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UNITED STATES 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 [FEE REQUIRED]
For the fiscal year ended December 31, 2002
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OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
For the transition period from____________ to __________
Commission file number 0-6906
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MEDICORE, INC.
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(Exact name of registrant as specified in its charter)
FLORIDA 59-0941551
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2337 WEST 76TH STREET, HIALEAH, FLORIDA 33016
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (305) 558-4000
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Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Title of each class
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common stock, $.01 par value
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No____
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [X]
Indicate by check mark whether the registrant is an accelerated filer
(as defined in Exchange Act Rule 12b-2). Yes [ ] No [X]
The aggregate market value of the voting stock held by non-affiliates
of the registrant based upon the closing price of the common stock on March 13,
2003 was approximately $6,042,000.
As of March 13, 2003 the company had outstanding 6,524,275 shares of
common stock.
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DOCUMENTS INCORPORATED BY REFERENCE
Part III incorporating information by reference from the Proxy
Statement in connection with the Registrant's Annual Meeting of Shareholders
anticipated to be on May 29, 2003.
Registrant's Annual Reports, Forms 10-K, for the years ended December
31, 1994, 1997 to 1999 and 2001 Part IV, Exhibits, incorporated in Part IV of
this Annual Report.
Annual Report for Registrant's Subsidiary Dialysis Corporation of
America, Form 10-K for the years ended December 31, 1996 to 2002, Part IV,
Exhibits, incorporated in Part IV of this Annual Report.
MEDICORE, INC.
Index to Annual Report on Form 10-K
Year Ended December 31, 2002
Page
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PART I
Item 1. Business ......................................................... 1
Item 2. Properties ....................................................... 29
Item 3. Legal Proceedings ................................................ 31
Item 4. Submission of Matters to a Vote
of Security Holders .............................................. 32
PART II
Item 5. Market for the Registrant's Common Equity
and Related Stockholder Matters .................................. 32
Item 6. Selected Financial Data .......................................... 33
Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations .................... 34
Item 7A. Quantitative and Qualitative Disclosures About Market Risk ....... 42
Item 8. Financial Statements and Supplementary Data ...................... 43
Item 9. Changes in and Disagreements with Accountants
on Accounting and Financial Disclosure ........................... 43
PART III
Item 10. Directors and Executive Officers
of the Registrant ................................................ 44
Item 11. Executive Compensation ........................................... 45
Item 12. Security Ownership of Certain Beneficial Owners and
Management and Related Stockholder Matters ....................... 45
Item 13. Certain Relationships and Related Transactions ................... 45
Item 14. Controls and Procedures .......................................... 46
PART IV
Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K . 46
PART I
Cautionary Notice Regarding Forward-Looking Information
The statements contained in this Annual Report on Form 10-K that are
not historical are forward-looking statements within the meaning of Section 27A
of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of
the 1934. The Private Securities Litigation Reform Act of 1995 contains certain
safe harbors regarding forward-looking statements. Certain of the
forward-looking statements include management's expectations, intentions and
beliefs with respect to the growth of our company, the nature of and future
development of the dialysis industry in which our 61% owned public subsidiary,
Dialysis Corporation of America, is engaged, anticipated revenues, our need for
sources of funding for expansion, our business strategies and plans for future
operations, our needs for capital expenditures, capital resources, liquidity and
operating results, and similar matters that are not considered historical facts.
See Item 7, "Management's Discussion and Analysis of Financial Condition and
Results of Operations." Words such as "anticipate," "estimate," "expects,"
"projects," "intends," "plans" and "believes," and words and terms of similar
import used in connection with any discussions of future operating or financial
performance identify forward-looking statements. Such forward-looking
statements, like all statements about expected future events, are subject to
substantial risks and uncertainties that could cause actual results to
materially differ from those expressed in the statements, including general
economic, market and business conditions, opportunities pursued or abandoned,
competition, changes in federal and state laws or regulations affecting the
company and our operations, and other factors discussed periodically in our
filings. Many of the foregoing factors are beyond our control. Among the factors
that could cause actual results to differ materially are the factors detailed in
the risks discussed in the "Risk Factors" section below. If any such events
occur or circumstances arise that we have not assessed, they could have a
material adverse effect upon our revenues, earnings, financial condition and
business, as well as the trading price of our common stock, which could
adversely affect your investment in the company. Accordingly, readers are
cautioned not to place too much reliance on such forward-looking statements
which speak only as of the date made and which the company undertakes no
obligation to revise to reflect events after the date made.
Item 1. Business
General
Medicore, Inc., incorporated in Florida in 1961, has three business
segments: (i) the medical products division which distributes medical products;
(ii) the operation of kidney dialysis centers and other dialysis services
through our 61% owned public subsidiary, Dialysis Corporation of America; and
(iii) the investment in technology companies through our approximately 14%
interest in Linux Global Partners, Inc. (and in which Dialysis Corporation of
America has an approximately 2% interest), a private speculative company that
has developed and recently commenced marketing a Linux desktop system and which
invests in developing Linux software companies. We had outstanding loans since
2000 to Linux Global Partners which aggregated approximately $2,742,000 at
December 31, 2002, upon which we declared a default and sold certain collateral
at public auction on January 24, 2003 to satisfy the indebtedness. The
collateral, 4,115,815 shares of Ximian, Inc.'s series A convertible preferred
stock, was purchased by Xandros, Inc., a 95% owned subsidiary of Linux Global
Partners, which company failed to meet the purchase terms resulting in our
company keeping the down payment of 775,000 shares of common stock
(approximately 1.5%) of Xandros and obtaining the Ximian preferred shares. See
"Linux Division," "Risk Factors" under this Item 1, "Business," Item 13,
"Certain Relationships and Related Transactions," and Notes 6, 12 and 15 to
"Notes to Consolidated Financial Statements." We sold our
71% owned public subsidiary, Techdyne, Inc., in June, 2001, subsequent to which
we have no continuing operations as a contract manufacturer of electronic
components. The dialysis operations are the most significant of our operations,
accounting for approximately 97% of our sales revenues. Our investment in
technology companies, currently limited to Linux Global Partners and since March
21, 2003, Ximian, Inc., the latter a private company providing desktop and
server solutions, has not generated any revenues other than interest income, and
our medical products division accounts for approximately 3% of our sales
revenues.
Our executive offices are located at 2337 West 76th Street, Hialeah,
Florida 33016 and at 777 Terrace Avenue, Hasbrouck Heights, New Jersey 07604.
Our telephone number in Florida is (305) 558-4000 and in New Jersey is (201)
288-8220. You may further communicate with us at the following:
Florida New Jersey
Fax: (305) 825-0961 Fax: (201) 288-8208
Email: medicore@compuserve.com
Medical Products
We develop and distribute medical products, primarily disposables, both
domestically and internationally, to hospitals, blood banks, laboratories and
retail pharmacies. Products distributed include exam gloves, prepackaged swabs
and bandages and glass tubing products for laboratories. We additionally
distribute a line of blood lancets used to draw blood for testing. The lancets
are distributed under the names Producers of Quality Medical Disposables(TM),
Lady Lite(TM), our brand name Lite Touch, or under a private label if requested
by the customer. Medical devices are required by the FDA, as a condition of
marketing, to secure a 510(k) premarket notification clearance or a Premarket
Approval Application. A product will be cleared by the FDA under a 510(k) if it
is found to be substantially equivalent in terms of safety, effectiveness and
intended use to another legally marketed product. We received 510(k) clearance
for our blood lancet line and insulin syringes, and for the sterile products.
Our medical products are subject to continuing FDA oversight, including
labeling, "good manufacturing practices," as defined in FDA regulations, and
adverse event reporting, none of which adverse events have occurred to date.
Although we hold three patents related to our lancets (see "Patents and Trade
Names" below), and obtained required FDA approval relating to the production of
lancets, we are no longer manufacturing these products. As of April 1, 2001, we
commenced purchasing lancets from manufacturers in the Far East. Marketing of
medical products is conducted by independent manufacturer representatives and
our employees.
Dialysis Operations
Dialysis Corporation of America currently operates 16 outpatient
dialysis facilities in Pennsylvania, New Jersey, Georgia, Maryland and Ohio,
including Dialysis Corporation of America's management of an Ohio center in
which it has a 40% interest and an unaffiliated Georgia center pursuant to
management services agreements. Dialysis Corporation of America also provides
acute dialysis services through contractual relationships with nine hospitals
and medical centers. In addition, it provides homecare services through its
wholly owned subsidiary, DCA Medical Services, Inc. Management believes the
company distinguishes itself on the basis of quality patient care, and a
patient-focused, courteous, highly trained professional staff.
2
General
Dialysis Corporation of America's growth depends primarily on the
availability of suitable dialysis centers for development or acquisition or
development in appropriate and acceptable areas, and management's ability to
develop new potential dialysis centers at costs within Dialysis Corporation of
America's budget while competing with larger companies, some of which are public
companies or divisions of public companies with much more personnel and
financial resources. We opened a dialysis center in the first quarter of 2002 in
Pennsylvania. We acquired a center in Georgia in April 2002. We opened two new
centers in February 2003, one in Maryland and one in Ohio. We are in the
development stage for two new centers, one in Indiana and one in Virginia, and
in the negotiating stage for several others, currently in Ohio and Georgia.
Dialysis Corporation of America's medical service revenues are derived
primarily from four sources: (i) outpatient hemodialysis services (49%, 47% and
51% of medical services revenues for 2002, 2001 and 2000, respectively); (ii)
home peritoneal dialysis services, including method II services (3%, 3% and 6%
of medical services revenues for 2002, 2001 and 2000, respectively); (iii)
inpatient hemodialysis services for acute patient care provided through
agreements with hospitals and medical centers (10%, 15% and 10% of medical
services revenues for 2002, 2001 and 2000, respectively); and (iv) ancillary
services associated with dialysis treatments, primarily the administration of
erythropoietin ("EPO"), a bio-engineered protein that stimulates the production
of red blood cells (a deteriorating kidney loses its ability to regulate red
blood cell count, resulting in anemia) (38%, 35% and 33% of medical services
revenue for 2002, 2001 and 2000, respectively). Dialysis is an ongoing and
necessary therapy to sustain life for kidney dialysis patients. ESRD patients
normally receive 156 dialysis treatments each year.
Essential to Dialysis Corporation of America's operations and income is
Medicare reimbursement which is a fixed rate determined by the Center for
Medicare and Medicaid Services ("CMS") of the Department of Health and Human
Services ("HHS"). The level of our revenues and profitability may be adversely
affected by future legislation that could result in rate cuts. Further, Dialysis
Corporation of America's operating costs tend to increase over the years in
excess of increases in the prescribed dialysis treatment rates. The inpatient
dialysis service agreements for treating acute kidney disease are not subject to
government fixed rates, but rather are negotiated with hospitals, and typically
the rates are at least equivalent or higher on a per treatment basis.
Dialysis Industry
Kidneys act as a filter removing harmful substances and excess water
from the blood, enabling the body to maintain proper and healthy balances of
chemicals and water. Chronic kidney failure, End Stage Renal Disease, results
from chemical imbalance and buildup of toxic chemicals, and is a state of kidney
disease characterized by advanced irreversible renal impairment. ESRD patients,
in order to survive, must either obtain a kidney transplant, which procedure is
limited due to lack of suitable kidney donors and the incidence of rejection of
transplanted organs, or obtain regular dialysis treatment for the rest of their
lives.
Based upon information published by the CMS, the number of ESRD
patients requiring dialysis treatments in the United States is approximately
286,000, and continues to grow at a rate of approximately 5% a year. This is
thought to be attributable primarily to the aging of the population and greater
patient longevity as a result of improved dialysis technology. The statistics
further reflect approximately 4,200 dialysis facilities, and the current annual
cost of treating ESRD in the United States is approximately $22 billion.
3
ESRD Treatment Options
Treatment options for ESRD patients include (1) hemodialysis, performed
either at (i) an outpatient facility, or (ii) inpatient hospital facility, or
(iii) the patient's home; (2) peritoneal dialysis, either continuous ambulatory
peritoneal dialysis or continuous cycling peritoneal dialysis; and/or (3) kidney
transplant. A significant portion of ESRD patients receive treatments at
non-hospital owned outpatient dialysis facilities (according to CMS,
approximately 80%) with most of the remaining patients treated at home through
hemodialysis or peritoneal dialysis. Patients treated at home are monitored by a
designated outpatient facility.
The most prevalent form of treatment for ESRD patients is hemodialysis,
which involves the use of an artificial kidney, known as a dialyzer, to perform
the function of removing toxins and excess fluids from the bloodstream. This is
accomplished with a dialysis machine, a complex blood filtering device which
takes the place of certain functions of the kidney and which machine also
controls external blood flow and monitors the toxic and fluid removal process.
The dialyzer has two separate chambers divided by a semi-permeable membrane, and
simultaneously with the blood circulating through one chamber, dialyzer fluid
circulates through the other chamber. The toxins and excess fluid pass through
the membrane into the dialysis fluid. On the average, patients usually receive
three treatments per week with each treatment taking three to five hours.
Dialysis treatments are performed by teams of licensed nurses and trained
technicians pursuant to the staff physician's instructions.
Home hemodialysis treatment requires the patient to be medically
suitable and have a qualified assistant. Additionally, home hemodialysis
requires training for both the patient and the patient's assistant, which
usually encompasses four to eight weeks. Dialysis Corporation of America does
not currently provide home hemodialysis (non-peritoneal) services. The use of
conventional home hemodialysis has declined and is minimal due to the patient's
suitability and lifestyle, the need for the presence of a partner and a dialysis
machine at home, and the higher expense involved over continuous ambulatory
peritoneal dialysis.
A second home treatment for ESRD patients is peritoneal dialysis. There
are several variations of peritoneal dialysis, the most common being continuous
ambulatory peritoneal dialysis and continuous cycling peritoneal dialysis. All
forms of peritoneal dialysis use the patient's peritoneal (abdominal) cavity to
eliminate fluid and toxins from the patient. Continuous ambulatory peritoneal
dialysis utilizes dialysis solution infused manually into the patient's
peritoneal cavity through a surgically-placed catheter. The solution is allowed
to remain in the abdominal cavity for a three to five hour period and is then
drained. The cycle is then repeated. Continuous cycling peritoneal dialysis is
performed in a manner similar to continuous ambulatory peritoneal dialysis, but
utilizes a mechanical device to cycle the dialysis solution while the patient is
sleeping. Peritoneal dialysis is the third most common form of ESRD therapy
following center hemodialysis and renal transplant.
The third modality for patients with ESRD is kidney transplantation.
While this is the most desirable form of therapeutic intervention, the scarcity
of suitable donors and possibility of donor rejection limits the availability of
this surgical procedure as a treatment option.
Dialysis Corporation of America's Business Strategy
Dialysis Corporation of America has 26 years' experience in developing
and operating dialysis treatment facilities. Its first priority is to provide
quality patient care. Dialysis Corporation of America intends to continue to
establish alliances with physicians and hospitals, attempts to initiate dialysis
service
4
arrangements with nursing homes and managed care organizations, and to continue
to emphasize its high quality patient care. Its smaller size allows it to focus
on each patient's individual needs while remaining sensitive to the physicians'
professional concerns.
Dialysis Corporation of America continues to actively seek and
negotiate with physicians and others to establish new outpatient dialysis
facilities. In 2002, Dialysis Corporation of America acquired a center in
Georgia and opened a new center in Pennsylvania; in 2003 has opened a dialysis
center in Maryland and a dialysis center in Ohio; and it is in the development
stages for two new centers, one in Indiana, and one in Virginia. Dialysis
Corporation of America is in different stages of negotiations with physicians
for potential new facilities in different areas of the country.
We sold our controlling interest in Techdyne, Inc. in June, 2001 for
$10,000,000 plus a three year earn-out which will amount to between $2,500,000
and $5,000,000. A substantial portion of our after tax proceeds from that sale
are available for expansion of Dialysis Corporation of America's dialysis
operations.
Development and Acquisition of Facilities
One of the primary elements in developing or acquiring facilities is
locating an area with an existing patient base under the current treatment of a
local nephrologist, since the proposed facility would primarily be serving such
patients. Other considerations in evaluating development of a dialysis facility
or a proposed acquisition are the availability and cost of qualified and skilled
personnel, particularly nursing and technical staff, the size and condition of
the facility and its equipment, the atmosphere for the patients, the area's
demographics and population growth estimates, state regulation of dialysis and
healthcare services, and the existence of competitive factors such as existing
outpatient dialysis facilities within reasonable proximity to the proposed
center.
Expansion is accomplished primarily through the development of Dialysis
Corporation of America's own dialysis facilities. Acquisition of existing
outpatient dialysis centers is a faster but more costly means of growth. To
construct and develop a new facility ready for operations takes an average of
six to eight months, and approximately 12 months or longer to generate income,
all of which are subject to variations based on location, size and competitive
elements. Some of our centers are in the developmental stage, since they have
not reached the point where the patient base is sufficient to generate and
sustain earnings. See Item 7, "Management's Discussion and Analysis of Financial
Condition and Results of Operations." Construction of a 15 station facility
typically costs in a range of $600,000 to $750,000 depending on location, size
and related services to be provided by the proposed facility. Acquisition of
existing facilities is substantially more expensive, and is usually based
primarily upon its patient base and earnings, and to a lesser extent, location
and competition. Any significant expansion, whether through acquisition or
development of new facilities, is dependent upon existing funds or financing
from other sources
Inpatient Services
Management is also seeking to increase acute dialysis care contracts
with hospitals for inpatient dialysis services. These contracts are sought with
hospitals in areas serviced by our facilities. The contract rates are
individually negotiated with each hospital and are not fixed by government
regulation as is the case with Medicare reimbursement fees for ESRD patient
treatment. In 2002, Dialysis Corporation of America entered into new acute
inpatient dialysis services agreements with hospitals in Georgia.
5
There is no certainty as to when any additional centers or service
contracts will be implemented, or the number of dialysis stations or patient
treatments such may involve, or if such will ultimately be profitable. There is
no assurance that we will be able to continue to enter into favorable
relationships with physicians who would become medical directors of such
proposed dialysis facilities, or that our company will be able to acquire or
develop any new dialysis centers within a favorable geographic area. Newly
established dialysis centers, although contributing to increased revenues,
initially adversely affect results of operations due to start-up costs and
expenses and due to their having a smaller and slower developing patient base.
See "Dialysis Corporation of America's Business Strategy," "Operations" and
"Competition" of Item 1, "Business," and Item 7, "Management's Discussion and
Analysis of Financial Condition and Results of Operations."
Operations
Location, Capacity and Use of Facilities
Dialysis Corporation of America operates 16 outpatient dialysis
facilities in Pennsylvania, New Jersey, Georgia, Maryland and Ohio, including an
Ohio dialysis center in which it holds a 40% interest and which it operates in
conjunction with the majority owner, the medical director of that center, and an
unaffiliated center in Georgia which we manage. These dialysis facilities have a
total designed capacity of 230 licensed stations.
The owner of the facility we manage in Georgia is involved in
litigation and subject to its success in that litigation and continuing to be
the sole owner of that facility, Dialysis Corporation of America has given the
owner a put option to sell to Dialysis Corporation of America, and Dialysis
Corporation of America has a call option to purchase, all the assets of that
Georgia dialysis facility. Each of the options are exercisable for two years
commencing September 11, 2003. The put is not exercisable unless that Georgia
dialysis facility has $100,000 in pre-tax income. Upon exercise the owner would
receive a 20% interest in our Georgia facility with the remainder of the
purchase price in cash, determined on a formula based upon a multiple of EBITDA.
Dialysis Corporation of America owns and operate its centers through
subsidiaries some of which are 100% owned, with the balance owned in conjunction
with the medical directors of each center who hold interests ranging from 20% to
49%. We have a minority 40% interest in a center in Ohio which we manage. The
Lemoyne, Pennsylvania, and one of the South Georgia dialysis facilities are
located on properties owned by Dialysis Corporation of America and leased to
those subsidiaries. Our Ohio dialysis center is leased from a corporation owned
by the medical director of that facility who, together with his wife's
corporation, owns 40% of the center. See Item 2, "Properties." We also manage an
un-affiliated dialysis center in Georgia.
Additionally, Dialysis Corporation of America provides acute care
inpatient dialysis services to nine hospitals in areas serviced by our dialysis
facilities, and we are in the process of negotiating additional acute dialysis
services contracts in the areas surrounding our facilities and in tandem with
development of future proposed sites. Each of our dialysis facilities has the
capacity to provide training, supplies and on-call support services for home
peritoneal patients. Dialysis Corporation of America provided approximately
80,000 hemodialysis treatments in 2002.
Management estimates that on average its centers were operating at
approximately 50% of capacity as of December 31, 2002, based on the assumption
that a dialysis center is able to provide up to three treatments a day per
station, six days a week. Management of Dialysis Corporation of America believes
it can increase the number of dialysis treatments at its centers without making
additional capital expenditures.
6
Operations of Dialysis Facilities
Our dialysis facilities are designed specifically for outpatient
hemodialysis and generally contain, in addition to space for dialysis
treatments, a nurses' station, a patient weigh-in area, a supply room, water
treatment space used to purify the water used in hemodialysis treatments, a
dialyzer reprocessing room (where, with both the patient's and physician's
consent, the patient's dialyzer is sterilized for reuse), staff work area,
offices and a staff lounge. Our facilities also have a designated area for
training patients in home dialysis. Each facility also offers amenities for the
patients, such as a color television with headsets for each dialysis station, to
ensure the patients are comfortable and relaxed.
Dialysis Corporation of America maintains a team of dialysis
specialists to provide for the individual needs of each patient. In accordance
with participation requirements under the Medicare ESRD program, each facility
retains a medical director qualified and experienced in the practice of
nephrology and the administration of a renal dialysis facility. See "Physician
Relationships" below. Each facility is overseen by a nurse administrator who
supervises the daily operations and the staff, which consists of registered
nurses, licensed practical nurses, patient care technicians, a part-time social
worker to assist the patient and family to adjust to dialysis treatment and to
provide help in financial assistance and planning, and a part-time registered
dietitian. These individuals supervise the patient's needs and treatments. See
"Employees" below. Dialysis Corporation of America must continue to attract and
retain skilled nurses and other staff, competition for whom is intense.
Our facilities also offer home dialysis, primarily continuous
ambulatory peritoneal dialysis and continuous cycling peritoneal dialysis.
Training programs for continuous ambulatory peritoneal dialysis or continuous
cycling peritoneal dialysis generally encompass two to three weeks at the
dialysis facility, and such training is conducted by the facility's home
training nurse. After the patient completes training, they are able to perform
treatment at home with equipment and supplies provided by the company.
Inpatient Dialysis Services
Dialysis Corporation of America presently provides inpatient dialysis
services to nine hospitals in Pennsylvania, Georgia and Ohio, under agreements
either with it or with one of its subsidiaries in the area. The agreements are
for a term ranging from one to five years, with automatic renewal terms, subject
to termination by notice of either party. Inpatient services are typically
necessary for patients with acute kidney failure resulting from trauma or
similar causes, patients in the early stages of ESRD, and ESRD patients who
require hospitalization for other reasons.
Ancillary Services
Our dialysis facilities provide certain ancillary services to ESRD
patients, including the administration of certain prescription drugs, such as
EPO upon a physician's prescription. EPO is a bio-engineered protein which
stimulates the production of red blood cells and is used in connection with
dialysis to treat anemia, a medical complication frequently experienced by ESRD
patients. EPO decreases the necessity for blood transfusions in ESRD patients.
There is only one supplier of EPO in the United States without alternative
products available to dialysis treatment providers. Although we have a good
relationship with the manufacturer and have not experienced any problems in
receipt of our supply of EPO, any loss or limitation of supply of this product
could have a material adverse effect on our operating revenue and income.
7
Physician Relationships
An integral element to the success of a facility is its association
with area nephrologists. A dialysis patient generally seeks treatment at a
facility near the patient's home where the patient's nephrologist has an
established practice.
The conditions of a facility's participation in the Medicare ESRD
program mandate that treatment at a dialysis facility be under the general
supervision of a medical director who is a physician. We retain by written
agreement qualified physicians or groups of qualified physicians to serve as
medical directors for each of our facilities. The medical directors are
typically a source of patients treated at the particular center served. The
medical directors of nine of our centers have acquired an ownership interest in
the center they service ranging from 20% to 49%. Our Ohio affiliate is owned 60%
by the physician. We make every effort to comply with federal and state
regulations concerning our relationship with the physicians and the medical
directors treating patients at our facilities. See Item 1, "Business -
Regulation - Dialysis Corporation of America."
Agreements with medical directors typically range from a term of five
years to 10 years, with renewal provisions. Each agreement specifies the duties,
responsibilities and compensation of the medical director. Under each agreement,
the medical director or professional association maintains his, her or its own
medical malpractice insurance. The agreements also provide for non-competition
in a limited geographic area surrounding that particular dialysis center during
the term of the agreement and upon termination for a limited period. However,
the agreements do not prohibit physicians providing services at our facilities
from providing direct patient care services at other locations; and consistent
with the federal and state law, such agreements do not require a physician to
refer patients to our dialysis centers. Usually, physician's professional fees
for services are billed directly to the patient or the government payment
authorities on a direct basis by the treating physician and paid directly to the
physician or the professional association.
Dialysis Corporation of America's ability to establish a dialysis
facility in a particular area is significantly geared to the availability of a
qualified physician or nephrologist to serve as the medical director. The loss
of a medical director who could not be readily replaced would have a material
adverse effect on the operations of that facility, most likely resulting in
closure, and Dialysis Corporation of America. Compensation of medical directors
is separately negotiated for each facility and generally depends on competitive
factors such as the local market, the physician's qualifications and the size of
the facility.
Quality Assurance
Dialysis Corporation of America implements a quality assurance program
to maintain and improve the quality of dialysis treatment and care we provide to
our patients in every facility. Quality assurance activities involve the ongoing
examination of care provided, the identification of therapy deficiencies, the
need for any necessary improvements in the quality of care, and evaluation of
improved technology. Specifically, this program requires each center's staff,
including its medical director and/or nurse administrator to regularly review
quality assurance data and initiate programs for improvement, including dialysis
treatment services, equipment, technical and environmental improvements, and
staff-patient and personnel relationships. These evaluations are in addition to
assuring regulatory compliance with CMS and the Occupational Safety and Health
Administration. Our Vice President of Clinical Services, who is a certified
nephrology nurse, oversees this program in addition to ensuring that the company
meets federal and state compliance requirements for dialysis centers. See Item
1, "Business - Regulation - Dialysis Corporation of America."
8
Patient Revenues
A substantial amount of the fees for outpatient dialysis treatments are
funded under the ESRD Program established by the federal government under the
Social Security Act, and administered in accordance with rates set by CMS. A
majority of dialysis patients are covered under Medicare. The balance of the
outpatient charges are paid by private payors including the patient's medical
insurance, private funds or state Medicaid plans. Pennsylvania, New Jersey,
Georgia, Maryland and Ohio, presently the states in which we operate, provide
Medicaid or comparable benefits to qualified recipients to supplement their
Medicare coverage.
Under the ESRD Program, payments for dialysis services are determined
pursuant to Part B of the Medicare Act which presently pays 80% of the allowable
charges for each dialysis treatment furnished to patients. The maximum payments
vary based on the geographic location of the center. The remaining 20% may be
paid by Medicaid if the patient is eligible, from private insurance funds or the
patient's personal funds. If no secondary payor covers the remaining 20%,
Medicare may reimburse part of the balance as part of Dialysis Corporation of
America's cost report filings. Medicare and Medicaid programs are subject to
regulatory changes, statutory limitations and government funding restrictions,
which may adversely affect our revenues and dialysis services payments. See
"Medicare Reimbursement" below.
The inpatient dialysis services are paid for by the hospital pursuant
to contractual pre-determined fees for the different dialysis treatments.
Medicare Reimbursement
Dialysis Corporation of America is reimbursed primarily by Medicare
under a prospective reimbursement system for chronic dialysis services, and by
third party payors including Medicaid and commercial insurance companies. Each
of our dialysis facilities is certified to participate in the Medicare program.
Under the Medicare system, the reimbursement rates are fixed in advance and
limit the allowable charge per treatment, but provides us with predictable and
recurring per treatment revenues and allows us to retain any profit earned. An
established composite rate set by CMS governs the Medicare reimbursement
available for a designated group of dialysis services, including dialysis
treatments, supplies used for such treatments, certain laboratory tests and
medications. The Medicare composite rate is subject to regional differences.
Dialysis Corporation of America receives reimbursement for outpatient
dialysis services provided to Medicare-eligible patients at rates that are
currently between approximately $121 and $136 per treatment, depending upon
regional wage variations. The Medicare reimbursement rate is subject to change
by legislation. An average ESRD reimbursement rate is approximately $124 per
treatment for outpatient dialysis services. The current maximum composite
reimbursement rate is $144 per treatment. Congress has requested studies of the
ESRD composite rate structure as well as other related ancillary services to
determine whether the composite rate is subject to an annual inflationary
increase. To date this issue is still pending.
Other ancillary services and items are eligible for separate
reimbursement under Medicare and are not part of the composite rate, including
certain drugs such as EPO, the allowable rate of which is currently $10 per 1000
units for amounts in excess of three units per patient per year, and certain
physician-ordered tests provided to dialysis patients. Approximately 26% of
Dialysis Corporation of America's medical services revenues in 2002 was derived
from providing dialysis patients with EPO.
9
CMS limits the EPO reimbursement based upon patients' hematocrit levels. Other
ancillary services, mostly other drugs, account for approximately an additional
10% of our medical services revenues. We submit claims monthly and are usually
paid by Medicare within 14 days of the submission.
There have been a variety of proposals to Congress for Medicare reform.
We are unable to predict what, if any, future changes may occur in the rate of
reimbursement. Any reduction in the Medicare composite reimbursement rate would
have a material adverse effect on Dialysis Corporation of America's and our
business, revenues and net earnings.
Medicaid Reimbursement
Medicaid programs are state administered programs partially funded by
the federal government. These programs are intended to provide coverage for
patients whose income and assets fall below state defined levels and who are
otherwise uninsured. The programs also serve as supplemental insurance programs
for the Medicare co-insurance portion and provide certain coverages (e.g., oral
medications) that are not covered by Medicare. State regulations generally
follow Medicare reimbursement levels and coverages without any co-insurance
amounts. Certain states, however, require beneficiaries to pay a monthly share
of the cost based upon levels of income or assets. Pennsylvania and New Jersey
have Medical Assistance Programs comparable to Medicaid, with primary and
secondary insurance coverage to those who qualify. We are a licensed ESRD
Medicaid provider in New Jersey, Pennsylvania, Ohio and Georgia.
Dialysis Corporation of America
Sources of Medical Service Revenues
Year Ended December 31,
2002 2001
---- ----
Medicare 49% 48%
Medicaid and Comparable Programs 9% 11%
Hospital inpatient dialysis services 10% 15%
Commercial and private payors 32% 26%
Management Services
Dialysis Corporation of America has a management services agreement
with each subsidiary and with its 40% owned affiliate DCA of Toledo, LLC, and
with an unaffiliated Georgia dialysis center, providing them with administrative
and management services, including but not limited to providing capital
equipment, preparing budgets, bookkeeping, accounting, data processing, and
other corporate based information services, materials and human resource
management, billing and collection, and accounts receivable and payable
processing. These services are provided for a percentage of net revenues of each
facility.
Corporate Integrity Program
Medicore and Dialysis Corporation of America have developed Corporate
Integrity Programs to assure we continue to achieve our goal of providing the
highest level of care and service in a professional and ethical manner
consistent with applicable federal and state laws and regulations. This program
is intended to reinforce our management's, employees' and professional
affiliates' awareness of their responsibilities to comply with applicable laws
in the increased and complex regulatory environment
10
relating to the operations of our company. This should benefit the overall care
and services for our dialysis patients, assure our operations are in compliance
with the law, which should also assist in operating in a cost-effective manner,
and accordingly, benefit our shareholders.
The board of directors of both Medicore and Dialysis Corporation of
America have established audit committees each consisting of three independent
members of the board who oversee audits, accounting, financial reporting, and
who have established procedures for receipt, retention and resolution of
complaints relating to those areas (none to date), among other responsibilities.
The audit committees operate under charters providing for their detailed
responsibilities.
Dialysis Corporation of America has developed a Compliance Program to
assure compliance with fraud and abuse laws, enhance communication of
information, and provide a mechanism to quickly identify and correct any
problems that may arise. This Compliance Program supplements and enhances our
existing policies, including those applicable to claims submission, cost report
preparation, internal audit and human resources.
As part of our Corporate Integrity Programs, Medicore and Dialysis
Corporation of America have developed Codes of Ethics and Business Conduct
covering management and all employees to assure all persons affiliated with our
company and our operations act in an ethical and lawful manner. The Codes of
Ethics and Business Conduct cover relationships among and between affiliated
persons, patients, payors, and relates to information processing, compliance,
workplace conduct, environmental practices, training, education, development,
among other areas. In its commitment to delivering quality care to dialysis
patients, Dialysis Corporation of America has mandated rigorous standards of
ethics and integrity.
The Corporate Integrity Programs are implemented and upgraded to
provide a highly professional work environment and lawful and efficient business
operations to better serve our patients and our shareholders.
Potential Liability and Insurance
Participants in the health care industry are subject to lawsuits based
upon alleged negligence, many of which involve large claims and significant
defense costs. We are very proud of the fact that, although Dialysis Corporation
of America has been involved in chronic and acute kidney dialysis services for
approximately 26 years, that subsidiary has never been subject to any suit
relating to its dialysis operations. Dialysis Corporation of America initiated
and is involved in a breach of contract dispute. See Item 3, "Legal
Proceedings." We currently have general and umbrella liability insurance, as
well as professional and products liability coverage. Our insurance policies
provide coverage on an "occurrence" basis and are subject to annual renewal. A
hypothetical successful claim against Dialysis Corporation of America in excess
of our insurance coverage could have a material adverse effect upon Dialysis
Corporation of America's and our business and results of operations. The medical
directors supervising our dialysis operations and other physicians practicing at
the facilities are required to maintain their own professional malpractice
insurance coverage.
Technology Companies
In January, 2000, we established a new division with the purpose of
investing in and incubating new technology companies, primarily involved with
Internet technology. Our initial investment was in Linux Global Partners, a
private company which has developed and recently commenced marketing its Linux
11
desktop system. Linux Global Partners has investments in a variety of other
Linux-related software companies, with certain of which it is attempting to
negotiate strategic alliances to employ their systems in conjunction with Linux
Global Partner's desktop system.. We hold an approximately 14% interest in Linux
Global Partners, and Dialysis Corporation of America holds an approximately 2%
interest. During 2000, we loaned Linux Global Partners $2,200,000 at an annual
rate of interest of 10%, which funds we borrowed from our subsidiary, Dialysis
Corporation of America. In May and June, 2001, we fully repaid this loan and
accrued interest to Dialysis Corporation of America. In 2001, Linux Global
Partners paid us $215,000 of which $200,000 was principal of the indebtedness.
The loan had been extended on various occasions. In 2002 we advanced another
$250,000 to Linux Global Partners under the same terms as the original loan. At
December 31, 2002, the principal and accrued interest on the loans aggregated
approximately $2,742,000. The indebtedness was collateralized by Linux Global
Partner's portfolio consisting of several companies that focus on the software
capabilities of the Linux operating system. Some of its investments, which range
from 6% to 90% ownership, included Ximian (which investment we now own), which
is involved in producing a Linux desktop environment and productivity
application suite, and enterprise software management solutions; Code Weavers, a
software development service and porting company; and Metro Link, involved in
Linux graphics and the embedded sector. All of these companies are private and
are in the developmental stages, several with limited revenues, and their
success remains speculative.
We were to receive $100,000 per month or 25% of the proceeds of Linux
Global Partners' private financings, whichever first occurred, and until such
repayment, Linux Global Partners had been issuing 50,000 shares of its common
stock to us every month. We declared the loan in default and sold, under the
requirements of the Uniform Commercial Code, certain of the collateral at public
auction on January 24, 2003. The sale consisted of 4,115,815 shares of Ximian
series A convertible preferred stock, which was purchased for $2,992,000 by
Xandros, Inc., a 95% owned subsidiary of Linux Global Partners. Xandros failed
to meet the conditions of purchase and forfeited its down payment of 775,000
shares of its common stock and we obtained the 4,115,815 preferred shares of
Ximian, which has become our second investment in new technology companies. See
Item 1, "Business - Risk Factors - Investment in Technology Companies," Item 7,
Management's Discussion and Analysis of Financial Condition and Results of
Operations" and Notes 6, 12, and 15 to "Notes to Consolidated Condensed
Financial Statements."
Linux is a free operating system, with its source code openly
published, developed and improved over the years by a worldwide community of
programmers. Linux has become an increasingly popular operating system posing a
potential challenge to the current major operating systems, such as Microsoft's
Windows NT and Sun Microsystems' Solaris, two of the leading operating systems
used on server computers, the data-serving machines that are the engines of
corporate networks and the Internet. In August, 2001, Linux Global Partners
purchased Corel Corporation's Canadian Linux Business Division, which Linux
Global Partners is operating through its subsidiary, Xandros. Corel, the world's
second largest desktop software company, holds a 5% interest in that subsidiary.
Xandros, building on Corel's $25 million in research and development of the
Linux desktop system, has improved the system and in October, 2002, initiated
the marketing of the Linux operating system and suite of applications for
desktop computing. The Linux operating system has received high accolades from a
variety of technical software publications and was among five prize winners for
desktop software technology awarded by Norge, a pc magazine. Xandros has been
obtaining limited financing for its operations, and is in need of substantial
capital to continue its marketing and further development of the Linux desktop
operating system. Although Xandros is in discussions with a variety of
investors, some of whom have already provided funding to its parent, Linux
Global Partners, and itself, there is no assurance such capital will be
available or, if so, on favorable terms. We recognize Xandros is subject to all
the risks of a startup company, including the ability to continue operations,
and whether the Linux desktop system will be accepted, the extent of sales, its
ability to generate revenues, and whether such revenues will be sufficient to
reflect income, and the overall ability of
12
management to operate and grow that company. Ximian is a new private technology
company, facing similar start-up company risks, and is engaged in funding
efforts for its operations.
Although we continue to evaluate new technologies, the economy and
marketplace during 2001 and 2002 and thus far in 2003 have not been friendly to
many industries, particularly the technology sector.
Discontinued Operations
We formerly were engaged as a contract manufacturer of electronic and
electro-mechanical products, primarily for the data processing,
telecommunications, instrumentation and food preparations equipment industries,
accomplished through our 71% owned public subsidiary, Techdyne, Inc. We sold our
71% interest in Techdyne on June 27, 2001. Accordingly Techdyne is presented as
a discontinued operation.
Government Regulation
Dialysis Corporation of America
Regulation of healthcare facilities, including dialysis facilities, is
extensive, with legislation continually proposed relating to safety, maintenance
of equipment and proper records, quality assurance programs, reimbursement
rates, confidentiality of medical records, licensing and other areas of
operations. Each of the dialysis facilities must be certified by CMS, and we
must comply with certain rules and regulations established by CMS regarding
charges, procedures and policies. Each dialysis center is also subject to
periodic inspections by federal and state agencies to determine the satisfaction
of regulatory standards to its operations. Our operations are also subject to
the Occupational Safety and Health Administration, known as OSHA, relating to
workplace safety and employee exposure to blood and other potentially infectious
material.
Many states have eliminated the requirement to obtain a certificate of
need prior to the establishment or expansion of a dialysis center. There are no
certificate of need requirements in the states in which we are presently
operating.
Our record of compliance with federal, state and local governmental
laws and regulations remains excellent. We are unable to predict the scope and
effect of any changes in government regulations, particularly any modifications
in the reimbursement rate for medical services or requirements to obtain
certification from CMS. Enforcement, both privately and by the government, has
become more stringent, particularly in attempts to combat fraud and waste,
adding to compliance costs as well as potential sanctions. Since inception in
1976, we have maintained all of our licenses, including our Medicare and
Medicaid and equivalent certifications. The loss of any licenses and
certifications would have a material adverse effect on our company, revenues and
earnings.
We regularly review legislative and regulatory changes and developments
and will restructure a business arrangement if we determine such might place our
operations in material noncompliance with such law or regulation. See "Fraud and
Abuse" and "Stark II" below. To date, none of our business arrangements with
physicians, patients or others have been the subject of investigation by any
governmental authority. No assurance can be given, however, that our business
arrangements will not be the subject of future investigation or prosecution by
federal or state governmental authorities which could result in civil and/or
criminal sanctions.
13
Fraud and Abuse
Certain aspects of our dialysis business are subject to federal and
state laws governing financial relationships between health care providers and
referral sources and the accuracy of information submitted in connection with
reimbursement. These laws, collectively referred to as "fraud and abuse" laws,
include the Anti-Kickback Statute, Stark II, other federal fraud laws, and
similar state laws.
The fraud and abuse laws apply because our medical directors have
financial relationships with the dialysis facilities and also refer patients to
those facilities for items and services reimbursed by federal and state health
care programs. Financial relationships with patients who are federal program
beneficiaries also implicate the fraud and abuse laws. Other financial
relationships which bear scrutiny under the fraud and abuse laws include
relationships with hospitals, nursing homes, and various vendors.
Anti-Kickback Statutes
The federal Anti-Kickback Statute prohibits the knowing and willful
solicitation, receipt, offer, or payment of any remuneration, directly or
indirectly, in return for or to induce the referral of patients or the ordering
or purchasing of items or services payable under the Medicare, Medicaid, or
other federal health care program.
Sanctions for violations of the Anti-Kickback Statute include criminal
penalties, such as imprisonment and fines of up to $25,000 per violation, and
civil penalties, of up to $50,000 per violation, and exclusion from Medicare,
Medicaid, and other federal health care programs.
The language of the Anti-kickback Statute has been construed broadly by
the courts. Over the years, the federal government has published regulations
that established "safe harbors" to the Anti-Kickback Statute. An arrangement
that meets all of the elements of the safe harbor is immunized from prosecution
under the Anti-Kickback Statute. The failure to satisfy all elements, however,
does not necessarily mean the arrangement violates the Anti-Kickback Statute.
Some states have enacted laws similar to the Anti-Kickback Statute.
These laws may apply regardless of payor source, may include criminal and civil
penalties, and may contain exceptions that differ from the safe harbors to the
Anti-Kickback Statute.
As required by Medicare regulations, each of our dialysis centers is
supervised by a medical director, who is a licensed nephrologist or otherwise
qualified physician. The compensation of Dialysis Corporation of America's
medical directors, who are independent contractors, is fixed by a medical
director agreement and reflects competitive factors in each respective location,
the size of the center, and the physician's professional qualifications. The
medical director's fee is fixed in advance, typically for periods of one to five
years and does not take into account the volume or value of any referrals to the
dialysis center. Eight of our outpatient dialysis centers are owned jointly
between Dialysis Corporation of America and physicians, usually professional
associations, who hold a minority position. Our Ohio affiliate is majority-owned
by a physician. These physicians, except in one instance, also act as the
medical directors for those facilities. We attempt to structure our arrangements
with our physicians to comply with the Anti-Kickback Statute. Many of these
physicians' patients are treated at our facilities. We have never been
challenged under the fraud and abuse laws and believe our arrangements with our
medical directors are in material compliance with applicable law. Several states
in which we operate have laws prohibiting physicians from holding financial
interests in various types of medical facilities. If these statutes are
interpreted to apply to relationships Dialysis Corporation of America has with
its
14
medical directors who hold joint ownership in the dialysis facilities, Dialysis
Corporation of America would restructure its relationship with these physicians,
but it could be subject to penalties.
Management believes that the Anti-Kickback Statute and other fraud and
abuse laws are primarily directed at abusive practices that increase the
utilization and cost of services covered by governmentally funded programs. The
dialysis services provided by the company generally cannot by their very nature
be over-utilized, since dialysis treatment is not elective, and is only
indicated when there is temporary or permanent kidney failure. Medical necessity
is capable of objective documentation, drastically reducing the possibility of
over utilization. There are safe harbors for certain arrangements. Relationships
with medical director ownership of minority interests in our facilities satisfy
many but not all of the criteria for the safe harbor, and there can be no
assurance that these relationships will not subject Dialysis Corporation of
America to investigation or prosecution by enforcement agencies. In an effort to
further our compliance with the law, Dialysis Corporation of America has adopted
a corporate compliance plan that addresses medical necessity and medical chart
audits to confirm medical necessity of referrals.
With respect to its inpatient dialysis services, Dialysis Corporation
of America provides hospitals with dialysis services, including qualified
nursing and technical personnel, supplies, equipment and technical services. In
certain instances, medical directors of a company facility who have a minority
interest in that facility may refer patients to hospitals with which Dialysis
Corporation of America has an inpatient dialysis services arrangement. Although
these arrangements may implicate the federal fraud and abuse laws, we believe
our acute inpatient hospital services are in compliance with the law. See "Stark
II" below.
We endeavor in good faith to comply with all governmental regulations.
However, there can be no assurance that we will not be required to change our
practices or experience a material adverse effect as a result of any such
potential challenge. We cannot predict the outcome of the rule-making process,
enforcement procedures, or whether changes in the safe harbor rules will affect
our position with respect to the Anti-Kickback Statute, but we do believe we
will remain in compliance.
Stark II
The Physician Ownership and Referral Act, known as Stark II, bans
physician referrals, with certain exceptions, for certain "designated health
services" as defined in the statute to entities in which a physician or an
immediate family member has a "financial relationship" which includes an
ownership or investment interest in, or a compensation arrangement between the
physician and the entity. For purposes of Stark II, "designated health services"
include, among others, clinical laboratory services, durable medical equipment,
parenteral and enteral nutrients, home health services, and inpatient and
outpatient hospital services. Dialysis treatments are not included in the
statutory list of "designated health services."
This ban is subject to several exceptions including personal service
arrangements, employment relationships and group practices meeting specific
conditions. If Stark II is found to be applicable to the facility, the entity is
prohibited from claiming payment for such services under the Medicare or
Medicaid programs, is liable for the refund of amounts received pursuant to
prohibited claims, is subject to civil penalties of up to $15,000 per referral
and can be excluded from participation in the Medicare and Medicaid programs.
HHS' regulations to Stark II became effective in January, 2002. These
regulations exclude from covered designated health services and referral
prohibitions, services included in the ESRD composite
15
rate and EPO and other drugs required as part of dialysis treatments under
certain conditions. Also excluded from "inpatient hospital services" are
dialysis services provided by a hospital not certified by CMS to provide
outpatient dialysis services, which would exclude Dialysis Corporation of
America's inpatient hospital services agreements from Stark II. Equipment and
supplies used in connection with home dialysis are excluded from the Stark II
definition of "durable medical equipment." HHS is revisiting its regulations and
intends to issue additional regulations to the Stark legislation. We are unable
to predict the extent or nature of such revised and/or new HHS regulations,
which may negatively impact our dialysis operations or require us to restructure
different aspects of our business. We believe, based upon the proposed rules and
the industry practice, that Congress did not intend to include dialysis services
and the services and items provided by the company incident to dialysis services
within the Stark II prohibitions.
If the provisions of Stark II were found to apply to our arrangements
however, we believe that we would be in compliance. We compensate our
nephrologist-physicians as medical directors of our dialysis centers pursuant to
medical director agreements, which we believe meet the exception for personal
service arrangements under Stark II. Non-affiliated physicians who send their
patients to or treat their patients at any of our facilities do not receive any
compensation from the company.
Medical directors of our dialysis facilities who hold a minority
investment interest in those subsidiaries may refer patients to hospitals with
which the company has an acute inpatient dialysis service arrangement. Stark II
may be interpreted to apply to these types of interests. We believe that
Dialysis Corporation of America's contractual arrangements with hospitals for
acute care inpatient dialysis services are in compliance with Stark II.
If CMS or any other government entity otherwise interprets the Stark II
regulations, we may be required to restructure certain existing compensation or
investment agreements with Dialysis Corporation of America's medical directors,
or, in the alternative, to refuse to accept referrals for designated health
services from certain physicians. Stark II prohibits Medicare or Medicaid
reimbursement of items or services provided pursuant to a prohibited referral,
and imposes substantial civil monetary penalties on facilities which submit
claims for reimbursement. If such were to be the case, Dialysis Corporation of
America could be required to repay amounts reimbursed for drugs, equipment and
services that CMS determines to have been furnished in violation of Stark II, in
addition to substantial civil monetary penalties, which could adversely affect
our operations and future financial results. We believe that if Stark II is
interpreted by CMS or any other governmental entity to apply to our dialysis
arrangements, it is possible that we could be permitted to bring our financial
relationships with referring physicians into material compliance with the
provisions of Stark II on a prospective basis. However, prospective compliance
may not eliminate the amounts or penalties, if any, that might be determined to
be owed for past conduct, and there can be no assurance that such prospective
compliance, if permissible, would not have a material adverse effect on the
company.
Health Insurance Reform Act
Congress has taken action in recent legislative sessions to modify the
Medicare program for the purpose of reducing the amounts otherwise payable from
the program to healthcare providers. Future legislation or regulations may be
enacted that could significantly modify the ESRD program or substantially reduce
the amount paid to the company for its services, or impose further regulation or
restrictions on healthcare providers. Further, statutes or regulations may be
adopted which demand additional requirements in order for Dialysis Corporation
of America to be eligible to participate in the federal and state payment
programs. Any new legislation or regulations may adversely affect Dialysis
Corporation of America's business and operations, as well as our competitors.
16
The Health Insurance Portability and Accountability Act of 1996, known
as HIPAA, provided for health insurance reforms which included a variety of
provisions important to healthcare providers, such as significant changes to the
Medicare and Medicaid fraud and abuse laws, which were expanded. HIPAA
established two programs that coordinate federal, state and local healthcare
fraud and abuse activities, known as the "Fraud and Abuse Control Program" and
the "Medicare Integrity Program." The Fraud and Abuse Control Program is
conducted jointly by HHS and the Attorney General while the Medicare Integrity
Program enables HHS, the Department of Justice and the FBI to monitor and review
Medicare fraud.
Under these programs, these governmental entities undertake a variety
of monitoring activities previously left to providers to conduct, including
medical utilization and fraud review, cost report audits and secondary payor
determinations. The Incentive Program for Fraud and Abuse Information rewards
Medicare recipients 10% of the overpayment up to $1,000 for reporting Medicare
fraud and abuse. HIPAA further created several new Health Care Fraud Crimes and
extended their applicability to private health plans.
As part of the administrative simplification provisions of HIPAA, final
regulations governing electronic transactions relating to healthcare information
were published by HHS. These regulations require a party transmitting or
receiving healthcare transactions electronically to send and receive data in
single format. This regulation applies to our submissions and processing of
healthcare claims and also applies to many of our payors. Dialysis Corporation
of America is in the process of developing the single format transmission, which
is required to be in place by October 16, 2003.
HHS also published regulations relating to the exchange of healthcare
information to comply with HIPAA privacy standards. HHS' privacy rules cover all
individually identifiable healthcare information known as "protected health
information" and apply to healthcare providers, health plans, and healthcare
clearing houses, known as "covered entities." Covered entities must be in
compliance no later than April 14, 2003. The regulations are quite extensive and
complex, but basically require companies to: (i) obtain patient acknowledgement
of receipt of a notice of privacy practices; (ii) obtain patient authorization
before certain uses and disclosures of protected health information; (iii)
respond to patient requests for access to their healthcare information; and (iv)
develop policies and procedures with respect to uses and disclosures of
protected health information. HHS proposed changes to these privacy regulations
to correct unintended consequences that threatened patients' access to quality
health care.
Dialysis Corporation of America has developed and continues to refine
its HIPAA compliance plan, and expects to be in material compliance by April 14,
2003. These regulations are complex, and require continued efforts, which add to
our administrative and financial obligations, to insure the privacy of protected
health information. It is anticipated that the HIPAA privacy rules will be
further amended, which could require additional resources to comply.
HIPAA significantly increased the civil and criminal penalties for
offenses related to healthcare fraud and abuse. HIPAA increased civil monetary
penalties from $2,000 plus twice the amount for each false claim to $10,000 plus
three times the amount for each false claim. HIPAA expressly prohibits four
practices, namely (1) submitting a claim that the person knows or has reason to
know is for medical items or services that are not medically necessary, (2)
transferring remuneration to Medicare and Medicaid beneficiaries that is likely
to influence such beneficiary to order or receive items or services, (3)
certifying the need for home health services knowing that all of the coverage
requirements have not been met, and (4) engaging in a pattern or practice of
upcoding claims in order to obtain greater reimbursement.
17
However, HIPAA creates a tougher burden of proof for the government by requiring
that the government establish that the person "knew or should have known" a
false or fraudulent claim was presented. The "knew or should have known"
standard is defined to require "deliberate ignorance or reckless disregard of
the truth or falsity of the information," thus merely negligent conduct or
billing errors should not violate the Civil False Claims Act.
As for criminal penalties, HIPAA adds healthcare fraud, theft,
embezzlement, obstruction of investigations and false statements to the general
federal criminal code with respect to federally funded health programs, thus
subjecting such acts to criminal penalties. Persons convicted of these crimes
face up to 10 years imprisonment and/or fines. Moreover, a court imposing a
sentence on a person convicted of federal healthcare offense may order the
person to forfeit all real or personal property that is derived from the
criminal offense. The Attorney General is also provided with a greatly expanded
subpoena power under HIPAA to investigate fraudulent criminal activities, and
federal prosecutors may utilize asset freezes, injunctive relief and forfeiture
of proceeds to limit fraud during such an investigation.
Although we believe we substantially comply with currently applicable
state and federal laws and regulations and to date have not had any difficulty
in maintaining our licenses and Medicare and Medicaid authorizations, the
healthcare service industry is and will continue to be subject to substantial
and continually changing regulation at the federal and state levels, and the
scope and effect of such and its impact on our operations cannot be predicted.
No assurance can be given that our dialysis operations will not be reviewed or
challenged by regulatory authorities. We continue to work with our healthcare
counsel in reviewing our policies and procedures and make every effort to comply
with HIPAA and other applicable federal and state laws and regulations.
Any loss by Dialysis Corporation of America of its various federal
certifications, its approval as a certified provider under the Medicare or
Medicaid programs or its licenses under the laws of any state or other
governmental authority from which a substantial portion of its revenues are
derived or a change resulting from healthcare reform, a reduction of dialysis
reimbursement or a reduction or complete elimination of coverage for dialysis
services, would have a material adverse effect on Dialysis Corporation of
America's, and accordingly, our business.
Environmental and Health Regulations
Our dialysis centers are subject to hazardous waste laws and
non-hazardous medical waste regulation. Most of our waste is non-hazardous. CMS
requires that all dialysis facilities have a contract with a licensed medical
waste handler for any hazardous waste. We also follow OSHA's Hazardous Waste
Communications Policy, which requires all employees to be knowledgeable of the
presence of and familiar with the use and disposal of hazardous chemicals in the
facility. Medical waste of each facility is handled by licensed local medical
waste sanitation agencies who are primarily responsible for compliance with such
laws.
There are a variety of regulations promulgated under OSHA relating to
employees exposed to blood and other potentially infectious materials requiring
employers, including dialysis centers, to provide protection. Dialysis
Corporation of America adheres to OSHA's protective guidelines, including
regularly testing employees and patients for exposure to hepatitis B and
providing employees subject to such exposure with hepatitis B vaccinations on an
as-needed basis, protective equipment, a written exposure control plan and
training in infection control and waste disposal.
18
Other Regulation
There are also federal and state laws prohibiting anyone from
presenting false claims or fraudulent information to obtain payments from
Medicare, Medicaid and other third-party payors, such as the federal False
Claims Act. These laws provide for both criminal and civil penalties, exclusion
from Medicare and Medicaid participation, repayment of previously collected
amounts and other financial penalties. The submission of Medicare cost reports
and requests for payment by dialysis centers are covered by these laws. The
False Claims Act has been used to prosecute for fraud, for coding errors,
billing for services not provided, and billing for services at a higher than
allowable billing rate. We believe Dialysis Corporation of America has the
proper internal controls and procedures for issuance of accounts and complete
cost reports and payment requests. Such reports and requests are subject to a
challenge under these laws.
Certain states have anti-kickback legislation and laws dealing with
self-referral provisions similar to the federal Anti-Kickback Statute and Stark
II. We have no reason to believe that we are not in compliance with such state
laws.
Dialysis Corporation of America has developed a Compliance Program as
part of its Corporate Integrity Program, designed to assure compliance with
fraud and abuse laws and regulations. See above under the caption "Corporate
Integrity Program." The establishment and implementation of our compliance
program, coupled with our existing policies and internal controls, could have
the effect of mitigating any civil or criminal penalties for potential
violations, none of which we have had since we commenced operations in 1976. We
will continue to use our best efforts to fully comply with federal and state
laws, regulations and requirements as applicable to our operations and business.
Patents and Trade Names
We sell certain of our medical supplies and products under the
trademark Medicore(TM). Certain of our lancets are marketed under the trademarks
Providers of Quality Medical Disposables(TM) and Lady Lite(TM) and under the
brand name Lite Touch.
We do not rely on patents or trademarks in our medical products
division. Rather, we place importance upon design, engineering, cost
containment, quality and marketing skills to establish or maintain market
position.
Competition
The medical products operations are extremely competitive and we are
not a significant competitive factor in this area.
The dialysis industry is highly competitive. There are numerous
providers who have dialysis facilities in the same areas as the company. Many
are owned by major corporations which operate dialysis facilities regionally,
nationally and internationally. Our dialysis operations are small in comparison
with those corporations. Some of Dialysis Corporation of America's major
competitors are public companies, including Fresenius Medical Care, Inc, A. G.,
Gambro Healthcare, Inc., Renal Care Group, Inc., and Davita, Inc. Most of these
companies have substantially greater financial resources, many more centers,
patients and services than Dialysis Corporation of America has, and by virtue of
such may have an advantage in competing for nephrologists and acquisitions of
dialysis facilities in areas and
19
markets we target. Fresenius and Gambro also manufacture and sell dialysis
equipment and supplies, which may provide them with an even greater competitive
edge. Competition for acquisitions has increased the cost of acquiring existing
dialysis facilities. Dialysis Corporation of America also faces competition from
hospitals and physicians that operate their own dialysis facilities.
Competitive factors most important in dialysis treatment are quality of
care and service, convenience of location and pleasantness of the environment.
Another significant competitive factor is the ability to attract and retain
qualified nephrologists. These physicians are a substantial source of patients
for the dialysis centers, are required as medical directors of the dialysis
facility for it to participate in the Medicare ESRD program, and are responsible
for the supervision of the medical operations of the center. Dialysis
Corporation of America's medical directors usually are subject to non-compete
restrictions within a limited geographic area from the center they administer.
Additionally, there is always substantial competition for obtaining qualified,
competent nurses and technical staff at reasonable labor costs.
Based upon advances in surgical techniques, immune suppression and
computerized tissue typing, cross-matching of donor cells and donor organ
availability, renal transplantation in lieu of dialysis is becoming a
competitive factor. It is presently the second most commonly used modality in
ESRD therapy. With greater availability of kidney donations, currently the most
limiting factor, renal transplantations could become a more significant
competitive aspect to the dialysis treatments we provide. Although kidney
transplant is a preferred treatment for ESRD, certain patients who have
undergone such transplants have lost their transplant function and returned to
dialysis treatments.
Employees
The company and its subsidiaries employ approximately 204 full time
employees of which 8 are administrative, 191 are with the dialysis operations
and 5 are engaged in the medical supply operations. In addition, Dialysis
Corporation of America employs approximately 11 part-time employees and retains
10 independent contractors, consisting of the social workers and dietitians at
certain of Dialysis Corporation of America's dialysis facilities in addition to
medical directors who supervise patient treatment at each facility. Dialysis
Corporation of America also uses approximately 60 "per diem" personnel to
supplement staffing.
Risk Factors
We have listed below certain of the risk factors relating to our
company and our securities. There may be other risks and uncertainties that the
company may face of which we are currently unaware which could also adversely
affect our business, operations and financial condition. If any of such risks or
uncertainties arise, or the risks listed below occur, our company, operations,
earnings and financial condition could be materially harmed, which, in turn,
would most likely adversely affect the trading price of our common stock. Any
such event could seriously impact a shareholder's investment in the company.
Our dialysis operations are the most significant business segment, and,
therefore, most of the risk factors will relate to that business.
20
Investment in Technology Companies
We only have two investments in development stage private Linux software
companies, which have recently initiated marketing of new products, and need
significant financing
In 2000, we initiated a new division which was to be investments in
technology companies. Until recently (see the immediately following Risk
Factor), Linux Global Partners, a private development stage company involved in
Linux software product development and investment, was our singular investment.
The following risks relate to Linux Global Partners
o no audited financial statements
o incurred losses in implementing through Xandros, Inc., its 95%
owned subsidiary, the production and marketing of its Linux
desktop system in December, 2002
o demand for its Linux desktop system has been minimal
o the recent launch of its Linux desktop system has not
generated sufficient revenues to cover expenses or reflect
income
o significant funding is required to continue its existence and
the marketing and further development of its product
- no assurance funding will be available, or if so, on
favorable terms
- presently has significant outstanding indebtedness,
some of which is due but not paid
o limited operating history; inability to evaluate future
prospects
o early stage company; rapidly evolving market; intense
competition
o reliance on prominent Linux developers of the Linux kernal
could impair it from upgrading its product
Linux Global Partners defaulted on our $2,250,000 loans, forcing a public sale
of certain collateral in January, 2003, resulting in our ownership of our second
Linux software company
In 2000, we made our investment in Linux Global Partners, obtaining an
8% interest and having loaned $2,200,000 to Linux Global Partners at an annual
interest rate of 10%. We borrowed those funds from Dialysis Corporation of
America, and fully repaid our subsidiary in June, 2001. In May, 2001, Linux
Global Partners paid us $215,500 of which $200,000 was principal. In August,
2001, we entered into an extension of our loan with Linux Global Partners based
upon repayment of $100,000 per month or 25% of any proceeds it received from its
financing attempts, none of which occurred. We also received 50,000 shares of
Linux Global Partners' common stock per month until our loan was repaid.
The Linux Global Partners debt had been extended on various occasions.
From September, 2002 through the fourth quarter of 2002, we loaned an additional
$250,000 to Linux Global Partners to assist its initiation of the marketing of
its Linux desktop software system, for which we received an additional 75,000
shares of common stock giving us an aggregate ownership of approximately 14% of
that company. Our subsidiary, Dialysis Corporation of America, owns
approximately 2% of Linux Global Partners. At December 31, 2002, Linux Global
Partners' indebtedness to us aggregated approximately $2,742,000. The loans were
in default and we sold certain of the collateral at a public auction in January,
2003. Xandros, Linux Global Partners' 95% owned subsidiary, purchased the
collateral for $2,992,000. Xandros deposited 775,000 shares of its common stock
as a down payment, which it forfeited to us upon its failure to pay the purchase
price for the Ximian collateral. We acquired the 4,115,815 shares of series A
convertible preferred
21
stock of Ximian in satisfaction of the Linux Global indebtedness, as we were the
next highest bidder at the public auction.
We now hold an approximately 14% interest in Ximian, a private company
providing Linux desktop and server solutions enabling enterprise Linux adoption.
Ximian indicates its products have been marketed for over one year, has revenues
but to date has experienced losses.
It too does not generate sufficient cash flow for development and
operations and faces similar risks of new enterprises, including:
o extent of demand for its products
o sufficient financing for operations, marketing and product
development
o limited operating history
o difficult to evaluate future prospects
o rapidly evolving market; intense competition
o reliance on its founders, prominent Linux developers
In October, 2002, Xandros launched its Linux desktop software system,
which to date has not generated sufficient cash flow to meet operating costs.
Xandros is subject to all the risks of a startup company, including its ability
to continue in business, whether its Linux desktop system will be commercially
accepted, the extent of sales, Xandros' ability to generate revenues and if so,
whether they will be sufficient to generate income. There is also the risk as to
the ability of Xandros' management to operate and develop its business. See Item
1, "Business - General - Linux Divisions," Item 7, "Management's Discussion and
Analysis of Financial Condition and Results of Operations," and Note 14 to
"Notes to Consolidated Condensed Financial Statements."
Based upon certain agreements Linux Global Partners entered into with
Ximian shortly after our initial loan to Linux Global in January, 2000, which
provided Ximian, its founders and investors with rights of first refusal to the
collateral, which they did not exercise upon the sale of the collateral, among
other issues which impacted the salability, and therefore the value, of the
collateral, the Ximian preferred shares, Linux Global Partners gave the company
a put to sell all or any portion of the Ximian preferred shares we now own to
Linux Global Partners at $.753 per share or an aggregate of $3,100,000,
exercisable from January 25, 2004 through March 4, 2004.
Dialysis Operations
Until fiscal 2001, Dialysis Corporation of America had experienced operational
losses
Since 1989, when Dialysis Corporation of America sold four of its five
dialysis centers, that subsidiary had experienced operational losses. Not until
fiscal 2001 did Dialysis Corporation of America reflect net income. Dialysis
Corporation of America initiated an expansion program in 1995, opening two new
dialysis centers that year, and to date operates and/or manages 16 centers in
New Jersey, Pennsylvania, Georgia, Ohio and Maryland, with two dialysis
facilities in the developmental stage in Indiana and Virginia. Some of our
dialysis centers have generated losses since their commencement of operations.
This is due to operational costs and time needed to reach full capacity of
dialysis treatments. See Item 7, "Management's Discussion and Analysis of
Financial Condition and Results of Operations."
22
Dialysis operations are subject to extensive government regulation
Our dialysis operations are subject to extensive federal and state
government regulations, which include:
o licensing requirements for each dialysis facility
o patient referral prohibitions
o false claims prohibitions for health care reimbursement and
other fraud and abuse regulations
o record keeping requirements
o health, safety and environmental compliance
o expanded protection of the privacy and security of personal
medical data
o establishing standards for the exchange of electronic health
information; electronic transactions and code sets; unique
identifiers for providers, employers, health plans and
individuals
Many of these laws and regulations are complex and open to a variety of
interpretations. If we are forced to change our method of operations because of
these regulations, our earnings, financial condition and business might be
adversely affected. In addition, any violation of these governmental regulations
could involve substantial civil and criminal penalties and fines, revocation of
licensure, closure of a facility, and exclusion from participating in Medicare
and Medicaid programs. Any loss of federal or state certifications or licenses
would adversely impact our business.
Dialysis Corporation of America arrangements with its physician medical
directors do not meet the safe harbor provisions of federal and state laws, and
may subject us to greater governmental scrutiny
Neither Dialysis Corporation of America's arrangements with the medical
directors of its dialysis facilities nor the minority ownership interests of
referring physicians in certain of Dialysis Corporation of America's dialysis
facilities meet all of the requirements of published safe harbors to the illegal
remuneration provisions of the Social Security Act and similar state laws. These
laws impose civil and criminal sanctions on persons who receive or make payments
for referring a patient for treatment that is paid for in whole or in part by
Medicare, Medicaid or similar state programs. Transactions that do not fall
within the safe harbor may be subject to greater scrutiny by enforcement
agencies.
Dialysis Corporation of America's operations are subject to Medicare and
Medicaid audits with concurrent potential civil and criminal penalties for
failure to comply
Dialysis Corporation of America is subject to periodic audits by the
Medicare and Medicaid programs, which have various rights and remedies if they
assert that Dialysis Corporation of America has overcharged the programs or
failed to comply with program requirements, none of which it has done. Rights
and remedies available to these programs include repayment of any amounts
alleged to be overpayments or in violation of program requirements, or making
deductions from future amounts due to it. These programs may also impose fines,
criminal penalties or program exclusions.
In the ordinary course of Dialysis Corporation of America's business,
it receives notices of deficiencies for failure to comply with various
regulatory requirements. Dialysis Corporation of America
23
reviews such notices and takes appropriate corrective action. In most cases,
Dialysis Corporation of America and the reviewing agency will agree upon the
measures that will bring the center or services into compliance. In some cases
or upon repeat violations, none of which Dialysis Corporation of America has
experienced, the reviewing agency may take various adverse actions against a
provider, including but not limited to:
o the imposition of fines;
o suspension of payments for new admissions to the center; and
o in extreme circumstances, desertification from participation
in the Medicare or Medicaid programs and revocation of a
center's license.
Any such regulatory actions could adversely affect a provider's ability
to continue to operate, to provide certain services, and/or the eligibility to
participate in Medicare or Medicaid programs or to receive payments from other
payors. Further, actions against one center may subject our other centers deemed
under common control or ownership to adverse remedies.
There has been increased governmental focus and enforcement with respect to
anti-fraud initiatives as they relate to healthcare providers
State and federal governments are devoting increased attention and
resources to anti-fraud initiatives against healthcare providers. Recent
legislation expanded the penalties for heath care fraud, including broader
provisions for the exclusion of providers from the Medicaid program. Dialysis
Corporation of America has established policies and procedures that we believe
are sufficient to ensure that our facilities will operate in substantial
compliance with these anti-fraud and abuse requirements. While we believe that
our business practices are consistent with Medicare and Medicaid criteria, those
criteria are often vague and subject to change and interpretation. Anti-fraud
actions, however, could have an adverse effect on Dialysis Corporation of
America's and our financial position and results of operations.
Dialysis Corporation of America's revenues and financial stability are dependent
on fixed reimbursement rates under Medicare and Medicaid
During 2002, approximately 49% of Dialysis Corporation of America's
patient revenues was derived from Medicare reimbursement and 9% of its patient
revenues was derived from Medicaid and equivalent programs. Decreases in
Medicare and Medicaid and equivalent rates and programs for our dialysis
treatments would adversely affect Dialysis Corporation of America's and our
revenues and profitability. Furthermore, operating costs tend to increase over
the years without comparable increases in the prescribed dialysis treatment
rates.
Decreases in reimbursement payments from third-party, non-government payors
could adversely affect our earnings
Any reduction in the rates paid by private insurers, hospitals and
other non-governmental third-party organizations would adversely affect Dialysis
Corporation of America's and our business. Alternatively, any change in patient
coverage, such as Medicare eligibility as opposed to higher private insurance
coverage, would result in a reduction of revenue. We estimate approximately 42%
of Dialysis
24
Corporation of America's patient revenues for 2002 was obtained from sources
other than Medicare or Medicaid and equivalent programs. Dialysis Corporation of
America generally charges non-governmental organizations for dialysis treatment
rates which exceed the fixed Medicare and Medicaid and equivalent rates. Any
limitation on Dialysis Corporation of America's ability to charge these higher
rates, which may be affected by expanded coverage by Medicare under the fixed
corporate rate, or expanded coverage of dialysis treatments by managed care
organizations, which commonly have lower rates than we charge, could adversely
affect Dialysis Corporation of America's and our business, results of
operations, and financial condition.
Any decrease in the availability of or the reimbursement rate of EPO would
reduce Dialysis Corporation of America's and our revenues and earnings
EPO, the bio-engineered drug used for treating anemia in dialysis
patients, is currently available from a single manufacturer, Amgen, Inc. On
January 1, 2003, Amgen increased the price of EPO, and there is no assurance
there will not be further price increases. There currently is no alternative
drug available to us for dialysis patient treatment of anemia. The available
supply could be delayed or reduced, whether by Amgen, unforeseen circumstances,
or through excessive demand. This would adversely impact Dialysis Corporation of
America's and our revenues and profitability, since approximately 26% of
Dialysis Corporation of America's medical revenues in 2002 were based upon the
administration of EPO to its dialysis patients. Most of Dialysis Corporation of
America's EPO reimbursement is from government programs. We are unsure whether
there will be an EPO reimbursement rate reduction, but if such occurs, it would
adversely affect Dialysis Corporation of America's and our revenues and
earnings.
Dialysis Corporation of America's ability to grow is subject to its resources
and available locations
Other than one center acquisition in 2002, expansion of Dialysis
Corporation of America's operations has been through construction of dialysis
facilities. This is due to the substantial costs involved in an acquisition,
usually valued on a per-patient basis. We seek areas with qualified and
cost-effective nursing and technical personnel, with a sufficient population to
sustain a dialysis facility. These opportunities are limited and we compete with
much larger dialysis companies for appropriate locations. Construction through
commencement of operations generally takes four to six months and sometimes
longer. Once the facility is operable, it generates revenues, but usually does
not operate at full capacity, and may generate losses for approximately 12
months or longer. Our growth strategy based on construction also involves the
risks of our ability to identify suitable locations to develop additional
facilities. Those we do develop may never achieve profitability, and additional
financing may not be available to finance future development.
Our inability to acquire or develop facilities in a cost-effective
manner would adversely affect our ability to expand our dialysis business and
our profitability.
Growth places significant demands on our financial and management
skills. Inability on our behalf to meet the challenges of expansion and to
manage any such growth would have an adverse effect on our management, results
of operations and financial condition.
25
Dialysis Corporation of America's attempts to expand through development or
acquisition of dialysis facilities which are not currently identified entails
risks which shareholders and investors will not have a basis to evaluate
Dialysis Corporation of America expands generally through seeking an
appropriate location considering the patient base, availability of a physician
nephrologist to be medical director of that dialysis facility, and a skilled
work force. Construction and equipment costs for a new dialysis facility with 15
stations typically range from $600,000 to $750,000. The cost of acquiring a
center is usually much greater. Dialysis Corporation of America cannot ensure
that it will be successful in developing or acquiring dialysis facilities, or
otherwise successfully expanding its operations. Dialysis Corporation of America
is negotiating with nephrologists and others to establish new dialysis centers,
but it cannot ensure these negotiations will result in the development of new
centers. Furthermore, there is no basis for shareholders and investors to
evaluate the specific merits or risks of any potential development or
acquisition of dialysis facilities.
Dialysis Corporation of America depends on physician referrals, and the
limitation or cessation of such referrals would adversely impact Dialysis
Corporation of America's and our revenues and earnings
Our dialysis facilities and those centers we seek to develop are
dependent upon referrals of ESRD patients for treatment by physicians
specializing in nephrology. Generally, the nephrologist or medical professional
association of physicians supervising a particular dialysis center's operations,
known as a medical director of that facility, account for most of the patient
base. There is no requirement for these physicians to refer their patients to
us, and they are free to refer patients to any other conveniently located
dialysis facility. We may not be able to renew or otherwise negotiate
compensation under the medical director agreements with our medical director
physicians which could terminate the relationship, and without a suitable
medical director replacement could result in closure of the facility.
Accordingly, the loss of these key referring physicians at a particular center
could have a material adverse effect on the operations of the center and could
adversely affect Dialysis Corporation of America's and our revenues and
earnings.
Some of the referring physicians own minority interests in certain of
the dialysis facilities. If these interests are deemed to violate applicable
federal or state law, these physicians may be forced to dispose of their
ownership interests. We are unable to predict how this would affect Dialysis
Corporation of America's relationship with these referring physicians, or their
patients, who may seek treatment elsewhere, which would have an adverse effect
on Dialysis Corporation of America's and our business.
Industry changes could adversely affect Dialysis Corporation of America's
business
Healthcare organizations, public and private, continue to change the
manner in which they operate and pay for services. Dialysis Corporation of
America's business is designed to function within the current healthcare
financing and reimbursement system. In recent years, the healthcare industry has
been subject to increasing levels of government regulation of reimbursement
rates and capital expenditures, among other things. In addition, proposals to
reform the healthcare system have been considered by Congress, and still remain
a priority issue. Any new legislative initiatives, if enacted, may further
increase government regulation of or other involvement in healthcare, lower
reimbursement rates and otherwise change the operating environment for
healthcare companies. We cannot predict the likelihood of those events or what
impact they may have on Dialysis Corporation of America's or our earnings,
financial condition or business.
26
Dialysis Corporation of America's business is subject to substantial
competition, and it must compete effectively, otherwise its growth could slow
Dialysis Corporation of America is operating in a highly competitive
environment in terms of operations, development and acquisition of existing
dialysis centers. Competition comes from other dialysis centers, many of which
are owned by much larger companies, and from hospitals. The dialysis industry is
rapidly consolidating. There are some very large dialysis companies competing
for the acquisition of existing dialysis centers and the development of
relationships with referring physicians. Most of Dialysis Corporation of
America's competitors have much greater financial resources, more dialysis
facilities and a larger patient base.
We experience competition from physicians who open their own dialysis
facilities. Competition for existing centers has increased the costs of
acquiring such facilities. Competition is also intense for qualified nursing and
technical staff as well as for nephrologists with an adequate patient base.
Management can provide no assurance Dialysis Corporation of America can compete
effectively, and thereby continue its growth.
Medicore, which owns 61% of Dialysis Corporation of America, has some common
officers and directors, which presents the potential for conflicts of interest
We own 61% of Dialysis Corporation of America, and are able to elect
all of Dialysis Corporation of America's directors and otherwise control
Dialysis Corporation of America's management and operations. Such control is
also complemented by the fact that Thomas K. Langbein is Chairman of the Board
and Chief Executive Officer of both our company and Dialysis Corporation of
America, and also the President of our company, and Daniel R. Ouzts is Vice
President and Treasurer of both companies. Neither Mr. Langbein nor Mr. Ouzts
devotes full time to Dialysis Corporation of America. The costs of executive
salaries and other shared corporate overhead for these companies are allocated
on the basis of time spent. The amount of expenses charged by Medicore to
Dialysis Corporation of America for 2002 amounted to approximately $200,000.
Additionally, there have been past and there are current transactions
between our company and Dialysis Corporation of America and their directors,
including loans and insurance coverage. Dialysis Corporation of America advanced
funds to us for working capital requirements until we sold Techdyne, Inc.,
another of our public subsidiaries, in June, 2001. Dialysis Corporation of
America also loaned us $2,200,000 over the last two years for our financing and
investment in Linux Global Partners, Inc., a private company involved in
developing a Linux desktop product and investing in Linux software companies,
and which company is in its developmental stages. We repaid that loan to
Dialysis Corporation of America in June, 2001, with approximately $294,000 of
accrued interest.
Since Medicore holds a majority interest in Dialysis Corporation of
America, there exists the potential for conflicts between Medicore and Dialysis
Corporation of America, and the responsibilities of our management to our
shareholders could conflict with the responsibilities owed by management of
Dialysis Corporation of America to its shareholders.
27
The loss of certain executive personnel without retaining qualified replacements
could adversely affect management of our and Dialysis Corporation of America's
business, and our revenues and earnings could decline
We are dependent upon the services of our executive officer, Thomas K.
Langbein, Chairman of the Board and Chief Executive Officer, who also holds
those positions with Dialysis Corporation of America. He is also President of
our company. We are also dependent on the services of Stephen W. Everett,
director and President of Dialysis Corporation of America. Mr. Langbein has been
involved with our company since 1971, when his investment banking firm, Todd &
Company, Inc., took us public, and with Dialysis Corporation of America since it
became a public company in 1977 (originally our wholly-owned subsidiary
organized in 1976). Mr. Everett joined Dialysis Corporation of America in
November, 1998 as Vice President, became Executive Vice President in June, 1999,
and President on March 1, 2000. Mr. Everett has been involved in the healthcare
industry for 23 years. Mr. Langbein has an employment agreement with our company
through August 21, 2003, which provides for non-competition within 20 miles of
our primary operations, with an option for the company to pay $4,000 per month
for 12 months for additional non-competition provisions. Mr. Everett has an
employment agreement with Dialysis Corporation of America through December 31,
2005 with a one-year non-competition provision within the United States. It
would be very difficult to replace the services of these individuals, whose
services, individually and certainly combined, if lost would adversely affect
our company, its operations and earnings, and most likely as a result, the
trading price of our common stock. There is no key-man life insurance on any of
our officers.
General
There is a possibility of continued volatility in our security price
Our common stock trades on the Nasdaq SmallCap Market. Over the years
the market price of the common stock has significantly fluctuated. During the
last two years, the common stock has been as high as $2.77 in the second quarter
of 2002 and as low as $.63 in the first quarter of 2001. On March 13, 2003, the
closing price of the common stock was $1.37. The market price of our common
stock could fluctuate substantially based upon announcements concerning our
company, such as operating results, government regulatory changes, technological
innovations, or information concerning our competitors. In addition, security
prices fluctuate widely for reasons unrelated to operations, usually general
political, and worldwide and domestic economic conditions, and the stock
market's reaction. These fluctuations and events could adversely affect the
market price of our common stock.
Possible delisting and risks of low priced stocks
Our common stock trades on the Nasdaq SmallCap Market. There are
certain criteria for continued listing on the Nasdaq SmallCap Market, known as
maintenance requirements. Failure to satisfy any one of these maintenance
listing requirements could result in our securities being delisted from the
Nasdaq SmallCap Market. These criteria include two active market makers,
maintenance of $2,500,000 of stockholders' equity (or a market capitalization of
$35,000,000 or a net income of $500,000 for our most recently completed fiscal
year or in two of the last three most recently completed fiscal years), a
minimum bid price for our common stock of $1.00, and at least 500,000 publicly
held shares with a market value of at least $1,000,000, among other criteria.
For SmallCap companies, as is our company, if a deficiency occurs for a period
of 30 consecutive business days, the particular company is notified by Nasdaq
and has 180 days to achieve compliance. Following this grace period, issuers
that
28
demonstrate compliance with the core initial listing standards of the SmallCap
Market, which is either net income of $750,000 (determined from the most
recently completed fiscal year or two of the most recently completed fiscal
years), stockholders' equity of $5,000,000, or market capitalization of
$50,000,000, will be afforded an additional 180-day grace period within which to
regain compliance. If the company is unable to demonstrate compliance, the
security is subject to delisting. The security might be able to trade on the OTC
Bulletin Board, a less transparent trading market which may not provide the same
visibility for the company or liquidity for its securities, as does the Nasdaq
SmallCap Market. As a consequence, an investor may find it more difficult to
dispose of or obtain prompt quotations as to the price of our securities, and
may be exposed to a risk of decline in the market price of the common stock.
In December, 2000 and again in April, 2001, we received notification
from the Nasdaq Listing Qualifications Department of the Nasdaq Stock Market
that our common stock failed to maintain a closing bid price greater than or
equal to $1.00 per share for 30 consecutive days, as required by Marketplace
Rule 4310(c)(4). In each instance, we maintained our Nasdaq SmallCap Market
listing. These situations dealing with the trading market are beyond our
control. There can be no assurance that some other listing maintenance criteria
will not become deficient, whether within or beyond our control, and without a
timely cure, could cause our common stock to be delisted from the Nasdaq
SmallCap Market.
Shares eligible for future sale by our current shareholders may adversely affect
our stock price
Officers and directors of our company own approximately 2,114,000
shares of common stock and 610,000 options exercisable into an additional
610,000 shares of common stock. A registration statement covering the sale of
shares held by officers and directors may be effected, since these are
controlling persons of our company, and all their shares, including those
issuable upon exercise of their options, would be eligible for sale into the
public market without restriction, if so registered. Also, the officers' and
directors' common stock upon satisfying the conditions of Rule 144 under the
Securities Act, may be sold without complying with the registration provisions
of the Securities Act. These conditions include holding the shares for one year
from acquisition, volume limits of selling every three months an amount of
shares which does not exceed the greater of 1% of the outstanding common stock,
or the average weekly volume of trading as reported by Nasdaq during the four
calendar weeks prior to the sale, the filing of a Form 144, our company
continuing to timely file its reports under the Exchange Act, and the sales are
made directly to a market maker or otherwise sold through a typical broker's
transaction, with normal commissions and no prearranged solicitations of the
purchase order. Our tradable common stock, known as the float, is approximately
4,410,000 shares, and the approximately 2,114,000 shares of common stock
directly owned by the officers and directors represents approximately 48% of the
float, and with the options for 610,000 additional shares, would represent
approximately 54% of the float. Accordingly, the sale by such officers and
directors, whether through a registration statement or under Rule 144, may have
an adverse affect on the market price of our common stock, and may hamper our
ability to manage subsequent equity or debt financing. If these shareholders
sell substantial amounts of their common stock of our company, including shares
issued upon the exercise of their options into the public market, the market
price of our common stock could fall.
Item 2. Properties
Medicore leases 2,800 square feet for its executive offices in Hialeah,
Florida pursuant to a lease expiring December 31, 2007. We also lease a 5,000
square foot facility pursuant to a month-to-month lease for which we are
negotiating a long-term lease at a different location in Hialeah, Florida, for
our medical
29
product operations. We also lease 1,500 square feet of warehouse space in
Hialeah, Florida for our medical product operations under a lease through
January 31, 2004. Medicore also leases 3,900 square feet of space for other
executive offices in Hasbrouck Heights, New Jersey through March 31, 2006.
Dialysis Corporation of America owns three properties, one located in
Lemoyne, Pennsylvania, a second in Easton, Maryland, and a third in Valdosta,
Georgia. The Maryland property consists of approximately 7,500 square feet, most
of which is leased to a competitor under a 10-year lease through June 30, 2009
with two renewals of five years each. The lease is guaranteed by the tenant's
parent company. We use approximately 600 square feet at that property for an
administrative office.
The Lemoyne property of approximately 15,000 square feet houses one of
our dialysis centers of approximately 5,400 square feet, approved for 16
dialysis stations with space available for expansion under a five year lease
through December 22, 2003, with two renewals of five years each. We use
approximately 4,000 square feet for administrative offices.
Dialysis Corporation of America paid off the remaining balance on first
mortgages on its Easton, Maryland and Lemoyne, Pennsylvania properties in
December 2002. The Easton, Maryland property has a mortgage to secure a $700,000
development loan to our Vineland, New Jersey subsidiary at an annual interest
rate of 1% over the prime rate, maturing in December 2007, which loan Dialysis
Corporation of America guarantees. This loan had a remaining principal balance
of approximately $662,000 at December 31, 2002. See Item 7, "Management's
Discussions and Analysis of Financial Condition and Results of Operations" and
Note 3 to "Notes to Consolidated Financial Statements."
Dialysis Corporation of America acquired property in Valdosta, Georgia
in 2000, and constructed a dialysis facility there. This property is subject to
a five year $788,000 mortgage obtained in April, 2001 with interest at prime
plus 1/2 with a minimum rate of 6% maturing in April, 2006. This mortgage had a
remaining principal balance of approximately $753,000 at December 31, 2002.
Dialysis Corporation of America leases approximately 6,000 square feet to one of
its dialysis centers in Valdosta for $90,600 per year under a 10-year lease,
with two renewals of five years.
For our Cincinnati, Ohio facility, Dialysis Corporation of America
purchased property and recently completed the construction of an approximately
5,000 square foot dialysis facility at a cost of approximately $740,000,
including approximately $75,000 of tenant improvements. In February, 2003, that
property was sold to a corporation owned by the medical director of that
facility with that corporation owning 20% of Dialysis Corporation of America's
Cincinnati subsidiary. The medical director's wife owns a company which also
holds a 20% interest in the Cincinnati facility. The corporation owned by the
medical director is leasing the facility to our Cincinnati subsidiary under a 10
year lease with two consecutive five-year renewals with rental escalation
commencing five years from the commencement date, which was February 6, 2003,
based upon a percentage increase in the CPI for the Cincinnati, Ohio area. Our
60% owned Cincinnati subsidiary issued to Dialysis Corporation of America a
five-year $75,000 promissory note for the tenant improvements. The note must be
paid prior to that subsidiary paying any other indebtedness, and earlier if the
subsidiary has cash flow or other proceeds available for distribution to its
members under its operating agreement, subject to tax payment distributions
which have a priority. Should the Cincinnati subsidiary sell additional limited
liability interests, the proceeds will first be used to repay the note.
Dialysis Corporation of America leases space at its Lemoyne,
Pennsylvania property to unrelated parties for their own business activities.
One lease is for approximately 1,500 square feet through June 30, 2003. A second
lease is for approximately 530 square feet on a month-to-month basis.
30
In addition to its Lemoyne, Pennsylvania, Valdosta, Georgia and
Cincinnati, Ohio facilities, Dialysis Corporation of America presently has 12
other dialysis centers that lease their respective facilities from unaffiliated
parties, most under five to ten year leases, usually with two renewals of five
years each, for space ranging from approximately 3,000 to 7,000 square feet. The
lease in Homerville, Georgia was for two years to September 30, 2002, for
approximately 1,700 square feet. The lease is now on a month-to-month basis.
Dialysis Corporation of America sublets a minimal amount of space at two of its
dialysis facilities to the physicians who are its medical directors at those
facilities for their medical offices. The subleases are on a commercially
reasonable basis and are structured to comply with the safe harbor provisions of
the "Anti-Kickback Statute." See Item 1, "Business - Government Regulation -
Fraud and Abuse."
Dialysis Corporation of America leases approximately 2,300 square feet
in Hanover, Maryland for executive offices pursuant to a five year lease with
one five year renewal option.
Dialysis Corporation of America is developing a new center in Indiana
and a new center in Virginia and is actively pursuing the additional development
and acquisition of dialysis facilities in other areas which would entail the
acquisition or lease of additional property.
Dialysis Corporation of America constructs most of its dialysis
facilities, which have state-of-the-art equipment and facilities. The dialysis
stations are equipped with modern dialysis machines under a November, 1996
master financing agreement with a $1.00 purchase option at the end of the term.
Payments under the various schedules extend through August, 2007. See Note 2 to
"Notes to Consolidated Financial Statements."
None of the dialysis facilities are operating at full capacity. See
"Business - Operations - Location, Capacity and Use of Facilities" above. The
existing dialysis facilities could accommodate greater patient volume,
particularly if we increase hours and/or days of operation without adding
additional dialysis stations or any additional capital expenditures. We also
have the ability and space at most of our facilities to expand to increase
patient volume subject to obtaining appropriate governmental approval.
We own two adjacent buildings and land near these buildings in Hialeah,
Florida which we lease to our former subsidiary, Techdyne, under a ten year
lease expiring August 31, 2010.
Item 3. Legal Proceedings
In August, 2002, the company initiated an action against its former
subsidiary, Viragen, Inc., in the Circuit Court of the Seventeenth Judicial
Circuit in and for Broward County, Florida for breach of a royalty agreement it
has with Viragen, and for an accounting of sales by Viragen and its affiliates
and sub-licensees of licensed products, including interferon, and all products
or any substance or group of substances which involve or include interferon.
The company is also seeking damages, costs of the legal action, interest, and
other relief as the court deems just and proper. Viragen filed an answer and
some initial discovery has been accomplished. On March 10, 2003, we won a
partial summary judgment against Viragen with respect to the liability issue,
which means the royalty agreement is valid, and to the extent we can establish
Viragen had sales of interferon products, Viragen would owe us royalty payments.
We are pursuing our claim for damages.
31
In July, 2002, Dialysis Corporation of America initiated an action
against Lawrence Weber Medical, Inc. d/b/a Omnicare Renal Services in the United
States District Court for the Middle District of Pennsylvania asserting a breach
by Omnicare of a Consulting Services Agreement. The company is seeking damages,
costs of the legal action, and other relief as the court deems equitable.
Omnicare filed an answer and counterclaims against the company and its
subsidiary alleging breaches of the Consulting Services Agreement and related
agreements between the parties seeking damages. The company believes the
counterclaims are without merit. Discovery has recently commenced. The company
intends to vigorously prosecute its claims and defend the counterclaims. This
action is in the discovery stage, with a trial date scheduled for September,
2003.
Item 4. Submission of Matters to a Vote of Security Holders
No matter was submitted during the fourth quarter of our fiscal year to
a vote of security holders through the solicitation of proxies or otherwise.
Shareholders of record on April 11, 2003 are entitled to vote at the annual
meeting of shareholders scheduled for May 29, 2003. Those shareholders will
receive a proxy statement which will provide certain information relating to
"Directors and Executive Officers," "Executive Compensation." "Security
Ownership of Certain Beneficial Owners and Management and Related Stockholder
Matters," and "Certain Relationships and Related Transactions," which
information is incorporated by reference into this Annual Report on Form 10-K
for the year ended December 31, 2002. See Part III of this Annual Report, Items
10, 11, 12 and 13.
PART II
Item 5. Market for the Registrant's Common Equity and Related Stockholder
Matters
Our shares trade on the Nasdaq SmallCap Market under the symbol "MDKI."
The table below indicates the high and low bid prices for our common stock as
reported by Nasdaq for the four quarters for the years ended December 31, 2001
and 2002.
Bid Price
High Low
---- ---
2001
1st Quarter................. $1.28 $ .63
2nd Quarter................ 1.54 .72
3rd Quarter................ 1.38 .85
4th Quarter................ 1.92 1.04
High Low
---- ---
2002
1st Quarter................ $1.76 $1.47
2nd Quarter................ 2.77 1.25
3rd Quarter................ 1.77 1.10
4th Quarter................ 1.99 .93
32
The high and low sales price of Medicore common stock at March 13, 2003
were $1.37 and $1.30, respectively.
Bid prices represent prices between bidders, and do not include retail
mark-ups, mark-downs, or any commission, and may not necessarily represent
actual transactions.
As of March 13, 2003, there were approximately 1,100 shareholders of
record, as reported by our transfer agent. We have been advised by ADP, which
organization holds securities for brokers and depositories, that our common
stock is beneficially held by approximately 1,460 shareholders.
We have not paid any cash dividends in the last two years. Dividends
are paid at the discretion of the board of directors, and no such payments are
expected to be made in the immediate future. Any earnings will be retained for
use in our business.
Item 6. Selected Financial Data
The following selected financial data for the five years ended December
31, 2002 is derived from the audited consolidated financial statements of the
company. The data should be read in conjunction with the consolidated financial
statements, related notes and other financial information included herein.
Consolidated Statements of Operations Data
(in thousands except per share amounts)
Years Ended December 31
-------------------------------------------------------
2002 2001 2000 1999 1998
-------- -------- -------- -------- --------
Revenues--continuing operations(1) $ 26,932 $ 20,691 $ 10,797 $ 7,507 $ 5,644
Net income (loss) - continuing operations(1) 482 (339) (776) (758) (373)
Net income (loss)(2) 482 1,232 (406) (613) 98
Income (loss) per common share:(2)
Basic $ .07 $ .20 $ (.07) $ (.11) $ .02
Diluted $ .06 $ .20 $ (.07) $ (.11) $ .01
Consolidated Balance Sheet Data
(in thousands)
December 31
-----------------------------------------------------------
2002 2001(1) 2000(2) 1999(2) 1998(2)
------- ------- ------- ------- -------
Working capital $14,306 $13,094 $17,372 $15,840 $15,421
Total assets 28,676 29,833 41,428 38,610 36,310
Long-term debt, net of current
portion 2,727 3,124 10,355 8,363 5,127
Stockholders' equity 16,482 16,035 13,534 14,282 15,368
(1) Reflects reclassification as discontinued operations of amounts related
to Techdyne, of which subsidiary we sold our 71.3% interest in June,
2001.
(2) Includes Techdyne in 2000, 1999 and 1998. See Note (1) above.
33
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Management's Discussion and Analysis of Financial Condition and Results
of Operations, commonly known as MD&A, is our attempt to provide the investor
with a narrative explanation of our financial statements, and to provide our
shareholders and investors with the dynamics of our business as seen through our
eyes as management. Generally, MD&A is intended to cover expected effects of
known or reasonably expected uncertainties, expected effects of known trends on
future operations, and prospective effects of events that have had a material
effect on past operating results. In conjunction with our discussion of MD&A,
shareholders should read the company's consolidated financial statements,
including the notes, contained at the back part of this annual report on Form
10-K. Please also review the Cautionary Notice Regarding Forward-Looking
Information on page one of this annual report.
General
Although we have a medical products division and investment in two
technology companies, our primary operations, revenues and income are derived
from our dialysis operations through our 61% (62% at December 31, 2002) public
subsidiary, Dialysis Corporation of America. That subsidiary provides dialysis
services, primarily kidney dialysis treatments through its 16 outpatient
dialysis centers, including the management of a center in which it holds a 40%
minority interest and one unaffiliated dialysis center. Through its acute
inpatient dialysis services agreements with hospitals, Dialysis Corporation of
America provides dialysis treatments to the hospital's dialysis patients.
Dialysis Corporation of America also provides homecare services, including home
peritoneal dialysis and method II services, the latter relating to providing
patients with supplies and equipment. Dialysis Corporation of America also
provides ancillary services associated with dialysis treatments, primarily the
administration of EPO.
Essential to profitability of our dialysis operations is Medicare
reimbursement, which is at a fixed rate determined by CMS. The level of
Dialysis Corporation of America's, and therefore, our revenues and profitability
may be adversely affected by any potential legislation resulting in Medicare
reimbursement rate cuts. Operating costs in treatment tend to increase over the
years. There also may be reductions in commercial third-party reimbursement
rates.
The healthcare industry is subject to extensive regulations of federal and
state authorities. There are a variety of fraud and abuse measures to combat
waste, which include anti-kickback regulations, extensive prohibitions relating
to self-referrals, violations of which are punishable by criminal or civil
penalties, including exclusion from Medicare and other governmental programs.
There can be no assurance that there will not be unanticipated changes in
healthcare programs or laws or that Dialysis Corporation of America will not be
required to restructure its practice and will not experience material adverse
effects as a result of any such challenges or changes. See Item 1, "Business -
Regulation - Dialysis Corporation of America." We have developed a Corporate
Integrity Program to assure our operations provide the highest level of patient
care and services in a professional and ethical manner consistent with
applicable federal and state laws and regulations. See Item 1, "Business -
Corporate Integrity Program."
Dialysis Corporation of America's future growth depends primarily on the
availability of suitable dialysis centers for development or acquisition in
appropriate and acceptable areas, and Dialysis Corporation of America's ability
to develop these new potential dialysis centers at costs within its budget while
competing with larger companies, some of which are public companies or divisions
of public companies with greater personnel and financial resources, in acquiring
and/or developing facilities in areas targeted by the company. Additionally,
there is intense competition for retaining qualified nephrologists who are
responsible for the supervision of the dialysis centers. There is no certainty
as to when any new centers or inpatient service contracts with hospitals will be
implemented, or the number of stations, or patient treatments such may involve,
or if such will ultimately be profitable. It has been our experience
34
that newly established dialysis centers, although contributing to increased
revenues, have adversely affected our results of operations due to start-up
costs and expenses and a smaller patient base until they develop.
Results of Operations
2002 Compared to 2001
Consolidated revenues, increased by approximately $6,241,000 (30%) in
2002 compared to the preceding year. Sales revenues increased by approximately
$6,271,000 (32%) compared to the preceding year.
Other income which is comprised of interest income, rental income,
management fee income and miscellaneous other income decreased approximately
$31,000 compared to the preceding year. Interest income decreased approximately
$46,000 largely as a result of reduced interest rates and a decrease in average
funds invested. Management fee income, which includes income related to a
management services agreement between Dialysis Corporation of America and its
40% owned Toledo, Ohio affiliate and a management services agreement with an
unaffiliated Georgia dialysis center effective September 2002 increased
approximately $60,000. Rental income decreased approximately $20,000 as a result
of a lease renegotiation with Techdyne which will provide greater overall rent
income to the company over the remaining lease term. Miscellaneous other income
decreased by approximately $25,000. See Note 1 to "Notes to Consolidated
Financial Statements."
Medical product sales revenues increased approximately $29,000 (3%) for
2002 compared to the preceding year. Management is attempting to be more
competitive in lancet sales through overseas purchases and expansion of its
customer base. The medical products division has expanded its product line with
several diabetic disposable products; however, demand to date for these products
has been less than anticipated. No assurance can be given that efforts to
increase sales will be successful.
Medical service revenues, representing the revenues of our dialysis
division, Dialysis Corporation of America, increased approximately $6,243,000
(33%) for 2002 compared to the preceding year. This increase reflects increased
revenues of our Pennsylvania dialysis centers of approximately $1,947,000,
including revenues of $874,000 for our new Pennsylvania facility which commenced
operations in January 2002; decreased revenues of approximately $71,000 for our
New Jersey centers reflecting a reduction in patients at one of our New Jersey
facilities and termination of our two New Jersey acute care contracts and
increased revenues of approximately $4,454,000 for our Georgia centers two of
which became operational during 2001 and which contributed $3,263,000 additional
revenues in 2002, another acquired in April 2002 for which 2002 revenues
amounted to $1,212,000; and a decrease of $87,000 in consulting and license
income.
Cost of goods sold as a percentage of consolidated sales amounted to
60% for 2002 compared to 65% for the preceding year.
Cost of goods sold for the medical products division as a percentage of
sales was 56%, for 2002 compared to 90% for the preceding year, which included a
provision of $160,000 for obsolete and unusable inventory. Without the
provision, cost of goods sold by the medical products division for 2001 would
have amounted to 72%. There was a decrease in the allowance for obsolete and
unsaleable inventory of $53,000 in 2002 without which cost of sales would have
been 62%. Changes in cost of goods sold for this division resulted from a change
in product mix and a shift to overseas purchase of lancets.
35
Cost of medical services sales as a percentage of sales decreased to
60% for the year ended December 31, 2002, compared to 64% for the preceding year
as a result of decreases in both supply costs and payroll costs as a percentage
of sales. Approximately 26% of our medical services revenues are from the
administration of EPO to our patients. This drug is only available from one
manufacturer in the United States which raised its price for the product in
January, 2003. Continued price increases for this product without our ability to
increase our charges will increase our costs and thereby adversely impact our
earnings. We cannot predict the price increases, if any, or the extent of such
by the manufacturer, or our ability to offset any such increases.
Selling, general and administrative expenses, increased $864,000 for
2002 compared to the preceding year. Included in 2001 were $875,000 stock
compensation expenses for 875,000 shares issued to officers and directors,
$158,000 from forgiveness of amounts due from exercise of stock options, officer
bonus compensation of $190,000 (compared to $170,000 in 2002, including $70,000
officer bonuses and $100,000 Dialysis Corporation of America Director bonuses)
and a goodwill write-off of $52,000 related to the Medical Supply Division due
to continuing operating losses of this division. Without the effect of these
unusual items, selling, general and administrative expenses would have increased
$1,965,000 for 2002 compared to the preceding year. This increase reflects
operations of Dialysis Corporation of America's new dialysis center in
Pennsylvania, the Georgia center acquired in April 2002 and a full year's
operations for the two Georgia centers opened during 2001; and the cost of
additional support personnel for Dialysis Corporation of America. As a percent
of consolidated sales revenue, exclusive of the effect of the unusual items,
selling, general and administrative expenses would have amounted to 33% for the
year ended December 31, 2002 and for the year ended December 31, 2001.
Provision for doubtful accounts increased approximately $44,000, as a
result of expanded operations of Dialysis Corporation of America. The provision
for doubtful accounts receivable, amounted to 3% of sales for the year ended
December 31, 2002 and the year ended December 31, 2001. The provision for
doubtful accounts of our medical services operation, which is the primary
component of our provision, is determined under a variety of criteria, primarily
aging of the receivables and payor mix. Accounts receivable are estimated to be
uncollectible based upon various criteria including the age of the receivable,
historical collection trends and our understanding of the nature and
collectibility of the receivables, and are reserved for in the allowance for
doubtful accounts until they are written off.
Although operations of additional dialysis centers have resulted in
additional revenues, some are still in the developmental stage and, accordingly,
their operating results will adversely affect results of operations until they
achieve a sufficient patient count to sustain profitable operations.
Dialysis Corporation of America experienced same-center growth in total
treatments of approximately 18% in 2002. Same-center revenues grew 22% in fiscal
2002. Dialysis Corporation of America made an acquisition in May 2002 of a
facility in Georgia that added 4% to revenue and 5% to operating income.
Overall, operating income grew approximately 64% in fiscal 2002, as our dialysis
facilities continue to mature, especially the four new dialysis centers added in
2001 and 2002. During this maturation process, management continues to search
for ways to operate more efficiently and reduce costs through process
improvements and improve our bottom line. We are reviewing technological
improvements as well, and will make the capital investment if we are confident
such improvements will improve patient care and operating performance.
Interest expense, increased by approximately $14,000 for 2002 compared
to the preceding year, primarily as a result of additional Dialysis Corporation
of America equipment financing agreements and
36
increased average borrowings under the company's medical supply division line of
credit. See Note 3 and to "Notes to Consolidated Financial Statements."
The prime rate was 4.25% at December 31, 2002 and 4.75% at December 31,
2001.
Equity in affiliate earnings (loss) represents equity in the earnings
(loss) incurred by Dialysis Corporation of America's Ohio affiliate, in which
Dialysis Corporation of America has a 40% ownership interest. This dialysis
center commenced operations in February, 2001.
2001 Compared to 2000
Consolidated revenues, after reclassification of discontinued
operations due to our sale of our public subsidiary, Techdyne, on June 27, 2001,
increased by approximately $9,894,000 (92%) in 2001 compared to the preceding
year. Sales revenues increased by approximately $9,899,000 (100%) compared to
the preceding year. See Notes 1 and 13 to "Notes to Consolidated Financial
Statements."
Other income which is comprised of interest income, rental income and
miscellaneous other income increased approximately $272,000 compared to the
preceding year. Interest income increased approximately $84,000 due to
investment of the proceeds from the sale of Techdyne. Management fee income
increased $131,000 with $115,000 of the increase related to a management
services agreement between Dialysis Corporation of America and its 40% owned
Toledo, Ohio affiliate and the remaining $15,000 increase resulting from
Techdyne extending its service agreement with our company until July 15, 2001.
Rental income increased by $25,000 due to increased rent income from Techdyne
and increased rent income of our dialysis operations. Miscellaneous other income
increased by $32,000. We recorded a gain of approximately $251,000 related to
Dialysis Corporation of America warrant exercises during 2000. See Notes 1, 11
and 13 to "Notes to Consolidated Financial Statements."
Medical product sales revenues decreased approximately $252,000 (23%)
for 2001 compared to the preceding year reflecting decreased sales of the
principal product of this division as a result of the general downturn in the
economy, reductions in government purchases and foreign competition, and
decreased sales of diabetic disposable products. Management is attempting to be
more competitive in lancet sales through overseas purchases and expansion of its
customer base. The medical products division has expanded its product line with
several diabetic disposable products; however, demand to date for these products
has been less than anticipated. No assurance can be given that efforts to
increase sales will be successful.
Medical service revenues, representing the revenues of our dialysis
division, Dialysis Corporation of America, increased approximately $10,150,000
(116%) for 2001 compared to the preceding year. This increase reflects increased
revenues of our Pennsylvania dialysis centers of approximately $1,894,000,
increased revenues of approximately $2,239,000 for our New Jersey centers, and
increased revenues of approximately $5,902,000 for our Georgia centers, where we
commenced operations at our first Valdosta center in the fourth quarter of 2000
and opened two new centers during 2001, and $115,000 consulting and license
income. Although the operations of additional centers have resulted in
additional revenues, some are still in the developmental stage and, accordingly,
their operating results will adversely affect Dialysis Corporation of America's
and our results of operations until they achieve a sufficient patient count to
cover fixed operating costs.
Cost of goods sold as a percentage of consolidated sales after
reclassification of discontinued operations due to our sale of Techdyne amounted
to 65% for 2001 compared to 69% for the preceding year. See Notes 1 and 13 to
"Notes to Consolidated Financial Statements."
37
Cost of goods sold for the medical products division as a percentage of
sales was 90%, including a provision of $160,000 for obsolete and unusable
inventory for 2001. Without this provision, cost of goods sold by the medical
products division for 2001 would have amounted to 72% compared to 86% for the
preceding year. Changes in cost of goods sold for this division resulted from a
change in product mix and a shift to overseas purchase of lancets.
Cost of medical services sales as a percentage of sales decreased to
64% for the year ended December 31, 2001, compared to 67% for the preceding year
as a result of decreases in both supply costs and payroll costs as a percentage
of sales.
Selling, general and administrative expenses, after reclassification of
discontinued operations due to our sale of Techdyne, increased $3,280,000 for
2001 compared to the preceding year. Included in 2001 were $875,000 stock
compensation expenses for 875,000 shares issued to officers and directors,
$158,000 from forgiveness of amounts due from exercise of stock options, officer
bonus compensation of $190,000, and a goodwill write-off of $52,000 related to
the Medical Supply Division due to continuing operating losses of this division.
Included for 2000 was approximately $140,000 of stock option expense. Without
the increase in unusual items, selling, general and administrative expenses
would have increased $2,149,000 for 2001 compared to the preceding year. This
increase reflects operations of Dialysis Corporation of America's new dialysis
centers in Georgia and Pennsylvania, and the cost of additional support
personnel for Dialysis Corporation of America. As a percent of consolidated
sales revenue, without the unusual items, selling, general and administrative
expenses decreased to 33% for the year ended December 31, 2001 compared to 45%
for the year ended December 31, 2000 reflecting efficiencies associated with
Dialysis Corporation of America's expanded operations. See Notes 1 and 13 to
"Notes to Consolidated Financial Statements."
Provision for doubtful accounts increased approximately $466,000,
including $67,000 related to an uncollectible note, as a result of expanded
operations of Dialysis Corporation of America. The provision on doubtful
accounts receivable, excluding the note provision, amounted to 3% of sales for
the year ended December 31, 2001 compared to 2% for the year ended December 31,
2000. This increase reflects different collectibility levels associated with
Dialysis Corporation of America's operations in new geographic areas, such as
Dialysis Corporation of America's Georgia operations.
Interest expense, after reclassification of discontinued operations due
to our sale of Techdyne, increased by approximately $130,000 for 2001 compared
to the preceding year, primarily as a result of additional Dialysis Corporation
of America equipment financing agreements, Dialysis Corporation of America's
Vineland loan and Dialysis Corporation of America's April, 2001 Georgia
mortgage. See Notes 1, 3 and 13 to "Notes to Consolidated Financial Statements."
The prime rate was 4.75% at December 31, 2001 and 9.50% at December 31,
2000.
Equity in affiliate loss represents equity in the loss incurred by
Dialysis Corporation of America's Ohio affiliate, in which Dialysis Corporation
of America has a 40% ownership interest. This dialysis center commenced
operations in February, 2001, and is still in the developmental stage.
Liquidity and Capital Resources
Working capital totaled $14,306,000 at December 31, 2002, which
reflects a decrease of $1,212,000 (9%) during 2002. The change in working
capital included a decrease in cash of $2,278,000
38
including net cash used in operating activities of $796,000, net cash used in
investing activities of $883,000 (including additions to property, plant and
equipment of $944,000, acquisition of a Georgia dialysis center for $550,000,
the final $300,000 payment on acquisition of minority interest $250,000 in loans
to Linux Global Partners and receipt of the first earn-out payment on the sale
of Techdyne of $1,105,000) and net cash used in financing activities of $599,000
(including net line of credit payments of $106,000, payments on long-term debt
of $444,000, and repurchase of stock of approximately $39,000). See Notes 10 to
"Notes to Consolidated Financial Statements."
During 2000, we acquired an 8% interest in Linux Global Partners and
loaned Linux Global Partners $2,200,000 at an annual interest rate of 10%. We
borrowed the funds for the loans from Dialysis Corporation of America with an
annual interest rate of 10%, with the loans having the same terms as our loans
to Linux Global Partners. Interest on the notes amounted to $210,000 for 2002
compared to $211,000 for the preceding year. In May, 2001, Linux Global Partners
made a payment of $215,500 to us for the August, 2000 $200,000 principal balance
and $15,500 accrued interest. We paid a like amount to Dialysis Corporation of
America. In June, 2000, Linux Global Partners paid $100,000 toward the accrued
interest due on the notes. In June, 2001, we repaid Dialysis Corporation of
America the remaining $2,000,000 in loans it made to us with approximately
$279,000 of accrued interest. On August 2, 2001, we entered into an Extension
Agreement with Linux Global Partners extending the maturity date of the loans in
consideration for additional Linux Global Partners shares of common stock, and
repayment of the loan based upon the earlier of $100,000 per month or 25% of the
proceeds from Linux Global Partners' proposed private placement. We have
received the shares but not any repayments. Including $250,000 of additional
loans to Linux Global Partners during 2002, our loans to Linux Global Partners
have an outstanding principal balance of $2,250,000 at December 31, 2002
compared to $2,000,000 at December 31, 2001. In January 2003, we executed on
certain of the collateral securing the Linux Global Partners' indebtedness,
resulting in our company obtaining 4,115,815 shares of series A convertible
preferred stock of Ximian, Inc. in satisfaction of the Linux Global Partners'
indebtedness. See Item 1, "Business - Technology Companies" and Notes 12 and 15
to "Notes to Consolidated Financial Statements."
The company repurchased and cancelled approximately 27,500 shares of
its outstanding common stock at a cost of approximately $39,000 in 2002. In
December 2002, the company announced its intent to purchase up to 1,000,000
shares of its outstanding common stock based on then current market prices.
Dialysis Corporation of America had mortgage with a Maryland bank on
its buildings in Easton, Maryland and Lemoyne, Pennsylvania, with a combined
balance of $138,000 at December 31, 2001 which it paid off in December 2002.
Dialysis Corporation of America, has a loan secured by mortgage on its real
property in Easton, Maryland with an outstanding balance of $662,000 at December
31, 2002 and $700,000 at December 31, 2001. In April 2001, Dialysis Corporation
of America obtained a $788,000 five-year mortgage on its building in Valdosta,
Georgia which had an outstanding principal balance of $753,000 at December
31,2002 and $776,000 at December 31, 2001. See Item 2, "Properties." Dialysis
Corporation of America has an equipment financing agreement for kidney dialysis
machines for its facilities. Dialysis Corporation of America had outstanding
balances under this agreement of $1,844,000 at December 31, 2002 and $1,678,000
at December 31, 2001. See Note 3 to "Notes to Consolidated Financial
Statements."
Dialysis Corporation of America opened its eleventh center in
Mechanicsburg, Pennsylvania in January, 2002, acquired a center in Georgia in
April, 2002, and opened its 13th and 14th centers in Cincinnati, Ohio and Chevy
Chase, Maryland in February, 2003.
Capital is needed primarily for the development of outpatient dialysis
centers. The construction of a 15 station facility, typically the size of our
dialysis facilities, costs in the range of $600,000 to $750,000 depending on
location, size and related services to be provided, which includes equipment and
initial working capital requirements. Acquisition of an existing dialysis
facility is more expensive than construction, although acquisition would provide
us with an immediate ongoing operation, which most likely would be generating
income. We presently plan to expand our operations primarily through
39
construction of new centers, rather than acquisition. Development of a dialysis
facility to initiate operations takes four to six months and usually up to 12
months or longer to generate income. We consider some of our centers to be in
the developmental stage, since they have not developed a patient base sufficient
to generate and sustain earnings.
We are seeking to expand our outpatient dialysis treatment facilities
and inpatient dialysis care. We are in the developmental stage for a new center
in Indiana and a new center in Virginia. We are presently in different phases of
negotiations with physicians for additional outpatient centers. Such expansion
requires capital. No assurance can be given that we will be successful in
implementing our growth strategy or that financing will be available to support
such expansion.
The bulk of our cash balances are carried in interest-yielding vehicles
at various rates and mature at different intervals depending on our anticipated
cash requirements.
We anticipate that current levels of working capital and working
capital from operations will be adequate to successfully meet liquidity demands
for at least the next twelve months.
Discontinued Operations
The company sold its 71.3% interest in Techdyne in June 2001.
Accordingly, the results of operations of Techdyne, net of applicable taxes, and
the company's gain on disposal of Techdyne, net of applicable taxes, have been
reflected as discontinued operations for 2001 and 2000 in our Consolidated
Statements of Operations. See Notes 1 and 13 to "Notes to Consolidated Financial
Statements."
New Accounting Pronouncements
In June 2002, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 146, " Accounting for Costs
Associated with Exit or Disposal Activities" (FAS 146). FAS 146, which will be
effective for exit or disposal activities initiated after December 31, 2002, is
not expected to have a material impact on the company's results of operation,
financial position or cash flows. See Note 1 to "Notes to Consolidated
Financial Statements."
In December 2002, the FASB issued Statement of Financial Accounting
Standards No. 148, "Accounting for Stock-Based Compensation-Transition and
Disclosure" (FAS 148), which amends FAS 123, "Accounting for Stock-Based
Compensation", transition requirements when voluntarily changing to the fair
value based method of accounting for stock-based compensation and also amends
FAS 123 disclosure requirements. FAS 148 is not expected to have a material
impact on the company's results of operations, financial position or cash flow.
See Note 1 to "Notes to Consolidated Financial Statements."
Critical Accounting Policies and Estimates
In December, 2001, the SEC issued a cautionary advice to elicit more
precise disclosure in this Item 7, "Management's Discussion and Analysis of
Financial Condition and Results of Operations," about accounting policies
management believes are most critical in portraying the company's financial
results and in requiring management's most difficult subjective or complex
judgments.
40
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make judgments and estimates. On an on-going basis, we evaluate
our estimates, the most significant of which include establishing allowances for
doubtful accounts, a valuation allowance for our deferred tax assets and
determining the recoverability of our long-lived assets. The basis for our
estimates are historical experience and various assumptions that are believed to
be reasonable under the circumstances, given the available information at the
time of the estimate, the results of which form the basis for making judgments
about the carrying values of assets and liabilities that are not readily
available from other sources. Actual results may differ from the amounts
estimated and recorded in our financial statements.
We believe the following critical accounting policies affect our more
significant judgments and estimates used in the preparation of our consolidated
financial statements.
Revenue Recognition: Revenues are recognized as services are rendered.
Dialysis Corporation of America receives payments through reimbursement from
Medicare and Medicaid for its outpatient dialysis treatments coupled with
patients' private payments, individually and through private third-party
insurers. A substantial portion of Dialysis Corporation of America's revenues
are derived from the Medicare ERSD program, which outpatient reimbursement rates
are fixed under a composite rate structure, which includes the dialysis services
and certain supplies, drugs and laboratory tests. Certain of these ancillary
services are reimbursable outside of the composite rate. Medicaid reimbursement
is similar and supplemental to the Medicare program. Dialysis Corporation of
America's acute inpatient dialysis operations are paid under contractual
arrangements, usually at higher contractually established rates, as are certain
of the private pay insurers for outpatient dialysis. Dialysis Corporation of
America has developed a sophisticated information and computerized coding
system, but due to the complexity of the payor mix and regulations, it sometimes
receives more which it reconciles quarterly. Product sales are recognized
pursuant to stated shipping terms.
Allowance for Doubtful Accounts: We maintain an allowance for doubtful
accounts for estimated losses resulting from the inability of our customers to
make required payments and Dialysis Corporation of America's patients or their
insurance carriers to make required payments. Based on historical information,
we believe that our allowance is adequate. Changes in general economic, business
and market conditions could result in an impairment in the ability of our
customers and patients and their insurance carriers to make their required
payments, which would have an adverse effect on cash flows and our results of
operations. Therefore, the allowance for doubtful accounts is reviewed monthly
and changes to the allowance are updated based on actual collection experience.
We use a combination of percentage of sales and specific account identification
and the aging of accounts receivable to establish an allowance for losses on
accounts receivable.
Allowance for Inventory Obsolescence: We maintain an allowance for
inventory obsolescence for losses resulting from inventory items becoming
unsaleable due to loss of specific customers or changes in customers'
requirements. Based on historical and projected sales information, we believe
our allowance is adequate. However, changes in general economic, business and
market conditions could cause our customers' purchasing requirements to change.
These changes could affect our inventory saleability; therefore, the allowance
for inventory obsolescence is reviewed regularly and changes to the allowance
are updated as new information is received.
Valuation Allowance for Deferred Tax Assets: The carrying value of deferred
tax assets assumes that we will be able to generate sufficient future taxable
income to realize the deferred tax assets based on estimates and assumptions. If
these estimates and assumptions change in the future, we may be required to
adjust our valuation allowance against deferred tax assets which could result in
additional income tax expense.
Long-Lived Assets: We state our property and equipment at acquisition cost
and compute depreciation for book purposes by the straight-line method over
estimated useful lives of the assets. In accordance with SFAS No. 144,
"Accounting for the Impairment or Disposal of Long-Lived Assets," long-lived
assets are reviewed for impairment whenever events or changes in circumstances
indicate the carrying amount of the asset may not recoverable. Recoverability
of assets to be held and used is measured by comparison of the carrying amount
of an asset to the future cash flows expected to be generated by the asset. If
the carrying amount of the asset exceeds its estimated future cash flows, an
impairment charge is recognized to the extent the carrying amount of the asset
exceeds the fair value of the asset. These computations are complex and
subjective.
Goodwill and Intangible Asset Impairment: In assessing the recoverability
of our goodwill and other intangibles we must make assumptions regarding
estimated future cash flows and other factors to determine the fair value of the
respective assets. This impairment test requires the determination of the fair
value of the intangible asset. If the fair value of the intangible assets is
less than its carrying value, an impairment loss will be recognized in an amount
equal to the difference. If these estimates or their
41
related assumptions change in the future, we may be required to record
impairment changes for these assets. We adopted Statement of Financial
Accounting Standards No. 142, "Goodwill and Other Intangible Assets," (FAS 142)
effective January 1, 2002 and are required to analyze goodwill and indefinite
lived intangible assets for impairment on at least an annual basis.
Impact of Inflation
Inflationary factors have not had a significant effect on our
operations. We attempt to pass on increased costs and expenses incurred in our
medical products division by increasing selling prices when and where possible.
In our dialysis division, revenue per dialysis treatment is subject to
reimbursement rates established and regulated by the federal government. These
rates do not automatically adjust for inflation. Any rate adjustments relate to
legislation and executive and Congressional budget demands, and have little to
do with the actual cost of doing business. Therefore, dialysis medical service
revenues cannot be voluntarily increased to keep pace with increases in supply
costs or nursing and other patient care costs. Increased operating costs without
a corresponding increase in reimbursement rates may adversely affect Dialysis
Corporation of America's and, accordingly, our future earnings. See "Dialysis
Operations - Patient Revenues - Medicare Reimbursement - Medicaid
Reimbursement," "Regulation - Dialysis Corporation of America" and "Risk
Factors" under Item 1, "Business."
Item 7A. Quantitative and Qualitative Disclosure About Market Risk
We are exposed to market risks from changes in interest rates. We have
exposure to both rising and falling interest rates.
Sensitivity of results of operations to interest rate risks on our
investments is managed by conservatively investing liquid funds in short-term
government securities and interest bearing accounts at financial institutions in
which we had approximately $7,106,000 invested as of December 31, 2002.
We have an interest rate exposure on debt agreements with variable
interest rates of which we had approximately $1,415,000 of such debt outstanding
as of December 31, 2002. A 15% relative increase in interest rates on our
year-end variable rate debt would result in a negative annual impact of
approximately $5,000 on our results of operations.
A 15% relative decrease in rates on our year-end investments would
result in a negative annual impact of approximately $7,000 on our results of
operations.
Item 8. Financial Statements and Supplementary Data
The response to this item is submitted as a separate section to this
report.
Item 9. Changes in and Disagreements With Accountants on Accounting and
Financial Disclosure
None.
42
PART III
Item 10. Directors and Executive Officers of the Registrant
The executive officers of the company are appointed each year by the
board of directors at its first meeting following the annual meeting of
shareholders to serve during the ensuing year. The following information
indicates the position with the company and age of the executive officers at
March 24, 2003. There are no family relationships between any of the executive
officers and directors of the company.
Current Position and Position
Name Age Areas of Responsibility Held Since
- ---- --- ----------------------- ----------
Thomas K. Langbein 57 Chairman of the Board of 1980
Directors, Chief Executive
Officer and President
Seymour Friend 82 Vice President and 1981
Director 1975
Daniel R. Ouzts 56 Vice President (Finance) 1986
Controller and Treasurer 1983
Other Significant Employees
Stephen W. Everett 46 President and Director of Dialysis 2000
Corporation of America
Daniel R. Ouzts - a certified public accountant, joined our company in
1980 as Controller of its plasma division. In 1983 he became Controller of our
company and Dialysis Corporation of America, and in 1986 became Vice-President
of Finance and Treasurer of our company. In June, 1996, Mr. Ouzts was appointed
Vice President and Treasurer of Dialysis Corporation of America. See Item 13,
"Certain Relationships and Related Transactions."
Stephen W. Everett has been involved in the healthcare industry for
over 23 years. From 1993 to 1997, Mr. Everett was responsible for oversight,
deal structuring, physician recruitment and practice management for the renal
care division of Vivra, Inc., the second largest provider of dialysis services
in the United States. Mr. Everett held positions of similar responsibility in
1998 through his affiliation with Physicians Practice Management, engaged in
consulting and management in the renal healthcare field. He joined Dialysis
Corporation of America in November, 1998 as Vice President, became Executive
Vice President in June, 1999, and President on March 1, 2000.
For more detailed information about or executive officers and
directors, you are referred to the caption "Information About Directors and
Executive Officers" of our proxy statement relating to the annual meeting of
shareholders anticipated to be held on May 29, 2003, which is incorporated
herein by reference.
43
Item 11. Executive Compensation
Information on executive compensation is included under the caption
"Executive Compensation" of our proxy statement relating to the annual meeting
of shareholders anticipated to be held on May 29, 2002, incorporated herein by
reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management
Information on beneficial ownership of our voting securities by each
director and all officers and directors as a group, and for each of the named
executive officers disclosed in the Summary Compensation Table (see "Executive
Compensation" of our proxy statement relating to the annual meeting of
shareholders anticipated to be held on May 29, 2003, incorporated herein by
reference), and by any person known to beneficially own more than 5% of any
class of our voting security, is included under the caption "Beneficial
Ownership of the Company's Securities" of our proxy statement relating to the
annual meeting of shareholders anticipated to be held on May 29, 2003,
incorporated herein by reference.
Item 13. Certain Relationships and Related Transactions
Information on certain relationships and related transactions is
included under the caption "Certain Relationships and Related Transactions" of
our proxy statement relating to the annual meeting of shareholders anticipated
to be held on May 29, 2003, incorporated herein by reference.
Item 14. Controls and Procedures
(a) Evaluation of Disclosure Controls and Procedures.
Within the 90 days prior to the date of this Annual Report for the year
ended December 31, 2002, we carried out an evaluation, under the supervision and
with the participation of our management, including the company's Chairman and
Chief Executive Officer and the Principal Financial Officer, of the
effectiveness of the design and operation of our disclosure controls and
procedures pursuant to Rule 13a-14 of the Securities Exchange Act of 1934, which
disclosure controls and procedures are designed to insure that information
required to be disclosed by a company in the reports that it files under the
Exchange Act is recorded, processed, summarized and reported within required
time periods specified by the SEC's rules and forms. Based upon that evaluation,
the Chairman and the Principal Financial Officer concluded that our disclosure
controls and procedures are effective in timely alerting them to material
information relating to the company (including our consolidated subsidiaries)
required to be included in the company's periodic SEC filings.
(b) Changes in Internal Controls.
Subsequent to the date of such evaluation as described in subparagraph
(a) above, there were no significant changes in our internal controls or other
factors that could significantly affect these controls, including any corrective
action with regard to significant deficiencies and material weaknesses.
44
PART IV
Item 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K
(a) The following is a list of documents filed as part of this report.
1. All financial statements - See Index to Consolidated Financial
Statements.
2. Financial statement schedules - See Index to Consolidated
Financial Statements.
3. Refer to subparagraph (c) below.
(b) Current Reports on Form 8-K filed during fourth quarter.
(i) December 27, 2002 re: Item 5, "Other Events and Required FD
Disclosure" relating to stock repurchase plan.
(c) Exhibits*
3.1 Restated Articles of Incorporation, as amended (incorporated
by reference to the Company's Annual Report on Form 10-K for
the year ended December 31, 1997 ("1997 Form 10-K"), Part IV,
Item 14(c)(3)(i)).
3.2 By-laws, as amended (incorporated by reference to the
Company's 1997 Form 10-K, Part IV, Item 14(c)(3)(ii)).
4 Instruments defining the rights of security holders, including
indentures.
4.1 1989 Stock Option Plan (incorporated by reference to the
Company's 1997 Form 10-K, Part IV, Item 14 (c)(10)(i)).
4.2 Form of Stock Option Agreement issued pursuant to the 1989
Stock Option Plan (incorporated by reference to the Company's
1997 Form 10-K, Part IV, Item 14 (c)(10)(ii)).
4.3 Form of Additional Non-Qualified Stock Option Agreement
issuable under the Stock Option Agreement (incorporated by
reference to the Company's 1997 Form 10-K, Part IV, Item 14
(c)(10)(iii)).
4.4 2000 Stock Option Plan (incorporated by reference to the
Company's Annual Report on Form 10-K for the year ended
December 31, 1999 ("1999 Form 10-K"), Part IV, Item 14
(c)(10)(v)).
4.5 Form of Stock Option Certificate issued under the 2000 Stock
Option Plan (incorporated by reference to the Company's 1999
Form 10-K, Part IV, Item 14 (c)(10)(vi)).
45
4.6 1999 Stock Option Plan of the Dialysis Corporation of
America(1) (May 21, 1999) (incorporated by reference to
Dialysis Corporation of America's Annual Report on Form 10-K
for the year ended December 31, 1999 ("DCA 1999 Form 10-K"),
Part IV, Item 14(c)(10)(xxiii)).
4.7 Form of Stock Option Certificate under the Dialysis
Corporation of America 1999 Stock Option Plan (May 21, 1999)
(incorporated by reference to the DCA 1999 Form 10-K, Part IV,
Item 14(c)(10)(xxiv)).
10 Material contracts.
10.1 Employment Agreement between the Company and Thomas K.
Langbein dated August, 1998 (incorporated by reference to the
Company's Annual Report on Form 10-K for the year ended
December 31, 1998 ("1998 Form 10-K"), Part IV, Item
14(c)(10)(i)).
10.2 Lease between the Company and Heights Plaza Associates, dated
April 30, 1981 (incorporated by reference to the Company's
1997 Form 10-K, Part IV, Item 14(c)(10)(ii)).
10.3 Amendment to lease between the Company and Heights Plaza
Associates, dated February 12, 2001 (incorporated by reference
to the Company's Annual Report on Form 10-K for the year ended
December 31, 2001 ("2001 Form 10-K"), Part IV, Item
14(c)10.3).
10.4 Lease between the Company and Viragen, Inc.(2) dated December
8, 1992 (incorporated by reference to the Company's 1997 Form
10-K, Part IV, Item 14(c)(10)(xi)).
10.5 Addendum to Lease between the Company and Viragen, Inc.(2)
dated January 15, 1993 (incorporated by reference to the
Company's 1997 Form 10-K, Part IV, Item 14(c)(10)(xii)).
10.6 Lease Renewal Letter by the Company to Gesualdo Vitale(2)
dated August 5, 2002 (incorporated by reference to the
Company's Quarterly Report on Form 10-Q for the quarter ended
September 30, 2002, Part II, Item 6(10)(i)).
10.7 Lease Agreement between the Company and Techdyne, Inc.(3)
dated August 29, 2000 (incorporated by reference to the
Company's Current Report on Form 8-K dated December 19, 2000,
Item 7(c)(10)(i)).
10.8 Amendment No. 1 to the Lease Agreement between the Company and
Techdyne, Inc.(3) dated November 29, 2001.
10.9 Lease Agreement between Dialysis Services of PA., Inc. -
Wellsboro(4) and James and Roger Stager dated January 15, 1995
(incorporated by reference to the Company's 1994 Form 10-K,
Part IV, Item 14(a) 3 (10)(lxii)).
10.10 Lease between Dialysis Corporation of America(1) and DCA of
Lemoyne, Inc.(4) dated December 23, 1998 (incorporated by
reference to Dialysis Corporation of America's Annual Report
on Form 10-K for the year ended December 31, 1998 ("DCA's 1998
Form 10-K"), Part IV, Item 14(c)(ii)).
10.11 Medical Director Agreement(5) between DCA of Vineland, LLC(6)
and Vineland Dialysis Professionals dated April 30, 1999
(incorporated by reference to the DCA 1999 Form 10-K, Part IV,
Item 14(c)(10)(xxvi)).
46
10.12 Agreement for In-Hospital Dialysis Services(7) between
Dialysis Services of PA., Inc. - Wellsboro(4) and Soldiers &
Sailors Memorial Hospital dated September 28, 1994 [*]
(incorporated by reference to the Company's September, 1994
Form 10-Q, Part II, Item 6(a)(10)(ii)).
10.13 Lease between DCA of Carlisle, Inc.(8) and Lester P.
Burkholder, Jr. and Kirby K. Burkholder dated November 1, 1996
(incorporated by reference to Dialysis Corporation of
America's Annual Report on Form 10-K for the year ended
December 31, 1996 ("DCA's 1996 Form 10-K"), Part IV, Item
14(a) 3 (10)(xxiii)).
10.14 Lease between DCA of Manahawkin, Inc.(8) and William P. Thomas
dated January 30, 1997 (incorporated by reference to DCA's
1996 Form 10-K, Part IV, Item 14(a) 3 (10)(xxiv)).
10.15 Addendum to Lease Agreement between William P. Thomas and DCA
of Manahawkin, Inc.(8) dated June 4, 1997 (incorporated by
reference to DCA's 1997 Form 10-K, Part IV, Item
14(c)(10)(xviii)).
10.16 Equipment Master Lease Agreement BC-105 between Dialysis
Corporation of America(1) and B. Braun Medical, Inc. dated
November 22, 1996 (incorporated by reference to DCA's 1996
Form 10-K, Part IV, Item 14(a) 3 (10)(xxvii)).
10.17 Schedule of Leased Equipment 0597 commencing June 1, 1997 to
Master Lease BC-105(9) (incorporated by reference to Dialysis
Corporation of America's Quarterly Report on Form 10-Q for the
quarter ended June 30, 1997 ("DCA's June, 1997 10-Q"), Part
II, Item 6(a), Part II, Exhibit 10(i)).
10.18 Lease between DCA of Chambersburg, Inc.(8) and BPS Development
Group dated April 13, 1998 (incorporated by reference to DCA's
March, 1998 Form 10-Q, Part II, Item 6(a), Part II, Item
10(i)).
10.19 Lease between Dialysis Corporation of America(1) and Wirehead
Networking Solutions, Inc. dated December 1, 1998
(incorporated by reference to DCA's 1998 Form 10-K, part IV,
Item 14(c)(10)(xxvi)).
10.20 Lease between DCA of Vineland, LLC(6) and Maintree Office
Center, L.L.C. dated May 10, 1999 (incorporated by reference
to the DCA 1999 Form 10-K, Part IV, Item 14(c)(10)(xxv)).
10.21 Management Services Agreement(10) between Dialysis Corporation
of America(1) and DCA of Vineland, LLC(6) dated April 30, 1999
(incorporated by reference to the DCA 1999 Form 10-K, Part IV,
Item 14(c)(10)(xxviii)).
[*] Confidential portions omitted have been filed separately with the Securities
and Exchange Commission.
47
10.22 Amendment No. 1 to Management Services Agreement between
Dialysis Corporation of America(1) and DCA of Vineland, LLC(6)
dated October 27, 1999 (incorporated by reference to the DCA
1999 Form 10-K, Part IV, Item 14(c)(10)(xxix)).
10.23 Indemnity Deed of Trust from Dialysis Corporation of
America(1) to Trustees for the benefit of St. Michaels Bank
dated December 3, 1999 (incorporated by reference to Dialysis
Corporation of America's Current Report on Form 8-K dated
December 13, 1999 ("DCA's December Form 8-K"), Item
7(c)(99)(i)).
10.24 Guaranty Agreement from Dialysis Corporation of America(1) to
St. Michaels Bank dated December 3, 1999 (incorporated by
reference to DCA's December Form 8-K, Item 7(c)(99)(ii)).
10.25 Lease between Dialysis Corporation of America(1) and DCA of
So. Ga., LLC(4) dated November 8, 2000 (incorporated by
reference to Dialysis Corporation of America's Current Report
on Form 8-K dated January 3, 2001 ("DCA January, 2001 8-K"),
Item 7(c)(10)(i)).
10.26 Lease between DCA of Fitzgerald, LLC(4) and Hospital Authority
of Ben Hill County, dba Dorminy Medical Center, dated February
8, 2001 (incorporated by reference to Dialysis Corporation of
America's Current Report on Form 8-K dated March 5, 2001 ("DCA
March, 2001 8-K"), Item 7(c)(10)(i)).
10.27 Lease between Dialysis Corporation of America(1) and Renal
Treatment Centers - Mid-Atlantic, Inc. dated July 1, 1999
(incorporated by reference to Dialysis Corporation of
America's Annual Report on Form 10-K for the year ended
December 31, 2000 ("DCA 2000 Form 10-K"), Part IV, Item 14
(c)(10)(xlii)).
10.28 Employment Agreement between Stephen W. Everett and Dialysis
Corporation of America(1) dated December 29, 2000
(incorporated by reference to DCA 2000 Form 10-K, Part IV,
Item 14(c)(10)(vii)).
10.29 Commercial Loan Agreement between Dialysis Corporation of
America(1) and Heritage Community Bank, dated April 3, 2001
(incorporated by reference to Dialysis Corporation of
America's Current Report on Form 8-K dated June 14, 2001 ("DCA
June, 2001 Form 8-K"), Item 7(c)(i)).
10.30 Promissory Note by Dialysis Corporation of America(1) to
Heritage Community Bank, dated April 3, 2001 (incorporated by
reference to the DCA June, 2001 Form 8-K, Item 7(c)(ii)).
10.31 Modification Agreement to Dialysis Corporation of America's(1)
Promissory Note to Heritage Community Bank, dated December 16,
2002 (incorporated by reference to Dialysis Corporation of
America's Annual Report on Form 10-K for the year ended
December 31, 2002 ("DCA 2002 Form 10-K"), Part IV, Item 15(c)
10.24).
10.32 Lease between Dialysis Corporation of America(1) and Commons
Office Research dated June 11, 2001 (incorporated by reference
to Dialysis Corporation of America's Quarterly Report on Form
10-Q for the quarter ended June 30, 2001 ("DCA June, 2001 Form
10-Q"), Part II, Item 6(a)(10((i)).
48
10.33 Lease between DCA of Mechanicsburg, LLC(4) and Pinnacle Health
Hospitals dated July 24, 2001 (incorporated by reference to
the DCA June, 2001 Form 10-Q, Part II, Item 6(a)(10)(ii)).
10.34 Lease between Dialysis Corporation of America(1) and Clinch
Memorial Hospital dated September 29, 2000 (incorporated by
reference to Dialysis Corporation of America's Annual Report
on Form 10-K for the year ended December 31, 2001 ("DCA 2001
Form 10-K"), Part IV, Item 14(c) 10.38).
10.35 Lease between DCA of Valdosta, LLC(4) and W. Wayne Fann dated
March 20, 2001 (incorporated by reference to DCA 2001 Form
10-K, Part IV, Item 14(c) 10.39).
10.36 Promissory Note Modification Agreement between DCA of
Vineland, LLC(6) and St. Michaels Bank dated December 27, 2002
(incorporated by reference to DCA 2002 Form 10-K, Part IV,
Item 15(c) 10.30).
10.37 Lease between Dialysis Corporation of America(1) and Dr.
Gerald Light dated February 15, 2002 (incorporated by
reference to Dialysis Corporation of America's Quarterly
Report on Form 10-Q for the quarter ended March 31, 2002, Part
II, Item 6(a)(99)(i)).
10.38 Lease between DCA of Royston, LLC(4) and Ty Cobb Healthcare
System, Inc. dated March 15, 2002 (incorporated by reference
to Dialysis Corporation of America's Current Report on Form
8-K dated April 22, 2002, Item 7(c)(10)(i)).
10.39 Lease Agreement between DCA of Chevy Chase, LLC(8) and
BRE/Metrocenter LLC and Guaranty of Dialysis Corporation of
America(1) dated August 8, 2002 (incorporated by reference to
Dialysis Corporation of America's Current Report on Form 8-K
dated September 25, 2002, Item 7(c)(10)(i)).
10.40 Dialysis Corporation of America's(1) Section 125 Plan
effective September 1, 2002 (incorporated by reference to
Dialysis Corporation of America's Quarterly Report on Form
10-Q for the quarter ended September 30, 2002, Part II, Item
6(99)).
10.41 Lease Agreement between Pupizion, Inc. and DCA of Cincinnati,
LLC(11) dated December 11, 2002 (incorporated by reference to
DCA 2002 Form 10-K, Part IV, Item 15(c) 10.35).
10.42 Promissory Note from DCA of Cincinnati, LLC(11) to Dialysis
Corporation of America(1) dated February 3, 2003 (incorporated
by reference to DCA 2002 Form 10-K, Part IV, Item 15(c)
10.36).
10.43 Put with Linux Global Partners, Inc. dated January 24, 2003.
21 Subsidiaries of the Company.
27 Financial Data Schedule (for SEC use only).
49
99 Additional Exhibits
(i) Certification of the Chief Executive Officer pursuant
to 18 U.S.C.ss.1850 as adopted pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
(ii) Certification of the Principal Financial Officer
pursuant to 18 U.S.C. ss.1850 as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
- ---------
(1) 61% owned subsidiary.
(2) Viragen, Inc. sold the property to Gesualdo and Rosanna Vitale in 2000;
the Vitales are the new landlords. (3) Former 71% owned subsidiary sold
in June, 2001. (4) 100% owned subsidiary of Dialysis Corporation of
America.
(5) Each dialysis subsidiary has a Medical Director Agreement which is
substantially similar to the exhibit filed but for the term, area of
non-competition and compensation. Dialysis Corporation of America's
affiliate, DCA of Toledo, LLC (40% owned), has a substantially similar
Medical Director Agreement.
(6) 51% owned subsidiary of Dialysis Corporation of America.
(7) Dialysis Corporation of America's acute inpatient services agreements
referred to as Agreement for In-Hospital Dialysis Services are
substantially similar to the exhibit filed, but for the hospital
involved, the term and the service compensation rates. Agreements for
In-Hospital Dialysis Services include the following areas: Valdosta,
Fitzgerald and Hawkinsville, Georgia; Carlisle, Chambersburg, Lemoyne
and Wellsboro, Pennsylvania; Toledo, Ohio.
(8) 80% owned subsidiary of Dialysis Corporation of America.
(9) Dialysis equipment is leased from time to time and a new schedule is
added to the Master Lease; other than the nature of the equipment and
length of the lease, the schedules conform to the exhibit filed and the
terms of the Master Lease remain the same.
(10) Each of Dialysis Corporation of America's dialysis subsidiaries has a
Management Service Agreement which is substantially similar to the
exhibit filed but for the name of the particular subsidiary which
entered into the Agreement and the compensation. Dialysis Corporation
of America also has a Management Services Agreement with DCA of Toledo,
LLC, in which it holds a 40% interest.
(11) 60% owned subsidiary of Dialysis Corporation of America.
* Documents incorporated by reference not included in the Exhibit Volume.
50
SIGNATURES
Pursuant to the requirements of Sections 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.
MEDICORE, INC.
By /S/ THOMAS K. LANGBEIN
---------------------------------------
THOMAS K. LANGBEIN, Chairman
of the Board of Directors, Chief
Executive Officer and President
March 27, 2003
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
Name Title Date
- ---- ----- ----
/s/ THOMAS K. LANGBEIN Chairman of the Board of Directors,
- --------------------------- Chief Executive Officer and President March 27, 2003
Thomas K. Langbein
/s/ seymour friend Vice President and Director March 27, 2003
- ---------------------------
Seymour Friend
/s/ DANIEL R. OUZTS Vice-President (Finance), Principal
- --------------------------- Financial Officer and Treasurer March 27, 2003
Daniel R. Ouzts
/s/ PETER D. FISCHBEIN Director March 27, 2003
- ---------------------------
Peter D. Fischbein
/s/ ANTHONY C. D'AMORE Director March 27, 2003
- ---------------------------
Anthony C. D'Amore
/s/ ROBERT P. MAGRANN Director March 27, 2003
- ---------------------------
Robert P. Magrann
/s/ CHARLES B. WADDELL Director March 27, 2003
- ---------------------------
Charles B. Waddell
/s/ LAWRENCE E. JAFFE Director March 27, 2003
- ---------------------------
Lawrence E. Jaffe
CERTIFICATIONS
I, Thomas K. Langbein, certify that:
1. I have reviewed this annual report on Form 10-K of Medicore, Inc.;
2. Based on my knowledge, this annual report does not contain any
untrue statement of a material fact or omit to state a material fact necessary
to make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by this
annual report;
3. Based on my knowledge, the financial statements and other financial
information included in this annual report fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
(a) designed such disclosure controls and procedures to ensure
that material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this annual report is being prepared;
(b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the filing date of
this annual report (the "Evaluation Date"); and
(c) presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;
5. The registrant's other certifying officer and I have disclosed,
based on our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent functions):
(a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data, and have identified for
the registrant's auditors any material weaknesses in internal controls; and
(b) any fraud, whether or not material, that involves
management or other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officer and I have indicated in
this annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
/s/ Thomas K. Langbein
Date: March 27, 2003 -------------------------------------------
THOMAS K. LANGBEIN, Chief Executive Officer
CERTIFICATIONS
I, Daniel R. Ouzts, certify that:
1. I have reviewed this annual report on Form 10-K of Medicore, Inc.;
2. Based on my knowledge, this annual report does not contain any
untrue statement of a material fact or omit to state a material fact necessary
to make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by this
annual report;
3. Based on my knowledge, the financial statements and other financial
information included in this annual report fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
(a) designed such disclosure controls and procedures to ensure
that material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this annual report is being prepared;
(b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the filing date of
this annual report (the "Evaluation Date"); and
(c) presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on our evaluation
as of the Evaluation Date;
5. The registrant's other certifying officer and I have disclosed,
based on our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent functions):
(a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data, and have identified for
the registrant's auditors any material weaknesses in internal controls; and
(b) any fraud, whether or not material, that involves
management or other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officer and I have indicated in
this annual report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
/s/ Daniel R. Ouzts
Date: March 27, 2003 --------------------------------------------
DANIEL R. OUZTS, Principal Financial Officer
ANNUAL REPORT ON FORM 10-K
ITEM 8, ITEM 15(a) (1) and (2), (c) and (d)
LIST OF FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES
FINANCIAL STATEMENTS AND SUPPLEMENTAL DATA
CERTAIN EXHIBITS
FINANCIAL STATEMENT SCHEDULES
YEAR ENDED DECEMBER 31, 2002
MEDICORE, INC.
HIALEAH, FLORIDA
FORM 10-K--ITEM 15(a)(1) and (2)
MEDICORE, INC. AND SUBSIDIARIES
LIST OF FINANCIAL STATEMENTS
The following consolidated financial statements of Medicore, Inc. and
subsidiaries are included in Item 8:
Page
----
Consolidated Balance Sheets as of December 31, 2002 and 2001 F-3
Consolidated Statements of Operations--Years ended December 31, 2002,
2001, and 2000 F-4
Consolidated Statements of Stockholders' Equity--Years ended December 31, 2002,
2001 and 2000 F-5
Consolidated Statements of Cash Flows--Years ended December 31, 2002, 2001, and 2000 F-6
Notes to Consolidated Financial Statements--December 31, 2002 F-7
The following financial statement schedule of Medicore, Inc. and subsidiaries is included in Item 15(d):
Schedule II-Valuation and qualifying accounts F-29
All other schedules for which provision is made in the applicable
accounting regulation of the Securities and Exchange Commission are not required
under the related instructions or are inapplicable, and therefore have been
omitted.
F-1
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Shareholders and Board of Directors
Medicore, Inc.
We have audited the accompanying consolidated balance sheets of Medicore, Inc.
and subsidiaries as of December 31, 2002 and 2001, and the related consolidated
statements of operations, stockholders' equity, and cash flows for each of the
three years in the period ended December 31, 2002. Our audits also included the
financial statement schedule listed in the Index at Item 15(a). These financial
statements and schedule are the responsibility of the company's management. Our
responsibility is to express an opinion on these financial statements and
schedule based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audits to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
Medicore, Inc. and subsidiaries at December 31, 2002 and 2001, and the
consolidated results of their operations and their cash flows 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. Also, in our
opinion, the related financial statement schedule, when considered in relation
to the basic financial statements taken as a whole, presents fairly in all
material respects the information set forth therein.
/s/ WISS & COMPANY LLP
March 12, 2003
Livingston, New Jersey
F-2
MEDICORE, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, December 31,
2002 2001
----------- -----------
ASSETS
Current assets:
Cash and cash equivalents $ 8,080,903 $10,359,372
Accounts receivable, less allowance of
$842,000 in 2002 and $753,000 in 2001 3,571,847 4,054,718
Note receivable 2,250,000 2,000,000
Receivable from sale of Techdyne 1,100,000 1,100,000
Inventories, less allowance for obsolescence
of $122,000 in 2002 and $175,000 in 2001 1,146,610 976,596
Prepaid expenses and other current assets 2,542,654 975,894
Deferred income taxes 467,000 372,000
----------- -----------
Total current assets 19,159,014 19,838,580
Property and equipment
Land and improvements 1,027,108 1,027,108
Building and building improvements 3,222,663 3,121,406
Equipment and furniture 5,414,252 4,728,377
Leasehold improvements 2,730,162 2,270,034
----------- -----------
12,394,185 11,146,925
Less accumulated depreciation and amortization 4,474,339 3,601,794
----------- -----------
7,919,846 7,545,131
----------- -----------
Receivable from sale of Techdyne 295,000 1,400,000
Deferred income taxes -- 166,000
Other assets 378,730 360,541
Goodwill 923,140 523,140
----------- -----------
Total other assets 1,596,870 2,449,681
----------- -----------
$28,675,730 $29,833,392
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable $ 1,409,344 $ 1,629,391
Accrued expenses and other current liabilities 2,828,823 2,422,805
Current portion of long-term debt 614,362 370,000
Income taxes payable -- 2,322,736
----------- -----------
Total current liabilities 4,852,529 6,744,932
Long-term debt 2,727,105 3,123,645
Deferred income taxes 744,000 688,000
Minority interest in subsidiaries 3,870,024 3,242,046
----------- -----------
Total liabilities 12,193,658 13,798,623
----------- -----------
Commitments
Stockholders' equity:
Common stock, $.01 par value; authorized 12,000,000 shares; 6,572,775 shares
issued and outstanding in 2002;
6,600,275 shares issued and outstanding in 2001 65,727 66,002
Capital in excess of par value 12,772,358 12,806,898
Retained earnings 3,643,987 3,161,869
----------- -----------
Total stockholders' equity 16,482,072 16,034,769
----------- -----------
$28,675,730 $29,833,392
=========== ===========
See notes to consolidated financial statements.
F-3
MEDICORE, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Revenues 2002 2001 2000
------------ ------------ ------------
Sales:
Product sales $ 889,904 $ 861,077 $ 1,112,366
Medical service revenues 25,162,380 18,919,752 8,769,470
------------ ------------ ------------
Total sales 26,052,284 19,780,829 9,881,836
Gain on subsidiary warrants exercise -- -- 276,178
Other income 879,311 910,264 638,646
------------ ------------ ------------
26,931,595 20,691,093 10,796,660
Cost and expenses:
Cost of sales:
Cost of product sales 496,984 775,969 949,939
Cost of medical services 15,066,551 12,021,907 5,833,081
------------ ------------ ------------
Total cost of sales 15,563,535 12,797,876 6,783,020
Selling, general and administrative expenses 8,733,588 7,869,714 4,588,776
Provision for doubtful accounts 705,158 661,158 195,244
Interest expense 242,441 228,312 97,923
------------ ------------ ------------
25,244,722 21,557,060 11,664,963
------------ ------------ ------------
Income (loss) from continuing operations before income
taxes, minority interest and equity in affiliate earnings (loss) 1,686,873 (865,967) (868,303)
Income tax provision (benefit) 646,880 (928,125) 23,061
------------ ------------ ------------
Income (loss) from continuing operations before
minority interest and equity in affiliate earnings (loss) 1,039,993 62,158 (891,364)
Minority interest in income (loss) of consolidated subsidiaries 627,408 385,233 (136,534)
Equity in affiliate earnings (loss) 69,533 (16,345) (20,896)
------------ ------------ ------------
Net income (loss) from continuing operations 482,118 (339,420) (775,726)
Discontinued operations:
(Loss) income from operations of electro-mechanical manufacturing operations,
net of applicable income taxes of $25,000 in 2001 and $91,000
in 2000 -- (962,814) 369,292
Gain on disposal of electro-mechanical manufacturing
operation, net of applicable income taxes of $1,621,000 -- 2,534,656 --
------------ ------------ ------------
Net income (loss) $ 482,118 $ 1,232,422 $ (406,434)
============ ============ ============
Earnings (loss) per share:
Basic $ .07 $ .20 $ (.07)
============ ============ ============
Diluted $ .06 $ .20 $ (.07)
============ ============ ============
See notes to consolidated financial statements.
F-4
MEDICORE, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
Accumulated
Capital in Other
Common Excess of Comprehensive Retained Comprehensive
Stock Par Value Income (Loss) Earnings Income (Loss)
----- --------- ------------- -------- -------------
Balance December 31, 1999 $ 57,075 $11,961,030 $ 2,335,881 $ (71,539)
Comprehensive loss
Net loss $ (406,434) (406,434)
Foreign currency translation adjustments (84,013) (84,013)
Unrealized loss on marketable securities:
Unrealized holding loss arising during period, net
of tax ---
Less reclassification adjustments, net of tax,
for shares written off (2,966) (2,966)
-----------
Comprehensive loss (493,413)
Finders fee stock option expense 69,000
Stock option expense 70,500
Adjustment for subsidiary minority capital
contribution 123,817
Exercise of subsidiary stock options (602,055)
Repurchase of stock by subsidiary 76,435
Stock option exercises 30 7,110
------- ----------- ---------- -------
Balance December 31, 2000 57,105 11,705,837 1,929,447 (158,518)
Comprehensive income (loss):
Net income $1,232,422 1,232,422
Foreign currency translation adjustments (39,416) (39,416)
Reclassification adjustment for foreign
for foreign currency translation adjustments
upon sale of subsidiary 197,934 197,934
----------
Comprehensive income $1,390,940
==========
Forgiveness of subsidiary stock option notes 148,179
Stock compensation 8,750 866,250
Exercise of stock options 1,150 157,550
Repurchase of 100,000 common shares (1,003) (124,715)
Repurchase of stock by subsidiary --- 53,797 --- ---
------- ----------- ---------- -------
Stock option exercises
Balance December 31, 2001 66,002 12,806,898 3,161,869 ---
Net income $ 482,118 482,118
=========
Stock option expense 3,750
Repurchase of 27,500 common shares (275) (38,290) --- ---
------- ----------- ---------- -------
Balance December 31, 2002 $65,727 $12,772,358 $3,643,987 $ ---
======= =========== ========== =======
Total
-----
Balance December 31, 1999 $14,282,447
Comprehensive loss
Net loss
Foreign currency translation adjustments
Unrealized loss on marketable securities:
Unrealized holding loss arising during period, net
of tax
Less reclassification adjustments, net of tax,
for shares written off
Comprehensive loss (493,413)
Finders fee stock option expense 69,000
Stock option expense 70,500
Adjustment for subsidiary minority capital
contribution 123,817
Exercise of subsidiary stock options (602,055)
Repurchase of stock by subsidiary 76,435
Stock option exercises 7,140
-----------
Balance December 31, 2000 13,533,871
Comprehensive income (loss):
Net income
Foreign currency translation adjustments
Reclassification adjustment for foreign
for foreign currency translation adjustments
upon sale of subsidiary
Comprehensive income 1,390,940
Forgiveness of subsidiary stock option notes 148,179
Stock compensation 875,000
Exercise of stock options 158,700
Repurchase of 100,000 common shares (125,718)
Repurchase of stock by subsidiary 53,797
-----------
Stock option exercises
Balance December 31, 2001 16,034,769
Net income 482,118
Stock option expense 3,750
Repurchase of 27,500 common shares (38,565)
-----------
Balance December 31, 2002 $16,482,072
===========
See notes to consolidated financial statements.
F-5
MEDICORE, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year Ended December 31,
------------------------------------------------
2002 2001 2000
------------ ------------ ------------
Operating activities:
Net income (loss) $ 482,118 $ 1,232,422 $ (406,434)
Adjustments to reconcile net income (loss) to net cash
(used in) provided by operating activities:
Depreciation 1,117,462 1,534,158 1,943,524
Amortization 6,190 101,023 220,647
Bad debt expense 705,157 765,158 220,244
Provision for inventory obsolescence (53,000) 349,805 421,888
Write-off of goodwill -- 52,471 --
Stock and option related compensation -- 1,032,550 70,500
Subsidiary stock option note forgiveness -- 207,825 --
Minority interest 627,408 3,917 28,205
Gain on sale of Techdyne -- (2,534,656) --
Equity in affiliate (earnings) loss (69,533) 16,345 20,896
Loss on write-off of marketable securities -- -- 42,317
Deferred income taxes 127,000 (391,939) 162,348
Stock option expense 3,750 -- 92,448
Gain on subsidiary stock offering and warrants exercise -- -- (276,178)
Increase (decrease) relating to operating activities from:
Accounts receivable (222,286) (2,025,484) (939,556)
Inventories (117,014) 624,128 (1,531,788)
Prepaid expenses and other current assets (1,566,760) (540,279) (178,725)
Accounts payable (220,047) (230,128) (636,582)
Accrued expenses and other current liabilities 706,018 618,898 523,597
Income taxes payable (2,322,736) (680,972) 31,871
------------ ------------ ------------
Net cash (used in) provided by operating activities (796,273) 135,242 (190,778)
Investing activities:
Subsidiary minority interest acquisition payment (300,000) (300,000) --
Notes receivable from Linux Global Partners (250,000) 200,000 (2,200,000)
Subsidiary acquisition payments (550,000) -- (395,806)
Additions to property and equipment, net of minor disposals (943,647) (1,392,884) (2,362,673)
Net proceeds from sale of Techdyne -- 9,852,114 --
Earn-out payment on sale of Techdyne 1,105,000
Loan receivable from Techdyne -- 189,330 --
Other assets 22,354 (20,073) (13,517)
Purchase of marketable securities -- -- (37,580)
Sale of minority interest in subsidiaries 10,570 4,000 206,000
Loan to MainStreet -- -- (140,000)
Investment in affiliate 22,800 (152,811) (28,589)
Loan to medical director practice -- (20,332) (83,521)
Loan to subsidiary officer -- (95,000) ---
------------ ------------ ------------
Net cash (used in) provided by investing activities (882,923) 8,264,344 (5,055,686)
Financing activities:
Line of credit net (payments) borrowings (106,373) 493,292 1,779,375
Payments on short-term bank borrowings -- -- (30,024)
Proceeds from long-term borrowings -- 787,500 850,000
Payments on long-term borrowings (444,335) (583,599) (741,999)
Proceeds from exercise of stock options and warrants -- 1,150 777,440
Subsidiary repurchase of stock -- (97,978) (96,031)
Repurchase of stock (38,565) (125,718) --
Deferred financing costs -- (11,882) (505)
Distribution to subsidiary minority member (10,000) ---- ----
------------ ------------ ------------
Net cash (used in) provided by financing activities (599,273) 462,765 2,538,256
Effect of exchange rate fluctuations on cash -- 32,478 21,601
------------ ------------ ------------
(Decrease) increase in cash and cash equivalents (2,278,469) 8,894,829 (2,686,607)
Cash and cash equivalents at beginning of year 10,359,372 1,464,543 4,151,150
------------ ------------ ------------
Cash and cash equivalents at end of year $ 8,080,903 $ 10,359,372 $ 1,464,543
============ ============ ============
See notes to consolidated financial
statements.
F-6
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Business: The company has three reported business segments. The medical
services segment, operated by Medicore's 62% owned subsidiary (61% as of March
10, 2003), Dialysis Corporation of America, owns and operates fourteen kidney
dialysis outpatient treatment centers located in Pennsylvania, New Jersey,
Georgia, Ohio and Maryland and has two dialysis facilities under development;
manages a 40% owned Ohio affiliate and an unaffiliated Georgia center; has
agreements to provide inpatient dialysis treatments to various hospitals; and
provides supplies and equipment for dialysis home patients. The medical products
segment is engaged in the distribution of medical products. A third segment,
investment in technology companies, was initiated in January, 2000 with an
investment in and financing to Linux software companies.
Consolidation: The consolidated financial statements include the
accounts of Medicore, Inc. and Dialysis Corporation of America. All material
intercompany accounts and transactions have been eliminated in consolidation.
Dialysis Corporation of America has a 40% interest in an Ohio dialysis center it
manages, which is accounted for by the equity method and not consolidated for
financial reporting purposes.
On June 27, 2001, the company sold its 71.3% interest in its
electro-mechanical manufacturing subsidiary, Techdyne, Inc. to Simclar
International Limited. Techdyne's results of operations are shown as
discontinued operations in the Consolidated Condensed Statement of Operations,
requiring reclassification of amounts related to Techdyne. See Note 13.
Estimates: The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the amounts
reported in the financial statements and accompanying notes. Actual results
could differ from those estimates.
The company's principal estimates are for estimated uncollectible
accounts receivable as provided for in our allowance for doubtful accounts,
estimated losses from obsolete or unsaleable inventory as provided for in our
allowance for inventory obsolescence, estimated useful lives of depreciable
assets, estimates for patient revenues from non-contracted payors, and the
valuation allowance for deferred tax assets based on the estimated realizability
of deferred tax assets. Our estimates are based on historical experience and
assumptions believed to be reasonable given the available evidence at the time
of the estimates. Actual results could differ from those estimates.
Government Regulation: A substantial portion of the revenues of the
company's medical services segment are attributable to payments received under
Medicare, which is supplemented by Medicaid or comparable benefits in the states
in which the company operates. Reimbursement rates under these programs are
subject to regulatory changes and governmental funding restrictions. Laws and
regulations governing the Medicare and Medicaid programs are complex and subject
to interpretation. The company believes that it is in compliance with all
applicable laws and regulations and is not aware of any pending or threatened
investigations involving allegations of potential wrongdoing. While no such
regulatory inquiries have been made, compliance with such laws and regulations
can be subject to future government review and interpretation as well as
significant regulatory action including fines, penalties, and exclusion from the
Medicare and Medicaid programs.
F-7
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--Continued
Vendor Concentration: The company's medical services segment purchases
erythropoietin (EPO) from one supplier which comprised 34% in 2002, 32% in 2001
and 29% in 2000 of medical service cost of sales. There is only one supplier of
EPO in the United States without alternative products available to dialysis
treatment providers. Revenues from the administration of EPO comprised 26% in
2002, 25% in 2001 and 23% in 2000 of medical service revenue.
Sale of Stock By Subsidiaries: The company follows an accounting policy
of recognizing income on sales of stock by its public subsidiaries, which
includes exercise of warrants issued in subsidiary stock offerings.
Marketable Securities: The company follows Statement of Financial
Accounting Standards No. 115, "Accounting for Certain Investments in Debt and
Equity Securities". Under this Statement, the company is required to classify
its marketable equity securities as either trading or available-for-sale. The
company does not purchase equity securities for the purpose of short-term sales;
accordingly, securities it has owned were reclassified as available-for-sale.
Marketable securities are recorded at fair value. Unrealized gains and losses
relating to available-for-sale securities are included separately as a component
of accumulated other comprehensive income (loss) included in shareholders'
equity, net of income tax effect, until realized. Realized gains and losses are
computed based on the cost of securities sold using the specific identification
method.
Due to other than temporary declines in their value, marketable
securities were written off during 2000. These securities, including
approximately $5,000 of securities purchased in 1999 and approximately $37,000
purchased during 2000, consisted of several technology startup stocks.
Inventories: Inventories are valued at the lower of cost (first-in,
first-out and/or weighted average cost method) or market value and consists of
inventory of the company's medical products division and the company's Medical
Services Division.
Property and Equipment: Property and equipment is stated at cost.
Depreciation is computed for book purposes by the straight-line method over the
estimated useful lives of the assets, which range from 5 to 34 years for
buildings and improvements; 3 to 10 years for machinery, computer and office
equipment, and furniture; and 5 to 15 years for leasehold improvements based on
the shorter of the lease term or estimated useful life of the property.
Replacements and betterments that extend the lives of assets are capitalized.
Maintenance and repairs are expensed as incurred. Upon the sale or retirement of
assets, the related cost and accumulated depreciation are removed and any gain
or loss is recognized.
Long-lived Asset Impairment: Pursuant to Financial Accounting Standards
Board Statement No. 121 "Accounting for the Impairment of Long-lived Assets and
for Long-lived Assets to be Disposed of," impairment of long-lived assets,
including intangibles related to such assets, is recognized whenever events or
changes in circumstances indicate that the carrying amount of the asset, or
related groups of assets, may not be fully recoverable from estimated future
cash flows and the fair value of the related assets is less than their carrying
value. Financial Accounting Standards Board Statement No. 144 "Accounting for
the Impairment or Disposal of Long-lived Assets" (FAS 144) clarifies when a
long-lived asset held for sale should be classified as such. It also clarifies
previous guidance under FAS 121. The adoption of FAS 144 in 2002 did not affect
the company's consolidated operations, financial position or cash flows. The
company, based on current circumstances, does not believe any indicators of
impairment are present.
F-8
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--Continued
Goodwill: Goodwill represents cost in excess of net assets acquired.
The company adopted Statement of Financial Accounting Standards No. 142,
"Goodwill and Other Intangible Assets" (FAS 142) effective January 1, 2002.
Under FAS 142, goodwill and intangible assets with indefinite lives are no
longer amortized but are reviewed annually (or more frequently if impairment
indicators are present) for impairment. Pursuant to the provisions of FAS 142,
the goodwill resulting from the company's acquisition of minority interest in
August 2001 is not being amortized for book purposes and is subject to the
annual impairment testing provisions of FAS 142 commencing in 2002, which
testing indicated no impairment for this goodwill. The goodwill resulting from
the company's acquisition of a Georgia dialysis center in April 2002 is not
being amortized for book purposes and is subject to the annual impairment
testing provisions of FAS 142, which testing indicated no impairment for this
goodwill. The company does not expect FAS 142 to have a material impact on its
consolidated results of operations, financial position or cash flows.
See Note 10.
The pro forma consolidated condensed financial information below
reflects the company's operating results excluding amortization of goodwill for
goodwill which was amortized during the years ended December 31, 2001 and
December 31, 2000.
SUMMARY PRO FORMA INFORMATION
(Unaudited)
Year Ended Year Ended
December 31, 2001 December 31, 2000
----------------------------------- -----------------------------------
Goodwill Pro Goodwill Pro
Actual Amortization Forma Actual Amortization Forma
------ ------------ ----- ------ ------------ -----
Net loss from continuing operations $(339,420) $ 6,975 $ (332,445) $(775,726) $ 9,300 $ (766,426)
(Loss) income from discontinued operations,
net of tax (962,814) 157,707 (805,107) 369,292 155,427 524,719
Gain on disposal of discontinued operations,
net of tax 2,534,656 --- 2,534,656 --- --- ---
---------- -------- ---------- ---------- -------- ----------
Net income (loss)-basic computation 1,232,422 164,682 1,397,104 (406,434) 164,727 (241,707)
Subsidiary dilutive securities adjustment (12,496) --- (12,496) (1,476) --- (1,476)
---------- -------- ---------- ---------- -------- ----------
Net income (loss)-dilutive computation $1,219,926 $164,682 $1,384,608 $(407,910) $164,727 $(243,183)
========== ======== ========== ========== ======== ==========
Earnings (loss) per share:
Basic $.20 $.22 $(.07) $(.04)
==== ==== ====== ======
Diluted $.20 $.22 $(.07) $(.04)
==== ==== ====== ======
Deferred Expenses: Deferred expenses, except for deferred loan costs,
are amortized on the straight-line method, over their estimated benefit period
ranging to 60 months. Deferred loan costs are amortized over the lives of the
respective loans.
Income Taxes: Deferred income taxes at the end of each period are
determined by applying enacted tax rates applicable to future periods in which
the taxes are expected to be paid or recovered to differences between the
financial accounting and tax basis of assets and liabilities.
F-9
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--Continued
Dialysis Corporation of America files separate income tax returns with
its income tax liability reflected on a separate return basis.
Foreign Currency Translation: The financial statements of Techdyne's
foreign subsidiary Techdyne (Europe) were translated into U.S. dollars in
accordance with Statement of Financial Accounting Standards No. 52. All balance
sheet accounts were translated using the current exchange rates at the balance
sheet date. Income statement amounts were translated using the average exchange
rate for the year. The translation adjustments resulting from the change in
exchange rates from year to year were reported separately as a component of
accumulated other comprehensive income (loss) included in stockholders' equity.
The company sold its interest in Techdyne in June 2001; accordingly foreign
currency translation adjustments are no longer included in the company's
stockholder's equity. See Consolidation above and Note 13.
Other Income: Other income is comprised as follows:
Year Ended December 31,
----------------------------------
2002 2001 2000
-------- -------- --------
Interest income $353,704 $391,833 $284,670
Interest income from discontinued operations -- 7,997 30,979
Rental income 294,227 240,724 160,432
Rental income from discontinued operations -- 73,170 128,630
Management fee income 191,213 130,715 --
Other 40,167 65,825 33,935
-------- -------- --------
$879,311 $910,264 $638,646
======== ======== ========
Accrued Expenses: Accrued expenses and other current liabilities is
comprised as follows:
December 31, December 31,
2002 2001
---------- ----------
Accrued compensation $ 909,763 $ 813,664
Due to insurance companies 1,271,235 671,935
Payable subsidiary minority interest acquisition (See Note -- 300,000
11)
Other 647,825 637,206
---------- ----------
$2,828,823 $2,422,805
========== ==========
Stock-Based Compensation: The company follows the intrinsic method of
Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees" (APB 25) and related Interpretations in accounting for its employee
stock options because, as discussed below, Financial Accounting Standards Board
Statement No. 123, "Accounting for Stock-Based Compensation" (FAS 123) requires
use of option valuation models that were not developed for use in valuing
employee stock options. FAS 123 permits a company to elect to follow the
intrinsic method of APB 25 rather than the alternative fair value accounting
provided under FAS 123 but requires pro forma net income and earnings per share
disclosures as well as various other disclosures not required under APB 25 for
companies following APB 25. The company has adopted the disclosure provisions
required under Financial Accounting Standards Board Statement No. 148,
"Accounting for Stock-Based Compensation - Transition and Disclosure" (FAS 148).
Under APB 25, because the exercise price of the company's stock options equals
the market price of the underlying stock on the date of grant, no compensation
expense was recognized. See "New Pronouncements."
F-10
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--Continued
Pro forma information regarding net income and earnings per share is
required by FAS 123, and has been determined as if the company had accounted for
its employee stock options under the fair value method of that Statement. The
fair value for these options was estimated at the date of grant using a
Black-Scholes option pricing model with the following weighted-average
assumptions for the option grants: risk-free interest rates of 1.83% for the
January 2000 options modified in January 2002, 6.75% for the February 2000 and
July 2000 options and 5.59% for the 1997 options; no dividend yield; volatility
factor of the expected market price of the Company's common stock of .67 for
January 2000 options modified in January 2002, .78 for the February 2000
options, .81 for the July 2000 options, and an expected life of 1 year for
January 2000 options modified in January 2002, 2.75 years for the February 2000
options, 2.5 years for the July 2000 options, and 2.5 years for the 1997
options.
The fair value of Dialysis Corporation of America's options was
estimated at the date of grant using a Black-Scholes option pricing model with
the following weighted-average assumptions for option grants during 2002 and
2001, respectively: risk-free interest rate of 3.73% and 5.40%; no dividend
yield; volatility factor of the expected market price of the company's common
stock of 1.15 and 1.14, and a weighted-average expected life of 5 years and 4
years. No Dialysis Corporation of America options were granted in 2000.
The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options which have no vesting restrictions
and are fully transferable. In addition, option valuation models require the
input of highly subjective input assumptions including the expected stock price
volatility. Because the company's employee stock options have characteristics
significantly different from those of traded options, and because changes in the
subjective input assumptions can materially affect the fair value estimate, in
management's opinion, the existing models do not necessarily provide a reliable
measure of the fair value of its employee stock options.
For purposes of pro forma disclosures, the estimated fair value of
options is amortized to expense over the options' vesting period. The company's
pro forma information, which includes the pro forma effects related to the
company's interest in Dialysis Corporation of America pro forma adjustments,
follows:
2002 2001 2000
----------- ----------- -----------
Net income (loss), as reported $ 482,118 $ 1,232,422 $ (406,434)
Stock-based employee compensation expense
under fair value method, net of related
tax effects (28,830) (14,867) (995,072)
----------- ----------- -----------
Pro forma net income (loss)-basic computation $ 453,288 $ 1,217,555 $(1,401,506)
Subsidiary dilutive securities (79,305) (12,496) (1,476)
----------- ----------- -----------
Pro forma net income (loss)-diluted computation $ 373,983 $ 1,205,059 $(1,402,982)
=========== =========== ===========
Earnings (loss) per share:
Basic, as reported
Basic, pro forma $ .07 $ .20 $ (.07)
=========== =========== ===========
Diluted, as reported $ .07 $ .20 $ (.25)
=========== =========== ===========
Diluted, pro forma $ .06 $ .20 $ (.07)
=========== =========== ===========
$ .06 $ .19 $ (.25)
=========== =========== ===========
F-11
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--Continued
Earnings Per Share: Diluted earnings (loss) per share gives effect to
potential common shares that were dilutive and outstanding during the period,
such as stock options and warrants, using the treasury stock method and average
market price.
Year Ended December 31,
---------------------------------------------
2002 2001 2000
----------- ----------- -----------
Net income (loss), numerator-basic computation $ 482,118 $ 1,232,422 $ (406,434)
Adjustment due to subsidiaries' dilutive securities (79,305) (12,496) (1,476)
----------- ----------- -----------
Net income (loss) as adjusted, numerator-diluted computation $ 402,813 $ 1,219,926 $ (407,910)
=========== =========== ===========
Weighted average shares- denominator basic computation 6,596,837 6,217,458 5,710,007
Effect of dilutive stock options 79,144 -- --
----------- ----------- -----------
Weighted average shares, as adjusted-denominator
diluted computation 6,675,981 6,217,458 5,710,007
=========== =========== ===========
Earnings (loss) per share:
Basic $ .07 $ .20 $ (.07)
=========== =========== ===========
Diluted $ .06 $ .20 $ (.07)
=========== =========== ===========
The Company has various stock options outstanding which have not been
included in the earnings (loss) per share computation since they were
anti-dilutive.
Cash and Cash Equivalents: The Company considers all highly liquid
investments with a maturity of three months or less when purchased to be cash
equivalents. The carrying amounts, reported in the balance sheet for cash and
cash equivalents approximate their fair values. The credit risk associated with
cash and cash equivalents are considered low due to the high quality of the
financial institutions in which these assets are invested.
Customer Payment Terms: The majority of the company's sales are made at
payment terms of net amount due in 30-45 days, depending on the customer.
Estimated Fair Value of Financial Instruments: The carrying value of
cash, accounts receivable and debt in the accompanying financial statements
approximate their fair value because of the short-term maturity of these
instruments, and in the case of debt because such instruments bear variable
interest rates which approximate market.
Business Segments: The Company follows the provisions of Financial
Accounting Standards Board Statement No. 131, "Disclosures About Segments of an
Enterprise and Related Information" (FAS 131) which contains standards for
reporting information about operating segments in annual financial statements
with operating segments representing components of an enterprise evaluated by
the enterprise's chief operating decision maker for purposes of making decisions
regarding resource allocation and performance evaluation. The adoption of FAS
131 has not changed the Company's reported business segments, but has resulted
in changes in the company's segment reporting disclosures.
Comprehensive Income: The company follows Financial Accounting
Standards Board Statement No. 130, "Reporting Comprehensive Income" (FAS 130)
which contains rules for the reporting of comprehensive income and its
components. Comprehensive income (loss) consists of net income (loss) and
foreign currency translation adjustments (related to Techdyne, sold June 2001;
see Consolidation above and Note 13) and is presented in the Consolidated
Statement of Shareholders' Equity.
F-12
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--Continued
Revenue Recognition: The company follows the guidelines of SEC Staff
Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements"
(SAB101). Medical service revenues are recorded as services are rendered.
Product sales are recorded pursuant to stated shipping terms.
New Pronouncements: In June 2002, the Financial Accounting Standards
Board (FASB) issued Statement of Financial Accounting Standards No. 146,
"Accounting for Costs Associated with Exit or Disposal Activities" (FAS 146),
which addresses the accounting and reporting for costs associated with exit or
disposal activities. FAS 146 requires that a liability for a cost associated in
an exit or disposal activity be recognized when the liability is incurred rather
than being recognized at the date of an entity's commitment to an exit plan,
which had been the method of recognition under Emerging Issues Task Force Issue
No. 94-3, which FAS 146 supercedes. FAS 146, which will be effective for exit or
disposal activities initiated after December 31, 2002, is not expected to have a
material impact on the company's results of operation, financial position or
cash flows.
In December 2002, the FASB issued Statement of Financial Accounting
Standards No. 148, "Accounting for Stock-Based Compensation - Transition and
Disclosure" (FAS-148), which amends FAS 123, "Accounting for Stock-Based
Compensation," to provide alternative methods of transition when voluntarily
changing to the fair value based method of accounting for stock-based employee
compensation. FAS 148 also amends FAS 123 disclosure requirements to require
prominent disclosures in annual and interim financial statements about the
method used to account for stock-based employee compensation and its effect on
results of operations. The company has adopted the transition guidance and
annual disclosure provisions of FAS 148 for fiscal years commencing 2002. The
company is subject to the expanded disclosure requirements of FAS 148 but does
not expect FAS 148 to otherwise have a material impact on its consolidated
results of operations, financial position or cash flows.
Advertising Costs: The company expenses advertising costs as they are
incurred. Advertising expenses amounted to $60,000, $36,000 and $10,000 during
the years ended December 31, 2002, 2001 and 2000, respectively.
Reclassification: The Statement of Operations has been reclassified to
reflect the operations of Techdyne as discontinued operations due to the
company's sale of its interest in Techdyne in June 2001. See Consolidation above
and Note 13.
NOTE 2--TRANSACTIONS WITH VIRAGEN, INC.
The company has a royalty agreement with a former subsidiary, Viragen,
Inc., pursuant to which it is to receive a royalty on Viragen's gross sales of
interferon and related products. The agreement provides for aggregate royalty
payments of $2.4 million to be paid based on the following percentages of
Viragen sales: 5% of the first $7 million, 4% of the next $10 million, and 3% of
the next $55 million. The effective date of the agreement was November 15, 1994,
with royalty payments due quarterly, commencing March 31, 1995. A payment of
approximately $108,000, earned under a previous royalty agreement, is due as the
final payment under the existing royalty agreement. In August 2002, the company
initiated a legal action against Viragen for breach of the royalty agreement and
for an accounting of sales pursuant to the royalty agreement. For the summary
judgment obtained by the company, see Note 15 to "Notes to Consolidated
Financial Statements."
F-13
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 3--LONG-TERM DEBT
The company's medical products division has a $350,000 line of credit
with a local Florida bank, with interest at prime plus 1% payable monthly. This
line of credit matured January 22, 2003 and was secured by the accounts
receivable and inventory of the company's medical products division. The line of
credit had an outstanding balance of approximately $79,000 at December 31, 2002
and $186,000 at December 31, 2001. The line of credit and accrued interest were
paid off in January 2003 prior to maturity. The company is not renewing this
line of credit.
Dialysis Corporation of America through its subsidiary, DCA of
Vineland, LLC, pursuant to a December 3, 1999 loan agreement obtained a $700,000
development loan with interest at 8.75% through December 2, 2001, 1 1/2% over
the prime rate thereafter through December 15, 2002 and 1% over prime thereafter
which is secured by a mortgage on Dialysis Corporation of America's real
property in Easton, Maryland. Outstanding borrowings were subject to monthly
payments of interest only through December 2, 2001 with monthly payments
thereafter of $2,917 principal plus interest through December 2, 2002 and
monthly payments thereafter of $2,217 plus interest with any remaining balance
due December 2, 2007. This loan had an outstanding balance of $662,000 at
December 31, 2002 and $700,000 at December 31, 2001.
In April 2001, Dialysis Corporation of America obtained a $788,000
five-year mortgage through April 2006 on its building in Valdosta, Georgia with
interest at 8.29% until March 2002, 7.59% thereafter until December 16, 2002 and
prime plus 1/2% with a minimum of 6.0% effective December 16, 2002. Payments are
$6,800 including principal and interest commencing May 2001 with a final payment
consisting of a balloon payment and any unpaid interest due April 2006. The
remaining principal balance under this mortgage amounted to approximately
$753,000 at December 31, 2002 and $776,000 at December 31, 2001.
The Dialysis Corporation of America equipment financing agreement
provides financing for kidney dialysis machines for Dialysis Corporation of
America's facilities in Pennsylvania, New Jersey and Georgia. Additional
financing totaled approximately $399,000 in 2002, $752,000 in 2001 and $525,000
in 2000. Monthly payments under the agreement, which totaled $49,224 as of
December 31, 2002, are pursuant to various schedules extending through August
2007 with interest at rates ranging from 4.14% to 10.48%. Financing under the
equipment financing agreement is a noncash financing activity which is a
supplemental disclosure required by FAS 95, "Statement of Cash Flows.". The
remaining principal balance under this financing amounted to approximately
$1,844,000 at December 31, 2002 and $1,678,000 at December 31, 2001.
Long-term debt is as follows:
December 31,
---------------------------
2002 2001
------------ ----------
Mortgage note secured by land and building. Monthly principal
payments of $3,333 plus interest at 1% over the prime rate
through November 2003. Note paid in full December 2002 $ -- $ 76,719
Mortgage note secured by land and building. Monthly principal
payments of $2,667 plus interest at 1% over the prime rate
through November 2003. Note paid in full December 2002 -- 61,281
Equipment financing agreement secured by Dialysis Corporation of America
equipment with a net book value of $1,749,000 at December 31,
2002. Payments of principal and interest as described above 1,844,402 1,678,067
F-14
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 3--LONG-TERM DEBT--Continued
December 31
-------------------------
2002 2002
---------- ----------
Development loan secured by land and building with a net book
value of $352,000 at December 31, 2002. Payments of principal
and interest as described above 662,084 700,000
Mortgage note secured by land and building with a net book value
of $915,000 at December 31, 2002. Payments of principal and
interest as described above 752,619 775,842
Line of credit maturing January 22, 2003 secured by accounts receivable
and inventory of medical supply division with a carrying value of
approximately $325,000 at December 31, 2002. Monthly payments
of interest as described above 79,157 185,530
Mortgage note secured by land with a net book value of $107,000 at December 31,
2002. Monthly principal payments of $1,083 plus interest at 1.5% over the prime
rate. Note paid in full January 2003 3,205 16,206
---------- ----------
3,341,467 3,493,645
Less current portion 614,362 370,000
---------- ----------
$2,727,105 $3,123,645
========== ==========
The prime rate was 4.25% as of December 31, 2002 and 4.75% as of
December 31, 2001.
Scheduled maturities of long-term debt outstanding at December 31, 2002
are approximately: 2003 - $615,000; 2004 - $630,000; 2005 - $511,000; 2006 -
$954,000; 2007 - $631,000; thereafter - $---. Interest payments on all of the
above debt amounted to approximately $246,000, $535,000 and $883,000 in 2002,
2001 and 2000, respectively.
The company's various debt agreements contain certain restrictive
covenants that, among other things, require maintenance of certain financial
ratios.
NOTE 4--INCOME TAXES
Deferred income taxes reflect the net tax effect of temporary
differences between the carrying amounts of assets and liabilities for financial
reporting purposes and the amounts used for income tax purposes. Significant
components of the company's deferred tax liabilities and assets are as follows:
F-15
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 4--INCOME TAXES--Continued
December 31,
------------------------
2002 2001
--------- ---------
Deferred tax liabilities:
Tax over book depreciation $ 256,000 $ --
Gain on sale of DCA stock 685,000 688,000
--------- ---------
Total deferred tax liability 941,000 688,000
Deferred tax assets:
Obsolescence and other reserves 354,000 349,500
Inventory capitalization 28,000 --
Book over tax depreciation -- 201,500
Net operating loss carryforwards 275,000 86,000
Accrued expenses and other 122,000 118,000
--------- ---------
Sub-total 779,000 755,000
Valuation allowance (115,000) (217,000)
--------- ---------
Net deferred tax asset 664,000 538,000
--------- ---------
Net deferred tax liability $ 277,000 $ 150,000
========= =========
Due to the uncertainty as to the realizability of deferred tax assets,
a valuation allowance of $ 115,000 and $217,000 was recorded as of December 31,
2002 and 2001, respectively.
Deferred taxes in the accompanying balance sheets consist of the following
components:
December 31,
------------------------
2002 2001
--------- ---------
Current deferred tax assets $ 467,000 $ 372,000
Long-term deferred tax asset -- 166,000
Long-term deferred tax liability (744,000) (688,000)
--------- ---------
Net long-term deferred tax liability (744,000) (522,000)
--------- ---------
Net deferred tax liability $(277,000) $(150,000)
========= =========
A deferred tax liability of $685,000 at December 31, 2002 and $688,000
at 2001, resulted from income tax expense recorded on gains recognized for
financial reporting purposes, but not for income tax purposes, resulting in a
difference between book and tax basis of the company's investment in Dialysis
Corporation of America. This temporary difference would reverse upon the
occurrence of certain events relating to the divestiture of Dialysis Corporation
of America. This deferred tax liability has been classified as non-current. See
Note 1.
F-16
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 4--INCOME TAXES--Continued
Significant components of the provision (benefit) for income taxes are
as follows:
Year Ended December 31,
---------------------------------------
2002 2001 2000
--------- --------- ---------
Current:
Federal $ 395,667 $(472,239) $(180,309)
State 124,213 (151,286) 55,422
--------- --------- ---------
519,880 (623,525) (124,887)
--------- --------- ---------
Deferred:
Federal 328,000 (291,721) 123,365
State (201,000) (12,879) 24,583
--------- --------- ---------
127,000 (304,600) 147,948
--------- --------- ---------
$ 646,880 $(928,125) $ 23,061
========= ========= =========
The reconciliation of income tax attributable to income (loss) before
income taxes, minority interests and equity in affiliate earnings (loss)
computed at the U.S. federal statutory rate (34%) to income tax expense is as
follows:
Year Ended December 31,
---------------------------------------
2002 2001 2000
--------- --------- ---------
Tax at statutory rate $ 573,537 $(300,002) $(312,866)
Adjustments resulting from:
State income taxes-net of federal income tax effect 110,691 (34,617) 36,578
Non deductible items 14,287 203,876 58,006
Prior year tax return to provision adjustment (5,456) -- (268,433)
Change in valuation allowance (102,000) (603,000) 623,000
Other 55,821 (194,382) (113,224)
--------- --------- ---------
$ 646,880 $(928,125) $ 23,061
========= ========= =========
Income tax payments (refunds) were approximately $3,120,000 in 2002,
$253,000 in 2001 and $(72,000) in 2000.
NOTE 5--STOCK OPTIONS AND STOCK COMPENSATION
On April 18, 1995, the company granted 809,000 options under its 1989
stock option plan, of which 3,000 options were exercised at $2.38 in March 2000
for a total of $7,140 proceeds, with 3,000 options cancelled and 803,000 options
having expired at April 17, 2000. On June 11, 1997, the company's board of
directors granted a five-year non-qualified stock option under the 1989 Plan for
35,000 shares immediately exercisable with an exercise price of $3.75 to a new
board member, which exercise price was reduced to $2.38 per share on September
10, 1997, the fair market value on that date with this option having expired in
June 2002. On July 27, 2000, the board granted 820,000 five-year non-qualified
stock options under the 1989 Plan to officers, directors and employees of the
company and its subsidiaries. The options are exercisable at $1.38, the market
price on the date of grant. Options for 16,000 shares were cancelled due to
employee terminations and resignations, and in June 2001, 115,000 options were
exercised with cash for the par value and the balance due on the exercise price
forgiven resulting in an expense of approximately $158,000 leaving 689,000
options outstanding at December 31, 2002. In June 2001, the company issued
875,000 shares of stock as compensation to officers and directors resulting in
an expense of $875,000.
F-17
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 5--STOCK OPTIONS AND STOCK COMPENSATION--Continued
On May 6, 1996, the company adopted a Key Employee Stock Plan reserving
100,000 shares of its common stock for issuance from time to time to officers,
directors, key employees, advisors and consultants as bonus or compensation for
performances and or services rendered to the company or otherwise providing
substantial benefit for the company. 2,000 shares have been issued under this
Plan.
In May, 1998, as part of the consideration pursuant to an agreement for
investor relations and corporate communications services, which agreement
terminated in August, 1998, the company granted options for 20,000 shares of its
common stock exercisable for three years through May 14, 2001 at $2.25 per share
of which options for 5,000 shares vested and subsequently expired on May 14,
2001.
In January, 2000, the company issued options to purchase 150,000 shares
of its common stock to an entity and two of its then officers as a finder's fee
in conjunction with the company's investment in Linux Global Partners and
recorded an expense of approximately $69,000 on these options. These options
were exercisable at $3.00 per share through January 31, 2002. One of these
options for 25,000 shares was extended through January 31, 2003 in connection
with which the company recognized an expense of approximately $4,000 during
2002. See Note 12.
On February 17, 2000, the company adopted a new 2000 Stock Option Plan
for up to 500,000 shares and granted 150,000 non-qualified and 325,000 incentive
stock options which Plan was approved by shareholders on May 24, 2000, prior to
which the options were restricted from exercise. The options, which remained
outstanding at December 31, 2002, were exercisable for three years at $3.25 to
February 16, 2003, when they expired. The company recorded an expense of
approximately $71,000 on 75,000 of these options in May 2000.
In June, 1998, Dialysis Corporation of America's board of directors
granted an option under the now expired 1995 Stock Option Plan to a new board
member for 5,000 shares exercisable at $2.25 per share through June 9, 2003,
which is the only outstanding option under that plan.
In April, 1999, Dialysis Corporation of America adopted a stock option
plan pursuant to which its board of directors granted 800,000 options
exercisable at $1.25 per share to certain of its officers, directors, employees
and consultants with 340,000 options exercisable through April 20, 2000 and
460,000 options exercisable through April 20, 2004. In April 2000, the 340,000
one-year options were exercised for which Dialysis Corporation of America
received cash payment of the par value amount of $3,400 and the balance in
three-year promissory notes with interest at 6.2%. The board of Dialysis
Corporation of America extended the maturity date of the notes to April 20,
2004.
F-18
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 5--STOCK OPTIONS AND STOCK COMPENSATION--Continued
In January, 2001, Dialysis Corporation of America's board of directors
granted to Dialysis Corporation of America's President an option for 165,000
shares exercisable at $1.25 per share for five years from vesting with 33,000
options vesting each January 1 commencing in 2001.
In September, 2001, Dialysis Corporation of America's board of
directors granted 75,000 five-year options exercisable at $1.50 per share
through September 5, 2006 to certain officers, directors and key employees.
15,000 of the options were non-qualified and vested immediately and the
remaining 60,000 options were incentive with 15,000 options vesting each
September 5 commencing September 5, 2002.
In March, 2002, Dialysis Corporation of America's board of director's
granted a five-year incentive option for 30,000 shares exercisable at $3.15 per
share through February 28, 2007 to an officer. The option vests 7,500 shares
each February 28 from 2003 through 2006.
In May, 2002, Dialysis Corporation of America's board of directors
granted a total of 10,500 five-year incentive options to employees, most options
for 500 shares of common stock of Dialysis Corporation of America, with two
options for 1,500 shares of common stock, all options exercisable at $4.10 per
share through May 28, 2007. Options for 2,500 shares have been cancelled. All
options vest on May 29, 2004.
In June, 2001, Techdyne (which subsidiary we sold in June 2001) forgave
approximately $234,000 related to promissory notes from stock option exercises
with that amount reflected in discontinued operations. Techdyne entered into a
consulting agreement on July 1, 1999 for financial advisory services, which
ended on September 15, 2000. As compensation, the consultant received
non-qualified stock options to purchase 100,000 shares of Techdyne's common
stock exercisable at $3.50 per share that expired September 15, 2000. These
options were valued at $40,000 resulting in approximately $23,000 expense during
2000 which is reflected in discontinued operations. See Notes 1 and 13.
F-19
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 5--STOCK OPTIONS AND STOCK COMPENSATION--Continued
A summary of the company's stock option activity, and related
information for the years ended December 31, follows, with modified options
being reflected as grants and the original grants being modified reflected as
cancellations:
2002 2001 2000
---- ---- ----
Weighted- Weighted- Weighted-
Average Average Average
Options Exercise Price Options Exercise Price Options Exercise Price
------- -------------- ------- -------------- ------- --------------
Outstanding-beginning of year 1,365,000 1,485,000 846,000
Granted 25,000 $3.00 --- $1.38 1,445,000 $2.16
Exercised --- (115,000) 4.25 (3,000) 2.38
Expired (185,000) 2.88 (5,000) (803,000) 2.38
--------- --------- ---------
Outstanding-end of year 1,205,000 1,365,000 1,485,000
========= ========= =========
Outstanding and exercisable at end of
year:
1995 and 1997 options --- 35,000 2.38 35,000 $2.38
1998 options --- --- 5,000 2.25
January 2000 and February 2000 options 500,000 625,000 3.19 625,000 3.19
July 2000 options 705,000 705,000 1.38 820,000 1.38
--------- --------- ---------
1,205,000 1,365,000 1,485,000
========= ========= =========
Weighted-average fair value of
options granted, including
modified options, during the year $ .15 $ --- $ .77
========= ========= =========
The weighted average remaining contractual life at December 31, 2002 is
..1 year for the January 2000 options modified in January 2002 and February 2000
options, and 2.4 years for the July 2000 options.
The company has 1,880,000 shares reserved for future issuance at
December 31, 2002, including: 882,000 shares for the 1989 plan; 500,000 shares
for the February 2000 plan, 98,000 shares for key employee stock plan; 25,000
for the January 2000 options modified in January 2002, and 400,000 shares for an
employment agreement.
A summary of Dialysis Corporation of America's stock option activity,
and related information for the years ended December 31, follows:
F-20
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 5--STOCK OPTIONS AND STOCK COMPENSATION--Continued
2002 2001 2000
---- ---- ----
Weighted-Average Weighted-Average Weighted-Average
Options Exercise Price Options Exercise Price Options Exercise Price
------- -------------- ------- -------------- ------- --------------
Outstanding-beginning of year 705,000 465,000 809,500
Granted 40,500 $4.10 240,000 $1.33 ---
Cancellations (62,000) --- ---
Exercised --- --- (340,000) $1.25
Expired --- --- (4,500) $1.50
------- ------- -------
Outstanding-end of year 683,500 705,000 465,000
======= ======= =======
Outstanding-end of year:
May 2002 options 8,500 $4.10 --- ---
March 2002 options 30,000 $3.15 --- ---
September 2001 options 75,000 $1.50 75,000 ---
January 2001 options 165,000 $1.25 165,000 $1.25 ---
April 1999 options 400,000 $1.25 460,000 $1.25 460,000 $1.25
June 1998 options 5,000 $2.25 5,000 $2.25 5,000 $2.25
------- ------- -------
683,500 705,000 465,000
======= ======== =======
Outstanding and exercisable-
end of year:
September 2001 options 15,000 $1.50 ---
January 2001 options 66,000 $1.25 33,000 $1.25 ---
April 1999 options 400,000 $1.25 460,000 $1.25 460,000 $1.25
June 1998 options 5,000 $2.25 5,000 $2.25 5,000 $2.25
------- ------- -------
486,000 498,000 465,000
======= ======= =======
Weighted-average fair value of
options granted during the year $2.56 $.61 $.--
======= ======= =======
The remaining contractual life at December 31, 2002 is 4.4 years for the
May 2002 options, 4.2 years for the March 2002 options, 3.7 years for the
September 2001 options, 3 years for the January 2001 options, 1.3 years for the
April 1999 options .4 years for the June 1998 options.
NOTE 6--BUSINESS SEGMENT AND GEOGRAPHIC AREA DATA
The following summarizes information about the company's three reported
business segments. The medical products division has been shown separately even
though not required by FAS 131. Corporate activities include general corporate
revenues and expenses. Corporate assets include unallocated cash, deferred
income taxes, corporate fixed assets and goodwill not allocated to any of the
segments. Intersegment sales, of which there were none for the periods
presented, are generally intended to approximate market price. The company sold
its interest in Techdyne in June 2001 for which the operating results have been
reclassified as discontinued operations and accordingly are not included in the
business segment data below. Subsequent to the sale of Techdyne, the company's
operations are primarily domestic, with all property, plant and equipment
located in the United States and minimal sales outside the Untied States. See
Notes 1 and 13.
F-21
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 6--BUSINESS SEGMENT AND GEOGRAPHIC AREA DATA--Continued
BUSINESS SEGMENT REVENUES
2002 2001 2000
------------ ------------ ------------
Medical Products $ 895,930 $ 864,035 $ 1,112,490
Medical Services 25,606,677 19,441,170 9,247,101
New Technology 210,411 211,330 185,836
Corporate 221,534 299,255 457,839
Elimination of corporate rental charges
to medical products -- (1,830) (7,320)
Elimination of medical services interest
charge to new technology -- (109,108) (185,836)
Elimination of medical services
interest charge to corporate (2,957) (13,759) (13,450)
------------ ------------ ------------
$ 26,931,595 $ 20,691,093 $ 10,796,660
============ ============ ============
BUSINESS SEGMENT PROFIT (LOSS)
Medical Products $ (728) $ (401,178) (284,380)
Medical Services 2,099,156 966,388 (379,198)
New Technology 210,412 102,222 (69,000)
Corporate (621,967) (1,533,399) (135,725)
------------ ------------ ------------
$ 1,686,873 $ (865,967) $ (868,303)
============ ============ ============
BUSINESS SEGMENT ASSETS
Continuing Operations:
Medical Products $ 392,992 $ 335,588 $ 899,650
Medical Services 17,153,984 15,683,433 11,177,382
New Technology 2,742,076 2,281,666 2,385,836
Corporate 8,386,678 11,733,433 1,889,881
Elimination of medical services advance receivable
from corporate -- (200,728) (414,339)
Elimination of medical services notes receivable
from new technology -- -- (2,200,000)
Elimination of medical services accrued interest
from new technology -- -- (185,836)
------------ ------------ ------------
28,675,730 29,833,392 13,552,574
Discontinued Operations:
Electro-mechanical -- -- 27,875,785
Elimination of electro-mechanical trade receivable -- -- --
------------ ------------ ------------
from medical products $ 28,675,730 $ 29,833,392 $ 41,428,359
============ ============ ============
F-22
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 6--BUSINESS SEGMENT AND GEOGRAPHIC AREA DATA--Continued
2002 2001 2000
----------- ----------- -----------
OTHER BUSINESS SEGMENT INFORMATION
Interest income:
Medical Services $ 47,846 $ 180,368 $ 289,350
New Technology 210,411 211,330 185,836
Corporate 98,404 130,999 39,747
Elimination of medical services intercompany
interest charge to corporate (2,957) (13,759) (13,450)
Elimination of medical services intercompany
interest charge to new technology -- (109,108) (185,836)
----------- ----------- -----------
$ 353,704 $ 399,830 $ 315,649
=========== =========== ===========
Interest expense:
Medical Products $ 10,904 $ 15,933 $ 11,485
Medical Services 220,441 210,805 82,456
New Technology -- 109,108 185,836
Corporate 14,053 15,333 17,432
Elimination of medical services
interest charge to new technology -- (109,108) (185,836)
Elimination of medical services intercompany
interest charge to corporate (2,957) (13,759) (13,450)
----------- ----------- -----------
$ 242,441 $ 228,312 $ 97,923
=========== =========== ===========
Depreciation and amortization:
Continuing Operations:
Medical Products $ 563 $ 22,068 $ 39,307
Medical Services 1,065,887 808,659 596,305
Corporate 57,202 54,973 58,089
----------- ----------- -----------
1,123,652 $ 885,700 $ 693,701
Discontinued Operations:
Electro-mechanical -- 749,481 1,470,470
----------- ----------- -----------
$ 1,123,652 $ 1,635,181 $ 2,164,171
=========== =========== ===========
Other significant non-cash items:
New technology:
Finders' fee stock option expense -- -- 69,000
Corporate:
Gain on subsidiary warrant exercise -- -- $ 276,178
Stock option related compensation expense -- $ 1,032,550 70,500
Discontinued Operations:
Gain on disposal of electro-mechanical
manufacturing operations, net of tax -- $ 2,534,656 --
Capital Expenditures:
Medical Products $ (1,121) $ -- 1,897
Medical Services 1,325,882 1,984,980 1,912,049
Corporate 17,413 -- 2,802
----------- ----------- -----------
$ 1,342,174 $ 1,984,980 $ 1,916,748
=========== =========== ===========
F-23
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 6--BUSINESS SEGMENT AND GEOGRAPHIC AREA DATA--Continued
MAJOR CUSTOMERS
Medical services revenues, which represent revenues of the company's
dialysis division, are primarily attributable to payments received under
Medicare, which is supplemented by Medicaid or comparable benefits in the states
in which the company operates. Reimbursement rates under these programs are
subject to regulatory changes and governmental funding restrictions. Although
the company is not aware of any future rate changes, significant changes in
reimbursement rates could have a material effect on the company's operations.
Medical product sales are highly dependent on government contracts
which have become increasingly difficult to secure due to changes in government
procurement procedures. Significant reductions in government contract revenues
have had a material adverse effect on the operations of the Medical Products
Division.
NOTE 7--COMMITMENTS
Commitments
The company and its subsidiaries have leases on several facilities,
which expire at various dates. The aggregate lease commitments at December 31,
2002 are approximately: 2003 - $851,000; 2004 - $676,000, 2005 - $598,000; 2006
- - $529,000; 2007 - $466,000;thereafter - $1,684,000. Total rent expense for
continuing operations was approximately $688,000, $464,000 and $357,000 in 2002,
2001 and 2000, respectively.
Effective January 1, 1997, Dialysis Corporation of America established
a 401(k) savings plan (salary deferral plan) with an eligibility requirement of
one year of service and 21 year old age requirement. The company and Techdyne
adopted the 401(k) profit sharing plan of Lytton, a Techdyne subsidiary, as
participating employers effective July 1, 1998. Subsequent to the sale of its
interest in Techdyne in June 2001, the company remains as a participating
employer in this multi-employer plan until January 2003 when the company and
Dialysis Corporation of America established a new 401(k) plan containing
employer match provisions on a portion of employee contributions. See Notes 1
and 13.
NOTE 8--RELATED PARTY TRANSACTIONS
During 2002, 2001 and 2000, the company and Dialysis Corporation of
America paid premiums of approximately $448,000, $283,000 and $242,000,
respectively, for insurance through a director and stockholder, and the relative
of a director and stockholder.
During 2002, 2001and 2000, legal fees of approximately $340,000,
$271,000 and $215,000, respectively, were paid by the company and Dialysis
Corporation of America to an attorney who acts as general counsel and is
secretary of the company (of which he is also a director), and served as general
counsel and secretary to Dialysis Corporation of America.
F-24
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 8--RELATED PARTY TRANSACTIONS--CONTINUED
In May 2002, Dialysis Corporation of America loaned its president
$95,000 to be repaid with accrued interest at prime minus 1% (floating prime) on
or before maturity on May 11, 2006. This demand loan is collateralized by all
Dialysis Corporation of America's President's stock options in Dialysis
Corporation of America, as well as common stock from exercise of the options and
proceeds from sale of such stock. Interest income on the loan amounted to
approximately $5,000 for 2002 and $4,000 for 2001. This loan and the related
accrued interest of approximately $9,000 at December 31, 2002 and $4,000 at
December 31, 2001 have been included in prepaid expenses and other current
assets.
NOTE 9--QUARTERLY FINANCIAL INFORMATION (Unaudited)
The Company recorded an income tax (benefit) provision adjustment to
the valuation allowance relating to its deferred tax asset of approximately
$(102,000), $(603,000), and $320,000 during the fourth quarter of 2002, 2001 and
2000, respectively.
NOTE 10--ACQUISITION
In August 2001, Dialysis Corporation of America acquired the remaining
30% minority interest in DCA of So. Ga., LLC, giving Dialysis Corporation of
America a 100% ownership interest, for $600,000 of which $300,000 was paid in
August, 2001 and $300,000 was paid in August, 2002. This transaction resulted in
$523,000 goodwill representing the excess of the $600,000 purchase price over
the $77,000 fair value of the minority interest acquired. The goodwill is being
amortized for tax purposes over a 15-year period. Dialysis Corporation of
America's decision to make this investment was based largely on the
profitability of DCA of So. Ga. The party from whom Dialysis Corporation of
America acquired the minority interest has an agreement to act as medical
director of another of Dialysis Corporation of America's subsidiaries. See Note
1.
In April 2002, Dialysis Corporation of America acquired a dialysis
center in Royston, Georgia for $550,000. This transaction resulted in $400,000
goodwill representing the excess of the $550,000 purchase price over the
$150,000 fair value of the assets acquired. The goodwill is being amortized for
tax purposes over a 15-year period. Dialysis Corporation of America's decision
to make this investment was based on its expectation of future profitability
resulting from its review of this dialysis center's operations prior to making
the acquisition. See Note 1.
NOTE 11--Subsidiary Stock Offerings
During 2000, approximately 170,000 Dialysis Corporation of America
warrants originally issued pursuant to a 1996 public offering were exercised
with net proceeds to Dialysis Corporation of America of approximately $765,000.
In accordance with its accounting policy, the company recognized a gain of
approximately $276,000 and deferred income taxes of approximately $105,000
related to the Dialysis Corporation of America warrant exercises.
F-25
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 12--Investment
Over the period, January, March and August, 2000, the company loaned an
aggregate of $2,200,000 with a 10% annual interest rate to Linux Global
Partners, a company investing in Linux software companies which recently
initiated the marketing of a Linux desktop software system. During that period,
the company also acquired an 8% ownership interest in Linux Global Partners. The
company's investment of $120 in Linux Global Partners is accounted for at cost.
A substantial portion of the loans were originally scheduled to mature January
26, 2001. The company borrowed the funds for its financing of Linux Global
Partners from Dialysis Corporation of America under the same terms and at the
same interest rate as its loan to Linux Global Partners. Interest on the notes
amounted to approximately $210,000 for the year ended December 31, 2002,
$211,000 for the year ended December 31, 2001 and $186,000 for the year ended
December 31, 2000. Interest receivable on the notes from Linux Global Partners
amounted to approximately $492,000 at December 31, 2002, $282,000 at December
31, 2001 and is included in prepaid expenses and other current assets.
The company agreed to extend the maturity of its notes receivable from
Linux Global Partners on several occasions, for which the company received
additional Linux Global Partners' common stock. On May 14, 2001, Linux Global
Partners repaid the $200,000 August 2000 loan plus $15,000 accrued interest. The
company made payment of $215,000 to Dialysis Corporation of America. In June
2001, Linux Global Partners paid $100,000 toward the accrued interest on the
remaining $2,000,000 outstanding notes. At the end of June, 2001, the company
repaid Dialysis Corporation of America the remaining outstanding loan of
$2,000,000 and accrued interest of $279,000.
In September 2002, the company agreed to loan Linux Global Partners up
to an additional $250,000 on the same terms as the company's existing loans to
Linux Global Partners, with the company receiving 75,000 additional Linux Global
Partners shares. The loans were made prior to the end of fiscal 2002, which
increased the aggregate outstanding principal balance of the loans to
$2,250,000. The company currently owns approximately 14% of Linux Global
Partners, and Dialysis Corporation of America owns approximately 2% of Linux
Global Partners. The loan, accrued interest and costs of collection of the Linux
Global Partners' indebtedness were satisfied through the company's sale of
certain of the collateral in January, 2003. See Note 15 to "Notes to
Consolidated Financial Statements."
NOTE 13--SALE OF TECHDYNE INTEREST
On April 6, 2001, the company entered into an agreement with Simclar to
sell its 71.3% ownership interest in Techdyne to Simclar for $10,000,000, with
an earn-out consisting of 3% of consolidated Techdyne sales, net of returns,
allowances and bad debts for the three fiscal years commencing January 1, 2001
with a $5,000,000 maximum and $2,500,000 minimum earn-out. The earn-out is
payable in cash each year for the earn-out period just ended. In April 2002, the
company received the first earn-out payment of $1,105,000. A receivable of
$1,100,000, representing an estimate of the second earn-out payment, has been
included in current assets with the remaining $295,000 of the minimum $2,500,000
earn-out reflected as non-current. The sale was approved by the company's
shareholders on June 27, 2001, with the sale to Simclar closing that same day.
See Note 1.
The pro forma consolidated condensed financial information presented
below reflects the sale of the company's interest in Techdyne as if it had
occurred as of January 1, 2000. For purposes of pro forma statement of
operations information, no assumption has been made that expenses have been
eliminated
F-26
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 13--SALE OF TECHDYNE INTEREST--CONTINUED
which were included in corporate expense allocations by the company to Techdyne
and which were included in the actual results of operations of Techdyne. No
assumption has been included in the pro forma information as to investment
income to be realized from investment of the proceeds of the sale. The summary
pro forma information, which excludes the gain on the sale, is not necessarily
representative of what the company's results of operations would have been if
the sale had actually occurred as of January 1, 2000 and may not be indicative
of the company's operating results for any future periods.
SUMMARY PRO FORMA INFORMATION
(Unaudited)
Year Ended December 31,
--------------------------------
2001 2000
-------------- --------------
Total revenues $ 20,683,000 $ 10,766,000
============== ==============
Net loss $ (1,522,000) $ (1,167,000)
============== ==============
Loss per share
Basic $ (.24) $ (.20)
============== ==============
Diluted $ (.25) $ (.20)
============== ==============
The company recorded a pre-tax gain on the sale of its interest in
Techdyne of approximately $4,200,000, including the $2,500,000 minimum earn-out,
after estimated costs of $200,000, with estimated income taxes of approximately
$1,600,000.
The Consolidated Condensed Statement of Operations reflects as
discontinued operations the results of operations of Techdyne, net of applicable
taxes, and the gain on disposal of Techdyne, net of applicable taxes. Certain
reclassifications have been made to prior period amounts in accordance with this
presentation.
The company provided certain financial and administrative services to
Techdyne under a service agreement. Subsequent to the company's sale of its
71.3% ownership interest in Techdyne to Simclar on June 27, 2001, the company
continued to provide services under the agreement through July 15, 2001, the
effective date of cancellation of the agreement, for additional consideration of
$15,000.
Simclar refinanced Techdyne's long-term debt and Techdyne repaid its
remaining loan payable to the company including accrued interest in October
2001. See Note 1.
NOTE 14--STOCK REPURCHASES
In December 2002, the company's board of directors authorized the
purchase of up to approximately 1,000,000 shares of the company's outstanding
common stock based on current market prices. As of December 31, 2002 no
repurchases were made subsequent to the company's announcement of the board's
intent. The company has repurchased 48,500 shares for approximately $70,000
subsequent to December 31, 2002.
F-27
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
NOTE 15--SUBSEQUENT EVENTS
In May 2002, Dialysis Corporation of America purchased land on which it
constructed a facility for a new dialysis center in Cincinnati, Ohio. Upon
completion, in February 2003, Dialysis Corporation of America sold the property
to a corporation owned by one of the minority members of DCA of Cincinnati,
Dialysis Corporation of America's subsidiary, which will operate that dialysis
facility, with the president and owner of such corporation being the medical
director of that dialysis facility. Dialysis Corporation of America is leasing
the facility from the corporation to which it sold the completed facility. Cost
of the land and construction costs of approximately $779,000 are included in
Prepaid Expenses and Other Current Assets as of December 31, 2002. DCA of
Cincinnati issued to Dialysis Corporation of America a five-year $75,000
promissory note for tenant improvements provided by its parent. That note
provides for priority payment before DCA of Cincinnati makes any other payments
of its indebtedness or makes any distributions.
On January 24, 2003, the company sold 4,115,815 shares of Ximian,
Inc.'s series A convertible preferred stock, part of the collateral for the
Linux Global Partners indebtedness, at public auction, pursuant to notice and
the requirements of the Uniform Commercial Code. On the date of the auction, the
aggregate indebtedness due from Linux Global Partners to the company was
approximately $2,792,000, which included accrued interest and collection costs.
Xandros, Inc. a 95% owned subsidiary of Linux Global Partners, purchased the
collateral and deposited 775,000 shares of its common stock (approximately 1.5%
of Xandros) as a good faith deposit with the full amount due in cash on March 7,
2003, extended to March 21, 2003. Xandros failed to make the payment resulting
in the company as the next highest bidder, obtaining the 4,115,815 series A
preferred stock of Ximian and keeping the 775,000 shares of common stock of
Xandros in satisfaction of the indebtedness due from Linux Global Partners.
Based upon certain agreements entered into between Linux Global Partners and
Ximian in January, 2000, after the company had provided Linux Global Partners
with the initial loans, Linux Global Partners, in January, 2003, gave the
company a put to sell all or any portion of the Ximian series A preferred stock
to Linux Global Partners for an aggregate of $3,100,000 or $.753 per share
commencing January 25, 2004 and expiring March 24, 2004.
On March 10, 2003, the company won a partial summary judgment against
Viragen for the liability portion of the company's claim for royalty payments
under the royalty agreement with Viragen. The company is pursuing its damage
claim.
F-28
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
Schedule II - Valuation and Qualifying Accounts
Medicore, Inc. and Subsidiaries
December 31, 2002
COL. A COL. B COL. C COL. D
-------------- --------- ----------------------------- --------
Additions
Balance at Additions (Deductions) Charged to Other Changes
Beginning Charged (Credited) to Other Accounts Add (Deduct)
Classification of Period Cost and Expenses Describe Describe
-------------- --------- ----------------- -------- --------
YEAR ENDED DECEMBER 31, 2002:
Reserves and allowances deducted
from asset accounts:
Allowance for uncollectable accounts $ 753,000 $ 705,000 $ (616,000)(1)
Reserve for inventory obsolescence 175,000 (53,000) --
Valuation allowance for deferred tax asset 217,000 (102,000) --
----------- ----------- -----------
$ 1,145,000 $ 550,000 $ (616,000)
=========== =========== ===========
YEAR ENDED DECEMBER 31, 2001:
Reserves and allowances deducted
from asset accounts:
Allowance for uncollectable accounts $ 452,000 $ 765,000 $ (223,000)(1)
Reserve for inventory obsolescence 798,000 350,000 (511,000)(2)
Valuation allowance for deferred tax asset 820,000 (603,000) --
----------- ----------- -----------
$ 2,070,000 $ 512,000 $(1,437,000)
=========== =========== ===========
YEAR ENDED DECEMBER 31, 2000:
Reserves and allowances deducted
from asset accounts:
Allowance for uncollectable accounts $ 431,000 $ 220,000 $ (199,000)(1)
Reserve for inventory obsolescence 724,000 422,000 (348,000)(2)
Valuation allowance for deferred tax asset 500,000 320,000 --
----------- ----------- ------------ -----------
$ 1,655,000 $ 962,000 $ 0 $ (547,000)
=========== =========== ============ ===========
COL. A COL. E
-------------- ------
Balance
at End of
Classification Period
-------------- ------
YEAR ENDED DECEMBER 31, 2002:
Reserves and allowances deducted
from asset accounts:
Allowance for uncollectable accounts $ 842,000
Reserve for inventory obsolescence 122,000
Valuation allowance for deferred tax asset 115,000
-----------
$ 1,079,000
===========
YEAR ENDED DECEMBER 31, 2001:
Reserves and allowances deducted
from asset accounts:
Allowance for uncollectable accounts $ 753,000
(241,000)(3)
Reserve for inventory obsolescence 175,000
(462,000)(3)
Valuation allowance for deferred tax asset 217,000
-----------
$ 1,145,000
===========
YEAR ENDED DECEMBER 31, 2000:
Reserves and allowances deducted
from asset accounts:
Allowance for uncollectable accounts $ 452,000
Reserve for inventory obsolescence 798,000
Valuation allowance for deferred tax asset 820,000
-----------
$ 2,070,000
===========
(1) Net (write-offs) recoveries against receivables allowance.
(2) Net write-offs against inventory reserves.
(3) Sale of Techdyne
F-29
Exhibits
to
MEDICORE, INC
Annual Report on Form 10-K For the Fiscal Year Ended December 31, 2002
10.8 Amendment No. 1 to the Lease Agreement between the Company and
Techdyne, Inc. dated November 29, 2001.
10.43 Put with Linux Global Partners, Inc. dated January 24, 2003.
21 Subsidiaries of the Company
99 Additional Exhibits
(i) Certification of Chief Executive Officer pursuant to 18
U.S.C.ss.1850 as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
(ii) Certification of Principal Financial Officer pursuant to 18
U.S.C.ss.1850 as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.