
---- -------- ------ ------ -------- ------ ------ -------- ------
Basic EPS:
Net income (loss) $ (320,902) 1,523,594$ (.21) $250,256 1,506,705 $ .17 $933,686 1,480,490 $.63
========== ========== ==== ======== ========= ===== ======== ========= ====
Diluted EPS:
Net income (loss) $ (320,902) 1,523,594$ (.21) $250,256 1,529,549 $ .16 $933,686 1,614,315 $.58
========== ========== ==== ======== ========= ===== ======== ========= ====
All options and warrants to purchase shares of Common Stock were excluded from
the computation of diluted earnings for the year ended December 31, 2000 since
they were anti-dilutive as a result of the Company's net loss for the year. The
number of options and warrants excluded from the earnings per share calculation
because they are anti-dilutive, using the treasury stock method were 511 for the
year December 31, 2000. The difference between basic earnings per share and
diluted earnings per share for the years ended December 31, 2001 and 2002
relates to the effect of 22,844 and 133,825, respectively, of dilutive shares of
Common Stock from stock options and warrants which are included in total shares
for the diluted calculation. All shares, share prices and earnings per share
calculations have been restated to reflect a one-for-four reverse stock split
that was effective February 26, 2001.
Comprehensive Income
The FASB issued SFAS 130 "Reporting Comprehensive Income" in June 1997 which
established standards for reporting and displaying comprehensive income and its
components in a full set of general purpose financial statements. In addition to
net income (loss), comprehensive income includes all changes in equity during a
period, except those resulting from investments by and distributions to owners.
For 2000, 2001 and 2002 net income and comprehensive income were the same.
Costs of Start-up Activities
Start-up costs and organization costs are expensed as they are incurred.
Segment Reporting
The Company operates in one business segment, which is to manage dental
practices. The Company currently manages Offices in the states of Arizona,
Colorado and New Mexico. All aspects of the Company's business are structured on
a practice-by-practice basis. Financial analysis and operational decisions are
made at the individual Office level. The Company does not evaluate performance
criteria based upon geographic location, type of service offered or source of
revenue.
Stock-Based Compensation Plans
As permitted under the SFAS 123, Accounting for Stock-Based Compensation, the
Company accounts for its stock-based compensation in accordance with the
provisions of Accounting Principles Board (APB) Opinion No. 25, Accounting for
Stock Issued to Employees. As such, compensation expense is recorded on the date
of grant if the current market price of the underlying stock exceeds the
exercise price. Certain pro forma net income and earnings per share disclosures
for employee stock option grants are also included in the notes to the financial
statements as if the fair value method as defined in SFAS No. 123 had been
applied.
47
Recent Accounting Pronouncements
In June 2001, the FASB approved for issuance SFAS 143, Asset Retirement
Obligations. SFAS 143 establishes accounting requirements for retirement
obligations associated with tangible long-lived assets, including (1) the timing
of the liability recognition, (2) initial measurement of the liability, (3)
allocation of asset retirement cost to expense, (4) subsequent measurement of
the liability and (5) financial statement disclosures. SFAS 143 requires that an
asset retirement cost should be capitalized as part of the cost of the related
long-lived asset and subsequently allocated to expense using a systematic and
rational method. The statement is effective for the financial statements issued
for fiscal years beginning after June 15, 2002. The Company does not believe
that the adoption of this statement will have a material effect on its financial
position, results of operations, or cash flows.
In April 2002, the FASB approved for issuance Statements of Financial Accounting
Standards No. 145, "Rescission of FASB Statements No. 4, 44 and 64, Amendment of
SFAS 13, and Technical Corrections" ("SFAS 145"). SFAS 145 rescinds previous
accounting guidance, which required all gains and losses from extinguishment of
debt be classified as an extraordinary item. Under SFAS 145 classification of
debt extinguishment depends on the facts and circumstances of the transaction.
SFAS 145 is effective for fiscal years beginning after May 15, 2002 and adoption
is not expected to have a material effect on the Company's financial position or
results of its operations.
In July 2002, the FASB issued Statements of Financial Accounting Standards No.
146, "Accounting for Costs Associated with Exit or Disposal Activities" (SFAS
146). SFAS 146 requires companies to recognize costs associated with exit or
disposal activities when they are incurred rather than at the date of a
commitment to an exit or disposal plan. Examples of costs covered by SFAS 146
include lease termination costs and certain employee severance costs that are
associated with a restructuring, discontinued operation, plant closing, or other
exit or disposal activity. SFAS 146 is to be applied prospectively to exit or
disposal activities initiated after December 31, 2002. The adoption of SFAS 146
is not expected to have a material effect on the Company's financial position or
results of its operations
In August 2002, the FASB issued Statements of Financial Accounting Standards No.
147, "Acquisitions of Certain Financial Institutions" (SFAS 147). SFAS 147
requires financial institutions to follow the guidance in SFAS 141 and SFAS 142
for business combinations and goodwill and intangible assets, as opposed to the
previously applied accounting literature. This statement also amends SFAS 144 to
include in its scope long-term customer relationship intangible assets of
financial institutions. The provisions of SFAS 147 do not apply to the Company.
In December 2002, the FASB issued Statements of Financial Accounting Standards
No.148, "Accounting for Stock-Based compensation - Transition and Disclosure -
an amendment of FASB Statement 123" (SFAS 123). For entities that change their
accounting for stock-based compensation from the intrinsic method to the fair
value method under SFAS 123, the fair value method is to be applied
prospectively to those awards granted after the beginning of the period of
adoption (the prospective method). The amendment permits two additional
transition methods for adoption of the fair value method. In addition to the
prospective method, the entity can choose to either (i) restate all periods
presented (retroactive restatement method) or (ii) recognize compensation cost
from the beginning of the fiscal year of adoption as if the fair value method
had been used to account for awards (modified prospective method). For fiscal
years beginning December 15, 2003, the prospective method will no longer be
allowed. The Company currently accounts for its stock-based compensation using
the intrinsic value method as proscribed by Accounting Principles Board Opinion
No. 25, "Accounting for Stock Issued to Employees" and plans on continuing using
this method to account for stock options, therefore, it does not intend to adopt
the transition requirements as specified in SFAS 148. The company will adopt the
new SFAS 148 disclosure requirements in the first quarter of fiscal 2003.
(3) ACQUISITIONS
During 2000, 2001 and 2002, the Company acquired various dental practices. In
connection with each Office acquisition, the Company entered into contractual
arrangements, including Management Agreements, which have a term of 40 years.
Pursuant to these contractual arrangements the Company manages all aspects of
the Offices, other than the provision of dental services, and believes it has
long-term and unilateral control over the assets and business operations of the
Offices. Accordingly, these acquisitions are considered business combinations
and treated under the purchase method of accounting.
48
2000 Acquisitions
During 2000, the Company did not acquire any additional dental practices but
did, however, acquire the remaining 50% interest in two existing dental
practices in Colorado. On March 13, 2000, the Company acquired the remaining 50%
interest in Perfect Teeth/East Cornell for a total purchase price of $108,728.
The consideration consisted of $68,228 in cash and a $40,500 note payable with a
term of 60 months and an interest rate of 8.0%. On June 30, 2000, the Company
acquired the remaining 50% interest in Perfect Teeth/Yale for a total purchase
price of $276,670. The consideration consisted of $141,670 in cash and a
$135,000 note payable with a term of 60 months and an interest rate of 8.0%. The
Company recorded an increase to intangible assets for the total purchase price
of the remaining 50% interest in both Offices.
2001 Acquisitions
On April 30, 2001 the Company acquired the remaining 50% interest in Perfect
Teeth/Alice P.C. for a total purchase price of approximately $869,000. The
consideration consisted of $435,000 in cash and $434,000 in notes payable with a
term of 60 months and an interest rate of 8.0%. The Company recorded an increase
to intangible assets for the total purchase price of the remaining 50% interest
in this Office.
2002 Acquisitions
On January 31, 2002 the Company acquired two-thirds of the remaining 50%
interest in Mississippi Dental Group for a total purchase price of $798,654. The
consideration consisted of $398,654 in cash and $400,000 in notes payable with a
term of 60 months and an interest rate of 8.0%. The Company recorded an increase
to intangible assets for the total purchase price of the 33% interest in this
Office. On April 1, 2002 the company acquired the remaining 50% interest in
Glendale Dental Group for a total purchase price of $1,119,496. The
consideration consisted of $560,496 in cash and $559,000 in notes payable with a
term of 60 months and an interest rate of 8.0%. The Company recorded an increase
to intangible assets for the total purchase price of the remaining 50% interest
in this Office. On October 1, 2002 the Company acquired the remaining interest
in Mississippi Dental Group for a total purchase price of $399,327. The
consideration consisted of $199,327 in cash and $200,000 in notes payable with a
term of 60 months and an interest rate of 8.0%. The Company recorded an increase
to intangible assets for the total purchase price of the remaining 17% interest
in this Office.
(4) NOTES RECEIVABLE - RELATED PARTIES
Notes receivable from related parties consist of the following:
December 31,
2001 2002
---- ----
Note receivable from Chief Executive Officer, Director and shareholder,
unsecured, principal and interest due December 31, 2002, $ 112,134 $ -
interest rate of 7% per annum.
Note receivable from President, Director and shareholder, unsecured,
principal and interest due December 31, 2002, 94,065 -
interest rate of 7% per annum.
Note receivable from Chief Financial Officer, Director and shareholder,
unsecured, principal and interest due December 31, 2002, 78,280 -
interest rate of 7% per annum.
---------- ----------
Notes receivable - related parties $ 284,479 $ -
========== ==========
49
(5) PROPERTY AND EQUIPMENT
Property and equipment consist of the following:
December 31,
2001 2002
---- ----
Dental equipment $ 4,334,655 $ 4,473,626
Furniture and fixtures 939,301 998,469
Leasehold improvements 4,126,082 4,185,162
Computer equipment, software and related items 2,433,578 2,614,112
Instruments 681,714 753,815
---------- ----------
12,515,330 13,025,184
Less - accumulated depreciation (7,146,132) (9,098,762)
---------- -----------
Property and equipment, net $ 5,369,198 $ 3,926,422
=========== ===========
(6) DEFERRED CHARGES AND OTHER ASSETS
Deferred charges and other assets consist of the following:
December 31,
2001 2002
---- ----
Deferred financing costs, net $ 67,256 $ 16,989
Deposits 149,029 150,109
---------- -----------
$ 216,285 $ 167,098
========== ===========
Deferred financing costs are related to the acquisition and amendment of the
revolving credit agreement and term loan and are being amortized over the life
of the credit agreement, which expires on April 30, 2003. (Note 8).
(7) INTANGIBLE ASSETS
Intangible assets consist of Management Agreements:
Amortization December 31,
Period 2001 2002
------------ ---- ----
Management agreements 25 years $16,668,966 $18,986,442
Less - accumulated amortization (2,753,604) (3,490,171)
----------- -----------
Intangible assets, net $13,915,362 $15,496,271
=========== ===========
50
(8) DEBT
Debt consists of the following:
December 31,
2001 2002
---- ----
Term-loan with a bank for $4.0 million, interest payable
monthly at lender's prime rate (4.25% at December 31, 2002), principal
payments of $250,000 due quarterly, collateralized by the Company's
account receivables and Management Agreements, due in April 2003. $ 3,875,000 $ 1,825,000
Revolving credit agreement with a bank not to exceed $2.0 million,
interest payable monthly at the lender's prime rate (4.25% at December
31, 2002), collateralized by the Company's account receivables and
Management
Agreements, due in April 2003. 168,000 -
Acquisition notes payable:
Due in May 2002; interest at 8%; no collateral; monthly principal
and interest payments of $2,247. 11,014 -
Due in September 2002; interest at 9%; no collateral; monthly principal and
interest payments of $2,325. 20,161 -
Due in October 2003; interest at 8%; no collateral; monthly principal
and interest payments of $2,028. 41,412 19,604
Due in February 2005; interest at 8%; no collateral; monthly principal
and interest payments of $809. 27,097 11,616
Due in June 2005; interest at 8%; no collateral; monthly principal and
interest payments of $2,737. 99,994 74,210
Due in April, 2006; interest at 8%; no collateral; monthly principal and
interest payments of $4,400. 192,892 154,112
Due in April, 2006; interest at 8%; no collateral; monthly principal and
interest payments of $4,400. 192,892 154,112
Due in January, 2007, interest at 8%, no collateral, monthly principal and
interest payments of $4,055. - 169,012
Due in January, 2007, interest at 8% no collateral, monthly principal and
interest payments of $4,055. - 169,012
Due in March, 2007, interest at 8%, no collateral, monthly principal and
interest payments of $11,335. - 488,688
Due in September, 2007, interest at 8%, no collateral, monthly principal and
interest payments of $4,055. - 191,769
-------------- -----------
$ 4,628,462 $ 3,257,135
Less - current maturities (1,332,158) (2,169,713)
-------------- -----------
Long-term debt, net of current maturities $ 3,296,304 $ 1,087,422
============== ===========
51
Credit Facility
Under the Company's Credit Facility (as amended on September 9, 2002), the
Company may borrow on a revolving basis up to the lesser of an applicable
Borrowing Base (calculated in accordance with the most recent Borrowing Base
Certificate delivered to the Lender) or $2.0 million and on a non-revolving
basis, an aggregate principal amount not in excess of $4.0 million for working
capital, for restructuring of the Original Loan and for other general corporate
purposes. Balances bear interest at the lender's prime rate. The Company is also
obligated to pay an annual facility fee of .50% on the average unused amount of
the revolving line of credit during the previous full calendar month. Borrowings
on the revolving loan are limited to an availability formula based on the
Company's eligible accounts receivable. As amended, both the revolving loan and
the non-revolving note mature on April 30, 2003. At December 31, 2002, the
Company had no borrowings outstanding and approximately $2.0 million available
for borrowing under the revolving loan and $1.825 million outstanding under the
non-revolving loan. The Credit Facility is secured by a lien on the Company's
accounts receivable and its Management Agreements. The Credit Facility prohibits
the payment of dividends and other distributions to shareholders, restricts or
prohibits the Company from incurring indebtedness, incurring liens, disposing of
assets, making investments or making acquisitions, and requires the Company to
maintain certain financial ratios on an ongoing basis. At December 31, 2002 the
Company was in full compliance with all of its covenants under this agreement.
The scheduled maturities of debt are as follows:
Years ending December 31,
2003 $ 2,169,713
2004 351,846
2005 359,561
2006 299,085
Thereafter 76,930
--------------
$ 3,257,135
==============
(9) SHAREHOLDERS' EQUITY
During 2000 the Company receivednotice fromthe NasdaqStockMarket thatthe Company
did not comply with the requirements for continued listing on the Nasdaq
National Market System. In order to satisfyNasdaq'slisting requirements for the
Nasdaq SmallCap Market, effective February 26, 2001, the Company's shareholders
approved a one-for-four reverse stock split. The SmallCap Market's maintenance
standards, among other things,require theCompany to have 1) at least 500,000
shares of Common Stock held by non-affiliates; 2) an aggregate market public
float of at least $1,000,000; 3) at least 300 shareholderswho own 100 shares of
Common Stock or more; and 4) a minimum bid price of atleast $1.00 per share.All
shares, share prices and earningsper share calculationsfor allperiods have been
restated toreflect this reverse stock split. The Common Stock has been quoted on
the Nasdaq SmallCap Market under the symbol "BDMS" since February 26, 2001.
Treasury Stock
On September 5, 2000, the Company's Board of Directors unanimously approved the
purchase of shares of the Company's Common Stock on the open market, total value
not to exceed $150,000. On May 8, 2002 the Company's Board of Directors
unanimously approved the purchase of shares of the Company's Common Stock on the
open market up to $1.0 million. On October 24, 2002 the Company's Board of
Directors unanimously approved an incremental increase of $500,000 in the amount
that could be used to purchase shares of the Company's Common Stock on the open
market to $1.5 million. During 2000, the Company, in 18 separate transactions,
purchased 26,282 shares of its Common Stock for total consideration of
approximately $113,000 at prices ranging from $3.80 to $6.68 per share. During
2002, the Company, in 93 separate transactions, purchased 117,236 shares of its
Common Stock for total consideration of approximately $1.2 million at prices
ranging from $7.35 to $11.25 per share, of which approximately $60,000 was
recorded as compensation expense in accordance with Financial Accounting
Standards Board Interpretation Number 44.
52
Stock Option Plans
The Employee Stock Option Plan (the "Employee Plan") was adopted by the Board of
Directors effective as of October 30, 1995, and as amended on September 4, 1997
and February 28, 2002, has 329,250 shares of Common Stock reserved for issuance.
The Employee Plan provides for the grant of incentive stock options to employees
(including officers and employee-directors) and non-statutory stock options to
employees, directors and consultants.
The Dental Center Stock Option Plan ("Dental Center Plan") was adopted by the
Board of Directors effective as of October 30, 1995, and as amended on September
4, 1997, has 160,475 shares of Common Stock reserved for issuance. The Dental
Center Plan provides for the grant of non-statutory stock options to P.C.s that
are parties to Management Agreements with the Company, and to dentists or dental
hygienists who are either employed by or an owner of the P.C.s. The Employee
Plan and Dental Center Plan are administered by a committee ("the Committee")
appointed by the Board of Directors, which determines recipients and types of
options to be granted, including the exercise price, the number of shares, the
grant dates, and the exercisability thereof. The term of any stock option
granted may not exceed ten years. The exercise price of options granted under
the Employee Plan and the Dental Center Plan is determined by the Committee,
provided that the exercise price of a stock option cannot be less than 100% of
the fair market value of the shares subject to the option on the date of grant,
or 110% of the fair market value for awards to more than 10% shareholders.
Options granted under the plans vest at the rate specified in the option
agreements, which generally provide that options vest in three equal annual
installments.
A summary of stock option activity under both the Employee Plan and the Dental
Center Plan as of December 31, 2000, 2001 and 2002 and changes during the years
then ended is presented below:
2000 2001 2002
---- ---- ----
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
------ -------- ------- -------- ------
Outstanding at beginning of year 146,134 $ 19.84 147,552 $ 16.23 282,899
Granted 31,500 $ 4.66 180,750 $ 2.01 5,000 $ 4.60
Canceled (30,082) $ 21.69 (45,403) $ 12.06 (21,463) $ 20.20
Exercised - $ - - $ - (45,348) $ 2.46
Outstanding at end of year 147,552 $ 16.23 282,899 $ 7.81 221,088 $ 7.64
======= ======= ======= ======= ======= ========
Exercisable at end of year 92,197 $ 20.23 92,003 $ 19.41 107,675 $ 13.43
======= ======= ======= ======= ======= ========
Weighted average remaining
contractual life at end of year 2.20 3.60 2.60
======= ======= ========
53
The following table summarizes information about the options outstanding at
December 31, 2002:
Options Outstanding Options Exercisable
------------------- -------------------
Number of Weighted Number of
Options Average Weighted Options Weighted
Outstanding at Remaining Average Exercisable at Average
December 31, Contractual Exercise December 31, Exercise
Range of Exercise Prices 2002 Life Price 2002 Price
------------------------ -------------- ----------- -------- -------------- --------
$0.00-- 7.80 147,164 3.50 $ 2.28 33,751 $ 2.74
$7.81-- 15.84 36,385 .50 $10.54 36,385 $ 10.54
$15.85-- 23.76 16,038 .80 $18.96 16,038 $ 18.96
$23.77-- 31.68 10,251 1.60 $26.88 10,251 $ 26.88
$31.69-- 39.60 11,250 .90 $34.66 11,250 $ 34.66
-------- ----- -------- ------- -------
$0.00-- 39.60 221,088 2.60 $ 7.64 107,675 $ 13.43
======== ===== ======== ======= =======
Warrants
At December 31, 2000, 2001 and 2002, there were outstanding warrants or
contractual obligations to issue warrants to purchase approximately 72,723,
7,338 and 30,000, respectively, of shares of the Company's Common Stock.
A summary of warrants as of December 31, 2000, 2001 and 2002, and changes during
the years then ended is presented below:
2000 2001 2002
---- ---- ----
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
------ -------- ------ -------- ------ -------
Outstanding at beginning of year 95,266 $15.24 72,723 $ 17.53 7,338 $ 24.14
Granted - - - - 30,000 $ 5.06
Cancelled (22,543) - (65,385) - (7,338) $ 24.14
Outstanding at end of year 72,723 $ 17.53 7,338 $ 24.14 30,000 $ 5.06
====== ======= ====== ======= ====== =======
Exercisable at end of year 72,723 $ 17.53 7,338 $ 24.14 - $ -
====== ======= ====== ======= ====== =======
Weighted average remaining
contractual life at end of year .70 .50 4.10
======= ======= =======
54
The Company uses the intrinsic value method to account for options granted to
employees and directors. For purposes of the pro forma disclosures under SFAS
No. 123 presented below, the Company has computed the fair values of all
non-compensatory options and warrants granted to employees, directors and
dentists using the Black-Scholes pricing model and the following weighted
average assumptions:
2000 2001 2002
---- ---- ----
Risk-free interest rate 6.27% 3.79% 3.49%
Expected dividend yield 0% 0% 0%
Expected lives 3.6 years 3.5 years 3.4 years
Expected volatility 106% 77% 63%
To estimate lives of options for this valuation, it was assumed options will be
exercised one year after becoming fully vested. All options are initially
assumed to vest. Cumulative compensation cost recognized in pro forma net income
or loss with respect to options that are forfeited prior to vesting is adjusted
as a reduction of pro forma compensation expense in the period of forfeiture.
Fair value computations are highly sensitive to the volatility factor assumed;
the greater the volatility, the higher the computed fair value of options
granted.
The total fair value of options and warrants granted was computed to be
approximately $103,000, $203,000, and $72,000 for the years ended December 31,
2000, 2001, and 2002, respectively. These amounts are amortized ratably over the
vesting periods of the options or recognized at the date of grant if no vesting
period is required. Pro forma stock-based compensation, net of the effect of
forfeitures, was $264,058, $177,772 and $109,382 for the years ended December
31, 2000, 2001 and 2002, respectively.
If the Company had accounted for its stock-based compensation plans in
accordance with SFAS No. 123, the Company's net income (loss) and net income
(loss) per common share would have been reported as follows:
2000 2001 2002
---- ---- ----
Net income (loss):
As reported $ (320,902) $ 250,526 $933,686
========== ========== ========
Pro forma $ (516,305) $ 130,438 $865,651
========== ========== ========
Net income (loss) per share, basic:
As reported $ (.21) $ .17 $ .63
========== ========== ========
Pro forma $ (.34) $ .09 $ .58
========== ========== ========
Weighted average shares used to calculate pro forma net income (loss) per share
were determined as described in Note 2, except in applying the treasury stock
method to outstanding options, net proceeds assumed received upon exercise were
increased by the amount of compensation cost attributable to future service
periods and not yet recognized as pro forma expense.
55
(10) COMMITMENTS AND CONTINGENCIES
Operating Lease Obligations
The Company leases office space under leases accounted for as operating leases.
The original lease terms are generally one to five years with options to renew
the leases for specific periods subsequent to their original terms. Rent expense
for these leases totaled $2,516,275, $2,596,248 and $2,660,821 for the years
ended December 31, 2000, 2001, and 2002 respectively. Rent expense for leases
with related parties (affiliated dentists) for the years ended December 31,
2000, 2001, and 2002 totaled $46,442, $27,600, and $27,600, respectively.
Future minimum lease commitments for operating leases with remaining terms of
one or more years are as follows:
Years ending December 31,
2003 $ 2,065,576
2004 1,617,630
2005 1,299,713
2006 911,712
2007 449,375
Thereafter 139,415
-----------
$ 6,483,421
===========
Certain of the Company's office space leases are structured to include scheduled
and specified rent increases over the lease term. The Company has recognized the
effects of these rent escalations on a straight-line basis over the lease terms.
Litigation
From time to time the Company is subject to litigation incidental to its
business, which could include litigation as a result of the dental services
provided at the Offices, although the Company does not engage in the practice of
dentistry or control the practice of dentistry. The Company maintains general
liability insurance for itself and provides for professional liability insurance
to the dentists, dental hygienists and dental assistants at the Offices.
Management believes the Company is not presently a party to any material
litigation.
(11) INCOME TAXES
The Company accounts for income taxes through recognition of deferred tax assets
and liabilities for the expected future income tax consequences of events, which
have been included in the financial statements or tax returns. Under this
method, deferred tax assets and liabilities are determined based on the
difference between the financial statement and tax basis of assets and
liabilities using enacted tax rates in effect for the year in which the
differences are expected to reverse.
Income tax expense (benefit) for the years ended December 31, consists of the
following:
2000 2001 2002
---- ---- ----
Current:
Federal $ - $ 48,479 $ 360,115
State - - 34,322
--------------- ------------- -------------
- 48,479 394,437
--------------- ------------- -------------
Deferred:
Federal (98,445) 67,863 184,540
State (14,311) 4,470 (11,616)
--------------- ------------- -------------
(112,756) 72,333 172,924
--------------- ------------- -------------
Total income expense (benefit) $ (112,756) $ 120,812 $ 567,361
=============== ============= =============
56
The Company's effective tax rate differs from the statutory rate due to the
impact of the following (expressed as a percentage of income (loss) before
income taxes):
2000 2001 2002
---- ---- ----
Statutory federal income tax
expense (benefit) (34.0)% 34.0% 34.0%
State income tax expense (benefit) (3.3) 3.3 3.3
Effect of permanent differences -
travel and entertainment expenses 13.3 (4.7) 1.2
Other (2.0) (.7)
-------- ----- -----
(26.0)% 32.6% 37.8%
======== ===== =====
Temporary differences comprise the deferred tax assets and liabilities in the
consolidated balance sheet as follows:
December 31,
2001 2002
---- ----
Deferred tax assets current:
Accruals not currently deductible $ 36,944 $ 41,246
Allowance for doubtful accounts 75,270 79,376
----------- -----------
112,214 120,622
Deferred tax assets long-term:
Tax loss carryforwards 280,924 -
Benefit of AMT tax credit 165,768 174,666
Depreciation for tax under books 374,840 651,715
----------- -----------
821,532 826,381
Deferred tax liabilities long-term:
Intangible asset amortization for tax
over books (717,458) (903,638)
Deferred equity tax asset - 52,999
----------- -----------
(717,458) (850,639)
----------- -----------
Net deferred tax asset $ 216,288 $ 96,364
=========== ===========
The tax benefits associated with the exercise of non-qualified options in 2002
reduced the taxes payable at December 31, 2002 by approximately $42,000 and
created a $52,999 deferred tax equity benefit.
The Company is aware of the risk that the recorded deferred tax assets may not
be realizable. However, management believes that it will obtain the full benefit
of the deferred tax assets on the basis of its evaluation of the Company's
anticipated profitability over the period of years that the temporary
differences are expected to become tax deductions. It believes that sufficient
book and taxable income will be generated to realize the benefit of these tax
assets.
(12) BENEFIT PLANS
Profit Sharing 401(k)/Stock Bonus Plan
The Company has a 401(k)/stock bonus plan. Eligible employees may make voluntary
contributions to the plan, which may be matched by the Company, at its
discretion, up to 50% of the first 6% of each employee's contribution. In
addition, the Company may make profit sharing contributions during certain
years, which may be made, at the Company's discretion, in cash or in Common
Stock of the Company. The plan was established effective April 1, 1997. For the
years ended December 31, 2001 and 2002 the Company did not make any
contributions to the plan.
57
Other Company Benefits
The Company provides a health and welfare benefit plan to all regular full-time
employees. The plan includes health and life insurance, and a cafeteria plan. In
addition, regular full-time and regular part-time employees are entitled to
certain dental benefits.
(13) DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
SFAS No. 107, "Disclosures About Fair Value of Financial Instruments," requires
disclosure about the fair value of financial instruments. Carrying amounts for
all financial instruments included in current assets and current liabilities
approximate estimated fair values due to the short maturity of those
instruments. The fair values of the Company's note payable are based on similar
rates currently available to the Company. The carrying values and estimated fair
values were estimated to be substantially the same at December 31, 2001 and
2002.
(14) QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
The following summarizes certain quarterly results of operations:
Net Income
Contribution (Loss) Per
From Net Share of
Net Dental Income Common
Revenue Offices (Loss) Stock (Diluted)
------- ------- ------ ---------------
2000 quarter ended:
March 31, 2000 $ 7,802,571 $ 1,232,713 $ 62,155 $ .04
June 30, 2000 7,810,220 1,329,177 128,898 .09
September 30, 2000 6,998,659 756,847 (168,935) (.11)
December 31, 2000 6,807,322 624,784 (343,020) (.21)
------------- ----------- ---------- ---------
$ 29,418,772 $ 3,943,521 $ (320,902) $ (.21)
============= =========== ========== =========
2001 quarter ended:
March 31, 2001 $ 7,714,671 $ 1,038,462 $ (175,243) $ (.12)
June 30, 2001 7,518,664 1,040,640 118,338 .08
September 30, 2001 7,049,075 924,001 125,725 .08
December 31, 2001 6,966,923 1,088,606 181,436 .12
------------ ----------- ---------- ---------
$ 29,249,333 $ 4,091,709 $ 250,256 $ .16
============= =========== ========== =========
2002 quarter ended:
March 31, 2002 $ 7,767,614 $ 1,474,771 $ 237,546 $ .15
June 30, 2002 7,633,596 1,244,791 242,053 .15
September 30, 2002 7,558,588 1,279,631 263,946 .16
December 31, 2002 7,294,951 1,150,567 190,141 .12
------------- ----------- ------- ---------
$ 30,254,749 $ 5,149,760 $ 933,686 $ .58
============= =========== ========== =========
(15) SUBSEQUENT EVENTS
On February 19, 2003 the Company's Board of Directors unanimously approved an
increase, to $2.4 million from $1.5 million, in the amount that could be used to
purchase shares of the Company's Common Stock on the open market.
58
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
ITEM 11. EXECUTIVE COMPENSATION.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
Pursuant to instruction G (3) to Form 10-K, Items 10, 11, 12 and 13 are omitted
because the Company will file a definitive proxy statement (the "Proxy
Statement") pursuant to Regulation 14A under the Securities Exchange Act of 1934
not later than 120 days after the close of the fiscal year. The information
required by such items will be included in the Proxy Statement to be so filed
for the Company's annual meeting of shareholders to be held on or about June 3,
2003 and is hereby incorporated by reference.
ITEM 14. CONTROLS AND PROCEDURES
As of February 19, 2003, an evaluation was completed under the supervision and
with the participation of the Company's management, including the Company's
Chief Executive Officer and Chief Financial Officer, of the effectiveness of the
design and operation of the Company's disclosure controls and procedures. Based
on that evaluation, the Company's management including the Chief Executive
Officer and Chief Financial Officer, concluded that the Company's disclosure
controls and procedures were effective as of February 19, 2003. There have been
no significant changes to the Company's internal controls or other factors that
could significantly affect internal controls subsequent to February 19, 2003.
59
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
(a)(1) Financial Statements:
Report of Independent Public Accountants
Consolidated Balance Sheets -
December 31, 2001 and 2002
Consolidated Statements of Operations -
Years ended December 31, 2000, 2001 and 2002
Consolidated Statements of Shareholders' Equity - Years ended
December 31, 2000, 2001 and 2002
Consolidated Statements of Cash Flows - Years ended December
31, 2000, 2001 and 2002
Notes to Consolidated Financial Statements
(2) Financial Statement Schedules:
Report of Independent Public Accountants on Schedule
II - Valuation and Qualifying Accounts -
Three Years Ended December 31, 2002
Inasmuch as Registrant is primarily a holding company and all subsidiaries are
wholly owned, only consolidated statements are being filed. Schedules other than
those listed above are omitted because of the absence of the conditions under
which they are required or because the information is included in the financial
statements or notes to the financial statements.
(b) Reports on Form 8-K:
None.
60
(c) Exhibits:
Exhibit
Number Description of Document
3.1 Amended and Restated Articles of Incorporation, incorporated
herein by reference to Exhibit 3.1 to the Company's Registration
Statement on Form S-1 (SEC File No. 333-36391), as filed with the
Securities and Exchange Commission on September 25, 1997.
3.2 Amended and Restated Bylaws, incorporated herein by reference to
Exhibit 3.3 to the Company's Registration Statement on Form S-1 (SEC
File No. 333-36391), as filed with the Securities and Exchange
Commission on September 25, 1997.
4.1 Reference is made to Exhibits 3.1 through 3.2.
4.2 Specimen Stock Certificate, incorporated herein by reference to
Exhibit 4.2 to the Company's Registration Statement on Form S-1 (SEC
File No. 333-36391), as filed with the Securities and Exchange
Commission on September 25, 1997.
10.1 Form of Indemnification Agreement entered into between the
Registrant and its Directors and Executive Officers, incorporated
herein by reference to Exhibit 10.1 to the Company's Registration
Statement on Form S-1 (SEC File No. 333-36391), as filed with the
Securities and Exchange Commission on September 25, 1997.
10.2 Warrant Agreement dated December 27, 1996, between the
Registrant and Cohig & Associates, Inc., incorporated herein by
reference to Exhibit 10.2 to the Company's Registration Statement on
Form S-1 (SEC File No. 333-36391), as filed with the Securities and
Exchange Commission on September 25, 1997.
10.3 Warrant Agreement dated May 29, 1996, between the Registrant and
Cohig, incorporated herein by reference to Exhibit 10.3 to the
Company's Registration Statement on Form S-1 (SEC File No. 333-36391),
as filed with the Securities and Exchange Commission on September 25,
1997.
10.4 Warrant Agreement dated October 3, 1995, between the Registrant
and Cohig, incorporated herein by reference to Exhibit 10.4 to the
Company's Registration Statement on Form S-1 (SEC File No. 333-36391),
as filed with the Securities and Exchange Commission on September 25,
1997.
10.5 Warrant Certificate dated June 30, 1997, issued to Fred Birner,
incorporated herein by reference to Exhibit 10.5 to the Company's
Registration Statement on Form S-1 (SEC File No. 333-36391), as filed
with the Securities and Exchange Commission on September 25, 1997.
10.6 Warrant Certificate dated November 1, 1996, issued to Fred
Birner, incorporated herein by reference to Exhibit 10.6 to the
Company's Registration Statement on Form S-1 (SEC File No. 333-36391),
as filed with the Securities and Exchange Commission on September 25,
1997.
10.7 Warrant Certificate dated June 30, 1997, issued to Mark Birner,
incorporated herein by reference to Exhibit 10.7 to the Company's
Registration Statement on Form S-1 (SEC File No. 333-36391), as filed
with the Securities and Exchange Commission on September 25, 1997.
10.8 Warrant Certificate dated November 1, 1996, issued to Mark
Birner, incorporated herein by reference to Exhibit 10.8 to the
Company's Registration Statement on Form S-1 (SEC File No. 333-36391),
as filed with the Securities and Exchange Commission on September 25,
1997.
10.9 Warrant Certificate dated June 30, 1997, issued to Dennis
Genty, incorporated herein by reference to Exhibit 10.9 to the
Company's Registration Statement on Form S-1 (SEC File No. 333-36391),
as filed with the Securities and Exchange Commission on September 25,
1997.
10.10 Warrant Certificate dated November 1, 1996, issued to Dennis
Genty, incorporated herein by reference to Exhibit 10.10 to the
Company's Registration Statement on Form S-1 (SEC File No. 333-36391),
as filed with the Securities and Exchange Commission on September 25,
1997.
10.11 Warrant Certificate dated August 1, 1996, issued to James
Ciccarelli, incorporated herein by reference to Exhibit 10.11 to the
Company's Registration Statement on Form S-1 (SEC File No. 333-36391),
as filed with the Securities and Exchange Commission on September 25,
1997.
10.12 Warrant Certificate dated July 15, 1997 issued to James
Ciccarelli, incorporated herein by reference to Exhibit 10.12 to the
Company's Registration Statement on Form S-1 (SEC File No. 333-36391),
as filed with the Securities and Exchange Commission on September 25,
1997.
10.13 Credit Agreement, dated October 31, 1996, between the Registrant
and Key Bank of Colorado, as amended by First Amendment to Loan
Documents, dated as of September 3, 1997, incorporated herein by
reference to Exhibit 10.13 to the Company's Registration Statement on
Form S-1 (SEC File No. 333-36391), as filed with the Securities and
Exchange Commission on September 25, 1997.
10.14 Form of Managed Care Contract with Prudential, incorporated
herein by reference to Exhibit 10.14 to the Company's Registration
Statement on Form S-1 (SEC File No. 333-36391), as filed with the
Securities and Exchange Commission on September 25, 1997.
61
10.15 Form of Managed Care Contract with PacifiCare, incorporated
herein by reference to Exhibit 10.15 to the Company's Registration
Statement on Form S-1 (SEC File No. 333-36391), as filed with the
Securities and Exchange Commission on September 25, 1997.
10.16 Letter Agreement dated October 17, 1996, between the Registrant
and James Ciccarelli, as amended by letter agreement dated September
24, 1997 between the Registrant and James Ciccarelli, incorporated
herein by reference to Exhibit 10.16 to the Company's Registration
Statement on Form S-1 (SEC File No. 333-36391), as filed with the
Securities and Exchange Commission on September 25, 1997.
10.17 Agreement, dated August 21, 1997, between the Registrant and
James Abramowitz, D.D.S., and Equity Resources Limited Partnership, a
Colorado limited partnership, incorporated herein by reference to
Exhibit 10.17 to the Company's Registration Statement on Form S-1 (SEC
File No. 333-36391), as filed with the Securities and Exchange
Commission on September 25, 1997.
10.18 Form of Management Agreement, incorporated herein by reference
to Exhibit 10.18 to the Company's Registration Statement on Form S-1
(SEC File No. 333-36391), as filed with the Securities and Exchange
Commission on September 25, 1997.
10.19 Employment Agreement dated September 8, 1997 between the
Registrant and James Abramowitz, D.D.S., incorporated herein by
reference to Exhibit 10.19 to the Company's Registration Statement on
Form S-1 (SEC File No. 333-36391), as filed with the Securities and
Exchange Commission on September 25, 1997.
10.20 Form of Stock Transfer and Pledge Agreement, incorporated herein
by reference to Exhibit 10.20 to the Company's Registration Statement
on Form S-1 (SEC File No. 333-36391), as filed with the Securities and
Exchange Commission on September 25, 1997.
10.21 Indenture, dated as of December 27, 1996, between the Registrant
and Colorado National Bank, a national banking association, as
Trustee, incorporated herein by reference to Exhibit 10.21 to the
Company's Registration Statement on Form S-1 (SEC File No. 333-36391),
as filed with the Securities and Exchange Commission on September 25,
1997.
10.22 Indenture, dated as of May 15, 1996, between the Registrant and
Colorado National Bank, a national banking association, as Trustee,
incorporated herein by reference to Exhibit 10.22 to the Company's
Registration Statement on Form S-1 (SEC File No. 333-36391), as filed
with the Securities and Exchange Commission on September 25, 1997.
10.23 Birner Dental Management Services, Inc. 1995 Employee Stock Option
Plan, including forms of Incentive Stock Option Agreement and
Non-statutory Stock Option Agreement under the Employee Plan,
incorporated herein by reference to Exhibit 10.23 to the Company's
Registration Statement on Form S-1 (SEC File No. 333-36391), as filed
with the Securities and Exchange Commission on September 25, 1997.
10.24 Birner Dental Management Services, Inc. 1995 Stock Option Plan for
Managed Dental Centers, including form of Non-statutory Stock Option
Agreement under the Dental Center Plan, incorporated herein by
reference to Exhibit 10.24 to the Company's Registration Statement on
Form S-1 (SEC File No. 333-36391), as filed with the Securities and
Exchange Commission on September 25, 1997.
10.25 Profit Sharing 401(k)/Stock Bonus Plan of the Registrant, incorporated
herein by reference to Exhibit 10.25 to the Company's Registration
Statement on Form S-1 (SEC File No. 333-36391), as filed with the
Securities and Exchange Commission on September 25, 1997.
10.26 Form of Stock Transfer and Pledge Agreement with Mark Birner, D.D.S.,
incorporated herein by reference to Exhibit 10.26 of Pre-Effective
Amendment No. 1 to the Company's Registration Statement on Form S-1
(SEC File No. 333-36391), as filed with the Securities and Exchange
Commission on November 7, 1997.
10.27 Stock Purchase, Pledge and Security Agreement, dated October 27, 1997,
between the Company and William Bolton, D.D.S., incorporated herein by
reference to Exhibit 10.27 of Pre-Effective Amendment No. 1 to the
Company's Registration Statement on Form S-1 (SEC File No. 333-36391),
as filed with the Securities and Exchange Commission on November 7,
1997.
10.28 Stock Purchase, Pledge and Security Agreement, dated October 27, 1997,
between the Company and Scott Kissinger, D.D.S., incorporated herein by
reference to Exhibit 10.28 of Pre-Effective Amendment No. 1 to the
Company's Registration Statement on Form S-1 (SEC File No. 333-36391),
as filed with the Securities and Exchange Commission on November 7,
1997.
10.29 Second Amendment to Loan Documents dated November 19, 1997
between the Registrant and Key Bank of Colorado, incorporated herein
by reference to Exhibit 10.29 of Pre-Effective Amendment No. 2 to the
Company's Registration Statement on Form S-1 (SEC File No. 333-36391),
as filed with the Securities and Exchange Commission on November 25,
1997.
62
10.30 Form of Financial Consulting Agreement between the Company and Joseph
Charles & Associates, Inc., incorporated herein by reference to Exhibit
10.30 of Post-Effective Amendment No. 2 to the Company's Registration
Statement on Form S-1 (SEC File No. 333-36391), as filed with the
Securities and Exchange Commission on January 14, 1998.
10.31 Form of Purchase Option for the Purchase of Shares of Common Stock
granted to Joseph Charles & Associates, Inc., incorporated herein by
reference to Exhibit 10.31 of Post-Effective Amendment No. 2 to the
Company's Registration Statement on Form S-1 (SEC File No. 333-36391),
as filed with the Securities and Exchange Commission on January 14,
1998.
10.32 Third Amendment to Loan Documents date September 31, 1998 between the
Registrant and Key Bank of Colorado, incorporated herein by reference
to Exhibit 10.32 of the Company's Form 10-Q for the quarterly period
ended September 30, 1998 filed with the Securities and Exchange
Commission on November 16, 1998.
10.33 Fourth Amendment to Loan Document dated December 31, 1998
between the Registrant and Key Bank of Colorado, incorporated herein
by reference to Exhibit 10.33 of the Company's Form 10-K for the
annual period ended December 31, 1998 filed with the Securities and
Exchange Commission on March 31, 1999.
10.34 Fifth Amendment to Loan Document dated May 28, 1999 between the
Registrant and Key Bank of Colorado, incorporated herein by reference
to Exhibit 10.34 of the Company's Form 10-Q for the quarterly period
ended June 30, 1999 filed with the Securities and Exchange Commission
on August 12, 1999.
10.35 Sixth Amendment to Loan Document dated September 20, 1999
between the Registrant and Key Bank of Colorado, incorporated herein
by reference to Exhibit 10.35 of the Company's Form 10-Q for the
quarterly period ended September 30, 1999 filed with the Securities
and Exchange Commission on November 15, 1999.
10.36 Seventh Amendment to Loan Document dated March 24, 2000 between
the Registrant and Key Bank of Colorado, incorporated herein by
reference to Exhibit 10.36 of the Company's Form 10-K for the annual
period ended December 31, 1999 filed with the Securities and Exchange
Commission on March 30, 2000.
10.37 Eighth Amendment to Loan Document dated September 29, 2000
between Registrant and Key Bank of Colorado, incorporated herein by
reference to Exhibit 10.37 of the Company's Form 10-Q for the
quarterly period ended September 30, 2000 filed with the Securities
and Exchange Commission on November 13, 2000.
10.38 Amended and Restated Credit Agreement dated December 17, 2001
between Registrant and Key Bank of Colorado, incorporated herein as
Exhibit 10.38 of the Company's Form 10-K for the annual period ended
December 31, 2001.
10.39 First Amendment to Amended and Restated Credit Agreement dated
April 30, 2002 between Registrant and Key Bank of Colorado,
incorporated herein as Exhibit 10.39 of the Company's Form 10-Q for
the quarterly period ended March 31, 2002 filed with the Securities
and Exchange Commission on May 6, 2002.
10.40 Second Amendment to Amended and Restated Credit Agreement dated
September 9, 2002 between Registrant and Key Bank of Colorado,
incorporated herein as Exhibit 10.40 of the Company's Form 10-Q for
the quarterly period ended September 30. 2002 filed with the
Securities and Exchange Commission on November 8, 2002.
63
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.
BIRNER DENTAL MANAGEMENT SERVICES, INC.
a Colorado corporation
/s/ Frederic W.J. Birner Chairman of the Board, Chief Executive March 21, 2003
- -------------------------------------
Frederic W.J. Birner Officer and Director (Principal Executive
Officer)
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/ Frederic W.J. Birner Chairman of the Board, Chief Executive March 21, 2003
- -------------------------------------
Frederic W.J. Birner Officer and Director (Principal Executive
Officer)
/s/ Mark A. Birner President and Director March 21, 2003
- -------------------------------------
Mark A. Birner, D.D.S.
/s/ Dennis N. Genty Chief Financial Officer, Secretary, March 21, 2003
- -------------------------------------
Dennis N. Genty Treasurer and Director (Principal
Financial and Accounting Officer)
/s/ James M. Ciccarelli Director March 21, 2003
- -------------------------------------
James M. Ciccarelli
/s/ Brooks G. O'Neil Director March 21, 2003
- -------------------------------------
Brooks G. O'Neil
/s/ Paul E. Valuck Director March 21, 2003
- -------------------------------------
Paul E. Valuck D.D.S.
64
CERTIFICATION
I, Frederic W.J. Birner, Chief Executive Officer, certify that:
1. I have reviewed this annual report on Form 10-K of Birner Dental Management
Services, Inc.;
2. Based on my knowledge, this annual report does not contain any untrue
statement of material fact or omit to state a material fact necessary
to make the statements made, in light of the circumstances under which
such statements were made, not misleading with respect to the period
covered by this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the Registrant as of, and for, the periods presented in
this annual report;
4. The Registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the Registrant and have:
a) designed such disclosure controls and procedures to ensure
that material information relating to the Registrant,
including its consolidated subsidiaries, is made known to us
by others within those entities, particularly during the
period in which this annual report is being prepared;
b) evaluated the effectiveness of the Registrant's disclosure
controls and procedures as of a date within 90 days prior to
the filing date of this annual report (the "Evaluation Date");
and
c) presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based
on our evaluation as of the Evaluation Date;
5. The Registrant's other certifying officer and I have disclosed, based
on our most recent evaluation, to the Registrant's auditors and the
audit committee of Registrant's board of directors (or persons
performing the equivalent functions):
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the
Registrant's ability to record, process, summarize and report
financial data and have identified for the Registrant's
auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management
or other employees who have a significant role in the
Registrant's internal controls; and
6. The Registrant's other certifying officers and I have
indicated in this annual report whether or not there were
significant changes in internal controls or in other factors
that could significantly affect internal controls subsequent
to the date of my most recent evaluation, including any
corrective actions with regard to significant deficiencies and
material weaknesses.
March 21, 2003 By: /s/ Frederic W.J. Birner
----------------------------------------
Name: Frederic W.J. Birner
Title: Chairman of the Board, Chief Executive Officer
and Director
(Principal Executive Officer)
65
CERTIFICATION
I, Dennis N. Genty, Chief Financial Officer, certify that:
1. I have reviewed this annual report on Form 10-K of Birner Dental
Management Services, Inc.;
2. Based on my knowledge, this annual report does not contain any untrue
statement of material fact or omit to state a material fact necessary
to make the statements made, in light of the circumstances under which
such statements were made, not misleading with respect to the period
covered by this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the Registrant as of, and for, the periods presented in
this annual report;
4. The Registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the Registrant and
have:
a) designed such disclosure controls and procedures to ensure
that material information relating to the Registrant,
including its consolidated subsidiaries, is made known to us
by others within those entities, particularly during the
period in which this annual report is being prepared;
b) evaluated the effectiveness of the Registrant's disclosure
controls and procedures as of a date within 90 days prior to
the filing date of this annual report (the "Evaluation Date");
and
c) presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based
on our evaluation as of the Evaluation Date;
5. The Registrant's other certifying officer and I have disclosed, based
on our most recent evaluation, to the Registrant's auditors and the
audit committee of Registrant's board of directors (or persons
performing the equivalent functions):
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the
Registrant's ability to record, process, summarize and report
financial data and have identified for the Registrant's
auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management
or other employees who have a significant role in the
Registrant's internal controls; and
6. The Registrant's other certifying officers and I have indicated in this
annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of my most recent evaluation, including
any corrective actions with regard to significant deficiencies and
material weaknesses.
March 21, 2003 By: /s/ Dennis N. Genty
-------------------------------
Name: Dennis N. Genty
Title: Chief Financial Officer, Secretary, Treasurer
and Director
(Principal Financial Officer)
66
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
We have audited in accordance with auditing standards generally accepted in the
United States, the consolidated financial statements of Birner Dental Management
Services, Inc. for the years ended December 31, 2001 and 2002 included in this
Form 10-K and have issued our report thereon dated February 11, 2003. Our audits
were made for the purpose of forming an opinion on the basic financial
statements taken as a whole. This Schedule II - Valuation and Qualifying
Accounts is the responsibility of the Company's management and is presented for
purposes of complying with the Securities and Exchange Commission's rules and is
not part of the basic financial statements. The information included in this
schedule for the years ended December 31, 2001 and 2002 have been subjected to
the auditing procedures applied in the audits of the basic financial statements
and, in our opinion, fairly states in all material respects the financial data
required to be set forth therein in relation to the basic financial statements
taken as a whole.
Hein + Associates LLP
Denver, Colorado,
February 11, 2003.
67
The following report of independent public accountants is a copy of a previously
issued Arthur Andersen LLP report and has not been reissued by Arthur Andersen
LLP.
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
We have audited in accordance with auditing standards generally accepted in the
United States, the consolidated financial statements of Birner Dental Management
Services, Inc. for the years ended December 31, 1999 and 2000 included in this
Form 10-K and have issued our report thereon dated March 2, 2001. Our audit was
made for the purpose of forming an opinion on the basic financial statements
taken as a whole. This Schedule II - Valuation and Qualifying Accounts is the
responsibility of the Company's management and is presented for purposes of
complying with the Securities and Exchange Commission's rules and is not part of
the basic financial statements. The information included in this schedule for
the years ended December 31, 1999 and 2000 has been subjected to the auditing
procedures applied in the audit of the basic financial statements and, in our
opinion, fairly states in all material respects the financial data required to
be set forth therein in relation to the basic financial statements taken as a
whole.
ARTHUR ANDERSEN LLP
Denver, Colorado,
March 2, 2001.
68
Birner Dental Management Services, Inc. and Subsidiaries
Financial Statement Schedule
II - Valuation and Qualifying Accounts
Allowance for Doubtful Accounts
Column C - Additions
--------------------
Column B
Balance at Charged to Charged to Column E
Column A beginning of costs and other Column D Balance at end
Description period expenses accounts * Deductions** of period
----------- ------ -------- ---------- ------------ ---------
2002 $ 201,795 $ 11,008 $ - $ - $ 212,803
2001 $ 201,047 $ 748 $ - $ - $ 201,795
2000 $ 306,469 $ 2,963 $ - $ (108,385) $ 201,047
* Allowance recorded, as the result of accounts receivable acquired. **Charges
to the account are for the purpose for which the reserves were created.
69
CERTIFICATION OF 10-K REPORT
OF
BIRNER DENTAL MANAGEMENT SERVICES, INC.
FOR THE YEAR ENDED DECEMBER 31, 2002
1. The undersigned are the Chief Executive Officer and the Chief Financial
Officer of Birner Dental Management Services, Inc. This Certification
is made pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. This
Certification accompanies the 10-K Report of Birner Dental Management
Services, Inc. for the year ended December 31, 2002.
2. We certify that such 10-K Report fully complies with the requirements
of Section 13(a) or 15(d) of the Securities Exchange Act of 1934 and
that the information contained in such 10-K Report fairly presents, in
all material respects, the financial condition and results of
operations of Birner Dental Management Services, Inc.
This Certification is executed as of March 21, 2003.
By: /s/ Frederic W.J. Birner
-------------------------------------------------
Name: Frederic W.J. Birner
Title: Chairman of the Board, Chief Executive Officer
and Director
(Principal Executive Officer)
By: /s/ Dennis N. Genty
--------------------------------------------------
Name: Dennis N. Genty
Title: Chief Financial Officer, Secretary, Treasurer
and Director
(Principal Financial and Accounting Officer)
70