SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark One)
[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
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from: _______ to ________.
COMMISSION FILE NO. 1-12451
NEW YORK HEALTH CARE, INC.
(Exact name of registrant as specified in its charter)
New York 11-2636089
(State of other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
1850 McDonald Avenue, Brooklyn, New York 11223
(Address of principal executive offices) (Zip Code)
Issuer's telephone number, including area code: (718) 375-6700
Securities issued pursuant to Section 12(b) of the Act:
Name of exchange on
Title of each class which registered
------------------- ----------------
Common Stock $.01 par value Boston Stock Exchange
Securities registered pursuant to Section 12(g) of the Act:
Common Stock $.01 par value
1
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 (the "Act") during the preceding 12 months (or for such shorter period that
the registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes X No
- -
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). [ ]
State the aggregate market value of the voting and non-voting common equity
held by non-affiliates computed by reference to the price at which the common
equity was last sold, or the average bid and asked price of such common equity,
as of the last business day of the registrant's most recently completed second
fiscal quarter. $83,169,511 (last sale as of 6/28/02).
(APPLICABLE ONLY TO CORPORATE REGISTRANTS)
Indicate the number of shares outstanding of each of the issuer's class of
common stock, as of the latest practicable date: 23,918,974
DOCUMENTS INCORPORATED BY REFERENCE
List hereunder the following documents if incorporated by reference and the
Part of the Form 10-K into which the document is incorporated: (1) Any annual
report to security holders; (2) Any proxy or information statement; and (3) Any
prospectus filed pursuant to Rule 424(b) or (c) under the Securities Act of
1933. None.
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FORWARD LOOKING STATEMENTS
Information provided by the Company and its Bio Balance subsidiary in this
annual report contains, and from time to time the Company may disseminate
materials and make statements which may contain, "forward-looking" information,
as that term is defined by the Private Securities Litigation Reform Act of 1995
(the "Act"). In particular, the information contained in "Management's
Discussion and Analysis of Financial Condition and Results of
Operation-Liquidity and Capital Resources" contains information concerning the
ability of the Company to service its obligations and other financial
commitments as they come due and "Company Strategy" contains information
regarding management's belief concerning the growth opportunities available to
the Company. The aforementioned forward looking statements, as well as other
forward looking statements made in this annual report are qualified in their
entirety by these cautionary statements, which are being made pursuant to the
provisions of the Act and with the intention of obtaining the benefits of the
"safe harbor" provisions of the Act.
The Company cautions investors that any forward-looking statements it makes
are not guarantees of future performance and that actual results may differ
materially from those in the forward-looking statements as a result of various
factors, including, but not limited to, the following:
(a) In recent years, an increasing number of legislative proposals have
been introduced or proposed by Congress and in some state legislatures which
would effect major changes in the healthcare system. However, the Company
cannot predict the form of healthcare reform legislation, which may be proposed
or adopted by Congress or by state legislatures. Accordingly, the Company is
unable to assess the effect of any such legislation on its business. There can
be no assurance that any such legislation will not have a material adverse
impact on the future growth, revenues and net income of the Company.
(b) The Company derives substantial portions of its revenues from
third-party payers including, both directly and indirectly, government
reimbursement programs such as Medicare and Medicaid and some portions of its
revenues from non-governmental sources, such as commercial insurance companies,
health maintenance organizations and other charge-based contracted payment
sources. Both government and non-government payers have undertaken
cost-containment measures designed to limit payments to healthcare providers.
There can be no assurance that payments under governmental and non-governmental
payer programs will be sufficient to cover the costs allocable to eligible
patients. The Company cannot predict whether or what proposals or
cost-containment measures will be adopted or, if adopted and implemented, what
effect, if any, such proposals might have on the operations of the Company.
(c) The Company is subject to extensive federal, state and local
regulations governing licensure, conduct of operations at existing facilities,
construction of new facilities, purchase or lease of existing facilities,
addition of new services, certain capital expenditures, cost-containment and
reimbursement for services rendered. The failure to obtain or renew required
regulatory approvals or licenses, the delicensing of facilities owned, leased or
operated by the Company or the disqualification of the Company from
participation in certain federal and state reimbursement programs could have a
material adverse effect upon the operations of the Company.
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(d) There can be no assurance that the Company will be able to continue
its substantial historical growth or be able to fully implement its business
strategies or that management will be able to successfully integrate the
operations of its various acquisitions.
(e) Bio Balance's business plans are subject to a variety of matters,
including but not limited to (i) trends effecting the treatment of Irritable
Bowel Syndrome, (ii) United States Food and Drug Administration regulations,
(iii) the possibility of rapid advances in treatment, (iv) the impact of
competition from substantially larger companies, (v) the possible introduction
of new products, (vi) Bio Balance's need for alliances with potential
manufacturers and marketing organizations, and (vii) other matters.
PART I
ITEM 1. BUSINESS
GENERAL
New York Health Care, Inc. ("we" or the "Company") is engaged in the
delivery of home health care services (sometimes referred to herein as the "home
health care business") and, following the acquisition of The Bio Balance Corp.
("Bio Balance") in January 2003, the development and planned manufacturing and
marketing of a patented "probiotic" product for the treatment of
gastrointestinal diseases and disorders (sometimes referred to herein as the
"probiotics business").
The Company is a New York corporation formed in 1983. Our principal
executive offices are located at 1850 McDonald Avenue, Brooklyn, New York 11223,
telephone (718) 375-6700.
HISTORY, DEVELOPMENT AND OVERVIEW OF THE COMPANY
The Company was initially organized to act as a licensed home health care
agency engaged primarily in supplying the services of paraprofessionals who
provide a broad range of health care support services to patients in their
homes.
Our home health care business operates in all five boroughs of New York
City and the counties of Nassau, Westchester, Rockland, Orange, Dutchess,
Ulster, Putnam and Sullivan, in the State of New York. Our home health care
business also operates in Jersey City, Edison, Bradley Beach, Whiting, Toms
River, East Orange and Hackensack, New Jersey under the name Helping Hands
Healthcare. Our home health care services are supplied principally pursuant to
contracts with health care institutions and agencies such as various county
Departments of Social Services, NYC HRA, New Jersey Medicaid, Beth Abraham
Health Services in the Bronx and Westchester County, Kingsbridge Medical Center,
Aetna US Healthcare, and Gentiva Health Services.
Our primary objective, in our health care business, is to enhance our
position in the home health care market by increasing the promotion of our full
service and specialty health care capabilities to existing and new referral
sources; expand our markets and enter new markets by establishing additional
branch offices and acquiring other related health care businesses; and develop
complimentary home health care products and services, as well as maintaining our
regular training and testing programs, and recruitment activities. See "Item 1.
Business - Home Health Care Business."
4
On January 2, 2003, we acquired Bio Balance, a privately-owned Delaware
corporation, in a stock-for-stock exchange transaction accounted for as a
"reverse acquisition," whereby a wholly-owned subsidiary of the Company merged
into Bio Balance (the "Merger"). See "Item 1. Business - The Merger."
Bio Balance was incorporated on May 21, 2001 in the State of Delaware under
the name "The Zig Zag Corp." and changed its name to The Bio Balance Corp. in
September 2001. From its inception, Bio Balance has been a development stage
company and has not generated any revenues.
Bio Balance owns patented "probiotic" technology and intellectual property
of a fully developed product for the treatment of gastrointestinal diseases and
disorders in animals and humans, including irritable bowel syndrome ("IBS"),
certain forms of inflammatory bowel disease ("IBD") and chronic diarrhea.
Bio Balance's first product, PROBACTRIX(TM), which has undergone toxicity
and animal studies in established laboratories in Israel and the former Soviet
Union, has received Israeli approval for veterinarian use and use as a human
food supplement and was available in Israeli pharmacies from August 2000 until
July 2001, when Bio Balance entered into an agreement to acquire all rights with
respect to the product. PROBACTRIX(TM) consists of a patented proprietary strain
of non-pathogenic (i.e. non-toxic) M-17 Escherichia Coli ("E.coli") bacteria
preserved in a proprietary extract formulation. Various clinical studies in the
former Soviet Union and in Israel, as well as published scientific articles
support the beneficial effects of non-pathogenic E.coli.
Bio Balance intends to comply with applicable requirements for the
introduction of its first product, PROBACTRIX(TM), to the United States market
as a medical food. Medical foods are not subject to the FDA regulatory criteria
and market clearance standards applicable to "drugs". Instead, medical foods
are food ingredients. As such, medical foods may be marketed following a
self-determination that the product is "generally recognized as safe" (GRAS).
Bio Balance commenced the GRAS determination process in the spring of 2002 and
presently expects completion of that process by late 2003 or early 2004.
Concurrent with the GRAS and medical food determination process, Bio Balance
intends to conduct two additional clinical trials to obtain statistically
significant data to support marketing efforts before commencing marketing of
PROBACTRIX(TM) in the United States.
Bio Balance also plans on introducing a version of its product as a
pharmaceutical drug and thereafter market the product in the United States. FDA
approval of the product as a pharmaceutical drug is a time consuming and costly
process. Bio Balance has not as yet commenced the FDA approval process and has
no current time table to begin that process. See "Item 1. Business - Probiotics
Business."
THE MERGER
As a result of the Merger, we affected a 1-for-1.5 reverse stock split and
issued 21,443,821 post-reverse split shares of common stock in exchange for 100%
of the outstanding securities of Bio Balance. We also assumed all outstanding
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Bio Balance warrants to acquire an additional 586,452 post-reverse split shares.
Following the Merger, the pre-Merger shareholders of Bio Balance controlled
approximately 90% of the Company.
In conjunction with the Merger, Bio Balance raised $6,035,000 of gross
proceeds through the privately placed sale of its common stock. The net proceeds
from the sale of shares by Bio Balance are devoted exclusively to the operations
of Bio Balance.
Pursuant to the terms of the Merger Agreement, we completed the following
transactions:
1. increased our authorized shares of common stock from 50,000,000
shares to 100,000,000 shares and our authorized shares of preferred stock from
2,000,000 to 5,000,000;
2. effectuated a one (1) share for every one and one-half (1.5) shares
reverse stock split whereby each outstanding share of our $.01 par value common
stock (the "Old Common Stock") was converted into two-thirds (2/3) of a share
(the "New Common Stock"), with the result that the 3,711,730 shares of Old
Common Stock which had been issued and outstanding became 2,474,486 shares of
New Common Stock;
3. acquired all of the issued and outstanding equity shares of Bio
Balance in exchange for issuance to former Bio Balance shareholders of a total
of 21,443,821 post-reverse split shares of the Company's $.01 par value New
Common Stock, and assumed outstanding Bio Balance warrants to acquire an
additional 586,452 post-reverse split shares of New Common Stock; and
4. elected, in addition to nominees of the Company, Paul Stark and
David C. Katz, nominees of Bio Balance, as directors.
Following the Merger, we had 23,918,974 shares of common stock issued,
including 24,846 shares in treasury. There are 393,583 unissued shares reserved
for issuance upon the conversion of outstanding shares of preferred stock and
1,574,355 unissued shares reserved for issuance upon the exercise of outstanding
stock options and warrants. As a result of, and immediately following, the
Merger, the 278 shareholders of Bio Balance held approximately 90% of the
outstanding common stock of the Company.
A total of 16,287,949 shares are subject to restrictions on sale in
accordance with the terms of the Merger Agreement. A total of 15,296,625 shares
of common stock issued to Bio Balance shareholders are restricted from sale for
various periods of time ranging from as early as February 28, 2003 and as late
as August 10, 2003. A total of 991,324 shares of common stock held of record
and beneficially by our Chief Executive Officer and our Chief Operating,
Financial and Accounting Officer are restricted from sale for a period ending
February 28, 2003, after which they will be able to sell not more than 10% of
their shares per month for as long as they are directors of the Company. These
restrictions, however, permit transfers to family trusts and registered
charities provided the transferees abide by the restrictions, although they will
be permitted to sell not more than 1,000 shares of common stock each trading day
during a period ending February 28, 2003, after which the restriction will
expire. We may release restrictions on the shares held by our Chief Executive
Officer and our Chief Operating, Financial and Accounting Officer provided we
also releases restrictions on the shares issued to Bio Balance shareholders in a
ratio of one share held by our Chief Executive Officer and Chief Operating,
Financial and Accounting Officer for two shares held by the Bio Balance
shareholders.
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CORPORATE STRATEGY
In carrying out the Merger, management of the Company and Bio Balance
sought to capitalize on the steady operating performance of the Company's home
health care business and the growth potential of Bio Balance's probiotics
business while allowing each business to operate as an autonomous business unit.
The Company's home health care business will continue to seek selective
growth opportunities, operate as a self-supporting business unit and maintain
exclusive control over its existing financial and operating resources.
With respect to Bio Balance's probiotics business, we intend to actively
pursue Bio Balance's business plan of developing, manufacturing and marketing
PROBACTRIX(TM) and other products based on Bio Balance's patented probiotics
technology. Bio Balance will operate as an autonomous business unit and will
have the exclusive right to use the funds raised by Bio Balance prior to the
Merger in pursuit of its business. While Bio Balance does not have any rights
to utilize financial or operating resources of the home health care business, we
expect to seek additional funding for Bio Balance from the sale of equity, debt
or convertible securities of the Company.
HOME HEALTH CARE BUSINESS
Industry Background
Rising Health Care Costs - According to the Office of the Actuary at the
Centers for Medicare & Medicaid Services, national health expenditures are
projected to reach approximately $2.8 trillion in 2011, growing at a mean annual
rate of 7.3 percent during the forecast period of 2001-2011. Health care
spending during the forecast period is projected to grow 2.5 percent per year
faster than the projected gross domestic product, so that by 2011 it will
constitute approximately 17.0 percent of projected GDP compared to 13.2 percent
in 2000. These projections and estimates are uncertain and ought to be regarded
as an indication of possible trends based upon various assumptions regarding
future macroeconomic conditions and the nature and impact of future
institutional changes in the health care sector of the national economy.
(National Health Care Expenditures Projections: 2001-2011,
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http://www.cms.hhs.gov/statistics/nhe/projections-2001/proj2001.pdf)
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Aging Population -. Although the growth of the U.S. population slowed
somewhat during the 1990's because of the relatively small number of babies born
during the Great Depression of the 1930's, it is expected that the older
population will burgeon between the years 2010 and 2030 when the post WWII "baby
boom" generation reaches age 65. By 2030, it is projected that there will be
approximately 70 million older persons, more than twice the number in 2000.
People 65 and older, who represented 12.4% of the population in the year 2000,
are expected to grow to approximately 20% of the population by 2030.
(Administration on Aging - A Profile of Older Americans: 2002 Future Growth,
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http://www.aoa.gov/aoa/stats/profile/2002/2002profile.pdf)
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Cost Effectiveness of Home Health Care Service -. Home care is a
cost-effective service, not only for individuals recuperating from a hospital
stay, but also for those who, because of a functional or cognitive disability,
find that they are unable to take care of themselves. More than 20,000
providers deliver home care services to some 7.6 million individuals who require
services because of acute illness, long-term health conditions, permanent
disability or terminal illness. Annual expenditures for home health care were
projected to have been $41.3 billion in 2001.
The table below lists some examples of cost-effective home care by
comparing the average Medicare charges on a per-day basis for hospital and
skilled nursing facility to the average Medicare charge for a home health visit.
(2001 National Association of Home Care Statistics,
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http://www.nahc.org/consumer/hcstats.html).
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Comparison of Hospital, SNF, and Home Health Medicare Charges, 1998-2000
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1998 1999 2000(a)
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Hospital charges per day $2,370 $2,533 $ 2,753
Skilled nursing facility charges per day $ 498 $ 425 $ 421
Home Health charges per visit. $ 93 $ 93 $ 100
SOURCES: The hospital and SNF Medicare charge data are from the Annual
Statistical Supplement, 2000, to the Social Security Bulletin, Social Security
Administration (October 2001). Home care information for 1998 from HCFA, Office
of Information Services. Per visit charges for 1999 and 2000 are calculated
using producer price index data from the Bureau of Labor Statistics website
(www.bls.gov, September 2001).
NOTE (a): Hospital and skilled nursing facility charges per day are based on
preliminary data.
Patient Preference and Physician Acceptance - The Company believes that, if
possible in any given case, a patient will prefer to be treated at home rather
than in an institutional setting. Further, in the last decade, the medical
profession has shown greater acceptance of home health care in the clinical
management of patients. As evidence of this greater acceptance, the American
Medical Association Councils on Scientific Affairs and Medical Education has
recommended that training in the principles and practice of home health care be
incorporated into the undergraduate, graduate and continuing education of
physicians.
Incidences of AIDS and Cancer - During 2002, approximately 5 million
people became infected with the human immunodeficiency virus (HIV), which causes
AIDS, and approximately 3.1 million people died from HIV/AIDS, a higher global
total than in any year since the beginning of the epidemic, despite
antiretroviral therapy which reduced the incidence of AIDS and AIDS deaths in
the richer countries. Deaths among the already infected are expected to
continue to increase for some years even if prevention programs manage to cut
the number of new infections to zero. (AVERT.ORG, Worldwide HIV & AIDS Epidemic
-----------------------------
Statisticshttp://www.avert.org/worldstatinfo.htm). However, with the
- -------------------------------------------------
HIV-positive population still expanding, the annual number of AIDS deaths is
expected to increase for many years. As of the end of June 2001, 793,026 AIDS
cases in the USA had been reported to the Center for Disease Control and
Prevention. Of these, 79% were men, 21% were women and 1% were children less
than 13 years of age. (United States HIV & AIDS Statistics Summary Aids
-----------------------------------------------------
Statistics, http://www.avert.org.statsum.htm).
- -----------------------------------------------
8
Cancer is the second leading cause of death in the U.S., exceeded only by
heart disease, with one of every four deaths occurring from cancer. Since 1990,
approximately 16 million new cancer cases have been diagnosed and approximately
1,284,900 new cancer cases are expected to be diagnosed in 2002, not including
carcinoma in situ (noninvasive cancer) of any site except urinary bladder, or
basal and squamous cell skin cancers. More than 1 million cases of basal and
squamous cancers are expected to be diagnosed in 2002 and approximately 555,500
Americans are expected to die of cancer, more than 1,500 people a day. (American
---------
Cancer Society, Surveillance Research 2002, www.cancer.org).
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Services Offered
Overview - Through our staff of trained professionals, we provide a broad
range of home health and personal care support services in capacities ranging
from companions to live-ins, including assistance with personal hygiene,
dressing and feeding, meal preparation, light housekeeping and shopping and, to
a limited extent, physical therapy and standard skilled nursing services such as
the changing of dressings, injections, catheterizations and administration of
medications. Our personnel also train patients in their own care, monitor
patient compliance with treatment plans, make reports to the physicians and
process reimbursement claims to third-party payers.
Infusion Therapy - Among the specialty services offered, we provide
infusion therapy service to patients utilizing pharmaceuticals provided by
licensed suppliers. Management believes that the total market for home infusion
therapy is continuing to growth and that increasing the provision of infusion
therapy will build on our strength in providing nursing services, because such
therapies generally require administration by specialty nurses. We will also
seek to supply infusion therapy patients with the other home health care
services and therapies, which they often require and which are offered by us.
However, there can be no assurance that we will expand our infusion therapy
business or, if expanded that we will conduct such a business on a profitable
basis.
Professional Care Resources - We also intend to expand our skilled nursing
programs in order to meet the needs which management believes are being created
by early discharge programs. The existing referral base of agencies, insurance
companies, social workers, case managers and physicians will be used to meet
what management perceives to be a need not being met by the current pool of home
health care agencies. We expect that the expansion of this program will require
the hiring of an additional service directors with an extensive background in
skilled nursing to assist the Directors of Nursing in each of our branch
offices. Additional support staff will also be required, as well as new
training, materials, assistant directors, coordinators and marketing staff.
Professional Staff
Overview - Our services are provided principally by our staff of
professionals and paraprofessionals, who provide personal care to patients, and,
to a lesser extent, by our staff of skilled nurses, who provide various
therapies employing medical supplies and equipment and infusion therapy. Our
professional staff includes paraprofessionals and nurses fluent in Spanish,
Mandarin and Cantonese Chinese, Yiddish and Russian as well as personnel
knowledgeable in the requirements and practices of kosher homes. Personal care
and nursing services for a particular patient can extend from a few visits to
years of service and can involve intermittent or continuous care. Approximately
99% of our total net revenues in 2002 were attributable to services by our
paraprofessional staff.
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Certified Paraprofessionals - Our certified paraprofessional staff
provides a combination of unskilled nursing and personal care services to
patients, as well as assistance with daily living, tasks such as hygiene and
feeding. Consistent with applicable regulations, all of paraprofessional aides
are certified and work under the supervision of a licensed professional nurse.
Certain aides have been specially trained to work with patients with particular
needs, such as new mothers and their newborn infants, patients with particular
diseases such as Cancer, AIDS or Alzheimer's Disease and particular classes of
patients such as the developmentally disabled and terminally ill.
We are approved by New York State Department of Health for the training and
certification of Home Health Aides and by the New York Department of Social
Services to train and certify Personal Care Aides. In addition, we are approved
by the New Jersey Board of Nursing for the training of Certified Home Health
Aides in the State of New Jersey. Medicare provides reimbursement solely for
Home Health Aide Service, while Medicaid is responsible for reimbursement for
both Home Health Aide and Personal Care Aide Services. In order to provide a
qualified and reliable staff, we continuously recruit, train, provide continuing
education for and offer benefits and other programs to encourage retention of
our staff. Recruiting is conducted primarily through advertising, direct
contact with community groups and employment programs, and the use of benefits
programs designed to encourage new employee referrals by existing employees.
All paraprofessional personnel must pass a written exam and a skills
competency test prior to employment, with all certificates having been validated
by the issuing agency. The Director of Nursing in each of our branch offices
validates the professional competency of all new hires. Newly hired employees
are re-evaluated as to competency within six months of their employment and all
employees are re-evaluated on an on-going basis, at least semi-annually. In
addition, all paraprofessional personnel undergo an orientation program that
includes material regarding HIV, Hepatitis B, universal precautions, patient's
rights and Company policies and procedures.
Competition for qualified staff continues to be intense. We compete to
attract and retain personnel on the basis of compensation and working
conditions. Among the benefits, which we provide to our staff are competitive
salaries, a 401(k) Plan, employee-funded health insurance, vacations and
bonuses. We have generally not experienced difficulties in the past in
attracting and retaining personnel. We believe we will be able to compete
effectively in this area and satisfy our overall staffing requirements.
However, there can be no assurance that shortages of health care professionals
in the future will not occur and such shortages could materially affect our
ability to maintain or increase our current commitments.
Licensed Professional Nurse - We employ licensed professional nurses (both
registered nurses and licensed practical nurses) who provide special and general
professional nursing services (these nurses are employed on a per diem basis).
We also employ registered nurses who are responsible for training and
supervising our paraprofessional staff, as well as providing backup in the field
for the nursing staff that is providing care (these nurses are employed on a
salaried basis). General nursing care is provided by registered and licensed
practical nurses and includes periodic assessment of the appropriateness of home
care, the performance of therapy procedures, and patient and family instruction.
Patients receiving such care include stabilized postoperative patients
recovering at home, patients who, although acutely ill, do not need to be cared
for in an acute care facility and patients who are chronically or terminally
ill.
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All nurses hired must have at least one year of current, verifiable
experience, including references and license verification. All nurses working
in specialty areas must have at least two years of experience.
While the provision of licensed professional nursing services accounted for
less than 1% of our net revenues in 2002, we have expanded our nursing
operations in our existing markets as well as new geographic locations.
Organization and Operations
We operate 24 hours a day, seven days a week, to receive referrals and
coordinate services with physicians, case managers, patients and their families.
Services are provided through 11 principal and branch offices and 3 recruitment
and training, offices. We seek to achieve economies of scale by having each
branch office serve a large patient population. Each office conducts its own
marketing efforts, negotiates contracts with referral sources, recruits and
trains professionals and paraprofessionals and coordinates patient care and care
givers. Each office is typically staffed with an administrator/branch manager,
director of nursing, nursing supervisor, home care coordinators, clerical staff
and nursing services staff.
Our principal office retains all functions necessary to ensure quality of
patient care and to maximize financial efficiency. Services performed at the
principal office include billing and collection, quality assurance, financial
and accounting functions, policy and procedure development, system design and
development, corporate development and marketing. We use financial reporting
systems through which we monitor data for each branch office, including patient
mix, volume, collections, revenues and staffing. Our systems also provide
monthly budget analysis, financial comparisons to prior periods and comparisons
among our branch offices.
Branch Offices
The home health care industry is, fundamentally, a local one in which both
the patients and the referral sources (such as hospitals, home health agencies,
social service agencies and physicians) are located in the local geographic area
in which the services are provided. We seek to serve local market needs through
a branch office network, run by administrators/branch managers who are
responsible for all aspects of local office decision-making, including
recruiting, training, staffing, and marketing.
At March 1, 2003, our branch office network consisted of the following
thirteen branch offices opened on the dates indicated:
Location Date Opened
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Kings County Office
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408 Jay Street 07/01
Brooklyn, NY 11201
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Nassau County Office
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175 Fulton Avenue 09/93
Hempstead, NY 11550
Westchester County Office
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6 Gramatan Avenue 12/96
Mt. Vernon, NY 10550
Rockland County Office
----------------------
49 South Main Street 10/94
Spring Valley, NY 10977
Orange County Office
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45 Grand Street 09/92
Newburgh, NY 11250
Bronx County Recruitment Office
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2488 Grand Concourse 10/00
Bronx, NY 10458
Jersey City Office
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880 Bergen Avenue
Jersey City, NJ 07306 06/01
Bradley Beach Recruitment Office
--------------------------------
716 Main Street 09/01
Bradley Beach, NJ 07720
Toms River Office
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617 Highway 37 West 02/98
Toms River, NJ 08753
Edison Office
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629 Amboy Avenue 08/99
Edison, NJ 08837
East Orange Office
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60 Evergreen Place 11/01
East Orange, NJ 07018
Hackensack Office
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193 Main Street 06/01
Hackensack, NJ 07601
Whiting Recruitment Office
--------------------------
75 Lacey Road 04/02
Whiting, NJ 08759
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Our branch office network has been expanded through the years through a
combination of new office openings and acquisitions of existing operations.
Substantially all of the branch offices in New Jersey were acquired in a series
of acquisitions between 1997 and 2002. We intend to open additional branch
offices in New York State, subject to entering agreements with the local New
York Department of Social Services agencies. In addition, we hope to expand
further into New Jersey, Pennsylvania and Connecticut in order to offer a wider
geographic coverage to the health maintenance organizations ("HMO's") and health
care insurance organizations with which we deal, and to add additional
organizations. Further expansion is subject to the completion of market surveys
in the various locations to ascertain the extent to which existing home care
medical needs are not being met as well as competition and recruitment issues.
Management believes that we have successfully integrated all of our home
health care acquisitions, with minimum interruptions to our daily operations.
This has been facilitated by the formation of a mergers and acquisitions ("M&A")
group, which includes our Chief Executive Officer and, Chief Operating,
Financial and Accounting Officer. We have integrated our billing, payroll and
clinical services to all new locations to ensure they meet our high quality
standards. We believe that the experience acquired during this process will
allow us to continue down a path of significant M&A activity in order to become
one of the leading home health agencies in the New York metropolitan area.
Work Flow
A case is initiated by one of our referral sources contacting a branch
office and advising it of the patient's general location, diagnosis, types of
services required, hours of service required and the time of day when the
services are to be rendered. The branch office then contacts the referral
source as promptly as possible with the identification of the staff person who
will be rendering the service, after which the referral source transmits to the
branch office a detailed copy of the plan for the patient's home care, which
includes the type of care to be rendered, the method by which it should be
rendered, the precise location and hours.
The supervisory staff at the branch office then reviews the care plan with
the staff member(s) who will be providing the care and then dispatches the staff
member(s) to begin rendering the care, usually the next day.
The clerical staff at the branch office enters all of the information
regarding the case into the local area computer network of the branch office,
which then generates the work schedule for the staff member(s), which provides a
detailed description of the services to be rendered, the hours and number of
days during which the care is to be provided. All of this information is
spontaneously received by our principal office by way of the wide area computer
network linking the principal office to each of the branch offices. This
information is then processed by the principal office computer system on a
weekly basis to (generate the documentation of the services being provided).
Such documentation is then used to generate the billing for the service as well
as process the payroll for the staff member(s) providing the service.
Referral Sources
We obtain patients primarily through contracts, referrals from hospitals,
community-based health care institutions and social service agencies, case
management and insurance companies. Referrals from these sources accounted for
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substantially all of our net revenues in 2002. We generally conduct business
with most of our institutional referral sources, including those referred to
below, under one-year contracts that fix the rates and terms of all future
referrals but do not require that any referrals be made. Under these contracts,
the referral sources refer patients to us and we bill the referral sources for
services provided to patients. These contracts also generally designate the
kinds of services to be provided by our employees, liability insurance
requirements, billing and record keeping responsibilities, complaint procedures,
compliance with applicable laws, and rates for employee hours or days depending
on the services to be provided. Approximately 260 such contracts were in effect
as of December 31, 2002.
One or more referring institutions have accounted for more than 5% of our
net revenues during our last three fiscal years, as set forth in the following
table:
Percentage of Net Revenues
--------------------------
Referring Institution 2002 2001 2000
- ----------------------------------------- --------------------------
New York City Medicaid (HRA) 47.24% 45.05% 37.58%
New Jersey Medical Assistance Program 12.08% 14.53% 15.17%
Beth Abraham Health Services 6.55% 6.37% 5.27%
County Departments of Social Services (1) 5.26% 6.81% 6.60%
Mount Sinai Medical Center (2) 0.05% 4.94% 5.32%
(1) The various county departments of social services are funded by the New
York State Department of Health which, as of October 1, 1996, assumed the
responsibility for the overall administration of Medicaid programs in New
York formerly administered by the New York Department of Social Services.
(2) Mount Sinai Medical Center closed its home care department in 2002.
Overall, our ten largest referring institutions accounted for approximately
83.5% of net revenues for 2002, 88% of net revenues for 2001 and approximately
81.2% of net revenues for 2000.
Billing and Collection
We screen each new case to determine whether adequate reimbursement will be
available and have developed substantial expertise in processing claims. We
make a concerted effort to provide complete and accurate claims data to the
relevant payer sources in order to accelerate the collectibility of accounts
receivable.
Days Sales Outstanding ("DSO") is a measure of the average number of days
taken to collect account receivable, calculated from the date services are
billed. For the year ended December 31, 2002 our DSO was 54 compared to 61 and
84 for the years ended December 31, 2001 and 2000, respectively. The improvement
in DSO is the net effect of combining the New Jersey DSO and the Home Attendant
program DSO, which have more favorable payment terms with our New York's DSO.
We license the Dataline Home Care System, a computerized payroll system
designed to produce invoices for services rendered as a by-product of employee
compensation. Automated schedules and staffing requirements are maintained in
our offices, with the ability to enter all relevant patient and employee
demographic information. The payroll is processed weekly at our principal
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office in Brooklyn. This office is responsible for the processing of data,
ensuring the availability of all required billing documentation and its
accuracy, and the printing and distributing of payments.
Once payroll processing is completed, our computer system generates the
resulting invoices automatically. The necessary documentation is attached to
all invoices that are mailed to clients.
In the opinion of management, there is no reason to believe that any
computer system or software used internally will materially affect transactions
with any customer, supplier or business partner, now or in the future.
Management reviews reports for all phases of the billing process and
prepares reconciliations for the purpose of ensuring accuracy and maintenance of
controls. When errors are found, new processes are developed, as appropriate,
to ensure and improve the quality and accuracy of the billing process and
responsiveness to clients' needs and requirements.
Accounts receivable reports are produced weekly and are analyzed and
reviewed by staff and management to locate negative trends or emerging problems
that would require immediate attention. All unpaid invoices are reviewed and
telephone contacts established for invoices over 90 days old. Our experience
with collection of accounts receivable has been favorable, with uncollectible
accounts within the allowances provided.
Private patients are required to pay the one-week fee for their service in
advance, as a deposit for services to be provided. For patients with insurance
covering home health services, we accept assignment of the insurance and submit
claims if the carrier first verifies coverage and eligibility. Payments from
private patients are required to be made weekly, as invoices are submitted and,
if unpaid over three weeks, result in follow-up telephone calls to ensure prompt
payment. Requests for terms from private patients are generally honored and
payment arrangements structured based on the patient's financial resources and
ability to pay. Unresponsive accounts are referred to outside collection
agencies.
Reimbursement
We are reimbursed for services, primarily by referring institutions, such
as health care institutions and social service agencies, which in turn receive
their reimbursement from Medicaid, Medicare and, to a much lesser extent,
through direct payments by insurance companies and private payers. New York
State and New Jersey Medicaid programs constitute our largest reimbursement
source, when including both direct Medicaid reimbursement and indirect Medicaid
payments through many of our referring institutions. For each of 2002, 2001 and
2000, payments from referring institutions that receive direct payments from
Medicare and Medicaid, together with direct reimbursement to us from Medicaid,
accounted for approximately 97% of net revenues. Direct reimbursements from
private insurers, prepaid health plans, patients and other private sources
accounted for approximately 3% of net revenues for each of the calendar years
2002, 2001 and 2000.
The New York State Department of Health, in conjunction with local
Departments of Social Services, promulgates annual reimbursement rates for
patients covered by Medicaid. These rates are generally established on a
15
county-by-county basis, using a complex reimbursement formula applied to cost
reports filed by providers. Generally, the first report filed (called a
"budgeted" report) uses projections to develop the current year's reimbursement
rate, subject to retroactive recapture of any monies paid by local Departments
of Social Services for budgeted expenses that are greater than the actual
expenses incurred. We have filed all required annual cost reports for each of
our offices, which provide services to Medicaid recipients. Our expenses have
always equaled or exceeded the budgeted amounts.
Third party payers, including Medicaid, Medicare and private insurers, have
taken extensive steps to contain or reduce the costs of health care. These
steps include reduced reimbursement rates, increased utilization review of
services and negotiated prospective or discounted pricing and adoption of a
competitive bid approach to service contracts. Home health care, which is
generally less costly to third party payers than hospital-based care, has
benefited from many of these cost containment measures.
On June 28, 2000, the Health Care Financing Administration (HCFA) finalized
a new Medicare Payment System to help assure appropriate reimbursements for
quality, efficient home health care. On October 1, 2000, Medicare began paying
all certified home health agencies under a prospective payment system. The
change was mandated by the Balanced Budget Act of 1997 amended by Omnibus
Consolidated and Emergency Supplemental Appropriations Act of 1998 and the
Balanced Budget Refinement Act of 1999. While we are not currently a
Medicare-Certified Home Health Agency subject to these changes, most of our
referral sources are and they may be negatively impacted by this legislation
which was adopted to control home health care costs.
The New York State Department of Health issues Certificates of Need for
Certified Home Health Agencies ("CHHA's"), which provide post-acute home care
services for people who have just been discharged from a hospital but are not
yet fully recovered, and Long-Term Home Health Care Programs ("LTHHCP's"), also
known as the "Nursing Home Without Walls," which is intended to provide elderly
people with an alternative for long-term care other than by entering a nursing
home at less than the cost of nursing home care. We negotiate contracts with
CHHA's and LTHHCP's on the basis of services to be provided, in connection with
contracts either currently in effect with the Company or with other agencies.
Prevailing market conditions are such that, despite escalating operating
expenses, reduced contract rates are regularly "demanded" as a result of
internal budget restraints and reductions mandated by managed care contracts
between our clients and HMO's and other third party administrators. While
management anticipates that this trend is likely to continue for the foreseeable
future, it does not expect the impact on the Company to be significant, since
its rates are competitive and, therefore, are expected to be subject to only
minor reductions. However, as expenditures in the home health care market
continue to grow, initiatives aimed at reducing the costs of health care
delivery at non-hospital sites are increasing. A significant change in coverage
or a reduction in payment rates by third party payers, particularly New York
State Medicaid, would have a material adverse effect upon our business.
Performance Improvement
We have established a performance improvement management program including
a performance improvement program to ensure that our service standards are
implemented and that the objectives of those standards are met. We believe that
we have developed and implemented service standards that comply with or exceed
16
the service standards required by JCAHO. We received "Accreditation" from JCAHO
after its triennial survey in November 1997. In November 2000, we were surveyed
by JCAHO and received accreditation of its New York offices for the next three
years (expiring in November 2003). We did not seek JCAHO accreditation for our
New Jersey offices because such accreditation is not required by any of the
contracts in that state. We believe that our reputation for quality patient
care has been and will continue to be a significant factor in our success. An
adverse determination by JCAHO regarding the Company or any branch office could
adversely affect our reputation and competitive position.
Our performance improvement program includes the following:
Professional Advisory Committee - We maintain a Professional Advisory
Committee for our branch offices, which consists of a physician, nursing
professionals and representatives of branch management. The Professional
Advisory Committee identifies problems and suggests ways to improve patient care
based on internal quality compliance audits and clinical and personnel record
reviews.
Internal Quality Compliance Review Process - Periodic internal reviews are
conducted by our management to ensure compliance with the documentation and
operating procedures required by state law, JCAHO standards and internal
standards. Written reports are forwarded to the director of nursing and
administrators/branch managers. We believe that the internal review process is
an effective management tool for the director of nursing and administrators/
branch managers.
Case Conferences - Staff professionals regularly hold case conferences to
review problem and high risk cases, the physician's treatment and services
provided for such cases in order to ensure appropriate, safe patient care and to
evaluate patient progress and plans for future care.
Clinical Record Review - Clinical record review is the periodic evaluation
of the documentation in patient clinical records. In this review process, we
evaluate the performance of the nursing services staff to ensure that
professional and patient care policies are followed in providing appropriate
care and that the needs of patients are being met. Clinical record review
findings are documented and reviewed by the applicable Professional Advisory
Committee for recommendations.
Sales and Marketing
Our executive officers, Jerry Braun and Jacob Rosenberg, are principally
responsible for the marketing of our services. Each branch office
administrator is also responsible for sales activities in the branch office's
local market area. We attempt to cultivate strong, long-term relationships with
referral sources through high quality service and education of local health care
personnel about the appropriate role of home health care in the clinical
management of patients.
Government Regulation
The federal government and the States of New York and New Jersey, where we
currently operate, regulate various aspects of our business. Changes in the law
or new interpretations of existing laws can have a material effect on
permissible activities of the Company, the relative costs associated with doing
business and the amount of reimbursement by government and other third-party
payers.
17
We are licensed by New York State as a home care services agency. The
state requires approval by the New York State Public Health Council ("Council")
of any change in "the controlling person" of an operator of a licensed home care
services agency ("LHCSA"). Control of an entity is presumed to exist if any
person owns, controls or holds the power to vote 10% or more of the voting
securities of the LHCSA. A person seeking approval as a controlling person of a
LHCSA, or of an entity that is the operator of a LHCSA, must file an application
for Council approval within 30 days of becoming controlling person and, pending
a decision by the Council, such person may not exercise control of the LHCSA.
If any person should become the owner or holder, or acquire control of or the
right to vote 10% or more of our issued and outstanding Common Stock, such
person could not exercise control of our LHCSA until an application for approval
of such ownership, control or holding, has been submitted to the Council and
approved. In the event such an application is not approved, such owner or
holder may be required to reduce their ownership or holding to less than 10% of
our issued and outstanding Common Stock.
We are also subject to federal and state laws prohibiting payments for
patient referrals and regulating reimbursement procedures and practices under
Medicare, Medicaid and state programs. The federal Medicare and Medicaid
legislation contains anti-kickback provisions, which prohibit any remuneration
in return for the referral of Medicare and Medicaid patients. Courts have, to
date, interpreted these anti-kickbacks laws to apply to a broad range of
financial relationships. Violations of these provisions may result in civil and
criminal penalties, including fines of up to $15,000 for each separate service
billed to Medicare in violation of the anti-kickback provisions, exclusion from
participation in the Medicare and state health programs such as Medicaid and
imprisonment for up to five years.
Our healthcare operations potentially subject us to the Medicare and
Medicaid anti-kickback provisions of the Social Security Act. These provisions
are broadly worded and often vague, and the future interpretation of these
provisions and their applicability to our operations cannot be fully predicted
with certainty. There can be no assurance that we will be able to arrange our
acquisitions or business relationships so as to comply with these laws or that
our present or future operations will not be accused of violating, or be
determined to have violated, such provisions. Any such result could have a
material adverse effect on us.
Various Federal and state laws regulate the relationship among providers of
healthcare services, including employment or service contracts, and investment
relationships. These laws include the broadly worded fraud and abuse provisions
of the Social Security Act that are applicable to the Medicare and Medicaid
programs, which prohibit various transactions involving Medicare or Medicaid
covered patients or services. Among other things, these provisions restrict
referrals for certain designated health services by physicians to entities with
which the physician or the physician's immediate family member has a "financial
relationship" and the receipt of remuneration by anyone in return for, or to
induce, the referral of a patient for treatment or purchasing or leasing
equipment or services that are paid for, in whole or in part, by Medicare or
Medicaid. Violations of these provisions may result in civil or criminal
penalties for individuals or entities and/or exclusion from participation in the
Medicare and Medicaid programs. The future interpretation of these provisions
and their applicability to our operations cannot be fully predicted with
certainty.
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In May 1991, the United States Department of Health and Human Services
adopted regulations creating certain "safe harbors" from federal criminal and
civil penalties by identifying certain types of joint venture and management
arrangements that would not be treated as violating the federal anti-kickback
laws relating to referrals of patients for services paid by the Medicare and
Medicaid programs. It is not possible to accurately predict the ultimate impact
of these regulations on our business.
New York and other states also have statutes and regulations prohibiting
payments for patient referrals and other types of financial arrangements with
health care providers that, while similar in many respects to the federal
legislation, vary from state to state, are often vague and have infrequently
been interpreted by courts or regulatory agencies. Sanctions for violation of
these state restrictions may include loss of licensure and civil and criminal
penalties. In addition, the professional conduct of physicians is regulated
under state law. Under New York law, it is unprofessional conduct for a
physician to receive, directly or indirectly, any fee or other consideration for
the referral of a patient. Finally, under New York law, a physician with a
financial interest in a health care provider must disclose such information to
the patients and advise them of alternative providers.
We believe that the foregoing arrangements in particular and our operations
in general comply in all material respects with applicable federal and state
laws relating to anti-kickbacks, and that we will be able to arrange our future
business relationships so as to comply with the fraud and abuse provisions.
Management believes that the trend of federal and state legislation is to
subject the home health care and nursing services industry to greater
regulation, particularly in connection with third-party reimbursement and
arrangements designed to induce or encourage the referral of patients to a
particular provider of medical services. We attempt to be responsive to such
regulatory climate. However, we are unable to accurately predict the effect, if
any, of such regulations or increased enforcement activities on our future
results of operations.
In addition, we are subject to laws and regulations, which relate to
business corporations in general, including antitrust laws, occupational health
and safety laws and environmental laws (which relate, among other things, to the
disposal, transportation and handling of hazardous and infectious wastes). None
of these laws and regulations has had a material adverse effect on our business
or competitive position or required material expenditures on our part, although
no assurance can be given that such will continue to be the case in the future.
We are unable to accurately predict what additional legislation, if any,
may be enacted in the future relating to our business or the health care
industry, including third-party reimbursement, or what effect any such
legislation may have on us.
We have never been denied any license we have sought to obtain. We believe
that our operations are in material compliance with all state and federal
regulations and licensing requirements.
Competition
The home health care market is highly fragmented and significant
competitors are often localized in particular geographical markets. Our largest
competitors include Gentiva Health Services, Premiere Health Services, National
19
Home Health Care, Patient Care, Inc., and Personal Touch Home Care Services,
Inc. The home health care business is marked by low entry costs. We believe
that, given the increasing level of demand for nursing services, significant
additional competition can be expected to develop in the future. Some of the
companies with which we presently compete in home health care have substantially
greater financial and human resources than do we. We also compete with many
other small temporary medical staffing agencies.
The home infusion therapy market is highly competitive and we expect that
the competition will intensify. As we seek to expand our provision of infusion
therapy services, we will compete with a large number of companies and programs
in the areas in which our facilities are located. Many of these are local
operations servicing a single area; however, there are a number of large
national and regional companies, including Gentiva Health Services, Coram Health
Care Corp., and Tender Loving Care, Inc. In addition, certain hospitals,
clinics and physicians, who traditionally may have been referral sources for us,
have entered or may enter the market with local programs.
We believe that the principal competitive factors in its industry are
quality of care, including responsiveness of services and quality of
professional personnel; breadth of therapies and nursing services offered;
successful referrals from referring Government agencies, hospitals and health
maintenance organizations; general reputation with physicians, other referral
sources and potential patients; and price. We believe that our competitive
strengths have been the quality, responsiveness, flexibility and breadth of
services and staff we offer, and to some extent price competition, as well as
our reputation with physicians, referral sources and patients.
The United States health care industry generally faces a shortage of
qualified personnel. Accordingly, we experience intense competition from other
companies in recruiting qualified health care personnel for our home health care
operations. Our success to date has depended, to a significant degree, on our
ability to recruit and retain qualified health care personnel. Most of the
registered and licensed nurses and health care paraprofessionals who we employ
are also registered with, and may accept placements from time to time through,
our competitors. We believe we are able to compete successfully for nursing and
paraprofessional personnel by aggressive recruitment through newspaper
advertisements, work fairs/job fairs, flexible work schedules and competitive
compensation arrangements. There can be no assurance, however, that we will be
able to continue to attract and retain qualified personnel. The inability to
either attract or retain such qualified personnel would have a material adverse
effect on our business.
PROBIOTICS BUSINESS
General
Our "probiotics" business is conducted through Bio Balance, our
wholly-owned subsidiary acquired pursuant to the Merger in January 2003. Bio
Balance is a development stage company, which owns patented "probiotic"
technology and intellectual property of a fully developed product for the
treatment of gastrointestinal diseases and disorders in animals and humans,
including irritable bowel syndrome ("IBS"), certain forms of inflammatory bowel
disease ("IBD") and chronic diarrhea.
"Probiotics" are living microorganisms or microbial mixtures which are
administered to benefit the animal or human host by improving its microbial
balance by stimulating the growth of healthy bacteria. Bio Balance has filed
numerous patent applications in Israel, the United States, and abroad on its
core technologies.
20
Bio Balance's first product, PROBACTRIX(TM) has undergone toxicity and
animal studies in established laboratories in Israel and the former Soviet Union
and has received approval from the State of Israel, Ministry of Agriculture,
Division of Animal Feed Quality Assurance for veterinarian use and from the
State of Israel, Ministry of Health for use as a human food supplement.
PROBACTRIX(TM) was available in Israeli pharmacies from August 2000 until July
2001, when Bio Balance entered into an agreement to acquire all rights with
respect to the product. PROBACTRIX(TM) consists of a patented proprietary
strain of non-pathogenic (i.e. non-toxic) M-17 Escherichia Coli ("E.coli")
bacteria preserved in a proprietary extract formulation. Various clinical
studies in the former Soviet Union and in Israel, as well as published
scientific articles support the beneficial effects of non-pathogenic E.coli.
Bio Balance intends to comply with applicable requirements for the
introduction of its first product, PROBACTRIX(TM), to the United States market
as a medical food. Medical foods are not subject to the FDA regulatory criteria
and market clearance standards applicable to "drugs". Instead, medical foods
are foods for special dietary use. As such, medical foods may be marketed
following a self-determination that the product's functional ingredient is
"generally recognized as safe" (GRAS), and that the product meets the
definitional medical food criteria. Bio Balance commenced the GRAS
determination process in the spring of 2002 and presently expects completion of
that process in 2003. Concurrent with the GRAS and medical food determination
process, Bio Balance intends to conduct two additional clinical trials to obtain
statistically significant data to support marketing efforts before commencing
marketing of PROBACTRIX(TM) in the United States.
As a secondary product offering, Bio Balance also plans on introducing a
version of its product as a pharmaceutical drug and thereafter market the
product in the United States. FDA approval of the product as a pharmaceutical
drug is a time consuming and costly process requiring extensive clinical studies
to prove the safety and efficacy of a product. Clinical studies and clearance
of a pharmaceutical drug can cost $50 million or more and require 2 to 5 years
to complete. Because of its intent to initially market PROBACTRIX(TM) as a
medical food, and because of the time and cost associated with introduction of
PROBACTRIX(TM) as a pharmaceutical drug, Bio Balance has not as yet commenced
the FDA approval process and has no current time table to begin that process.
Bio Balance does not expect to commence the FDA approval process unless and
until it can secure adequate financing to support that effort.
Bio Balance was incorporated on May 21, 2001 in the State of Delaware under
the name "The Zig Zag Corp." and changed its name to The Bio Balance Corp. in
September 2001. From its inception, Bio Balance has been a development stage
company and has not generated any revenues. From inception to completion of its
merger with New York Health Care, in January 2003, Bio Balance raised gross
proceeds of approximately $6.8 million from the private placement of common
stock.
Recent Purchase of Technology
In July 2001, Bio Balance acquired all the intellectual property rights
used in our probiotics business from Danron Ltd., Uprising Investment Ltd., and
Kimmey Trading Ltd., each of which was engaged in the research, development,
21
limited marketing and sales of probiotic bacteria, and other technology for cash
consideration of $510,000 and an aggregate of 990,000 Bio Balance shares. The
assets purchased consist of all know-how, patent applications, contracts and
other intellectual property rights possessed by Danron Ltd., Uprising Investment
Ltd., and Kimmey Trading Ltd., including pending U.S., Israeli and international
patent applications, relating to the following:
1. isolation, propagation and analysis of probiotic bacteria;
2. live microbial food supplement and the technology for its manufacture
and preservation;
3. live microbial preparations and the technology for their manufacture
and preservation for use in various industrial and environmental
applications, including, but not limited to, the production and use of
bioactive filters, fermentation processes, production, storage and use
of bio-pesticides and production storage and use of oil-spills
degrading bio-preparations;
4. production, analysis and use of plant derived extracts having
beneficial therapeutic activity; and
5. production, analysis and use of plant derived extracts having
beneficial microbial preservation activity.
Recent Developments
In February 2003, Bio Balance hired Dr. Robert Hoerr, MD, Ph.D. as Director
of Medical and Regulatory Affairs and Dr. Eileen Bostwick, Ph.D. as Director of
Research and Development. Drs. Hoerr and Bostwick have initially been assigned
the task of accelerating and completing the GRAS and medical food determination
process along with, in the case of Dr. Hoerr, assuring ongoing medical and
regulatory compliance and, in the case of Dr. Bostwick, ongoing product research
and development and evaluating manufacturing facilities requirements and
establishing manufacturing procedures.
Irritable Bowel Syndrome
Description of Irritable Bowel Syndrome ("IBS") -. Irritable bowel
syndrome is a chronic gastrointestinal disorder characterized by a combination
of chronic or recurrent gastrointestinal symptoms, accompanied by pain that can
be severe at times. Chronic illness may involve repeated episodes of
deterioration in which the patient confronts and adjusts to the effects on ones
lifestyle. Similar to other common chronic conditions, it is a disorder that
needs to be taken very seriously.
The cause of IBS is not known and there is no cure. The symptoms appear to
be due to an increased sensitivity of the bowel, which results in spasm of the
bowel muscle. IBS is a disorder of the way in which the bowel functions. It is
sometimes referred to as a 'functional bowel disorder' because there are no
physical signs of disease when the colon is examined.
IBS is a disturbance in the regulation of bowel function. In IBS the normal
rhythmic wave pattern of the gut (peristalsis) is disrupted and spasms of the
bowel muscle can occur. This disruption of brain-gut function can result in
symptoms that include pain and altered bowel function including diarrhea and/or
constipation.
22
When a person has IBS, the muscles in the bowel are very sensitive. Food or
stress that would not affect a normal person can cause pain, bloating, and
diarrhea to someone with IBS. Other symptoms can include gas, nausea, vomiting,
and mucous in the stool. About 30% of people affected by IBS will experience
mainly diarrhea and about 20% will experience mainly constipation. The remainder
will experience symptoms that alternate between constipation and diarrhea.
The impact of IBS symptoms ranges from inconvenience to disabling. It is
comparable to other chronic diseases. For the millions of IBS sufferers with
multiple symptoms, there has been little that provides sustained relief from
pain, diarrhea, and the constant sense of urgency to have a bowel movement.
IBS causes a great deal of discomfort and distress, even if it does not
cause permanent intestinal harm. It does not lead to intestinal bleeding of the
bowel or to serious diseases such as cancer. For some, IBS is just a mild
annoyance, but for many people it can be disabling. They may be afraid to go to
social events, to a work, or travel even short distances. Hope often shifts
from the desire for a cure to just finding ways to cope with the disease.
IBS robs people of daily life. For some this occurs in small ways. They are
barely noticeable until they realize they have given much of their life to
coping with the disorder. For others it is very dramatic. Day after day it
causes one to be afraid to leave home. They constantly fear experiencing fecal
incontinence-at work or school, in a social setting, or even in the privacy of
their own home. Painful intestinal cramping and diarrhea overwhelm their body.
It is difficult for those who do not experience the severity of IBS to
imagine what daily living is like. Imagine waking everyday, or even several
times a week, with GI flu like symptoms. You feel severe abdominal cramping to
the point of being doubled over in pain, accompanied by nausea, and diarrhea.
You may be in your bathroom for an hour or more before, exhausted, you feel you
can leave your home. You plan your day around the availability of restrooms. You
are hesitant to eat because symptoms might start all over again. You sometimes
miss work, or cancel appointments because of IBS.
IBS affects not only your professional or educational life, but your
personal life as well. It is difficult to plan trips, eat in restaurants, go to
a movie, take public transportation, or even go for a walk--you need quick or
immediate access to a bathroom. Your fear of not making it to a bathroom, of
having an "accident," can be disabling. Your friendships and your most intimate
relationships are affected. Your disease is invisible as you strive to hide it
from others but it affects every aspect of your life.
IBS presents some unique challenges. To patients, the symptoms are often
unmentionable and embarrassing, and to physicians, in the absence of structural
abnormalities, symptoms may be relegated to being "psychiatric," or not truly
existing as clinical entities. However, the understanding of IBS pathophysiology
and treatment has changed dramatically over the past decade and the disorder is
not perceived as "illegitimate."
Number of Affected Individuals - According to IBS Self Help Group, an
organization formed to support those who suffer from IBS, IBS (1) is more
prevalent in the U.S. than depression, asthma, diabetes and coronary heart
23
disease, (2) affects an estimated 40 million Americans, and (3) is the second
leading cause of school and work absenteeism behind the common cold. The Mayo
Foundation for Medical Education and Research states, at its web site
MayoClinic.com, that IBS is one of the most common gastrointestinal disorders
that physicians see accounting for approximately 3 million physician visits
annually in the United States.
According to a Pharmacor study published in 2001 by Decision Resources, in
1999, the total number of diagnosed IBS patients in the seven major
pharmaceutical markets was 16.5 million with diagnosed cases in those markets
expected to increase to 19.4 million in 2009. This number does not take into
account undiagnosed IBS sufferers. Experts, according to the Pharmacor study,
estimate that nearly 20% of the world's population suffers from IBS.
In a large U.S. survey undertaken on irritable bowel syndrome (www.ims-
global.com//insight/news-story991122a.htm) published in September 1999, nearly
40% of women reported experiencing abdominal pain they described as intolerable
without some kind of relief. Moreover, regardless of the severity of their
abdominal pain, most women in the survey said that their symptoms forced them to
miss days from work, limit travel, or avoid social outings.
Current, and Potentially Competitive, Treatments and Products.
General - To date, there has been no cure for IBS. The common treatment
has been a combination of sensible diet, stress management, and a program of
therapeutic supplements and/or prescription drugs including laxatives,
anti-diarrheal and anti-spasmodic products.
Products currently on the market, or known to be in development, that are,
or may become, competitive with PROBACTRIX(TM), classified by target ailments
and market status, include:
IBS Targeted Products.
Several large pharmaceutical companies have spent heavily on the
development of products targeted specifically to the treatment of IBS.
- Products Currently Being Marketed. The following products targeted
specifically to the IBS market are presently available:
1. Lotronex(R)/Glaxo SmithKline. On February 9, 2000, Glaxo SmithKline's
IBS drug Lotronex(R) (alosetron hydrochloride) a potent and selective
5HT3 receptor antagonist, was FDA-approved for treatment of IBS in
female, diarrhea predominant patients. From March 2000 to November
2000, more than 450,000 prescriptions were dispensed. This rapid
market acceptance can be explained by lack of an effective treatment,
as well as by the concentrated active prescriber base for the GI
market. However, on November 28, 2000, Glaxo SmithKline pulled
Lotronex(R) from the market upon the FDA's request after safety
concerns arose over reports of serious side effects. These included
extreme constipation and in some rare cases fatal ischemic colitis.
Notably, due to patient demand, the FDA, in June 2002, approved a
supplemental New Drug Application (sNDA) that allows restricted
marketing of Lotronex(R) to treat only women with severe diarrhea
24
predominant IBS. The sNDA requires a risk management program to ensure
patients and physicians are fully informed of the risks and potential
benefits of the drug.
2. Zelnorm(TM)/Novartis. Novartis' Zelnorm(TM), a 5-HT modulator thought
to be responsible for motility and bowel pain, was approved on July
24, 2002 by the FDA for patients (women only) who suffer from
constipation-prone IBS.
- Products in Late-Stage Development. The following products targeted to
IBS sufferers are known to be in late stage development:
1. Dexloxiglumide/Forest Labs. This is a selective and reversible
cholecystokinin (CCK) receptor antagonist in development for
constipation-predominant IBS. CCK is a natural hormone involved in the
modulation of the sensory and motor responses to distension in the
intestinal track which when abnormal, may lead to constipation,
bloating and abdominal pain as seen in IBS. In a Phase II trial, the
drug was found to be superior to placebo in treatment of
constipation-predominant IBS in female patients. Phase III trials are
in progress.
2. Cilansetron/Solvay. Another 5-HT modulator, this drug is in Phase III
trials by Solvay in the US and in Europe for diarrhea-predominant IBS.
Data published to date have not shown problematic side effects. If
late-stage trials proceed, this drug may be the first in its class in
the IBS market.
3. Renzapride/Alizyme Inc. This drug, a 5-HT4 receptor antagonist /5-HT3
receptor antagonist, is in Phase IIb trials in patients with
constipation-predominant IBS. Trial data is reported to have shown
improvement in a number of symptoms associated with IBS and the drug
was generally well tolerated.
- Potential Competitive Advantages of PROBACTRIX(TM). In comparison to
products presently on the market that have been burdened by potentially serious
side effects, clinical trials to date have shown PROBACTRIX(TM) to be a
potentially effective treatment for IBS with no known side effects. Based on
the prior experience with Lotronex(R) and Zelnorm(TM), a difficult burden of
proof exists for companies that are developing 5-HT modulating drugs. Those
companies must unequivocally demonstrate to the FDA that their products are
efficacious and have no serious side effects. In addition to the competitive or
potentially competitive treatments noted, anti-diarrheas and antispasmodics are
sometimes used in the treatment of IBS, although such products provide
inadequate relief from symptoms and may result in constipation.
Chronic Diarrhea Targeted Products - A number of pharmaceutical companies
have developed and offer products targeted to the treatment of chronic diarrhea,
a potential target market for PROBACTRIX(TM).
According to the US Centers for Disease Control and Prevention, diarrhea
that persists for more than two weeks is considered to be chronic. Chronic
diarrhea may pose a nuisance problem in an otherwise healthy person, a person
with a compromised immune system, or someone with a life-threatening illness.
Persons at high risk are those with severely weakened immune systems, such as
HIV/AIDS patients, those taking certain types of chemotherapy, new organ
transplant recipients, as well as travelers to developing countries. There are
two categories of causes: diarrhea caused by an infection and diarrhea not
caused by an infection. Sometimes, the cause is unknown.
25
The major cause of diarrhea in adults is infection, primarily by viruses
but also by bacteria and parasitic organisms. Infectious diarrhea is, in fact,
one of the most common illnesses in the world. The prevalence is estimated to
be three to five billion cases each year and is associated with five to ten
million deaths annually. In the US, diarrhea is the second most common
infectious illness, accounting for one out of every six infectious diseases
episodes. Each year in the U.S., from 4 to 5 million patients with infectious
diarrhea visit a physician. Depending on the causative agent, the disease
course may last from a few days to several months.
Diarrhea caused by an infection most commonly stem from parasites, such as:
Cryptosporidium parvum, Cyclospora cayetanensis, Entamoeba histolytica, Giardia
lamblia, microsporidia; bacteria, such as: Campylobacter, Clostridium difficile,
Escherichia coli, Listeria monocytogenes, Salmonella enteritidis, Shigella; and
viral infections, such as: HIV, rotavirus, Norwalk agent.
Diarrhea not caused by an infection may stem from antibiotics, high blood
pressure medications, cancer drugs, Crohn's disease, colitis, diabetes, thyroid
and other endocrine diseases, food additives (sorbitol, fructose, and others),
food allergies, previous surgery or radiation of the abdomen or GI tract and
tumors.
- Products Currently Being Marketed. Three major types of anti-diarrhea
medications are available over-the-counter in the US and these are:
anti-peristaltic agents - such as loperamide (Imodium(R)) and diphenoxylate
(Lomotil(R)); Bismuth-based compounds - such as Pepto-Bismol(R); and Absorbents
- - such as attapulgite (Kaopectate(R), Donnagel(R)) and polycarbophil
(Equalavtin(R)). Anti-peristaltic agents are similar to opiates (such as
codeine). Like opiates, they relax the intestinal muscles and slow transit
through the intestines so that there is more time for fluid to be absorbed from
the intestine. This causes less fluid to be excreted in the stools. The
relaxation of the intestinal muscles caused by these medications also decreases
cramps.
The FDA approved loperamide (Imodium(R)) in 1976 for acute diarrhea and for
chronic diarrhea in patients with inflammatory bowel disease (Crohn's disease
and ulcerative colitis). Loperamide is comparable in efficacy to diphenoxylate
(Lomotil(R)). Although loperamide is related chemically to opiates, it does not
have their pain-relieving effects.
According to the CDC, anti-peristaltic agents may be contraindicated by
persons with fever or bloody diarrhea - as in cases of Traveller's Diarrhea,
because they can increase the severity of disease by delaying clearance of
causative organisms. These agents are now available over the counter. Adverse
effects (toxic megacolon, sepsis, and disseminated intravascular coagulation)
have been reported as a result of using these medications to treat diarrhea.
- Potential Competitive Advantages of PROBACTRIX(TM). PROBACTRIX(TM) could
potentially be a new safe and efficacious drug for chronic diarrhea and offers
potential advantages over Imodium(R) and Lomotil(R), the major over-the-counter
anti-diarrheal medications. While no side effects to date have been reported
26
for PROBACTRIX(TM), reports of adverse side effects and constipation for
Imodium(R) and Lomotil(R), could limit their use for long-term administration.
Also, PROBACTRIX(TM) could more powerfully treat the cause of the chronic
diarrhea as well as the symptoms.
Traveler's Diarrhea Targeted Products - A number of pharmaceutical
companies have developed and offer products targeted to the treatment of
traveler's diarrhea, a potential target market for PROBACTRIX(TM).
According to the CDC, traveler's diarrhea is the most common illness
affecting travelers. Each year, traveler's diarrhea affects between 20%-50% of
international travelers, an estimated 10 million persons. Bacterial
enteropathogens are responsible for at least 80 percent of cases. The onset is
usually within the first week of travel or soon after returning home. Some
travelers experience more than one episode during their trip. The economic
impact of traveler's diarrhea is substantial because fear of sickness is one of
the major deterrents to tourism. Persons at particular high-risk include young
adults, immuno-suppressed persons, persons with inflammatory bowel disease or
diabetes, and persons taking H-2 blockers or antacids.
Traveler's diarrhea usually is a self-limited disorder and often resolves
without specific treatment. Morbidity of the untreated disease may be
substantial with approximately 1 percent of patients hospitalized, 20 percent
confined to bed for at least one day, and nearly 40 percent changing their
itinerary. Travelers with more serious cases require treatment, most often with
antibiotics.
- Products Currently Being Marketed. The principal products used in the
treatment of traveler's diarrhea are antibiotics. A vaccine has also been
introduced targeted to the prevention of traveler's diarrhea. The principal
current products in that regard are:
1. Fluoroquinolones/CIPRO. Fluoroquinolones are the drugs of choice and
the most widely used is ciprofloxacin (CIPRO). CIPRO is an antibiotic.
However, antibiotic treatment is complicated by the emergence of
resistant enteric pathogens, especially Campylobacter spp. Antibiotics
can also trigger the overgrowth of abnormal microbial flora, which
could cause clinical disorders. Resistance to fluoroquinolones is the
least common complication, but this is changing as use of these agents
increases worldwide.
2. Rifaximin/LUMENAX. Salix Pharmaceutical's New Drug Application (NDA)
for LUMENAX for the treatment of traveler's diarrhea has been accepted
for filing by the FDA. Rifaximin is a non-systemic antibiotic with
broad spectrum of enteric bacterial pathogens and the delivery of high
concentrations of antibiotic to the gastrointestinal tract. Salix
licensed U.S. and Canadian rights to rifaximin from Alfa Wassermann.
The product is marketed in Italy by Alfa Wassermann and is licensed by
Alfa in Mexico to GlaxoSmithKline and Schering-Plough.
3. Dukoral. PowderJect Pharmaceuticals has just submitted a European
Marketing Authorization Application (MAA) for it cholera and travel
diarrhea vaccine, Dukoral. This is a drinkable vaccine that protects
against diarrhea caused by Vibrio cholerae (cholera) and
enterotoxigenic E. coli (ETEC). This is the first vaccine for ETEC and
the first for both cholera and ETEC. Cholera is responsible for severe
diarrhea, and if untreated can result in rapid death. ETEC, which
27
generally results in milder disease, is the single most common cause
of traveler's diarrhea. Dukoral is approved for combined protection
against both cholera and ETEC in 15 countries worldwide.
- Potential Competitive Advantages of PROBACTRIX(TM). We believe that
PROBACTRIX(TM) could potentially be used by susceptible patients as a powerful
agent to prevent disease onset prior to travel to high risk areas.
Bismuth-based agents, although commonly used, cannot be administered in large
enough doses to be sufficiently effective. In contrast with a vaccine,
PROBACTRIX(TM), is a natural product with a potentially lower risk safety
profile. Antibiotics, though effective treatments, cannot be used as
prophylactic therapy due to their side effects profile. Also, as a medical food,
PROBACTRIX(TM), would be more widely available than a prescription drug.
Antibiotic-Associated Diarrhea Targeted Products - Limited efforts have
been undertaken to date to develop and offer products targeted specifically to
the treatment of antibiotic-associated diarrhea, a potential target market for
PROBACTRIX(TM).
The most common adverse effect of antibiotics is diarrhea. It is known that
a normal antibiotic treatment significantly changes the intestinal micro ecology
and shifts the balance for up to three to four months. Moreover, it has been
found that antibiotic-associated diarrhea, most commonly triggered by the
bacterium C. difficile, can be serious and is associated with a longer hospital
stay, a higher infection risk and a three-fold increase in mortality.
C.difficile-associated disease is a debilitating, frustrating and recurrent
infection that makes it necessary for the doctor to prescribe an antimicrobial
for an antimicrobial-induced problem.
There has been considerable interest in the use of probiotics, such as
PROBACTRIX(TM), in the prevention of antibiotic-associated diarrhea as a
strategy to normalize microbial function in the bowel. Commercially-available
lactobacillus-based probiotics have been used to prevent and treat diarrhea but
few have been the subject of rigorous clinical studies. The activity of the
probiotic S.boulardii has been studied in C.difficile-associated diarrhea and
has shown some beneficial impact.
We believe that PROBACTRIX(TM) could potentially be used prior to
antibiotic administration and also as an adjunctive therapy together with a
standard anti-C.difficile antimicrobial treatment, such as metronidazole or
vancomycin, to avoid the potential side effects of these drugs and restore
healthy microbial balance. Significantly, PROBACTRIX(TM) does not cause
antibiotic resistance.
We believe that PROBACTRIX(TM) could also be used to prevent the adverse
side effects of antifungal medications that may result from the overgrowth of
Candida albicans (causing uncomfortable yeast infection). Most studies of
probiotics for vaginal infections, commonly with lactobacillus-based products,
have lacked rigorous clinical design. Potentially, PROBACTRIX(TM) could be
administered whenever women take antimicrobials, such as metronidazole, to
reduce the risk of candidal vaginitis.
- Potentially Competitive Products. As noted above, Lactobacillus-based
probiotics have been used on a limited basis in the treatment of
antibiotic-associated diarrhea but these products have not been rigorously
studied. In addition, Bio Balance has data suggesting that PROBACTRIX(TM) is
considerably more powerful than lactobacillus-based products. This is
predicated on the fact that PROBACTRIX(TM), delivered in a liquid formulation,
is comprised of live bacteria and works immediately in the GI tract.
28
- Potential Competitive Advantages of PROBACTRIX(TM). PROBACTRIX(TM) could
be recommended by physicians when they prescribe antibiotics and antifungal
agents to potentially prevent and reduce side effects and also reduce the
transfer of antibiotic resistance to intestinal microbes.
Probiotics
The Gastrointestinal (GI) Tract - The primary role of the gastrointestinal
tract is to digest food and absorb nutrients in order to meet the metabolic
requirements and demands needed for normal human growth and development. The
gastrointestinal tract functions as a barrier against antigens from
microorganisms and food. Immuno-physiologic regulation in the gut depends on
the establishment of indigenous microflora.
Furthermore, the intestinal mucosa provides a protective host defense
against the constant presence of antigens from food and microorganisms in the
gut lumen. Protection against potentially harmful agents is ensured by many
factors, including saliva, gastric acid, peristalsis, mucus, intestinal
proteolysis, and specifically the intestinal micro-flora. Because some of these
bacteria are beneficial to health while others are dangerous, the microbial
colonization of the intestine has important health implications for humans,
ranging from infection susceptibility to toxic or carcinogenic effects.
Microbial colonization (the clinging of bacteria to the intestinal wall)
begins after birth, but the development of the intestinal microflora and the gut
barrier is a gradual process. The maternal intestinal flora is a source of
bacteria colonizing the newborn's intestine. Colonization is also determined by
contact with its surroundings. Initially, facultative anaerobic strains
dominate. Thereafter, differences exist in the composition of species,
primarily influenced by choice of diet. After weaning, the composition of the
microflora resembles that of the adult flora. Although bacteria are distributed
throughout the intestine, the major concentration of microbes can be found in
the large intestine.
It is estimated that the human intestine contains more that 400 different
bacterial species and approximately 100 trillion (1014) bacterial cells, which
is more than ten times the number of cells comprising the human body. The most
prevalent resident bacterial species inhabiting the adult intestinal tract in
Western societies include Bacteroides, eubacteria, peptostreptococci,
bifidobacteria, enterobacteria, streptococci, lacto bacilli, clostridia and
staphylococci.
The intestines of man and animals constantly have both beneficial or good
microorganisms (e.g. L. acidophilus, L. casei, and L. bifidus), and pathogens or
bad microorganisms (e.g. Salmonella typhimurium, Staphlococcus aureus, E. Coli
and Colstridium perfringens). These populations of organisms wage a constant
war with each other in order to maintain a proper balance. The unfriendly
pathogenic microbes are beneficial to the ecology of the intestines when they
are in the minority and in balance with the friendly beneficial bacteria. When
pathogenic microbes significantly outnumber the beneficial ones, health problems
result. For optimum "gut flora balance," the beneficial bacteria should
predominate, presenting a barrier to invading pathogenic organisms.
Approximately 85% of the intestinal microflora in a healthy person should be
beneficial bacteria and 15% pathogenic bacteria.
29
The intestinal microflora is very important to the host for several
reasons. The gut microflora is an important constituent in the intestine's
defense barrier. The microflora increases resistance to new colonization, or
invasion by pathogenic organisms. They also protect against the overgrowth of
already-present potentially pathogenic organisms. Another important intestinal
flora function is its high metabolic activity. The host is further protected
because the gut microflora elicit specific immune responses at a local and a
systemic level.
In addition to participation in tolerance induction, intestinal
colonization acts as an important antigenic stimulus for the maturation of the
gut-associated lymphoid tissue. The capacity to generate IgA-producing cells
progressively increases in response to intestinal antigenic stimulation,
particularly the establishment of the gut microflora. Upon colonization,
organisms have been shown to translocate to the mesenteric lymph node, but the
number of translocating bacteria begins to decrease with the onset of specific
IgA response, reflecting maturation of the intestine's immunologic defense
mechanisms. These results suggest that intestinal microflora are important in
human individuals and that qualitative differences in the composition of the
microflora might affect immunologic homeostasis.
The GI Microflora Problem - Many factors affect the composition of the
bacteria present in the intestines. Throughout the human life cycle, conditions
exist that produce increased risk for infection, increased activity of
opportunistic pathogens and decreased protection from normal microflora.
Several pathways can upset the intestinal micro floral balance. The
administration of antimicrobial agents (antibiotics) is a common cause of micro
floral imbalance. Stress to the host, in the form of diet or climate, aging,
medication, illness, infection, geographic location, socioeconomic circumstances
and lifestyle can upset this balance and change the gut's pH and other
environmental factors to favor the growth of pathogens.
Micro floral imbalance leads to decreased resistance to pathogenic
colonization and to alterations in the metabolic activities of the intestinal
flora by the pathogenic bacteria. Diarrhea is the most common result, but other
GI disorders can also develop. Studies have found that these pathogens produce
endotoxins, which cause symptoms such as fever, leucopenia, circulatory
problems, and hyperglycemia.
The amount and type of fermentable material (i.e. growth substrate) in the
gut also plays a role in determining the bacterial species present. Diet, not
only regulates the species and concentration of microorganisms in the gut, but
also has been reported to influence the metabolic activities of those
microorganisms. Thus, it may be possible, at least transiently, to manipulate
the gut microbiotia through bacterial supplementation.
It is the recognition of the effects of colonizing microbes in association
with the human body and the combination of wanting to encourage the positive and
discourage the negative properties of invading microbes that have led to
probiotic theory. The demonstration that the gut microflora are an important
constituent in the intestinal mucosal barrier has introduced the concept of
probiotic therapy: the therapeutic application of potentially beneficial
microorganisms, which act as probiotics.
"PROBIOTICS" ARE LIVE MICROORGANISMS OR MICROBIAL MIXTURES THAT ARE
ADMINISTERED TO BENEFIT THE ANIMAL OR HUMAN HOST BY IMPROVING ITS
MICROBIAL BALANCE BY STIMULATING THE GROWTH OF HEALTHY BACTERIA.
30
The criteria for a microorganism to be defined as probiotic include that
the strain
-- be of human origin,
-- be safe for human use,
-- be stable in acid and bile,
-- adhere to the intestinal mucosa.
The establishment of proper microflora balance in the natural microflora
has led to the introduction of novel therapeutic interventions based on the
consumption of cultures of beneficial live microorganisms that act as
probiotics. The positive results from human volunteer or clinical studies, even
in the absence of compelling mechanistic studies, provide validity to the
probiotic concept. This concept has been developed further through the decades,
and today, especially in Europe and Japan, probiotic-focused research, product
development and marketing are at an all-time high.
In addition to their proposed direct effects on humans, probiotics may have
additional utility in animal agriculture. Probiotics have been tested for
preventing pathogens of animal origin from colonizing in food animals, and the
products derived from them. Probiotic bacteria can be found worldwide in a
variety of products, including conventional food products, dietary supplements
and medical foods.
The probiotic theory offers an intriguing approach to controlling negative
metabolic or pathogenic activities of microbes to which we are exposed on a
daily basis. Probiotics have the ability to provide this benefit. Dietary
probiotic approaches have obvious advantages in terms of cost, reduced side
effects and ease of market penetration to large numbers of people, when compared
to standard drug based solutions.
History of Probiotics - Microbes have been essential to food and alcoholic
fermentations for thousands of years. Over the last century, different
microorganisms have been used for their ability to prevent and cure diseases,
leading to the coining of the term probiotics, or "pro-life". The concept of
probiotics evolved around 1900, when Nobel Prize-winning Elie Metchnickoff
hypothesized that the long, healthy lives of Bulgarian peasants were the result
of their consumption of fermented milk products.
The first clinical trials were completed in the 1930s regarding probiotic
effects on constipation. Research on probiotics has steadily increased since
then, much of it taking place in Europe and Asia. Worldwide, probiotics are
currently available in a variety of food products and supplements. In the U.S.,
food products containing probiotics are most exclusively dairy products - fluid
milk and yogurt - due to the historical association of lactic acid bacteria with
fermented milk. The most frequently used bacteria in these products belong to
the Lactobacillus and Bifidobacterium species.
Due to their long history of use in food fermentation, the FDA has
designated many probiotics to be generally recognized as safe (GRAS). Even for
those without GRAS status, the industry has used probiotic bacteria in food
fermentations with the assumption that their history of use implies their
safety. The food industry will need to carefully assess the safety and efficacy
of probiotics before incorporating them into food products.
31
Probiotic Selection Criteria - Historically the selection of probiotic
strains has been based on the criteria of efficacy and the absence of side
effects. Additional criteria for the use of appropriate strains include the
ability to 1) exert a beneficial effect on the host 2) survive transit through
the intestinal tract 3) adhere to the intestinal epithelial cell lining 4)
produce antimicrobial substances that target pathogens 5) stabilize the
intestinal microflora. For probiotics to be commercially viable, they must have
viable shelf life in food or preparations, contain a large number of viable
cells at the time of consumption and be both, non-pathogenic and nontoxic.
The Effect of Probiotics - Published scientific literature and clinical
studies undertaken in Israel and the former Soviet Union suggest that probiotics
can decrease the incidence, duration and severity of many gastrointestinal
illnesses.
Specifically, the safety and efficacy of non-pathogenic E.coli has been the
subject of a number of clinical studies conducted in 1997 and 1998 at
twenty-seven medical research and therapeutic institutions in the former Soviet
Union and Israel, including various departments of the Moscow Medical Institute;
the G.N. Gabrichevsky Institute for Epidmiology and Microbiology in Moscow; the
Ministry of Health of the Dagestan Republic; various departments of the Russian
Academy of Medical Sciences; and the Rabin Medical Center at Tel Aviv
University, Israel. Those studies covered a broad range of uses of E.coli
including: clinical efficacy (1) in patients undergoing therapy, with
dyspeptical symptoms, developed following antibiotherapy, and in patients with
large bowel irritable syndrome, (2) in chronic gastrointestinal diseases
accompanied with diarrhea syndrome with subsequent development of intestinal
disbiosis, (3) in surgical diseases, (4) in pediatric patients, (5) in acute
infectious diarrheal diseases as a single therapeutic preparation, (6) in acute
infectious diarrhea, complicated by severe pathological background, (7) in the
treatment of patients with acute intestinal infections and viral hepatitis with
pronounced intestinal disbiosis, (8) in a region with increased infectious
morbidity, (9) in the treatment of diarrheal syndrome and intestinal disbiosis
in patients with HIV-infections, (10) in the prevention and treatment of
diarrheal syndrome and other intestinal dysfunctions induced by anticancer
treatment and late radiation enterocolitis, and (11) effect on the immune status
of patients with neoplastic cancers during radiation and chemotherapy. The
results of those clinical studies were reported in three publications released
in 1999. In each of those studies it was concluded that introduction of an
E.coli probiotic was effective in the treatment of symptoms studied, with no
observed safety concerns being noted.
Additional studies on animals have been conducted with respect to the use
of E.coli probiotics, including an acute oral toxicity study on rats conducted
by Harlan Biotech Israel Ltd. in 1999 which study indicated that the product was
safe and nontoxic.
Scientific articles supporting the potential beneficial effects of
probiotics, include: Probiotics and Functional Foods in Gastrointestinal
Disorders, Martin H. Flock, MD and JoAnn Hong-Curtiss, MD, Current
-------
Gastroenterology Reports, 2001, 3:343-350; Non-pathogenic Escherichia coli
- -------------------------
versus mesalazine for the treatment of ulcrative colitis: a randomised trial, BJ
Rembacken, ATR Axon, The Lancet, August 21, 1999, 354:635-639; Evaluation of
-----------
probiotic treatment in a neonatal animal model, D.J. Lee, R.A. Drongowski, A.G.
Coran, C.M. Harmon, Pediatric Surgery International, 2000, V. 4, No. 4, 237-242;
-------------------------------
Probiotics and E.coli Infections in Man, R. Lodinova-Zadnikova, U. Sonnenborn,
H. Tlaskalova, The Veterinary Quarterly, V. 20, Supp. 3, June 1998, S78-S81;
--------------------------
Antagonistic effect of Lactobacillus acidophilus, Saccharomyces boulardii and
32
Escherichia coli combinations against experimental infections with Shigella
flexneri and Salmonela enteritidis subsp. typhimurium in gnotobiotic mice,
J.V.M. Filho-Lima, E.C. Vieira and J.R. Nicoli, Journal of Applied Microbiology,
-------------------------------
March 2000, V. 88, No. 3, 365-370; and Escherichia coli as a Probiotic?, G.J.
Jansen, A.C.M. Wildeboer-Veloo, D. van der Waaij, J.E. Degener, Infection 26
---------
(1998) No. 4, 232-233.
Those publications and studies indicate that probiotic bacteria, and
specifically E Coli:
-- preserve intestinal integrity and mediate the effects of a number of
other intestinal diseases;
-- encourage the colonization of the gut and the restoration of micro
floral balance;
-- can prevent the overgrowth of potential pathogens in the
gastrointestinal tract;
-- improve symptoms of inflammatory bowel disease (IBD), and ulcerative
colitis with consumption of certain strains of lacto bacilli;
-- may inhibit the gastric colonization and activity of Helicobacter
pylori, which is associated with gastritis, peptic ulcers and gastric
cancer;
-- are useful in the treatment of many types of diarrhea, including
antibiotic-induced diarrhea in adults, travelers' diarrhea and
diarrheal disease in young children caused by rotaviruses;
-- promote the endogenous host defense mechanism, in addition to the
effects of probiotics on non-immunologic gut defense that are
characterized by the stabilizing of the gut;
-- enhance both specific and nonspecific immune responses;
Those publications and studies showed no harmful inflammatory response from
the use of probiotics.
Because diarrhea is a major cause of infant death worldwide and can be
incapacitating in adults, the widespread use of probiotics could be an
important, non-invasive means to prevent and treat these diseases, particularly
in developing countries.
The action of microorganisms during the preparation of cultured foods or in
the digestive tract has been shown to improve the quantity, availability and
digestibility of some dietary nutrients. In addition to nutrient synthesis, the
actions of microorganisms in the digestive tract can, to a limited extent
improve the digestibility of some dietary nutrients. These nutrients, such as
enzymes, are released into the intestinal lumen that exerts synergistic effects
on digestion, alleviating symptoms of intestinal malabsorption. In addition,
SCFA concentration helps to maintain an appropriate pH in the colonic lumen,
which is critical in the expression of many bacterial enzymes and in foreign
compound and carcinogen metabolism in the gut.
Probiotics may also suppress viable counts of an undesired organism in
other ways. They can produce antibacterial compounds and compete for nutrients
or physical real estate on the intestine wall. Both are properties that the bad
organisms need to survive. Further, they may alter the microbial metabolism by
increasing or decreasing enzyme activity. They may additionally stimulate the
immune system by increasing antibody levels. The probiotic elements themselves
are bound to the carrier in a manner that protects the beneficial microorganisms
from the above activities during their passage through the GI tract.
How Probiotics Works - The mechanism(s) by which probiotics exert their
effects on the host are still speculative. Probiotics may antagonize pathogens
33
directly through production of antimicrobial and antibacterial compounds such as
cytokines, hydrogen peroxide, bacteriocins, and butyric acid. Probiotics target
specific groups of pathogenic organisms. This decreases the number of pathogens
by affecting their metabolism or by stimulating immunity to them.
Probiotics reduce gut pH by stimulating the lactic acid - producing
microflora, competing for binding and receptor sites that pathogens occupy
improving immune function and stimulating immunomodulatory cells or producing
lactase that aids in lactose digestion.
Competitive colonization enables probiotics to compete for binding and
receptor sites that pathogens occupy, thereby minimizing the ability of
pathogens to colonize and grow. Probiotic bacteria compete with pathogens for
available nutrients and other growth factors removing the nourishment that the
pathogens need to survive.
Among the possible mechanisms of probiotic therapy is the promotion of the
non-immunologic gut defense barrier, which includes the normalization of
increased intestinal permeability and altered gut micro ecology. Another
possible mechanism of probiotic therapy is improvement of the intestinal tract
immunologic barrier, particularly through intestinal immunoglobulin A responses
and alleviation of intestinal inflammatory responses, thereby producing a
gut-stabilizing effect. Many probiotic effects are mediated through immune
regulation, particularly through balance control of proinflammatory and
anti-inflammatory cytokines.
It is uncertain whether the ability of probiotics to adhere to intestinal
mucosal cells is required for optimal health effects. Some experts believe that
adhesion is necessary, with adhesion properties depending upon bacterial
concentration, resident pH, transit time, and dietary factors. Others believe
that probiotics exert their effect through only a loose affiliation with the
mucosal layer that does not require site-specific attachment. Microbes may
exert their effects without adhesion if consumed on a regular basis, as in the
case of yogurt bacteria aiding lactose digestion.
Bio Balance's Technology and Product
General - The basic active component in Bio Balance's product is a
patented strain of M-17 Escherichia Coli (E.coli), the most competitive
bacterium in healthy microflora of man and animals. M-17 has been used for the
preparation of Colibacterin, Bificon and other medicines and food supplements.
Clinical studies of liquid food supplements with M-17 E.Coli were performed
in the former Soviet Union in the late 1980's. In those studies, and in studies
conducted in Israel, these biologically active food supplements were found
efficient in the treatment of intestine infections of various etiologies and
showed no harmful side effects.
Bio Balance Technology - Bio Balance's first product, PROBACTRIX(TM) is a
non-pathogenic E-coli based probiotic microorganism. PROBACTRIX(TM) contains a
single species of a patented non-pathogenic probiotic microorganism. Bio
Balance believes the PROBACTRIX(TM) formulation is useful in the restoration of
normal GI function and Bio Balance believes PROBACTRIX(TM) may be utilized to
maintain or reinstate normal gastrointestinal microflora. It may also aid in
the prevention and/or treatment of numerous gastrointestinal infections or
34
disorders. The following list highlights several diseases, infections, and
disorders for which Bio Balance believes PROBACTRIX(TM) can be effective:
-- IBS and its various symptoms including; gas, pain, bloating, surging,
diarrhea, constipation and alternating bouts of diarrhea and
constipation
-- Certain forms of inflammatory bowel disease ("IBD")
-- Chronic diarrhea;
-- Infectious diarrhea caused by Salmonella or Shigella
-- C. Difficile, E. coli, Campylobacter, Clostridium, and other bacterium
-- Diarrhea resulting from antibiotic therapy, radiotherapy, or
chemotherapy
Bio Balance also intends to explore the utility of PROBACTRIX(TM) in the
treatment of gastrointestinal complications of immune disorders.
The proprietary formulation used for Bio Balance's product consists of a
patented proprietary strain of non-pathogenic E. coli preserved in a proprietary
extract formulation. The proprietary strain of E. coli derives from an organism
that was originally isolated from the intestinal microflora of healthy
volunteers. The product is based on research and clinical studies by the
inventors. The technology and the processes comprise conditions that preserve
M-17 E.Coli in the biologically active form with a shelf life of one year at
room temperature.
The formula was approved as a food supplement for human use by the Ministry
of Health of Israel in May 1998 and was approved for use as an animal food by
the Ministry of Agriculture of Israel in September 1998. In August 2000, Tetra
Pharm began supplying the formula to pharmacies in Israel and continued
manufacture and sale of the product until July 2001 when Tetra Pharm agreed to
cease manufacture and sale of the product in conjunction with its agreement to
sell all rights relating to the product to Bio Balance and after which date
production of the formula has been limited to supplying hospitals and
Universities where Bio Balance is conducting further research. The formula has
been extensively tested and used on animals (poultry and piglets) as well as on
a number of human volunteers with known gastrointestinal disorders. Bio Balance
is not aware of any side effects occurring as a result of the use of the
product. Bio Balance plans on introducing the product into the United States
market upon attaining GRAS and medical food status, including the successful
completion of two additional clinical trials designed to provide statistically
significant data supporting the effectiveness and safety of the product. There
can be no assurance that Bio Balance's product will satisfy applicable
regulations for use as a medical food in the United States or that the product
will ever be accepted as a medical technology.
The Need for FDA Approval of Bio Balance's Product
General - Government authorities in the United States and other countries
extensively regulate, among other things, the research, development, testing,
manufacture, labeling, promotion, advertising, distribution and marketing of
products such as PROBACTRIX(TM).
Bio Balance plans on introducing its product, PROBACTRIX(TM) into the
United States as a medical food. Bio Balance also plans, at a later date, to
introduce a different version of its product as an ethical drug. The regulatory
scheme varies greatly between a medical food and an ethical drug. Bio Balance's
preference is to introduce Bio Balance's product first as a medical food since
the approval process for a medical food will be both timely and cost effective.
35
Medical Foods.
- Overview. A "medical food" means a food which is formulated to be
consumed or administered enterally under the supervision of a physician and
which is intended for the specific dietary management of a disease or condition
for which distinctive nutritional requirements, based on recognized scientific
principles, are established by medical evaluation. Thus, unlike dietary
supplement or conventional foods, a medical food that is intended for the
specific dietary management of a disease or condition for which distinctive
nutritional requirements have been established, may bear scientifically valid
claims relating to providing distinctive nutritional support for a specific
disease or condition.
Medical foods are distinguished from the broader category of foods for
special dietary use (e.g., hypoallergenic foods) and from foods that make health
claims (i.e., dietary supplements) by the requirement that medical foods be used
under medical supervision.
It should be noted, however, that medical foods are not foods that are
simply recommended by a physician or other health care professional as part of
an overall diet designed to reduce the risk of a disease or medical condition or
as weight loss products.
Regulations for medical foods review and/or listing as well as registration
requirements for medical foods manufacturers have not yet been established and,
for now, such products are reviewed on a case-by-case basis.
In order to be distributed in the U.S., medical foods are required to
conform to those regulations dealing with general food safety and labeling,
however, they do not have to include nutrition information on their labels, and
their claims do not need to meet specific standards but the label must clearly
state that the product is intended to be used to manage a specific medical
disorder or condition, and for use under medical supervision. Of course, the
product must meet the medical food definition, and be formulated so as to be
safe and efficacious as a medical food.
It should be noted, however, the FDA has for some time been exploring ways
to more specifically regulate medical foods. Some examples include methods for
safety evaluations, standards for claims, and requirements for specific
information on the labels. No due date for this initiative has been published,
and it is unlikely to occur in the near future. Should FDA establish more
stringent regulatory requirements for medical foods, this could significantly
impact the cost and timeline for bringing the PROBACTRIX(TM) product to market.
In order to market a product as a medical food, the product must satisfy
two specific criteria, (1) the product must meet the statutory definition of a
medical food, and (2) the ingredients in the medical food must be either
approved food additives or "generally recognized as safe" (GRAS). The time
frame for establishing PROBACTRIX' status as a medical food which contains GRAS
ingredients may be as short as 12 months and the cost could be as little as
several million dollars.
Unlike an ethical drug, marketing of a product as a medical food requires
no approvals of, or filings with, FDA (although voluntary filings may be made at
36
Bio Balance's discretion). Instead, a "self determination" process is utilized
to establish both satisfaction of the medical foods statutory definition and
GRAS status.
- Statutory Definition Requirement. Bio Balance believes that
PROBACTRIX(TM) will satisfy the statutory definition of a medical food since it:
(i) is a formulated and processed product for the partial or exclusive feeding
of a patient by means of oral intake; (ii) is intended for the dietary
management of a patient who, because of therapeutic or chronic medical needs,
has limited or impaired capacity to ingest, digest, absorb or metabolize
ordinary foodstuffs or certain nutrients, or who has other special medically
determined nutrient requirements, the dietary management of which cannot be
achieved by the modification of the normal diet alone; (iii) provides
nutritional support specifically modified for the management of the unique
nutrient needs that result from the specific disease or condition, as determined
by medical valuation; (iv) is intended only for a patient receiving active and
ongoing medical supervision wherein the patient requires medical care on a
recurring basis, for among other things, instructions on the use of the medical
food; and (v) is intended for use under medical supervision.
- GRAS Requirement. Under the current regulatory scheme, products coming
within the definition of a medical food must make a determination that the
ingredients in the product are either approved food additives or generally
recognized as safe (GRAS) before introducing the product to market. GRAS status
is determined by the company introducing the product without the need for any
pre-marketing clearance from the FDA, although a process of voluntary
notification to the agency is available, in which case FDA has 90 days to raise
questions or objections to the GRAS self-determination.
Establishment of an ingredient as GRAS based upon scientific procedures
requires (1) technical evidence of safety and functionality for the intended use
and use levels as defined under the Federal Food, Drug, and Cosmetic Act, and
(2) a conclusion that this technical evidence is generally known and accepted by
relevant experts. The technical element standard of GRAS requires that
information about the substance establish that the intended use of the substance
is safe. Satisfaction of the "general recognition" requirement of GRAS,
according to the proposed rules, may be established through information
published in a peer-reviewed scientific journal, publication of data and
information in secondary scientific literature, such as scientific review
articles, textbooks and compendia, or the opinion or recommendation of an
authoritative body.
Bio Balance began the process of establishing GRAS status in the spring of
2002 with the retention of Daniel Kracov of Patton Boggs to develop and
implement a process to establish GRAS and to conduct clinical studies to obtain
statistically significant data to support the marketing of the product as safe
and effective. Under that process, (1) an exhaustive review and write-up
relating to scientific literature relating to the safety of the product will be
performed, (2) laboratory testing will be conducted to verify that the product
in question is the same as reflected in the scientific literature reviewed, and
(3) a panel of experts will review the literature and laboratory results and
render an opinion as to whether the product satisfies GRAS status.
A panel composed of the GRAS experts and additional members with relevant
expertise will also review PROBACTRIX(TM) for medical food status and provide an
opinion as to whether the product meets the medical food definition. As of
March 1, 2003, (1) the literature review had been completed, (2) laboratory
testing to verify the character of Bio Balance's product had been completed at
37
two universities and at a well known and established testing center for
bacteriological strains, and (3) the first peer reviewable article relating to
PROBACTRIX(TM) had been published and efforts were ongoing to secure peer
reviewed articles covering Bio Balance's complete dossier. In February 2003,
Bio Balance hired Dr. Robert Hoerr, MD, Ph.D. and Dr. Eileen Bostwick, Ph.D. as
Director of Medical and Regulatory Affairs and Director of Research and
Development, respectively, to, among other things, accelerate and complete the
GRAS and medical food determination process. Bio Balance anticipates that
completion of the GRAS and medical food determination process will occur in
2003. The estimated cost of carrying out these determinations, exclusive of any
additional data development, is between $200,000 and $350,000.
While Bio Balance believes that the current regulatory rules will allow Bio
Balance to begin marketing its product as a medical food immediately following
determination of GRAS and medical food status based upon data currently under
development, concurrent with these determinations, Bio Balance intends to
undertake at two additional clinical trials to develop statistically significant
efficacy data to support marketing of its product for specific conditions. At
March 1, 2003, protocols were being written for two double blind clinical
trials, the first of which is expected to begin as early as mid April 2003 in
Israel. Those trials are anticipated to require several months to perform and
to cost approximately $600,000 per trial.
Although Bio Balance intends to comply with the procedures and regulations
to establish and market its product as a medical food, there can be no assurance
that the FDA will not contest the GRAS status of the ingredient(s) in
PROBACTRIX(TM) or the status of our product as a medical food, in which case
introduction of our product to the market could be delayed for an extended
period, or indefinitely, pending resolution of the product's status or, in the
alternative, compliance with the regulatory process applicable to ethical drugs.
Biological Drug
- General. Bio Balance also plans to introduce a different version of its
product and plans to apply to the FDA for approval of our product,
PROBACTRIX(TM), as an ethical drug.
Bio Balance believes that another version of our product may fall within
the scope of biological therapeutic or a biotechnology-derived product.
In contrast to most drugs that are chemically synthesized with a known
structure, most biological products are complex mixtures that are not easily
identified or characterized and are derived from living sources, such as humans,
animals, plants and microorganisms.
Biological products are approved for marketing under provisions of the
Public Health Service Act (PHS Act). However, because most biological products
also meet the definition of drugs under the Federal Food, Drug, and Cosmetic Act
(FD&C Act), they are also subject to regulation under the FD&C Act provisions.
Under the PHS Act, any company which wants to introduce a biological
product into the US market must hold a license for the product issued by CBER.
Licensing of biological products under the PHS Act is very similar to the new
drug approval process for human drugs under the FD&C Act. Following initial
laboratory and animal testing, a biological product is studied in clinical
trials in humans under an investigational new drug application (IND). If the
data generated by the studies demonstrate that the product is safe and effective
38
for its intended use, the data are submitted to CBER as part of a Biologics
License Application (BLA) for review and approval for marketing.
- Regulatory Requirements - Clinical Studies. Clinical development of a
drug and biological drug product is often described as consisting of three
sequential phases (Phase I-III) with a fourth (IV) post-approval phase.
1. Phase I Clinical Studies
Phase I starts with the initial administration of the investigational
new product into humans. Normally, studies in this phase have
non-therapeutic objectives and are conducted in healthy volunteers.
Phase I studies can be open; baseline controlled or, preferably, use
randomization and blinding to improve the validity of observations.
2. Phase II Clinical Studies
The primary objective of Phase II is to explore therapeutic efficacy
in patients. Phase II studies should be conducted in a group of
patients who are selected by relatively narrow criteria (i.e., a
specific GI disorder), leading to a relatively homogeneous population.
An important goal of these studies is to determine the dose and
regimen for Phase III studies. Additional objectives to be considered
include evaluation of potential study endpoints, therapeutic regimens
(including concomitant therapies) and target populations (e.g., mild
versus severe disease).
3. Phase III Clinical Studies
The primary objective of Phase III studies is to demonstrate the
therapeutic benefit of the product, i.e., to confirm the preliminary
evidence accumulated in Phase II studies that the product is safe and
effective for use in the intended indication and target population.
These studies are intended to provide an adequate basis for the
marketing approval and to support adequate instructions for use of the
product. That means that Bio Balance will have to demonstrate that Bio
Balance has already completed Phase I studies on animals proving that
the product is non-toxic and Phase II trials proving our efficacy. In
the event Bio Balance must file with the FDA for approval as a
biological drug, Bio Balance intends to consult with experienced FDA
counsel to determine if data compiled in previous clinical studies in
the former Soviet Union and Israel are sufficient to satisfy FDA Phase
I and Phase II requirements. If that data is not sufficient to satisfy
those requirements, Bio Balance will be required to begin with Phase I
or Phase II studies.
The alternatives presented above significantly differ from each other in
many aspects. In respect to timetable, the faster path is the medical food
alternative whose approval process could take less than one year. With respect
to cost, the most expensive alternative is the drug path for which clinical
studies are an integral (and costly) part of it including the supporting
services that are required (e.g., laboratory testing, regulatory services, etc.)
with a cost of $50 million or more (depending on which Phase II or III) and
39
anywhere from 2 years to 5 years depending on which Phase Bio Balance must begin
with. The cost of the medical food path, on the other hand, would likely not be
in excess of $5,000,000. In the event Bio Balance is unable to convince the FDA
that Bio Balance is ready to move directly into Phase III testing, Bio Balance
plans on proposing to the FDA an advanced Phase II stage - efficacy. There can,
however, be no assurance that the FDA will agree with Bio Balance's proposal and
may require us to begin with either Phase I or Phase II studies.
Bio Balance Business Strategies
Bio Balance intends to pursue continued development of candidate
probiotics. Using proprietary technology, Bio Balance hopes to make various
probiotic agents more effective in various clinical GI tract disorders. It is
Bio Balance's intention to maintain a pipeline of new products by adding a
research and development program, employees and consultants. Bio Balance's
development programs will focus on unmet medical needs in the gastrointestinal
area that Bio Balance believes provide substantial commercial opportunity with
relatively limited competition. As described above, Bio Balance's first product
is PROBACTRIX(TM), and Bio Balance intends to develop additional products and
line extensions and also to pursue in-licensing opportunities to add breadth and
depth to its research and development. Bio Balance is presently evaluating new
formulations and clinical uses for its product. There can be no assurance that
Bio Balance will be successful in developing any other probiotics product or
even in establishing a research and development program.
Bio Balance plans to market and sell its product in the United States as
medical food if it successfully completes the GRAS and medical food
determinations and clinical trials. Bio Balance's marketing strategy will
include one or more of the following approaches:
-- A direct sales force focused on physicians specializing in the field
of gastroenterology. Bio Balance believes that a relatively small
sales force will initially be effective, as its first product targets
a specialized group of physicians. This sales force may also be used
to market and sell its future products.
-- Alternatively, Bio Balance may elect to enter into a partnership or
licensing arrangement with a company that already specializes in the
sale of prescription drugs directed to the gastroenterologist. Bio
Balance will also explore sale to a larger well-established
pharmaceutical company
Even if Bio Balance decides to market and sell its product in the United
States, Bio Balance may decide to license its foreign product rights to other
pharmaceutical companies to commercialize its product abroad. At this point in
time, Bio Balance has not determined which way Bio Balance will proceed with its
marketing strategy.
Bio Balance will take a product-focused approach towards drug development.
The key elements of its business strategy will be as follows:
-- Develop a probiotic for therapy of Inflammatory Bowel Disease. The
existing probiotic approach to IBD leaves room for innovation,
improvement and application of other IBDs. This product candidate is
focused on improving the balance of flora within the digestive tract
to promote gastrointestinal health and the removal of unfriendly
bacteria, by presenting more of the GI tract to viable probiotic
bacteria.
40
-- Leverage experienced scientific and drug development expertise to
develop other probiotic agents. Bio Balance intends to establish
relationships with experienced developers of probiotic agents to
further development of additional probiotic agents. Dr. Nelli
Kelner-Padalka, a member of Bio Balance's Medical Advisory Board with
substantial experience in the use of probiotics in the GI tract and a
developer of Bio Balance, has previously developed six other probiotic
substances and was decorated in the former USSR with the Inventor of
the USSR state prize of Kirghizstan. In addition to having access to
Dr. Kelner's expertise, Bio Balance is involved in discussions with
Universities in Israel and other individuals with experience in
probiotic development with a view to entering into agreements to
perform probiotic research and development activities. To date, other
than Dr. Kelner's service on Bio Balance's Medical Advisory Board, no
agreements have been entered into with any Universities or individuals
to perform probiotics research and development.
-- Optimize clinical and regulatory strategies to shorten time to market.
Bio Balance believes that by initially focusing on acute treatments,
it can achieve an abbreviated development time, and faster time to
market, which it hopes will benefit patients with irritable bowel
syndrome and disease. Notwithstanding its objective of getting
PROBACTRIX(TM) to market as a medical food, Bio Balance intends to,
although it cannot assure that it will be able to, perform clinical
trials to rapidly assess effectiveness for well-defined endpoints in
the treatment of irritable bowel syndromes, chronic diarrhea and
infectious disorders of the GI tract.
-- Retain significant marketing rights to Bio Balance product candidates.
Bio Balance's goal is to retain marketing rights to its product
candidates for as long as it is commercially advantageous. By
completing as much of the pre-clinical and clinical development work
by itself as is feasible, Bio Balance hopes to be able to negotiate
more favorable terms for any such marketing arrangements.
Bio Balance Marketing and Sales
Bio Balance's marketing and sales decisions and strategies will be dictated
primarily by the actions and reactions to its regulatory pathway. Bio Balance
will not make sales and marketing decisions until it has satisfied the
applicable GRAS requirement for medical foods and completed clinical trials
which provide statistically significant data to support the efficacy of its
first product, PROBACTRIX(TM).
Bio Balance's primary approach to regulatory compliance is as a medical
food, which Bio Balance believes will be satisfied in 2003. Traditional
pharmaceutical retail distribution can be applied with quick results using
existing channels. Being designated a medical food allows Bio Balance to make
claims relating to the distinctive nutritional requirements of a disease or
disorder. Bio Balance expects that the product will be marketed primarily to
physicians and sold through hospitals, clinics and pharmacies. While the FDA
does not generally favor direct marketing or retail sales of medical foods, the
41
only current limitations on the direct marketing or sale of medical foods
through retail channels are prohibitions of fraudulent claims and the
requirement that the product satisfy the statutory definition of a medical food
which requires that the product is intended for use under physician supervision
and is so labeled. For example, a medical food may be advertised in magazines
read by patients with gastrointestinal diseases and disorders, advising patients
of the existence of the product, urging them to ask their physician about the
product, and informing them as to where the product may be purchased if their
physician believes it would be helpful to their condition. By utilizing a
multiple distribution channel approach, Bio Balance believes it will be
positioned to reach customers who can be referred by or back to the physician.
In the event that the FDA or other government agencies were to prohibit or
otherwise restrict the direct marketing or retail sale of medical foods,
awareness of PROBACTRIX(TM) among potential consumers could be severely limited
which could in turn curtail product sales.
Bio Balance currently has no sales, marketing or distribution capabilities.
In order to commercialize any of its product candidates, Bio Balance must either
initially develop sales, marketing and distribution capabilities or make
arrangements with third parties to perform these services. Bio Balance intends
to sell market and distribute some products directly and rely on relationships
with third parties to sell, market and distribute other products. To market any
of its products directly, Bio Balance must develop a marketing and sales force
with technical expertise and with supporting distribution capabilities. Bio
Balance cannot assure that Bio Balance will be able to develop any marketing or
distribution capabilities.
Bio Balance may elect to market and sell it's product by developing its own
sales force to call upon doctors specializing in the field of gastroenterology.
This will entail the development of a direct sales force in the U.S. and Canada.
Bio Balance believes that a relatively small sales force of fewer than 100 sales
representatives can be used for these products because prescribing decisions
will be made by roughly one group of physicians, primarily gastroenterologists.
If Bio Balance elects to direct market Bio Balance's products, Bio Balance will
begin hiring a sales force as the regulatory pathway to market becomes more
visible. Bio Balance cannot guarantee that it will develop a sales force with
the necessary technical expertise and distribution capabilities.
Alternatively, Bio Balance may elect to enter into a licensing arrangement
with a company that already specializes in the sale of medical foods and or
prescription drugs directed to gastroenterologists. Bio Balance is evaluating
opportunities to partner with other companies to develop and commercialize its
product. Bio Balance may also explore an outright sale to a larger
well-established pharmaceutical company. There can be no assurance that Bio
Balance will be successful in entering into any partnership or licensing
arrangements or in the sale of Bio Balance.
Even if Bio Balance decides to market and sell its product in the United
States, Bio Balance may decide to license its foreign product rights to other
pharmaceutical companies to commercialize its product abroad. In the United
States, Bio Balance does not intend to enter into co-promotion arrangements or
out-license its product candidates until its product candidates are in the later
stages of development, but Bio Balance may promote its product candidates
through marketing relationships with one or more companies that have established
distribution systems and direct sales forces. In international markets,
initially Bio Balance intends to seek strategic relationships to market, seek
and distribute its product candidates, but Bio Balance may eventually become
involved in direct sales and marketing activities in other parts of the world.
42
There can be no assurance that Bio Balance will be successful in establishing
any marketing relationships.
Bio Balance Manufacturing
Bio Balance intends to use contract manufacturers for at least the next few
years to produce sufficient quantities of PROBACTRIX(TM) for use in its
pre-clinical and anticipated clinical trials instead of developing this
capability internally. Bio Balance will also rely on third parties to provide
the components of these product candidates. Outsourcing has been effective in
similar situations with other companies. Bio Balance has not yet selected
contract manufacturers for formulation for commercialization. If these
facilities become unavailable for any reason, if its contract manufacturers fail
to comply with the FDA's current good manufacturing practices, or if its
contract manufactures terminate their agreements, Bio Balance would have to find
an alternative source for manufacturing its drug candidates. Contract
manufacturers often encounter difficulties in scaling up production, including
problems involving production yields, quality assurance and shortage of
qualified personnel.
If contract manufacturers are unable to scale up production to meet its
commercial needs, Bio Balance's revenue may be adversely affected.
The process for manufacturing e-coli bacteria and formulating them into a
probiotic agent is complicated. Bio Balance has no experience in
commercial-scale manufacture of PROBACTRIX(TM). Bio Balance's product
candidates will need to be manufactured in facilities and using processes that
comply with the FDA's GMP requirements, GLPs, and other similar regulations,
including foreign regulations. It may take a substantial period of time to
begin producing probiotic e-coli bacteria in compliance with such regulations.
If Bio Balance is unable to establish and maintain relationships with third
parties for manufacturing sufficient quantities of its product candidates and
their components that meet its planned time and cost parameters, the development
and timing of its clinical trials may be adversely affected.
Clinical Testing
Bio Balance does not have the ability to independently conduct clinical
studies and obtain regulatory approvals for its product candidates. Bio Balance
intends to rely on third-party clinical research organizations, or CROs, to
perform these functions or to team with hospitals to conduct clinical trials.
However, Bio Balance has not yet finalized agreements with any CROs or hospitals
to perform these functions or to team with Bio Balance in conducting clinical
trials. Bio Balance has recently hired Dr. Robert Hoerr, MD, Ph.D. and Dr.
Eileen Bostwick, Ph.D. as Director of Medical and Regulatory Affairs and
Director of Research and Development, respectively, to, among other things,
accelerate and complete the GRAS and medical food determination process. Bio
Balance anticipates that completion of the GRAS and medical food determination
process will occur in 2003. Drs Hoerr and Bostwick, along with a team of
experts, will identify and design the clinical trials necessary and then hire a
qualified CRO or identify a suitable hospital partner. Bio Balance intends to
have contracts in place with CROs or hospitals at least 1 to 2 months prior to
commencement of work under each such contract.
Future Plans
43
Following the introduction of Bio Balance's first product, PROBACTRIX(TM),
for the treatment of IBS, Bio Balance plans to conduct product research, studies
and clinical trials with a view to developing similar products for other GI
disorders, such as Traveler's diarrhea (TD) and certain forms of inflammatory
bowel disease ("IBD") including a form of Cohn's Disease.
Competition
The industry is highly competitive. Numerous companies, many of which are
significantly larger than Bio Balance, which have greater financial, personnel,
distribution and other resources than Bio Balance and may be better able to
withstand volatile market conditions, compete with Bio Balance in the
development, manufacture and marketing of probiotics for the treatment of IBS.
Bio Balance's principal competition comes from domestic and foreign
manufacturers and other wholesale distribution companies who have all failed to
receive FDA approval or have introduced a product to the market for IBS that was
subject to FDA imposed restrictions. There can be no assurance that national or
international companies will not seek to enter, or increase their presence in
the industry. In addition, large nationally known companies (such as
Bristol-Myers, Squibb, Novataris and Glaxo-Wellcome) are in competition with Bio
Balance in this industry, since they have already spent millions of dollars to
develop treatments for IBS. Increased competition could have a material adverse
effect on Bio Balance, as its competitors may have far greater financial and
other resources available to them and possess extensive manufacturing,
distribution and marketing capabilities far greater than those of Bio Balance.
Bio Balance Intellectual Property Rights
Bio Balance currently relies on a combination of patents, trademark, trade
secret laws and contractual provisions to protect its proprietary rights in its
product. As of March 1, 2003, Bio Balance holds eight (8) United States
patents, an additional six (6) patents have been allowed but not yet issued and
one (1) patent application had been submitted and was pending. At that date,
Bio Balance also held one (1) Israeli patent and one (1) Patent Cooperation
Treaty application and applications filed therefrom had been filed in the
following countries: Japan, European, Korea, Canada, Australia, Mexico, Brazil,
Poland and New Zealand, in connection with PROBACTRIX(TM). At that date, Bio
Balance had also applied for one (1) United States trademark. There can be no
assurance that Bio Balance's applications will result in issued patents and
trademarks, or that, if issued, Bio Balance's applications will be upheld if
challenged. Further, even if granted, there can be no assurance that these
patents and trademarks will provide Bio Balance with any protection from
competitors, or, that if they do provide any meaningful level of protection,
that Bio Balance will have the financial resources necessary to enforce its
patent and trademark rights. In addition, there can be no assurance that others
will not independently develop technologies similar to Bio Balance's pending
patents and trademarks, or design around the pending patents. If others are
able to design around the patents, Bio Balance's results of operations could be
materially adversely affected. Further, Bio Balance will have very limited, if
any, protection of its proprietary rights in those jurisdictions where it has
not effected any filings or where it fails to obtain protection through its
filings.
There can be no assurance that third parties will not assert intellectual
property infringement claims against Bio Balance in the future with respect to
current or future products. Bio Balance is responsible for defending against
charges of infringement of third party intellectual property rights by Bio
44
Balance's actions and products and such assertion may require Bio Balance to
refrain from the sale of its product, enter into royalty arrangements or
undertake costly litigation. Further, challenges may be instituted by third
parties as to the validity, enforceability and infringement of Bio Balance's
patents.
Bio Balance's adherence to industry standards with respect to its product
limits Bio Balance's opportunities to provide proprietary features which may be
protected. In addition, the laws of various countries in which Bio Balance's
product may be sold may not protect Bio Balance's product and intellectual
property rights to the same extent as the laws of the United States. As a
consequence, Bio Balance requires all of its personnel to execute
confidentiality agreements and assignment of intellectual property agreements in
favor of Bio Balance.
EMPLOYEES
On February 1, 2003, our home health care business had 1,848 employees, of
whom 97 are salaried, including 3 executive officers, 16 administrators/branch
managers, 16 nurses, 12 accounting staff, 9 clerical staff and 41 field staff
supervisors. The remaining 1,751 employees are paid on an hourly basis and
consist of professional and paraprofessional employees.
At March 1, 2003, Bio Balance had two full time and two part time
employees. Bio Balance plans to hire a full time Chief Executive Officer and
other employees, as needed. While Bio Balance has no definitive plans with
respect to the size of its workforce or persons who will fill specific
positions, Bio Balance plans to evaluate its needs relative to research and
development, product manufacturing and marketing and finance and administration
in light of then current alliances and partnerships and will seek to hire
personnel based on that evaluation.
None of our employees are compensated on an independent contractor basis or
represented by a labor union. We believe that our employee relations are good.
ITEM 2. DESCRIPTION OF PROPERTIES.
Our principal executive offices are located in a one-story commercial
building of approximately 6,000 square feet located at 1850 McDonald Avenue,
Brooklyn, New York 11223, which is leased from an unaffiliated person. The lease
is for a period ending March 30, 2005. The rent is $6,580 per month and is
subject to annual increases equal to 4% of the total prior year's monthly rent
and all increases in real estate taxes for the original and renewal terms.
Bio Balance's executive offices are currently located at 16 East 34 Street,
New York, NY 10016, pursuant to a lease agreement for the period beginning
December 1, 2001 through November 29, 2003 at a monthly rental of $5,000.
The table below sets forth certain information with respect to each of our
existing branch and recruitment office locations, all of which are leased, from
non-affiliated lessors.
45
Lease Terms
-----------
Approximate
Opening Square Expiration Annual
Location Date Footage Date Rental(l)
- --------------------------------- ------- ----------- ---------------- ----------
Kings County Office
- -------------------
408 Jay Street
Brooklyn, NY 11201 07/01 4,000 06/30/06 $ 55,548
Nassau County Office
- --------------------
175 Fulton Avenue
Hempstead, NY 11550 09/93 1,600 10/31/03 $ 24,225
Westchester County Office
- --------------------------
6 Gramatan Avenue
Mt. Vernon, NY 10550 12/96 2,000 (month to month) $ 30,785
Rockland County Office
- ----------------------
49 South Main Street
Spring Valley, NY 10977 10/94 1,500 (month to month) $ 22,200
Orange County Office
- --------------------
45 Grand Street
Newburgh, NY 11250 09/92 1,500 04/30/04 $ 12,600
Bronx County Recruitment Office
- -------------------------------
2488 Grand Concourse
Bronx, NY 10458 10/00 1000 10/31/04 $ 16,453
Jersey City Office
- ------------------
880 Bergen Avenue
Jersey City, NJ 07306 06/01 1,000 05/31/03 $ 19,200
Bradley Beach Recruitment Office
- --------------------------------
716 Main Street
Bradley Brach, NJ 07720 09/01 1,000 05/30/03 $ 12,000
Toms River Office
- -----------------
617 Highway 37 West
Toms River, NJ 08753 02/98 2,400 (month to month) $ 28,200
46
Edison Office
- -------------
629 Amboy Avenue
Edison, NJ 08837 08/99 1,450 07/31/04 $ 24,650
East Orange Office
- ------------------
60 Evergreen Place
East Orange, NJ 07018 11/01 3,000 08/31/06 $ 33,000
Hackensack Office
- -----------------
193 Main Street
Hackensack, NJ 07601 06/01 1200 05/31/03 $ 13,200
Whiting Recruitment Office (2)
- ------------------------------
75 Lacey Road
Whiting, NJ 08759 04/02 1200 12/31/03 $ 12,231
(1) All of the leases provide for additional rentals based upon increases in
real estate taxes and other cost escalations.
(2) As part of Adult Care Services, Inc., acquisition transaction, the Company
assumed leasehold obligations for this office in April 2002.
ITEM 3. LEGAL PROCEEDINGS.
In May 2001, Maxim Healthcare Services, Inc. filed a lawsuit in the Law
Division of Superior Court of New Jersey located in Middlesex County, naming as
defendants the Company and two employees who had previously been employed by
Maxim or its predecessor, StaffBuilders, Inc. The complaint alleged defamation,
unfair competition, and tortuous interference with contractual relations and
prospective economic advantage, claiming that the clients. The Company and the
defendant employees filed an answer denying the claims and all of the material
allegations of the complaint, and asked for dismissal of the case as meritless.
Thus far, the court has dismissed the defamation claims. Both the Company and
Maxim have made motions for summary judgment which are scheduled for argument on
March 14, 2003, when the Company will ask for dismissal of all the remaining
claims and Maxim will ask for injunctive relief and an award of at least
$120,000 in damages. If the court denies summary judgment the case will be tried
at a future date.
We are subject to various legal proceedings and claims, either asserted or
unasserted, which arise in the ordinary course of business. While the outcome
of these claims cannot be predicted with certainty, management does not believe
that the outcome of any of these legal matters will have a material adverse
effect on our results of operations or financial position.
47
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Our annual meeting of shareholders was held on December 11, 2002. The
meeting approved all of the proposals presented to the meeting.
The following persons were elected directors of the Company until the next
annual meeting or until their successors are elected and qualify:
VOTES
NAMES FOR AGAINST ABSTAIN
- ------------------ ------------------------------------------------
Jerry Braun 2,170,994 15,400 23,850
- ------------------ ------------------------------------------------
Jacob Rosenberg 2,170,994 15,400 23,850
- ------------------ ------------------------------------------------
H. Gene Berger 2,170,994 15,400 23,850
- ------------------ ------------------------------------------------
Charles J. Pendola 2,170,994 15,400 23,850
- ------------------ ------------------------------------------------
Paul Stark 2,170,994 15,400 23,850
- ------------------ ------------------------------------------------
David C. Katz 2,170,994 15,400 23,850
- ------------------ ------------------------------------------------
The resolution submitted to the shareholders to ratify, approve and confirm
the adoption of the Stock for Stock Exchange Agreement dated October 11, 2001
and amended February 13, 2002, July 10, 2002, August 13, 2002 and October 25,
2002 between the Company and Bio Balance pursuant to which our wholly-owned
Delaware subsidiary, NYHC Acquisition, Inc., merged with and into Bio Balance,
was adopted by the following vote:
Common Stock - For the resolution - 2,181,244; Against - 24,700;
Abstain - 4,300
Preferred Stock - For the resolution - 497,660; Against - 0 ;
Abstain - 0
The resolution submitted to the shareholders to ratify, approve and confirm
the amendment to our Certificate of Incorporation increasing by 50,000,000
shares the authorized number of shares of Common Stock from 50,000,000 to
100,000,000 was adopted by the following vote:
Common Stock - For the resolution - 2,162,879; Against - 42,115;
Abstain - 5,250
Preferred Stock - For the resolution - 497,660; Against - 0 ;
Abstain - 0
The resolution submitted to the shareholders to ratify, approve and confirm
the amendment of our Certificate of Incorporation increasing by 3,000,000 shares
the authorized number of shares of Preferred Stock from 2,000,000 to 5,000,000
was adopted by the following vote:
Common Stock - For the resolution - 2,153,279; Against - 51,715;
Abstain - 5,250
Preferred Stock - For the resolution - 497,660; Against - 0 ;
Abstain - 0
48
The resolution submitted to the shareholders to ratify, approve and confirm
the amendment to our Certificate of Incorporation to effect a one for one and
one-half (1:1.5) reverse stock split of the issued and outstanding shares of
Common Stock was adopted by the following vote:
Common Stock - For the resolution - 2,151,729; Against - 53,265;
Abstain - 5,250
Preferred Stock - For the resolution - 497,660; Against - 0 ;
Abstain - 0
The resolution submitted to the shareholders to ratify, approve and confirm
the amendment of our Stock Option Plan authorizing the reservation of an
additional 3,230,000 shares of $.01 par value common stock, and thereby
increasing the number of shares of common stock available for issuance of new
options under the plan from a total of 91,000 shares to 3,321,000 shares, was
adopted by the following vote:
Common Stock - For the resolution - 2,109,894; Against - 95,100; Abstain - 5,250
The resolution submitted to the shareholders to ratify, approve and confirm
the "change of control" provisions that were included in the new senior
executive employment agreements which our Compensation Committee approved on
November 12, 1999 was adopted by the following vote:
Common Stock - For the resolution - 2,115,144; Against - 73,900;
Abstain - 21,000
The resolution submitted to the shareholders ratifying the selection
WeiserLLP as our independent auditors for the fiscal year ending December 31,
2002 was adopted by the following vote:
Common Stock - For the resolution - 3,121,718; Against - 23,200;
Abstain - 16,600
PART II
ITEM 5. MARKET FOR COMPANY'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
Our Common Stock is quoted on the National Association of Securities
Dealers Automated Quotation System ("NASDAQ") SmallCap Market and is traded on
the Boston Stock Exchange. The following table sets forth the range of the last
price on NASDAQ for our Common Stock for the periods indicated. Quotations do
not necessarily present actual transactions and do not reflect related mark-ups,
mark-downs or commissions:
Fiscal 2001 High Low
- -------------- ----- -----
First Quarter 2.938 0.594
Second Quarter 3.19 2.05
Third Quarter 5.25 2.70
Fourth Quarter 5.35 3.05
49
Fiscal 2002 High Low
- -------------- ----- -----
First Quarter 3.95 2.99
Second Quarter 3.90 3.25
Third Quarter 3.65 3.28
Fourth Quarter 3.68 3.17
STOCK PERFORMANCE GRAPH
The following table depicts the cumulative total return on New York Health
Care's common stock compared to the cumulative total return for the Nasdaq
Composite-US Index and the Nasdaq Health Index. The table assumes the investment
of $100 on December 24, 1996, when the New York Health Care common stock was
first traded in a public market.
[GRAPHIC OMITED]
Base Price
December December December December December December December
24, 1996 31, 1997 31, 1998 31, 1999 31, 2000 31, 2001 31, 2002
---------- -------- -------- -------- -------- -------- --------
New York Health Care 100.00 62.50 25.00 43.75 7.00 84.00 80.25
Nasdaq Health Index 100.00 105.45 89.39 72.87 99.91 106.71 92.44
Nasdaq Composite - US 100.00 125.64 198.56 327.87 197.27 157.06 107.70
The comparisons in the table and in the graph above are required by the
rules of the Securities and Exchange Commission and are not intended to forecast
or be indicative of possible future performance of New York Health Care common
stock.
HOLDERS
At February 28, 2003, we had 294 holders of record and more than 619
beneficial holders of our Common Stock. On February 28, 2003, the last sale
price of the shares of Common Stock as reported by Nasdaq was $3.60 per share.
DIVIDENDS
The Company has not paid any cash dividends since its inception and
presently anticipates that all earnings, if any, will be retained for
development of the Company's business and that no dividends on the shares of
Common Stock will be declared in the foreseeable future. Any future dividends
will be subject to the discretion of the Company's Board of Directors and will
depend upon, among other things, future earnings, the operating and financial
condition of the Company, its capital requirements, general business conditions
and other pertinent facts. Therefore, there can be no assurance that any
dividends on the Common Stock will be paid in the future.
SECURITIES AUTHORIZED FOR ISSUANCE UNDER EQUITY COMPENSATION PLANS
The following table gives information about the Company's common stock that
may be issued upon exercise of (1) options granted pursuant to the option plan
and (2) options or warrants granted pursuant to equity compensation plans not
approved by security holders as of December 31, 2002.
NUMBER OF SECURITIES
NUMBER OF SECURITIES WEIGHTED-AVERAGE REMAINING AVAILABLE FOR
TO BE ISSUED UPON EXERCISE PRICE OF FUTURE ISSUANCE UNDER
EXERCISE OF OUTSTANDING EQUITY COMPENSATION PLANS
OUTSTANDING OPTIONS, OPTIONS, WARRANTS (EXCLUDING SECURITIES
PLAN CATEGORY WARRANTS AND RIGHTS AND RIGHTS REFLECTED IN COLUMN (a))
- ------------------- -------------------- ------------------ --------------------------
Equity compensation 1,036,833 $ 1.41 1,036,833
plans approved by
security holders
Equity compensation
plans not approved
by security holders
Total 1,036,833 $ 1.41 1,036,833
ITEM 6: SELECTED FINANCIAL DATA
50
NEW YORK HEALTH CARE HISTORICAL FINANCIAL INFORMATION
AS OF AND FOR THE YEARS ENDED DECEMBER 31,
---------------------------------------------------------------
2002 2001 2000 1999 1998
---------- ----------- ----------- ------------ -----------
Total revenues 38,880,477 $34,320,710 $29,383,547 $23,772,346 $20,223,674
Net income (loss) 378,368 352,886 (1,195,481) (236,439) 341,152
Basic earnings (loss) per share 0.15 0.14 (0.49) (0.10) 0.14
Diluted earnings (loss) per share 0.10 0.10 (0.49) (0.10) 0.13
Current assets 9,379,751 6,700,825 6,811,437 6,860,679 6,433,380
Total assets 11,136,437 8,443,601 8,699,903 10,333,152 9,988,447
Current liabilities 6,529,715 4,209,565 4,823,884 5,100,670 4,097,179
Long-term liabilities, net of
current portion 0 18,281 34,081 195,063 678,038
Shareholders' equity 4,606,722 4,215,755 3,841,938 5,037,419 5,213,230
Book value per share 1.86 1.72 1.57 2.05 2.09
Dividends per share - - - - -
Shares used in computing earnings
(loss) per common share:
Basic 2,471,381 2,454,179 2,445,820 2,456,457 2,493,242
Diluted 3,624,107 3,549,303 2,445,820 2,456,457 2,622,119
The above statement gives retroactive effect of a 1 for 1.5 reverse stock split
that was effectuated on January 2, 2003
51
ITEM 7: MANAGEMENT'S DISCUSSION & ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS - YEAR ENDED DECEMBER 31, 2002 COMPARED WITH YEARS ENDED
DECEMBER 31, 2001 AND 2000
Revenues in 2002 increased to $38,880,000 from $34,321,000 in 2001 and
$29,384,000 in 2000. Growth rates were 13% and 17% in 2002 and 2001,
respectively. The increase for both years is the result of the New York City
(HRA) contract's increased caseload, offset by a new reimbursement methodology
which limits the current and future revenue and profitability of this contract,
and an increase in our New Jersey caseload.
Cost of professional care of patients in 2002 increased to $30,228,000 from
$25,711,000 in 2001 and $21,698,000 in 2000, an increase of 18% for both 2002
and 2001. The increased costs were caused primarily by hiring additional home
health care personnel to service the increased caseload of the HRA contract. The
cost of professional care of patients expressed as a percentage of revenues
increased to 77.7% in 2002 from 74.9% in 2001 and 73.8% in 2000. The increase
resulted primarily from a change in the reimbursement methodology of the city
contract. New guidelines changed the reimbursement rate for SG&A from an hourly
amount to a fixed amount per client. Our cost of professional care fees remains
unchanged as we continue to pay on an hourly basis.
Selling, general and administrative expenses in 2002 increased to
$7,867,000 from $7,198,000 in 2001 and $6,478,000 in 2000. While part of the
increase in 2002 as compared to 2001 is attributable to the acquisition of Bio
Balance, the remaining increased cost, as well as the increase in 2001 compared
to 2000, are steady increases in these types of expenses proportionate with the
increase in revenue. Selling, general and administrative expenses as a
percentage of revenue were 20%, 21% and 22% for the years 2002, 2001 and 2000
respectively.
Interest expense was approximately $8,000 for the year 2002, as compared to
$130,000 and $322,000 for the years 2001 and 2000, respectively. The significant
decrease has resulted primarily as a result of decreased borrowing. The company
has cash on hand and is not currently using its line of credit, as a result of
improved collection efforts and an increase in our HRA contract. However, there
can be no assurance that this will continue.
The provision for federal, state and local taxes were $178,000 and $150,000
for the years ended 2002 and 2001, respectively, and were provided at the
effective tax rates expected to be applicable for the respective year. The
income tax benefit of $35,000 for the year 2000 is attributable to the
impairment of intangible assets.
In view of the foregoing, net income for the year 2002 amounted to
approximately $378,000, as compared to approximately $353,000 in net income for
the year 2001 and an approximate net loss of $1,195,000 for the year 2000. While
income for 2002 and 2001 was a result of increased sales, the loss for 2000 was
attributable to the write-off of $1,487,000 for the impairment of intangible
assets. The $378,000 in net income for the year 2002 would have been
approximately $327,000 had the Company not initiated SFAS 142, which became
effective for the Company January 1, 2002 and requires that goodwill and certain
intangible assets with indefinite useful lives no longer be amortized, but
instead be tested for impairment. The Company has performed its impairment test
during the second quarter ended June 30, 2002 and believes that the fair value
52
of the reporting units exceeds the carrying value as of January 1, 2002, and
that goodwill has not been impaired. If not for the one time write-off in the
year 2000 of approximately $1,487,000 of intangible assets, the Company would
have had net income of approximately $292,000 for the year 2000.
The impairment of intangible assets was due to a decrease in revenue and
projected reductions in revenue from the operations of certain offices located
in New Jersey. The Company evaluated the ongoing value of its intangible assets
associated with those acquisitions (which were made by the Company from December
1997 through February 1999) and based on those evaluations, at June 30, 2000,
the Company had determined that intangible assets with a carrying amount of
$1,688,000 were impaired. Accordingly, such amount was reduced by $1,487,000 to
their estimated fair value by a charge to operations. The goodwill write-off
represented a per-share net loss of $.41 both on a basic and diluted basis.
Estimated fair value was based on the value associated with current purchases of
similar companies in the home health care industry. There was no write-down for
the impairment of intangible assets necessary for the years 2002 and 2001.
Cash and due from lending institution at December 31, 2002 increased
approximately $2,694,000 from December 31, 2001. The increase is the result of a
more aggressive collection effort and a rate increase in our New York City
contract. During the same period of time the amount due to HRA increased by
approximately $1,363,000. The increase resulted from a change in the
reimbursement methodology of the City contract. New guidelines set a fixed rate
for SG&A per client. While we continue to be reimbursed at the full contract
rate, any amounts over these limits must be paid back to the city.
LIQUIDITY AND CAPITAL RESOURCES
The Company's liquidity and capital resources are generated through
internally generated funds, cash on hand and amount available under its line of
credit.
On November 27, 2002, the Company and its wholly-owned subsidiary, NYHC
Newco Paxxon, Inc., entered into an agreement amending and extending the
November 28, 2000 agreement with G.E. Capital/Heller Healthcare Finance, Inc., a
Maryland corporation ("G.E.Capital/Heller Finance"), providing a $4,000,000
revolving credit loan to the Company. The credit line is secured by the
Company's accounts receivable, contract rights, intellectual property rights,
inventory and equipment. The credit facility may be used only for working
capital and other costs arising in the ordinary course of business. The Company
is permitted to maintain outstanding borrowings to the extent of a borrowing
base of up to 85% of "qualified accounts receivable." Heller Finance has the
right to reduce the borrowing base by applying a liquidity factor percentage
based upon a recent collection history formula. Currently the application of
that formula results in 97% of qualified accounts being part of the borrowing
base. The Heller Finance revolving credit line is for a term of two years and
bears interest at the prime rate charged by CitiBank, N.A. plus 1.5% and
provides for monthly payments of interest on the outstanding balance on the
basis of the actual number of days elapsed over a year of 360 days. As of
December 31, 2002 the amount available to borrow based on the formula was
$3,794,000. The only restrictive covenant is that the Company has a net worth
greater then $500,000. The Company utilizes the line of credit from time to
time, and at the present time there is no balance outstanding.
53
Cash provided by operations for the year 2002 was $2,863,000, as compared
to $2,976,000 for the year 2001 and $1,194,000 for the year 2000. While the
change in the cash position from 2002 to 2001 is insignificant, the change from
2001 to 2000 is attributable in large part to the increase in net income, a
decrease in accounts receivable, an increase in accounts payable, an increase in
the due to HRA, and an increase in income taxes payable offset by a decrease in
the impairment of good will and a decrease in accrued payroll.
Net cash used in investing activities increased in 2002 by $167,000, as
compared to 2001 due to the acquisition of fixed assets and the purchase of
intangible assets in connection with an acquisition of a new office facility in
New Jersey. Net cash used in investing activities in 2001, when compared to
2000, decreased by $18,000 due to a decrease in the purchase of fixed assets.
Net cash used in financing activities in 2002 decreased by $1,814,000, when
compared to 2001, primarily because of the reduction in repayment of our line of
credit and long-term debt. Net cash increased when comparing 2001 to 2000
primarily because of repayment of our line of credit and reduction of long term
debt.
As of December 31, 2002, approximately $5,376,000 of the Company's total
assets consisted of account receivable from clients who are reimbursed by
third-party payers, compared to $5,503,000 and $6,621,000 as of December 31,
2001 and 2000, respectively. These account receivable numbers expressed as a
percentage of total assets are 48%, 65% and 76% for the years 2002, 2001 and
2000, respectively. The steady decrease is the direct result of a more
aggressive collection effort and an increase in our HRA business, which has more
favorable payment terms.
Days Sales Outstanding ("DSO") is a measure of the average number of days
taken by the Company to collect its account receivable, calculated from the date
services are billed. For the year ended December 31, 2002 the Company's DSO was
54 compared to 61 and 84 for the years ended December 31, 2001 and 2000,
respectively. The improvement in DSO is the net effect of combining the New
Jersey DSO and the Home Attendant program DSO which have more favorable payment
terms with our New York's DSO.
As a result of the change in control resulting from the Bio Balance Merger,
the Company expects to record a liability of $1,900,000 comprised of payments
due to senior executives of the Company under the "change in control" provisions
of their employment agreements. The payments are due on demand. The Company
expects to make the payments out of funds available from operations or from the
Company's line of credit. As of the date of this report, no demand has been made
for the payments.
CRITICAL ACCOUNTING POLICIES
The Company's discussion and analysis of its financial condition and
results of operations are based upon its consolidated financial statements,
which have been prepared in accordance with accounting principles generally
accepted in the United States. The preparation of these financial statements
requires the Company to make estimates and judgments that affect the reported
amounts of assets, liabilities, revenues and expenses and related disclosure of
contingent assets and liabilities. On an on-going basis, the Company evaluates
its estimates, including, but not limited to, those estimates related to its
allowance for possible losses, asset impairments, income taxes, commitments and
contingencies and third party payor liabilities. The Company bases its estimates
on historical experience and on various other assumptions that are believed to
be reasonable under the circumstances, the results of which form the basis for
making judgments about the carrying values of assets and liabilities. Actual
results may differ from these estimates under different assumptions or
conditions. The Company believes the accounting policies set forth in the
consolidated financial statements are those policies that are most important to
the presentation of its financial statements and such policies may require
subjective and complex judgments on the part of management.
BIO BALANCE MERGER
On January 2, 2003, the Company completed the acquisition of Bio Balance
pursuant to the Merger of a wholly-owned subsidiary with and into Bio Balance.
As a result of the Merger, future operating results and financial position of
the Company will be materially impacted by Bio Balance.
Results of Operations - Bio Balance was incorporated in 2001 and is a
specialty Pharma/Medical Food Company devoted to the discovery, manufacturing
and marketing of probiotic agents for therapy of gastrointestinal diseases and
disorders in animals and humans, including IBS and chronic diarrhea. From its
inception, Bio Balance has been a development stage company. It has had no
revenues since inception and does not foresee any revenues form sales of its
products in the foreseeable future. Bio Balance's efforts since inception have
been focused on acquiring its technology, raising capital, building its
management and medical advisory teams and consummating its merger with New York
Health Care.
54
In July 2001, Bio Balance acquired all the assets it uses in its business
from unaffiliated parties engaged in the research, development, marketing and
sales of probiotic bacteria and other technology for cash consideration of
$510,000 and an aggregate of 990,000 shares.
From inception to March 1, 2003, Bio Balance obtained gross proceeds of
approximately $6.8 million from private placements of its common stock.
For the period May 21,2001 (inception) through December 31, 2001 and for
the year ended December 31, 2002, Bio Balance sustained net losses of $452,000
and $1,400,000, respectively. These losses are attributable to the lack of
revenues and the costs incurred in organizing Bio Balance and undertaking
preliminary activities for the commencing of operations. Bio Balance
anticipates that it will continue to lose money during 2003.
Plan of Operation - Bio Balance intends to comply with applicable
requirements for the introduction of its first product, PROBACTRIX(TM), to the
United States market as a medical food. Medical foods are not subject to the
FDA regulatory criteria and market clearance standards applicable to "drugs".
Instead, medical foods are foods for special dietary use. As such, medical
foods may be marketed following a self-determination that the ingredients in the
product are lawful for the intended use (either approved food additives or
"generally recognized as safe" (GRAS)). Bio Balance commenced the GRAS
determination process in the spring of 2002 and presently expects completion of
that process in 2003. Following completion of GRAS and medical food
determination, and assuming GRAS and medical food status is determined by expert
panels convened by Bio Balance, Bio Balance intends to conduct at least two
clinical trials to obtain statistically significant data to support marketing
efforts before commencing marketing of PROBACTRIX(TM) in the United States.
Being designated a medical food allows Bio Balance to make substantiated claims
relating to satisfying the distinctive requirements of specific gastrointestinal
diseases and disorders, claims more akin to those typically made for ethical
pharmaceuticals, while being marketed to physicians and direct marketed or sold
through retail channels to patients who are under medical supervision and have
been directed to purchase the product.
Bio Balance also plans on introducing a version of its product as a
pharmaceutical drug and thereafter market the product in the United States. FDA
approval of the product as a pharmaceutical drug is a time consuming and costly
process. Bio Balance has not as yet commenced the FDA approval process and has
no current time table to begin that process.
Bio Balance's marketing and sales decisions and strategies will be dictated
primarily by the actions and reactions to its regulatory pathway. Bio Balance
will not make sales and marketing decisions until it has satisfied the
applicable requirement for medical foods and completed clinical trials which
provide statistically significant data to support the efficacy of its first
product, PROBACTRIX(TM). Bio Balance's marketing strategy will include one or
more of the following approaches:
Bio Balance currently has no sales, marketing or distribution capabilities.
In order to commercialize any of its product candidates, it must either
initially develop sales, marketing and distribution capabilities or make
arrangements with third parties to perform these services. Bio Balance intends
55
to sell, market and distribute some products directly and rely on relationships
with third parties to sell, market and distribute other products. To market any
of its products directly, Bio Balance must develop a marketing and sales force
with technical expertise and with supporting distribution capabilities.
Bio Balance may elect to market and sell its product by developing its
sales force to call upon doctors specializing in the field of gastroenterology.
This will entail the development of a direct sales force in the U.S. and Canada.
Bio Balance believes that a relatively small sales force of fewer than 100 sales
representatives could be used for these products, because prescribing decisions
will be made principally by one group of physicians, gastroenterologists. If Bio
Balance elects to direct market its products, it will begin hiring a sales force
as the regulatory pathway to market becomes more visible. However, there can be
no assurance that Bio Balance will develop a sales force with the necessary
technical expertise and distribution capabilities.
Alternatively, Bio Balance may elect to enter into a licensing arrangement
or partnership with a company that already specializes in the sale of medical
foods and or prescription drugs directed to gastroenterologists. Bio Balance is
evaluating opportunities to partner with other companies to develop and
commercialize its product. It may also explore an outright sale to a larger
well-established pharmaceutical company. There can be no assurance that it will
be successful in entering into any partnership, licensing or sale arrangements.
Even if Bio Balance decides to market and sell its product in the United
States, it may decide to license foreign product rights to other pharmaceutical
companies to commercialize the product abroad. In the United States, Bio
Balance does not intend to enter into co-promotion arrangements or out-license
its product candidates until its product candidates are in the later stages of
development, but it may promote its product candidates through marketing
relationships with one or more companies that have established distribution
systems and direct sales forces. In international markets, it intends to
initially seek strategic relationships to market, seek and distribute its
product candidates, but may eventually become involved in direct sales and
marketing activities in other parts of the world. There can be no assurance
that Bio Balance will be successful in establishing any marketing relationships.
Bio Balance intends to pursue continued development of candidate
probiotics. Using proprietary technology, Bio Balance hopes to make various
probiotic agents more effective in various clinical GI tract disorders. It is
Bio Balance's intention to maintain a pipeline of new products by adding a
research and development program, employees and consultants. Bio Balance's
development programs will focus on unmet medical needs in the gastrointestinal
area that Bio Balance believes provide substantial commercial opportunity with
relatively limited competition. As described above, Bio Balance's first product
is PROBACTRIX(TM), and Bio Balance intends to develop additional products and
line extensions and also to pursue in-licensing opportunities to add breadth and
depth to its research and development. Bio Balance is presently evaluating new
formulations and clinical uses for its product. There can be no assurance that
Bio Balance will be successful in developing any other probiotics product or
even in establishing a research and development program.
Bio Balance will take a product-focused approach towards drug development.
The key elements of its business strategy will be as follows:
56
-- Develop a probiotic for therapy of Inflammatory Bowel Disease. The
existing probiotic approach to IBD leaves room for innovation,
improvement and application IBD's. This product candidate is focused
on improving the balance of flora within the digestive tract to
promote gastrointestinal health and the removal of unfriendly
bacteria, by presenting more of the GI tract to viable probiotic
bacteria.
-- Leverage experienced scientific and drug development expertise to
develop other probiotic agents. Bio Balance intends to establish
relationships with experienced developers of probiotic agents to
further development of additional probiotic agents. Dr. Nelli
Kelner-Padalka, a member of Bio Balance's Medical Advisory Board with
substantial experience in the use of probiotics in the GI tract and a
developer of Bio Balance, has previously developed six other probiotic
substances and was decorated in the former USSR with the Inventor of
the USSR state prize of Kirghizstan. In addition to having access to
Dr. Kelner's expertise, Bio Balance is involved in discussions with
universities in Israel and other individuals with experience in
probiotic development with a view to entering into agreements to
perform probiotic research and development activities. To date, other
than Dr. Kelner's service on Bio Balance's Medical Advisory Board, no
agreements have been entered into with any Universities or individuals
to perform probiotics research and development.
-- Optimize clinical and regulatory strategies to shorten time to market.
Bio Balance believes that by initially focusing on acute treatments,
it can achieve an abbreviated development time, and faster time to
market, which it hopes will benefit patients with irritable bowel
syndrome and disease. Notwithstanding its objective of getting
PROBACTRIX(TM) approved as a medical food, Bio Balance intends to,
although it cannot assure that it will be able to, perform clinical
trials to rapidly assess effectiveness for well-defined endpoints in
the treatment of irritable bowel syndromes, chronic diarrhea and
infectious disorders of the GI tract.
-- Retain significant marketing rights to Bio Balance product candidates.
Bio Balance's goal is to retain marketing rights to its product
candidates for as long as it is commercially advantageous. By
completing as much of the pre-clinical and clinical development work
by itself as is feasible, Bio Balance hopes to be able to negotiate
more favorable terms for any such marketing arrangements.
Liquidity and Capital Resources - During 2001 and 2002, respectively, Bio
Balance raised a total of gross proceeds of $1,956,000 and $3,861,000 from a
series of private placements. In January 2003, in conjunction with the
consummation of the Merger, Bio raised an additional $1,072,000 of gross
proceeds from the sale of common stock. As of December 31, 2002, Bio Balance had
cash on hand of approximately $2,725,000, all of which was available to fund
operations. Bio Balance estimates that its capital requirements in 2003 will be
approximately $3,300,000. This budget assumes that Bio Balance will continue
along the Medical Food Approval track with the FDA and will not seek approval
for any of its products as an ethical drug. If such approval is required, Bio
Balance's capital requirements would be much greater, and there can be no
assurance that such additional capital would be available to it or, if
available, on acceptable terms.
57
POTENTIAL REGULATORY CHANGES
There has been recent news reports concerning federal budget negotiations
regarding potential changes in the way the Government will reimburse home health
care companies in the future, including the possibility of capitation While the
Company is not currently a Medicare-Certified Home Health Agency subject to
these changes, most of the Company's referral sources are and they may be
negatively impacted by this legislation which was adopted to control home health
care costs. While it is still premature to discern what impact, if any, the
potential changes may have on the Company's operations; there can be no
assurance that future legislation will not result in reduced reimbursement rates
from referral sources.
COMPANY STRATEGY
The Company continues to move towards its objective to become a
comprehensive provider of efficient and high quality home health care to an
increased share of expanding markets. The primary elements of the Company's
strategy to achieve this objective are geographic expansion of its branch office
network by investment in additional branch offices and by the acquisition of
other home health care companies, and by expansion of the services provided by
its licensed professional nurses, principally in the areas of infusion therapy,
pediatrics and maternal/child care. The Company has concentrated its expansion
efforts in its current market areas and the counties surrounding those market
areas. In addition to expansion into geographic areas in proximity to the
Company's current branch offices, the Company generally seeks to enter and
expand into new metropolitan areas in the Northeast and Southeast regions of the
United States which have large patient populations and, in particular, patients
traveling between these regions.
The Company's recent acquisition of Bio Balance is a new direction in an
effort to make a difference in the health care industry. Bio Balance is a
development stage company which has engaged in the research, development and
limited marketing in Israel of a "probiotic technology" product for the
treatment of gastrointestinal disorders in humans and farm animals, including
Irritable Bowel Syndrome ("IBS") and chronic diarrhea, which is reported to
effect up to 40 million Americans and over 10% of the population of Western
countries. Pharmaceutical companies have published data suggesting that an
effective treatment for IBS could have sales that exceed one billion dollars per
year. The Company's strategy for the acquisition is to pursue the development
and marketing of products utilizing this technology in an effort to
significantly improve the Company's economic growth, as well as to participate
in the development of what appears to be a promising treatment for these
debilitating disorders that effect so many Americans.
ITEM 7A: QUANTATIVE, QUALITATIVE OF MARKET RISK
Not applicable.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated financial statements of the Company, together with the
independent accountants report thereon of Weiser LLP, appears herein. See Index
to Financial Statements appearing on page 77.
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
The executive officers and directors of the Company are as follows:
Name Age Position
- -------------------- --- -----------------------------------------------
Jerry Braun 45 President, Chief Executive Officer and Director
Jacob Rosenberg 45 Vice President, Chief Operating Officer,
Chief Financial and Accounting Officer,
Secretary and Director
H. Gene Berger 62 Director
Charles J. Pendola 57 Director
Paul Stark 40 Director
David C. Katz 61 Director
Jerry Braun has been the President, Chief Executive Officer and Chief
Operating Officer of the Company since its inception in 1983.
Jacob Rosenberg, has been Secretary and a Director since the Company's
inception in 1983, and Vice President and Chief Operating Officer since February
1995. Jacob Rosenberg is currently acting as the Chief Financial and Accounting
Officer for the Company.
H. Gene Berger has been a director of the Company since February 1998.
Since 1981 Mr. Berger has been the president of Jay Isle Associates, a
consulting firm to the health care industry. From October 1991 to October 1997,
Mr. Berger was employed by Transworld Health Care, Inc., which is a regional
provider of alternate site health care services and products, in a number of
capacities including executive vice president, president, chief operating
officer and chief executive officer.
Charles J. Pendola has been a director of the Company since February 1998.
Since June 2002, Mr. Pendola has been the Executive Vice President of Multiplan,
Inc., the largest preferred provider organization in the United States. From
March 2000 to June 2002, Mr. Pendola has been the President of DLJ Managed Plans
Corporation, a division of an investment banking firm; he is also Senior Vice
President of Black Mountain Management, a management consulting firm. Mr.
Pendola has been an independent management consultant to various organizations
in the health care industry since April 1997. From August 1996 to March 1997
59
Mr. Pendola was the president and chief executive officer of First Medical
Corporation, an international health care management firm providing services to
health care networks, managed care organizations and independent health
providers in the United States and Europe. From April 1989 to June 1996, Mr.
Pendola was the president and chief executive officer of Preferred Health
Network, a not-for-profit corporation that managed a diversified group of health
care providers and health related organizations including five acute care
hospitals and 20 ambulatory care centers. Mr. Pendola is a certified public
accountant.
Paul Stark has served as a Director of the Company since the Merger between
the Company and Bio Balance in January 2003. Mr. Stark has served as President
of Bio Balance since October 2001 and as a Director of Bio Balance since
inception. Mr. Stark previously served as Vice President of Bio Balance from
September 2001 to October 2001 and as Secretary of Bio Balance from inception to
October 2001. Previously, Mr. Stark was the managing partner of Waterview
Partners, New York, NY, a company providing strategic advice to public and
private companies. Before joining Waterview Partners, Mr. Stark was a vice
president of Regency Investment Partners, New York, NY, money managers. In
April 1997, Mr. Stark joined KSH Investment Group, New York, NY, a
broker-dealer, as a vice president of investments. Mr. Stark also served as a
vice-president of Joseph Stevens & Company, Inc., the placement agent of the Bio
Balance private placement of its common stock, from February, 1996 through
March, 1997. Mr. Stark is a graduate of Touro College (B.A. 1982).
David C. Katz has served as a Director of the Company since the Merger
between the Company and Bio Balance in January 2003. Mr. Katz has been employed
by Petrecycle Pty., Ltd. (an Australian corporation), a company in the recycling
business, in technology sales since 1999. From 1998 to 1999 he was self-employed
as a consultant, and from 1989 to 1998 was the President and Chief Operating
Officer of Pure Tec Corp., a consumer products company. Mr. Katz has served as a
director of United Rentals North America, Inc., a public company, since July
2001. Mr. Katz is a graduate of the Georgia Institute of Technology (B.A.E.
1963, M.S.I.E. 1965, Industrial Engineering).
Directors hold their offices until the next annual meeting of the
stockholders and thereafter until their successors have been duly elected and
qualified. Executive officers are elected by the Board of Directors on an
annual basis and serve at the direction of the Board. All of the executive
officers devote approximately 90% of their time to the business affairs of the
Company. See "Certain Relationships and Related Transactions."
KEY EMPLOYEES - BIO BALANCE
Dr. Robert Hoerr, MD, Ph.D. has served as Director of Medical and
Regulatory Affairs of Bio Balance since February 2003. Dr. Hoerr is responsible
for oversight of medical and regulatory affairs of Bio Balance, including the
GRAS and medical food determination processes. Prior to joining Bio Balance,
Dr. Hoerr was the co-founder and served, from inception in January 2002, as
President and Chief Executive Officer of Nanomedica, Inc., a privately held
company engaged in drug formulation and gene delivery applications. From 1993
to January 2002, Dr. Hoerr served in a variety of executive positions with
GalaGen, Inc., a biopharmaceutical and nutraceutical company, rising from Vice
President, Medical and Regulatory Affairs to President, Chief Operating Officer,
Chief Technology Officer and, ultimately, Chief Executive Officer and Chairman.
Dr. Hoerr received his M.D. from Indiana University and a Ph.D. in Nutritional
Biochemistry and Metabolism from Massachusetts Institute of Technology.
60
Dr. Eileen Bostwick, Ph.D. has served as Director of Research and
Development of Bio Balance since February 2003. Dr. Bostwick is responsible for
all product research and development activities of Bio Balance as well as
development and implementation of manufacturing standards and procedures. Prior
to joining Bio Balance, from 1992 to February 2002, Dr. Bostwick was employed by
GalaGen, Inc., a biopharmaceutical and nutraceutical company, where she held a
variety of regulatory, clinical and research project management positions. Dr.
Bostwick holds a Ph.D. in Animal Physiology from the University of Minnesota.
COMMITTEES AND ATTENDANCE OF THE BOARD OF DIRECTORS
In order to facilitate the various functions of the Board of Directors, the
Board has created a standing Audit Committee and a standing Compensation
Committee. The Board of Directors has no standing nominating committee or any
committee performing the functions of such committee.
The functions of the Company's Audit Committee are to review the Company's
financial statements with the Company's independent auditors; to determine the
effectiveness of the audit effort through regular periodic meetings with the
Company's independent auditors; to determine through discussion with the
Company's independent auditors that no unreasonable restrictions were placed on
the scope or implementation of their examinations; to inquire into the
effectiveness of the Company's financial and accounting functions and internal
controls through discussions with the Company's independent auditors and
officers of the Company; to recommend to the full Board of Directors the
engagement or discharge of the Company's independent auditors; and to review
with the independent auditors the plans and results of the auditing engagement.
The members of the Audit Committee are Mr. Pendola, and Mr. Berger. Based on
management's assessment and the standards established by Nasdaq, the Company
believes that each of the members of the Audit Committee is an "independent"
director and satisfies the definition of a "financial expert".
The functions of the Company's Compensation Committee include reviewing the
existing compensation arrangements with officers and employees, periodically
reviewing the overall compensation program of the Company and recommending to
the Board modifications of such program which, in the view of the development of
the Company and its business, the Committee believes are appropriate,
recommending to the full Board of Directors the compensation arrangements for
senior management and directors, and recommending to the full Board of Directors
the adoption of compensation plans in which officers and directors are eligible
to participate and granting options or other benefits under such plans. The
members of the Compensation Committee are Mr. Pendola, Mr. Berger and Mr. Braun.
During the year ended December 31, 2002, the Board of Directors held three
formal meetings, the Audit Committee held 2 meetings and the Compensation
Committee held 2 meetings. Each director attended at least 75% of the aggregate
of (i) the total number of meetings of the Board of Directors, plus (ii) the
total number of meetings held by all committees of the Board of Directors on
which the director served.
COMPLIANCE WITH SECTION 16(A) OF EXCHANGE ACT
Under the securities laws of the United States, the Company's directors,
its executive officers, and any persons holding more than ten percent of the
61
Company's Common Stock are required to report their initial ownership of the
Company's Common Stock and any subsequent changes in that ownership to the
Securities and Exchange Commission. Specific due dates for these reports have
been established and the Company is required to disclose in this Proxy Statement
any failure to file by these dates during 2002. Based solely on a review of
such reports and written statements of its directors, executive officers and
shareholders, the Company believes that all of the filing requirements were
satisfied on a timely basis in 2002.
ITEM 11. EXECUTIVE COMPENSATION
The following table sets forth, for the fiscal years ended December 31,
2000, 2001 and 2002, the cash compensation paid by the Company, as well as
certain other compensation paid with respect to those years and months, to the
Chief Executive Officer and, to the extent applicable, each of the three other
most highly compensated executive officers of the Company whose total salary and
bonuses for 2002, in all capacities in which they served, exceeded $100,000 (the
"Named Officers").
ANNUAL
COMPENSATION LONG-TERM COMPENSATION
-------------------------- ----------------------------
NAME AND
PRINCIPAL AWARDS SECURITIES PAYOUTS
POSITION (1) OTHER ANNUAL RESTRICTED UNDERLYING LTIP ALL OTHER
SALARY BONUS COMPENSATION STOCK PAYOUTS COMPENSATION
YEAR ($) ($) ($) AWARDS ($) OPTIONS/SARS (#) ($)
------------------------------------------------------------------------------------------------
Jerry Braun (1) 2000 $ 251,290 $ 0 $ 38,893 (1) 515,833 Shares
President and Chief 2001 $ 256,710 $ 0 $ 45,111 (1) $ 50,000 (3)
Executive Officer 2002 $ 325,200 $ 30,000 $ 48,395 (1) $ 375,000 (4)
- ----------------------------------------------------------------------------------------------------------------------------
Jacob Rosenberg (2) 2000 $ 210,149 $ 0 $ 34,839 (2) 453,333 Shares
Chief Operating Officer 2001 $ 213,252 $ 0 $ 45,145 (2) $ 50,000 (3)
and Chief Financial 2002 $ 242,815 $ 26,000 $ 50,582 (2) $ 375,000 (4)
Officer
- ----------------------------------------------------------------------------------------------------------------------------
(1) Includes $25,720, $22,769 and $18,343 of medical insurance premiums paid on
behalf of such individual for each of the years ended 2002, 2001 and 2000
respectively, $12,675, $17,342 and $15,550 for automobile and
automobile-related costs, including insurance, incurred on behalf of such
individual, respectively, for each of the years ended 2002, 2001 and 2000
and $10,000 in expense allowance for year ended 2002 and $5,000 for each of
the fiscal years ended 2001 and 2000.
(2) Includes $25,720, $22,769 and $18,343 of medical insurance premiums paid on
behalf of such individual for each of the years ended 2002, 2001 and 2000
respectively, $14,862, $17,376 and $11,496 for automobile and
automobile-related costs, including insurance, incurred on behalf of such
individual, respectively, for each of the years ended 2002, 2001 and 2000
and $10,000 for year ended 2002 and $5,000 in expense allowance for each of
the fiscal years ended 2001 and 2000.
(3) This compensation was accrued in 2000 and paid in 2001. This compensation
is in addition to the 10% pre-tax bonus.
(4) This compensation was accrued in fiscal years 2001 and 2002 and paid in
2002. This compensation is in addition to the 10% pre-tax bonus.
COMPENSATION OF DIRECTORS
Each non-employee director of the Company is paid a fee of $1,000 per
month, plus $1,000 for each Board meeting attended and $500 for each committee
meeting attended. The Company also reimburses each director for all expenses of
attending such meetings.
No additional compensation of any nature is paid to employee directors.
62
OPTION/SAR GRANTS IN 2002
No options were granted to Named Officers during 2002.
STOCK OPTION EXERCISES AND YEAR END VALUES
Number of
Securities Value of
Underlying Unexercised
Unexercised In-the-Money
Options/SARs at Options/SARs at
Fiscal Year-End Fiscal Year-End
Shares Acquired Exercisable/ Exercisable/
Name on Exercise Value Realized Unexercisable Unexercisable
- --------------- --------------- -------------- --------------- ----------------
Jerry Braun 62,500/0 Shares $ 20,000
36,666/0 Shares $ 87,355
36,666/0 Shares $ 78,280
23,333/0 Shares $ 79,635
23,333/0 Shares $ 76,415
33,333/0 Shares $ 126,290
33,333/0 Shares $ 123,165
66,666/0 Shares $ 271,330
66,666/0 Shares $ 266,330
66,666/0 Shares $ 261,930
66,666/0 Shares $ 256,330
Jacob Rosenberg 36,666/0 Shares $ 87,355
36,666/0 Shares $ 78,280
23,333/0 Shares $ 79,635
23,333/0 Shares $ 76,415
33,333/0 Shares $ 126,290
33,333/0 Shares $ 123,165
66,666/0 Shares $ 271,330
66,666/0 Shares $ 266,330
66,666/0 Shares $ 261,930
66,666/0 Shares $ 256,330
Other than the stock options described in the tables above, the Company has
not issued any options to officers and directors under the Option Plan, or
otherwise, except common stock purchase warrants issued to two outside directors
during 2000 and 2001. The Company does not have any other existing stock option
or other deferred compensation plans, but may adopt such plans in the future.
63
EMPLOYMENT AGREEMENTS; CHANGE IN CONTROL ARRANGEMENTS
On November 10, 1999, the Company entered into employment agreements with
Jerry Braun and Jacob Rosenberg which were extended and modified by amendments
to the employment agreements dated January 28, 2003 and expire December 26,
2009.
Mr. Braun's amended agreement provides for his service as President and
Chief Executive Officer in consideration of (i) initial annual base compensation
of $232,925; (ii) reimbursement of authorized business expenses incurred in
connection with the conduct of the Company's business; (iii) participation in
the Company's Bonus Plan, 401 (k) Plan and Stock Option Plan; (iv) an automobile
reimbursement allowance of $750 per month toward automobile leasing costs and
payment of reimbursement of automobile insurance and maintenance costs; (v) an
expense allowance of $10,000 per year towards the cost of insurance and other
items which has been in effect since January 2002; (vi) 48 days of compensated
absences per year; and (vii) an annual increases in salary of 10% for each year.
Mr. Rosenberg's agreement has the same general terms and conditions as Mr.
Braun's, except that he serves as Vice President, Secretary and Chief Operating
Officer, and the initial annual base compensation is $186,340.
In the event of termination of the executive's service as a member of the
Board of Directors of the Company for any reason other than death, the executive
and the Company will enter into a consulting agreement (the form of which was
filed as an exhibit to the Company's Form S-4 Registration Statement effective
November 1, 2002), commencing on the date of termination, whereby the executive
will provide consulting services to the Company on an as-needed basis for a
period of not less than five (5) years. As compensation for those services, the
executive will be granted an option for ten (10) years to acquire 500,000 shares
of the Company's common stock at a price per share equal to the closing price of
the Company's common stock on the date of termination. The shares of common
stock underlying the option will be registered by the Company for sale in public
markets no later than ninety (90) days after termination.
These executive employment agreements also provide additional benefits in
the event there is a "change of control" of the Company, which is generally
defined as a merger or consolidation of the Company with another corporation, or
the sale of all or substantially all of its assets, or the acquisition of either
a majority of the Company's assets or its voting equity stock, or the power to
designate a majority of the Company's Board of Directors by persons other than
the present shareholders of the Company. In the event of such a "change of
control," the executives' unexercised stock options will become immediately
vested and exercisable in full, they will each receive a lump-sum payment equal
to 2.99 times the average of their annual base salary and bonus for the previous
five years and the Company will pay the cost to either maintain the lease or
transfer the ownership of the automobile for which the Company has paid the
leasing costs for the executive. The Company has also agreed that, to the
extent any payments received by an executive from the Company subjects the
executive to an excise tax under Section 499 of the Internal Revenue Code, the
Company will make an additional payment to the executive so that net after-tax
compensation is not reduced by the excise tax. All "change of control"
compensation is limited, to the extent it may qualify as a "parachute payment"
under Section 280G of the Internal Revenue Code, to the maximum amount that may
65
be paid to that executive without any part of that compensation being deemed to
be an "excess parachute payment." That maximum amount is generally determined by
multiplying the average of the executive's annual base salary and bonus for the
previous five years by a factor of three.
Mr. Braun and Mr. Rosenberg also participate, together with all employees
of the Company, in a bonus plan pursuant to which 10% of the Company's annual
pre-tax net income is contributed to the bonus pool which is distributed to such
persons and in such amounts as decided upon by the Company's Compensation
Committee.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS.
The following table sets forth certain information regarding shares of the
Common Stock beneficially owned as of March 14, 2003 by (i) each person, known
to the Company, who beneficially owns more than 5% of the Common Stock, (ii)
each of the Company's directors and (iii) all officers and directors as a group:
Shares Percentage
Name and Address of Beneficially of Stock
Beneficial Owner Owned(l) Outstanding(l)
---------------------------- ------------- --------------
Jerry Braun (2) 1,163,759 .74%
929 East 28th Street
Brooklyn, NY 11210
Jacob Rosenberg (3) 727,130 2.98%
932 East 29th Street
Brooklyn, NY 11210
H. Gene Berger (4) 26,668 *
11 Fenimore Drive
Scotch Plains, NJ 07076
Charles J. Pendola(5) 20,001 *
18 Guild Court
Plainview, NY 11803-3932
Paul Stark (6) 92,000 *
175 Burton Lane
Lawrence, NY 11559
David C. Katz (7) 24,000 *
54 Tarn Road
Morris Plains, NJ 07950
Pinchas Stefansky (8) 2,024,000 .47%
Hershey Holdings
Leon House
Secretary's Lane
P.O. Box 450, Gibraltar
66
Douglas Andrew Ryan (9) 1,800,000 7.53%
Birizma Associates
c/o Tallhurst Ltd.
P.O. Box 795, Gibraltar
Bernard Korolnick (10) 2,036,709 8.52%
KPT Partners
c/o Alton Management
Splelhof 14A, Postach 536
8750 Glarus, Switzerland
Rivvi Rose (11) 2,100,000 .79%
Nekavim Investors
1/1 Library Run
P.O. Box 317, Gibraltar
All officers and directors
as a group (6 persons)(1)(2)
(3)(4)(5)(6)(7) 2,625,289 .17%
---------------------------
* Less than one percent (1%).
(1) The shares of Common Stock owned by each person or by the group, and the
shares included in the total number of shares of Common Stock outstanding,
have been adjusted in accordance with Rule 13d-3 under the Securities
Exchange Act of 1934, as amended, to reflect the ownership of shares
issuable upon exercise of outstanding options, warrants or other common
stock equivalents which are exercisable within 60 days. As provided in such
Rule, such shares issuable to any holder are deemed outstanding for the
purpose of calculating such holder's beneficial ownership but not any other
holder's beneficial ownership.
(2) Includes a total of 515,833 shares issuable upon the exercise of stock
options granted to Mr. Braun and 147,594 Shares issuable upon the
conversion of shares of Class A Convertible Preferred Stock.
(3) Includes a total of 453,333 shares issuable upon the exercise of stock
options granted to Mr. Rosenberg and 73,797 Shares issuable upon the
conversion of his shares of Class A Convertible Preferred Stock.
(4) Includes 26,668 shares issuable upon the exercise of common stock purchase
warrants granted to Mr. Berger.
(5) Includes 20,001 shares issuable upon the exercise of a common stock
purchase warrant granted to Mr. Pendola.
67
(6) Includes 100,000 shares issuable upon the exercise of a stock option
granted to Mr. Stark, 33,000 shares owned of record by Mr. Stark's
children, 40,000 shares owned of record by Waterview Partners, a New York
partnership of which Mr. Stark is the President, and 19,000 shares owned of
record by Gotham Asset Partners, a New York Partnership of which Mr. Stark
is a 50% partner. Mr. Stark disclaims beneficial ownership of the 73,000
shares owned of record by his children and Waterview Partners, and the
9,500 shares owned of record by Gotham Asset Partners.
(7) Includes 21,000 shares owned of record by Mr. Katz's wife and 1,000 shares
owned of record by his daughter.
(8) All shares are owned of record by Hershey Holdings, of which Mr. Stefansky
holds sole voting and investment power.
(9) All shares are owned of record by Birizma Associates, of which Mr. Ryan
holds sole voting and investment power.
(10) All shares are owned of record by KPT Partners, of which Mr. Korolnick
holds sole voting and investment power.
(11) All shares are owned of record by Nekavim Investors, of which Ms. Rose
holds sole voting and investment power.
Common Stock
The Company is authorized to issue up to 100,000,000 shares of Common
Stock, $.01 par value each. The holders of Common Stock are entitled to one
vote for each share held of record on all matters to be voted on by
stockholders. There is no cumulative voting with respect to the election of
directors with the result that the holders of more than 50% of the shares of
Common Stock can elect all of the directors. The holders of Common Stock are
entitled to receive dividends when, and if declared by the Board of Directors
out of funds legally available therefore. In the event of the liquidation,
dissolution or winding up of the Company, the holders of Common Stock are
entitled to share ratably in all assets remaining available for distribution to
them after payment of liabilities and after provision has been made for each
class of stock, if any, having preference over the Common Stock, as such, having
no conversion, preemptive or other subscription rights, and there are no
redemption provisions applicable to the Common Stock. The Company currently has
outstanding 23,918,974 shares of Common Stock.
Preferred Stock
The Board of Directors of the Company is authorized to issue up to
5,000,000 shares of preferred stock in one or more series and to fix the rights,
preferences, privileges and restrictions thereof, including the dividend rights,
dividend rate, conversion rights, voting rights, terms of redemption (including
sinking fund provisions), redemption price or prices, liquidations preferences
and the number of shares constituting any series or the designations of such
series, without any further vote or action by the stockholders. It would be
possible for the Board of Directors to issue shares of such preferred stock in a
manner which would make acquisition of control of the Company, other than as
approved by the Board, exceedingly difficult.
68
The Company currently has outstanding 590,375 of its Class A Convertible
Preferred Stock, each share of which is convertible into 2/3 of one share of its
common stock.
Transfer Agent
Continental Stock Transfer & Trust Company, New York, New York, is the
transfer agent for the shares of Common Stock.
Savings and Stock Option Plans
401(k) Plan
The Company maintains an Internal Revenue Code Section 401(k) salary
deferral savings plan (the "Plan") for all of its eligible New York employees
who have been employed for at least one year and are at least 21 years old
(effective July 1, 1996, field staff employees at the Company's Orange County
branch office in Newburgh, New York ceased being eligible to participate in the
Plan). Subject to certain limitations, the Plan allows participants to
voluntarily contribute up to 15% of their pay on a pre-tax basis. Under the
Plan, the Company may make matching contributions on behalf of the pre-tax
contributions made by participants.
Stock Option Plan
In March 1996, the Company's Board of Directors and stockholders approved
and adopted the New York Health Care, Inc. Performance Incentive Plan (the
"Option Plan") providing for options to purchase up to 262,500 shares of Common
Stock to key employees of the Company.
On June 25, 1998, the Company's shareholders ratified an amendment to the
Option Plan authorizing the reservation of an additional 210,000 shares of
Common Stock for issuance under that plan for each of two additional years,
resulting in a total of 682,500 shares in the Option Plan.
On July 28, 1999, the Company's shareholders ratified an amendment to the
Option Plan that each stock option granted under the plan, including unexercised
options outstanding on the date of the amendment, may be exercisable in either
one, two or three equal annual installments at the discretion of the
Compensation Committee. The amendment also provided an additional 350,000
shares of common stock for issuance under the Option Plan after January 1, 2000
so that the total number of shares which may be issued under the plan increased
from 682,500 to 1,032,500 shares.
On December 18, 2000, the Company's shareholders further ratified an amendment
to the Option Plan to provide for an additional 450,000 shares of the
Corporation's $.01 par value common stock for issuance under the plan after
January 1, 2001 so that the total number of shares which may be issued under the
plan increased from 1,032,500 to 1,482,500 shares.
On December 10, 2002, the Company's shareholders further ratified an
amendment to the Option Plan to provide for an additional 3,230,000 shares of
the Corporation's $.01 par value common stock for issuance under the plan so
that the total number of shares which may be issued under the plan increased
from 1,482,500 to 4,712,500 shares.
69
To date, options have been granted under the plan for a total of 1,707,500
shares. The Option Plan is administered by a Compensation Committee appointed
by the Board of Directors (the "Committee"), which is authorized to grant
incentive stock options and non-qualified stock options to selected employees of
the Company and to determine the participants, the number of options to be
granted and other terms and provisions of each option.
The exercise price of any incentive stock option or nonqualified option
granted under the Option Plan may not be less than 100% of the fair market value
of the shares of Common Stock of the Company at the time of the grant. In the
case of incentive stock options granted to holders of more than 10% of the
voting power of the Company, the exercise price may not be less than 110% of the
fair market value.
Under the terms of the Option Plan, the aggregate fair market value
(determined at the time of grant) of shares issuable to any one recipient upon
exercise of incentive stock options exercisable for the first time during any
one calendar year may not exceed $100,000. Options granted under the Option Plan
become exercisable in whole or in part from time to time as determined by the
Committee, but in no event may a stock option granted in conjunction therewith
be exercisable prior to the expiration of six months from the date of grant,
unless the grantee dies or becomes disabled prior thereto. Stock options granted
under the Option Plan have a maximum term of 10 years from the date of grant,
except that with respect to incentive stock options granted to an employee who,
at the time of the grant, is a holder of more than 10% of the voting power of
the Company, the stock option shall expire not more than five years from the
date of the grant. The option price must be paid in full on the date of exercise
and is payable in cash or in shares of Common Stock having a fair market value
on the date the option is exercised equal to the option price.
If a grantee's employment by, or provision of services to, the Company
shall be terminated, the Committee may, in its discretion, permit the exercise
of stock options for a period not to exceed one year following such termination
of employment with respect to incentive stock options and for a period not to
extend beyond the expiration date with respect to non-qualified options, except
that no incentive stock option may be exercised after three months following the
grantee's termination of employment, unless it is due to death or permanent
disability, in which case they may be exercised for a period of up to one year
following such termination.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
None.
ITEM 14. CONTROLS AND PROCEDURES
As required by Rule 13a-15 under the Securities Exchange Act of 1934,
within the 90 days prior to the filing date of this report, the Company carried
out an evaluation of the effectiveness of the design and operation of the
72
company's disclosure controls and procedures. This evaluation was carried out
under the supervision and with the participation of the Company's management,
including the Company's President and Chief Executive Officer, and the Vice
President and Chief Operating Officer, Chief Financial and Accounting Officer.
Based upon that evaluation, the Company's President and Chief Executive Officer,
and the Vice President and Chief Operating Officer, Chief Financial and
Accounting Officer, have concluded that the Company's disclosure controls and
procedures are effective in timely alerting them to material information
relating to the Company required to be included in the company's periodic SEC
filings.
Disclosure controls and procedures are controls and other procedures that
are designed to ensure that information required to be disclosed in Company
reports filed or submitted under the Exchange Act is recorded, processed,
summarized and reported, within the time periods specified in the SEC rules and
forms. Disclosure controls and procedures include, without limitation, controls
and procedures designed to ensure that information required to be disclosed in
company reports filed under the Exchange Act is accumulated and communicated to
management, including the Company's President and Chief Executive Officer, and
the Vice President and Chief Operating Officer, Chief Financial and Accounting
Officer, as appropriate, to allow timely decisions regarding required
disclosures.
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a) The following documents are filed as a part of this Report:
(1) Consolidated Financial Statements: See Index to Financial
Statements on page 77 of this report for financial statements and supplementary
data filed as part of this report.
(2) Financial Statement Schedules
Schedule II - Valuation and Qualifying Accounts S-1
(3) Exhibits
Exhibit
Number Description of Exhibit
- -------- ----------------------
3.1 Certificate of Incorporation of the Company.(1)
3.2 Restated Certificate of Incorporation of the Company.(1)
3.3 Certificate of Correction of Restated Certificate of Incorporation of New York
Health Care, Inc.(1)
3.4 Amendment to the Certificate of Incorporation filed October 17, 1996.(1)
3.5 By-laws of the Company.(1)
3.6 Amendment to the Certificate of Incorporation of the Company filed December 4,
1996.(1)
3.7 Certificate of Designations, Rights and Preferences of New York Health Care,
Inc. Class A Convertible Preferred Stock.(5)
4.1 Form of certificate evidencing shares of Common Stock.(1)
73
4.2 Underwriter's Warrant Agreement and Form of Underwriter's Warrant.(1)
10.1 Purchase and Sale Agreement by and between the Company, National Medical
Homecare, Inc., Jerry Braun and Sam Soroka dated March 18, 1988.(1)
10.2 Lease for 105 Stevens Avenue, White Plains, New York by and between the
Company and Vincent Rippa as receiver dated October 30, 1992.(1)
10.3 Lease for 175 Fulton Avenue, Suite 30IA, Hempstead, New York by and between
and the Company and Hempstead Associates Limited Partnership dated July 2,
1993.(1)
10.4 Deed for 1667 Flatbush Avenue, Brooklyn, New York from Tiara Realty Co. to
the Company dated April 22, 1994.(1)
10.5 Agreement between Jerry Braun, Jacob Rosenberg, Samson Soroka, Hirsch
Chitrik, Sid Borenstein and the Company dated March 31, 1988.(1)
10.6 Lease for 49 South Main Street, Spring Valley, New York by and between the
Company and Joffe Management dated November 1, 1994.(1)
10.7 Agreement for Provisions of Home Health Aide and Personal Care Worker
Services by and between the Company and Kingsbridge Heights Health
Facilities Long Term Home Health Care Program dated November 2,
1994.(1)
10.8 State of New York Department of Health Office of Health Systems Management
Home Care Service Agency License for the Company doing business in
Rockland, Westchester and Bronx Counties dated May 8, 1995.(1)
10.9 State of New York Department of Health Office of Health Systems Management
Home Care Service Agency License for the Company doing business in
Dutchess, Orange, Putnam, Sullivan and Ulster Counties dated May 8,
1995.(1)
10.10 State of New York Department of Health Office of Health Systems Management
Home Care Service Agency License for the Company doing business in
Nassau, Suffolk and Queens Counties dated May 8, 1995.(1)
10.11 State of New York Department of Health Office of Health Systems Management
Home Care Service Agency License for the Company doing business in
Orange and Rockland Counties dated July 1, 1995.(1)
10.12 Lease Renewal for 45 Grand Street, Newburgh, New York by and between the
Company and Educational and Charitable Foundation of Eastern Orange
County, Inc. dated July 12, 1995.(1)
10.13 Lease for 91-31 Queens Boulevard, Elmhurst, New York by and between the
Company and Expressway Realty Company dated September 15, 1995.(1)
10.14 Settlement Agreement and General Release by and between the Company and
Samson Soroka dated September 28, 1995.(1)
10.15 Personal Care Aide Agreement by and between the Company and Nassau County
Department of Social Services dated October 18, 1995.(1)
10.16 Lease for 1667 Flatbush Avenue, Brooklyn, New York by and between the
Company and 1667 Flatbush Avenue LLC dated November 1, 1995.(1)
10.17 State of New York Department of Health Office of Health Systems Management
Home Care Service Agency License for the Company doing business in
Bronx, Kings, New York, Queens and Richmond Counties dated
December 29, 1995.(1)
10.18 Home Health Agency Agreement by and between the Company and the Center
for Nursing and Rehabilitation dated January 1, 1996.(1)
10.19 Homemaker and Personal Care Agreements by and between the Company and the
County of Rockland Department of Social Services dated January 1,
1996.(1)
10.20 Home Health Aide/ Personal Care Worker Services Agreement by and between
the Company and Beth Abraham Hospital dated January 12, 1996.(1)
74
75
10.50*++ Amended Performance Incentive Plan (Stock Option Plan) of the
Company.
10.51*++ Amendment to Employment Agreement by and between the Company and
Jerry Braun dated January 28, 2003.
10.52*++ Amendment to Employment Agreement by and between the Company and
Jacob Rosenberg dated January 28, 2003.
23.1 Consent of Weiser LLP Independent Public Accountants.
99.1 Certification of Jerry Braun pursuant to the Sarbanes-Oxley Act of 2002.
99.2 Certification of Jacob Rosenberg pursuant to the Sarbanes-Oxley Act of 2002.
- ------------------------------
* Filed herewith.
++ Compensation plan.
(1) Incorporated by reference to Exhibits filed as part of the Company's
Registration Statement on Form SB-2 under S.E.C. File No. 333-08152, which
was declared effective on December 20, 1996.
(2) Incorporated by reference to Exhibit filed as part of the Company's Form
8-K report with an event date of December 8, 1997.
(3) Incorporated by reference to Exhibits filed as part of the Company's Form
8-K report with an event date of February 8, 1998.
(4) Incorporated by reference to Exhibits filed as part of the Company's Form
10-KSB report for the year ended December 31, 1997.
(5) Incorporated by reference to Exhibits filed as part of the Company's Form
10-QSB report for the quarter ended June 30, 1998.
(6) Incorporated by reference to Exhibits filed as part of the Company's Form
10-QSB Report for the quarter ended June 30, 1999.
(7) Incorporated by reference to Exhibits filed as part of the Company's Form
10-QSB Report for the quarter ended September 30, 1999.
(8) Incorporated by reference to Exhibits filed as part of the Company's Form
8-K Report Filed December 8, 2000.
(9) Incorporated by reference to Exhibits filed as part of the Company's Form
8-K Report Filed November 6, 2001.
(10) Incorporated by reference to Exhibits filed as part of the Company's Form
S-4 preliminary registration statement filed March 27, 2002.
(11) Incorporated by reference to Exhibits filed as part of the Company's Form
8-K Report dated November 27, 2002.
The Company will furnish a copy of any exhibit described above to any
beneficial holder of its securities upon receipt of a written request, provided
that the holder pays to the Company a fee compensating it for its reasonable
expenses in furnishing the exhibits requested.
76
(b) Reports on Form 8-K.
On December 4, 2002, the Company filed a report on Form 8-K dated November
27, 2002 that discussed, under Item 5, amendment of certain of the terms
and conditions of its line of credit.
77
NEW YORK HEALTH CARE, INC.
AND SUBSIDIARY
CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED
DECEMBER 31, 2002, 2001 AND 2000
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
NEW YORK HEALTH CARE, INC.:
Consolidated Financial Statements:
Independent Auditors' Report F-1
Consolidated Balance Sheets at December 31, 2002 and 2001 F-2
Consolidated Statements of Operations for the Years Ended
December 31, 2002, 2001 and 2000 F-3
Consolidated Statements of Shareholders' Equity for the Years
Ended December 31, 2002, 2001 and 2000 F-4
Consolidated Statements of Cash Flows for the Years Ended
December 31, 2002, 2001 and 2000 F-5
Notes to Consolidated Financial Statements F-6 - F-27
Financial Statement Schedule:
Schedule II - Valuation and Qualifying Accounts S-1
INDEPENDENT AUDITORS' REPORT
----------------------------
To the Board of Directors
New York Health Care, Inc.
We have audited the accompanying consolidated balance sheets of New York Health
Care, Inc. and Subsidiary (the "Corporation") as of December 31, 2002 and 2001,
the related consolidated statements of operations, shareholders' equity and cash
flows, and financial statement Schedule II (Valuation and Qualifying Accounts)
for each of the three years in the period ended December 31, 2002. These
financial statements and financial statement schedule are the responsibility of
the Corporation's management. Our responsibility is to express an opinion on
these financial statements and financial statement schedule based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the 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 New York Health Care, Inc. and
Subsidiary as of December 31, 2002 and 2001, and the results of their operations
and their cash flows for each of the three years in the period ended December
31, 2002 in conformity with accounting principles generally accepted in the
United States of America. In addition, in our opinion, the financial statement
schedule referred to above, when considered in relation to the basic financial
statements taken as a whole, presents fairly, in all material respects, the
information required to be included therein.
As discussed in Note 1 to the consolidated financial statements, on January 1,
2002, the Corporation adopted the provisions of Statement of Financial
Accounting Standards No. 142, "Goodwill and Other Intangible Assets".
Weiser LLP
Certified Public Accountants
New York, NY
February 7, 2003, except for the ninth paragraph of Note 11, which is as of
March 7, 2003
F-1
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
A S S E T S
December 31,
-------------------------
2002 2001
------------ -----------
Current assets:
Cash and cash equivalents $ 3,548,658 $1,007,444
Due from lending institution 152,825
Accounts receivable, net of allowance for uncollectible
amounts of $294,000 and $290,000, respectively 5,280,128 5,442,229
Unbilled services 95,517 60,828
Prepaid expenses 159,623 74,324
Prepaid income taxes 25,000 -
Deferred tax asset 118,000 116,000
------------ -----------
Total current assets 9,379,751 6,700,825
Property and equipment, net 224,897 292,059
Deferred tax assets 124,000 117,000
Goodwill, net 1,222,400 1,222,400
Intangibles, net 132,143 55,466
Deposits 53,246 55,851
------------ -----------
Total assets $11,136,437 $8,443,601
============ ===========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accrued payroll $ 1,197,775 $1,209,406
Line of credit - 130,472
Current portion of lease obligations payable 18,281 16,654
Accounts payable and accrued expenses 3,381,862 2,424,174
Income taxes payable - 160,000
Due to HRA 1,931,797 268,859
------------ -----------
Total current liabilities 6,529,715 4,209,565
------------ -----------
Lease obligations payable, less current portion - 18,281
------------ -----------
Commitments and contingencies
Shareholders' equity:
Preferred stock $.01 par value, 2,000,000 shares authorized;
Class A Preferred, 590,375 shares authorized,
issued and outstanding 5,904 5,904
Common stock, $.01 par value, 50,000,000 shares authorized;
2,500,000 shares issued; 2,475,153 outstanding at December
31, 2002 and 2,464,486 outstanding at December 31, 2001 25,000 25,000
Additional paid-in capital 4,745,631 4,750,140
Deficit (138,330) (516,698)
------------ -----------
4,638,205 4,264,346
Less: Treasury stock (24,846 and 35,513 common shares at
cost as of December 31, 2002 and December 31, 2001,
respectively) (31,483) (48,591)
------------ -----------
Total shareholders' equity 4,606,722 4,215,755
------------ -----------
Total liabilities and shareholders' equity $11,136,437 $8,443,601
============ ===========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
THE ABOVE STATEMENTS GIVE RETROACTIVE EFFECT TO A 1 FOR 1.5 REVERSE STOCK SPLIT
THAT WAS EFFECTUATED ON JANUARY 2, 2003
F-2
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
For The Years Ended December 31,
----------------------------------------
2002 2001 2000
------------ ------------ ------------
Net patient service revenue $38,880,477 $34,320,710 $29,383,547
------------ ------------ ------------
Expenses:
Professional care of patients 30,227,715 25,711,247 21,698,189
General and administrative 7,866,762 7,198,359 6,478,140
Bad debts expense 77,035 586,499 398,856
Impairment of goodwill - - 1,487,192
Depreciation and amortization 178,027 191,985 229,605
------------ ------------ ------------
Total operating expenses 38,349,539 33,688,090 30,291,982
------------ ------------ ------------
Income (loss) from operations 530,938 632,620 (908,435)
------------ ------------ ------------
Non-operating income (expenses):
Interest income 33,614 - -
Interest expense (8,184) (129,734) (322,046)
------------ ------------ ------------
Non-operating income (expenses), net 25,430 (129,734) (322,046)
------------ ------------ ------------
Income (loss) before provision (benefit)
for income taxes 556,368 502,886 (1,230,481)
------------ ------------ ------------
Provision (benefit) for income taxes:
Current 187,000 219,000 30,000
Deferred (9,000) (69,000) (65,000)
------------ ------------ ------------
178,000 150,000 (35,000)
------------ ------------ ------------
Net income (loss) $ 378,368 $ 352,886 $(1,195,481)
============ ============ ============
Basic earnings (loss) per share $ .15 $ .14 $ (.49)
============ ============ ============
Diluted earnings (loss) per share $ .10 $ .10 $ (.49)
============ ============ ============
Weighted average shares outstanding 2,471,381 2,454,179 2,445,820
============ ============ ============
Diluted weighted average
shares outstanding 3,624,107 3,549,303 2,445,820
============ ============ ============
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
THE ABOVE STATEMENTS GIVE RETROACTIVE EFFECT TO A 1 FOR 1.5 REVERSE STOCK SPLIT
THAT WAS EFFECTUATED ON JANUARY 2, 2003
F-3
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 2002, 2001 AND 2000
Class A
Common Stock Preferred Stock Additional Treasury Stock Retained
--------------------- ------------------ Paid-In ------------------- Earnings/
Shares Amount Shares Amount Capital Shares Amount (Deficit)
---------- --------- ------- --------- ----------- -------- --------- ------------
Balance at January 1, 2000 2,500,000 $ 25,000 590,375 $ 5,904 $4,770,914 54,180 $(90,296) $ 325,897
Net loss -- -- -- -- -- -- -- (1,195,481)
---------- --------- ------- --------- ----------- -------- --------- ------------
Balance at December 31, 2000 2,500,000 25,000 590,375 5,904 4,770,914 54,180 (90,296) (869,584)
Exercise of options through
the issuance of treasury
stock (during July through
December) (at an average
exercise price of $1.12 per
share) -- -- -- -- (20,774) (18,667) 41,705 --
Net income -- -- -- -- -- -- -- 352,886
---------- --------- ------- --------- ----------- -------- --------- ------------
Balance at December 31, 2001 2,500,000 25,000 590,375 5,904 4,750,140 35,513 (48,591) (516,698)
Exercise of options through
the issuance of treasury stock
(during March through
May) (at an average exercise
price of $1.18 per share) -- -- -- -- (4,509) (10,666) 17,108 --
Net income -- -- -- -- -- -- -- 378,368
---------- --------- ------- --------- ----------- -------- --------- ------------
Balance at December 31, 2002 2,500,000 $ 25,000 590,375 $ 5,904 $4,745,631 24,847 $(31,483) $ (138,330)
========== ========= ======= ========= =========== ======== ========= ============
Total
------------
Balance at January 1, 2000 $ 5,037,419
Net loss (1,195,481)
------------
Balance at December 31, 2000 3,841,938
Exercise of options through
the issuance of treasury
stock (during July through
December) (at an average
exercise price of $1.12 per
share) 20,931
Net income 352,886
------------
Balance at December 31, 2001 4,215,755
Exercise of options through
the issuance of treasury stock
(during March through
May) (at an average exercise
price of $1.18 per share) 12,599
Net income 378,368
------------
Balance at December 31, 2002 $ 4,606,722
============
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
THE ABOVE STATEMENT GIVES RETROACTIVE EFFECT TO A 1 FOR 1.5 REVERSE STOCK SPLIT
THAT WAS EFFECTUATED ON JANUARY 2, 2003
F-4
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
For The Years Ended December 31,
---------------------------------------
2002 2001 2000
----------- ------------ ------------
Cash flows from operating activities:
Net income (loss) $ 378,368 $ 352,886 $(1,195,481)
Adjustments to reconcile net
income (loss) to net cash provided by
operating activities:
Depreciation and amortization 178,027 191,985 229,605
Bad debts expense 77,035 586,499 398,856
Deferred tax benefit (9,000) (69,000) (65,000)
Impairment of goodwill - - 1,487,192
Changes in operating assets and liabilities:
Increase in due from lending institution (152,825) - -
Decrease (increase) in accounts receivable
and unbilled services 50,377 531,786 (655,341)
(Increase) decrease in prepaid expenses (85,299) 46,771 (7,293)
(Increase) decrease in prepaid income taxes (25,000) - 154,906
Decrease (increase) in deposits 2,605 (2,043) (1,082)
(Decrease) increase in accrued payroll (11,631) 476,955 1,157,449
Increase in accounts payable and
accrued expenses 957,688 431,390 11,482
(Decrease) increase in income taxes payable (160,000) 160,000
Increase (decrease) in due to HRA 1,662,938 268,859 (321,544)
----------- ------------ ------------
Net cash provided by operating activities 2,863,283 2,976,088 1,193,749
----------- ------------ ------------
Cash flows from investing activities:
Acquisition of fixed assets (37,542) (20,252) (38,708)
Payment for purchase of assets (150,000) - -
----------- ------------ ------------
Net cash used in investing activities (187,542) (20,252) (38,708)
----------- ------------ ------------
Cash flows from financing activities:
Repayments of line of credit (130,472) (1,758,920) (960,608)
Repayment of long-term debt (16,654) (125,373) (376,577)
Bank overdraft - (85,030) 85,030
Exercise of options 12,599 20,931 -
----------- ------------ ------------
Net cash used in financing activities (134,527) (1,948,392) (1,252,155)
----------- ------------ ------------
Net increase (decrease) in cash and cash equivalents 2,541,214 1,007,444 (97,114)
Cash and cash equivalents at beginning of year 1,007,444 - 97,114
----------- ------------ ------------
Cash and cash equivalents at end of year $3,548,658 $ 1,007,444 $ -
=========== ============ ============
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
STATEMENTS.
THE ABOVE STATEMENTS GIVE RETROACTIVE EFFECT TO A 1 FOR 1.5 REVERSE STOCK SPLIT
THAT WAS EFFECTUATED ON JANUARY 2, 2003
F-5
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
BASIS OF CONSOLIDATION AND THE CORPORATION:
The accompanying consolidated financial statements include the accounts of
New York Health Care, Inc. ("NYHC") and its wholly owned subsidiary which
was formed on August 20, 1997, NYHC Newco Paxxon, Inc. D/B/A Helping Hands
Healthcare ("Helping Hands"), (the "Corporation"). All material
intercompany transactions and accounts have been eliminated in
consolidation.
The Corporation provides services of registered nurses and
paraprofessionals to patients throughout New York and New Jersey.
In February 2001, the Corporation amended its certificate of incorporation
to provide for an increase in the Corporation's number of authorized common
stock from 12,500,000 shares to a total of 50,000,000 shares.
In January 2003, the Corporation amended its certificate of incorporation
to provide for an increase in the Corporation's number of authorized common
stock and preferred stock. The authorized number of common stock increased
from 50,000,000 shares to a total of 100,000,000 shares. The authorized
number of preferred stock increased from 2,000,000 shares to a total of
5,000,000 shares. This change was approved by the shareholders on December
10, 2002.
The common stock and per share prices in the consolidated financial
statements and related notes have been retroactively adjusted to give
effect to a 1 for 1.5 reverse stock split effectuated on January 2, 2003.
ESTIMATES:
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those
estimates.
REVENUE RECOGNITION:
The Corporation recognizes patient service revenue on the date services are
rendered. Unbilled services represent amounts due for services rendered
that had not been billed at the end of each period.
F-6
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
PROPERTY AND EQUIPMENT:
Property and equipment is carried at cost and is depreciated under the
straight-line method over the following estimated useful lives of the
assets. Leasehold improvements are amortized over the estimated useful
lives of the improvements or the life of the lease, whichever is shorter.
Machinery and equipment 5 years
Furniture and fixtures 7 years
Leasehold improvements Life of lease
IMPAIRMENT OF LONG-LIVED ASSETS:
In August 2001, the FASB issued SFAS No. 144, " Accounting for the
Impairment or Disposal of Long-Lived Assets." This statement supersedes
SFAS NO. 121, "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to Be Disposed Of." The statement retains the previously
existing accounting requirements related to the recognition and measurement
of the impairment of long-lived assets to be held and used while expanding
the measurement requirements of long-lived assets to be disposed of by sale
to include discontinued operations. It also expands the previously existing
reporting requirements for discontinued operations to include a component
of an entity that either has been disposed of or is classified as held for
sale. The Corporation adopted SFAS No. 144 on January 1, 2002. Adoption of
this statement did not have a material impact on the Corporation's
financial position or results of operations.
GOODWILL AND OTHER INTANGIBLE ASSETS:
Prior to January 1, 2002, the Corporation amortized goodwill and intangible
assets using the straight-line method over periods of up to 40 years. On
January 1, 2002, the Corporation adopted the provisions of Statement of
Financial Standards No. 142 (SFAS 142) "Goodwill and Other Intangible
Assets." SFAS 142 requires that goodwill and intangible assets having
indefinite lives no longer be amortized, but instead be tested for
impairment at least annually. Intangible assets determined to have definite
lives are amortized over their remaining useful lives.
F-7
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
BUSINESS COMBINATIONS:
The Corporation has accounted for all business combinations using the
purchase method of accounting.
INCOME TAXES:
The Corporation uses the asset and liability method to calculate deferred
tax assets and liabilities. Deferred taxes are recognized based on the
differences between financial reporting and income tax bases of assets and
liabilities using enacted income tax rates. Deferred tax assets and
liabilities are measured using enacted tax rates in effect for the years in
which those temporary differences are expected to be recovered or settled.
The effect on deferred tax assets and liabilities of a change in tax rates
is recognized in income in the period that includes the enactment date.
CASH EQUIVALENTS:
The Corporation considers all highly liquid investments with maturities of
three months or less when purchased to be cash equivalents.
STOCK BASED COMPENSATION:
The Corporation uses the intrinsic-value method of accounting for
stock-based awards granted to employees. See Note 11 for pro forma
information on the impact of the fair-value method of accounting for stock
options.
EARNINGS (LOSS) PER SHARE:
Basic earnings (loss) per share excludes dilution and is computed by
dividing income available to common shareholders by the weighted average
number of common shares outstanding for the period.
F-8
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Diluted earnings (loss) per share is computed by dividing income available
to common shareholders by the weighted average number of common shares
outstanding for the period, adjusted to reflect potentially dilutive
securities including the presumed conversion of the Preferred Stock from
the date of its issuance. During the years ended December 31, 2002 and
2001, options and warrants were included in the computation of diluted
earnings per share when the exercise price was less than the average market
price of the Corporation's common stock during that period. Common shares
issuable as a result of the assumed conversion of the Corporation's
Preferred Stock were also included in the computation of diluted earnings
per share. Due to a loss in 2000, the options, warrants, and Convertible
Preferred Stock are not included in the computation of diluted loss per
share because the effect would be to reduce the loss per share.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS:
In April 2002, the FASB issued Statement of Financial Accounting Standards
No. 145, "Rescission of FASB Statement No. 4, 44 and 64, Amendment of FASB
Statement No. 13, and Technical Corrections," ("SFAS 145"). SFAS 145, which
is effective for fiscal years beginning after May 15, 2002, provides
guidance for income statement classification of gains and losses on
extinguishment of debt and accounting for certain lease modifications that
have economic effects that are similar to sale-leaseback transactions. The
Corporation does not believe that the adoption of this statement will
impact its financial position, results of operations, or cash flows.
F-9
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In June 2002, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 146 ("SFAS 146"), "Accounting for Costs
Associated with Exit or Disposal Activities." SFAS 146 nullifies the
guidance of the Emerging Issues Task Force (EITF) Issues No. 94-3,
"Liability Recognition for Certain Employee Termination Benefits and Other
Costs to Exit an Activity (including Certain Costs Incurred in a
Restructuring)." SFAS 146 requires that a liability for a cost that is
associated with an exit or disposal activity be recognized when the
liability is incurred. SFAS 146 also establishes that fair value is the
objective for the initial measurement of the liability. The provisions of
SFAS 146 are required for exit or disposal activities that are initiated
after December 31, 2002. The provisions of SFAS 146 are not expected to
have material impact on the Corporation's consolidated financial
statements.
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure - an amendment of SFAS 123". This
statement amends SFAS No. 123, "Accounting for Stock-Based Compensation,"
to provide alternative methods of transition for a voluntary change to the
fair value based method of accounting for stock-based employee
compensation. In addition, this statement amends the disclosure
requirements of SFAS No. 123 to require prominent disclosures in both
annual and interim financial statements about the method of accounting for
stock-based employee compensation and the effect of the method used on
reported results. The Corporation has chosen to continue to account for
stock-based compensation using the intrinsic value method prescribed in APB
Opinion No. 25 and related interpretations. Accordingly, compensation
expense for stock options is measured as the excess, if any, of the
estimate of the market value of the Corporation's stock at the date of the
grant over the amount an employee must pay to acquire the stock. The
Corporation has adopted the annual disclosure provisions of SFAS No. 148.
FASB Interpretation No. 45, "Guarantor's Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of Indebtedness
of Others," was issued in November 2002. This interpretation clarifies the
requirements of a guarantor's disclosures in its interim and annual
financial statements about its obligations under certain guarantees that it
has issued and which remain outstanding. The interpretation also clarifies
the requirements related to the recognition of a liability for the fair
value of the obligation undertaken by the guarantor at the inception of the
guarantee, including its ongoing obligation to stand ready to perform over
the term of the guarantee in the event that the specified triggering events
or conditions occur. The disclosure requirements are currently effective
with the recognition and initial measurement provisions applying to
prospective guarantees issued or modified after December 31, 2002. These
provisions are not expected to have a material impact on the Corporation's
financial statements.
F-10
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
RECLASSIFICATIONS:
Reclassifications from accrued payroll to accounts payable and accrued
expenses have been made in prior years' financial statements to conform to
classifications used in the current year.
2. ACQUISITION:
On April 10, 2002, the Corporation acquired the assets of Adult Care
Services, Inc., a home healthcare office in Whiting, NJ. The Corporation
does not consider this to be a material acquisition.
3. PROPERTY AND EQUIPMENT:
Property and equipment consist of the following at December 31:
2002 2001
-------- --------
Machinery and equipment $445,977 $408,175
Furniture and fixtures 249,796 209,796
Leasehold improvements 131,700 131,955
-------- --------
827,473 749,926
Less accumulated depreciation and amortization 602,576 457,867
-------- --------
$224,897 $292,059
======== ========
F-11
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
At December 31, 2002 and 2001, the amounts shown above include assets of
approximately $79,550 under capitalized leases and accumulated depreciation
of approximately $63,650 and $47,750, respectively, relating thereto.
4. GOODWILL AND OTHER INTANGIBLE ASSETS:
As of December 31, 2002, the Corporation had unamortized goodwill of
$1,222,400, subject to the provisions of SFAS 142. The Corporation has
completed the transitional impairment tests required by SFAS 142, which did
not result in an impairment charge.
Due to a decrease in revenue during 2000 and prior, and projected
additional reductions in revenue from the operations of certain offices
located in New Jersey, at June 30, 2000 the Corporation evaluated the
ongoing value of its goodwill associated with acquisitions made by the
Corporation from December 1997 through 2000. The Corporation applied the
provisions of SFAS No. 121 "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to Be Disposed of." Based on this
evaluation, the Corporation determined that goodwill with a carrying amount
of $1,688,134 was impaired. Accordingly, such amount was reduced by
$1,487,192 to estimated fair value by a charge to operations. For the year
ended December 31, 2000, the impairment charge represented a per-share net
loss of $.41 both on a basic and diluted basis. Estimated fair value was
determined based on management's evaluation of current purchases of similar
companies in the home health care industry.
As noted above, the Corporation ceased amortizing goodwill effective
January 1, 2002. Following are pro forma results assuming goodwill had not
been amortized prior to January 1, 2002:
For The Years Ended December 31,
--------------------------------
2002 2001 2000
-------- -------- ------------
Reported net income (loss) $378,368 $352,886 $(1,195,481)
Add back: goodwill amortization, net of tax - 35,128 55,868
-------- -------- ------------
Adjusted net income (loss) $378,368 $388,014 $(1,139,613)
======== ======== ============
Basic earnings (loss) per share:
As reported $ .15 $ .14 $ (.49)
======== ======== ============
As adjusted for non-amortization of
goodwill $ .15 $ .16 $ (.47)
======== ======== ============
Diluted earnings (loss) per share:
As reported $ .10 $ .10 $ (.49)
======== ======== ============
As adjusted for non-amortization of
goodwill $ .10 $ .11 $ (.47)
======== ======== ============
F-12
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Goodwill and other intangibles consist of the following:
December 31, 2002
-----------------------------------------------------------
Estimated
Gross Carrying Accumulated Net Carrying Useful Life
Amount Amortization Amount (Years)
--------------- ------------- ------------- ------------
Goodwill $ 1,396,712 $ 174,312 $ 1,222,400 Indefinite
--------------- ------------- -------------
Contract value 110,217 43,810 66,407 3-10
Customer list 98,470 32,734 65,736 3-10
--------------- ------------- -------------
208,687 76,544 132,143
--------------- ------------- -------------
Total $ 1,605,399 $ 250,856 $ 1,354,543
=============== ============= =============
December 31, 2001
-----------------------------------------------------------
Estimated
Gross Carrying Accumulated Net Carrying Useful Life
Amount Amortization Amount (Years)
--------------- ------------- ------------- ------------
Goodwill $ 1,396,712 $ 174,312 $ 1,222,400 Indefinite
--------------- ------------- -------------
Contract value 60,217 24,804 35,413 10
Customer list 38,470 18,417 20,053 10
--------------- ------------- -------------
98,687 43,221 55,466
--------------- ------------- -------------
Total $ 1,495,399 $ 217,533 $ 1,277,866
=============== ============= =============
Changes in the recorded amount of goodwill were as follows:
For the Years Ended December 31,
--------------------------------
2002 2001
-------------- ----------------
Balance at January 1 $ 1,222,400 $ 1,273,528
Amortization expense (51,128)
-------------- ----------------
Balance at December 31 $ 1,222,400 $ 1,222,400
============== ================
Amortization expense, including amortization of goodwill, amounted to $33,323,
$69,111 and $103,661 for the years ended December 31, 2002, 2001 and 2000,
respectively.
F-13
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Estimated Amortization Expense:
For The Years
Ended
December 31,
----------------
2003 $ 47,025
2004 47,025
2005 23,978
2006 6,346
2007 6,070
Thereafter 1,699
------------
$ 132,143
============
5. LINE OF CREDIT:
The Corporation had a $4,000,000 line of credit with Heller Financial that
expired on November 28, 2002. The Corporation renewed that line of credit
until November 29, 2004. The new line of credit has substantially the same
terms as the previous line of credit, with the main difference being the
interest rate. Borrowings under the new line of credit bear interest at
prime plus 1 1/2%. Borrowings under the previous line of credit bore
interest at prime plus 2 1/2%.
At December 31, 2002, approximately $3,794,000 was available to the
Corporation. The availability of the line of credit is based on a formula
of eligible accounts receivable. Certain assets of the Corporation
collateralize the line of credit. The agreement contains various
restrictive covenants, which among other things, requires that the
Corporation maintain a minimum net worth. At December 31, 2001, $130,472
was outstanding.
At December 31, 2002, there was an amount due from Heller Financial of
$152,825. This is due to a lockbox being used by the Corporation; all
collections are deposited with Heller Financial and then transferred to the
bank.
6. ACCOUNTS PAYABLE AND ACCRUED EXPENSES:
Accounts payable and accrued expenses consist of the following at December
31:
2002 2001
---------- ----------
Accounts payable $ 292,974 $ 351,333
Accrued expenses 200,175 178,449
Accrued employee benefits 2,888,713 1,894,392
---------- ----------
$3,381,862 $2,424,174
========== ==========
F-14
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
7. LEASE OBLIGATIONS PAYABLE:
The Corporation leases certain equipment under capital leases expiring in
2003.
The following is a schedule of future minimum lease payments under capital
leases as of December 31, 2002:
Year ending December 31, 2003 $ 19,283
Less: Amount representing interest (1,002)
-------------
Present value of net minimum lease payments $ 18,281
=============
Interest rates on capitalized leases vary from 10.3% to 11.0%.
8. INCOME TAXES:
Deferred tax attributes resulting from differences between financial
accounting amounts and tax bases of assets and liabilities at December 31,
2002 and 2001 follow:
2002 2001
---------- ----------
Current assets:
Allowance for doubtful accounts $ 118,000 $ 116,000
Valuation allowance - -
---------- ----------
Net current deferred tax asset $ 118,000 $ 116,000
========== ==========
Noncurrent assets and liabilities:
Depreciation $ 14,000 $ 7,000
Amortization of intangibles 361,000 424,000
---------- ----------
375,000 431,000
Valuation allowance (251,000) (314,000)
---------- ----------
Net noncurrent deferred tax asset $ 124,000 $ 117,000
========== ==========
F-15
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The provision (benefit) for income taxes for the years ending December 31,
consist of the following:
2002 2001 2000
--------- --------- ----------
Current tax expense $187,000 $219,000 $ 30,000
Deferred tax expense
(benefit) (not including
amount listed below) 54,000 1,000 (449,000)
Net change in valuation allowance (63,000) (70,000) 384,000
--------- --------- ----------
$178,000 $ 150,000 $(35,000)
========= ========== =========
The provision (benefit) for income taxes is comprised of the following:
2002 2001 2000
--------- --------- ---------
Current:
Federal $ 85,000 $128,000 $(15,000)
State 102,000 91,000 45,000
--------- --------- ---------
187,000 219,000 30,000
--------- --------- ---------
Deferred:
Federal (8,100) (62,100) (58,500)
State (900) (6,900) (6,500)
--------- --------- ---------
(9,000) (69,000) (65,000)
--------- --------- ---------
$178,000 $150,000 $(35,000)
========= ========= =========
The statutory Federal income tax rate and the effective rate is reconciled
as follows:
2002 2001 2000
----- ----- -----
Statutory Federal income tax rate 34% 34% 34%
State taxes, net of Federal tax benefit 12 10 10
Valuation allowance (2) (14) (31)
Prior year's over-accrual (12) (10)
----- ----- -----
32% 30% (3)%
===== ===== =====
F-16
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
9. FAIR VALUE OF FINANCIAL INSTRUMENTS:
As of December 31, 2002 and 2001, the carrying amount of accounts
receivable, accounts payable and lease obligations payable approximates
fair value due to the short-term maturities of these instruments.
10. THIRD-PARTY RATE ADJUSTMENTS AND REVENUE AND CERTAIN CONTRACTS:
Approximately 5%, 7% and 7% of net patient service revenue was derived
under New York State third-party reimbursement programs during the years
ended December 31, 2002, 2001 and 2000, respectively. These revenues are
based, in part, on cost reimbursement principles and are subject to audit
and retroactive adjustment by the respective third-party fiscal
intermediaries. Differences between current rates and subsequent revisions
are reflected in the year the revisions are determined.
The Corporation has an agreement with the City of New York acting through
the Department of Social Services of The Human Resources Administration
("HRA") to provide personal care services to certain qualified individuals
as determined by HRA. The agreement with HRA sets a fixed direct labor cost
in the reimbursement rate. Should the Corporation incur direct costs of
home attendant services below this fixed rate, the Corporation must repay
the difference to HRA, subject to final audit by the City of New York. As
of December 31, 2002 and 2001, the amount included in due to HRA relating
to direct labor costs amounted to $562,481 and $286,859, respectively. In
addition as of January 1, 2002, the city adopted a new reimbursement
methodology for general and administrative expenses. The new guidelines
changed the reimbursement rate to a fixed amount per client based on the
number of cases. The Corporation continues to be reimbursed at an hourly
rate. Any amount over this fixed rate must be repaid to HRA. As of December
31, 2002, this amount was $1,369,316, subject to final audit by the City of
New York. The aggregate amount due to HRA was $1,931,797 at December 31,
2002. As of December 31, 2002, HRA had completed their audit for the fiscal
year ended June 30, 1999 and was in the process of auditing the fiscal year
ended June 30, 2000.
During 2002, the New York State Department of Health ("DOH") approved
additional funding to home health care agencies in a form of a rate
increase. The additional funding is to be used exclusively for the
recruitment and retention of home health care employees. Any unspent money
relating to recruitment and retention is recorded as an accrued liability
until such time as it is spent. As of December 31, 2002, the Corporation
accrued approximately $100,000 related to recruitment and retention funds
not yet expended.
F-17
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
11. PERFORMANCE INCENTIVE PLAN, OPTIONS AND 401(K) PLAN:
PERFORMANCE INCENTIVE PLAN:
On March 26, 1996, the Corporation's Board of Directors adopted the
Performance Incentive Plan, (the "Option Plan"). Under the terms of the
amended Option Plan, 988,333 shares of common stock may be granted at
December 31, 2002. The Option Plan will be administered by the Compensation
Committee which was appointed by the Board of Directors. The Committee will
determine which key employee, officer or director on the regular payroll of
the Corporation, shall receive stock options. Granted options are
exercisable commencing six months after the date of grant, and expire up to
ten years after the date of grant. The exercise price of any incentive
stock option or nonqualified option granted under the Option Plan may not
be less than 100% of the fair market value of the shares of common stock of
the Corporation at the time of the grant.
On March 26, 1996, the Corporation issued an option to purchase 62,500
shares of Common Stock to the President of the Corporation at an exercise
price of $4.50 per share. The option may be exercised at any time through
March 26, 2006. These options were not issued under the Option Plan. None
of these options have been exercised or cancelled.
On July 10, 2000, the Corporation granted 266,667 stock options, pursuant
to the Option Plan to key employees at exercise prices ranging from $.75 to
$.83 per share. The options expire in 5-10 years. The exercise price of
these options was not less than the fair market price of the Common Stock
as of the date of grant.
On January 2, 2001, the Corporation granted 286,667 stock options, pursuant
to the Option Plan, to key employees at an exercise price ranging from $.89
to $.98 per share. The options expire in 5-10 years. The exercise price of
these options was not less than the fair market price of the Common Stock
as of the date of grant.
During the years ended December 31, 2002 and 2001, employees exercised
10,666 and 18,667 options, respectively, at exercise prices ranging from
$.89 to $2.45 per share. There were no options exercised during the year
ended December 31, 2000.
F-18
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Activity in stock options, and warrants, including those outside the
Performance Incentive Plan, for each of the three years ended December 31,
2002 is summarized as follows:
Shares Under Weighted Average
Options/Warrants Exercise Price
------------------ -----------------
Balance at December 31, 1999 563,833 $ 2.90
Options and warrants granted 280,000 .78
Options cancelled (10,667) 1.47
------------------
Balance at December 31, 2000 833,166 2.22
Options and warrants granted 300,000 .93
Options exercised (18,667) 1.13
Options cancelled/expired (67,000) 7.27
------------------
Balance at December 31, 2001 1,047,499 1.41
Options and warrants granted -0-
Options exercised (10,666) 1.19
Options cancelled/expired -0-
------------------
Balance at December 31, 2002 1,036,833 1.41
==================
Eligible for exercise at December 31, 2002 1,036,833 1.41
==================
F-19
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following table summarizes information about options and warrants
outstanding and exercisable at December 31, 2002 (however, see below).
Options Outstanding/Warrants Options/Warrants Exercisable
---------------------------------------------- -------------------------------
Weighted
Weighted Average
Options/ Average Weighted Options/ Options/
Range of Warrants Remaining Average Warrants Warrants
Exercise Price Outstanding Contractual Life Exercise Price Exercisable Exercisable
- --------------- ----------- ---------------- --------------- ----------- ------------
$4.50 62,500 4.25 years $ 4.50 62,500 $ 4.50
$2.45-$2.69 155,334 3.62 years 2.55 155,334 2.55
$1.41-$1.55 97,333 3.60 years 1.47 97,333 1.47
$.95-$1.04 160,000 4.08 years .98 160,000 .98
$.75-$.83 280,000 5.38 years .78 280,000 .78
$.89-$.98 281,666 6.37 years .89 281,666 .89
----------- -----------
1,036,833 4.95 years 1.41 1,036,833 1.41
=========== ===========
The fair value of options granted during 2001 and 2000 was $269,000 and
$213,400, respectively. There were no options granted during 2002. Fair
value is estimated based on the Black-Scholes option-pricing model with the
following assumptions for grants in 2001 and 2000: expected volatility of
153% and 161%; risk-free interest rates of 2.43% in 2001 and 5.85% in 2000
and expected lives of approximately 7.5 years for 2001 and 2000. Had
compensation expense been determined based on the fair value of the options
on the grant dates, the Corporation's net income would have been decreased
by $269,000 ($.11 basic and $.08 diluted earnings per share) in 2001 and
its net loss would have been increased by $213,400 ($.09 basic and diluted
loss per share) in 2000.
On March 7, 2003, the Corporation granted options to purchase an aggregate
of 500,000 shares of Common Stock at an exercise price of $3.14 per share
to 3 officers of the Corporation. In addition, the Corporation granted an
aggregate 60,000 warrants to purchase shares of the Corporation Common
Stock at an exercise price of $3.14 per share to 3 Directors of the
Corporation.
401(K) PLAN:
NYHC maintains an Internal Revenue Code Section 401(k) salary deferred
savings plan (the "Plan") for eligible employees who have been employed for
at least one year and are at least 21 years old. Subject to certain
limitations, the Plan allows participants to voluntarily contribute up to
15% of their pay on a pretax basis. The Corporation currently contributes
50% of each dollar contributed to the Plan by participants up to a maximum
of 6% of the participant's salary. The Plan also provides for certain
discretionary contributions by the Corporation as determined by the Board
of Directors. The Corporation's contributions, net of unvested, forfeited
matching funds, amounted to $79,000, $22,000 and $56,000 for the years
ended December 31, 2002, 2001 and 2000, respectively.
F-20
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
12. COMMITMENTS AND CONTINGENCIES:
LEASE COMMITMENTS:
The Corporation leases office space under noncancellable operating leases
in New York and New Jersey that expire between May 2003 and October 2006.
At December 31, 2002, future minimum lease payments due under operating
leases approximate:
2003 $324,000
2004 242,000
2005 134,000
2006 80,000
--------
Total minimum future payments $780,000
========
Rental expense charged to operations was approximately $365,000, $370,000
and $356,000, for the years ended December 31, 2002, 2001 and 2000,
respectively.
EMPLOYMENT AGREEMENTS:
On November 10, 1999, the Corporation entered into employment agreements
with two officers, with terms beginning December 27, 1999 and expiring in
2004. The agreements called for initial aggregate annual compensation of
approximately $420,000 with an annual increase of 10% and provided for
certain additional benefits. This employment agreement was amended on
January 2, 2003 pursuant to the Stock for Stock Exchange Agreement between
the Corporation and The Bio Balance Corporation (Note 17). Under the
amended employment agreement, the two officers' employment was extended for
five years until December 31, 2009. If the officers are terminated as
Directors, the Corporation shall enter into consulting agreements with the
officers, effective the date of termination. In such case, consulting
services will be provided on an as needed basis for a period of not less
than five years and, as compensation for consulting services, each officer
will be granted an option to acquire 500,000 shares of the Corporation's
common stock for a term of no less than ten years at a price per share
equal to the closing price of the stock on the date of such termination.
On February 1, 2001, the Compensation Committee approved a bonus of
$100,000 to be paid to the two officers for the year ended December 31,
2000; such amount was accrued as of December 31, 2000. On January 16, 2002,
the Compensation Committee approved a bonus of $250,000 to be paid to the
two officers, for the year ended December 31, 2001; such amount was accrued
as of December 31, 2001. During 2002, the Compensation approved a bonus of
$500,000 to be paid to the two officers, for the year ended December 31,
2002; such amount was paid as of December 31, 2002.
F-21
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
BONUS PLAN:
The Corporation has established a bonus plan pursuant to which 10% of the
Corporation's pre-tax net income is contributed to a bonus pool which is
available for distribution to all employees as decided by the Corporation's
Compensation Committee. A bonus of $65,000 and $56,000 was accrued as of
December 31, 2002 and 2001, respectively. There was no bonus accrual for
2000 due to a net loss for the year.
CONCENTRATIONS OF CREDIT RISK:
Financial instruments that potentially subject the Corporation to
concentrations of credit risk consist of temporary cash investments which
from time-to-time exceed the Federal depository insurance coverage and
commercial accounts receivable. The Corporation has cash investment
policies that restrict placement of these investments to financial
institutions evaluated as highly creditworthy. Cash and cash equivalents
held in one bank, exceeded federally insured limits by approximately
$3,790,917 and $1,251,000 at December 31, 2002 and 2001, respectively. The
Corporation does not require collateral on commercial accounts receivable
as the customer base generally consists of large, well-established
institutions.
MAJOR CUSTOMERS:
Two major customers accounted for approximately 60% of net patient service
revenue for the year ended December 31, 2002 and 2001, respectively, and
53% for the year ended December 31, 2000. In addition, three customers
represented approximately 65% and 52% of accounts receivable at December
31, 2002 and 2001, respectively.
BUSINESS RISKS:
The Corporation's primary business, offering home health care services, is
heavily regulated at both the federal and state levels. While the
Corporation is unable to predict what regulatory changes may occur or the
impact on the Corporation of any particular change, the Corporation's
operations and financial results could be negatively affected.
Further, the Corporation operates in a highly competitive industry which
may limit the Corporation's ability to price its services at levels that
the Corporation believes appropriate. These competitive factors may
adversely affect the Corporation's financial results.
LITIGATION:
The Corporation and two of its employees are defendants in a lawsuit
alleging unfair competition, tortious interference with contractual
relations and with prospective economic advantage. Motions for summary
judgment have been scheduled for argument on March 14, 2003 with the
plaintiff asking the Court for an order for injunctive relief and damages
in the minimum amount of approximately $120,000, and the Corporation is
asking the Court to dismiss the case. If the decision on those motions does
not fully dispose of the matter, the case will be tried. The defendants
have denied the material allegations set forth in the complaint, deny any
wrongdoing, and intend to vigorously defend the matter.
F-22
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
13. RELATED PARTY TRANSACTION:
The Corporation leased one of its offices from certain shareholders and
directors. The lease expired on October 31, 2001. Rent expense for the
years ended December 31, 2001 and 2000 amounted to approximately $35,000
and $44,000, respectively.
Prior to June 30, 2002, two of the Corporation's non-employee directors
provided consulting services on an as needed basis. Consulting expenses to
the directors amounted to $19,000 for the year ended December 31, 2002, and
$12,000 for each of the years ended December 31, 2001 and 2000. Subsequent
to June 30, 2002, the non-employee directors received $12,000 as directors
fees.
At December 31, 2000, the Corporation had a promissory note payable to
certain shareholders. The note bore interest at prime plus 1% and was paid
in full during January 2001.
14. SHAREHOLDERS' EQUITY:
PREFERRED STOCK:
The Board of Directors has authorized 590,375 shares of Class A Preferred
Stock. The holders of the Preferred Stock shall be entitled to a dividend
equal to 9% of the purchase price for shares of the Preferred Stock before
any dividend is paid on Common Stock. Dividends may be declared quarterly
at the discretion of the Board of Directors and are not cumulative. The
holders of Preferred Stock receive no preference on liquidation and such
shares may be converted into two-thirds of one share of Common Stock at any
time. The Class A Preferred Stockholders are entitled to vote on matters
that affect them.
WARRANTS:
In connection with the initial public offering of the Corporation's Common
Stock, the underwriter acquired for nominal consideration warrants to
purchase an aggregate of 83,333 shares of Common Stock. The warrants were
exercisable at a price of $7.80 and had expired on December 31, 2001.
F-23
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
On December 18, 2000, the Corporation granted two of its board members a
warrant for each to purchase up to 6,667 shares of Common Stock at an
exercise price of $.75 per share (which was not less than the fair value on
date of grant) during a period commencing June 18, 2000 and concluding
December 18, 2005.
On January 2, 2001, the Corporation granted two of its board members a
warrant for each to purchase up to 6,667 shares of Common Stock at an
exercise price of $.90 per share (which was not less than the fair value on
date of grant) during a period commencing July 2, 2001 and concluding
January 2, 2006.
TREASURY STOCK:
The Corporation issued treasury stock for the exercise of options that
occurred during the periods July through December 2001 and March through
May 2002. The Corporation assigned a cost to the treasury stock based on
the first-in, first-out method.
RESERVES:
The Corporation has reserved an aggregate of 3,252,500 shares of Common
Stock for the exercise of options (under the Option Plan referred to in
Note 11) and warrants.
15. SUPPLEMENTAL CASH FLOW DISCLOSURES:
For The Years Ended
December 31,
----------------------------
2002 2001 2000
-------- -------- --------
Cash paid during the year for:
Interest $ 8,184 $131,709 $350,105
======== ======== ========
Income taxes $371,547 $ 81,719 $ 7,133
======== ======== ========
F-24
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
16. EARNINGS (LOSS) PER SHARE:
Earnings (loss) per share are computed as follows:
For The Years Ended
December 31,
------------------------------------
2002 2001 2000
---------- ---------- ------------
Basic and diluted earnings (loss)
per share:
Earnings (loss):
Net income (loss) applicable to common
stock $ 378,368 $ 352,886 $(1,195,481)
========== ========== ============
Shares:
Weighted average number of common shares
outstanding - basic 2,471,381 2,454,179 2,445,820
Effect of dilutive options 759,143 701,541
Effect of dilutive convertible preferred
stock 393,583 393,583
---------- ---------- ------------
Diluted weighted average shares outstanding 3,624,107 3,549,303 2,445,820
========== ========== ============
Basic earnings (loss) per share $ .15 $ .14 $ (.49)
========== ========== ============
Diluted earnings (loss) per share $ .10 $ .10 $ (.49)
========== ========== ============
For the year ended December 31, 2000, 833,167 of the options and warrants
outstanding were not included in the computation of diluted earnings per
share because to do so would cause it to be antidilutive.
On January 2, 2003, the Corporation issued 21,443,821 shares to Bio Balance
in a stock for stock agreement (See Note 17).
F-25
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
17. SUBSEQUENT EVENT (UNAUDITED):
On October 11, 2001, the Corporation entered into a Stock for Stock
Exchange Agreement (the "Agreement") (as amended on February 13, 2002 and
July 10, 2002), with The Bio Balance Corp. ("Bio Balance"), which was
consummated on January 2, 2003. Bio Balance is engaged in the research and
development, manufacturing and marketing of probiotic agents for therapy of
gastrointestinal diseases. Bio Balance is a company in the development
stage.
The shareholders of Bio Balance acquired 90% of the Corporation's voting
interests by exchanging 100% (21,443,821 shares) of its common stock in
exchange for an equal amount of the Corporation's common stock. In
addition, the Corporation has an obligation to issue up to an additional
586,452 common shares upon the exercise of Bio Balance warrants
outstanding. Because the former Bio Balance shareholders own approximately
90% of the merged company, Bio Balance is considered to be the accounting
acquiror. As of January 2, 2003, the historical information presented will
be the historical information of Bio Balance. From January 2, 2003, the
information presented will be that of the merged entity which will include
Bio Balance and the Corporation.
The purchase price was based on the outstanding common stock, preferred
stock, options and warrants of the Corporation, on the measurement date
(July 19, 2002), date of announcement. The common stock was valued at July
19, 2002 at an average closing price for a six-day period ended July 24,
2002 ($5.30) (after giving effect to the one for one and one half reverse
stock split which was effectuated on January 2, 2003).
The estimated total purchase price is as follows:
Value of Corporation's common stock $13,100,000
Value of Corporation's preferred stock 2,100,000
Value of Corporation's outstanding options/warrants 5,300,000
Bio Balance estimated transaction costs 249,000
-----------
$20,749,000
===========
The purchase price will be allocated to the Corporation's tangible and
intangible assets based on their estimated fair values as of January 2,
2003.
F-26
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Management of the Corporation believes that a combination of the two
companies will be beneficial to their combined businesses and to each of
their respective shareholder groups. The Corporation's management believes
that moderate profit margins inherent to the home health care business are
likely to persist into the foreseeable future. It has therefore entered
into a business combination with Bio Balance, which could provide
shareholders with a potential of a higher profit margin business and,
therefore, enhanced equity value.
18. QUARTERLY FINANCIAL DATA (UNAUDITED):
Net Cost of
Patient Professional
Service Care of Net
2002 Revenue Patients Income Basic EPS Diluted EPS
-------------- ---------- ------------ -------- ---------- ------------
First quarter $9,237,128 $ 7,202,503 $ 82,653 $ .03 $ .02
Second quarter 9,820,612 7,565,407 91,464 .04 .03
Third quarter 9,824,500 7,579,044 132,896 .05 .04
Fourth quarter 9,998,237 7,880,761 71,355 .03 .01
2001
--------------
First quarter $7,836,632 $ 5,905,150 $ 48,894 $ .02 $ .01
Second quarter 8,349,910 6,243,250 61,360 .03 .02
Third quarter 8,912,849 6,622,163 127,453 .05 .04
Fourth quarter 9,221,319 6,940,684 115,179 .04 .03
The above quarterly financial data gives retroactive effect to a 1 for 1.5
reverse stock split that was effectuated on January 2, 2003.
F-27
NEW YORK HEALTH CARE, INC. AND SUBSIDIARY
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
Column A Column B Column C Column D Column E
- ------------------------------------------- ----------- ------------- -------------- --------------
Additions
Balance at Charged
Beginning To Costs Balance at
Description of Period and Expenses Deductions End of Period
- ------------------------------------------- ----------- ------------- -------------- --------------
Year ended December 31, 2002
Deducted from asset accounts:
Allowance for doubtful accounts $ 290,000 $ 77,035 $ (73,035) (1) $ 294,000
Deferred tax asset valuation allowance 314,000 - (63,000) (2) 251,000
Year ended December 31, 2001
Deducted from asset accounts:
Allowance for doubtful accounts 173,000 586,499 (469,499) (1) 290,000
Deferred tax asset valuation allowance 384,000 - (70,000) (2) 314,000
Year ended December 31, 2000
Deducted from asset accounts:
Allowance for doubtful accounts 341,000 398,856 (566,856) (1) 173,000
Deferred tax asset valuation allowance - 384,000 - 384,000
- ---
(1) Uncollectible accounts written-off, net of recoveries
(2) Reduction in uncertainty regarding realization
S-1
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.
March 17, 2003
NEW YORK HEALTH CARE, INC.
By: /s/ Jerry Braun
-------------------------------------
Jerry Braun
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
Report been signed below by the following persons on behalf of the Registrant
and in the capacities and on the dates indicated.
/s/ Jerry Braun President, Chief Executive March 17, 2003
- ---------------------- Officer and Director
Jerry Braun
/s/ Jacob Rosenberg Vice President, Chief Operating March 17, 2003
- ---------------------- Officer, Chief Financial and
Jacob Rosenberg Accounting Officer, Secretary,
Director
/s/ H. Gene Berger Director March 17, 2003
- ----------------------
H. Gene Berger
/s/ Charles J. Pendola Director March 17, 2003
- ----------------------
Charles J. Pendola
/s/ Paul Stark Director March 17, 2003
- ----------------------
Paul Stark
/s/ David C. Katz Director March 17, 2003
- ----------------------
David C. Katz
78