Back to GetFilings.com
================================================================================
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934 [FEE REQUIRED]
For the fiscal year ended December 31, 2003
-----------------
OR
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934 [NO FEE REQUIRED]
For the transition period from____________ to __________
Commission file number 0-8527
DIALYSIS CORPORATION OF AMERICA
------------------------------------------------------
(Exact name of registrant as specified in its charter)
FLORIDA 59-1757642
-----------------------------------------------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1344 ASHTON ROAD, HANOVER, MARYLAND 21076
----------------------------------------- ----------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (410) 694-0500
--------------
Securities registered under Section 12(b) of the Act:
None
Securities registered under Section 12(g) of the Exchange Act:
Title of each class
----------------------------
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. [ ]
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 computed by reference to the closing price at which the common
stock was sold on June 30, 2003 was approximately $ 10,142,000.
As of March 10, 2004, the Company had 8,184,336 shares of its common
stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Part III incorporating information by reference from the Information
Statement in connection with the Registrant's Annual Meeting of Shareholders
anticipated to be on June 3, 2004.
Registrant's Registration Statement on Form SB-2 dated December 22,
1995, as amended February 9, 1996, April 2, 1996 and April 15, 1996,
Registration No. 33-80877-A Part II, Item 27, Exhibits, incorporated in Part IV
of this Annual Report,
Registrant's Annual Report, Form 10-K for the year ended December 31,
1996 and for the five years ended December 31, 2002, Part IV, Exhibits,
incorporated in Part IV of this Annual Report.
Annual Reports for Registrant's Parent, Medicore, Inc., Forms 10-K for
the year ended December 31, 1994, Part IV, Exhibits, incorporated in Part IV of
this Annual Report.
================================================================================
DIALYSIS CORPORATION OF AMERICA
Index to Annual Report on Form 10-K
Year Ended December 31, 2003
PART I
Page
----
Item 1. Business........................................................ 1
Item 2. Properties...................................................... 28
Item 3. Legal Proceedings............................................... 30
Item 4. Submission of Matters to a Vote of Security Holders............. 30
PART II
Item 5. Market for the Registrant's Common Equity, Related Stockholder
Matters and Issuer Purchases of Equity Securities............... 31
Item 6. Selected Financial Data......................................... 33
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations....................................... 33
Item 7A. Quantitative and Qualitative Disclosure About Market Risk....... 44
Item 8. Financial Statements and Supplementary Data..................... 44
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure........................................ 44
Item 9A. Controls and Procedures......................................... 45
PART III
Item 10. Directors and Executive Officers of the Registrant.............. 46
Item 11. Executive Compensation.......................................... 46
Item 12. Security Ownership of Certain Beneficial Owners and Management
and Related Stockholder Matters................................. 46
Item 13. Certain Relationships and Related Transactions.................. 47
Item 14. Principal Accountant Fees and Services.......................... 47
PART IV
Item 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K 48
Signatures ................................................................ 54
53
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 1934. The Private Securities Litigation Reform Act of 1995 contains
certain safe harbors for forward-looking statements. Certain of the
forward-looking statements include management's expectations, intentions,
beliefs and strategies regarding the growth of our company and our future
operations, the character and development of the dialysis industry, anticipated
revenues, our need for and sources of funding for expansion opportunities and
construction, expenditures, costs and income, our business strategies and plans
for future operations, and similar expressions concerning matters that are not
considered historical facts. Forward-looking statements also include our
statements regarding liquidity, anticipated cash needs and availability, and
anticipated expense levels in 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 substance 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
the general economic, market and business conditions, opportunities pursued or
not pursued, 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 of 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 we undertake no
obligation to revise to reflect events after the date made.
ITEM 1. BUSINESS
HISTORICAL
We are a Florida corporation organized in 1976. We develop and
operate outpatient kidney dialysis centers that provide quality dialysis and
ancillary services to patients suffering from chronic kidney failure, generally
referred to as end stage renal disease, or ESRD. We also provide acute inpatient
dialysis treatments in hospitals, provide homecare services through our wholly
owned subsidiary, DCA Medical Services, Inc. and provide dialysis center
management services. We became a public company in 1977, and went private in
1979. We began construction of new centers in 1995, and in 1996 once again
became a public company. In 1997, we sold our Florida dialysis operations. We
currently operate 19 outpatient dialysis facilities including a dialysis center
in Ohio in which we hold a 40% interest and an unaffiliated center in Georgia,
each of which we manage pursuant to management services agreements. In early
2004, we opened three new centers, one each in Pennsylvania, South Carolina and
Virginia and we are in the process of constructing a new center in Maryland.
Our principal executive offices are located at 1344 Ashton Road,
Suite 201, Hanover, Maryland 21076, and you may contact us as follows:
telephone: (410) 694-0500
fax: (410) 694-0596
email: info@dialysiscorporation.com
GENERAL
Management believes the company distinguishes itself on the basis
of quality patient care, and a patient-focused, courteous, highly trained
professional staff. Our acute inpatient dialysis treatments are conducted under
contractual relationships currently with seven hospitals and medical centers
located in areas and states serviced by our outpatient dialysis facilities.
Homecare, sometimes referred to as "method II home patient treatment," requires
us to provide equipment and supplies, training, monitoring and follow-up
assistance to patients who are able to perform their treatments at home.
Our growth depends primarily on the availability of suitable
dialysis centers for development or acquisition in appropriate and acceptable
areas, and our ability to develop new potential dialysis centers at costs within
our budget. We acquired a dialysis unit in Georgia in the second quarter of
2003. We opened two new centers in February, 2003, one in Ohio and one in
Maryland and three new centers in early 2004, one each in Pennsylvania, South
Carolina and Virginia. We are in the process of constructing a new dialysis
facility in Maryland.
Our medical service revenues are derived primarily from four
sources: (i) outpatient hemodialysis services (50%, 49% and 47% of medical
services revenues for 2003, 2002 and 2001, respectively); (ii) home peritoneal
dialysis services, including method II services (4%, 3%, and 3% of medical
services revenues for 2003, 2002 and 2001, respectively); (iii) inpatient
hemodialysis services for acute patient care provided through agreements with
hospitals and medical centers (7%, 10% and 15% of medical services revenues for
2003, 2002 and 2001, 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), (39%, 38% and 35% of medical services revenue for 2003,
2002 and 2001, 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 our 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, our operating costs tend to
increase over the years in excess of increases in the prescribed dialysis
treatment rates. From commencement of the Medicare ESRD program in 1972 through
1983, the ESRD composite rate was unchanged, and thereafter decreased over the
years until January, 2000, when the rate was minimally increased by Congress,
and further minimally increased in January, 2001. Thereafter, there have been no
further increases. However, Congress has proposed a 1.6% composite rate increase
for 2005. Commercial third-party reimbursement rates, which have increased as a
percentage of our revenues over the last two years, are also susceptible to
reduction. See "Operations - Medicare Reimbursement." The inpatient dialysis
service agreements for treating acute kidney disease are not subject to
government fixed rates, but rather are negotiated with hospitals. Typically
these rates are at least equivalent to or higher than the government fixed rates
on a per treatment basis.
2
STOCK SPLIT
On January 28, 2004, the company effected a two-for-one stock
split. All share and per share data, including option information, in this
Annual Report on Form 10-K for the year ended December 31, 2003, have been
adjusted to reflect the stock split.
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, ESRD, results from chemical
imbalance and buildup of toxic chemicals, and is a state of kidney disease
characterized by advanced irreversible renal impairment. ESRD is a likely
consequence of complications resulting from diabetes, hypertension, advanced
age, and specific hereditary, cystic and urological diseases. 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 dialysis treatments for the rest of their lives.
Based upon information published by CMS, the number of ESRD
patients requiring dialysis treatments in the United States is approximately
300,000, and continues to grow at a rate of approximately 6% 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, with the current annual
cost of treating ESRD patients in the United States at approximately $22.8
billion.
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
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 is circulated 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
3
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
caregiver and a dialysis machine at home, and the higher expense involved as
compared with 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.
While kidney transplantation, another treatment option for
patients with ESRD, is typically the most desirable form of therapeutic
intervention, the scarcity of suitable donors and possibility of donee rejection
limits the availability of this surgical procedure as a treatment option.
BUSINESS STRATEGY
Dialysis Corporation of America has 27 years' experience in
developing and operating dialysis treatment facilities. Our priority is to
provide quality patient care. We intend to continue to establish alliances with
physicians and hospitals, attempt to initiate dialysis service arrangements with
nursing homes and managed care organizations, and to continue to emphasize our
high quality patient care.
We continue to actively seek and negotiate with physicians and
others to establish new outpatient dialysis facilities. We are in the process of
constructing a new dialysis center in Maryland. We are in different phases of
negotiations with physicians for potential new facilities in a variety of
states.
Same Center Growth
We endeavor to increase same center growth by adding quality
staff and management and attracting new patients to our existing facilities. We
seek to accomplish this objective by rendering high caliber patient care in
convenient, safe and pleasant conditions. We believe that we have adequate space
and stations within our facilities to accommodate greater patient volume and
maximize our treatment potential. During fiscal 2003, we experienced
approximately 7% growth in the total number of treatments for our 13 dialysis
centers that were in existence as of December 31, 2002, and a 9% growth in
medical services revenue for these centers. We had an increase of over 50% in
peritoneal dialysis patients in fiscal 2003.
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
local nephrologists, since the proposed facility would primarily be serving such
patients. Other considerations in evaluating development of a dialysis facility
4
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 approached primarily through the development of our
own dialysis facilities. Acquisition of existing outpatient dialysis centers is
a faster but more costly means of growth. The primary reason for physicians
selling or participating in the development of independently owned centers is
the avoidance of administrative and financial responsibilities, freeing their
time to devote to their professional practice. Other motivating forces are the
physician's desire to be part of a larger organization allowing for economies of
scale and the ability to realize a return on their investment if they have an
interest in the dialysis entity.
To construct and develop a new facility ready for operation takes
an average of six to eight months, and approximately 12 months or longer to
generate income, all of which are subject to variables 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 the 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. Hospitals are willing
to enter into such inpatient care arrangements to eliminate the administrative
burdens of providing dialysis services to their patients as well as the expense
involved in maintaining dialysis equipment, supplies and personnel. We believe
that these arrangements are beneficial to our operations, since 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.
There is no certainty as to when any additional centers or
service contracts will be implemented, or, to the extent implemented, the number
of dialysis stations or patient treatments these centers or service contracts
may involve, or if they 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 we 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, also adversely affect results of
operations due to their start-up costs and expenses and to their having a
smaller and slower developing patient base. See "Business Strategy,"
"Operations" and "Competition" of Item 1, "Business," and Item 7, "Management's
Discussion and Analysis of Financial Condition and Results of Operations."
5
OPERATIONS
Location, Capacity and Use of Facilities
We operate 19 outpatient dialysis facilities in Georgia,
Maryland, New Jersey, Ohio, Pennsylvania, Virginia and South Carolina, including
an Ohio dialysis center in which we hold a 40% interest and which we operate 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 280 licensed stations.
We own and operate our centers through subsidiaries of which a
majority are 100% owned by us, with the balance of the centers owned by us as a
majority owner in conjunction with the medical directors of those centers who
hold minority interests. We have a minority 40% interest in a dialysis facility
in Toledo, Ohio which we manage. The Lemoyne, Pennsylvania, and one of the
Georgia dialysis centers are located on properties that we own and lease to our
subsidiaries. Our Cincinnati, Ohio dialysis center is leased from a corporation
owned by the medical director of that center who, together with his wife, holds
a minority interest in the subsidiary operating that center. See Item 2,
"Properties." We also manage an unaffiliated dialysis center in Georgia.
Additionally, the company provides acute care inpatient dialysis
services to seven hospitals in areas serviced by our dialysis facilities, two
less than we serviced at this time last year. 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. Furthermore, 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 92,000 hemodialysis
treatments in 2003, an increase of approximately 12,000 treatments compared to
fiscal 2002.
Management estimates that on average its centers were operating
at approximately 55% of capacity as of December 31, 2003, based on the
assumption that a dialysis center is able to provide up to three treatments a
day per station, six days a week. We believe we can increase the number of
dialysis treatments at our centers without making significant additional capital
expenditures.
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.
We maintain 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 an administrator who supervises the daily operations and the
staff, which consists of registered nurses, licensed practical nurses, patient
care technicians, a social worker to assist the patient and family to adjust to
dialysis treatment and to provide help in financial assistance and planning, and
a registered dietitian. In addition, there are independent consultants who visit
with our dialysis patients. These individuals supervise the patient's
6
needs and treatments. See "Employees" below. We must continue to attract and
retain skilled nurses and other staff, competition for whom is intense.
Our dialysis facilities offer high-efficiency conventional
hemodialysis, which, in our experience, provides the most viable treatment for
most patients. We consider our dialysis equipment to be both modern and
efficient, providing state of the art treatment in a safe and comfortable
environment.
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
We presently provide inpatient dialysis services to seven
hospitals in Georgia, Ohio and Pennsylvania, under agreements either with us or
with one of our 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 manufacturer of EPO in the United States and there are
currently no alternative products that perform the functions of EPO available to
dialysis treatment providers. Although we have a good relationship with this
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.
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. Consequently, we rely on our ability to develop
affiliations with area nephrologists.
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. Generally, the medical directors
are board eligible or board certified in internal medicine by a professional
board specializing in nephrology and have had at least 12 months of experience
or training in the care of dialysis patients at ESRD facilities. The medical
directors are typically a source of patients treated at the particular center
served. Our dialysis centers are operated through subsidiaries, either
corporations or limited liability companies. The medical directors of six of
7
our centers have acquired a minority ownership interest in the center they
service. Our Ohio affiliate is majority owned 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 "Government Regulation" below. We know of no limitations on
physician ownership in our subsidiaries.
Agreements with medical directors typically range from a term of
five to 10 years, with renewal provisions, usually two renewal options each for
five years. 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 typically 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. These
agreements, however, 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 to
government payment authorities by the treating physician and paid directly to
the physician or the professional association.
Our ability to establish and operate a dialysis facility in a
particular area is substantially dependent on 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.
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 each 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 we meet federal and state compliance requirements for our dialysis centers.
See "Government Regulation" below.
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. The states
in which we operate provide Medicaid or comparable benefits to qualified
recipients to supplement their Medicare coverage.
8
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 there is no secondary payor
to cover the remaining 20%, Medicare may reimburse us for part of that balance
as part of our annual cost report filings. Medicare and Medicaid programs are
subject to regulatory changes, statutory limitations and government funding
restrictions, which may adversely affect dialysis services payments and,
consequently, our revenues. See "Medicare Reimbursement" below.
The inpatient dialysis services are paid for by each contracted
hospital pursuant to contractual pre-determined fees for the different dialysis
treatments.
Medicare Reimbursement
We are 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 provide 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.
We receive 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.
The average ESRD reimbursement rate is approximately $131 per treatment for
outpatient dialysis services. The Medicare ESRD composite reimbursement rate is
subject to regional differences, particularly labor costs, among other criteria.
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 28% of our
medical services revenue in 2003 was derived from providing dialysis patients
with EPO. CMS limits the EPO reimbursement based upon patients' hematocrit
levels. Other ancillary services, mostly other drugs, account for approximately
an additional 11% of our medical services revenue. 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. Congress has approved a 1.6% composite rate increase for
2005. This is the first increase in the Medicare ESRD composite rate since 2001.
Any reduction in the Medicare composite reimbursement rate could have a material
adverse effect on our business, revenues and net earnings.
9
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 provider in Georgia, Maryland, New Jersey, Ohio, Pennsylvania, South
Carolina and Virginia.
SOURCES OF MEDICAL SERVICES REVENUE
Year Ended December 31,
----------------------
2003 2002
---- ----
Medicare 54% 49%
Medicaid and Comparable Programs 8% 9%
Hospital inpatient dialysis services 7% 10%
Commercial and private payors 31% 32%
Management Services
Dialysis Corporation of America has a management services
agreement with each of its wholly- and majority-owned subsidiaries, with its 40%
owned affiliate DCA of Toledo, LLC, and with an unaffiliated Georgia dialysis
center, providing each of them with administrative and management services,
including, but not limited to, assisting in procuring 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 particular facility.
CORPORATE INTEGRITY PROGRAM
Dialysis Corporation of America has developed a Corporate
Integrity Program 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 relating to our operations.
This program is expected to benefit the overall care and services for our
dialysis patients and assure our operations are in compliance with the law,
which, in turn, should assist us in operating in a cost-effective manner, and
accordingly, benefit our shareholders.
The board of directors has established an audit committee
consisting of three independent members of the board who oversee audits,
accounting, financial reporting, and who have established
10
procedures for receipt, retention and resolution of complaints relating to those
areas (none to date), among other responsibilities. The audit committee operates
under a charter providing for its detailed responsibilities.
We have 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.
Code of Ethics
As part of our Corporate Integrity Program, we have also
developed a Code 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 Code of Ethics and Business Conduct
covers relationships among and between affiliated persons, patients, payors, and
relates to information processing, compliance, workplace conduct, environmental
practices, training, education and development, among other areas. In our
commitment to delivering quality care to dialysis patients, we have mandated
rigorous standards of ethics and integrity.
Our Code of Ethics and Business Conduct is designed to provide:
o ethical handling of actual or apparent conflicts of interest
between personal and professional relationships
o full, fair, accurate, timely, and understandable disclosure
in reports and documents we file with the SEC and in our
other public communications
o compliance with applicable governmental laws, rules and
regulations
o prompt internal reporting of violations of the Code to an
appropriate person identified in the Code
o accountability for adherence to the Code
The portion of our Code of Ethics and Business Conduct as it
applies to our principal executive officer, principal financial officer,
principal accounting officer, and persons performing similar functions, may be
obtained without charge upon request to our Secretary and general counsel,
Lawrence E. Jaffe, Esq., Jaffe & Falk, LLC, at 777 Terrace Avenue, Hasbrouck
Heights, New Jersey 07604.
The Corporate Integrity Program is implemented, and reviewed and
upgraded from time to time, 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 we have
been involved in chronic and acute kidney dialysis services for approximately 27
years, we have never been subject to any suit relating to the providing of
dialysis treatments. We initiated a breach of contract dispute that was recently
settled. See Item 3, "Legal Proceedings." We currently have
11
general and umbrella liability insurance, as well as professional and products
liability. Our insurance policies provide coverage on an "occurrence" basis and
are subject to annual renewal. A hypothetical successful claim against us in
excess of our insurance coverage could have a material adverse effect upon 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.
GOVERNMENT REGULATION
General
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 if their
operations meet the appropriate regulatory standards. 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. Regulation of healthcare
facilities, including dialysis centers, is extensive with legislation
continually proposed relating to safety, reimbursement rates, licensing and
other areas of operations. 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. Since our
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 operations,
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.
Certification and Reimbursement
Our dialysis centers must meet certain requirements, including,
among others, those relating to patient care, patient rights, medical records,
the physical set-up of the center, and personnel, in order to be
12
certified by CMS, to be covered under the Medicare program and to receive
Medicare reimbursement. See above under "Operations - Medicare Reimbursement."
All of our dialysis centers are certified under the Medicare program and
applicable state Medicaid programs. We understand that the conditions for
coverage for ESRD services are in the process of revision by CMS, but the
revisions are not yet published. We are unable to predict when said revisions
for Medicare coverage will be published or what such revisions will entail.
Any changes in the Medicare programs for ESRD treatments could
require us to restructure our operations. We are unable to predict at this time
whether we could satisfactorily respond to such changes in a cost effective
manner or at all, the result of which could negatively impact our operations.
Any reduction in Medicare payments or coverage for dialysis services would have
an adverse effect on our business and profitability.
Fraud and Abuse
Certain aspects of our 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, as well as
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.
13
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 our company'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 us and
physicians who, in most cases, hold a minority position through a professional
association. 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 believe that the value of the minority interest in
a subsidiary acquired by the physician has been consistent with the fair market
value of the cash consideration paid, assets transferred to, and/or services
performed by that physician for the subsidiary, and there is no intent to induce
referrals to any of our centers. See "Business - Physician Relationships" above.
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 we have
with our medical directors who hold a percentage ownership in our dialysis
facilities, we would restructure our relationship with these physicians but
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 we provide 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 being supported by objective documentation, drastically reducing the
possibility of over-utilization. Additionally, there are safe harbors for
certain arrangements. Nevertheless, while relationships created by medical
director ownership of minority interests in our facilities satisfy many but not
all of the criteria for the safe harbor, there can be no assurance that these
relationships will not subject us to investigation or prosecution by enforcement
agencies. In an effort to further our compliance with the law, we have adopted a
corporate Compliance Program that addresses medical necessity and medical chart
audits to confirm medical necessity of referrals.
With respect to our inpatient dialysis services, we provide
hospitals with dialysis services, including qualified nursing and technical
personnel, supplies, equipment and technical services. In certain instances, the
medical director of our dialysis center who has a minority interest in that
facility may refer patients to hospitals with which we have 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 will
make every effort to remain in compliance.
14
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 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 our 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 operations or
require us to restructure different aspects of our business.
Phase I of the federal Stark II regulations and the legislative
history of Stark II indicates that the purpose behind the Stark II prohibition
on physician referral is to prevent Medicare and Medicaid program and patient
abuse. Since dialysis is a necessary medical treatment for those with temporary
or permanent kidney failure it is not highly susceptible to that type of abuse.
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
we provide that are incidental 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 centers who hold a minority
investment interest in the subsidiaries operating those centers may refer
patients to hospitals with which we have an acute inpatient dialysis service
arrangement. Although the regulations of Stark II may be interpreted to apply to
these types of transactions, we believe that our 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 our medical
15
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, we 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
financial results. We believe that if Stark II is interpreted by CMS or any
other governmental entity to apply to our 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 the costs and expenses associated with 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 us for our services, or impose further
regulation or restrictions on healthcare providers. Further, statutes or
regulations may be adopted which demand additional requirements in order for us
to be eligible to participate in the federal and state payment programs. Any new
legislation or regulations may adversely affect our business and operations, as
well as our competitors.
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 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. October
16, 2003 was the deadline for covered entities to comply with HIPAA's electronic
transaction requirements. We believe that we are in compliance with the
transactions standards rule.
16
HIPAA also includes provisions relating to the privacy of
healthcare information. 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." 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. Covered entities were required to be in compliance no later than
April 14, 2003. During 2003, we expended significant resources to develop and
implement policies and procedures to address privacy issues, and we believe we
are in compliance with the HIPAA privacy rules.
The final HIPAA security regulations were published on February
20, 2003. Although the security standards had an effective date of April 21,
2003, most covered entities will have until April 21, 2005 to comply with the
standards. We are currently undergoing a review of our policies and procedures
to determine whether revisions are necessary and expect to be in compliance with
the HIPAA security standards on or before the compliance date.
HIPAA increases significantly 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. 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 activities will not be reviewed or
challenged by regulatory authorities. We continue to work with our healthcare
counsel in
17
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 us of our various federal certifications, our
approval as a certified provider under the Medicare or Medicaid programs or our
licenses under the laws of any state or other governmental authority from which
a substantial portion of our 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 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. We adhere 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.
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 we have 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, of which we have had none since our inception 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.
18
Recent Regulatory Developments
We monitor regulatory developments that may potentially impact
the dialysis industry and our operations. During 2003, regulatory items of
interest included the following:
The OIG issued a report, "Home Dialysis Payment Vulnerabilities,"
which addressed billing for continuous cycling peritoneal dialysis, or CCPD, for
home patients under Method II. Some of the OIG's recommendations were to limit
payment for Method II CCPD kits to the composite rate payable under Method I, to
ensure that claims are not paid unless a method selection form has been
recorded, and to collect incorrect payments made to providers.
CMS issued a letter describing its plan to undertake a review of
its current policy on EPO utilization in ESRD. In the letter, CMS solicited
scientific evidence regarding EPO dosing and hemotocrit/hemoglobin levels to
assist CMS to develop a policy to ensure appropriate administration of EPO to
ESRD patients. A draft policy is expected on May 1, 2004, and CMS is scheduled
to issue a final policy or memorandum on this matter on July 2, 2004.
The OIG Office of Audit Services published a report, "End Stage
Renal Disease Pricing Errors at Independent Facilities." This report discussed
the findings of an audit of Medicare overpayments made by AdminaStar Federal to
independent ESRD providers. The overpayments involved reimbursement of supplies
used to administer injectable drugs that are billed outside of the Medicare
composite rate. The OIG recommendations included recovery of identified
overpayments.
CMS finalized a rule eliminating the cap on ESRD bad debt
reimbursement, which had limited payment of allowable bad debt to the facility's
unrecovered costs.
The Government Accounting Office, or GAO, released a report,
"Dialysis Facilities: Problems Remain in Ensuring Compliance with Medicare
Quality Standards," concluding that a substantial number of dialysis facilities
do not achieve minimum patient outcomes specified in clinical practice
guidelines, with significant proportions of patients receiving inadequate
dialysis or treatment for anemia. GAO suggested that Congress consider
authorizing CMS to impose sanctions on facilities cited with serious
deficiencies in consecutive surveys and also recommended creating incentives for
facilities to maintain compliance with quality standards.
The OIG's 2004 Work Plan indicates that it will focus on Method
II dialysis in nursing homes. The OIG noted that a physician must certify that a
Method II patient is capable of home dialysis and questioned who performs
dialysis in the nursing home setting and whether these patients receive adequate
clinical support.
The Medicare Payment Advisory Commission, or MedPAC, released a
report entitled "Modernizing the Outpatient Dialysis Payment System, which
outlined steps to better achieve the Medicare objectives of controlling costs
and promoting access to quality services." Another MedPAC report, "Variation and
Innovation in Medicare," assessed the relationship between quality and dialysis
providers' costs. In each report, MedPAC recommended refinement of the dialysis
payment system by bundling certain currently excluded services, such as
laboratory tests, supplies, and blood products, into the composite rate and
accounting for factors that affect provider costs, such as dialysis method,
doses, and patient case mix.
19
CMS announced a four-year ESRD disease management demonstration
designed to test the effectiveness of disease management models to increase
quality of care for ESRD patients while ensuring that this care is provided more
effectively and efficiently.
Several Medicare studies concerning dialysis that were expected
to be released in 2003 are pending, including a Composite Rate Bundling Study
and updated Conditions of Coverage.
COMPETITION
The dialysis industry is highly competitive. There are numerous
providers who have dialysis centers in the same areas as our centers. Many are
owned by larger corporations, which operate dialysis centers regionally,
nationally and internationally. Our operations are small in comparison with
those corporations. Some of our major competitors are public companies,
including Fresenius Medical Care, Inc., A.G., Gambro Healthcare, Inc., Renal
Care Group, Inc. and DaVita, Inc. These companies have substantially greater
financial resources, many more centers, patients and services than we do, and by
virtue of such may have an advantage over us in competing for nephrologists and
acquisitions of dialysis facilities in areas and markets we target. Moreover,
competition for acquisitions has increased the cost of acquiring existing
dialysis centers. Fresenius and Gambro also manufacture and sell dialysis
equipment and supplies, which may provide them with a greater competitive edge.
We also face 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 center for it to participate in the Medicare ESRD program, and are
responsible for the supervision of the medical operations of the center. Our
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 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 in
the growth of this modality, 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
As of January, 2004, our company had 235 full time employees,
including nurse administrators, licensed practical nurses, registered nurses,
technical service manager, technical specialists, patient care technicians,
clerical employees, and social workers and dietitians. We retain 15 part-time
employees consisting of registered nurses, patient care technicians and clerical
employees. We also utilize 43 "per diem" personnel to supplement staffing.
20
We retain 14 independent contractors who include social workers
and dietitians at our Pennsylvania, New Jersey and certain Georgia facilities.
These are in addition to the medical directors, who supervise patient treatment
at each facility.
We believe our relationship with our employees is excellent and
we have not suffered any strikes or work stoppages. None of our employees is
represented by any labor union. We are an equal opportunity
employer.
RISK FACTORS
We have listed below certain of the risk factors relating to
Dialysis Corporation of America and our securities. There may be other risks and
uncertainties that we may face and 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
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 negatively impact a shareholder's investment in the
company.
UNTIL FISCAL 2001, WE HAD EXPERIENCED OPERATIONAL LOSSES
Since 1989, when we sold four of our five dialysis centers, we
had experienced operational losses. Not until fiscal 2001 did we reflect net
income. We initiated an expansion program in 1995, opening two new dialysis
centers that year, and to date operate and/or manage 19 centers in Georgia,
Maryland, New Jersey, Ohio, Pennsylvania, Virginia and South Carolina, and we
have one center under construction. Some of our dialysis centers have generated
losses since their commencement of operations and, although typical to newly
established facilities, some continue to generate losses after 12 months 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."
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 center
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
21
Many of these laws and regulations are complex and open to
further judicial and legislative interpretations. If we are forced to change our
method of operations because of these regulations, our earnings, financial
condition and business could be adversely affected. In addition, any violation
of these governmental regulations could involve substantial civil and criminal
penalties and fines, revocation of our licenses, closure of one or more of our
centers, and our exclusion from participating in Medicare and Medicaid programs.
Any loss of federal or state certifications or licenses would materially
adversely impact our business.
OUR ARRANGEMENTS WITH OUR PHYSICIAN MEDICAL DIRECTORS DO NOT MEET THE SAFE
HARBOR PROVISIONS OF FEDERAL AND STATE LAWS, AND MAY SUBJECT US TO GREATER
GOVERNMENTAL SCRUTINY
Neither our arrangements with the medical directors of our
facilities nor the minority ownership interests of referring physicians in
certain of our 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.
OUR OPERATIONS ARE SUBJECT TO MEDICARE AND MEDICAID AUDITS WITH CONCURRENT
POTENTIAL CIVIL AND CRIMINAL PENALTIES FOR FAILURE TO COMPLY
We are subject to periodic audits by the Medicare and Medicaid
programs, which have various rights and remedies if they assert that we have
overcharged the programs or failed to comply with program requirements, none of
which we have done. Rights and remedies available under 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 us. These programs
may also impose fines, criminal penalties or program exclusions.
In the ordinary course of our business, we receive notices of
deficiencies for failure to comply with various regulatory requirements. We
review such notices and take appropriate corrective action. In most cases, we
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 we have 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, decertification from participation
in the Medicare or Medicaid programs and revocation of a
center's license.
Any such regulatory actions could adversely affect a center's
ability to continue to operate, to provide certain services, and/or its
eligibility to participate in Medicare or Medicaid programs or to receive
payments from other payors. Moreover, regulatory actions against one center may
subject our other centers, which may be deemed under our common control or
ownership, to similar adverse remedies.
22
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.
Legislation has expanded the penalties for heath care fraud, including broader
provisions for the exclusion of providers from the Medicaid program. We have
established policies and procedures that we believe are sufficient to ensure
that our facilities will operate in substantial compliance with these anti-fraud
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 our financial position and results of operations.
OUR REVENUES AND FINANCIAL STABILITY ARE DEPENDENT ON FIXED REIMBURSEMENT RATES
UNDER MEDICARE AND MEDICAID
During 2003, approximately 54% of our patient revenues was
derived from Medicare reimbursement and 8% of our 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
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 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 38% of our patient revenues for
2003 was obtained from sources other than Medicare or Medicaid and equivalent
programs. We generally charge non-governmental organizations for dialysis
treatment rates which exceed the fixed Medicare and Medicaid and equivalent
rates. Any limitation on our 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 our business,
results of operations, and financial condition.
ANY DECREASE IN THE AVAILABILITY OF OR THE REIMBURSEMENT RATE OF EPO WOULD
REDUCE 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 the treatment of anemia in our dialysis patients. The
available supply of EPO could be delayed or reduced, whether by Amgen itself,
through unforeseen circumstances, or as a result of excessive demand. This would
adversely impact our revenues and profitability, since approximately 28%
23
of our medical revenues in 2003 were based upon the administration of EPO to our
dialysis patients. Most of our 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 our revenues and earnings.
NEW AMGEN DRUG COULD AFFECT USE OF EPO, ADVERSELY IMPACTING OUR PROFITABILITY.
Amgen is the sole manufacturer of EPO, which is administered in
conjunction with dialysis treatments to address a patient's anemia. Amgen has
developed and obtained FDA approval for its new drug Aranesp(R), which is also
to be used to treat anemia, and which is indicated to be effective for two to
three weeks. Should Amgen market Aranesp(R) to treat anemia in dialysis
patients, it could reduce the use of EPO by dialysis providers. Based on its
longer lasting capabilities, potential profit margins on Aranesp(R) could be
significantly lower than on EPO, and furthermore, Aranesp(R) could be
administered by a dialysis patient's physician, further eliminating potential
revenues from the treatment of anemia in our dialysis patients. The introduction
of Aranesp(R) as an anemia treatment for dialysis patients, therefore, could
adversely impact our revenues and profitability.
OUR ABILITY TO GROW IS SUBJECT TO OUR RESOURCES AND AVAILABLE LOCATIONS
Other than two center acquisitions in 2002 and 2003, expansion of
our operations has been through construction of dialysis centers, primarily due
to the substantial costs involved in an acquisition. We seek areas with
qualified and cost-effective nursing and technical personnel and a sufficient
population to sustain a dialysis center. These opportunities are limited and we
compete with much larger dialysis companies for appropriate locations. The time
period from the beginning of construction through commencement of operations of
a dialysis center generally takes four to six months and sometimes longer. Once
the center is operable, it generates revenues, but usually does not operate at
full capacity, and may incur 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 centers. 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 dialysis centers in a
cost-effective manner would adversely affect our ability to expand our business
and as a result, 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.
OUR ATTEMPT TO EXPAND THROUGH DEVELOPMENT OR ACQUISITION OF DIALYSIS CENTERS
WHICH ARE NOT CURRENTLY IDENTIFIED ENTAILS RISKS WHICH SHAREHOLDERS AND
INVESTORS WILL NOT HAVE A BASIS TO EVALUATE
We expand generally by seeking an appropriate location for
development of a dialysis center and by taking into consideration the potential
geographic patient base and the availability of a physician nephrologist to be
our medical director as well as and a skilled work force. Construction and
equipment costs for a new dialysis center with 15 stations typically range from
$600,000 to $750,000. The cost of acquiring a center is usually much greater. We
cannot assure you that we will be successful in developing
24
or acquiring dialysis facilities, or otherwise successfully expanding our
operations. We are negotiating with nephrologists and others to establish new
dialysis centers, but we cannot assure you that 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.
WE DEPEND ON PHYSICIAN REFERRALS, AND THE LIMITATION OR CESSATION OF SUCH
REFERRALS WOULD ADVERSELY IMPACT OUR REVENUES AND EARNINGS
Our existing dialysis facilities and those facilities we seek to
develop are and will be dependent upon referrals of ESRD patients for treatment
by physicians specializing in nephrology. 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 facility served. 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 physicians
at a particular facility could have a material adverse effect on the operations
of the facility and could adversely affect our revenues and earnings.
Some of our medical directors or the medical groups with whom
they are associated own minority interests in certain of our subsidiaries
operating dialysis centers. 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 our
relationship with these key physicians, their medical groups or their patients,
who may seek dialysis treatment elsewhere. The resulting loss of these patients
would have an adverse effect on our business and financial condition.
INDUSTRY CHANGES COULD ADVERSELY AFFECT OUR BUSINESS
Healthcare organizations, public and private, continue to change
the manner in which they operate and pay for services. Our 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 (i) further increase government regulation of or
other involvement in healthcare, (ii) lower reimbursement rates, and (iii)
otherwise change the operating environment for healthcare companies. We cannot
predict the likelihood of those events or what impact they may have on our
earnings, financial condition or business.
OUR BUSINESS IS SUBJECT TO SUBSTANTIAL COMPETITION, AND WE MUST COMPETE
EFFECTIVELY, OTHERWISE OUR GROWTH COULD SLOW
We are operating in a highly competitive environment in terms of
operation, development and acquisition of existing dialysis centers. Our
competition comes from other dialysis centers, many of which are owned by much
larger companies, and from hospitals. The dialysis industry is rapidly
consolidating, resulting in several very large dialysis companies competing for
the acquisition of existing
25
dialysis centers and the development of relationships with referring physicians.
Most of our competitors have significantly greater financial resources, more
dialysis facilities and a larger patient base. In addition, technological
advances by our competitors may provide more effective dialysis treatments than
the services provided by our centers.
We also compete with 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 that we will compete effectively. Our
failure to do so could impair our continued growth.
MEDICORE, INC., OUR PARENT, WHICH OWNS APPROXIMATELY 59% OF OUR VOTING
SECURITIES, HAS SOME COMMON OFFICERS AND DIRECTORS, WHICH PRESENTS THE POTENTIAL
FOR CONFLICTS OF INTEREST
Medicore owns approximately 59% of our common stock, and is able
to elect all of our directors and otherwise control our management and
operations. Such control is also complemented by the fact that Thomas K.
Langbein is Chairman of the Board of both us and Medicore, where he is also the
President and Chief Executive Officer; and Daniel R. Ouzts is Vice President and
Treasurer of both companies. Neither Mr. Langbein nor Mr. Ouzts devotes full
time to our management. Lawrence E. Jaffe, Esq., a member of Jaffe & Falk, LLC,
our general counsel, is our corporate Secretary, as well as corporate Secretary
and a director of Medicore. 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 to us by Medicore for 2003 amounted to
approximately $200,000.
Additionally, there have been past and there are current
transactions between our company and Medicore and their directors, including
loans and insurance coverage. We advanced funds to Medicore for working capital
requirements until Medicore sold Techdyne, Inc., another of its public
subsidiaries, in June, 2001. We also loaned Medicore $2,200,000 for its
financing and investment in Linux Global Partners, Inc. ("LGP"), a private
company involved, through its subsidiary, Xandros, Inc., in the development of a
Linux desktop product. LGP also invests in Linux software companies. Each of LGP
and Xandros is in the developmental stage, and are in need of financing.
Medicore repaid our loan in May and June, 2001, including approximately $294,000
of accrued interest.
In March, 2004, Medicore agreed to provide us with up to
$1,500,000 in dialysis equipment financing under a demand promissory note with
individual advances with interest at prime plus 1.25%.
Since Medicore holds a majority interest in us, there exists the
potential for conflicts between Medicore and us, and the responsibilities of our
management to our shareholders could conflict with the responsibilities owed by
management of Medicore to its shareholders.
THE LOSS OF CERTAIN EXECUTIVE PERSONNEL WITHOUT RETAINING QUALIFIED REPLACEMENTS
COULD ADVERSELY AFFECT OUR BUSINESS OPERATIONS, AND AS A RESULT, OUR REVENUES
AND EARNINGS COULD DECLINE
We are dependent upon the services of our executive officers,
Thomas K. Langbein, Chairman of the Board, who also holds that position with our
parent, Medicore, of which company he is also President and Chief Executive
Officer, and Stephen W. Everett, our Chief Executive Officer, President and a
director. Mr. Langbein has been involved with Medicore since 1971, when his
investment banking firm,
26
Todd & Company, Inc., took it public, and with us since we became a public
company in 1977 (originally a wholly-owned subsidiary of Medicore organized in
1976). Mr. Everett joined us in November, 1998 as Vice President, became
Executive Vice President in June, 1999, President on March 1, 2000, and Chief
Executive Officer in May, 2003. Mr. Everett has been involved in the healthcare
industry for 24 years. Mr. Langbein has an employment agreement with our parent
through February 28, 2009, which provides for non-competition within 20 miles of
Medicore's primary operations, with an option for Medicore to pay $4,000 per
month for 12 months for additional non-competition provisions. Mr. Everett has
an employment agreement with us 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, both individually
and combined, if lost, would adversely affect our 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.
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 market capitalization of
$35,000,000 or 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, there are different types of
deficiencies that may occur, with different cure periods:
o failure to meet the continued inclusion requirement for two
active market makers for 10 consecutive business days; cure
period, 30 calendar days from Nasdaq notification;
compliance required for a minimum of 10 consecutive business
days
o failure to meet the continued inclusion requirement for
$1,000,000 of market value of publicly held common stock for
30 consecutive business days; cure period, 90 calendar days
from Nasdaq notification; compliance required for a minimum
of 10 consecutive business days
o failure to meet the continued inclusion requirement for
$1.00 minimum bid price for 30 consecutive business days;
cure period of 180 calendar days from Nasdaq notification;
issuer is afforded an additional 180 day compliance period,
provided on the 180th day from Nasdaq notification of the
issuers 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
If a company is unable to demonstrate compliance, assuming any of
the above deficiencies, 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 that 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 that company's securities, and may be exposed to a risk of decline in
the market price of the common stock.
27
In November, 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. In December, 2000, we received notice from Nasdaq's Listing
Qualifications Department that our common stock failed to maintain a market
value of public float greater than $1,000,000 as required under Marketplace Rule
4310(c)(7), which was ultimately complied with. These situations relating to the
trading market qualifications are beyond our control. We cannot assure you we
will not be deficient in one or more listing maintenance criteria, whether
within or beyond our control that, without a timely cure and continued
compliance, 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
Our parent company owns 4,821,244 shares or approximately 59% of
our outstanding common stock. Our officers and directors and officers and
directors of our parent own approximately 981,000 shares of our common stock and
approximately 628,000 options exercisable into an additional 628,000 shares of
common stock. Most of the shares held by these officers and directors are not
freely tradable and are restricted from public sale. However, a registration
statement covering the sale of shares held by these officers, directors and
Medicore, may be effected, since these are controlling persons of the company,
and all their shares, including those issuable upon exercise of their options,
would then be eligible for resale in the public market without restriction.
Also, the officers' and directors' common stock now owned, as well as the shares
obtainable upon exercise of their options, 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 continuing to timely file our reports under the Exchange Act, and the
shares are sold 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 publicly tradable common stock, known as the float,
is approximately 2,212,000 shares. Approximately 981,000 shares of our common
stock are directly owned by our officers and directors and the officers and
directors of our parent, representing approximately 44% of the float, and
including the options for approximately 628,000 additional shares, approximately
73% 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 inhibit our ability to manage
subsequent equity or debt financing. If these shareholders sell substantial
amounts of our common stock, 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
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.
28
The Lemoyne property consists of approximately 15,000 square feet
and houses one of our dialysis centers which accounts for approximately 5,400
square feet, under a five year lease with us through December 22, 2008, with one
additional renewal period of five years. The center is approved for 17 dialysis
stations with space available for expansion. We use approximately 4,000 square
feet of the Lemoyne property for administrative offices.
We paid off the remaining balance on first mortgages on our
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 we guaranty. This loan had a
remaining principal balance of approximately $636,000 at December 31, 2003. See
Item 7, "Management's Discussions and Analysis of Financial Condition and
Results of Operations" and Note 2 to "Notes to Consolidated Financial
Statements."
We acquired property in Valdosta, Georgia in 2000, which property
is subject to a five year $788,000 mortgage obtained in April, 2001 with
interest at the prime rate plus 1/2% with a minimum rate of 6%, maturing in
April, 2006. This mortgage had a remaining principal balance of approximately
$715,000 at December 31, 2003. We constructed a dialysis center at this property
comprising approximately 6,000 square feet which we have leased to one of our
subsidiaries for $90,600 per year under a 10-year lease, with two additional
renewal periods of five years each.
For our Cincinnati, Ohio facility, we purchased the property, and
completed the construction of an approximately 5,000 square foot dialysis
facility at a cost of approximately $740,000. In February, 2003, we sold the
property to a corporation owned by the medical director of that facility, which,
in turn, leased the facility to our Cincinnati subsidiary for an initial term of
10 years from the commencement date of February 6, 2003, with two additional
five-year renewal periods. Annual rental fees remain the same for the first four
years of the lease, and thereafter increase annually based upon a percentage
increase in the CPI for the Cincinnati, Ohio area. $75,000 of tenant
improvements were funded by a loan by us to our majority owned Cincinnati
subsidiary operating this center for which the subsidiary issued to us a
five-year promissory note. The loan must be paid prior to that subsidiary paying
any other of its indebtedness, and earlier if at such time 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 our subsidiary sell additional limited liability interests, the proceeds
will first be used to repay the loan.
In addition to our Lemoyne, Pennsylvania, Valdosta, Georgia and
Cincinnati, Ohio facilities, we presently have 15 other dialysis centers,
including the facility in Toledo, Ohio in which we have a 40% interest, that
lease their respective facilities from unaffiliated parties, most under five to
ten year initial terms, usually with two additional renewal periods of five
years each, for space ranging from approximately 3,000 to 7,000 square feet. We
sublet a minimal amount of space at two of our dialysis centers to the
physicians who are our medical directors at those centers 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."
We lease approximately 2,300 square feet in Hanover, Maryland for
executive offices pursuant to a five year lease with one five year renewal
option. We are in the process of negotiating a lease for approximately twice the
space in Linthicum, Maryland, where we anticipate moving our executive offices
in the summer of 2004.
29
We are constructing a new center in Maryland and are actively
pursuing the additional development and acquisition of dialysis facilities in
other areas which would entail the acquisition or lease of additional property.
We construct most of our dialysis centers, which have
state-of-the-art equipment and facilities. Dialysis stations at our centers are
equipped with modern dialysis machines, most of which had been financed under a
November, 1996 master lease/purchase agreement. We now acquire our equipment,
currently from advances by our parent under a demand promissory note for up to
$1,500,000 with annual interest on advances at 1.25% over the prime rate. See
Item 7, "Management's Discussion and Analysis of Financial Condition and Results
of Operations," Item 13, "Certain Relationships and Related Transactions," and
Notes 2 and 15 to "Notes to Consolidated Financial Statements."
None of our 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 maintain executive offices at 1344 Ashton Road, Suite 201,
Hanover, Maryland 21076, and administrative offices at 27 Miller Street, Suite
2, Lemoyne, Pennsylvania 17043, as well as at our parent's facility at 2337 West
76th Street, Hialeah, Florida 33016.
ITEM 3. LEGAL PROCEEDINGS
In July, 2002, the company 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 was seeking damages and costs of
the legal action. 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. On February 19, 2004,
the case was settled, the specific terms of which are confidential. On that
date, the court ordered the dismissal of the action by each party, with a right
to reinstate for good cause, and the parties to consummate the settlement within
60 days.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted during the fourth quarter of our fiscal
year ended December 31, 2003 to a vote of security holders through the
solicitation of proxies or otherwise.
Medicore owns approximately 59% of our equity. We provide our
shareholders with an Information Statement and an Annual Report. The Information
Statement provides similar information to shareholders as does a proxy
statement, but based upon the controlling interest our parent holds in us, we
are not required to and do not solicit proxies. Shareholders of record on April
16, 2004 are entitled to vote at the annual meeting scheduled for June 3, 2004
will receive an Information Statement which provides, among other information as
to the annual meeting, certain information relating to "Directors and
30
Executive Officers," "Executive Compensation," "Security Ownership of Certain
Beneficial Owners and Management and Related Stockholder Matters" "Certain
Relationships and Related Transactions," and "Principal Accountant Fees and
Services," which information is incorporated by reference into this Annual
Report on Form 10-K. See Part III of this Annual Report, Items 10 through 14.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES
PRICE RANGE
Our common stock trades on the Nasdaq SmallCap Market under the
symbol "DCAI." The following table indicates the high and low bid prices for our
common stock for each of the four quarters for the years ended December 31, 2002
and 2003 as reported by Nasdaq.
BID PRICE
------------------
2002 HIGH LOW
---- ----- -----
1st Quarter $1.90 $1.40
2nd Quarter 3.68 1.18
3rd Quarter 2.25 1.00
4th Quarter 2.19 1.46
BID PRICE
------------------
2003 HIGH LOW
---- ----- -----
1st Quarter $2.09 $1.70
2nd Quarter 2.21 1.70
3rd Quarter 2.66 1.63
4th Quarter 4.26 2.37
At March 15, 2004, the high and low sales prices of our common
stock were $4.78 and $4.52, respectively.
Bid prices represent prices between brokers, and do not include
retail mark-ups, mark-downs or any commission, and may not necessarily represent
prices in actual transactions.
STOCKHOLDERS
At March 15, 2004, we had 121 shareholders of record as reported
by our transfer agent. We have been advised by ADP, which organization holds
securities for banks, brokers and depositories, that there are currently
approximately 1,272 beneficial owners of our common stock.
DIVIDEND POLICY
Dialysis Corporation of America has never paid a dividend and
does not anticipate that it will pay dividends in the foreseeable future. The
board of directors intends to retain earnings for use in the business. Future
dividend policy will be at the discretion of the board of directors, and will
depend on our
31
earnings, capital requirements, financial condition and other similar relevant
factors. Any determination to pay a dividend is also subject to one of the
covenants in the mortgage on our Valdosta, Georgia property (see Item 2,
"Properties") which restricts the payment of dividends above 25% of our net
worth. Also, until 2001, we had experienced operational losses and were not able
to pay dividends. See Item I, "Business - Risk Factors," Item 6, "Selected
Financial Data," and Item 7, "Management's Discussion and Analysis of Financial
Condition and Results of Operations."
EQUITY COMPENSATION PLAN
The following table provides certain information with respect to
the one equity compensation plan approved by shareholders in effect at December
31, 2003. There are no equity compensation plans outstanding that were not
approved by shareholders.
Number of securities
remaining available for
Number of securities to be Weighted-average future issuance under equity
issued upon exercise of exercise price of compensation plans
outstanding options, warrants outstanding options, (excluding securities reflected
and rights warrants and rights in column (a))
----------------------------- -------------------- -------------------------------
Plan Category (a) (b) (c)
- -------------------------------------------------------------------------------------------------------------------------
Equity compensation plans
approved by security holders: (1) 1,191,716(1) $.716 954,000
- ------------
(1) The options are five years in duration (except 10,000 options for three
years), 994,716 vested and 197,000 non-vested, expire at various dates
between April 20, 2004 and August 18, 2006, contain anti-dilution
provisions providing for adjustments of the exercise price under certain
circumstances and have termination provisions.
SALE OF SECURITIES NOT REGISTERED UNDER THE SECURITIES ACT
There were no sales of our securities, registered or
unregistered, under the Securities Act of 1933, as amended (the "Securities
Act"), except under option exercises which were exempt from the registration
requirements of Section 5 of the Securities Act under the private placement
exemption of Section 4(2) and/or Regulation D of the Securities Act, based on
the limited number of optionees who are officers, directors and/or key
employees. See Item 11, "Executive Compensation," Item 12, "Security Ownership
of Certain Beneficial Owners and Management and Related Stockholder Matters,"
and Note 6 to "Notes to Consolidated Financial Statements."
STOCK REPURCHASES
In September, 2000, the board of directors authorized the company
to buy back up to 600,000 shares of its common stock within the range of the
then prevailing market price of $.44 per share. In the fourth quarter of 2003,
the company made no repurchases of its common stock. See Note 9 to "Notes to
Consolidated Financial Statements."
32
ITEM 6. SELECTED FINANCIAL DATA
The following selected financial data for the five years ended
December 31, 2003 is derived from the audited consolidated financial statements
of the company and its subsidiaries. The consolidated financial statements and
related notes for the three years ended December 31, 2003, together with the
related Reports of Independent Certified Public Accountants, are included
elsewhere in this Annual Report on Form 10-K. The data should be read in
conjunction with the consolidated financial statements, related notes and other
financial information included herein, and Item 7, "Management's Discussion and
Analysis of Financial Condition and Results of Operations."
CONSOLIDATED STATEMENTS OF OPERATIONS DATA
(in thousands except per share amounts)
Years Ended December 31,
------------------------------------------------------
2003 2002 2001 2000 1999
-------- -------- -------- -------- --------
Revenues ............................. $ 30,278 $ 25,607 $ 19,441 $ 9,247 $ 5,866
Net income (loss) .................... 1,150 1,242 784 (356) (668)
Earnings (loss) per share(1)
Basic .............................. .15 .16 .10 (.05) (.09)
Diluted ............................ .13 .14 .10 (.05) (.09)
CONSOLIDATED BALANCE SHEET DATA
(in thousands)
December 31,
------------------------------------------------------
2003 2002 2001 2000 1999
-------- -------- -------- -------- --------
Working capital ...................... $ 3,773 $ 4,593 $ 3,883 $ 3,869 $ 4,152
Total assets ......................... 19,604 17,154 15,683 11,177 9,036
Intercompany payable (receivable) from
Medicore (non-current portion) ..... 234 -- (201) (414) (105)
Long term debt, net of current portion 2,097 2,727 2,935 1,755 870
Stockholders' equity ................. 10,970 9,727 8,485 7,799 7,260
- ----------
(1) All share and per share data retroactively adjusted for two-for-one stock
split effected January 28, 2004.
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 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. Our discussion of MD&A should be read in
conjunction
33
with our consolidated financial statements, including the notes, included
elsewhere in this Annual Report on Form 10-K. Please also review the Cautionary
Notice Regarding Forward-Looking Information on page one of this Annual Report.
OVERVIEW
Dialysis Corporation of America provides dialysis services,
primarily kidney dialysis treatments through 19 outpatient dialysis centers,
including a 40% owned Ohio affiliate and one unaffiliated dialysis center which
it manages, to patients with chronic kidney failure, also know as end-stage
renal disease or ESRD. We provide dialysis treatments to dialysis patients of
seven hospitals and medical centers through acute inpatient dialysis services
agreements with those entities. We provide homecare services, including home
peritoneal dialysis through method II services, the latter relating to providing
patients with supplies and equipment.
The following table shows the number of in-center, home
peritoneal and acute inpatient treatments performed by us through the dialysis
centers we operate, including the two centers we manage, one in which we have a
40% ownership interest, and those hospitals and medical centers with which we
have inpatient acute service agreements for the periods presented:
YEAR ENDED DECEMBER 31,
------------------------------------
2003 2002 2001
------- ------- -------
In center 103,025 86,475 63,803
Home peritoneal 7,193 4,504 2,824
Acute 8,010 9,116 9,412
------- ------- -------
118,228(1) 100,095(1) 76,039(1)
======= ======= =======
- ---------
(1) Treatments by the two managed centers included: in-center treatments of
11,081, 6,563 and 3,156, respectively, for 2003, 2002 and 2001; no home
peritoneal treatments; and acute treatments of 156, 87 and 157,
respectively, for 2003, 2002 and 2001.
We also provide ancillary services associated with dialysis
treatments, including the administration of EPO for the treatment of anemia in
our dialysis patients. EPO is currently available from only one manufacturer,
and no alternative drug has been available to us for the treatment of anemia in
our dialysis patients. If our available supply of EPO were reduced either by the
manufacturer or due to excessive demand, our revenues and net income would be
adversely affected. The manufacturer of EPO increased its price in early 2003,
and could implement further price increases which would adversely affect our net
income. This manufacturer has developed another anemia drug that could possibly
substantially reduce our revenues and profit from the treatment of anemia in our
patients.
ESRD patients must either obtain a kidney transplant or obtain
regular dialysis treatments for the rest of their lives. Due to a lack of
suitable donors and the possibility of transplanted organ rejection, the most
prevalent form of treatment for ESRD patients is hemodialysis through a kidney
dialysis machine. Hemodialysis patients usually receive three treatments each
week with each treatment lasting between three and five hours on an outpatient
basis. Although not as common as hemodialysis in an outpatient facility, home
peritoneal dialysis is an available treatment option, representing the third
most common type of ESRD treatment after outpatient hemodialysis and kidney
transplantation.
34
Approximately 62% of our medical service revenues are derived
from Medicare and Medicaid reimbursement with rates established by CMS, and
which rates are subject to legislative changes. Over the last two years,
Medicare reimbursement rates have not increased. Dialysis is typically
reimbursed at higher rates from private payors, such as a patient's insurance
carrier, as well as higher payments received under negotiated contracts with
hospitals for acute inpatient dialysis services.
The following table shows the breakdown of our revenues by type
of payor for the periods presented:
YEAR ENDED DECEMBER 31,
-----------------------
2003 2002 2001
---- ---- ----
Medicare 54% 49% 48%
Medicaid and comparable programs 8% 9% 11%
Hospital inpatient dialysis services 7% 10% 15%
Commercial insurers and other private payors 31% 32% 26%
---- ---- ----
100% 100% 100%
==== ==== ====
Our medical service revenues are derived primarily from four
sources: outpatient hemodialysis services, home peritoneal dialysis services,
inpatient hemodialysis services and ancillary services. The following table
shows the breakdown of our medical service revenues (in thousands) derived from
our primary revenue sources and the percentage of total medical service revenue
represented by each source for the periods presented:
YEAR ENDED DECEMBER 31,
----------------------------------------------------------
2003 2002 2001
----------------- ----------------- -----------------
Outpatient hemodialysis services $14,760 50% $12,796 51% $ 9,167 48%
Home peritoneal dialysis services 1,294 4% 823 3% 475 3%
Inpatient hemodialysis services 2,114 7% 2,546 10% 2,742 14%
Ancillary services 11,508 39% 8,997 36% 6,536 35%
------- ------- ------- ------- ------- -------
$29,676 100% $25,162 100% $18,920 100%
======= ======= ======= ======= ======= =======
The healthcare industry is subject to extensive regulation by
federal and state authorities. There are a variety of fraud and abuse measures
to combat waste, including anti-kickback regulations and extensive prohibitions
relating to self-referrals, violations of which are punishable by criminal or
civil penalties, including exclusion from Medicare and other governmental
programs. Unanticipated changes in healthcare programs or laws could require us
to restructure our business practices which, in turn, could materially adversely
affect our business, operations and financial condition. See Item 1, "Business -
Government Regulation." We have developed a Corporate Integrity Program to
assure that we provide the highest level of patient care and services in a
professional and ethical manner consistent with applicable federal and state
laws and regulations. Among the different programs is our Compliance Program,
which has been implemented to assure our compliance with fraud and abuse laws
and to supplement our existing policies relating to claims submission, cost
report preparation, initial audit and human resources, all geared towards a
cost-efficient operation beneficial to patients and shareholders. 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 our ability to manage the development
costs for these potential dialysis centers while competing with larger
companies, some of which are public companies or divisions of public companies
with greater numbers of personnel and
35
financial resources available for acquiring and/or developing dialysis centers
in areas targeted by us. Additionally, there is intense competition for
qualified nephrologists who would serve as medical directors of dialysis
facilities, and be responsible for the supervision of those dialysis centers.
There is no assurance as to when any new dialysis centers or inpatient service
contracts with hospitals will be implemented, or the number of stations, or
patient treatments such center or service contract may involve, or if such
center or service contract will ultimately be profitable. It has been our
experience that newly established dialysis centers, although contributing to
increased revenues, have adversely affected our results of operations in the
short term due to start-up costs and expenses and a smaller patient base.
RESULTS OF OPERATIONS
The following table shows our results of operations (in
thousands) and the percentage of medical service revenue represented by each
line item for the periods presented:
YEAR ENDED DECEMBER 31,
----------------------------------------------------------
2003 2002 2001
----------------- ----------------- ------------------
Medical service revenue $ 29,676 100.0% $ 25,162 100.0% $ 18,920 100.0%
Interest and other income 602 2.0% 444 1.8% 521 2.8%
-------- ----- -------- ----- -------- -----
Total revenues 30,278 102.0% 25,606 101.8% 19,441 102.8%
Cost of medical services 18,221 61.4% 15,067 59.9% 12,022 63.5%
Selling, general and administrative expenses 9,357 31.5% 7,500 29.8% 5,583 29.5%
Provision for doubtful accounts 290 1.0% 720 2.9% 659 3.5%
Interest expense 203 0.7% 220 0.9% 211 1.1%
-------- ----- -------- ----- -------- -----
Total cost and expenses 28,071 94.6% 23,507 93.4% 18,475 97.6%
-------- ----- -------- ----- -------- -----
Income before income taxes, minority interest
and equity in affiliate earnings 2,207 7.4% 2,099 8.3% 966 5.1%
Income tax provision 878 3.0% 771 3.1% 80 0.4%
-------- ----- -------- ----- -------- -----
Income before minority interest and
equity in affiliate earnings 1,329 4.5% 1,328 5.3% 886 4.7%
Minority interest in income of
consolidated subsidiaries 223 0.8% 155 0.6% 86 0.5%
Equity in affiliate earnings (loss) 44 0.1% 69 0.3% (16) (0.1)%
-------- ----- -------- ----- -------- -----
Net income $ 1,150 3.9% $ 1,242 4.9% $ 784 4.1%
======== ===== ======== ===== ======== =====
2003 COMPARED TO 2002
Medical service revenues increased approximately $4,514,000 (18%)
for the year ended December 31, 2003, compared to the preceding year with the
increase largely attributable to a 14% increase in total dialysis treatments
performed by us from 93,445 in 2002 to 106,991 in 2003. This increase reflects
increased revenues of approximately $1,998,000 for our Pennsylvania dialysis
centers,
36
decreased revenues of $95,000 for our New Jersey centers reflecting termination
of our two New Jersey acute care contracts during 2002; increased revenues of
$674,000 for our Georgia centers, revenues of approximately $1,255,000 for our
new Maryland center; revenues of approximately $709,000 for our new Ohio center;
and a decrease in consulting and license income of approximately $27,000.
Interest and other income increased by approximately $158,000 for
the year ended December 31, 2003, compared to the preceding year. This includes
an increase in interest income of $7,000; an increase in management fee income
of $129,000 pursuant to management service agreements with our 40% owned Toledo,
Ohio affiliate and an unaffiliated Georgia center with which we entered a
management services agreement effective September 2002; an increase in
miscellaneous other income of $6,000 and an increase in rental income of
$16,000.
Cost of medical services sales as a percentage of sales increased
to 61% for the year ended December 31, 2003, compared to 60% for the preceding
year which increase is primarily attributable to costs for treatments at new
dialysis centers prior to Medicare approval of those centers for which there
were no corresponding medical service revenues; increases in the cost of EPO as
a percentage of EPO sales revenues; and increases in the cost of professional
liability insurance.
The cost of our professional liability insurance coverage
increased by $43,000 or 62% for the year ended December 31, 2003, compared to
the preceding year. While a portion of this increase is attributable to our new
centers and overall increase in treatments, a substantial portion of the cost
increase relates to the general market conditions for professional liability
coverage of reduced availability and higher costs for this coverage. Continued
cost increases for professional liability coverage could adversely impact our
earnings.
Approximately 28% of our medical services revenues for the year
ended December 31, 2003 was derived from the administration of EPO to our
dialysis patients compared to 26% for the preceding year. This drug is only
available from one manufacturer in the United States which raised the price for
its product in January, 2003. Continued price increases for this product without
our ability to increase our charges would increase our costs and thereby
adversely impact our earnings. We cannot predict the timing, if any, or extent
of any future price increases by the manufacturer, or our ability to offset any
such increases.
Selling, general and administrative expenses, those corporate and
facility costs not directly related to the care of patients, including, among
others, administration, accounting and billing, increased by approximately
$1,857,000 for the year ended December 31, 2003, compared to the preceding year.
This increase reflects operations of our new dialysis centers in Ohio and
Maryland, and increased support activities resulting from expanded operations.
Selling, general and administrative expenses as a percentage of medical services
revenues increased to approximately 32% for the year ended December 31, 2003,
compared to 30% for the preceding year, including patient treatment expenses of
new centers incurred prior to Medicare approval for which there were no
corresponding medical service revenues.
Provision for doubtful accounts decreased approximately $430,000,
largely as a result of Medicare bad debt recoveries of approximately $341,000
during 2003 compared to approximately $52,000 for the preceding year. Without
the effect of the Medicare bad debt recoveries the provision would have amounted
to 2% of sales for the year ended December 31, 2003 compared to 3% for the
preceding year. This change reflects our collection experience with the impact
of that experience included in accounts receivable presently reserved, plus
recovery of accounts previously considered
37
uncollectible from our Medicare cost report filings. The provision for doubtful
accounts 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 centers have resulted in
additional revenues, certain of these centers are still in the developmental
stage and, accordingly, their operating results adversely impact our overall
results of operations until they achieve a patient count sufficient to sustain
profitable operations.
We experienced same-center growth in total treatments of
approximately 7% in 2003, and same-center revenues grew approximately 9% in
fiscal 2003. Management continues to search for ways to operate more efficiently
and reduce costs through process improvements. In addition, we are reviewing
technological improvements and intend to make capital investments to the extent
we are confident such improvements will improve patient care and operating
performance.
Interest expense decreased by approximately $17,000 for the year
ended December 31, 2003, compared to the preceding year, reflecting lower
interest rates on variable rate debt and reduced average borrowings by us.
Minority interest represents the proportionate equity interests
of minority owners of our subsidiaries whose financial results are included in
our consolidated results. The increase in minority interest resulted from
financial improvements of the related subsidiaries.
Equity in affiliate earnings represents our proportionate
interest in the earnings of our 40% owned Ohio affiliate.
The prime rate was 4.00% at December 31, 2003 and 4.25% at
December 31, 2002.
Accrued compensation of $186,000 was bonused to the board of
directors relating to the exercise of a portion of their outstanding stock
options, amounting to an aggregate of 95,619 shares acquired at exercise prices
ranging from $1.25 to $1.50.
2002 COMPARED TO 2001
Medical service revenues increased approximately $6,243,000 (33%)
for the year ended December 31, 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 $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 $4,454,000 for our
Georgia centers, two of which became operational during 2001 which contributed
$3,263,000 additional revenues in 2002 and another being acquired in April 2002
for which 2002 revenues amounted to $1,212,000; and a decrease in consulting and
license income of approximately $87,000.
Interest and other income decreased by approximately $77,000 for
the year ended December 31, 2002, compared to the preceding year. This includes
a decrease in interest from our parent of $120,000 for the year ended December
31, 2002 compared to the preceding year, consisting of interest on a note
38
receivable and an advance receivable, primarily due to our parent's repayment of
the note; a decrease in other interest income of $13,000 primarily due to a
decrease in average interest rates; an increase in management fee income of
$76,000 pursuant to a management services agreement with our 40% owned Toledo,
Ohio affiliate and an unaffiliated Georgia center with which we entered a
management services agreement effective September 2002; a decrease in
miscellaneous other income of $26,000 and an increase in rental income of
$6,000.
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. We receive approximately 26% of our medical services
revenues 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 would 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, those corporate and
facility costs not directly related to the care of patients, including, among
others, administration, accounting and billing, increased by approximately
$1,917,000 for the year ended December 31, 2002, compared to the preceding year.
This increase reflects operations of our 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 increased support activities
resulting from expanded operations. Although selling, general and administrative
expenses increased, as a percent of medical service revenues these expenses
remained relatively constant amounting to 30% for the year ended December 31,
2002, and for the preceding year.
Provision for doubtful accounts increased approximately $61,000,
largely as a result of increased sales revenues. The provision remained
relatively constant amounting to 3% of sales for the year ended December 31,
2002 and for the preceding year. The provision for doubtful accounts 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 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.
The company experienced same-center growth in total treatments of
approximately 18% in 2002. Same-center revenues grew 22% in fiscal 2002. The
company made an acquisition in May 2002 of a facility in Georgia that added 4%
to revenue. 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 $9,000 for the year
ended December 31, 2002, compared to the preceding year primarily as a result of
additional equipment financing agreements with the increase tempered to some
extent by decreased interest rates.
39
The prime rate was 4.25% at December 31, 2002 and 4.75% at
December 31, 2001.
Accrued compensation of approximately $100,000 was bonused to the
board of directors on a pro rata basis for exercise of a portion of their
options, amounting to 79,642 shares at exercise prices ranging from $1.25 to
$1.50, representing approximately 14% of the directors' aggregate options and
approximately 12% of all outstanding options.
LIQUIDITY AND CAPITAL RESOURCES
Working capital totaled approximately $3,773,000 at December 31,
2003, which reflected a decrease of $820,000 (18%) during the current year.
Included in the changes in components of working capital was a decrease in cash
and cash equivalents of $1,057,000, which included net cash provided by
operating activities of $1,696,000, net cash used in investing activities of
$2,479,000 (including additions to property and equipment of $1,656,000,
acquisition payments to a minority member in two of our subsidiary dialysis
centers to acquire an aggregate of 30% of such member's interest in each of such
subsidiaries, $75,000 for the acquisition of a Georgia dialysis center; $150,000
in loans to physician affiliates, and $77,000 distributions received from our
40% owned Ohio affiliate); and net cash used in financing activities of $274,000
(including an increase in advances to our parent of $234,000, debt repayments of
$587,000, $204,000 in capital contributions by a subsidiary minority member,
distributions to subsidiary minority members of $119,000, $42,000 for the
repurchase of shares of our common stock and $35,000 of receipts from the
exercise of stock options). In addition to an increase of $1,397,000 in accounts
receivable due primarily to the operation of new centers, working capital
reflects an increase in amounts refundable to insurance companies of $488,000
and a payable of $670,000 on subsidiary minority interest acquisitions. See
Notes 1 and 11 to "Notes to Consolidated Financial Statements."
Our Easton, Maryland building has a mortgage to secure a
development loan for our Vineland, New Jersey subsidiary, which loan is
guaranteed by us. This loan had a remaining principal balance of $636,000 at
December 31, 2003 and $662,000 at December 31, 2002. In April, 2001, we obtained
a $788,000 five-year mortgage on our building in Valdosta, Georgia, which had an
outstanding principal balance of approximately $715,000 at December 31, 2003 and
$753,000 at December 31, 2002. See Item 2, "Properties" and Note 2 to "Notes to
Consolidated Financial Statements."
We have an equipment financing agreement for kidney dialysis
machines for our facilities, which had an outstanding balance of approximately
$1,321,000 at December 31, 2003, and $1,844,000 at December 31, 2002. There was
no additional equipment financing during 2003. See Note 2 to "Notes to
Consolidated Financial Statements."
We opened centers in Cincinnati, Ohio and Chevy Chase, Maryland
in February, 2003 and acquired a center in Georgia in April, 2003. We ceased
operations at our Homerville, Georgia center during 2003 as a result of that
center not performing up to expectations. We opened three new centers in the
first quarter of 2004, one each in Pennsylvania, Virginia and South Carolina,
and we are in the process of constructing a new center in Maryland.
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
40
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 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 and are presently in different phases of
negotiations with physicians for the development of additional outpatient
centers. Such expansion requires capital. We have been funding our expansion
through internally generated cash flow. Our future expansion may require us to
seek outside financing. While we anticipate that financing will be available
either from a financial institution or our parent company, Medicore, which is
currently providing us with equipment financing, no assurance can be given that
we will be successful in implementing our growth strategy or that adequate
financing will be available to support our expansion. See Item 1, "Business -
Business Strategy."
AGGREGATE CONTRACTUAL OBLIGATIONS
As of December 31, 2003, the Company's contractual obligations,
including payments due by period, are as follows:
Payments due by period
-----------------------------------------------------------------------
Less than More than
Total 1 year 1-3 years 3-5 years 5 years
----------- ----------- ----------- ----------- -----------
Long-term debt $ 2,672,355 $ 574,871 $ 1,465,546 $ 631,938 $ --
Operating leases 6,362,737 1,008,571 1,853,583 1,531,247 1,969,336
Purchase obligations:
Medical services 2,065,406 622,406 862,457 428,567 151,976
Construction contracts 661,512 661,512 -- -- --
----------- ----------- ----------- ----------- -----------
Total purchase
obligations 2,726,918 1,283,918 862,457 428,567 151,976
----------- ----------- ----------- ----------- -----------
$11,762,010 $ 2,867,360 $ 4,181,586 $ 2,591,752 $ 2,121,312
=========== =========== =========== =========== ===========
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 is
effective for exit or disposal activities initiated after December 31, 2002, is
not expected to have a material impact on our results of operation, financial
position or cash flows. See Note 1 to "Notes to Consolidated Financial
Statements."
In November, 2002, the FASB issued Interpretation No. 45,
"Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others" (FIN 45), which is effective for
periods ending after December 15, 2002. We do not expect FIN 45 to have a
material impact on our financial position or results of operations. See Note 1
to "Notes to Consolidated Financial Statements."
41
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 our results of operations,
financial position or cash flows. See Note 1 to "Notes to Consolidated Financial
Statements."
In January, 2003, the FASB issued Interpretation No. 46,
"Consolidation of Variable Interest Entities" (FIN 46), for which certain
disclosure requirements apply to financial statements issued after January 31,
2003. FIN 46 contains consolidation requirements regarding variable interest
entities which are applicable depending on when the variable interest entity was
created. We do not expect FIN 46 to have a material impact on our financial
position or results of operations. See Note 1 to "Notes to Consolidated
Financial Statements."
In May, 2003, the FASB issued Statement of Financial Accounting
Standards No. 150, "Accounting for Certain Financial Instruments with
Characteristics of Both Liabilities and Equity" (FAS 150), which is effective
for financial instruments entered into or modified after May 31, 2003. We do not
expect FAS 150 to have a material impact on our results of operations, financial
position or cash flows. 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, MD&A, 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.
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 net of contractual
provisions. Contractual provisions are the difference between our gross billed
revenues and what we expect to collect. We receive payments through
reimbursement from Medicare and Medicaid for our outpatient dialysis treatments
coupled with patients' private payments, individually and through private
third-party insurers. A substantial portion of our 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
42
the composite rate. Medicaid reimbursement is similar and supplemental to the
Medicare program. Our 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. We have
developed a sophisticated information and computerized coding system, but due to
the complexity of the payor mix and regulations, we sometimes receive more or
less than the amount expected when the services are provided. We reconcile any
differences at least quarterly.
Allowance for Doubtful Accounts: We maintain an allowance for
doubtful accounts for estimated losses resulting from the inability of our
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 patients and the insurance companies to make their
required payments, which would have an adverse effect on cash flows and our
results of operations. 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 the aging of accounts receivable
to establish an allowance for losses on accounts receivable.
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 for 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 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. A substantial portion of our revenue is subject to reimbursement
rates established and regulated by the federal government. These
43
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. See "Operations - Medicare
Reimbursement," "Government Regulation," and "Risk Factors" under Item 1,
"Business." Therefore, dialysis services revenues cannot be voluntary increased
to keep pace with increases in nursing and other patient care costs. Increased
operating costs without a corresponding increase in reimbursement rates may
adversely affect our earnings in the future.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
We do not consider our exposure to market risks, principally
changes in interest rates, to be significant.
Sensitivity of results of operations to interest rate risks on
our investments is managed by conservatively investing funds in liquid interest
bearing accounts of which we held approximately $1,510,000 December 31, 2003.
Interest rate risk on debt is managed by negotiation of
appropriate rates for equipment financing and other fixed rate obligations based
on current market rates. There is an interest rate risk associated with our
variable rate mortgage obligations, which totaled approximately $1,351,000 at
December 31, 2003.
On March 17, 2004, we issued a demand promissory note to our
parent, Medicore, for up to $1,500,000 of financing for equipment purchases at
an interest rate of 1.25% over the prime rate. Variable rate debt may result in
higher costs to us if interest rates rise.
We have exposure to both rising and falling interest rates.
Assuming a relative 15% decrease in rates on our year-end investments in
interest bearing accounts and a relative 15% increase in rates on our year-end
variable rate mortgage debt would result in a negative annual impact of
approximately $8,000 on our results of operations.
We do not utilize financial instruments for trading or
speculative purposes and do not currently use interest rate derivatives.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The response to this item is submitted as a separate section to
this annual report, specifically, Part IV, Item 15, "Exhibits, Financial
Statement Schedules and Reports on Form 8-K," subpart (a)1, "All Financial
Statements - See Index to Consolidated Financial Statements," and subpart (a)2,
"Financial Statement Schedules - See Index to Consolidated Financial
Statements."
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Effective on November 7, 2003, the filing date of our Quarterly
Report on Form 10-Q for the quarter ended September 30, 2003 ("September
Quarterly Report"), our independent accountants, Wiss & Company,
44
LLP, determined to discontinue audit services to its SEC registrant clients,
including us. Our audit committee authorized the appointment of Moore Stephens,
P.C. to serve as our new independent auditors and for tax preparation services
for fiscal 2003. Moore Stephens was formally engaged on January 9, 2004.
Wiss & Company's resignation was reported in our September
Quarterly Report, and the retention of Moore Stephens was reported on our
Current Report on Form 8-K dated January 12, 2004, as amended on Current Report
on Form 8-K/A#1 dated February 3, 2004.
For further details of the termination of Wiss & Company and the
retention of Moore Stephens, you are referred to the caption "Proposal No. 2,
Ratification of Moore Stephens, P.C. as Independent Auditors" of our Information
Statement relating to our Annual meeting of Shareholders anticipated to be held
on June 3, 2004, which is incorporated herein by reference.
ITEM 9A. CONTROLS AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures.
As of the end of the period covered by this Annual Report on Form
10-K for the year ended December 31, 2003, we carried out an evaluation, under
the supervision and with the participation of our management, including our
Chief Executive Officer and President, 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 (the
"Exchange Act"), which disclosure controls and procedures are designed to
provide reasonable assurance 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 Chief Executive Officer
and President, and the Principal Financial Officer concluded that our disclosure
controls and procedures are effective in timely alerting them to material
information relating to us (including our consolidated subsidiaries) required to
be included in our periodic SEC filings.
(b) Changes in Internal Control.
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.
45
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Our executive officers are appointed each year by our board of
directors at its first meeting following the annual meeting of shareholders, to
serve during the ensuing year. The following information indicates each of their
positions and ages at March 12, 2004. There are no family relationships between
any of our executive officers and directors.
Name Age Position Held Since
- ---- --- -------- ----------
Thomas K. Langbein 58 Chairman of the Board 1980
Stephen W. Everett 47 Chief Executive Officer 2003
President and director 2000
Mike Rowe 42 Vice President of Operations 2002
Daniel R. Ouzts 57 Vice President of Finance,
and Treasurer (Principal
Financial Officer) 2003*
* Vice President of Finance and Treasurer from 1996 until January, 2002, and
from July, 2003, to the present; was not Principal Financial Officer for
2002 and the six months ended June 30, 2003.
For more detailed information about our executive officers and
directors you are referred to the caption "Information About Directors and
Executive Officers" of our Information Statement relating to the annual meeting
of shareholders anticipated to be held on June 3, 2004, which is incorporated
herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
Information on executive compensation is included under the
caption "Executive Compensation" of our Information Statement relating to the
annual meeting of shareholders anticipated to be held on June 3, 2004,
incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
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 Information Statement relating to the annual
meeting of shareholders anticipated to be held on June 3, 2004, 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 Information Statement relating to
the annual meeting of shareholders anticipated to be held on June 3, 2004,
incorporated herein by reference.
46
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 Information Statement relating to the annual meeting of shareholders
anticipated to be held on June 3, 2004, incorporated herein by reference.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
Information relating to principal accountant fees and services is
included under the caption "Proposal No. 2 - Ratification of the Appointment of
the Independent Auditors" of our Information Statement relating to the annual
meeting of shareholders anticipated to be held on June 3, 2004, incorporated
herein by reference.
47
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 the fourth quarter.
One Current Report on Form 8-K was filed on October 28, 2003 re: Item
5, "Other Events and Required FD Disclosure," concerning two new
dialysis facility leases.
(c) Exhibits +
3.1 Articles of Incorporation++
3.2 By-Laws of the Company++
4.1 Form of Common Stock Certificate of the Company++
10 Material Contracts
10.1 Lease between DCA of Wellsboro, Inc. (formerly Dialysis
Services of Pennsylvania, Inc. - Wellsboro)(1) and James and
Roger Stager dated January 15, 1995 (incorporated by reference
to Medicore, Inc.'s(2) Annual Report on Form 10-K for the year
ended December 31, 1994 ("1994 Medicore Form 10-K"), Part IV,
Item 14(a) 3 (10)(lxii)).
10.2 Lease between the Company and DCA of Lemoyne, Inc. (formerly
Dialysis Services of Pennsylvania, Inc. - Lemoyne)(1) dated
December 23, 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)(ii)).
10.3 Renewal of Lease between the Company and DCA of Lemoyne,
Inc.(1) dated December 30, 2003.
10.4 Medical Director Agreement between DCA of Wellsboro, Inc.
(formerly Dialysis Services of Pennsylvania, Inc. -
Wellsboro)(1) and George Dy, M.D. dated September 29, 1994 [*]
(incorporated by reference to Medicore, Inc.'s(2) Quarterly
Report on Form 10-Q for the quarter ended September 30, 1994
as amended January, 1995 ("September, 1994 Medicore(2) Form
10-Q"), Part II, Item 6(a)(10)(i)).(3)
48
10.5 Agreement for In-Hospital Dialysis Services(4) between
Dialysis Services of Pennsylvania, Inc. - Wellsboro(1) and
Soldiers & Sailors Memorial Hospital dated September 28, 1994
[*] (incorporated by reference to September, 1994 Medicore(2)
Form 10-Q, Part II, Item 6(a)(10)(ii)).
10.6 Lease between DCA of Carlisle, Inc. (formerly Dialysis
Services of PA., Inc. - Carlisle)(5) and Lester P. Burkholder,
Jr. and Kirby K. Burkholder dated November 1, 1996
(incorporated by reference to the Company's Annual Report on
Form 10-K for the year ended December 31, 1996 ("1996 Form
10-K"), Part IV, Item 14(a) 3 (10)(xxiii)).
10.7 Lease between DCA of Manahawkin, Inc. (formerly Dialysis
Services of NJ., Inc. - Manahawkin)(5) and William P. Thomas
dated January 30, 1997 (incorporated by reference to the
Company's 1996 Form 10-K, Part IV, Item 14(a) 3 (10)(xxiv)).
10.8 Renewal of Lease between DCA of Manahawkin, Inc.(5) and
William P. Thomas dated February 20, 2004.
10.9 Equipment Master Lease Agreement BC-105 between the Company
and B. Braun Medical, Inc. dated November 22, 1996
(incorporated by reference to the Company's 1996 Form 10-K,
Part IV, Item 14(a) 3 (10)(xxvii)).
10.10 Schedule of Leased Equipment 0597 commencing June 1, 1997 to
Master Lease BC-105 (incorporated by reference to the
Company's Quarterly Report on Form 10-Q for the quarter ended
June 30, 1997 ("June, 1997 10-Q"), Part II, Item 6(a), Part
II, Item 10(i)).(6)
10.11 Lease between DCA of Chambersburg, Inc. (formerly Dialysis
Services of Pa., Inc. - Chambersburg)(5) and BPS Development
Group dated April 13, 1998 (incorporated by reference to the
Company's March, 1998 Form 10-Q, Part II, Item 6(a), Part II,
Item 10(i)).
10.12 1999 Stock Option Plan of the Company (May 21, 1999)
(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)(xxiii)).
10.13 Form of Stock Option Certificate under the 1999 Stock Option
Plan (May 21, 1999) (incorporated by reference to the
Company's 1999 Form 10-K, Part IV, Item 14(c)(10)(xxiv)).
10.14 Lease between DCA of Vineland, LLC(7) and Maintree Office
Center, L.L.C. dated May 10, 1999 (incorporated by reference
to the Company's 1999 Form 10-K, Part IV, Item
14(c)(10)(xxv)).
10.15 Management Services Agreement(8) between the Company and DCA
of Vineland, LLC(7) dated April 30, 1999 (incorporated by
reference to the Company's 1999 Form 10-K, Part IV, Item
14(c)(10)(xxviii)).(7)
10.16 Amendment No. 1 to Management Services Agreement between the
Company and DCA of Vineland, LLC(7) dated October 27, 1999
(incorporated by reference to the Company's 1999 Form 10-K,
Part IV, Item 14(c)(10)(xxix)).
49
10.17 Indemnity Deed of Trust from the Company to Trustees for the
benefit of St. Michaels Bank dated December 3, 1999
(incorporated by reference to the Company's Current Report on
Form 8-K dated December 13, 1999 ("December Form 8-K"), Item
7(c)(99)(i)).
10.18 Guaranty Agreement from the Company to St. Michaels Bank dated
December 3, 1999 (incorporated by reference to the Company's
December Form 8-K, Item 7(c)(99)(ii)).
10.19 Lease between the Company and DCA of So. Ga., LLC (1) dated
November 8, 2000 (incorporated by reference to the Company's
Current Report on Form 8-K dated January 3, 2001 ("January
2001 Form 8-K"), Item 7(c)(10)(i)).
10.20 Lease between DCA of Fitzgerald, LLC (1) and Hospital
Authority of Ben Hill County, d/b/a Dorminy Medical Center,
dated February 8, 2001 (incorporated by reference to the
Company's Current Report on Form 8-K dated March 5, 2001, Item
7(c)(10)(i)).
10.21 Employment Agreement between Stephen W. Everett and the
Company dated December 29, 2000 (incorporated by reference to
the Company's Annual Report on Form 10-K for the year ended
December 31, 2000 ("2000 Form 10-K"), Part IV, Item
14(c)(10)(xii)).
10.22 Lease between the Company and Renal Treatment Centers -
Mid-Atlantic, Inc. dated July 1, 1999 (incorporated by
reference to the Company's 2000 Form 10-K, Part IV, Item
14(c)(10((xlii)).
10.23 Commercial Loan Agreement between the Company and Heritage
Community Bank, dated April 3, 2001 (incorporated by reference
to the Company's Current Report on Form 8-K dated June 14,
2001 ("June, 2001 Form 8-K"), Item 7(c)(i)).
10.24 Promissory Note by the Company to Heritage Community Bank,
dated April 3, 2001 (incorporated by reference to the
Company's June, 2001 Form 8-K, Item 7(c)(ii)).
10.25 Modification Agreement to Promissory Note to Heritage
Community Bank dated December 16, 2002 (incorporated by
reference to the Company's Annual Report on Form 10-K for the
year ended December 31, 2002 ("2002 Form 10-K"), Part IV, Item
15(c)10.25).
10.26 Lease between the Company and Commons Office Research dated
June 11, 2001 (incorporated by reference to the Company's
Quarterly Report on Form 10-Q for the quarter ended June 30,
2001 ("June, 2001 Form 10-Q"), Part II, Item 6(a)(10((i)).
10.27 Lease between DCA of Mechanicsburg, LLC(1) and Pinnacle Health
Hospitals dated July 24, 2001 (incorporated by reference to
the Company's June, 2001 Form 10-Q, Part II, Item
6(a)(10)(ii)).
10.28 Lease between the Company and Clinch Memorial Hospital dated
September 29, 2000 (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) 10.37).
50
10.29 Lease between DCA of Central Valdosta, LLC(1) and W. Wayne
Fann dated March 20, 2001 (incorporated by reference to the
Company's 2001 Form 10-K, Part IV, Item 14(c) 10.38).
10.30 Promissory Note Modification Agreement between DCA of
Vineland, LLC(7) and St. Michaels Bank dated December 27, 2002
(incorporated by reference to the Company's 2002 Form 10-K,
Part IV, Item 15(c)10.30).
10.31 Lease between the Company and Dr. Gerald Light dated February
15, 2002 (incorporated by reference to the Company's Quarterly
Report on Form 10-Q for the quarter ended March 31, 2002, Part
II, Item 6(a)(99)(i)).
10.32 Lease between DCA of Royston, LLC(1) and Ty Cobb Healthcare
System, Inc. dated March 15, 2002 (incorporated by reference
to the Company's Current Report on Form 8-K dated April 22,
2002, Item 7(c)(10)(i)).
10.33 Lease Agreement between DCA of Chevy Chase, LLC(5) and
BRE/Metrocenter LLC and Guaranty of the Company dated August
8, 2002 (incorporated by reference to the Company's Current
Report on Form 8-K dated September 25, 2002, Item
7(c)(10)(i)).
10.34 The Company's Section 125 Plan effective September 1, 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(99)).
10.35 Lease Agreement between Pupizion, Inc. and DCA of Cincinnati,
LLC(9) dated December 11, 2002 (incorporated by reference to
the Company's 2002 Form 10-K, Part IV, Item 15(c)10.35).
10.36 Promissory Note from DCA of Cincinnati, LLC(9) to the Company
dated February 3, 2003 (incorporated by reference to the
Company's 2002 Form 10-K, Part IV, Item 15(c)10.36).
10.37 Asset Sale Agreement between the Company and Gambro Healthcare
Renal Care, Inc. dated April 7, 2003 (incorporated by
reference to the Company's Current Report on Form 8-K dated
April 9, 2003 ("April, 2003 Form 8-K"), Item 7(c)(10((i)).
10.38 Lease Agreement between Russell Acree, M.D. and Community
Dialysis Centers, Inc. (now Gambro Healthcare Renal Care,
Inc.) dated February 1, 1998 (incorporated by reference to the
Company's April, 2003 Form 8-K, Item 7(c)(10)(ii)).
10.39 First Amendment to Lease Agreement between Russell Acree, M.D.
and Gambro Healthcare Renal Care, Inc. (formerly Community
Dialysis Centers, Inc.) dated April 30, 1998 (incorporated by
reference to the Company's April, 2003 Form 8-K, Item
7(c)(10((iii)).
10.40 Second Amendment to Lease Agreement between Russell Acree,
M.D. and Gambro Healthcare Renal Care, Inc. (formerly
Community Dialysis Centers, Inc.) dated November 12, 2002
(incorporated by reference to the Company's April, 2003 Form
8-K, Item 7(c)(10((iv)).
51
10.41 Landlord's Consent to Assignment of Lease Agreement dated
April 1, 2003 (incorporated by reference to the Company's
April, 2003 Form 8-K, Item 7(c)(10)(iv)).
10.42 Loan Agreement between the Company and a Physician dated April
22, 2003 [*] (incorporated by reference to the Company's
Current Report on Form 8-K dated July 15, 2003 ("July, 2003
Form 8-K"), Item 7(c)(10)(i)).
10.43 Promissory Note and Security Agreement from a Physician dated
April 22, 2003 [*] (incorporated by reference to the Company's
July, 2003 Form 8-K, Item 7(c)(10((ii)).
10.44 Lease Agreement between DCA of Warsaw, LLC(1) and Warsaw
Village, L.P. dated July 23, 2003 (incorporated by reference
to the Company's Current Report on Form 8-K dated August 5,
2003, Item 7(c)(10)(i)).
10.45 Lease Agreement between DCA of Pottstown, LLC(5) and Fisher
Scheler, LLC dated August 19, 2003 (incorporated by reference
to the Company's Current Report on Form 8-K dated August 27,
2003, Item 7(c)(iv)(i)).
10.46 Demand Promissory Note from the Company to Medicore, Inc.
dated March 1, 2004.
16 Letter re: Change in Certifying Accountant
16.1 Letter of Wiss & Company, LLP addressed to the Securities and
Exchange Commission dated November 7, 2003 (incorporated by
reference to the Company's Quarterly Report on Form 10-Q for
the third quarter ended September 30, 2003, Part II, Item
6(a)(16)).
21 Subsidiaries of the Company.
31 Rule 13a-14(a)/15d-14(a) Certifications.
31.1 Certification of the Principal Executive Officer pursuant to
Rule 13a-14(a) of the Securities Exchange Act of 1934.
31.2 Certification of the Principal Financial Officer pursuant to
Rule 13a-14(a) of the Securities Exchange Act of 1934.
32 Section 1350 Certifications
32.1 Certification of the Chief Executive Officer and the Principal
Financial Officer pursuant to Rule 13a-14(b) of the Securities
Exchange Act of 1934 and 18 U.S.C. Section 1350.
- ----------
[*] Confidential portions omitted have been filed separately with the Securities
and Exchange Commission.
+ Documents incorporated by reference not included in Exhibit Volume.
52
++ Incorporated by reference to the company's registration statement on Form
SB-2 dated December 22, 1995 as amended February 9, 1996, April 2, 1996 and
April 15, 1996, registration no. 33-80877-A, Part II, Item 27.
(1) Wholly-owned subsidiary.
(2) Parent of the company owning approximately 59% of the company's outstanding
common stock. Medicore is subject to Section 13(a) reporting requirements
of the Exchange Act, with its common stock listed for trading on the Nasdaq
SmallCap Market.
(3) Each subsidiary has a Medical Director Agreement which is substantially
similar to the exhibit filed but for area of non-competition and
compensation. Our affiliate, DCA of Toledo, LLC (40% owned), has a
substantially similar Medical Director Agreement.
(4) The 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 and Fitzgerald, Georgia; Carlisle, Chambersburg, Lemoyne
and Wellsboro, Pennsylvania; Toledo, Ohio.
(5) 80% owned subsidiary.
(6) Certain dialysis equipment is leased from time to time and for each lease 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.
(7) 51% owned subsidiary.
(8) The Company has a Management Services Agreement with each of its
subsidiaries each of which is substantially similar to the exhibit filed
but for the name of the particular subsidiary which entered into the
Agreement and the compensation. The Company has a Management Services
Agreement with DCA of Toledo, LLC in which it holds a 40% interest.
(9) 60% owned subsidiary.
53
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the
Securities Exchange Act of 1934, the registrant has duly caused this report to
be signed on its behalf by the undersigned, thereunto duly
authorized.
DIALYSIS CORPORATION OF AMERICA
By: /s/ STEPHEN W. EVERETT
-------------------------------------
Stephen W. Everett
Chief Executive Officer and President
March 25, 2004
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.
Signature Title Date
--------- ----- ----
/s/ THOMAS K. LANGBEIN Chairman of the Board of Directors March 25, 2004
- -----------------------------
Thomas K. Langbein
/s/ STEPHEN W. EVERETT Chief Executive Officer, President
- ----------------------------- and Director March 25, 2004
Stephen W. Everett
/s/ DANIEL R. OUZTS Vice President of Finance and
- ----------------------------- Treasurer (Principal Financial Officer) March 25, 2004
Daniel R. Ouzts
/s/ BART PELSTRING Director March 25, 2004
- -----------------------------
Bart Pelstring
/s/ ROBERT W. TRAUSE Director March 25, 2004
- -----------------------------
Robert W. Trause
/s/ ALEXANDER BIENENSTOCK Director March 25, 2004
- -----------------------------
Alexander Bienenstock
/s/ DR. DAVID L. BLECKER Director March 25, 2004
- -----------------------------
Dr. David L. Blecker
54
ANNUAL REPORT ON FORM 10-K
ITEM 8, ITEM 15(a) (1) AND (2), AND (d)
LIST OF FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES
FINANCIAL STATEMENTS AND SUPPLEMENTAL DATA
FINANCIAL STATEMENT SCHEDULES
YEAR ENDED DECEMBER 31, 2003
DIALYSIS CORPORATION OF AMERICA
HANOVER, MARYLAND
FORM 10-K--ITEM 15(a)(1) AND (2)
DIALYSIS CORPORATION OF AMERICA
LIST OF FINANCIAL STATEMENTS
The following consolidated financial statements of Dialysis Corporation of
America and subsidiaries are included in Item 8 of the Annual Report on Form
10-K:
Page
----
Consolidated Balance Sheets as of December 31, 2003 and 2002 F-4
Consolidated Statements of Operations - Years ended December 31,
2003, 2002, and 2001 F-5
Consolidated Statements of Stockholders' Equity - Years ended
December 31, 2003, 2002 and 2001 F-6
Consolidated Statements of Cash Flows - Years ended
December 31, 2003, 2002 and 2001 F-7
Notes to Consolidated Financial Statements - December 31, 2003 F-8
The following financial statement schedule of Dialysis Corporation
of America and subsidiaries is included in Item 15(d):
Schedule II - Valuation and qualifying accounts F-26
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
Stockholders and Board of Directors
Dialysis Corporation of America
We have audited the accompanying consolidated balance sheet of Dialysis
Corporation of America and subsidiaries as of December 31, 2003, and the related
consolidated statements of operations, stockholders' equity and cash flows for
the year then ended. Our audit 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 audit.
We conducted our audit in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides 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
Dialysis Corporation of America and subsidiaries at December 31, 2003, and the
consolidated results of their operations and their cash flows for the year then
ended, 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/ MOORE STEPHENS, P.C.
-------------------------
MOORE STEPHENS, P.C.
February 12, 2004, except for Note 15,
for which the date is March 17, 2004
Cranford, New Jersey
F-2
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Stockholders and Board of Directors
Dialysis Corporation of America
We have audited the accompanying consolidated balance sheet of Dialysis
Corporation of America and subsidiaries as of December 31, 2002, and the related
consolidated statements of income, stockholders' equity and cash flows for each
of the two years in the period ended December 31, 2002. Our audits also included
the information related to each of the two years in the period ended December
31, 2002 on 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. 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
Dialysis Corporation of America and subsidiaries at December 31, 2002 and 2001,
and the consolidated results of their operations and their cash flows for each
of the two years in the period ended December 31, 2002, in conformity with
accounting principles generally accepted in the United States. Also, in our
opinion, the related financial statement schedule for the two years in the
period ended December 31, 2002, 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
------------------------
WISS & COMPANY, LLP
February 7, 2003
Livingston, New Jersey
F-3
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, DECEMBER 31,
2003 2002
------------ ------------
ASSETS
Current assets:
Cash and cash equivalents $ 1,515,202 $ 2,571,916
Accounts receivable, less allowance
of $785,000 at December 31, 2003;
$831,000 at December 31, 2002 4,913,318 3,515,958
Inventories 1,043,710 877,058
Deferred income taxes 412,000 392,000
Officer loan and interest receivable 107,503 103,531
Prepaid expenses and other current assets 1,392,721 1,631,470
------------ ------------
Total current assets 9,384,454 9,091,933
------------ ------------
Property and equipment:
Land 376,211 376,211
Buildings and improvements 2,332,904 2,322,663
Machinery and equipment 6,039,256 5,232,632
Leasehold improvements 3,548,875 2,712,953
------------ ------------
12,297,246 10,644,459
Less accumulated depreciation and amortization 5,030,550 3,877,738
------------ ------------
7,266,696 6,766,721
------------ ------------
Goodwill 2,291,333 923,140
Other assets 661,891 372,190
------------ ------------
Total other assets 2,953,224 1,295,330
------------ ------------
$ 19,604,374 $ 17,153,984
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 1,167,213 $ 1,373,190
Accrued expenses 3,170,269 2,594,066
Current portion of long-term debt 575,000 532,000
Income taxes payable 28,949 --
Payable minority interest acquisition 670,000 --
------------ ------------
Total current liabilities 5,611,431 4,499,256
Advances from parent 234,094 --
Long-term debt, less current portion 2,097,355 2,727,105
Deferred income taxes 59,000 28,000
Total liabilities 8,001,880 7,254,361
------------ ------------
Minority interest in subsidiaries 632,177 172,165
------------ ------------
Commitments
Stockholders' equity:
Common stock, $.01 par value, authorized 20,000,000 shares;
7,937,544 shares issued and outstanding in 2003
7,774,688 shares issued and outstanding in 2002 79,376 77,746
Capital in excess of par value 5,238,952 5,147,707
Retained earnings 6,073,589 4,923,605
Notes receivable from options exercised (421,600) (421,600)
------------ ------------
Total stockholders' equity 10,970,317 9,727,458
------------ ------------
$ 19,604,374 $ 17,153,984
============ ============
See notes to consolidated financial statements
F-4
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
YEAR ENDED DECEMBER 31,
--------------------------------------------
2003 2002 2001
------------ ------------ ------------
Revenues:
Medical service revenue $ 29,676,388 $ 25,162,380 $ 18,919,752
Interest income on officer note 3,972 4,575 3,956
Interest and other income 597,746 439,722 517,462
------------ ------------ ------------
30,278,106 25,606,677 19,441,170
------------ ------------ ------------
Cost and expenses:
Cost of medical services 18,220,891 15,066,551 12,021,907
Selling, general and administrative expenses 9,357,552 7,500,029 5,583,062
Provision for doubtful accounts 289,582 720,500 659,007
Interest expense 202,949 220,441 210,805
------------ ------------ ------------
28,070,974 23,507,521 18,474,781
------------ ------------ ------------
Income before income taxes, minority interest
and equity in affiliate earnings (loss) 2,207,132 2,099,156 966,389
Income tax provision 878,211 771,180 80,078
------------ ------------ ------------
Income before minority interest and equity in
affiliate earnings (loss) 1,328,921 1,327,976 886,311
Minority interest in income
of consolidated subsidiaries 223,291 155,412 85,983
Equity in affiliate earnings (loss) 44,354 69,533 (16,345)
------------ ------------ ------------
Net income $ 1,149,984 $ 1,242,097 $ 783,983
============ ============ ============
Earning per share:
Basic $.15 $.16 $.10
==== ==== ====
Diluted $.13 $.14 $.10
==== ==== ====
See notes to consolidated financial statements.
F-5
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
CAPITAL IN
COMMON EXCESS OF RETAINED NOTES
STOCK PAR VALUE EARNINGS RECEIVABLE TOTAL
--------- ----------- ----------- ----------- -----------
Balance at January 1, 2001 $ 79,596 $ 5,243,787 $ 2,897,525 $ (421,600) $ 7,799,308
Net income 783,983 783,983
Repurchase and cancellation of 185,000 shares (1,850) (96,080) (97,930)
--------- ----------- ----------- ----------- -----------
Balance at December 31, 2001 77,746 5,147,707 3,681,508 (421,600) 8,485,361
Net income 1,242,097 1,242,097
--------- ----------- ----------- ----------- -----------
Balance at December 21, 2002 77,746 5,147,707 4,923,605 (421,600) 9,727,458
Net income 1,149,984 1,149,984
Repurchase and cancellation of 21,428 shares (214) (41,786) (42,000)
Exercise of stock options for 159,284
shares of common stock 1,844 133,031 134,875
--------- ----------- ----------- ----------- -----------
Balance December 31, 2003 $ 79,376 $ 5,238,952 $ 6,073,589 $ (421,600) $10,970,317
========= =========== =========== =========== ===========
See notes to consolidated financial statements.
F-6
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31,
-----------------------------------------
2003 2002 2001
----------- ----------- -----------
Operating activities:
Net income $ 1,149,984 $ 1,242,097 $ 783,983
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation 1,183,920 1,059,697 804,592
Amortization 2,314 6,190 4,067
Bad debt expense 289,582 720,500 659,007
Deferred income taxes 11,000 54,000 (418,000)
Minority interest 223,291 155,412 85,983
Equity in affiliate (earnings) loss (44,354) (69,533) 16,345
Increase (decrease) relating to operating activities from:
Accounts receivable (1,686,942) (216,880) (2,918,650)
Inventories (166,652) (137,937) (404,994)
Interest receivable on officer loan (3,972) (4,575) (3,956)
Prepaid expenses and other current assets 230,805 (1,090,143) (209,606)
Accounts payable (205,977) (231,946) 1,051,432
Accrued expenses 676,203 1,064,223 868,726
Income taxes payable 28,949 (455,000) 373,549
----------- ----------- -----------
Net cash provided by operating activities 1,696,095 2,096,105 692,478
----------- ----------- -----------
Investing activities:
Decrease (increase) in notes receivable from parent -- -- 2,200,000
Loans to physician affiliates (150,000) -- (20,332)
Loan to officer -- -- (95,000)
Additions to property and equipment, net of minor disposals (1,655,909) (927,352) (1,233,183)
Acquisition of dialysis center (75,000) (550,000)
Investment in affiliate -- -- (152,811)
Distributions from affiliate 77,000 22,800
Purchase of minority interests in subsidiaries (670,000) (300,000) (300,000)
Other assets (4,846) (19,048) (3,330)
----------- ----------- -----------
Net cash (used in) provided by investing activities (2,478,755) (1,773,600) 403,344
----------- ----------- -----------
Financing activities:
Decrease (increase) in advances to parent 234,094 200,728 213,611
Repurchase of stock (42,000) -- (97,930)
Long-term borrowings -- -- 787,500
Payments on long-term debt (586,750) (431,334) (297,650)
Exercise of stock options 34,875 -- --
Deferred financing costs -- -- (11,572)
Capital contributions by subsidiaries' minority members 204,382 10,570 4,000
----------- ----------- -----------
Distribution to subsidiaries minority members (118,655) (10,000) --
----------- ----------- -----------
Net cash (used in) provided by financing activities (274,054) (230,036) 597,959
----------- ----------- -----------
Decrease (increase) in cash and cash equivalents (1,056,714) 92,469 1,685,781
Cash and cash equivalents at beginning of year 2,571,916 2,479,447 793,666
----------- ----------- -----------
Cash and cash equivalents at end of year $ 1,515,202 $ 2,571,916 $ 2,479,447
=========== =========== ===========
See notes to consolidated financial statements.
F-7
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BUSINESS
The company is in one business segment, kidney dialysis
operations, providing outpatient hemodialysis services, home dialysis services,
inpatient dialysis services and ancillary services associated with dialysis
treatments. The company owns 17 operating dialysis centers located in Georgia,
Maryland, New Jersey, Ohio, Pennsylvania, South Carolina and Virginia, manages
two other dialysis facilities, one a 40% owned Ohio affiliate and the other an
unaffiliated Georgia center, and has one dialysis facility under construction;
has agreements to provide inpatient dialysis treatments to seven hospitals; and
provides supplies and equipment for dialysis home patients. See "Consolidation."
CONSOLIDATION
The consolidated financial statements include the accounts of
Dialysis Corporation of America and its subsidiaries, collectively referred to
as the "company." All material intercompany accounts and transactions have been
eliminated in consolidation. The company was a 61% owned subsidiary of Medicore,
Inc., our parent, as of December 31, 2003. Medicore currently owns 59% of our
company. We have a 40% interest in an Ohio dialysis center which we manage,
which is accounted for on the equity method and not consolidated for financial
reporting purposes.
STOCK SPLIT
On January 28, 2004, the company effected a two-for-one stock
split. All share and per share data in the consolidated financial statements and
notes have been adjusted to reflect the two-for-one split. See Note 15.
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 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. See Item 7, "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Critical Accounting Policies and
Estimates."
GOVERNMENT REGULATION
A substantial portion of the company's revenues are attributable
to payments received under Medicare, which is supplemented by Medicaid or
comparable benefits in the states in which the company operates.
F-8
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--CONTINUED
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 exclusions from the Medicare and Medicaid programs. See
Item 1, "Business - Government Regulation."
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. Although cash and cash equivalents are largely
not federally insured, the credit risk associated with these deposits that
typically may be redeemed upon demand is considered low due to the high quality
of the financial institutions in which they are invested.
CREDIT RISK
The company's primary concentration of credit risk is with
accounts receivable, which consist of amounts owed by governmental agencies,
insurance companies and private patients. Receivables from Medicare and Medicaid
comprised 59% of receivables at December 31, 2003 and 60% at December 31, 2002.
INVENTORIES
Inventories, which consist primarily of supplies used in dialysis
treatments, are valued at the lower of cost (first-in, first-out method) or
market value.
PREPAID EXPENSES AND OTHER CURRENT ASSETS
Prepaid expenses and other current assets is comprised as
follows:
DECEMBER 31,
-----------------------
2003 2002
---------- ----------
Vendor volume discounts receivable $ 610,150 $ 321,302
Receivable from management service contracts 130,916 47,756
Property to be sold (See Note 12) -- 778,561
Prepaid expenses 478,079 318,839
Other 173,576 165,012
---------- ----------
$1,392,721 $1,631,470
========== ==========
F-9
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--CONTINUED
ACCRUED EXPENSES
Accrued expenses is comprised as follows:
DECEMBER 31,
-----------------------
2003 2002
---------- ----------
Accrued compensation $ 985,330 $ 800,318
Due to insurance companies 1,759,397 1,271,235
Other 425,542 522,513
---------- ----------
$3,170,269 $2,594,066
========== ==========
VENDOR CONCENTRATION
The company purchases erythropoietin (EPO) from one supplier
which comprised 37% in 2003, 34% in 2002 and 32% in 2001 of the company's cost
of sales. There is only one supplier of EPO in the United States, and this
supplier has recently received FDA approval for an alternative product available
for dialysis patients; but there are no other suppliers of any similar drug
available to dialysis treatment providers. Revenues from the administration of
EPO comprised 28% in 2003, 26% in 2002 and 25% in 2001 of medical service
revenue.
PROPERTY AND EQUIPMENT
Property and equipment is stated on the basis of 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 10 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
on loss is recognized.
LONG-LIVED ASSET IMPAIRMENT
Pursuant to Financial Accounting Standards Board Statement No.
121, "Accounting for the Impairment of 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 of Disposal of Long-lived
Assets" (FAS 144) clarified when a long-lived asset held for sale should be
classified as such. It also clarifies previous guidance under FAS 121. The
company, based on current circumstances, does not believe any indicators of
impairment are present.
F-10
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--CONTINUED
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).
REVENUE RECOGNITION
Net revenue is recognized as services are rendered at the net realizable
amount from Medicare, Medicaid, commercial insurers and other third party
payors. The company occasionally provides dialysis treatments on a charity basis
to patients who cannot afford to pay. The amount is not significant.
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 interests in August, 2001 and June, 2003,
and the goodwill resulting from our acquisition of Georgia dialysis centers in
April, 2002 and April, 2003, are not being amortized for book purposes and are
subject to the annual impairment testing provisions of FAS 142, which testing
indicated no impairment for goodwill.
DEFERRED EXPENSES
Deferred expenses, except for deferred loan costs, are amortized
on the straight-line method over their estimated benefit period with deferred
loan costs amortized over the lives of the respective loans.
INCOME TAXES
Deferred income taxes 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 financial accounting and tax basis of assets
and liabilities.
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
F-11
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--CONTINUED
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."
Pro forma information regarding net income and earnings per share is
required by FAS 123 and FAS 148, 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 options granted during 2003, 2002 and 2001, respectively:
risk-free interest rate of 1.44%, 3.73%, and 5.40%; no dividend yield;
volatility factor of the expected market price of the company's common stock of
1.07, 1.15, and 1.14, and a weighted-average expected life of 4.7 years, 5
years, and 4 years.
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 follows:
2003 2002 2001
----------- ----------- -----------
Net income, as reported $ 1,150,000 $ 1,242,000 $ 784,000
Stock-based employee compensation expense
under fair value method, net of
related tax effects (64,000) (46,000) (24,000)
----------- ----------- -----------
Pro forma net income $ 1,086,000 $ 1,196,000 $ 760,000
=========== =========== ===========
Earnings per share:
Basic, as reported $.15 $.16 $.10
==== ==== ====
Basic, pro forma $.14 $.15 $.10
==== ==== ====
Diluted, as reported $.13 $.14 $.10
==== ==== ====
Diluted, pro forma $.12 $.14 $.09
==== ==== ====
EARNINGS PER SHARE
Diluted earnings per share gives effect to potential common
shares that were dilutive and outstanding during the period, such as stock
options and warrants, calculated using the treasury stock method and average
market price.
F-12
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--CONTINUED
YEAR ENDED DECEMBER 31,
------------------------------------
2003 2002 2001
---------- ---------- ----------
Net income $1,149,984 $1,242,097 $ 783,983
========== ========== ==========
Weighted average shares-denominator basic computation 7,904,874 7,774,688 7,827,512
Effect of dilutive stock options 830,612 892,366 207,938
---------- ---------- ----------
Weighted average shares, as adjusted-denominator
diluted computation 8,735,486 8,667,054 8,035,450
========== ========== ==========
Earnings per share:
Basic $.15 $.16 $.10
==== ==== ====
Diluted $.13 $.14 $.10
==== ==== ====
The company had various potentially dilutive securities during
the periods presented, including stock options and warrants. See Notes 6 and 7.
INTEREST AND OTHER INCOME
Interest and other income is comprised as follows:
YEAR ENDED DECEMBER 31,
------------------------------
2003 2002 2001
-------- -------- --------
Rental income $190,308 $174,227 $168,224
Interest income from Medicore -- 2,957 122,867
Interest income 49,914 40,314 53,546
Management fee income 320,580 191,213 115,715
Other income 36,944 31,011 57,110
-------- -------- --------
$597,746 $439,722 $517,462
======== ======== ========
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 either bear variable interest rates which approximate market or have
interest rates approximating those currently available to the company for loans
with similar terms and maturities.
F-13
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--CONTINUED
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 our results of operation, financial position or cash flows.
In November, 2002, the FASB issued Interpretation No. 45,
"Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others" (FIN 45), which elaborates on the
existing disclosure requirements for most guarantees and clarifies that at the
time a company issues a guarantee, it must recognize a liability for the fair
value of the obligations it assumes under the guarantee and must disclose that
information in its interim and annual financial statements. The disclosure
requirements of FIN 45 are effective for financial statements for periods ending
after December 15, 2002. The initial recognition and measurement provisions of
FIN 45 are applicable on a prospective basis to guarantees issued or modified
after December 31, 2002. We do not expect FIN 45 to have a material impact on
our financial position or results of operations.
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. We adopted the transition
guidance and annual disclosure provisions of FAS 148 commencing 2002, and we
have adopted the interim disclosure provision of FAS 148 commencing 2003. We are
subject to the expanded disclosure requirements of FAS 148, but we do not expect
FAS 148 to otherwise have a material impact on our consolidated results of
operations, financial position or cash flows.
In January, 2003, the FASB issued Interpretation No. 46,
"Consolidation of Variable Interest Entities" (FIN 46), which clarifies the
application of Accounting Research Bulletin No. 51, "Consolidated Financial
Statements," to certain entities in which equity investors do not have the
characteristics of a controlling financial interest or do not have sufficient
equity at risk for the entity to finance its activities without additional
subordinated support from other parties. FIN 46 requires a variable interest
entity to be consolidated by a company if that company is subject to a majority
of the risk of loss from the variable interest entity's activities or is
entitled to receive a majority of the entity's residual returns or both. The
consolidation requirements of FIN 46 apply immediately to variable interest
entities created after January 31, 2003. The consolidation requirements apply to
variable interest entities created before February 1, 2003, in the first fiscal
year or interim period beginning after June 15, 2003. Certain of the
F-14
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--CONTINUED
disclosure requirements apply to financial statements issued after January 31,
2003, regardless of when the variable interest entity was established. We do not
expect FIN 46 to have a material impact on our financial position or results of
operations.
In May, 2003, the FASB issued Statement of Financial Accounting
Standards No. 150, "Accounting for Certain Financial Instruments with
Characteristics of Both Liabilities and Equity" (FAS 150), which addresses how
to classify and measure certain financial instruments with characteristics of
both liabilities (or an asset in some circumstances) and equity. FAS 150 applies
to issuers' classification and measurement of freestanding financial
instruments, including those that comprise more than one option or forward
contract. FAS 150 is effective for financial instruments entered into or
modified after May 31, 2003, and otherwise is effective at the beginning of the
first interim period beginning after June 15, 2003. We do not expect FAS 150 to
have a material impact on our results of operations financial position or cash
flows.
NOTE 2--LONG-TERM DEBT
Long-term debt is as follows:
DECEMBER 31,
--------------------------
2003 2002
---------- ----------
Development loan secured by land and building
with a net book value of $336,000 at
December 31, 2003. Monthly principal
payments of $2,217 plus interest at 1% over
the prime rate effective December 16, 2002
with remaining balance due December 2,
2007. $ 636,182 $ 662,084
Mortgage note secured by land and building
with a net book value of $896,000 at
December 31, 2003. Interest of prime plus
1/2% with a minimum rate of 6.0% effective
December 16, 2002. Monthly payments of
$6,800 including principal and interest
with remaining balance due April, 2006. 714,979 752,619
Equipment financing agreement secured by
equipment with a net book value of
$1,749,000 at December 31, 2003. Monthly
payments totaling approximately $59,000 as
of December 31, 2003, including principal
and interest, as described below, pursuant
to various schedules extending through
August, 2007 with interest at rates ranging
from 4.13% to 10.48%. 1,321,194 1,844,402
---------- ----------
2,672,355 3,259,105
Less current portion 575,000 532,000
---------- ----------
$2,097,355 $2,727,105
========== ==========
F-15
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 2--LONG-TERM DEBT--CONTINUED
The company 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 secured by a
mortgage on the company'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
principal balance of $636,000 at December 31, 2003 and $662,000 December 31,
2002.
In April 2001, the company 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
$715,000 at December 31, 2003 and $753,000 at December 31, 2002.
The equipment financing agreement is for financing for kidney
dialysis machines for the company's dialysis facilities. Additional financing
totaled approximately $399,000 in 2002 and $752,000 in 2001, with no such
financing in 2003. Payments under the agreement are pursuant to various
schedules extending through August, 2007. Financing under the equipment purchase
agreement is a noncash financing activity, which is a supplemental disclosure
required by Financial Accounting Standards Board Statement No 95, "Statement of
Cash Flows." See Note 14. The remaining principal balance under this financing
amounted to approximately $1,321,000 at December 31, 2003 and $1,844,000 at
December 31, 2002.
The prime rate was 4.00% as of December 31, 2003 and 4.25% as of
December 31, 2002.
Scheduled maturities of long-term debt outstanding at December
31, 2003 are approximately: 2004- $575,000; 2005-$511,000; 2006-$954,000;
2007-$632,000, 2008-$--- thereafter $---. For interest payments, see Note 14.
The company's two mortgage agreements contain certain restrictive
covenants that, among other things, restrict the payment of dividends above 25%
of the company's net worth, require lenders' approval for a merger, sale of
substantially all the assets, or other business combination of the company, and
require maintenance of certain financial ratios.
F-16
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 3--INCOME TAXES
The income tax provision consists of the following income tax
expense (benefit) components:
2003 2002 2001
--------- --------- ---------
Current:
Federal $ 602,906 $ 601,967 $ 360,000
State 264,305 115,213 138,078
--------- --------- ---------
867,211 717,180 498,078
--------- --------- ---------
Deferred:
Federal 28,000 274,000 (390,583)
State (17,000) (220,000) (27,417)
--------- --------- ---------
11,000 54,000 (418,000)
--------- --------- ---------
$ 878,211 $ 771,180 $ 80,078
========= ========= =========
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:
DECEMBER 31,
-----------------------
2003 2002
--------- ---------
Deferred tax liabilities:
Depreciation and amortization $ 285,000 $ 225,000
--------- ---------
Total deferred tax liabilities 285,000 225,000
Deferred tax assets:
Accrued expenses 111,000 93,000
Bad debt allowance 306,000 303,000
Startup costs 47,000 17,000
--------- ---------
Subtotal 464,000 413,000
State net operating loss carryforwards 226,000 248,000
--------- ---------
Total deferred tax assets 690,000 661,000
Valuation allowance for deferred tax assets (52,000) (72,000)
--------- ---------
Deferred tax asset, net of valuation allowance 638,000 589,000
--------- ---------
Net deferred tax asset $ 353,000 $ 364,000
========= =========
A valuation allowance was provided that offsets a portion of the
deferred tax assets recorded at December 31, 2003, as management believed that
it was more likely than not that, based on the weight of the available evidence,
that this portion of deferred tax assets would not be realized. The valuation
allowance, which relates to state income tax net operating loss carryforwards,
decreased by $20,000 during 2003.
F-17
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 3--INCOME TAXES--CONTINUED
The reconciliation of income tax (benefit) attributable to income
(loss) before income taxes computed at the U.S. federal statutory rate is:
YEAR ENDED DECEMBER 31,
-------------------------------------
2003 2002 2001
--------- --------- ---------
Statutory tax rate (34%) applied to income
(loss) before income taxes, minority
interest and equity in affiliate earnings $ 750,425 $ 702,874 $ 323,015
Adjustments due to:
State taxes, net of federal benefit 189,116 103,101 57,003
Change in valuation allowance -- (145,000) (223,000)
Non-deductible items 11,197 11,982 8,146
Prior year tax return accrual adjustment -- (14,456) --
Other (72,527) 112,679 (85,086)
--------- --------- ---------
$ 878,211 $ 771,180 $ 80,078
========= ========= =========
The company has equity positions in 13 limited liability
companies ("LLC's"), each possessing a finite life. Based on their limited
liability status, its members are not liable for the LLC's debts, liabilities,
or obligations. Each LLC has complied with the criteria for tax treatment as a
partnership. As a result, taxable income or loss is to be reported on each
member's respective tax returns. Income and losses attributable to the company's
equity position in these LLC's has been included as a component of retained
earnings as of December 31, 2003.
For income tax payments, see Note 14.
NOTE 4--TRANSACTIONS WITH PARENT
Our parent provides certain financial and administrative services
for us. Central operating costs are charged on the basis of time spent. In the
opinion of management, this method of allocation is reasonable. The amount of
expenses allocated by the parent totaled approximately $200,000 for the years
ended December 31, 2003, 2002 and 2001.
As of December 31, 2003 we had an intercompany advance payable to
our parent of approximately $234,000 which bears interest at the short-term
Treasury Bill rate. Interest expense on intercompany advances payable was
approximately $2,000. Interest is included in the intercompany advance balance.
Our parent has agreed not to require repayment of the intercompany advance
balance prior to January 1, 2005; therefore, the advance has been classified as
long-term at December 31, 2003.
As of December 31, 2001, we had an intercompany advance
receivable from our parent of approximately $201,000, which bore interest at the
short-term Treasury Bill rate. Interest income on intercompany advances
receivable was approximately $3,000 and $14,000 for the years ended December 31,
2002 and 2001, respectively. Interest is included in the intercompany advance
balance. The advance was repaid during 2002.
F-18
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 4--TRANSACTIONS WITH PARENT--CONTINUED
During the year 2000, we made various loans to our parent which
funds were, in turn, loaned by our parent to Linux Global Partners, Inc., a
private company investing in Linux software companies, including its subsidiary,
Xandros, Inc., which initiated marketing of a Linux desktop operating system in
November, 2002. We extended the maturity of the loans to our parent, as our
parent did with Linux Global Partners, in consideration for which we received
shares of common stock of Linux Global Partners. Our ownership in Linux Global
Partners is approximately 2%. In May and June, 2001, our parent repaid the
outstanding loans and accrued interest due to us. Interest income on the notes
receivable from the parent amounted to $109,000 for 2001.
NOTE 5--OTHER RELATED PARTY TRANSACTIONS
For the years ended December 31, 2003, 2002 and 2001,
respectively, the company paid premiums of approximately $425,000, $275,000 and
$133,000 for insurance obtained through two persons, one a director of the
parent, and the other a relative of an officer and director of the company and
the parent.
For the years ended December 31, 2003, 2002 and 2001,
respectively, legal fees of $156,000, $156,000 and $144,000 were paid to an
attorney who acts as general counsel and Secretary for the company and the
parent and who is a director of the parent.
The 20% minority interest in DCA of Vineland, LLC was held by a
company owned by the medical director of that facility, who became a director of
Dialysis Corporation of America in 2001. This physician was provided with the
right to acquire up to 49% of DCA of Vineland. In April, 2000, another company
owned by this physician acquired an interest in DCA of Vineland, resulting in
Dialysis Corporation of America holding a 51.3% ownership interest in DCA of
Vineland and this physician's companies holding a combined 48.7% ownership
interest of DCA of Vineland. See Note 12.
In July, 2000, one of the companies owned by this physician
acquired a 20% interest in DCA of Manahawkin, Inc. (formerly known as Dialysis
Services of NJ, Inc. - Manahawkin). Under agreements with DCA of Vineland and
DCA of Manahawkin, this physician serves as medical director for each of those
dialysis facilities.
In May 2001, the company 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 of the
President's stock options in the company, 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 $4,000, $5,000 and $4,000 for 2003, 2002 and 2001,
respectively.
Minority members in subsidiaries in certain situations may fund
their portion of required capital contributions by issuance of an interest
bearing note payable to the company which the minority member may repay through
their portion of capital distributions of the subsidiary. The 20% member in DCA
of Chevy Chase, LLC funded approximately $223,000 in capital contributions
during 2003 under a note accruing interest at prime plus 2%, with interest
totaling approximately $9,000 during 2003, with
F-19
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 5--OTHER RELATED PARTY TRANSACTIONS--CONTINUED
approximately $54,000 of distributions to the member applied against the note
and accrued interest. These represent non cash investing activities, which is a
supplemental disclosure required by Financial Accounts Standards Board Statement
No. 95, "Statement of Cash Flows." See Note 14.
NOTE 6--STOCK OPTIONS
In June, 1998, the board of directors granted an option under the
now expired 1995 Stock Option Plan to a board member for 10,000 shares
exercisable at $1.13 per share through June 9, 2003. This option was exercised
in June, 2003.
In April, 1999, we adopted a stock option plan pursuant to which
the board of directors granted 1,600,000 options exercisable at $.63 per share
to certain of our officers, directors, employees and consultants with 680,000
options exercisable through April 20, 2000 and 920,000 options exercisable
through April 20, 2004, of which 120,000 options to date have been cancelled. In
April, 2000, the 680,000 one-year options were exercised for which we received
cash payment of the par value amount of $3,400 and the balance in three-year
promissory notes with the interest at 6.2% and which maturity was extended to
April 20, 2004. Interest income on the notes amounted to approximately $26,000
each year for 2003, 2002 and 2001. All the notes were repaid with stock at fair
market value on February 9, 2004. In March, 2003, 155,714 of the remaining
800,000 options outstanding were exercised for $97,322 with the exercise price
satisfied by director bonuses accrued in 2002, leaving 644,286 of these options
outstanding as of December 31, 2003. The exercise represents a noncash investing
activity, which is a supplemental disclosure required by Financial Accounting
Standards Board Statement No. 95, "Statement of Cash Flows." See Note 14.
In January, 2001, the board of directors granted to our Chief
Executive Officer and President a five-year option for 330,000 shares
exercisable at $.63 per share with 66,000 options vesting at January, 2001 and
66,000 options vesting in equal annual increments on January 1 for each of the
next four years.
In September, 2001, the board of directors granted five-year
options for an aggregate of 150,000 shares exercisable at $.75 per share through
September 5, 2006, to certain officers, directors and key employees. 30,000 of
the options vested immediately with the remaining 120,000 options to vest in
equal increments of 30,000 options each September 5, commencing September 5,
2002. In March, 2003, 3,570 of these options were exercised for $2,678 with the
exercise price satisfied by director bonuses accrued in 2002. The exercise
represents a noncash investing activity, which is a supplemental disclosure
required by Financial Accounting Standards Board Statement No. 95, "Statement of
Cash Flows." See Note 14. As of December 31, 2003, an aggregate of 120,000 of
these options had vested, of which 3,570 had been exercised.
In March, 2002, the board of directors granted a five-year option
to an officer for 60,000 shares exercisable at $1.58 per share through February
28, 2007. The option was to vest in equal annual increments of 15,000 shares on
each February 28 from 2003 through 2006. The 15,000 options that had vested in
February, 2003, were exercised by the officer in October, 2003, and the
remaining 45,000 options expired unvested due to the July 31, 2003 resignation
of the officer.
F-20
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 6--STOCK OPTIONS--CONTINUED
In May, 2002, the board of directors granted five-year options
for an aggregate of 21,000 shares to our employees of which 11,000 were
outstanding at December 31, 2003. Most of these options with respect to each
individual employee are for 1,000 shares of common stock, with one option for
3,000 shares. These options are exercisable at $2.05 per share through May 28,
2007, with all options vesting on May 29, 2004. Options for 10,000 shares have
been cancelled as a result of the termination of the employees holding those
options, with 6,000 options having been cancelled during 2003.
In June, 2003, the board of directors granted to an officer a
five-year option for 50,000 shares exercisable at $1.80 per share through June
3, 2008. The option vests annually in increments of 12,500 shares on each June 4
from 2004 to 2007.
In August, 2003, the board of directors granted a three-year
option to a director who serves on several of our committees including our audit
committee, for 10,000 shares exercisable at $2.25 per share through August 18,
2006. The option vests in two annual increments of 5,000 shares commencing on
August 19, 2004.
A summary of the company's stock option activity and related
information for the years ended December 31 follows:
2003 2002 2001
------------------------------ ------------------------------ -----------------------------
WEIGHTED-AVERAGE WEIGHTED-AVERAGE WEIGHTED-AVERAGE
OPTIONS EXERCISE PRICE OPTIONS EXERCISE PRICE OPTIONS EXERCISE PRICE
---------- ------------- ---------- ------------- ---------- -------------
Outstanding-beginning of year 1,367,000 1,410,000 930,000
Granted 60,000 $ 1.88 81,000 $ 2.05 480,000 $ .67
Cancellations (51,000) $ 1.63 (124,000) $ .67 -- --
Exercised (184,284) $ .73 -- -- -- --
Expired -- -- -- -- -- --
---------- ---------- ----------
Outstanding-end of year 1,191,716 1,367,000 1,410,000
========== ========== ==========
Outstanding-end of year:
August 2003 options 10,000 $ 2.25 -- -- -- --
June 2003 options 50,000 $ 1.80 -- -- -- --
May 2002 options 11,000 $ 2.05 17,000 $ 2.05 -- --
March 2002 options -- -- 60,000 $ 1.58 -- --
September 2001 options 146,430 $ .75 150,000 $ .75 150,000 $ .75
January 2001 options 330,000 $ .63 330,000 $ .63 330,000 $ .63
April 1999 options 644,286 $ .63 800,000 $ .63 920,000 $ .63
June 1998 options -- -- 10,000 $ 1.13 10,000 $ 1.13
---------- ---------- ----------
1,191,716 1,367,000 1,410,000
========== ========== ==========
Outstanding and exercisable
end of year:
September 2001 options 90,000 $ .75 60,000 $ .75 30,000 $ .75
January 2001 options 198,000 $ .63 132,000 $ .63 66,000 $ .63
April 1999 options 644,286 $ .63 800,000 $ .63 920,000 $ .63
June 1998 options -- -- 10,000 $ 1.13 10,000 $ 1.13
---------- ---------- ----------
932,286 1,002,000 1,026,000
========== ========== ==========
Weighted-average fair value of
options granted during the year $1.41 $1.28 $.31
===== ===== ====
F-21
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 6--STOCK OPTIONS--CONTINUED
The remaining contractual life at December 31, 2003 is 4.4 years
for the June, 2003 options, 2.7 years for the August, 2003 options, 3.4 years
for the May, 2002 options, 2.7 years for the September, 2001 options, 2 years
for the January, 2001 options and .3 years for the April, 1999 options.
The company has 1,191,716 shares reserved for issuance,
including: 644,286 shares for the April, 1999 options, 330,000 shares for the
January, 2001 options, 146,430 shares for the September, 2001 options, 11,000
shares for the May, 2002 options, 50,000 shares for the June, 2003 options and
10,000 shares for the August, 2003 options. All options were issued at fair
market value on date of grant.
The number and exercise price of the options have been adjusted
based upon a two-for-one stock split effected by the company in February, 2004.
See Note 15.
NOTE 7--COMMON STOCK
Pursuant to a 1996 public offering 2,300,000 shares of common
stock were issued, including 300,000 shares from exercise of the underwriters
overallotment option, and 4,600,000 redeemable common stock purchase warrants to
purchase one common share each at an exercise price of $2.25 originally
exercisable through April 16, 1999, and extended to June 30, 2000, at which time
the remaining options expired. During 2000, approximately 340,000 warrants were
exercised with net proceeds to the company of approximately $765,000. The
underwriters received options to purchase 200,000 units each consisting of one
share of common stock and two common stock purchase warrants, the options
exercisable at $2.25 per unit from April 17, 1997 through their expiration on
April 16, 2001, for a total of 200,000 shares of common stock and 400,000 common
stock purchase warrants exercisable at $2.70 per share. All of the options and
warrants expired unexercised.
NOTE 8--COMMITMENTS
The company has leases on facilities housing its dialysis
operations. The aggregate lease commitments at December 31, 2003 are
approximately: 2004-$1,009,000; 2005-$941,000; 2006-$913,000; 2007-$781,000;
2008-$750,000; thereafter-$1,969,000. Total rent expense was approximately
$778,000, $521,000 and $316,000 for the years ended December 31, 2003, 2002 and
2001, respectively.
Effective January 1, 1997, the company 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 its parent
established a new 401(k) plan effective January, 2003, which allows employees,
in addition to regular employee contributions, to elect to have a portion of
bonus payments contributed. As an incentive to save for retirement, the company
will match 10% of an employee's contribution resulting from any bonus paid
during the year and may make a discretionary contribution with the percentage of
any discretionary contribution to be determined each year with only employee
contributions up to 6% of annual compensation considered when determining
employer matching.
F-22
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 8--COMMITMENTS--CONTINUED
Stephen W. Everett, CEO, President and director of the company,
has a five-year employment contract through December 31, 2005, currently at an
annual salary of $180,000. His compensation will increase in fiscal 2005 by an
amount equal to the lesser of 3% of pre-tax profits or $10,000. The employment
agreement also provides for certain fringe benefits, reimbursement of reasonable
out-of-pocket expenses, and a one-year non-compete within the United States.
NOTE 9--REPURCHASE OF COMMON STOCK
In September, 2000, the company announced its intent to
repurchase up to 600,000 shares of its common stock at current market prices.
The company repurchased and cancelled approximately 154,000 shares in the fourth
quarter of 2000 with a repurchase cost of approximately $65,000, and a total of
approximately 185,000 shares at a cost of approximately $98,000 during 2001 and
a total of approximately 21,000 shares at a cost of approximately $42,000 during
2003.
NOTE 10--CAPITAL EXPENDITURES AND DEPRECIATION
Capital expenditures and depreciation
expense were as follows:
2003 2002 2001
---------- ---------- ----------
Capital expenditures $1,656,000 $1,326,000 $1,985,000
========== ========== ==========
Depreciation expense $1,184,000 $1,060,000 $ 805,000
========== ========== ==========
NOTE 11--ACQUISITIONS
In August 2001, the company acquired the remaining 30% minority
interest in DCA of So. Ga., LLC, giving the company 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 assets
acquired. The goodwill is being amortized for tax purposes over a 15-year
period. The company's decision to make this investment was based largely on the
profitability of DCA of So. Ga. The party from whom the company acquired the
minority interest has agreements to act as medical director of two other
subsidiaries of the company. See Note 1.
In April 2002, the company 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. The company'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.
F-23
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 11--ACQUISITIONS--CONTINUED
During the second quarter of 2003, we acquired the assets of a
Georgia dialysis center and the 30% minority interests in each of two of our
existing Georgia dialysis centers for a total consideration of $1,415,000, of
which $745,000 was paid and $670,000 is payable in June, 2004, which has been
presented as a current liability as of December 31, 2003. These acquisitions
resulted in $1,368,000 of goodwill, representing the excess of the purchase
price over the fair value of the net assets acquired. The goodwill is being
amortized for tax purposes over a 15-year period. Our decision to make these
acquisitions was based on our expectation of profitability resulting from
management's evaluation of the operations of these dialysis centers. The party
from whom the 30% minority interests were purchased was the medical director of
one of the facilities at which the 30% interest was acquired and is the medical
director of three other of our Georgia dialysis facilities. See Note 1.
NOTE 12--LOAN TRANSACTIONS
We customarily fund the establishment and operations of our
dialysis facility subsidiaries, usually until they become self-sufficient,
including subsidiaries in which medical directors hold interests ranging from
20% to 49%. Except in limited circumstances, such funding is generally made
without formalized loan documents, as the operating agreements for our
subsidiaries provide for cash flow and other proceeds to first pay any such
financing that we provide, exclusive of any tax payment distributions. One such
loan exists with DCA of Vineland, LLC. In April, 2000, a company owned by the
medical director of DCA of Vineland acquired an interest in DCA of Vineland for
$203,000, which was applied to reduce our loan. The outstanding principal
indebtedness of this loan was approximately $425,000 at December 31, 2003 and
$347,000 at December 31, 2002. See Note 5.
NOTE 13--QUARTERLY FINANCIAL INFORMATION (UNAUDITED)
The following summarizes certain quarterly operating data:
Year Ended December 31, 2003 Year Ended December 31, 2002
------------------------------------- --------------------------------------
March 31 June 30 Sept. 30 Dec. 31 March 31 June 30 Sept. 30 Dec. 31
------- ------ ------ ------ ------- ------ ------ ------
(In thousands except per share data)
Net Sales $6,738 $7,424 $7,535 $7,979 $5,488 $6,315 $6,698 $6,661
Gross profit 2,535 2,907 2,829 3,184 2,093 2,598 2,718 2,686
Net income 156 220 308 466 162 339 393 348
Earnings per shares:
Basic $.02 $.03 $.04 $.06 $.02 $.04 $.05 $.04
Diluted $.02 $.03 $.04 $.05 $.02 $.04 $.05 $.04
Since the computation of earnings per share is made independently
for each quarter using the treasury stock method, the total of four quarters
earnings do not necessarily equal earnings per share for the year.
F-24
DIALYSIS CORPORATION OF AMERICA AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 14--SUPPLEMENTAL CASH FLOW INFORMATION
The following represents non-cash financing and investing
activities and other cash flow information:
2003 2002 2001
---------- ---------- ----------
Interest paid (see Note 2) $ 189,000 $ 234,000 $ 152,000
Income taxes paid (see Note 3) 777,000 1,234,000 123,000
Equipment financing (see Note 2) -- 399,000 752,000
Options exercise bonus (see Note 6) 100,000 -- --
Subsidiary minority member capital
contributions funded by notes (see Note 5) 223,000 -- --
Subsidiary minority member distributions applied
against notes and accrued interest (see Note 5) 54,000 -- --
NOTE 15--SUBSEQUENT EVENTS
The board of directors declared a two-for-one stock split with
respect to the company's 3,968,772 shares of outstanding common stock. The
record date of the split was January 28, 2004; the distribution date was
February 9, 2004; and the date Nasdaq reported the adjusted price of the common
stock was February 10, 2004. The two-for-one stock split increased the
outstanding shares of common stock at that time to 7,937,544 shares. The split
also required adjustment in the outstanding stock options by doubling the number
of shares obtainable upon exercise, and halving the exercise price of the
options. See Note 6.
On March 17, 2004, the company issued a demand promissory note to
its parent for up to $1,500,000 of financing for equipment purchases with annual
interest of 1.25% over the prime rate at the time of each advance. As of that
date the company had borrowed approximately $485,000.
F-25
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
DIALYSIS CORPORATION OF AMERICA, INC. AND SUBSIDIARIES
DECEMBER 31, 2003
- ------------------------------------------------------------------------------------------------------------------------------------
COL. A COL. B COL. C COL. D COL. E
- ------------------------------------------------------------------------------------------------------------------------------------
Additions
Balance at Additions (Deductions) Charged to Other Changes Balance
Beginning Charged (Credited) to Other Accounts Add (Deduct) at End of
Classification Of Period Cost and Expenses Describe Describe Period
- ------------------------------------------------------------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31, 2003:
Reserves and allowances deducted
from asset accounts:
Allowance for uncollectable accounts $ 831,000 $ 290,000 $(336,000)(1) $ 785,000
Valuation allowance for deferred tax asset 72,000 (20,000) -- 52,000
--------- --------- --------- ---------
$ 903,000 $ 270,000 $(336,000) $ 837,000
========= ========= ========= =========
YEAR ENDED DECEMBER 31, 2002:
Reserves and allowances deducted
from asset accounts:
Allowance for uncollectable accounts $ 727,000 $ 721,000 $(617,000)(1) $ 831,000
Valuation allowance for deferred tax asset 217,000 (145,000) -- 72,000
--------- --------- --------- ---------
$ 944,000 $ 576,000 $(617,000) $ 903,000
========= ========= ========= =========
YEAR ENDED DECEMBER 31, 2001:
Reserves and allowances deducted
from asset accounts:
Allowance for uncollectable accounts $ 306,000 $ 659,000 $(238,000)(1) $ 727,000
Valuation allowance for deferred tax asset 440,000 (223,000) -- 217,000
--------- --------- --------- ---------
$ 746,000 $ 436,000 $(238,000) $ 944,000
========= ========= ========= =========
(1) Uncollectable accounts written off, net of recoveries.
F-26
EXHIBITS
TO
DIALYSIS CORPORATION OF AMERICA
ANNUAL REPORT ON FORM 10-K FOR THE FISCAL YEAR ENDED DECEMBER 31, 2003
10.3 Renewal of Lease between the Company and DCA of Lemoyne, Inc.(1) dated
December 30, 2004.
10.8 Renewal of Lease between DCA of Manahawkin, Inc.(5) and William P.
Thomas dated February 20, 2004.
10.46 Demand Promissory Note from the Company to Medicore, Inc. dated March
1, 2004.
21 Subsidiaries of the Company.
31.1 Certification of Principal Executive Officer Pursuant to Rule 13a-14(a)
of the Securities Exchange Act of 1934.
31.2 Certification of Principal Financial Officer Pursuant to Rule 13a-14(a)
of the Securities Exchange Act of 1934.
32.1 Certification of Chief Executive Officer and Principal Financial
Officer pursuant to Rule 13a-14(b) of the Securities Exchange Act of
1934 and 18 U.S.C. Section 1350.