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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [FEE REQUIRED]
For the fiscal year ended December 31, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
For the transition period from____________ to __________
Commission file number 0-6906
MEDICORE, INC.
(Exact name of registrant as specified in its charter)
FLORIDA 59-0941551
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2337 WEST 76TH STREET, HIALEAH, FLORIDA 33016
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (305) 558-4000
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Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Title of each class
-------------------
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 $6,425,977.
As of March 10, 2004 the company had outstanding 6,988,614 shares of
common stock.
DOCUMENTS INCORPORATED BY REFERENCE
Part III incorporating information by reference from the Proxy Statement
in connection with the Registrant's Annual Meeting of Shareholders anticipated
to be on June 3, 2004.
Registrant's Annual Reports, Forms 10-K, for the years ended December 31,
1994, 1997 to 1999 and 2001 Part IV, Exhibits, incorporated in Part IV of this
Annual Report.
Annual Report for Registrant's Subsidiary Dialysis Corporation of America,
Form 10-K for the years ended December 31, 1996 to 2003, Part IV, Exhibits,
incorporated in Part IV of this Annual Report.
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MEDICORE, INC.
INDEX TO ANNUAL REPORT ON FORM 10-K
YEAR ENDED DECEMBER 31, 2003
Page
PART I
Item 1. Business....................................................................... 1
Item 2. Properties..................................................................... 32
Item 3. Legal Proceedings.............................................................. 34
Item 4. Submission of Matters to a Vote of Security Holders............................ 35
PART II
Item 5. Market for the Registrant's Common Equity, Related Stockholder Matters and
Issuer Purchases of Equity Securities.......................................... 35
Item 6. Selected Financial Data........................................................ 37
Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations.................................. 38
Item 7A. Quantitative and Qualitative Disclosures About Market Risk..................... 51
Item 8. Financial Statements and Supplementary Data.................................... 51
Item 9. Changes in and Disagreements with Accountants
on Accounting and Financial Disclosure......................................... 52
Item 9A. Controls and Procedures........................................................ 52
PART III
Item 10. Directors and Executive Officers of the Registrant............................. 53
Item 11. Executive Compensation......................................................... 54
Item 12. Security Ownership of Certain Beneficial Owners and Management
and Related Stockholder Matters................................................ 54
Item 13. Certain Relationships and Related Transactions................................. 54
Item 14. Principal Accountant Fees and Services......................................... 54
PART IV
Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K............... 55
Signatures................................................................................ 62
PART I
CAUTIONARY NOTICE REGARDING FORWARD-LOOKING INFORMATION
The statements contained in this Annual Report on Form 10-K that are not
historical are forward-looking statements within the meaning of Section 27A of
the Securities Act of 1933 and Section 21E of the Securities Exchange Act of the
1934. The Private Securities Litigation Reform Act of 1995 contains certain safe
harbors regarding forward-looking statements. Certain of the forward-looking
statements include management's expectations, intentions and beliefs with
respect to the growth of our company, the nature of and future development of
the dialysis industry in which our 59% owned public subsidiary, Dialysis
Corporation of America, is engaged, anticipated revenues, our need for sources
of funding for expansion, our business strategies and plans for future
operations, our needs for capital expenditures, capital resources, liquidity and
operating results, and similar matters that are not considered historical facts.
See Item 7, "Management's Discussion and Analysis of Financial Condition and
Results of Operations." Words such as "anticipate," "estimate," "expects,"
"projects," "intends," "plans" and "believes," and words and terms of similar
import used in connection with any discussions of future operating or financial
performance identify forward-looking statements. Such forward-looking
statements, like all statements about expected future events, are subject to
substantial risks and uncertainties that could cause actual results to
materially differ from those expressed in the statements, including general
economic, market and business conditions, opportunities pursued or abandoned,
competition, changes in federal and state laws or regulations affecting our
business and operations, and other factors discussed periodically in our
filings. Many of the foregoing factors are beyond our control. Among the factors
that could cause actual results to differ materially are the factors detailed in
the risks discussed in the "Risk Factors" section below. If any such events
occur or circumstances arise that we have not assessed, they could have a
material adverse effect upon our revenues, earnings, financial condition and
business, as well as the trading price of our common stock, which could
adversely affect your investment in us. 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
GENERAL
Medicore, Inc., incorporated in Florida in 1961, has three business
segments: (i) the medical products division which distributes medical products;
(ii) the operation of kidney dialysis centers and other dialysis services
through our 59% owned public subsidiary, Dialysis Corporation of America; and
(iii) the investment in technology companies through our approximately 14%
interest in Linux Global Partners, Inc. (and in which Dialysis Corporation of
America has an approximately 2% interest), a private speculative company that
invests in developing Linux software companies, including Xandros, Inc., a 95%
owned subsidiary of Linux Global Partners that has developed and recently
commenced marketing of a Linux desktop operating system. We had outstanding
loans since 2000 to Linux Global Partners which aggregated approximately
$2,742,000 at December 31, 2002, upon which we declared a default and sold
certain collateral at public auction on January 24, 2003 to satisfy the
indebtedness. The collateral, 4,115,815 shares of Ximian, Inc.'s series A
convertible preferred stock, was purchased by Xandros, but Xandros subsequently
failed to meet the purchase terms resulting in Medicore, pursuant such purchase
terms, retaining Xandros' down payment of 775,000 of its shares of common stock
(approximately 1.5% of Xandros' outstanding common shares), as well as the
Ximian preferred shares
that comprised the collateral. In connection with a third-party's
acquisition of Ximian in August 2003, we sold the Ximian preferred stock for
approximately $3,541,000 in cash proceeds. An additional approximately $805,000
of cash proceeds from our sale of the Ximian preferred shares was placed in
escrow in accordance with the terms of the Ximian acquisition, with one-half of
the escrowed funds to be released to us on the first anniversary of the Ximian
acquisition, and the other half on the second anniversary of the Ximian
acquisition, pending fulfillment by the parties to the Ximian acquisition of
certain conditions. See this section below "Business - Technology Companies,"
and "Risk Factors," Item 13, "Certain Relationships and Related Transactions,"
and Notes 6 and 11 to "Notes to Consolidated Financial Statements." We sold our
71% owned public subsidiary, Techdyne, Inc., in June, 2001, subsequent to which
we have no continuing operations as a contract manufacturer of electronic
components. The dialysis operations are the most significant part of our
operations, accounting for approximately 97% of our sales revenues. Our
investment in technology companies, currently limited to Linux Global Partners
and Xandros, has not generated any revenues other than interest income and a
gain of approximately $784,000 from our sale of the Ximian preferred stock. Our
medical products division accounts for approximately 3% of our sales revenues.
Our executive offices are located at 2337 West 76th Street, Hialeah,
Florida 33016 and at 777 Terrace Avenue, Hasbrouck Heights, New Jersey 07604.
Our telephone number in Florida is (305) 558-4000 and in New Jersey is (201)
288-8220. You may further communicate with us at the following:
Florida New Jersey
Fax: (305) 825-0961 Fax: (201) 288-8208
Email: medicore@compuserve.com
MEDICAL PRODUCTS
We develop and distribute medical products, primarily disposables, both
domestically and internationally, to hospitals, blood banks, laboratories and
retail pharmacies. Products distributed include exam gloves, prepackaged swabs
and bandages and glass tubing products for laboratories. We additionally
distribute a line of blood lancets used to draw blood for testing. The lancets
are distributed under the names Producers of Quality Medical Disposables(TM),
Lady Lite(TM), our brand name Lite Touch, or under a private label if requested
by the customer. Medical devices are required by the FDA, as a condition of
marketing, to secure a 510(k) premarket notification clearance or a Premarket
Approval Application. A product will be cleared by the FDA under a 510(k) if it
is found to be substantially equivalent in terms of safety, effectiveness and
intended use to another legally marketed product. We received 510(k) clearance
for our blood lancet line and insulin syringes, and for the sterile products.
Our medical products are subject to continuing FDA oversight, including
labeling, "good manufacturing practices," as defined in FDA regulations, and
adverse event reporting, none of which adverse events have occurred to date.
Although we hold three patents related to our lancets (see "Patents and Trade
Names" below), and obtained required FDA approval relating to the production of
lancets, we are no longer manufacturing these products. As of April 1, 2001, we
commenced purchasing lancets from manufacturers in the Far East. Marketing of
medical products is conducted by independent manufacturer representatives and
our employees.
DIALYSIS OPERATIONS
Dialysis Corporation of America currently operates 19 outpatient dialysis
centers in Georgia, Maryland, New Jersey, Ohio, Pennsylvania, South Carolina and
Virginia, including Dialysis Corporation of America's management of an Ohio
center in which it has a 40% interest and an unaffiliated Georgia
2
center, in each case pursuant to management services agreements. Dialysis
Corporation of America also provides acute dialysis services through contractual
relationships with seven hospitals and medical centers. In addition, it provides
homecare services through its wholly owned subsidiary, DCA Medical Services,
Inc. Management believes that Dialysis Corporation of America distinguishes
itself on the basis of quality patient care and a patient-focused, courteous,
highly trained professional staff.
General
Dialysis Corporation of America's growth depends primarily on the
availability of suitable dialysis centers for development or acquisition in
appropriate and acceptable areas, and its ability to develop new dialysis
centers at costs within its budget while competing with larger companies, some
of which are public companies or divisions of public companies with greater
numbers of personnel and amounts of financial resources. Dialysis Corporation of
America opened two new centers in February 2003, one in Maryland and one in
Ohio, and acquired a center in Georgia in the second quarter of 2003. Dialysis
Corporation of America also opened three new centers in early 2004, one in each
of Pennsylvania, Virginia and South Carolina, and is in the process of
constructing a new dialysis center in Maryland.
Dialysis Corporation of America's medical service revenues are derived
primarily from four sources: (i) outpatient hemodialysis services (50%, 49% and
47% of its medical services revenues for 2003, 2002 and 2001, respectively);
(ii) home peritoneal dialysis services, including method II services (4%, 3% and
3% of its 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 its 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 its medical services
revenue for 2003, 2002 and 2001, respectively). Dialysis is an ongoing and
necessary therapy to sustain life for kidney dialysis patients., with end stage
renal disease, or ESRD. ESRD patients normally receive 156 dialysis treatments
each year.
Essential to Dialysis Corporation of America's operations and income is
Medicare reimbursement which is a fixed rate determined by the Center for
Medicare and Medicaid Services ("CMS") of the Department of Health and Human
Services ("HHS"). The level of our revenues and profitability may be adversely
affected by future legislation that could result in rate cuts. Further, Dialysis
Corporation of America's operating costs tend to increase over the years in
excess of increases in the prescribed dialysis treatment rates. The inpatient
dialysis service agreements for treating acute kidney disease are not subject to
government fixed rates, but rather are negotiated with hospitals Typically these
rates are at least equivalent to or higher than the government fixed rates on a
per treatment basis.
Dialysis Industry
Kidneys act as a filter removing harmful substances and excess water
from the blood, enabling the body to maintain proper and healthy balances of
chemicals and water. Chronic kidney failure, ESRD, results from chemical
imbalance and buildup of toxic chemicals, and is a state of kidney disease
characterized by advanced irreversible renal impairment. ESRD patients, in order
to survive, must either obtain a kidney transplant, which procedure is limited
due to lack of suitable kidney donors and the incidence of rejection of
transplanted organs, or obtain dialysis treatment for the rest of their lives.
Based upon information published by the CMS, the number of ESRD
patients requiring dialysis treatments in the United States is approximately
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
3
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 which machine also
controls external blood flow and monitors the toxic and fluid removal process.
The dialyzer has two separate chambers divided by a semi-permeable membrane, and
simultaneously with the blood circulating through one chamber, dialyzer fluid
circulates through the other chamber. The toxins and excess fluid pass through
the membrane into the dialysis fluid. On the average, patients usually receive
three treatments per week with each treatment taking three to five hours.
Dialysis treatments are performed by teams of licensed nurses and trained
technicians pursuant to the staff physician's instructions.
Home hemodialysis treatment requires the patient to be medically
suitable and have a qualified assistant. Additionally, home hemodialysis
requires training for both the patient and the patient's assistant, which
usually encompasses four to eight weeks. Dialysis Corporation of America does
not currently provide home hemodialysis (non-peritoneal) services. The use of
conventional home hemodialysis has declined and is minimal due to the patient's
suitability and lifestyle, the need for the presence of a partner and a dialysis
machine at home, and the higher expense involved 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.
4
Dialysis Corporation of America's Business Strategy
Dialysis Corporation of America has 27 years' experience in developing
and operating dialysis treatment facilities. Its priority is to provide quality
patient care. Dialysis Corporation of America intends to continue to establish
alliances with physicians and hospitals, attempts to initiate dialysis service
arrangements with nursing homes and managed care organizations, and to continue
to emphasize its high quality patient care.
Dialysis Corporation of America continues to actively seek and
negotiate with physicians and others to establish new outpatient dialysis
facilities. In 2004, Dialysis Corporation of America opened a dialysis center in
each of Pennsylvania, South Carolina and Virginia, and it is in the process of
constructing a dialysis center in Maryland. It is also in different stages of
negotiations with physicians for potential new facilities in a variety of
states.
In June, 2001 we sold our controlling interest in Techdyne, Inc. for
$10,000,000 plus a three year earn-out which will amount to between $2,500,000
and $5,000,000. A substantial portion of our after tax proceeds from that sale
are available and may be utilized for expansion of Dialysis Corporation of
America's dialysis operations.
Development and Acquisition of Facilities
One of the primary elements in developing or acquiring dialysis centers
is locating an area with an existing patient base under the current treatment of
a local nephrologist, since the proposed facility would primarily be serving
such patients. Other considerations in evaluating development of a dialysis
facility or a proposed acquisition are the availability and cost of qualified
and skilled personnel, particularly nursing and technical staff, the size and
condition of the facility and its equipment, the atmosphere for the patients,
the area's demographics and population growth estimates, state regulation of
dialysis and healthcare services, and the existence of competitive factors such
as existing outpatient dialysis facilities within reasonable proximity to the
proposed center.
Dialysis Corporation of America's expansion is accomplished primarily
through the development of its own dialysis facilities. Acquisition of existing
outpatient dialysis centers is a faster but more costly means of growth. To
construct and develop a new facility ready for operations takes an average of
six to eight months, and approximately 12 months or longer to generate income,
all of which are subject to variations based on location, size and competitive
elements. Some of Dialysis Corporation of America's centers are in the
developmental stage, since they have not reached the point where the patient
base is sufficient to generate and sustain earnings. See Item 7, "Management's
Discussion and Analysis of Financial Condition and Results of Operations."
Construction of a 15 station facility typically costs in a range of $600,000 to
$750,000 depending on location, size and related services to be provided by the
proposed facility. Acquisition of existing facilities is substantially more
expensive, and is usually based primarily upon its patient base and earnings,
and to a lesser extent, location and competition. Any significant expansion,
whether through acquisition or development of new facilities, is dependent upon
existing funds or financing from other sources.
Inpatient Services
Management of Dialysis Corporation of America is also seeking to
increase acute dialysis care contracts with hospitals for inpatient dialysis
services. These contracts are sought with hospitals in areas
5
serviced by its facilities. The contract rates are individually negotiated with
each hospital and are not fixed by government regulation as is the case with
Medicare reimbursement fees for ESRD patient treatment.
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
Dialysis Corporation of America will be able to continue to enter into favorable
relationships with physicians who would become medical directors of such
proposed dialysis facilities, or that Dialysis Corporation of America will be
able to acquire or develop any new dialysis centers within a favorable
geographic area. Newly established dialysis centers, although contributing to
increased revenues, initially adversely affect results of operations due to
their start-up costs and expenses and due to their having a smaller and slower
developing patient base. See this Item 1, "Business - Dialysis Corporation of
America's Business Strategy - Operations and Competition," and Item 7,
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
Operations
Location, Capacity and Use of Facilities
Dialysis Corporation of America operates 19 outpatient dialysis
facilities in Georgia, Maryland, New Jersey, Ohio, Pennsylvania, South Carolina
and Virginia, including an Ohio dialysis center in which it holds a 40% interest
and which it operates in conjunction with the majority owner, the medical
director of that center, and an unaffiliated center in Georgia which it manages.
These dialysis facilities have a total designed capacity of 280 licensed
stations.
The owner of the facility in Georgia that is managed by Dialysis
Corporation of America is involved in litigation and subject to its success in
that litigation and continuing to be the sole owner of that facility, Dialysis
Corporation of America has given the owner a put option to sell to a subsidiary
of Dialysis Corporation of America all the assets of that Georgia dialysis
facility. The Dialysis Corporation of America subsidiary holds a call option to
purchase the assets of the Georgia facility. Each of the put and call options
are exercisable through September, 2005. The put option, however, is not
exercisable unless that Georgia dialysis facility has recorded $100,000 in
pre-tax income. Upon exercise of either the put or call option the owner would
receive a 20% interest in Dialysis Corporation of America's subsidiary which
will own and operate the Georgia facility, and the remainder of the purchase
price will be paid in cash, determined on a formula based upon a multiple of
EBITDA.
Dialysis Corporation of America owns and operates its centers through
subsidiaries a majority of which are 100% owned, with the balance of the centers
owned by Dialysis Corporation of America as a majority owner in conjunction with
the medical directors of those centers who hold minority interests ranging from
20% to 49%. Dialysis Corporation of America has a minority 40% interest in a
center in Toledo, Ohio which it manages. The Lemoyne, Pennsylvania, and one of
the Georgia dialysis facilities are located on properties owned by Dialysis
Corporation of America and leased to the subsidiaries operating those centers.
Dialysis Corporation of America's Cincinnati, Ohio dialysis center is leased
from a corporation owned by the medical director of that facility who, together
with his wife, holds a 40% interest in the subsidiary operating that center. See
Item 2, "Properties." Dialysis Corporation of America also manages an
unaffiliated dialysis center in Georgia.
6
Additionally, Dialysis Corporation of America provides acute care
inpatient dialysis services to seven hospitals in areas serviced by its dialysis
facilities, two less than it serviced at this time last year, and it is in the
process of negotiating additional acute dialysis services contracts in the areas
surrounding its facilities as well as in tandem with development of future
proposed sites. Each of Dialysis Corporation of America's 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 of Dialysis Corporation of America 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. Management of Dialysis
Corporation of America believes it can increase the number of dialysis
treatments at its centers without making significant additional capital
expenditures.
Operations of Dialysis Facilities
Dialysis Corporation of America's 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. Dialysis Corporation of America's facilities
also have a designated area for training patients in home dialysis. Each
facility also offers amenities for the patients, such as a color television with
headsets for each dialysis station, to ensure the patients are comfortable and
relaxed. Dialysis Corporation of America's facilities offer high-efficiency
conventional hemodialysis, which, it believes, provides the most viable
treatment for most patients, and management considers its dialysis equipment to
be both modern and efficient, providing state of the art treatment in a safe and
comfortable environment.
Dialysis Corporation of America maintains a team of dialysis
specialists to provide for the individual needs of each patient. In accordance
with participation requirements under the Medicare ESRD program, each facility
retains a medical director qualified and experienced in the practice of
nephrology and the administration of a renal dialysis facility. See "Physician
Relationships" below. Each facility is overseen by a nurse administrator who
supervises the daily operations and the staff, which consists of registered
nurses, licensed practical nurses, patient care technicians, a part-time social
worker to assist the patient and family to adjust to dialysis treatment and to
provide help in financial assistance and planning, and a part-time registered
dietitian. In addition, there are independent consultants who visit with the
dialysis patients at the facilities. These individuals supervise the patient's
needs and treatments. See "Employees" below. Dialysis Corporation of America
must continue to attract and retain skilled nurses and other staff, competition
for whom is intense.
Dialysis Corporation of America's 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
Dialysis Corporation of America.
7
Inpatient Dialysis Services
Dialysis Corporation of America presently provides inpatient dialysis
services to seven hospitals in Georgia, Ohio and Pennsylvania, under agreements
either with it or with one of its subsidiaries in the area. The agreements are
for a term ranging from one to five years, with automatic renewal terms, subject
to termination by notice of either party. Inpatient services are typically
necessary for patients with acute kidney failure resulting from trauma or
similar causes, patients in the early stages of ESRD, and ESRD patients who
require hospitalization for other reasons.
Ancillary Services
Dialysis Corporation of America's 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 Dialysis
Corporation of America has a good relationship with the manufacturer and has not
experienced any problems in receipt of its supply of EPO, any loss or limitation
of supply of this product could have a material adverse effect on Dialysis
Corporation of America's and 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.
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. Dialysis Corporation of
America retains, by written agreement, qualified physicians or groups of
qualified physicians to serve as medical directors for each of its facilities.
The medical directors are typically a source of patients treated at the
particular center served. Medical directors of six of Dialysis Corporation of
America's centers have acquired a minority ownership interest in the subsidiary
operating the center they service ranging from 20% to 49%. Dialysis Corporation
of America's Toledo, Ohio affiliate is owned 60% by the physician. Dialysis
Corporation of America makes every effort to comply with federal and state
regulations concerning its relationship with the physicians and the medical
directors treating patients at its facilities, and is not aware of any
limitation on physician ownership in its subsidiaries. See Item 1, "Business -
Government Regulation - Dialysis Corporation of America."
Agreements with medical directors typically range from a term of five
years to 10 years, with renewal provisions. Each agreement specifies the duties,
responsibilities and compensation of the medical director. Under each agreement,
the medical director or professional association maintains his, her or its own
medical malpractice insurance. The agreements also provide for non-competition
in a limited geographic area surrounding that particular dialysis center during
the term of the agreement and upon termination for a limited period. These
agreements, however, do not prohibit physicians providing services at Dialysis
Corporation of America's facilities from providing direct patient care services
at other
8
locations; and consistent with federal and state law, such agreements do not
require a physician to refer patients to Dialysis Corporation of America
dialysis centers. Usually, physician's professional fees for services are billed
directly to the patient or the government payment authorities on a direct basis
by the treating physician and paid directly to the physician or the professional
association.
Dialysis Corporation of America's ability to establish and operate a
dialysis facility in a particular area is substantially dependent upon the
availability of a qualified physician or nephrologist to serve as the medical
director. The loss of a medical director who could not be readily replaced would
have a material adverse effect on the operations of that facility, most likely
resulting in closure and, consequently, on the operations of Dialysis
Corporation of America. Compensation of medical directors is separately
negotiated for each facility and generally depends on competitive factors such
as the local market, the physician's qualifications and the size of the
facility.
Quality Assurance
Dialysis Corporation of America implements a quality assurance program
to maintain and improve the quality of dialysis treatment and care it provides
to patients in every facility. Quality assurance activities involve the ongoing
examination of care provided, the identification of therapy deficiencies, the
need for any necessary improvements in the quality of care and the 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. Dialysis Corporation of America's Vice President of Clinical
Services, who is a certified nephrology nurse, oversees this program in addition
to ensuring that Dialysis Corporation of America meets federal and state
compliance requirements for dialysis centers. See Item 1, "Business - Government
Regulation - Dialysis Corporation of America."
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 Dialysis
Corporation of America operates provide Medicaid or comparable benefits to
qualified recipients to supplement their Medicare coverage.
Under the ESRD Program, payments for dialysis services are determined
pursuant to Part B of the Medicare Act which presently pays 80% of the allowable
charges for each dialysis treatment furnished to patients. The maximum payments
vary based on the geographic location of the center. The remaining 20% may be
paid by Medicaid if the patient is eligible, from private insurance funds or the
patient's personal funds. If no secondary payor covers the remaining 20%,
Medicare may reimburse part of the balance as part of Dialysis Corporation of
America's cost report filings. Medicare and Medicaid programs are subject to
regulatory changes, statutory limitations and government funding restrictions,
which may adversely affect Dialysis Corporation of America's dialysis services
payments and, consequently, its revenues. See "Medicare Reimbursement" below.
9
Inpatient dialysis services provided by Dialysis Corporation of America
are paid for by the hospital or medical center pursuant to contractual
pre-determined fees for the different dialysis treatments.
Medicare Reimbursement
Dialysis Corporation of America is reimbursed primarily by Medicare
under a prospective reimbursement system for chronic dialysis services, and by
third party payors including Medicaid and commercial insurance companies. Each
of Dialysis Corporation of America's dialysis facilities is certified to
participate in the Medicare program. The Medicare reimbursement system fixes the
reimbursement rates in advance and limits the allowable charge per treatment,
but provides Dialysis Corporation of America with predictable and recurring per
treatment revenues and allows it to retain any profit earned. An established
composite rate set by CMS governs the Medicare reimbursement available for a
designated group of dialysis services, including dialysis treatments, supplies
used for such treatments, certain laboratory tests and medications. The Medicare
composite rate is subject to regional differences.
Dialysis Corporation of America receives reimbursement for outpatient
dialysis services provided to Medicare-eligible patients at rates that are
currently between approximately $121 and $136 per treatment, depending upon
regional wage variations. The Medicare reimbursement rate is subject to change
by legislation. The average ESRD reimbursement rate is approximately $131 per
treatment for outpatient dialysis services. The Medicare ESRD maximum 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
Dialysis Corporation of America's medical services revenues 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
revenues. We submit claims monthly and are usually paid by Medicare within 14
days of the submission.
There have been a variety of proposals to Congress for Medicare reform.
We are unable to predict what, if any, future changes may occur in the rate of
reimbursement. 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 would have a material
adverse effect on Dialysis Corporation of America's and our business, revenues
and net earnings.
Medicaid Reimbursement
Medicaid programs are state administered programs partially funded by
the federal government. These programs are intended to provide coverage for
patients whose income and assets fall below state defined levels and who are
otherwise uninsured. The programs also serve as supplemental insurance programs
for the Medicare co-insurance portion and provide certain coverages (e.g., oral
medications) that are not covered by Medicare. State regulations generally
follow Medicare reimbursement levels and coverages without any co-insurance
amounts. Certain states, however, require beneficiaries to pay a
10
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. Dialysis
Corporation of America is a licensed ESRD Medicaid provider in Georgia,
Maryland, New Jersey, Ohio, Pennsylvania, South Carolina and Virginia.
DIALYSIS CORPORATION OF AMERICA
SOURCES OF MEDICAL SERVICES REVENUES
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 and 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 providing capital equipment, preparing budgets, bookkeeping,
accounting, data processing, and other corporate based information services,
materials and human resource management, billing and collection, and accounts
receivable and payable processing. These services are provided for a percentage
of net revenues of each facility.
CORPORATE INTEGRITY PROGRAM
Medicore and Dialysis Corporation of America have each developed a
Corporate Integrity Program to assure that each entity continues to achieve the
goals of providing the highest level of care and service in a professional and
ethical manner consistent with applicable federal and state laws and
regulations. These programs are intended to reinforce Dialysis Corporation of
America's as well as 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. These
programs are expected to benefit the overall care and services Dialysis
Corporation of America provides to its dialysis patients, and that we provide to
our medical products customers, and to further assure that our operations are in
compliance with the law, which in turn should also assist both Dialysis
Corporation of America and us in operating in a cost-effective manner, and
accordingly, benefit our shareholders.
The board of directors of both Medicore and Dialysis Corporation of
America have established audit committees each consisting of three independent
members of the board who oversee audits, accounting, financial reporting, and
who have established procedures for receipt, retention and resolution of
complaints relating to those areas (none to date), among other responsibilities.
The audit committees operate under charters providing for their detailed
responsibilities.
Dialysis Corporation of America has developed a Compliance Program to
assure compliance with fraud and abuse laws, enhance communication of
information, and provide a mechanism to quickly identify and correct any
problems that may arise. This Compliance Program supplements and enhances its
existing policies, including those applicable to claims submission, cost report
preparation, internal audit and human resources.
11
Code of Ethics
As part of our Corporate Integrity Program, we have developed a Code of
Ethics and Business Conduct covering management and all employees to assure all
persons affiliated with us and our operations act in an ethical and lawful
manner. The Code of Ethics and Business Conduct covers relationships among and
between affiliated persons, including Dialysis Corporation of America patients
and payors, and relates to information processing, compliance, workplace
conduct, environmental practices, training, education, development, among other
areas. Dialysis Corporation of America has also developed its Code of Ethics and
Business Conduct and, in its commitment to delivering quality care to dialysis
patients, has 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 Programs are implemented and upgraded to
provide a highly professional work environment and lawful and efficient business
operations to better serve our patients and customers and our shareholders.
Potential Liability and Insurance
Participants in the health care industry are subject to lawsuits based
upon alleged negligence, many of which involve large claims and significant
defense costs. We are very proud of the fact that, although Dialysis Corporation
of America has been involved in chronic and acute kidney dialysis services for
approximately 27 years, it has never been subject to any suit relating to the
providing of dialysis treatments. In July, 2002, Dialysis Corporation of America
initiated a breach of contract dispute that was recently settled. See Item 3,
"Legal Proceedings." We currently have general and umbrella liability insurance,
in addition to property and workmen's compensation coverage. Dialysis
Corporation of America carries similar insurance coverage, as well as
professional and products liability insurance. Our insurance policies provide
coverage on an "occurrence" basis and are subject to annual renewal. A
hypothetical successful claim against Dialysis Corporation of America in excess
of its insurance coverage could have a material adverse effect upon Dialysis
Corporation of America's and our business and results of operations. The medical
directors supervising Dialysis Corporation of America's dialysis operations and
other physicians practicing at the facilities are required to maintain their own
professional malpractice insurance coverage.
12
TECHNOLOGY COMPANIES
In January, 2000, we established a new division with the purpose of
investing in and incubating new technology companies, primarily involved with
Internet technology. Our initial investment was in Linux Global Partners, Inc.,
a private company which, through its 95% owned subsidiary, Xandros, Inc., has
developed and recently commenced marketing of a Linux desktop operating system.
In addition to Xandros, Linux Global Partners has investments in a variety of
other Linux-related software companies, and is attempting to negotiate strategic
alliances with certain of those companies in order to employ their systems in
conjunction with Linux Global Partner's desktop system. We hold an approximate
14% interest in Linux Global Partners, and Dialysis Corporation of America holds
an approximate 2% interest. During 2000, we loaned Linux Global Partners
$2,200,000 at an annual rate of interest of 10%, which funds we borrowed from
our subsidiary, Dialysis Corporation of America. In May and June, 2001, we fully
repaid the principal amount of this loan and accrued interest to Dialysis
Corporation of America. In 2001, Linux Global Partners paid us $215,000 of which
$200,000 was applied to the principal amount of the indebtedness. Our loan to
Linux Global Partners had been extended on various occasions, and in 2002 we
advanced another $250,000 to Linux Global Partners under the same terms as the
original loan. At December 31, 2002, the principal and accrued interest on the
loans to Linux Global Partners aggregated approximately $2,742,000. The
indebtedness was collateralized by Linux Global Partner's portfolio consisting
of several companies that focus on the software capabilities of the Linux
operating system. Some of Linux Global Partners' investments, which range from
6% to 90% ownership, include Code Weavers, a software development service and
porting company; and Metro Link, which is involved in Linux graphics and the
embedded technology sector. All of these companies are private and are in the
developmental stages, several with limited revenues, and their success remains
speculative.
Under the terms of the loan arrangement with Linux Global Partners, we
were to receive $100,000 per month or 25% of the proceeds of Linux Global
Partners' private financings, whichever first occurred, and until such
repayment, Linux Global Partners had been issuing 50,000 shares of its common
stock to us every month. We declared the loan in default and sold, under the
requirements of the Uniform Commercial Code, certain of the collateral at public
auction on January 24, 2003. The auction sale consisted of 4,115,815 shares of
Ximian, Inc. series A convertible preferred stock, which Xandros committed to
purchase for $2,992,000. Xandros subsequently failed to meet the conditions of
purchase and as a result, in accordance with the negotiated terms of the
acquisition of the collateral, forfeited 775,000 shares of its common stock that
it had deposited with us as a down payment towards the purchase of the
collateral, and we retained the 4,115,815 preferred shares of Ximian. In
connection with a third-party's acquisition of Ximian in August, 2003, we sold
the Ximian preferred stock for approximately $3,541,000 in cash proceeds
resulting in a gain of approximately $784,000. An additional approximately
$805,000 of proceeds due us from the sale of the Ximian securities was placed in
escrow in accordance with the terms of the acquisition agreement, with one-half
of the escrowed funds to be released to us on the first anniversary of the
Ximian acquisition, and the other half on the second anniversary of the Ximian
acquisition, pending fulfillment by the parties to the Ximian acquisition of
certain conditions., We will record an additional gain based on net proceeds
received at the time these funds are released from escrow. See Item 1, "Business
- - Risk Factors - Investment in Technology Companies," Item 7, "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
Notes 6 and 11, to "Notes to Consolidated Condensed Financial Statements."
Linux is a free operating system, with its source code openly
published, developed and improved over the years by a worldwide community of
programmers. Linux has become an increasingly popular operating system posing a
potential challenge to the current major operating systems, such as Microsoft's
13
Windows NT and Sun Microsystems' Solaris, two of the leading operating systems
used on server computers, the data-serving machines that are the engines of
corporate networks and the Internet. In August, 2001, Linux Global Partners
purchased Corel Corporation's Canadian Linux Business Division, which Linux
Global Partners is operating through its subsidiary, Xandros. Corel, the world's
second largest desktop software company, holds a 5% interest in that subsidiary.
Xandros, building on Corel's $25 million investment in research and development
of the Linux desktop system, enhanced the system for commercial exploitation,
and in October, 2002, initiated the marketing of a Linux operating system and
suite of applications for desktop computing. The Linux operating system has
received high accolades from a variety of technical software publications and
was among five prize winners for desktop software technology awarded by Norge, a
pc magazine. Xandros has been obtaining limited financing for its operations,
and is in need of substantial capital to continue its marketing and further
development of the Linux desktop operating system. Although Xandros is in
discussions with a variety of investors, some of whom have already provided
funding to its parent, Linux Global Partners, and itself, there is no assurance
such capital will be available or, if so, on favorable terms.
We recognize that Xandros is subject to all the risks of a startup
company, including its ability to continue operations, commercial acceptance of
the Linux desktop system, the availability of resources to further develop,
market and distribute the system, its ability to generate revenues and whether
such revenues will be sufficient to reflect income, and management's oversight
of the operations and growth of the company.
We continue to evaluate the technology sector for potential further
investments.
DISCONTINUED OPERATIONS
We formerly were engaged as a contract manufacturer of electronic and
electro-mechanical products, primarily for the data processing,
telecommunications, instrumentation and food preparations equipment industries,
accomplished through our 71% owned public subsidiary, Techdyne, Inc. We sold our
71% interest in Techdyne on June 27, 2001. Accordingly Techdyne is presented as
a discontinued operation.
GOVERNMENT REGULATION
Dialysis Corporation of America
Regulation of healthcare facilities, including dialysis facilities, is
extensive, with legislation continually proposed relating to safety, maintenance
of equipment and proper records, quality assurance programs, reimbursement
rates, confidentiality of medical records, licensing and other areas of
operations. Each of the dialysis centers must be certified by CMS, and Dialysis
Corporation of America must comply with certain rules and regulations
established by CMS regarding charges, procedures and policies. Each dialysis
center is also subject to periodic inspections by federal and state agencies to
determine the satisfaction of regulatory standards to its operations. Dialysis
Corporation of America's 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 Dialysis Corporation of
America is presently operating.
14
Dialysis Corporation of America's record of compliance with federal,
state and local governmental laws and regulations remains excellent. Enforcement
of healthcare facility regulations, both privately and by the government, has
become more stringent, particularly in attempts to combat fraud and waste,
adding to compliance costs as well as potential sanctions. We are unable to
predict the scope and effect of any changes in government regulations on
Dialysis Corporation of America's operations, particularly any modifications in
the reimbursement rate for medical services or requirements to obtain
certification from CMS. Since its inception in 1976, Dialysis Corporation of
America has maintained all of its licenses, including its Medicare and Medicaid
and equivalent certifications. The loss of any licenses and certifications would
have a material adverse effect on Dialysis Corporation of America's operations,
revenues and earnings.
Dialysis Corporation of America regularly reviews legislative and
regulatory changes and developments and will restructure a business arrangement
if it determines such might place its operations in material noncompliance with
such law or regulation. See "Fraud and Abuse" and "Stark II" below. To date,
none of Dialysis Corporation of America's business arrangements with physicians,
patients or others have been the subject of investigation by any governmental
authority. No assurance can be given, however, that Dialysis Corporation of
America's 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
Dialysis Corporation of America's 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 certified by CMS, to be covered under the Medicare program and to
receive Medicare reimbursement. See above under "Operations - Medicare
Reimbursement." All of Dialysis Corporation of America's 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
Dialysis Corporation of America to restructure its operations. We are unable to
predict at this time whether Dialysis Corporation of America could
satisfactorily respond to such changes in a cost effective manner or at all, the
result of which could negatively impact its operations. Any reduction in
Medicare payments or coverage for dialysis services would have an adverse effect
on both Dialysis Corporation of America's and our business and profitability.
Fraud and Abuse
Certain aspects of Dialysis Corporation of America's dialysis business
are subject to federal and state laws governing financial relationships between
health care providers and referral sources and the accuracy of information
submitted in connection with reimbursement. These laws, collectively referred to
as "fraud and abuse" laws, include the Anti-Kickback Statute, Stark II, other
federal fraud laws, and similar state laws.
The fraud and abuse laws apply because Dialysis Corporation of
America's 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
15
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.
As required by Medicare regulations, each of Dialysis Corporation of
America's dialysis centers is supervised by a medical director, who is a
licensed nephrologist or otherwise qualified physician. The compensation of
these 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 Dialysis Corporation of America's subsidiaries
operating outpatient dialysis centers are owned jointly between Dialysis
Corporation of America and physicians who, in most cases, hold a minority
position through a professional association. Dialysis Corporation of America's
Toledo, Ohio affiliate is majority-owned by a physician. These physicians,
except in one instance, also act as the medical directors for those facilities.
Dialysis Corporation of America attempts to structure its arrangements with its
physicians to comply with the Anti-Kickback Statute. Many of these physicians'
patients are treated at Dialysis Corporation of America's facilities. Dialysis
Corporation of America has never been challenged under the fraud and abuse laws
and believes its arrangements with its medical directors are in material
compliance with applicable law. Several states in which Dialysis Corporation of
America operates have laws prohibiting physicians from holding financial
interests in various types of medical facilities. If these statutes are
interpreted to apply to relationships Dialysis Corporation of America has with
its medical directors who hold a percentage ownership in the subsidiary entities
owning and operating the dialysis facilities, Dialysis Corporation of America
would restructure its relationship with these physicians, but it could still be
subject to penalties.
Management believes that the Anti-Kickback Statute and other fraud and
abuse laws are primarily directed at abusive practices that increase the
utilization and cost of services covered by governmentally funded programs. The
dialysis services provided by Dialysis Corporation of America generally cannot,
by their very nature, be over-utilized since dialysis treatment is not elective,
and is only
16
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 Dialysis Corporation of America's
facilities satisfy many but not all of the criteria for the safe harbor, there
can be no assurance that these relationships will not subject Dialysis
Corporation of America to investigation or prosecution by enforcement agencies.
In an effort to further its compliance with the law, Dialysis Corporation of
America has adopted a Corporate Compliance Program that addresses medical
necessity and medical chart audits to confirm medical necessity of referrals.
With respect to its inpatient dialysis services, Dialysis Corporation
of America provides hospitals with dialysis services, including qualified
nursing and technical personnel, supplies, equipment and technical services. In
certain instances, the medical directors who have a minority interest in a
particular Dialysis Corporation of America facility may refer patients to
hospitals with which Dialysis Corporation of America has an inpatient dialysis
services arrangement. Although these arrangements may implicate the federal
fraud and abuse laws, we believe Dialysis Corporation of America's acute
inpatient hospital services are in compliance with the law. See "Stark II"
below.
Dialysis Corporation of America endeavors in good faith to comply with
all governmental regulations. However, there can be no assurance that Dialysis
Corporation of America will not be required to change its 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 Dialysis
Corporation of America's position with respect to the Anti-Kickback Statute, but
we will make every effort to ensure that Dialysis Corporation of America will
remain in compliance.
Stark II
The Physician Ownership and Referral Act, known as Stark II, bans
physician referrals, with certain exceptions, for certain "designated health
services" as defined in the statute to entities in which a physician or an
immediate family member has a "financial relationship" which includes an
ownership or investment interest in, or a compensation arrangement between the
physician and the entity. For purposes of Stark II, "designated health services"
include, among others, clinical laboratory services, durable medical equipment,
parenteral and enteral nutrients, home health services, and inpatient and
outpatient hospital services. Dialysis treatments are not included in the
statutory list of "designated health services."
This ban is subject to several exceptions including personal service
arrangements, employment relationships and group practices meeting specific
conditions. If Stark II is found to be applicable to a facility, that 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 Dialysis Corporation of America's inpatient hospital services
agreements from Stark II. Equipment and supplies used in connection with
17
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
Dialysis Corporation of America's dialysis operations or require it to
restructure different aspects of its business. We believe, based upon the
proposed rules and the industry practice, that Congress did not intend to
include dialysis services and the services and items provided by Dialysis
Corporation of America incident to dialysis services within the Stark II
prohibitions.
If the provisions of Stark II were found to apply to Dialysis
Corporation of America's arrangements however, we believe that Dialysis
Corporation of America would be in compliance. Dialysis Corporation of America
compensates its nephrologist-physicians as medical directors of its 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 Dialysis
Corporation of America's facilities do not receive any compensation from
Dialysis Corporation of America.
Medical directors who hold a minority investment interest in certain of
the subsidiaries operating Dialysis Corporation of America's dialysis centers
may refer patients to hospitals with which Dialysis Corporation of America has
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 Dialysis Corporation of America's contractual arrangements with hospitals
for acute care inpatient dialysis services are in compliance with Stark II.
If CMS or any other government entity otherwise interprets the Stark II
regulations, Dialysis Corporation of America may be required to restructure
certain existing compensation or investment agreements with its medical
directors, or, in the alternative, to refuse to accept referrals for designated
health services from certain physicians. Stark II prohibits Medicare or Medicaid
reimbursement of items or services provided pursuant to a prohibited referral,
and imposes substantial civil monetary penalties on facilities which submit
claims for reimbursement. If such were to be the case, Dialysis Corporation of
America could be required to repay amounts reimbursed for drugs, equipment and
services that CMS determines to have been furnished in violation of Stark II, in
addition to substantial civil monetary penalties, which could adversely affect
both Dialysis Corporation of America's and our operations and future financial
results. We believe that if Stark II is interpreted by CMS or any other
governmental entity to apply to Dialysis Corporation of America's dialysis
arrangements, it is possible that Dialysis Corporation of America could be
permitted to bring its 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 costs and expenses associated with such prospective compliance,
if permissible, would not have a material adverse effect on Dialysis Corporation
of America and consequently, on us.
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 Dialysis Corporation of America for its services, or impose
further regulation or restrictions on healthcare providers. Further, statutes or
regulations may be adopted which demand additional requirements in order for
Dialysis Corporation of America to be eligible to
18
participate in the federal and state payment programs. Any new legislation or
regulations may adversely affect Dialysis Corporation of America's business and
operations, as well as its 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 Dialysis Corporation of America's
submissions and processing of healthcare claims and also applies to many of its
payors. October 16, 2003 was the deadline for covered entities to comply with
HIPAA's electronic transaction requirement. We believe that Dialysis Corporation
of America is in compliance with the transactions standards rule.
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, Dialysis Corporation of America expended significant resources to
develop and implement policies and procedures to address privacy issues, and we
believe Dialysis Corporation of America is 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 entitles will have until April 21, 2005 to comply with the
standards. Dialysis Corporation of America is currently undergoing a review of
its policies and procedures to determine whether revisions are necessary and
expects to be in compliance with the HIPAA security standards on or before the
compliance date.
HIPAA significantly increased the civil and criminal penalties for
offenses related to healthcare fraud and abuse. HIPAA increased civil monetary
penalties from $2,000 plus twice the amount for each false claim to $10,000 plus
three times the amount for each false claim. HIPAA expressly prohibits four
practices, namely (1) submitting a claim that the person knows or has reason to
know is for medical items or services that are not medically necessary, (2)
transferring remuneration to Medicare and Medicaid beneficiaries that is likely
to influence such beneficiary to order or receive items or services, (3)
certifying
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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 Dialysis Corporation of America substantially
complies with currently applicable state and federal laws and regulations and to
date has not had any difficulty in maintaining its 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 Dialysis
Corporation of America's operations cannot be predicted. No assurance can be
given that Dialysis Corporation of America's dialysis operations will not be
reviewed or challenged by regulatory authorities. Dialysis Corporation of
America continues to work with its healthcare counsel in reviewing its policies
and procedures and making every effort to comply with HIPAA and other applicable
federal and state laws and regulations.
Any loss by Dialysis Corporation of America of its various federal
certifications, its approval as a certified provider under the Medicare or
Medicaid programs or its licenses under the laws of any state or other
governmental authority from which a substantial portion of its revenues are
derived or a change resulting from healthcare reform, a reduction of dialysis
reimbursement or a reduction or complete elimination of coverage for dialysis
services, would have a material adverse effect on Dialysis Corporation of
America's, and accordingly, our business.
Environmental and Health Regulations
Dialysis Corporation of America's dialysis centers are subject to
hazardous waste laws and non-hazardous medical waste regulation. Most of
Dialysis Corporation of America's waste is non-hazardous. CMS requires that all
dialysis facilities have a contract with a licensed medical waste handler for
any hazardous waste. Dialysis Corporation of America also follows 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 dialysis facility is
handled by licensed local medical waste sanitation agencies who are primarily
responsible for compliance with such laws.
There are a variety of regulations promulgated under OSHA relating to
employees exposed to blood and other potentially infectious materials requiring
employers, including dialysis centers, to provide protection. Dialysis
Corporation of America adheres to OSHA's protective guidelines, including
regularly testing employees and patients for exposure to hepatitis B and
providing employees subject to
20
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 Dialysis Corporation of America has the
proper internal controls and procedures for issuance of accounts and complete
cost reports and payment requests. Such reports and requests are subject to a
challenge under these laws.
Certain states have anti-kickback legislation and laws dealing with
self-referral provisions similar to the federal Anti-Kickback Statute and Stark
II. We have no reason to believe that Dialysis Corporation of America is 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." Dialysis Corporation of America's establishment and
implementation of its compliance program, coupled with its existing policies and
internal controls, could have the effect of mitigating any civil or criminal
penalties for potential violations, of which it has had none since its inception
1976. We will continue to use our best efforts to ensure that Dialysis
Corporation of America fully complies with federal and state laws, regulations
and requirements as applicable to its operations and business.
Recent Regulatory Developments
Dialysis Corporation of America monitors regulatory developments that
may potentially impact the dialysis industry and its 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.
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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.
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.
PATENTS AND TRADE NAMES
We sell certain of our medical supplies and products under the
trademark Medicore(TM). Certain of our lancets are marketed under the trademarks
Providers of Quality Medical Disposables(TM) and Lady Lite(TM) and under the
brand name Lite Touch.
We do not rely on patents or trademarks in our medical products
division. Rather, we place importance upon design, engineering, cost
containment, quality and marketing skills to establish or maintain market
position.
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COMPETITION
The medical products industry is extremely competitive and our
operations are not a significant competitive factor in this area.
The dialysis industry is also highly competitive. There are numerous
providers who have dialysis centers in the same areas as Dialysis Corporation of
America. Many are owned by larger corporations which operate dialysis centers
regionally, nationally and internationally. Our dialysis operations are small in
comparison with those corporations. Some of Dialysis Corporation of America's
major competitors are public companies, including Fresenius Medical Care, Inc,
A. G., Gambro Healthcare, Inc., Renal Care Group, Inc., and Davita, Inc. These
companies have substantially greater financial resources, many more centers,
patients and services than Dialysis Corporation of America has, and by virtue of
such may have an advantage in competing for nephrologists and acquisitions of
dialysis facilities in areas and 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 an even greater competitive edge. Dialysis
Corporation of America also faces competition from hospitals and physicians that
operate their own dialysis facilities.
Competitive factors most important in dialysis treatment are quality of
care and service, convenience of location and pleasantness of the environment.
Another significant competitive factor is the ability to attract and retain
qualified nephrologists. These physicians are a substantial source of patients
for the dialysis centers, are required as medical directors of the dialysis
center for it to participate in the Medicare ESRD program, and are responsible
for the supervision of the medical operations of the center. Dialysis
Corporation of America's medical directors usually are subject to non-compete
restrictions within a limited geographic area from the center they administer.
Additionally, there is always substantial competition for obtaining qualified,
competent nurses and technical staff at reasonable labor costs.
Based upon advances in surgical techniques, immune suppression and
computerized tissue typing, cross-matching of donor cells and donor organ
availability, renal transplantation in lieu of dialysis is becoming a
competitive factor. It is presently the second most commonly used modality in
ESRD therapy. With greater availability of kidney donations, currently the most
limiting factor in the growth of this modality, renal transplantations could
become a more significant competitive aspect to the dialysis treatments provided
by Dialysis Corporation of America. 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
Medicore and its subsidiaries employ 248 full time employees of which
nine are administrative, 235 are with the dialysis operations and 4 are engaged
in the medical products operations. In addition, Dialysis Corporation of America
employs approximately 15 part-time employees and retains 14 independent
contractors, consisting of the social workers and dietitians at certain of
Dialysis Corporation of America's dialysis facilities in addition to medical
directors who supervise patient treatment at each facility. Dialysis Corporation
of America also uses approximately 43 "per diem" personnel to supplement
staffing.
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We believe that our relationship with our employees as well as Dialysis
Corporation of America's relationship with its employees are excellent and
neither we nor Dialysis Corporation of America has suffered any strikes or work
stoppages. None of Dialysis Corporation of America's or our employees are
represented by a labor union. Both we and Dialysis Corporation of America are an
equal opportunity employer.
RISK FACTORS
We have listed below certain of the risk factors relating to Medicore
and our securities. There may be other risks and uncertainties that we may face
of which we are currently unaware which could also adversely affect our
business, operations and financial condition. If any of such risks or
uncertainties arise, or the risks listed below occur, our 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 Medicore.
Our dialysis operations are the most significant business segment, and,
therefore, most of the risk factors will relate to that business.
Investment in Technology Companies
WE HAVE INVESTED IN DEVELOPMENT-STAGE PRIVATELY-HELD LINUX SOFTWARE COMPANIES,
MOST, IF NOT ALL OF WHICH WILL, MOST LIKELY, REQUIRE SIGNIFICANT ADDITIONAL
FINANCING IN ORDER TO CONTINUE OPERATIONS FOR THE DEVELOPMENT AND MARKETING OF
THEIR PRODUCTS AND/OR SERVICES
In 2000, we initiated a new division for the purpose of investing in
technology companies, and our singular investment was the acquisition, in
January, 2000, of an 8% ownership interest in Linux Global Partners, a private,
development stage company involved in Linux software product development and
investment. We currently hold an approximate 14% interest in Linux Global
Partners and Dialysis Corporation of America holds an approximate 2% interest.
As a result of our making a loan to Linux Global Partners, the subsequent
default on that loan by Linux Global Partners and our sale of the collateral
securing that loan at public auction, we acquired approximately 775,000 shares
of common stock of Xandros, Inc., a 95% owned subsidiary of Linux Global
Partners that has developed and recently commenced marketing of a Linux-based
desktop operating system. Both Linux Global Partners and Xandros are recently
organized companies in a highly competitive, rapidly evolving market. Neither
company has current audited financial statements and both companies have a
limited operating history upon which to evaluate future prospects. Moreover,
both companies have incurred significant losses since inception and particularly
with respect to the initial marketing efforts relating to the desktop operating
system. Commercial demand for the operating system has been minimal, and sales
of the system have not generated revenues of a level sufficient to meet
operating expenses. Neither of the companies has the current resources necessary
to pursue the development and marketing of the desktop operating system required
to generate commercial interest and recognition. In the absence of a substantial
increase in sales revenues from the desktop operating system, both Xandros and
Linux Global Partners will require significant equity and/or debt financing in
order to continue business operations and to pursue further development and
marketing efforts. There can be no assurance that any of such financing will be
available or that if available, will be on commercially reasonable terms. To the
extent that such additional financing is not obtained, Xandros and Linux Global
Partners may be required to curtail certain operations or to ultimately cease
operations altogether.
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Dialysis Operations
UNTIL FISCAL 2001, DIALYSIS CORPORATION OF AMERICA HAD EXPERIENCED OPERATIONAL
LOSSES
Since 1989, when Dialysis Corporation of America sold four of its five
dialysis centers, that subsidiary had experienced operational losses. Not until
fiscal 2001 did Dialysis Corporation of America reflect net income. Dialysis
Corporation of America initiated an expansion program in 1995, opening two new
dialysis centers that year, and to date operates and/or manages 19 centers in
Georgia, Maryland, New Jersey, Ohio, Pennsylvania, South Carolina and Virginia,
with one dialysis center under construction in Maryland. Some of Dialysis
Corporation of America's dialysis centers have generated losses since their
commencement of operations. This is due to operational costs and time needed to
reach full capacity of dialysis treatments. See Item 7, "Management's Discussion
and Analysis of Financial Condition and Results of Operations."
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
Many of these laws and regulations are complex and open to further
judicial and legislative interpretations. If Dialysis Corporation of America is
forced to change its 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 licensure,
closure of one or more centers, and exclusion from participating in Medicare and
Medicaid programs. Any loss by Dialysis Corporation of America of federal or
state certifications or licenses would materially adversely impact our business.
DIALYSIS CORPORATION OF AMERICA'S ARRANGEMENTS WITH ITS PHYSICIAN MEDICAL
DIRECTORS DO NOT MEET THE SAFE HARBOR PROVISIONS OF FEDERAL AND STATE LAWS, AND
MAY BE SUBJECT TO GREATER GOVERNMENTAL SCRUTINY
Neither Dialysis Corporation of America's arrangements with the medical
directors of its dialysis facilities nor the minority ownership interests of
referring physicians in certain of Dialysis Corporation of America's dialysis
facilities meet all of the requirements of published safe harbors to the illegal
remuneration provisions of the Social Security Act and similar state laws. These
laws impose civil and
25
criminal sanctions on persons who receive or make payments for referring a
patient for treatment that is paid for in whole or in part by Medicare, Medicaid
or similar state programs. Transactions that do not fall within the safe harbor
may be subject to greater scrutiny by enforcement agencies.
DIALYSIS CORPORATION OF AMERICA'S OPERATIONS ARE SUBJECT TO MEDICARE AND
MEDICAID AUDITS WITH CONCURRENT POTENTIAL CIVIL AND CRIMINAL PENALTIES FOR
FAILURE TO COMPLY
Dialysis Corporation of America is subject to periodic audits by the
Medicare and Medicaid programs, which have various rights and remedies if they
assert that Dialysis Corporation of America has overcharged the programs or
failed to comply with program requirements, none of which it has done. Rights
and remedies available under these programs include obtaining repayment from
Dialysis Corporation of America of any amounts alleged to be overpayments or in
violation of program requirements, or making deductions from future amounts due
to Dialysis Corporation of America. These programs may also impose fines,
criminal penalties or program exclusions.
In the ordinary course of Dialysis Corporation of America's business,
it receives notices of deficiencies for failure to comply with various
regulatory requirements. Dialysis Corporation of America reviews such notices
and takes appropriate corrective action. In most cases, Dialysis Corporation of
America and the reviewing agency will agree upon the measures that will bring
the center or services into compliance. In some cases or upon repeat violations,
none of which Dialysis Corporation of America has experienced, the reviewing
agency may take various adverse actions against a provider, including but not
limited to:
o the imposition of fines;
o suspension of payments for new admissions to the center; and
o in extreme circumstances, desertification from participation in
the Medicare or Medicaid programs and revocation of a center's
license.
Any such regulatory actions could adversely affect a provider's ability
to continue to operate, to provide certain services, and/or its eligibility to
participate in Medicare or Medicaid programs or to receive payments from other
payors. Moreover, regulatory actions against one center may subject Dialysis
Corporation of America's other centers, which may be deemed under common control
or ownership, to similar adverse remedies.
THERE HAS BEEN INCREASED GOVERNMENTAL FOCUS AND ENFORCEMENT WITH RESPECT TO
ANTI-FRAUD INITIATIVES AS THEY RELATE TO HEALTHCARE PROVIDERS
State and federal governments are devoting increased attention and
resources to anti-fraud initiatives against healthcare providers. Legislation
has expanded the penalties for heath care fraud, including broader provisions
for the exclusion of providers from the Medicaid program. Dialysis Corporation
of America has established policies and procedures that we believe are
sufficient to ensure that its facilities will operate in substantial compliance
with these anti-fraud requirements. While we believe that Dialysis Corporation
of America's business practices are consistent with Medicare and Medicaid
criteria, those criteria are often vague and subject to change and
interpretation. Anti-fraud actions, however, could have an adverse effect on
Dialysis Corporation of America's and our financial position and results of
operations.
26
DIALYSIS CORPORATION OF AMERICA'S REVENUES AND FINANCIAL STABILITY ARE DEPENDENT
ON FIXED REIMBURSEMENT RATES UNDER MEDICARE AND MEDICAID
During 2003, approximately 54% of Dialysis Corporation of America's
patient revenues was derived from Medicare reimbursement and 8% of its patient
revenues was derived from Medicaid and equivalent programs. Decreases in
Medicare and Medicaid and equivalent rates and programs for our dialysis
treatments would adversely affect Dialysis Corporation of America's and our
revenues and profitability. Furthermore, operating costs tend to increase over
the years without comparable increases in the prescribed dialysis treatment
rates.
DECREASES IN REIMBURSEMENT PAYMENTS FROM THIRD-PARTY, NON-GOVERNMENT PAYORS
COULD ADVERSELY AFFECT OUR EARNINGS
Any reduction in the rates paid by private insurers, hospitals and
other non-governmental third-party organizations would adversely affect Dialysis
Corporation of America's and our business. Alternatively, any change in patient
coverage, such as Medicare eligibility as opposed to higher private insurance
coverage, would result in a reduction of revenue. We estimate approximately 38%
of Dialysis Corporation of America's patient revenues for 2003 was obtained from
sources other than Medicare or Medicaid and equivalent programs. Dialysis
Corporation of America generally charges non-governmental organizations for
dialysis treatment at rates which exceed the fixed Medicare and Medicaid and
equivalent rates. Any limitation on Dialysis Corporation of America's ability to
charge these higher rates, which may be affected by expanded coverage by
Medicare under the fixed corporate rate, or expanded coverage of dialysis
treatments by managed care organizations, which commonly have lower rates than
Dialysis Corporation of America charges, could adversely affect Dialysis
Corporation of America's and our business, results of operations, and financial
condition.
ANY DECREASE IN THE AVAILABILITY OF OR THE REIMBURSEMENT RATE OF EPO WOULD
REDUCE DIALYSIS CORPORATION OF AMERICA'S AND OUR REVENUES AND EARNINGS
EPO, the bio-engineered drug used for treating anemia in dialysis
patients, is currently available from a single manufacturer, Amgen, Inc. On
January 1, 2003, Amgen increased the price of EPO, and there is no assurance
there will not be further price increases. There currently is no alternative
drug available to Dialysis Corporation of America for the treatment of anemia in
its dialysis patients. The available supply of EPO could be delayed or reduced,
whether by Amgen itself, as a result of unforeseen circumstances, or through
excessive demand. This would adversely impact Dialysis Corporation of America's
and our revenues and profitability, since approximately 28% of Dialysis
Corporation of America's medical revenues in 2003 were based upon the
administration of EPO to its dialysis patients. Most of Dialysis Corporation of
America's EPO reimbursement is from government programs. We are unsure whether
there will be an EPO reimbursement rate reduction, but if such occurs, it would
adversely affect Dialysis Corporation of America's and our revenues and
earnings.
27
A NEW ANEMIA TREATMENT DRUG COULD AFFECT DIALYSIS CORPORATION OF AMERICA'S 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 Dialysis Corporation of America's and our revenues and
profitability.
DIALYSIS CORPORATION OF AMERICA'S ABILITY TO GROW IS SUBJECT TO ITS RESOURCES
AND AVAILABLE LOCATIONS
Other than two center acquisitions in 2002 and 2003, expansion of
Dialysis Corporation of America's operations has been through construction of
dialysis centers. This is due to the substantial costs involved in an
acquisition, usually valued on a per-patient basis. Dialysis Corporation of
America seeks areas with qualified and cost-effective nursing and technical
personnel and a sufficient population to sustain a dialysis center. These
opportunities are limited and Dialysis Corporation of America competes 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. Dialysis
Corporation of America's growth strategy based on construction also involves the
risks associated with its ability to identify suitable locations to develop
additional centers. Those centers that are developed may never achieve
profitability, and additional financing may not be available to finance future
development.
Dialysis Corporation of America's inability to acquire or develop
dialysis centers in a cost-effective manner would adversely affect its ability
to expand its dialysis business and as a result, both Dialysis Corporation of
America's and our profitability.
Growth places significant demands on Dialysis Corporation of America's
financial and management skills. Dialysis Corporation of America's inability to
meet the challenges of expansion and to manage any such growth would have an
adverse effect on its management, results of operations and financial condition.
DIALYSIS CORPORATION OF AMERICA'S ATTEMPTS TO EXPAND THROUGH DEVELOPMENT OR
ACQUISITION OF DIALYSIS FACILITIES WHICH ARE NOT CURRENTLY IDENTIFIED ENTAILS
RISKS WHICH SHAREHOLDERS AND INVESTORS WILL NOT HAVE A BASIS TO EVALUATE
Dialysis Corporation of America expands generally by seeking an
appropriate location for development of a dialysis center and by taking into
consideration the potential geographic patient base, the availability of a
physician nephrologist to be medical director of that dialysis center, 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. There is no assurance that Dialysis
Corporation of America will be successful in developing or acquiring dialysis
28
centers, or otherwise expanding its operations. Dialysis Corporation of America
is negotiating with nephrologists and others to establish new dialysis centers,
but there is no assurance 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 by Dialysis Corporation of America.
DIALYSIS CORPORATION OF AMERICA DEPENDS ON PHYSICIAN REFERRALS, AND THE
LIMITATION OR CESSATION OF SUCH REFERRALS WOULD ADVERSELY IMPACT DIALYSIS
CORPORATION OF AMERICA'S AND OUR REVENUES AND EARNINGS
Dialysis Corporation of America's dialysis facilities and those centers
it seeks to develop are and will be dependent upon referrals of ESRD patients
for treatment by physicians specializing in nephrology. Generally, the
nephrologist or medical professional association of physicians supervising a
particular dialysis center's operations, known as a medical director of that
facility, account for most of the patient base. There is no requirement for
these physicians to refer their patients to us, and they are free to refer
patients to any other conveniently located dialysis facility. Dialysis
Corporation of America may not be able to renew or otherwise negotiate
compensation under the medical director agreements with its medical director
physicians who could terminate the relationship, which, without a suitable
medical director replacement, could result in closure of the facility.
Accordingly, the loss of these key referring physicians at a particular center
could have a material adverse effect on the operations of the center and could
adversely affect Dialysis Corporation of America's and our revenues and
earnings.
Some of the medical directors or medical groups with whom they are
associated own minority interests in certain of the subsidiaries operating
Dialysis Corporation of America's 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 Dialysis Corporation of America's relationship with these key
referring physicians, their medical groups, or their patients, who may seek
dialysis treatment elsewhere. The resulting loss of patients would have an
adverse effect on Dialysis Corporation of America's and our business and
financial condition.
INDUSTRY CHANGES COULD ADVERSELY AFFECT DIALYSIS CORPORATION OF AMERICA'S
BUSINESS
Healthcare organizations, public and private, continue to change the
manner in which they operate and pay for services. Dialysis Corporation of
America's business is designed to function within the current healthcare
financing and reimbursement system. In recent years, the healthcare industry has
been subject to increasing levels of government regulation of reimbursement
rates and capital expenditures, among other things. In addition, proposals to
reform the healthcare system have been considered by Congress, and still remain
a priority issue. Any new legislative initiatives, if enacted, may (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 Dialysis Corporation of America's or our earnings,
financial condition or business.
29
DIALYSIS CORPORATION OF AMERICA'S BUSINESS IS SUBJECT TO SUBSTANTIAL
COMPETITION, AND IT MUST COMPETE EFFECTIVELY, OTHERWISE ITS GROWTH COULD SLOW
Dialysis Corporation of America is operating in a highly competitive
environment in terms of operations, development and acquisition of existing
dialysis centers. Competition comes from other dialysis centers, many of which
are owned by much larger companies, and from hospitals. The dialysis industry is
rapidly consolidating, resulting in several very large dialysis companies
competing for the acquisition of existing dialysis centers and the development
of relationships with referring physicians. Most of Dialysis Corporation of
America's competitors have significantly greater financial resources, more
dialysis facilities and a larger patient base. In addition, technological
advances by Dialysis Corporation of America's competitors may provide more
effective dialysis treatments than the services provided by its centers.
Dialysis Corporation of America also experiences competition from
physicians who open their own dialysis facilities. Competition for existing
centers has increased the costs of acquiring such facilities. Competition is
also intense for qualified nursing and technical staff as well as for
nephrologists with an adequate patient base. Dialysis Corporation of America's
failure to compete effectively could significantly impair its continued growth
and, consequently, our financial condition.
MEDICORE, WHICH OWNS 59% OF THE VOTING SECURITIES OF DIALYSIS CORPORATION OF
AMERICA, HAS SOME COMMON OFFICERS AND DIRECTORS, WHICH PRESENTS THE POTENTIAL
FOR CONFLICTS OF INTEREST
We own 59% of the common stock of Dialysis Corporation of America, and
are able to elect all of Dialysis Corporation of America's directors and
otherwise control Dialysis Corporation of America's management and operations.
Such control is also complemented by the fact that Thomas K. Langbein is
Chairman of the Board and Chief Executive Officer of both our company and
Dialysis Corporation of America, and also the President of our company, and
Daniel R. Ouzts is Vice President of Finance and Treasurer of both companies.
Neither Mr. Langbein nor Mr. Ouzts devotes full time to Dialysis Corporation of
America. Lawrence E. Jaffe, Esq., a member of Jaffe & Falk, LLC, our general
counsel, is a director and our corporate Secretary, as well as the corporate
Secretary of Dialysis Corporation of America. The costs of executive salaries
and other shared corporate overhead for these companies are allocated on the
basis of time spent. The amount of expenses charged by Medicore to Dialysis
Corporation of America for 2003 amounted to approximately $200,000.
Additionally, there have been past and there are current transactions
between us and Dialysis Corporation of America and their directors, including
loans and insurance coverage. Dialysis Corporation of America advanced funds to
us for working capital requirements until we sold Techdyne, Inc., another of our
public subsidiaries, in June, 2001. Dialysis Corporation of America also loaned
us $2,200,000 over the last two years for our financing and investment in Linux
Global Partners, a private company involved, through its 95% owned subsidiary,
Xandros, in the development of a Linux desktop product and investing in Linux
software companies. We repaid that loan to Dialysis Corporation of America in
June, 2001, with approximately $294,000 of accrued interest.
In March, 2004, we agreed to provide Dialysis Corporation of America
with up to $1,500,000 in dialysis equipment financing under a demand promissory
note with annual interest at the prime rate plus 1.25%.
30
Since Medicore holds a majority interest in Dialysis Corporation of
America, there exists the potential for conflicts between Medicore and Dialysis
Corporation of America, and the responsibilities of our management to our
shareholders could conflict with the responsibilities owed by management of
Dialysis Corporation of America to its shareholders.
THE LOSS OF CERTAIN EXECUTIVE PERSONNEL WITHOUT RETAINING QUALIFIED REPLACEMENTS
COULD ADVERSELY AFFECT MANAGEMENT OF OUR AND DIALYSIS CORPORATION OF AMERICA'S
BUSINESS, AND OUR REVENUES AND EARNINGS COULD DECLINE
We are dependent upon the services of Thomas K. Langbein, Chairman of
the Board and our Chief Executive Officer and President, who also holds the
position of Chairman of the Board with Dialysis Corporation of America. We are
also dependent on the services of Stephen W. Everett, director and President of
Dialysis Corporation of America. Mr. Langbein has been involved with Medicore
since 1971, when his investment banking firm, Todd & Company, Inc., took us
public, and with Dialysis Corporation of America since it became a public
company in 1977 (originally our wholly-owned subsidiary organized in 1976). Mr.
Everett joined Dialysis Corporation of America in November, 1998 as Vice
President, became Executive Vice President in June, 1999, President on March 1,
2000, and Chief Executive Officer in May, 2003. Mr. Everett has been involved in
the healthcare industry for 24 years. 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.
General
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, such as us, 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 the issuer demonstrates compliance with
the core initial listing
31
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.
In December, 2000 and again in April, 2001, we received notification
from the Nasdaq Listing Qualifications Department of the Nasdaq Stock Market
that our common stock failed to maintain a closing bid price greater than or
equal to $1.00 per share for 30 consecutive days, as required by Marketplace
Rule 4310(c)(4). In each instance, we maintained our Nasdaq SmallCap Market
listing. These situations 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 officers and directors own approximately 2,774,000 shares of our
common stock and 212,331 options exercisable into an additional 212,331 shares
of our common stock. A registration statement covering the sale of shares held
by officers and directors may be effected, since these are controlling persons
of Medicore, and all their shares, including those issuable upon exercise of
their options, would be eligible for sale into the public market without
restriction, if so registered. Also, the officers' and directors' common stock,
upon satisfying the conditions of Rule 144 under the Securities Act, may be sold
without complying with the registration provisions of the Securities Act. These
conditions include holding the shares for one year from acquisition, volume
limits of selling every three months an amount of shares which does not exceed
the greater of 1% of the outstanding common stock, or the average weekly volume
of trading as reported by Nasdaq during the four calendar weeks prior to the
sale, the filing of a Form 144, Medicore continuing to timely file its reports
under the Exchange Act, and the sales being made directly to a market maker or
otherwise sold through a typical broker's transaction, with normal commissions
and no prearranged solicitations of the purchase order. Our tradable common
stock, known as the float, is approximately 4,199,000 shares, and the
approximately 2,774,000 shares of common stock directly owned by the officers
and directors represents approximately 66% of the float, and including the
options for 212,331 additional shares approximately 71% 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
Medicore leases 2,800 square feet for its executive offices in Hialeah,
Florida pursuant to a lease expiring December 31, 2007. We also lease a 5,000
square foot facility at a different location in Hialeah,
32
Florida, for our medical product operations pursuant to a five year lease
expiring June 30, 2008, with one five year renewal option. We also lease 5,000
square feet of warehouse space in Hialeah, Florida for our medical product
operations under a lease through June 30, 2008. Our previously existing lease
for 1,500 square feet also in Hialeah, Florida had not been renewed, and expired
on January 31, 2004. Medicore also leases 3,900 square feet of space for other
executive offices in Hasbrouck Heights, New Jersey through March 31, 2006.
Dialysis Corporation of America owns three properties, one located in
Lemoyne, Pennsylvania, a second in Easton, Maryland, and a third in Valdosta,
Georgia. The Maryland property consists of approximately 7,500 square feet, most
of which is leased to a competitor under a 10-year lease through June 30, 2009
with two renewals of five years each. The lease is guaranteed by the tenant's
parent company. Dialysis Corporation of America uses approximately 600 square
feet at that property for an administrative office.
The Lemoyne property consists of approximately 15,000 square feet and
houses one of Dialysis Corporation of America's dialysis centers which accounts
for approximately 5,400 square feet under a five year lease 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. Dialysis
Corporation of America uses approximately 4,000 square feet of the Lemoyne
property for administrative offices.
Dialysis Corporation of America paid off the remaining balance on first
mortgages on its Easton, Maryland and Lemoyne, Pennsylvania properties in
December 2002. The Easton, Maryland property has a mortgage securing a $700,000
development loan made by a third party to Dialysis Corporation of America's
Vineland, New Jersey subsidiary at an annual interest rate of 1% over the prime
rate, maturing in December 2007, which loan Dialysis Corporation of America
guarantees. This loan had a remaining principal balance of approximately
$636,000 at December 31, 2003. See Item 7, "Management's Discussions and
Analysis of Financial Condition and Results of Operations" and Note 3 to "Notes
to Consolidated Financial Statements."
Dialysis Corporation of America acquired property in Valdosta, Georgia
in 2000, which property is subject to a five year $788,000 mortgage obtained in
April, 2001 accruing 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. Dialysis Corporation of America
constructed a dialysis center at this property comprising approximately 6,000
square feet which it has leased to one of its subsidiaries for $90,600 per year
under a 10-year lease, with two additional renewal periods of five years each.
With respect to its Cincinnati, Ohio facility, Dialysis Corporation of
America 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, Dialysis Corporation of America sold the property
to a corporation owned by the medical director of that facility which, in turn,
leased the facility to Dialysis Corporation of America's 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 based upon a
percentage increase in the CPI for the Cincinnati, Ohio area. Tenant
improvements at the Cincinnati facility aggregated $75,000 and were funded by a
loan from DCA to its Cincinnati subsidiary operating this dialysis center, for
which the Cincinnati subsidiary issued to Dialysis Corporation of America a
five-year promissory note. The loan must be paid prior to that subsidiary paying
any other indebtedness, and earlier if the subsidiary has cash flow or other
proceeds available for distribution to its members under its operating
agreement, subject to tax payment distributions which have a priority. Should
the Cincinnati subsidiary sell additional limited liability interests, the
proceeds will first be used to repay the loan.
33
In addition to its Lemoyne, Pennsylvania, Valdosta, Georgia and
Cincinnati, Ohio facilities, Dialysis Corporation of America presently has 15
other dialysis centers, including the facility in Toledo, Ohio in which it has a
40% interest, that lease their respective facilities from unaffiliated third
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. Dialysis Corporation of America sublets a minimal amount
of space at two of its dialysis centers to the physicians who are its 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."
Dialysis Corporation of America leases approximately 2,300 square feet
in Hanover, Maryland for executive offices pursuant to a five year lease with
one five year renewal option. DCA is in the process of negotiating a lease for
approximately twice the space in Linthicum, Maryland, where it anticipates
moving its executive offices in the summer of 2004.
Dialysis Corporation of America is constructing a new center in
Maryland and is actively pursuing the additional development and acquisition of
dialysis facilities in other areas which would entail the acquisition or lease
of additional property.
Dialysis Corporation of America constructs most of its dialysis
centers, which have state-of-the-art equipment and facilities. Dialysis stations
are equipped with modern dialysis machines under a November, 1996 master
lease/purchase agreement. Dialysis Corporation of America now acquires its
equipment with advances from us 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 the dialysis facilities are operating at full capacity. See
"Business - Dialysis Operations - Location, Capacity and Use of Facilities"
above. The existing dialysis facilities could accommodate greater patient
volume, particularly if Dialysis Corporation of America were to increase hours
and/or days of operation without adding additional dialysis stations or any
additional capital expenditures. Dialysis Corporation of America also has the
ability and space at most of its facilities to expand to increase patient volume
subject to obtaining appropriate governmental approval.
We own two adjacent buildings and land near these buildings in Hialeah,
Florida which we lease to our former subsidiary, Techdyne, under a ten year
lease expiring August 31, 2010.
ITEM 3. LEGAL PROCEEDINGS
In August, 2002, we initiated an action against our former subsidiary,
Viragen, Inc., in the Circuit Court of the Seventeenth Judicial Circuit in and
for Broward County, Florida for breach of a royalty agreement we have with
Viragen, and for an accounting of sales by Viragen and its affiliates and
sub-licensees of licensed products, including interferon, and all products or
any substance or group of substances which involve or include interferon.
In July, 2003, we reached an agreement with Viragen pursuant to
mediation proceedings following our obtaining a partial summary judgment against
Viragen in March, 2003, for amounts owed
34
to us by Viragen under the royalty agreement. See Note 2 to "Notes to
Consolidated Financial Statements."
In July, 2002, Dialysis Corporation of America initiated an action
against Lawrence Weber Medical, Inc. d/b/a Omnicare Renal Services in the United
States District Court for the Middle District of Pennsylvania asserting a breach
by Omnicare of a Consulting Services Agreement. Dialysis Corporation of America
was seeking damages and costs of the legal action. Omnicare filed an answer and
counterclaims against Dialysis Corporation of America and its subsidiary
alleging breaches of the Consulting Services Agreement and related agreements
between the parties seeking damages. On February 19, 2004, that case was
settled, the specific terms of which are confidential. The court ordered the
dismissal of the action by each party, with a right to reinstate for good cause
and for the settlement to be consummated by the parties by April 18, 2004.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted during the fourth quarter of our fiscal year to
a vote of security holders through the solicitation of proxies or otherwise.
Shareholders of record on April 16, 2004 will be entitled to vote at our annual
meeting of shareholders scheduled for June 3, 2004. Those shareholders will
receive a proxy statement which will provide certain information relating to
"Directors and Executive Officers," "Executive Compensation." "Security
Ownership of Certain Beneficial Owners and Management and Related Stockholder
Matters," "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 for the year ended December 31, 2003. See
Part III of this Annual Report, Items 10 through 14.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS
AND ISSUER PURCHASES OF EQUITY SECURITIES
PRICE RANGE
Our shares trade on the Nasdaq SmallCap Market under the symbol "MDKI."
The table below indicates the high and low bid prices for our common stock as
reported by Nasdaq for the four quarters for the years ended December 31, 2002
and 2003.
BID PRICE
------
HIGH LOW
---- ---
2002
----
1st Quarter................. $1.76 $1.47
2nd Quarter................ 2.77 1.25
3rd Quarter................ 1.77 1.10
4th Quarter................ 1.99 .93
35
BID PRICE
------
HIGH LOW
---- ---
2003
----
1st Quarter................ $1.54 $1.15
2nd Quarter................ 1.71 1.19
3rd Quarter................ 2.39 1.16
4th Quarter................ 2.70 1.82
The closing sales price of Medicore common stock at March 22, 2004 was
$3.05 per share.
Bid prices represent prices between bidders, and do not include retail
mark-ups, mark-downs, or any commission, and may not necessarily represent
actual transactions.
STOCKHOLDERS
As of March 22, 2004, there were approximately 1,080 shareholders of
record, as reported by our transfer agent. We have been advised by ADP, which
organization holds securities for brokers and depositories, that our common
stock is beneficially held by approximately 1,643 shareholders.
DIVIDEND POLICY
We have not paid any cash dividends in the last two years. Dividends
are paid at the discretion of the board of directors, and depend on our
earnings, capital requirements, financial condition, and other similar relevant
factors. No dividend payments are expected to be made in the immediate future.
Any earnings will be retained for use in our business.
EQUITY COMPENSATION PLAN
The following table provides certain information with respect to
securities issuable in connection with our equity compensation plans outstanding
that were approved by shareholders and equity compensation plans outstanding
that were not approved by shareholders, in each case in effect as of December
31, 2003.
Number of securities
remaining available for
future issuance under equity
Number of securities to be Weighted-average compensation plans
issued upon exercise of exercise price of (excluding securities
outstanding options, outstanding options, reflected
warrants and rights warrants and rights in column (a))
----------------------------------------------------------------------------------
Plan Category (a) (b) (c)
- ----------------------------------------------------------------------------------------------------------------------
Equity compensation plans
approved by security holders: 501,332(1) $1.45 651,000(2)
Equity compensation plans not
approved by security holders: 200,000(3) $2.50
- ---------------
(1) The options, all of which were granted under our 1989 Stock Option
Plan, are five years in duration, expiring in July, 2005 (except for
42,000 options which are exercisable for three years
36
through September, 2006), of which 473,332 options have vested and
28,000 are non-vested. The options contain anti-dilution provisions
providing for adjustments of the exercise price under certain
circumstances and have termination provisions.
(2) Includes 500,000 options available for grant through February, 2005,
under our 2000 Stock Option Plan and the balance of 151,000 options are
available for future grant through May, 2009, under our 1989 Stock
Option Plan.
(3) Representing non-qualified options issued as partial consideration in
connection with a third party non-exclusive consulting agreement, which
options are exercisable through May, 2005, provided that if we
terminate the consulting agreement prior to its expiration, then the
options must be exercised by the holder thereof within six months
following such termination.
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 our officers, directors and key employees, as well as officers
and directors of our public subsidiary, Dialysis Corporation of America. 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 December, 2002, the board of directors authorized us to buy back up
to 1,000,000 shares of our common stock based upon the current market price. We
did not make any repurchases of our common stock in fiscal 2002. During the
first six months of fiscal 2003, we repurchased an aggregate of 48,500 shares
for approximately $70,000. We did not make any repurchases of our common stock
during the fourth quarter of 2003. See Note 13 to "Notes to Consolidated
Financial Statements."
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 are 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."
37
CONSOLIDATED STATEMENTS OF OPERATIONS DATA
(in thousands except per share amounts)
YEARS ENDED DECEMBER 31
------------------------------------------------------
2003 2002 2001 2000 1999
-------- -------- -------- -------- --------
Revenues - continuing operations(1) $ 32,110 $ 26,932 $ 20,691 $ 10,797 $ 7,507
Net income (loss) - continuing operations(1) 273 482 (339) (776) (758)
Net income (loss)(2) 273 482 1,232 (406) (613)
Income (loss) per common share:(2)
Basic $ .04 $ .07 $ .20 $ (.07) $ (.11)
Diluted $ .03 $ .06 $ .20 $ (.07) $ (.11)
CONSOLIDATED BALANCE SHEET DATA
(in thousands)
DECEMBER 31
-----------------------------------------------
2003 2002 2001 2000 1999
------- ------- ------- ------- -------
Working capital $13,432 $14,306 $13,094 $17,372 $15,840
Total assets 30,815 28,676 29,833 41,428 38,610
Long-term debt, net of current portion 2,097 2,727 3,124 10,355 8,363
Stockholders' equity 16,993 16,482 16,035 13,534 14,282
(1) Reflects reclassification as discontinued operations of amounts related
to Techdyne, of which subsidiary we sold our 71.3% interest in June,
2001.
(2) Includes Techdyne in 2001, 2000 and 1999. See Note (1) above.
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
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
Although we have a medical products division and investment in two
affiliated technology companies, our primary operations, revenues and income are
derived from our dialysis operations through our 59% public subsidiary, Dialysis
Corporation of America. That subsidiary provides dialysis services, primarily
kidney dialysis treatments through its 19 outpatient dialysis centers, including
the management of each of a center in which it holds a 40% minority interest and
one unaffiliated dialysis center. In addition, Dialysis Corporation of America
provides dialysis treatments to patients at seven hospitals and medical
38
centers through its acute inpatient dialysis services agreements with these
entities. Dialysis Corporation of America also provides homecare services,
including home peritoneal dialysis and method II services, the latter relating
to providing patients with supplies and equipment.
The following table shows the number of in-center, home peritoneal and
acute inpatient treatments performed by Dialysis Corporation of America through
the dialysis centers it operates, including the two centers it manages, one in
which it has a 40% ownership interest, and those hospitals and medical centers
with which it has inpatient acute service agreements for the periods presented:
YEAR ENDED DECEMBER 31,
---------------------------------
2003 2002 2001
------- ------- -------
In center 103,025(1) 86,475(1) 63,803(1)
Home peritoneal 7,193 4,504 2,824
Acute 8,010(1) 9,116(1) 9,412(1)
------- ------- -------
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.
Dialysis Corporation of America also provides ancillary services
associated with dialysis treatments, including the administration of EPO for the
treatment of anemia in its dialysis patients. EPO is currently available from
only one manufacturer, and no alternative drug has been available to Dialysis
Corporation of America for the treatment of anemia in its dialysis patients. If
the available supply of EPO were reduced either by the manufacturer or due to
excessive demand, Dialysis Corporation of America's and 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 Dialysis Corporation of America's and our net income. This manufacturer
has also developed another anemia drug that could possibly substantially reduce
Dialysis Corporation of America's and our revenues and profit margins from the
treatment of anemia in dialysis 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.
Approximately 62% of medical service revenues from our dialysis
operations 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.
39
The following table shows the breakdown of medical services 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%
======= ======= =======
The medical service revenues from our dialysis operations 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 medical service revenues from our
dialysis operations (in thousands) derived from 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%
======= ======= ======= ======= ======= =======
Essential to profitability of our dialysis operations is Medicare
reimbursement, which is at a fixed rate determined by CMS. Although we are not
aware of any proposals in this regard, the level of Dialysis Corporation of
America's, and therefore, our revenues and profitability may be adversely
affected by any potential legislation resulting in Medicare reimbursement rate
cuts. Increased operating costs with respect to dialysis treatment as well as
reductions in commercial third-party reimbursement rates could also adversely
affect Dialysis Corporation of America's, and therefore, our margins and
profitability.
The healthcare industry is subject to extensive regulation of federal
and state authorities. There are a variety of fraud and abuse measures to combat
waste, which include 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 would require
Dialysis Corporation of America to restructure its business practices which, in
turn, could materially adversely affect its operations and financial condition.
See Item 1, "Business - Regulation - Dialysis Corporation of America." Dialysis
Corporation of America has developed a Corporate Integrity Program to assure
that it provides the highest level of patient care and services in a
professional and ethical manner consistent with applicable federal and state
laws and regulations. See Item 1, "Business - Corporate Integrity Program."
Dialysis Corporation of America's future growth depends primarily on
the availability of suitable dialysis centers for development or acquisition in
appropriate and acceptable areas, and Dialysis Corporation of America's ability
to 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 amounts of financial
resources available for acquiring and/or developing dialysis facilities in areas
targeted by Dialysis Corporation of America. Additionally, there is intense
competition for
40
retaining qualified nephrologists who would serve as medical directors of and be
responsible for the supervision of these dialysis centers. There is no assurance
as to when any new dialysis center or inpatient service contract 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 Dialysis Corporation of America's 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 continuing operations (in thousands)
for the periods presented:
2003 2002 2001
-------- -------- --------
Product sales $ 811 $ 890 $ 861
Medical service revenues 29,676 25,162 18,920
-------- -------- --------
Total sales 30,487 26,052 19,781
Other income 839 880 910
Gain on sale of securities 784 -- --
-------- -------- --------
Total revenues 32,110 26,932 20,691
Cost of product sales 514 497 776
Cost of medical services 18,221 15,067 12,022
-------- -------- --------
Total cost of sales 18,735 15,564 12,798
Selling, general and administrative expenses 11,345 8,734 7,870
Provision for doubtful accounts 290 705 661
Interest expense 202 242 228
-------- -------- --------
Total cost and expenses 30,572 25,245 21,557
-------- -------- --------
Income (loss) before income taxes, minority interest
and equity in affiliate earnings (loss) 1,538 1,687 (866)
Income tax provision (benefit) 636 647 (928)
-------- -------- --------
Income before minority interest and equity
in affiliate earnings (loss) 902 1,040 62
Minority interest in income of
consolidated subsidiaries 673 627 385
Equity in affiliate earnings (loss) 44 69 (16)
-------- -------- --------
Net income (loss) from continuing operations $ 273 $ 482 $ (339)
======== ======== ========
2003 COMPARED TO 2002
Consolidated revenues, including a $784,000 gain on the sale of
securities, increased by approximately $5,178,000 (19%) in 2003 compared to the
preceding year. Sales revenues increased by approximately $4,435,000 (17%)
compared to the preceding year.
41
Other income which is comprised of interest income, rental income,
management fee income and miscellaneous other income decreased approximately
$40,000 compared to the preceding year. Interest income decreased approximately
$229,000 largely due to our foreclosure and sale of collateral in payment of
loans due from Linux Global Partners. See Note 11 to "Notes to Consolidated
Financial Statements." Management fee income, which includes income related to a
management services agreement between Dialysis Corporation of America and its
40% owned Toledo, Ohio affiliate and a management services agreement with an
unaffiliated Georgia dialysis center which became effective in September 2002,
increased approximately $129,000. Rental income increased approximately $19,000
and miscellaneous other income increased by approximately $40,000. See Note 1 to
"Notes to Consolidated Financial Statements."
Medical product sales revenues decreased approximately $79,000 (9%) for
2003 compared to the preceding year which is attributable to decreased sales to
a major customer that has indicated it is changing suppliers and has commenced
phasing out purchases from us. Although management is attempting to be more
competitive in lancet sales through overseas purchases and expansion of its
customer base, we cannot assure you that we will be able to replace lost sales
or increase other sales. Although our medical products division has expanded its
product line with several diabetic disposable products, demand to date for these
products has been less than anticipated.
Medical service revenues, representing the revenues of our dialysis
division, Dialysis Corporation of America, increased approximately $4,514,000
(18%) for 2003 compared to the preceding year, which increase was primarily
attributable to a 14% increase in total dialysis treatments performed by DCA
from 93,443 in 2002 to 106,991 in 2003. This increase reflects (i) increased
revenues of Dialysis Corporation of America's Pennsylvania dialysis centers of
approximately $1,998,000; (ii) increased revenues of approximately $674,000 for
its Georgia centers; (iii) revenues of approximately $1,255,000 for its new
Maryland center; and (iv) revenues of approximately $709,000 for its new Ohio
center; partially offset by decreased revenues of approximately $95,000 for its
New Jersey centers reflecting termination of two New Jersey acute care contracts
and a decrease of $27,000 in consulting and license income.
Cost of sales as a percentage of consolidated sales amounted to 61% for
2003 compared to 60% for the preceding year.
Cost of goods sold for the medical products division as a percentage of
medical product sales was 63%, for 2003 compared to 56% for the preceding year.
Changes in cost of goods sold for this division resulted largely from a change
in product mix.
Cost of medical services sales as a percentage of medical services
revenues increased to 61% for the year ended December 31, 2003, compared to 60%
for the preceding year, which increase is primarily attributable to (i) costs
for treatments at new dialysis centers prior to Medicare approval of these
centers resulting in no corresponding medical service revenues for such
treatments, (ii) increases in the cost of EPO as a percentage of EPO sales
revenues, and (iii) increases in the cost of professional liability insurance.
The cost of professional liability insurance coverage for our medical services
division 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 Dialysis Corporation of America's new centers and overall increase in
treatments, a substantial portion of the cost increase relates to the general
market conditions for professional liability coverage including reduced
availability and higher costs for this coverage. Continued cost increases for
professional liability coverage at Dialysis Corporation of America could
adversely impact both Dialysis Corporation of America's and our earnings.
42
Approximately 28% of Dialysis Corporation of America's 2003 medical
services revenues were derived from the administration of EPO to its patients
compared to 26% for the preceding year. EPO 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 Dialysis
Corporation of America's ability to increase its charges would increase its
costs and thereby adversely impact its earnings. We cannot predict the timing or
extent of any future price increases by the manufacturer, or Dialysis
Corporation of America's ability to offset any such increases.
Selling, general and administrative expenses, increased $2,579,000 for
2003 compared to the preceding year. This increase reflects operations of
Dialysis Corporation of America's new dialysis centers in Maryland and Ohio, the
cost of additional support activities from expanded dialysis operations and an
aggregate of approximately $598,000 of stock option exercise bonuses to
officers, directors and employees and officer bonuses compared to approximately
$100,000 in the preceding year.
Provision for doubtful accounts decreased by approximately $416,000,
primarily through Medicare bad debt recoveries of approximately $341,000 during
2003. Without the effect of Medicare bad debt recoveries, the provision for
doubtful accounts receivable 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 resolved, plus recovery of amounts previously
considered uncollectible from our Medicare cost report filing. The provision for
doubtful accounts of our medical services operation, which is the primary
component of this provision, is determined under a variety of criteria,
primarily aging of the receivables and payor mix. Accounts receivable are
estimated to be uncollectible based upon various criteria including the age of
the receivable, historical collection trends and our understanding of the nature
and collectibility of the receivables, and are reserved for in the allowance for
doubtful accounts until they are written off.
Although operations of additional dialysis centers have resulted in
additional revenues, certain of these centers are still in the developmental
stage and, accordingly, their operating results will adversely impact Dialysis
Corporation of America's and our results of operations until they achieve a
patient count sufficient to sustain profitable operations.
Dialysis Corporation of America experienced same-center growth in total
treatments of approximately 7% in 2003, and same-center revenues grew
approximately 9% in fiscal 2003. Dialysis Corporation of America continues to
search for ways to operate more efficiently and reduce costs through process
improvements. In addition, it is reviewing technological improvements and
intends to make capital investment to the extent it is confident such
improvements will improve patient care and operating performance.
Interest expense decreased by approximately $41,000 for 2003 compared
to the preceding year, reflecting lower interest rates on variable rate debt and
reduced average borrowings. See Note 3 to "Notes to Consolidated Financial
Statements."
The prime rate was 4.00% at December 31, 2003 and 4.25% at December 31,
2002.
Equity in affiliate earnings (loss) represents equity in the earnings
(loss) incurred by Dialysis Corporations of America's Ohio affiliate, in which
Dialysis Corporation of America has a 40% ownership interest. This dialysis
center commenced operations in February, 2001.
43
2002 COMPARED TO 2001
Consolidated revenues, increased by approximately $6,241,000 (30%) in
2002 compared to the preceding year. Sales revenues increased by approximately
$6,271,000 (32%) compared to the preceding year.
Other income which is comprised of interest income, rental income,
management fee income and miscellaneous other income decreased approximately
$31,000 compared to the preceding year. Interest income decreased approximately
$46,000 largely as a result of reduced interest rates and a decrease in average
funds invested. Management fee income, which includes income related to a
management services agreement between Dialysis Corporation of America and its
40% owned Toledo, Ohio affiliate and a management services agreement with an
unaffiliated Georgia dialysis center effective September 2002 increased
approximately $60,000. Rental income decreased approximately $20,000 as a result
of a lease renegotiation with Techdyne which will provide greater overall rent
income to the company over the remaining lease term. Miscellaneous other income
decreased by approximately $25,000. See Note 1 to "Notes to Consolidated
Financial Statements."
Medical product sales revenues increased approximately $29,000 (3%) for
2002 compared to the preceding year. Management is attempting to be more
competitive in lancet sales through overseas purchases and expansion of its
customer base. The medical products division has expanded its product line with
several diabetic disposable products; however, demand to date for these products
has been less than anticipated. No assurance can be given that efforts to
increase sales will be successful.
Medical service revenues, representing the revenues of our dialysis
division, Dialysis Corporation of America, increased approximately $6,243,000
(33%) for 2002 compared to the preceding year. This increase reflects increased
revenues of our Pennsylvania dialysis centers of approximately $1,947,000,
including revenues of $874,000 for our new Pennsylvania facility which commenced
operations in January 2002; decreased revenues of approximately $71,000 for our
New Jersey centers reflecting a reduction in patients at one of our New Jersey
facilities and termination of our two New Jersey acute care contracts; and
increased revenues of approximately $4,454,000 for our Georgia centers, two of
which became operational during 2001 and which contributed $3,263,000 additional
revenues in 2002, another acquired in April 2002 for which 2002 revenues
amounted to $1,212,000; and a decrease of $87,000 in consulting and license
income.
Cost of goods sold as a percentage of consolidated sales amounted to
60% for 2002 compared to 65% for the preceding year.
Cost of goods sold for the medical products division as a percentage of
sales was 56%, for 2002 compared to 90% for the preceding year, which included a
provision of $160,000 for obsolete and unusable inventory. Without the
provision, cost of goods sold by the medical products division for 2001 would
have amounted to 72%. There was a decrease in the allowance for obsolete and
unsaleable inventory of $53,000 in 2002 without which cost of sales would have
been 62%. Changes in cost of goods sold for this division resulted from a change
in product mix and a shift to overseas purchase of lancets.
Cost of medical services sales as a percentage of sales decreased to
60% for the year ended December 31, 2002, compared to 64% for the preceding year
as a result of decreases in both supply costs and payroll costs as a percentage
of sales. Approximately 26% of our medical services revenues are from the
administration of EPO to our patients. This drug is only available from one
manufacturer in the
44
United States which raised its price for the product in January, 2003. Continued
price increases for this product without our ability to increase our charges
will increase our costs and thereby adversely impact our earnings. We cannot
predict the price increases, if any, or the extent of such by the manufacturer,
or our ability to offset any such increases.
Selling, general and administrative expenses, increased $864,000 for
2002 compared to the preceding year. Included in 2001 was $875,000 stock
compensation expense for 875,000 shares issued to officers and directors,
$158,000 from forgiveness of amounts due from exercise of stock options, officer
bonus compensation of $190,000 (compared to $170,000 in 2002, including $70,000
officer bonuses and $100,000 Dialysis Corporation of America Director bonuses)
and a goodwill write-off of $52,000 related to the Medical Supply Division due
to continuing operating losses of this division. Without the effect of these
unusual items, selling, general and administrative expenses would have increased
$1,965,000 for 2002 compared to the preceding year. This increase reflects
operations of Dialysis Corporation of America's new dialysis center in
Pennsylvania, the Georgia center acquired in April 2002 and a full year's
operations for the two Georgia centers opened during 2001; and the cost of
additional support personnel for Dialysis Corporation of America. As a percent
of consolidated sales revenue, exclusive of the effect of the unusual items,
selling, general and administrative expenses would have amounted to 33% for the
year ended December 31, 2002 and for the year ended December 31, 2001.
Provision for doubtful accounts increased approximately $44,000, as a
result of expanded operations of Dialysis Corporation of America. The provision
for doubtful accounts receivable, amounted to 3% of sales for the year ended
December 31, 2002 and the year ended December 31, 2001. The provision for
doubtful accounts of our medical services operation, which is the primary
component of our provision, is determined under a variety of criteria, primarily
aging of the receivables and payor mix. Accounts receivable are estimated to be
uncollectible based upon various criteria including the age of the receivable,
historical collection trends and our understanding of the nature and
collectibility of the receivables, and are reserved for in the allowance for
doubtful accounts until they are written off.
Although operations of additional dialysis centers have resulted in
additional revenues, some are still in the developmental stage and, accordingly,
their operating results will adversely affect results of operations until they
achieve a sufficient patient count to sustain profitable operations.
Dialysis Corporation of America experienced same-center growth in total
treatments of approximately 18% in 2002. Same-center revenues grew 22% in fiscal
2002. Dialysis Corporation of America made an acquisition in May 2002 of a
facility in Georgia that added 4% to revenue. Management continues to search for
ways to operate more efficiently and reduce costs through process improvements
and improve our bottom line. We are reviewing technological improvements as
well, and will make the capital investment if we are confident such improvements
will improve patient care and operating performance.
Interest expense, increased by approximately $14,000 for 2002 compared
to the preceding year, primarily as a result of additional Dialysis Corporation
of America equipment financing agreements and increased average borrowings under
the company's medical supply division line of credit. See Note 3 to "Notes to
Consolidated Financial Statements."
The prime rate was 4.25% at December 31, 2002 and 4.75% at December 31,
2001.
Equity in affiliate earnings (loss) represents equity in the earnings
(loss) incurred by Dialysis Corporation of America's Ohio affiliate, in which
Dialysis Corporation of America has a 40% ownership interest. This dialysis
center commenced operations in February, 2001.
45
LIQUIDITY AND CAPITAL RESOURCES
Working capital totaled $13,432,000 at December 31, 2003, which
reflects a decrease of $875,000 (6%) during 2003. The change in working capital
included an increase in cash of $2,235,000 including net cash provided by
operating activities of $825,000, net cash provided by investing activities of
$2,272,000 (including additions to property, plant and equipment of $1,661,000,
$745,000 in payments relating to Dialysis Corporation of America's acquisition
of a facility and the minority interest in two of its existing facilities,
$150,000 in loans to physician affiliates, $204,000 of capital contributions by
minority members of Dialysis Corporation of America's subsidiaries, $77,000 of
distributions received from Dialysis Corporation of America's 40% owned Ohio
affiliate, $3,541,000 proceeds from the sale of securities, and the second
earn-out payment on the sale of Techdyne of $1,011,000) and net cash used in
financing activities of $862,000 (including net line of credit payments of
$79,000, payments on long-term debt of $590,000, Dialysis Corporation of
America's repurchase of a portion of its common stock and our repurchase of a
portion of our common stock aggregating approximately $109,000, and $119,000 of
distributions to the minority members of Dialysis Corporation of America's
subsidiaries).
In January, 2003, we executed on certain of the collateral securing
Linux Global Partners' indebtedness to us, resulting in our acquiring 4,115,815
shares of series A convertible preferred stock of Ximian, Inc. These shares were
sold in August, 2003 in connection with a third party's acquisition of Ximian,
for which we received $3,541,000 with an additional $805,000 placed in escrow,
half of which will be released in August, 2004, and the balance in August, 2005,
in all cases subject to the parties to the Ximian acquisition fulfilling certain
conditions. See Note 11 to "Notes to Consolidated Financial Statements."
In May, 2003, we entered into a one-year, non-exclusive public
relations consulting agreement with an investment relations firm, which
agreement we can terminate at any time. The agreement provides for a $4,000
monthly fee and issuance of an option for 200,000 shares of our common stock
exercisable through May, 2005 at an exercise price of $2.50 per share. In the
event we terminate this agreement, the option will only be exercisable for six
months from such termination. See Notes 5 and 7 to "Notes to Consolidated
Financial Statements."
In July, 2003, pursuant to a mediation proceeding following a partial
summary judgment, we obtained against Viragen, Inc., our former subsidiary,
Viragen agreed to abide by the terms of our royalty agreement and remitted
$30,000 to us in August, 2003. Additional $30,000 payments are due August 1,
2004 and 2005, with annual interest accruing on those payments at 5%. Viragen
also agreed to commence remitting royalty payments on a quarterly basis pursuant
to the royalty agreement with the first quarterly payment of $2,580 remitted to
us in October 2003 and the second quarterly payment of $2,905 in January 2004.
See Note 2 to "Notes to Consolidated Financial Statements."
In April, 2003, we received the second earn-out payment of
approximately $1,011,000 on the June, 2001, sale of our interest in Techdyne. To
date, we have received approximately $2,116,000 of the $2,500,000 minimum
earn-out. The minimum balance of this earn-out of $384,000 is due to be paid to
us in April, 2004. See Note 12 to "Notes to Consolidated Financial Statements."
In December, 2002, we announced our intent to purchase up to 1,000,000
shares of our outstanding common stock based on then current market prices. We
repurchased and cancelled 48,500 shares of our outstanding common stock at a
cost of approximately $70,000 during the first half of 2003. See note 13 to
"Notes to Consolidated Financial Statements."
46
Dialysis Corporation of America, has a mortgage on its real property in
Easton, Maryland securing a development loan made by a third party to one of
Dialysis Corporation of America's New Jersey dialysis centers. The outstanding
balance of the loan was $636,000 at December 31, 2003 and $662,000 at December
31, 2002. In April 2001, Dialysis Corporation of America obtained a $788,000
five-year mortgage on its building in Valdosta, Georgia which had an outstanding
principal balance of $715,000 at December 31, 2003 and $753,000 at December 31,
2002. See Item 2, "Properties." Dialysis Corporation of America has an equipment
financing agreement with a third party for the purchase of kidney dialysis
machines for its facilities. Dialysis Corporation of America had outstanding
balances under this agreement of $1,321,000 at December 31, 2003 and $1,844,000
at December 31, 2002. We have agreed to advance Dialysis Corporation of America
up to $1,500,000 for the purpose of equipment financing by Dialysis Corporation
of America, which loan arrangement is evidenced by a demand promissory note from
Dialysis Corporation of America. Advances under this loan arrangement accrue
interest at an annual rate equal to the prime rate plus 1.25%. See Note 15 to
"Notes to Consolidated Financial Statements."
Dialysis Corporation of America opened centers in Cincinnati, Ohio and
Chevy Chase, Maryland in February, 2003 and acquired a center in Georgia in
April 2003. Dialysis Corporation of America ceased operations at its Homerville,
Georgia center during 2003 as a result of that center not performing up to
expectations. Dialysis Corporation of America opened three new centers in the
early part of 2004, one each in Pennsylvania, South Carolina and Virginia, and
is 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
Dialysis Corporation of America's dialysis facilities, costs in the range of
$600,000 to $750,000 depending on location, size and related services to be
provided, which includes equipment and initial working capital requirements.
Acquisition of an existing dialysis facility is more expensive than
construction, although acquisition would provide Dialysis Corporation of America
with an immediate ongoing operation, which most likely would be generating
income. Dialysis Corporation of America presently plans to expand its 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. Dialysis
Corporation of America considers some of its centers to be in the developmental
stage, since they have not developed a patient base sufficient to generate and
sustain earnings.
Dialysis Corporation of America is seeking to expand its outpatient
dialysis treatment facilities and inpatient dialysis care and is presently in
different phases of negotiations with physicians for additional outpatient
centers. Such expansion requires capital. Dialysis Corporation of America has
been funding its expansion primarily through internally generated cash flow.
While we anticipate that financing will be available to Dialysis Corporation of
America either from a financial institution or us, no assurance can be given
that Dialysis Corporation of America will be successful in implementing its
growth strategy or that adequate financing, to the extent needed, will be
available to support such expansion.
The bulk of our cash balances are carried in interest-yielding vehicles
at various rates and mature at different intervals depending on our anticipated
cash requirements.
We anticipate that current levels of working capital and working
capital from operations will be adequate to successfully meet liquidity demands
for at least the next twelve months.
47
AGGREGATE CONTRACTUAL OBLIGATIONS
As of December 31, 2003, our 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 $ 575,000 $ 1,465,546 $ 631,809 $ --
Operating leases 6,784,742 1,144,655 2,064,220 1,606,531 1,969,336
Purchase obligations:
Medical service 2,065,406 622,406 862,457 428,567 151,976
Construction contracts 661,512 661,512 -- -- --
Other 23,335 23,335 -- -- --
----------- ----------- ----------- ----------- -----------
Total purchase obligations 2,750,253 1,307,253 862,457 428,567 151,976
----------- ----------- ----------- ----------- -----------
$12,207,349 $ 3,026,650 $ 4,392,223 $ 2,666,907 $ 2,121,312
=========== =========== =========== =========== ===========
DISCONTINUED OPERATIONS
In June, 2001, we sold our 71.3% interest in Techdyne to a third party.
Accordingly, the results of operations of Techdyne, net of applicable taxes, and
our gain on disposal of Techdyne, net of applicable taxes, have been reflected
as discontinued operations for 2001 in our Consolidated Statements of
Operations. See Notes 1 and 12 to "Notes to Consolidated Financial Statements."
NEW ACCOUNTING PRONOUNCEMENTS
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."
48
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, "Management's Discussion and Analysis of
Financial Condition and Results of Operations," about accounting policies
management believes are most critical in portraying our 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 as services are rendered.
Dialysis Corporation of America receives payments through reimbursement from
Medicare and Medicaid for its outpatient dialysis treatments coupled with
patients' private payments, individually and through private third-party
insurers. A substantial portion of Dialysis Corporation of America's revenues
are derived from the Medicare ERSD program, which outpatient reimbursement rates
are fixed under a composite rate structure, which includes the dialysis services
and certain supplies, drugs and laboratory tests. Certain of these ancillary
services are reimbursable outside of the composite rate. Medicaid reimbursement
is similar and supplemental to the Medicare program. Dialysis Corporation of
America's acute inpatient dialysis operations are paid under contractual
arrangements, usually at higher contractually established rates, as are certain
of the private pay insurers for outpatient dialysis. Dialysis Corporation of
America has developed a sophisticated information and computerized coding
system, but due to the complexity of the payor mix and regulations, it sometimes
receives more or less than the amount expected at the time the services are
provided. Dialysis Corporation of America reconciles any such differences
quarterly. Product sales are recognized pursuant to stated shipping terms.
49
Allowance for Doubtful Accounts: We maintain an allowance for doubtful
accounts for estimated losses resulting from the inability of our customers to
make required payments and Dialysis Corporation of America's patients or their
insurance carriers to make required payments. Based on historical information,
we believe that our allowance is adequate. Changes in general economic, business
and market conditions could result in an impairment in the ability of our
customers and Dialysis Corporation of America's patients and their insurance
carriers to make their required payments, which would have an adverse effect on
cash flows and our results of operations. Therefore, the allowance for doubtful
accounts is reviewed monthly and changes to the allowance are updated based on
actual collection experience. We use a combination of percentage of sales and
specific account identification and the aging of accounts receivable to
establish an allowance for losses on accounts receivable.
Allowance for Inventory Obsolescence: We maintain an allowance for
inventory obsolescence for losses resulting from inventory items becoming
unsaleable due to loss of specific customers or changes in customers'
requirements. Based on historical and projected sales information, we believe
our allowance is adequate. However, changes in general economic, business and
market conditions could cause our customers' purchasing requirements to change.
These changes could affect our inventory saleability. Therefore, the allowance
for inventory obsolescence is reviewed regularly and changes to the allowance
are updated as new information is received.
Valuation Allowance for Deferred Tax Assets: The carrying value of
deferred tax assets assumes that we will be able to generate sufficient future
taxable income to realize the deferred tax assets based on estimates and
assumptions. If these estimates and assumptions change in the future, we may be
required to adjust our valuation allowance against deferred tax assets which
could result in additional income tax expense.
Long-Lived Assets: We state our property and equipment at acquisition
cost and compute depreciation for book purposes by the straight-line method over
estimated useful lives of the assets. In accordance with SFAS No. 144,
"Accounting for the Impairment or Disposal of Long-Lived Assets," long-lived
assets are reviewed for impairment whenever events or changes in circumstances
indicate the carrying amount of the asset may not recoverable. Recoverability of
assets to be held and used is measured by comparison of the carrying amount of
an asset to the future cash flows expected to be generated by the asset. If the
carrying amount of the asset exceeds its estimated future cash flows, an
impairment charge is recognized to the extent the carrying amount of the asset
exceeds the fair value of the asset. These computations are complex and
subjective.
Goodwill and Intangible Asset Impairment: In assessing the
recoverability of our goodwill and other intangibles we must make assumptions
regarding estimated future cash flows and other factors to determine the fair
value of the respective assets. This impairment test requires the determination
of the fair value of the intangible asset. If the fair value of the intangible
assets is less than its carrying value, an impairment loss will be recognized in
an amount equal to the difference. If these estimates or their 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.
50
IMPACT OF INFLATION
Inflationary factors have not had a significant effect on our
operations. We attempt to pass on increased costs and expenses incurred in our
medical products division by increasing selling prices when and where possible.
In our dialysis division, revenue per dialysis treatment is subject to
reimbursement rates established and regulated by the federal government. These
rates do not automatically adjust for inflation. Any rate adjustments relate to
legislation and executive and Congressional budget demands, and have little to
do with the actual cost of doing business. Therefore, dialysis medical service
revenues cannot be voluntarily increased to keep pace with increases in supply
costs or nursing and other patient care costs. Increased operating costs without
a corresponding increase in reimbursement rates may adversely affect Dialysis
Corporation of America's and, accordingly, our future earnings. See "Dialysis
Operations - Patient Revenues - Medicare Reimbursement - Medicaid
Reimbursement," "Regulation - Dialysis Corporation of America" and "Risk
Factors" under Item 1, "Business."
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
We are exposed to market risks from changes in interest rates. We have
exposure to both rising and falling interest rates.
Sensitivity of results of operations to interest rate risks on our
investments is managed by conservatively investing liquid funds in short-term
government securities and interest bearing accounts at financial institutions in
which we had approximately $10,289,000 invested as of December 31, 2003. A 15%
relative decrease in rates on our year-end investments would result in a
negative annual impact of approximately $10,000 on our results of operations.
We have an interest rate exposure on debt agreements with variable
interest rates of which we had approximately $1,351,000 of such debt outstanding
as of December 31, 2003. A 15% relative increase in interest rates on our
year-end variable rate debt would result in a negative annual impact of
approximately $4,000 on our results of operations.
On March 17, 2004, we received a demand promissory note from our 59%
owned public subsidiary, Dialysis Corporation of America, of up to $1,500,000
for our financing of Dialysis Corporation of America's equipment purchases at an
annual interest rate of 1.25% over the prime rate at the time of each advance
made by us to that subsidiary. Variable rate debt may result in lower interest
income to us if interest rates drop. 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
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."
51
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Effective on November 10, 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, 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 6, 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 6, 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 Proxy
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.
52
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Our executive officers are appointed each year by the board of
directors at its first meeting following the annual meeting of shareholders to
serve during the ensuing year. The following information indicates positions and
ages of our executive officers at March 22, 2004. There are no family
relationships between any of our executive officers and directors.
CURRENT POSITION AND POSITION
NAME AGE AREAS OF RESPONSIBILITY HELD SINCE
- ---- --- ----------------------- ----------
Thomas K. Langbein 58 Chairman of the Board of 1980
Directors, Chief Executive
Officer and President
Daniel R. Ouzts 57 Vice President of Finance 1986
and Treasurer (Principal 1983
Financial Officer)
OTHER SIGNIFICANT EMPLOYEES
Stephen W. Everett 47 Chief Executive Officer, 2003
President and Director of Dialysis 2000
Corporation of America
DANIEL R. OUZTS - a certified public accountant, joined Medicore in
1980 as Controller of its plasma division. In 1983 he became Controller of
Medicore and Dialysis Corporation of America, and in 1986 became Vice-President
of Finance and Treasurer of Medicore. In June, 1996, Mr. Ouzts was appointed
Vice President and Treasurer of Dialysis Corporation of America. See Item 13,
"Certain Relationships and Related Transactions."
STEPHEN W. EVERETT has been involved in the healthcare industry for
over 24 years. From 1993 to 1997, Mr. Everett was responsible for oversight,
deal structuring, physician recruitment and practice management for the renal
care division of Vivra, Inc., the second largest provider of dialysis services
in the United States. Mr. Everett held positions of similar responsibility in
1998 through his affiliation with Physicians Practice Management, engaged in
consulting and management in the renal healthcare field. He joined Dialysis
Corporation of America in November, 1998 as Vice President, became Executive
Vice President in June, 1999, President in March, 2000, and Chief Executive
Officer in May, 2003.
For more detailed information about or executive officers and
directors, you are referred to the caption "Information About Directors and
Executive Officers" of our proxy statement relating to the annual meeting of
shareholders anticipated to be held on June 3, 2004, which is incorporated
herein by reference.
53
ITEM 11. EXECUTIVE COMPENSATION
Information on executive compensation is included under the caption
"Executive Compensation" of our proxy statement relating to the annual meeting
of shareholders anticipated to be held on 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 proxy 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 proxy statement relating to the
annual meeting of shareholders anticipated to be held on June 3, 2004,
incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information on certain relationships and related transactions is
included under the caption "Certain Relationships and Related Transactions" of
our proxy statement relating to the annual meeting of shareholders anticipated
to be held on 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 proxy statement relating to the annual meeting
of shareholders anticipated to be held on June 3, 2004, incorporated herein by
reference.
54
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) The following is a list of documents filed as part of this report.
1. All financial statements - See Index to Consolidated Financial
Statements.
2. Financial statement schedules - See Index to Consolidated Financial
Statements.
3. Refer to subparagraph (c) below.
(b) Current Reports on Form 8-K filed during fourth quarter of fiscal 2003.
None.
(c) Exhibits+
3.1 Restated Articles of Incorporation, as amended (incorporated by
reference to the Company's Annual Report on Form 10-K for the year
ended December 31, 1997 ("1997 Form 10-K"), Part IV, Item
14(c)(3)(i)).
3.2 By-laws, as amended (incorporated by reference to the Company's 1997
Form 10-K, Part IV, Item 14(c)(3)(ii)).
4 Instruments defining the rights of security holders, including
indentures.
4.1 1989 Stock Option Plan (incorporated by reference to the Company's
1997 Form 10-K, Part IV, Item 14 (c)(10)(i)).
4.2 Form of Stock Option Agreement issued pursuant to the 1989 Stock
Option Plan (incorporated by reference to the Company's 1997 Form
10-K, Part IV, Item 14 (c)(10)(ii)).
4.3 Form of Additional Non-Qualified Stock Option Agreement issuable
under the Stock Option Agreement (incorporated by reference to the
Company's 1997 Form 10-K, Part IV, Item 14 (c)(10)(iii)).
4.4 2000 Stock Option Plan (incorporated by reference to the Company's
Annual Report on Form 10-K for the year ended December 31, 1999
("1999 Form 10-K"), Part IV, Item 14 (c)(10)(v)).
4.5 Form of Stock Option Certificate issued under the 2000 Stock Option
Plan (incorporated by reference to the Company's 1999 Form 10-K, Part
IV, Item 14 (c)(10)(vi)).
4.6 1999 Stock Option Plan of the Dialysis Corporation of America(1) (May
21, 1999) (incorporated by reference to Dialysis Corporation of
America's Annual Report on Form 10-K for the year ended December 31,
1999 ("DCA 1999 Form 10-K"), Part IV, Item 14(c)(10)(xxiii)).
55
4.7 Form of Stock Option Certificate under the Dialysis Corporation of
America 1999 Stock Option Plan (May 21, 1999) (incorporated by
reference to the DCA 1999 Form 10-K, Part IV, Item 14(c)(10)(xxiv)).
10 Material contracts.
10.1 Employment Agreement between the Company and Thomas K. Langbein dated
August, 1998 (incorporated by reference to the Company's Annual
Report on Form 10-K for the year ended December 21, 1998 ("1998 Form
10-K"), Part IV, Item 14(c)(10((ii)).
10.2 Lease between the Company and Heights Plaza Associates, dated April
30, 1981 (incorporated by reference to the Company's 1997 Form 10-K,
Part IV, Item 14(c)(10)(ii)).
10.3 Amendment to lease between the Company and Heights Plaza Associates,
dated February 12, 2001 (incorporated by reference to the Company's
Annual Report on Form 10-K for the year ended December 31, 2001
("2001 Form 10-K"), Part IV, Item 14(c)10.3).
10.4 Lease between the Company and Viragen, Inc.(2) dated December 8, 1992
(incorporated by reference to the Company's 1997 Form 10-K, Part IV,
Item 14(c)(10)(xi)).
10.5 Addendum to Lease between the Company and Viragen, Inc.(2) dated
January 15, 1993 (incorporated by reference to the Company's 1997
Form 10-K, Part IV, Item 14(c)(10)(xii)).
10.6 Lease Renewal Letter by the Company to Gesualdo Vitale(2) dated
August 5, 2002 (incorporated by reference to the Company's Quarterly
Report on Form 10-Q for the quarter ended September 30, 2002, Part
II, Item 6(10)(i)).
10.7 Lease Agreement between the Company and Techdyne, Inc.(3) dated
August 29, 2000 (incorporated by reference to the Company's Current
Report on Form 8-K dated December 19, 2000, Item 7(c)(10)(i)).
10.8 Amendment No. 1 to the Lease Agreement between the Company and
Techdyne, Inc.(3) dated November 29, 2001 (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)10.8)..
10.9 Lease Agreement between DCA of Wellsboro, Inc. (formerly Dialysis
Services of PA., Inc. - Wellsboro)(4) and James and Roger Stager
dated January 15, 1995 (incorporated by reference to the Company's
1994 Form 10-K, Part IV, Item 14(a) 3 (10)(lxii)).
10.10 Lease between Dialysis Corporation of America(1) and DCA of Lemoyne,
Inc.(4) dated December 23, 1998 (incorporated by reference to
Dialysis Corporation of America's Annual Report on Form 10-K for the
year ended December 31, 1998 ("DCA's 1998 Form 10-K"), Part IV, Item
14(c)(ii)).
10.11 Medical Director Agreement(5) between DCA of Vineland, LLC(6) and
Vineland Dialysis Professionals dated April 30, 1999 (incorporated by
reference to the DCA 1999 Form 10-K, Part IV, Item 14(c)(10)(xxvi)).
56
10.12 Agreement for In-Hospital Dialysis Services(7) between DCA of
Wellsboro, Inc. (formerly Dialysis Services of PA., Inc. -
Wellsboro)(4) and Soldiers & Sailors Memorial Hospital dated
September 28, 1994 [*] (incorporated by reference to the Company's
September, 1994 Form 10-Q, Part II, Item 6(a)(10)(ii)).
10.13 Lease between DCA of Carlisle, Inc. (formerly Dialysis Services of
PA., Inc. - Carlisle) (8) and Lester P. Burkholder, Jr. and Kirby K.
Burkholder dated November 1, 1996 (incorporated by reference to
Dialysis Corporation of America's Annual Report on Form 10-K for the
year ended December 31, 1996 ("DCA's 1996 Form 10-K"), Part IV, Item
14(a) 3 (10)(xxiii)).
10.14 Lease between DCA of Manahawkin, Inc. (formerly Dialysis Services of
NJ, Inc. - Manahawkin)(8) and William P. Thomas dated January 30,
1997 (incorporated by reference to DCA's 1996 Form 10-K, Part IV,
Item 14(a) 3 (10)(xxiv)).
10.15 Renewal of Lease between DCA of Manahawkin, Inc.(8) and William P.
Thomas dated February 20, 2004 (incorporated by reference to DCA's
2003 Form 10-K, Part IV, Item 15(c)10.8).
10.16 Equipment Master Lease Agreement BC-105 between Dialysis Corporation
of America(1) and B. Braun Medical, Inc. dated November 22, 1996
(incorporated by reference to DCA's 1996 Form 10-K, Part IV, Item
14(a) 3 (10)(xxvii)).
10.17 Schedule of Leased Equipment 0597 commencing June 1, 1997 to Master
Lease BC-105(9) (incorporated by reference to Dialysis Corporation of
America's Quarterly Report on Form 10-Q for the quarter ended June
30, 1997 ("DCA's June, 1997 10-Q"), Part II, Item 6(a), Part II,
Exhibit 10(i)).
10.18 Lease between DCA of Chambersburg, Inc. (formerly Dialysis Services
of PA., Inc. - Chambersburg)(8) and BPS Development Group dated April
13, 1998 (incorporated by reference to DCA's March, 1998 Form 10-Q,
Part II, Item 6(a), Part II, Item 10(i)).
10.19 Lease between DCA of Vineland, LLC(6) and Maintree Office Center,
L.L.C. dated May 10, 1999 (incorporated by reference to the DCA 1999
Form 10-K, Part IV, Item 14(c)(10)(xxv)).
10.20 Management Services Agreement(10) between Dialysis Corporation of
America(1) and DCA of Vineland, LLC(6) dated April 30, 1999
(incorporated by reference to the DCA 1999 Form 10-K, Part IV, Item
14(c)(10)(xxviii)).
10.21 Amendment No. 1 to Management Services Agreement between Dialysis
Corporation of America(1) and DCA of Vineland, LLC(6) dated October
27, 1999 (incorporated by reference to the DCA 1999 Form 10-K, Part
IV, Item 14(c)(10)(xxix)).
10.22 Indemnity Deed of Trust from Dialysis Corporation of America(1) to
Trustees for the benefit of St. Michaels Bank dated December 3, 1999
(incorporated by reference to Dialysis Corporation of America's
Current Report on Form 8-K dated December 13, 1999 ("DCA's December
Form 8-K"), Item 7(c)(99)(i)).
57
10.23 Guaranty Agreement from Dialysis Corporation of America(1) to St.
Michaels Bank dated December 3, 1999 (incorporated by reference to
DCA's December Form 8-K, Item 7(c)(99)(ii)).
10.24 Lease between Dialysis Corporation of America(1) and DCA of So. Ga.,
LLC(4) dated November 8, 2000 (incorporated by reference to Dialysis
Corporation of America's Current Report on Form 8-K dated January 3,
2001 ("DCA January, 2001 8-K"), Item 7(c)(10)(i)).
10.25 Lease between DCA of Fitzgerald, LLC(4) and Hospital Authority of
Ben Hill County, dba Dorminy Medical Center, dated February 8, 2001
(incorporated by reference to Dialysis Corporation of America's
Current Report on Form 8-K dated March 5, 2001 ("DCA March, 2001
8-K"), Item 7(c)(10)(i)).
10.26 Lease between Dialysis Corporation of America(1) and Renal Treatment
Centers - Mid-Atlantic, Inc. dated July 1, 1999 (incorporated by
reference to Dialysis Corporation of America's Annual Report on Form
10-K for the year ended December 31, 2000 ("DCA 2000 Form 10-K"),
Part IV, Item 14 (c)(10)(xlii)).
10.27 Employment Agreement between Stephen W. Everett and Dialysis
Corporation of America(1) dated December 29, 2000 (incorporated by
reference to the DCA 2000 Form 10-K, Part IV, Item 14(c)(10)(vii)).
10.28 Commercial Loan Agreement between Dialysis Corporation of America(1)
and Heritage Community Bank, dated April 3, 2001 (incorporated by
reference to Dialysis Corporation of America's Current Report on Form
8-K dated June 14, 2001 ("DCA June, 2001 Form 8-K"), Item 7(c)(i)).
10.29 Promissory Note by Dialysis Corporation of America(1) to Heritage
Community Bank, dated April 3, 2001 (incorporated by reference to the
DCA June, 2001 Form 8-K, Item 7(c)(ii)).
10.30 Modification Agreement to Dialysis Corporation of America's(1)
Promissory Note to Heritage Community Bank, dated December 16, 2002
(incorporated by reference to Dialysis Corporation of America's
Annual Report on Form 10-K for the year ended December 31, 2002 ("DCA
2002 Form 10-K"), Part IV, Item 15(c) 10.24).
10.31 Lease between Dialysis Corporation of America(1) and Commons Office
Research dated June 11, 2001 (incorporated by reference to Dialysis
Corporation of America's Quarterly Report on Form 10-Q for the
quarter ended June 30, 2001 ("DCA June, 2001 Form 10-Q"), Part II,
Item 6(a)(10((i)).
10.32 Lease between DCA of Mechanicsburg, LLC(4) and Pinnacle Health
Hospitals dated July 24, 2001 (incorporated by reference to the DCA
June, 2001 Form 10-Q, Part II, Item 6(a)(10)(ii)).
10.33 Lease between Dialysis Corporation of America(1) and Clinch Memorial
Hospital dated September 29, 2000 (incorporated by reference to
Dialysis Corporation of America's Annual Report on Form 10-K for the
year ended December 31, 2001 ("DCA 2001 Form 10-K"), Part IV, Item
14(c) 10.37).
58
10.34 Lease between DCA of Central Valdosta, LLC(4) and W. Wayne Fann
dated March 20, 2001 (incorporated by reference to DCA 2001 Form
10-K, Part IV, Item 14(c) 10.38).
10.35 Promissory Note Modification Agreement between DCA of Vineland,
LLC(6) and St. Michaels Bank dated December 27, 2002 (incorporated by
reference to DCA 2002 Form 10-K, Part IV, Item 15(c) 10.30).
10.36 Lease between Dialysis Corporation of America(1) and Dr. Gerald
Light dated February 15, 2002 (incorporated by reference to Dialysis
Corporation of America's Quarterly Report on Form 10-Q for the
quarter ended March 31, 2002, Part II, Item 6(a)(99)(i)).
10.37 Lease between DCA of Royston, LLC(4) and Ty Cobb Healthcare System,
Inc. dated March 15, 2002 (incorporated by reference to Dialysis
Corporation of America's Current Report on Form 8-K dated April 22,
2002, Item 7(c)(10)(i)).
10.38 Lease Agreement between DCA of Chevy Chase, LLC(8) and
BRE/Metrocenter LLC and Guaranty of Dialysis Corporation of
America(1) dated August 8, 2002 (incorporated by reference to
Dialysis Corporation of America's Current Report on Form 8-K dated
September 25, 2002, Item 7(c)(10)(i)).
10.39 Dialysis Corporation of America's(1) Section 125 Plan effective
September 1, 2002 (incorporated by reference to Dialysis Corporation
of America's Quarterly Report on Form 10-Q for the quarter ended
September 30, 2002, Part II, Item 6(99)).
10.40 Lease Agreement between Pupizion, Inc. and DCA of Cincinnati,
LLC(11) dated December 11, 2002 (incorporated by reference to DCA
2002 Form 10-K, Part IV, Item 15(c) 10.35).
10.41 Promissory Note from DCA of Cincinnati, LLC(11) to Dialysis
Corporation of America(1) dated February 3, 2003 (incorporated by
reference to DCA 2002 Form 10-K, Part IV, Item 15(c) 10.36).
10.42 Asset Sale Agreement between Dialysis Corporation of America(1) and
Gambro Healthcare Renal Care, Inc. dated April 7, 2003 (incorporated
by reference to Dialysis Corporation of America's Current Report on
Form 8-K dated April 9, 2003 ("DCA April, 2003 Form 8-K"), Item
7(c)(10((i)).
10.43 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 DCA April, 2003 Form 8-K, Item
7(c)(10)(ii)).
10.44 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 DCA
April, 2003 Form 8-K, Item 7(c)(10((iii)).
10.45 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
DCA April, 2003 Form 8-K, Item 7(c)(10((iv)).
59
10.46 Landlord's Consent to Assignment of Lease Agreement dated April 1,
2003 (incorporated by reference to DCA April, 2003 Form 8-K, Item
7(c)(10)(iv)).
10.47 Lease Agreement between DCA of Warsaw, LLC(4) and Warsaw Village,
L.P. dated July 23, 2003 (incorporated by reference to Dialysis
Corporation of America's Current Report on Form 8-K dated August 5,
2003, Item 7(c)(10)(i)).
10.48 Lease Agreement between DCA of Pottstown, LLC(8) and Fisher Scheler,
LLC dated August 19, 2003 (incorporated by reference to Dialysis
Corporation of America's Current Report on Form 8-K dated August 27,
2003, Item 7(c)(iv)(i)).
10.49 Renewal of Lease between the Company and DCA of Lemoyne, Inc(4)
dated December 30, 2003 (incorporated by reference to Dialysis
Corporation of America's Annual Report on Form 10-K for the year
ended December 31,2003 (the "DCA 2003 Form 10-K"), Part IV, Item
15(c)10.3).
10.50 Consulting Agreement between the Company and TARget IR, LLC dated
May 30, 2003 (incorporated by reference to the Company's Current
Report on Form 8-K dated July 3, 2003 ("July, 2003 Form 8-K"), Item
7(c)(10((i)).
10.51 Stock Option to TARget IR, LLC dated May 30, 2003 (incorporated by
reference to the Company's July, 2003 Form 8-K, Item 7(c)(10((ii)).
10.52 Business Lease between the Company and Suzanne M. Anderson dated
July 1, 2003 (incorporated by reference to the Company's Current
Report on Form 8-K dated July 22, 2003, Item 7(c)(10)(i)).
10.53 Demand Promissory Note from Dialysis Corporation of America(1) to
the Company dated March 1, 2004 (incorporated by reference to DCA
2003 Form 10-K, Part IV, Item 15(c)10.46).
16 Letter re: Change in Certifying Accountant
16.1 Letter of Wiss & Company, LLP addressed to the Securities and
Exchange Commission dated November 10, 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
60
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.
- ---------
+ Documents incorporated by reference not included in the Exhibit Volume.
[*] Confidential portions omitted have been filed separately with the
Securities and Exchange Commission.
(1) 59% owned subsidiary.
(2) Viragen, Inc. sold the property to Gesualdo and Rosanna Vitale in 2000;
the Vitales are the new landlords.
(3) Former 71% owned subsidiary sold in June, 2001. (4) 100% owned subsidiary
of Dialysis Corporation of America.
(5) Each dialysis subsidiary has a Medical Director Agreement which is
substantially similar to the exhibit filed but for the term, area of
non-competition and compensation. Dialysis Corporation of America's
affiliate, DCA of Toledo, LLC (40% owned), has a substantially similar
Medical Director Agreement.
(6) 51% owned subsidiary of Dialysis Corporation of America.
(7) Dialysis Corporation of America's acute inpatient services agreements
referred to as Agreement for In-Hospital Dialysis Services are
substantially similar to the exhibit filed, but for the hospital
involved, the term and the service compensation rates. Agreements for
In-Hospital Dialysis Services include the following areas: Valdosta and
Fitzgerald, Georgia; Carlisle, Chambersburg, Lemoyne and Wellsboro,
Pennsylvania; Toledo, Ohio.
(8) 80% owned subsidiary of Dialysis Corporation of America.
(9) Certain dialysis equipment was leased from time to time by Dialysis
Corporation of America 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.
(10) Each of Dialysis Corporation of America's dialysis subsidiaries has a
Management Service Agreement which is substantially similar to the
exhibit filed but for the name of the particular subsidiary which entered
into the Agreement and the compensation. Dialysis Corporation of America
also has a Management Services Agreement with DCA of Toledo, LLC, in
which it holds a 40% interest.
(11) 60% owned subsidiary of Dialysis Corporation of America.
61
SIGNATURES
Pursuant to the requirements of Sections 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
MEDICORE, INC.
By /S/ THOMAS K. LANGBEIN
------------------------------------
THOMAS K. LANGBEIN, Chairman
of the Board of Directors, Chief
Executive Officer and President
March 29, 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.
Name Title Date
- ---- ----- ----
/s/ THOMAS K. LANGBEIN Chairman of the Board of Directors,
- --------------------------- Chief Executive Officer and President March 29, 2004
Thomas K. Langbein
/s/ DANIEL R. OUZTS Vice-President of Finance and
- --------------------------- Treasurer (Principal Financial Officer) March 29, 2004
Daniel R. Ouzts
/s/ seymour friend Director March 29, 2004
- ---------------------------
Seymour Friend
/s/ PETER D. FISCHBEIN Director March 29, 2004
- ---------------------------
Peter D. Fischbein
/s/ ANTHONY C. D'AMORE Director March 29, 2004
- ---------------------------
Anthony C. D'Amore
/s/ ROBERT P. MAGRANN Director March 29, 2004
- ---------------------------
Robert P. Magrann
/s/ CHARLES B. WADDELL Director March 29, 2004
- ---------------------------
Charles B. Waddell
/s/ LAWRENCE E. JAFFE Director March 29, 2004
- ---------------------------
Lawrence E. Jaffe
62
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
CERTAIN EXHIBITS
FINANCIAL STATEMENT SCHEDULES
YEAR ENDED DECEMBER 31, 2003
MEDICORE, INC.
HIALEAH, FLORIDA
FORM 10-K--ITEM 15(A)(1) AND (2)
MEDICORE, INC. AND SUBSIDIARIES
LIST OF FINANCIAL STATEMENTS
The following consolidated financial statements of Medicore, Inc. and
subsidiaries are included in Item 8 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 Medicore, Inc. and
subsidiaries is included in Item 15(d):
Schedule II-Valuation and qualifying accounts F-31
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
Medicore, Inc.
We have audited the accompanying consolidated balance sheet of Medicore, Inc.
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
Medicore, Inc. 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
Medicore, Inc.
We have audited the accompanying consolidated balance sheet of Medicore, Inc.
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
Medicore and subsidiaries at December 31, 2002 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
March 12, 2003
Livingston, New Jersey
F-3
MEDICORE, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, DECEMBER 31,
2003 2002
----------- -----------
ASSETS
Current assets:
Cash and cash equivalents $10,316,170 $ 8,080,903
Accounts receivable, less allowance of
$796,000 in 2003 and $842,000 in 2002 4,963,628 3,571,847
Note receivable -- 2,250,000
Receivable from sale of Techdyne 384,253 1,100,000
Inventories, less allowance for obsolescence
of $90,000 in 2003 and $122,000 in 2002 1,320,255 1,146,610
Related parties' loan and interest receivable 204,469 174,358
Prepaid expenses and other current assets 1,807,663 2,368,296
Deferred income taxes 477,000 467,000
----------- -----------
Total current assets 19,473,438 19,159,014
Property and equipment
Land and improvements 1,027,108 1,027,108
Building and building improvements 3,232,904 3,222,663
Equipment and furniture 6,226,312 5,414,252
Leasehold improvements 3,566,083 2,730,162
----------- -----------
14,052,407 12,394,185
Less accumulated depreciation and amortization 5,670,595 4,474,339
----------- -----------
8,381,812 7,919,846
----------- -----------
Receivable from sale of Techdyne -- 295,000
Other assets 668,763 378,730
Goodwill 2,291,333 923,140
----------- -----------
Total other assets 2,960,096 1,596,870
----------- -----------
$30,815,346 $28,675,730
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable $ 1,209,128 $ 1,409,344
Accrued expenses and other current liabilities 4,228,391 2,828,823
Current portion of long-term debt 575,000 614,362
Income taxes payable 28,949 --
----------- -----------
Total current liabilities 6,041,468 4,852,529
Long-term debt 2,097,355 2,727,105
Deferred income taxes 742,000 744,000
Total liabilities 8,880,823 8,323,634
----------- -----------
Minority interest in subsidiaries 4,941,655 3,870,024
----------- -----------
Commitments
Stockholders' equity:
Common stock, $.01 par value; authorized 12,000,000 shares; 6,753,943 shares
issued and outstanding in 2003;
6,572,775 shares issued and outstanding in 2002 67,539 65,727
Capital in excess of par value 13,007,988 12,772,358
Retained earnings 3,917,341 3,643,987
----------- -----------
Total stockholders' equity 16,992,868 16,482,072
----------- -----------
$30,815,346 $28,675,730
=========== ===========
See notes to consolidated financial statements.
F-4
MEDICORE, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
2003 2002 2001
------------ ------------ ------------
Revenues
Sales:
Product sales $ 810,482 $ 889,904 $ 861,077
Medical service revenues 29,676,388 25,162,380 18,919,752
------------ ------------ ------------
Total sales 30,486,870 26,052,284 19,780,829
Gain on sale of securities (Note 11) 784,005 -- --
Interest income related parties 30,111 30,714 30,095
Other income 808,920 848,597 880,169
------------ ------------ ------------
32,109,906 26,931,595 20,691,093
Cost and expenses:
Cost of sales:
Cost of product sales 514,354 496,984 775,969
Cost of medical services 18,220,891 15,066,551 12,021,907
------------ ------------ ------------
Total cost of sales 18,735,245 15,563,535 12,797,876
Legal fees related party 342,000 310,000 311,000
Selling, general and administrative expenses 11,002,995 8,423,588 7,558,714
Provision for doubtful accounts 289,582 705,158 661,158
Interest expense 201,650 242,441 228,312
------------ ------------ ------------
30,571,472 25,244,722 21,557,060
------------ ------------ ------------
Income (loss) from continuing operations before income
taxes, minority interest and equity in affiliate earnings (loss) 1,538,434 1,686,873 (865,967)
Income tax provision (benefit) 636,289 646,880 (928,125)
------------ ------------ ------------
Income from continuing operations before
minority interest and equity in affiliate earnings (loss) 902,145 1,039,993 62,158
Minority interest in income of consolidated subsidiaries 673,145 627,408 385,233
Equity in affiliate earnings (loss) 44,354 69,533 (16,345)
------------ ------------ ------------
Income (loss) from continuing operations 273,354 482,118 (339,420)
Discontinued operations:
Loss from operations of electro-mechanical
manufacturing operations, net of applicable income
taxes of $25,000 in 2001 -- -- (962,814)
Gain on disposal of electro-mechanical manufacturing
operation, net of applicable income taxes of
$1,621,000 -- -- 2,534,656
------------ ------------ ------------
Net income $ 273,354 $ 482,118 $ 1,232,422
============ ============ ============
Earnings per share:
Basic $ .04 $ .07 $ .20
============ ============ ============
Diluted $ .03 $ .06 $ .20
============ ============ ============
See notes to consolidated financial statements.
F-5
MEDICORE, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS EQUITY
CAPITAL IN
COMMON EXCESS OF COMPREHENSIVE RETAINED
STOCK PAR VALUE INCOME (LOSS) EARNINGS
------------ ------------ ------------ ------------
Balance December 31, 2000 $ 57,105 $ 11,705,837 $ 1,929,447
Comprehensive income (loss):
Net income $ 1,232,422 1,232,422
Foreign currency translation adjustments (39,416)
Reclassification adjustment for foreign
for foreign currency translation adjustments
upon sale of subsidiary 197,934
------------
Comprehensive income $ 1,390,940
============
Forgiveness of subsidiary stock option notes 148,179
Stock compensation of 875,000 common shares 8,750 866,250
Exercise of stock options for 115,000 common shares 1,150 157,550
Repurchase and cancellation of 100,000 common shares (1,003) (124,715)
Repurchase of stock by subsidiary 53,797
------------ ------------ ------------
Balance December 31, 2001 66,002 12,806,898 3,161,869
Net income $ 482,118 482,118
============
Stock option expense 3,750
Repurchase and cancellation of 27,500 common shares (275) (38,290)
------------ ------------ ------------
Balance December 31, 2002 65,727 12,772,358 3,643,987
Net income $ 273,354 273,354
============
Consultant stock options 56,000
Exercise of subsidiary stock options (60,188)
Repurchase and cancellation of 48,500 common shares (485) (66,125)
Repurchase of stock by subsidiary (8,703)
Exercise of stock options for 229,668 common shares 2,297 314,646
------------ ------------ ------------
Balance December 31, 2003 $ 67,539 $ 13,007,988 $ 3,917,341
============ ============ ============
ACCUMULATED
OTHER
COMPREHENSIVE
INCOME (LOSS) TOTAL
------------ -------------
Balance December 31, 2000 $ (158,518) $ 13,533,871
Comprehensive income (loss):
Net income
Foreign currency translation adjustments (39,416)
Reclassification adjustment for foreign
for foreign currency translation adjustments
upon sale of subsidiary 197,934
Comprehensive income 1,390,940
Forgiveness of subsidiary stock option notes 148,179
Stock compensation of 875,000 common shares 875,000
Exercise of stock options for 115,000 common shares 158,700
Repurchase and cancellation of 100,000 common shares (125,718)
Repurchase of stock by subsidiary 53,797
------------ -------------
Balance December 31, 2001 -- 16,034,769
Net income 482,118
Stock option expense 3,750
Repurchase and cancellation of 27,500 common shares (38,565)
------------ -------------
Balance December 31, 2002 -- 16,482,072
Net income 273,354
Consultant stock options 56,000
Exercise of subsidiary stock options (60,188)
Repurchase and cancellation of 48,500 common shares (66,610)
Repurchase of stock by subsidiary (8,703)
Exercise of stock options for 229,668 common shares 316,943
------------ -------------
Balance December 31, 2003 $ -- $ 16,992,868
============ =============
See notes to consolidated financial statements.
F-6
MEDICORE, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31,
2003 2002 2001
------------ ------------ ------------
Operating activities:
Net income $ 273,354 $ 482,118 $ 1,232,422
Adjustments to reconcile net income to net cash
(used in) provided by operating activities:
Depreciation 1,227,363 1,117,462 1,534,158
Amortization 2,314 6,190 101,023
Bad debt expense 289,582 705,157 765,158
Inventory obsolescence provision (credit) (15,071) (53,000) 349,805
Write-off of goodwill -- -- 52,471
Stock and option related compensation 349,612 3,750 1,032,550
Subsidiary stock option note forgiveness -- -- 207,825
Minority interest 673,145 627,408 3,917
Gain on sale of Techdyne -- -- (2,534,656)
Equity in affiliate (earnings) loss (44,354) (69,533) 16,345
Deferred income taxes (12,000) 127,000 (391,939)
Gain on sale of securities (784,005) -- --
Increase (decrease) relating to operating activities from:
Accounts receivable (1,681,363) (222,286) (2,025,484)
Inventories (158,574) (117,014) 624,128
Interest receivable related parties (30,111) (30,714) (30,095)
Prepaid expenses and other current assets 76,888 (1,536,046) (510,184)
Accounts payable (200,216) (220,047) (230,128)
Accrued expenses and other current liabilities 829,568 706,018 618,898
Income taxes payable 28,949 (2,322,736) (680,972)
------------ ------------ ------------
Net cash provided by (used in) operating activities 825,081 (796,273) 135,242
Investing activities:
Purchase of minority interests in subsidiaries (670,000) (300,000) (300,000)
Notes receivable -- (250,000) 200,000
Acquisition of dialysis centers (75,000) (550,000) --
Additions to property and equipment, net of minor disposals (1,661,343) (943,647) (1,392,884)
Net proceeds from sale of Techdyne -- -- 9,852,114
Earn-out payment on sale of Techdyne 1,010,747 1,105,000
Loan receivable from Techdyne -- -- 189,330
Other assets (5,178) 22,354 (20,073)
Proceeds from sale of securities 3,541,081 -- --
Capital contributions by subsidiaries' minority members 204,382 10,570 4,000
Distributions from affiliate 77,000 -- --
Investment in affiliate -- 22,800 (152,811)
Loans to physician affiliates (150,000) -- (20,332)
Loan to subsidiary officer -- (95,000)
------------ ------------ ------------
------------
Net cash provided by (used in) investing 2,271,689 (882,923) 8,264,344
activities
Financing activities:
Line of credit net payments (79,157) (106,373) 493,292
Proceeds from long-term borrowings -- -- 787,500
Payments on long-term borrowings (589,956 (444,335) (583,599)
Proceeds from exercise of stock options 34,875 -- 1,150
Subsidiary repurchase of stock (42,000) -- (97,978)
Repurchase of stock (66,610) (38,565) (125,718)
Deferred financing costs -- -- (11,882)
Distribution to subsidiaries' minority members (118,655) (10,000)
------------ ------------
------------
Net cash (used in) provided by financing (861,503) (599,273) 462,765
activities
Effect of exchange rate fluctuations on cash -- 32,478
------------ ------------ ------------
------------
Increase (decrease) in cash and cash equivalents 2,235,267 (2,278,469) 8,894,829
Cash and cash equivalents at beginning of year 8,080,903 10,359,372 1,464,543
------------ ------------ ------------
Cash and cash equivalents at end of year $ 10,316,170 $ 8,080,903 $ 10,359,372
============ ============ ============
See notes to consolidated financial statements.
F-7
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Business: The company has three reported business segments. The medical
services segment, operated by Medicore's majority owned (61% as of December 31,
2003, 59% currently) subsidiary, Dialysis Corporation of America and
subsidiaries ("Dialysis Corporation of America"), operates 19 kidney dialysis
outpatient treatment centers located in Georgia, Maryland, New Jersey, Ohio,
Pennsylvania, South Carolina and Virginia, including the management of each of a
40% owned Ohio affiliate and an unaffiliated Georgia center, and has one
dialysis center under development; has agreements to provide inpatient dialysis
treatments to various hospitals; and provides supplies and equipment for
dialysis home patients. The medical products segment is engaged in the
distribution of medical products. A third segment, investment in technology
companies, was initiated in January, 2000 with an investment in and financing to
Linux software companies.
Consolidation: The consolidated financial statements include the
accounts of Medicore, Inc. and Dialysis Corporation of America. All material
intercompany accounts and transactions have been eliminated in consolidation.
Dialysis Corporation of America has a 40% interest in an Ohio dialysis center it
manages, which is accounted for by the equity method and not consolidated for
financial reporting purposes.
On June 27, 2001, the company sold its 71.3% interest in its
electro-mechanical manufacturing subsidiary, Techdyne, Inc. to Simclar
International Limited. Techdyne's results of operations are shown as
discontinued operations in the Consolidated Statement of Operations, requiring
reclassification of amounts related to Techdyne. See Note 12.
Estimates: The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the amounts
reported in the financial statements and accompanying notes. Actual results
could differ from those estimates.
The company's principal estimates are for estimated uncollectible
accounts receivable as provided for in our allowance for doubtful accounts,
estimated losses from obsolete or unsaleable inventory as provided for in our
allowance for inventory obsolescence, estimated useful lives of depreciable
assets, estimates for patient revenues from non-contracted payors, and the
valuation allowance for deferred tax assets based on the estimated realizability
of deferred tax assets. Our estimates are based on historical experience and
assumptions believed to be reasonable given the available evidence at the time
of the estimates. Actual results could differ from those estimates.
Government Regulation: A substantial portion of the revenues of the
company's medical services segment are attributable to payments received under
Medicare, which is supplemented by Medicaid or comparable benefits in the states
in which the company operates. Reimbursement rates under these programs are
subject to regulatory changes and governmental funding restrictions. Laws and
regulations governing the Medicare and Medicaid programs are complex and subject
to interpretation. The company believes that it is in compliance with all
applicable laws and regulations and is not aware of any pending or threatened
investigations involving allegations of potential wrongdoing. While no such
regulatory inquiries have been made, compliance with such laws and regulations
can be subject to future government review and interpretation as well as
significant regulatory action including fines, penalties, and exclusion from the
Medicare and Medicaid programs.
F-8
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES--CONTINUED
Vendor Concentration: The company's medical services segment purchases
erythropoietin (EPO) from one supplier which comprised 37% in 2003, 34% in 2002
and 32% in 2001 of medical service cost of sales. There is only one supplier of
EPO in the United States without alternative products available to dialysis
treatment providers. Revenues from the administration of EPO comprised 28% in
2003, 26% in 2002 and 25% in 2001 of medical service revenue.
Sale of Stock By Subsidiaries: The company follows an accounting policy
of recognizing income on sales of stock by its public subsidiaries, which
includes exercise of warrants issued in subsidiary stock offerings.
Inventories: Inventories are valued at the lower of cost (first-in,
first-out and/or weighted average cost method) or market value and consists of
inventory of the company's medical products division and the company's Medical
Services Division.
Property and Equipment: Property and equipment is stated at cost.
Depreciation is computed for book purposes by the straight-line method over the
estimated useful lives of the assets, which range from 5 to 34 years for
buildings and improvements; 3 to 10 years for machinery, computer and office
equipment, and furniture; and 5 to 15 years for leasehold improvements based on
the shorter of the lease term or estimated useful life of the property.
Replacements and betterments that extend the lives of assets are capitalized.
Maintenance and repairs are expensed as incurred. Upon the sale or retirement of
assets, the related cost and accumulated depreciation are removed and any gain
or loss is recognized.
Long-lived Asset Impairment: Pursuant to Financial Accounting Standards
Board Statement No. 121 "Accounting for the Impairment of Long-lived Assets and
for Long-lived Assets to be Disposed of," impairment of long-lived assets,
including intangibles related to such assets, is recognized whenever events or
changes in circumstances indicate that the carrying amount of the asset, or
related groups of assets, may not be fully recoverable from estimated future
cash flows and the fair value of the related assets is less than their carrying
value. Financial Accounting Standards Board Statement No. 144 "Accounting for
the Impairment or Disposal of Long-lived Assets" (FAS 144) clarifies when a
long-lived asset held for sale should be classified as such. It also clarifies
previous guidance under FAS 121. The company, based on current circumstances,
does not believe any indicators of impairment are present.
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. See Note 9.
F-9
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING
POLICIES--CONTINUED
The pro forma consolidated condensed financial information below
reflects the company's operating results excluding amortization of goodwill
during the year ended December 31, 2001.
SUMMARY PRO FORMA INFORMATION
(UNAUDITED)
YEAR ENDED
DECEMBER 31, 2001
-----------------------------
GOODWILL PRO
ACTUAL AMORTIZATION FORMA
----------- ----------- -----------
Net loss from continuing operations $ (339,420) $ 6,975 $ (332,445)
(Loss) income from discontinued operations,
net of tax (962,814) 157,707 (805,107)
Gain on disposal of discontinued operations,
net of tax 2,534,656 -- 2,534,656
----------- ----------- -----------
Net income (loss)-basic computation 1,232,422 164,682 1,397,104
Subsidiary dilutive securities adjustment (12,496) -- (12,496)
----------- ----------- -----------
Net income (loss)-dilutive computation $ 1,219,926 $ 164,682 $ 1,384,608
=========== =========== ===========
Earnings (loss) per share:
Basic $ .20 $ .22
=========== ===========
Diluted $ .20 $ .22
=========== ===========
Deferred Expenses: Deferred expenses, except for deferred loan costs,
are amortized on the straight-line method, over their estimated benefit period
ranging to 60 months. Deferred loan costs are amortized over the lives of the
respective loans.
Income Taxes: Deferred income taxes at the end of each period are
determined by applying enacted tax rates applicable to future periods in which
the taxes are expected to be paid or recovered to differences between the
financial accounting and tax basis of assets and liabilities.
Dialysis Corporation of America files separate income tax returns with
its income tax liability reflected on a separate return basis.
Foreign Currency Translation: The financial statements of Techdyne's
foreign subsidiary Techdyne (Europe) were translated into U.S. dollars in
accordance with Statement of Financial Accounting Standards No. 52. All balance
sheet accounts were translated using the current exchange rates at the balance
sheet date. Income statement amounts were translated using the average exchange
rate for the year. The translation adjustments resulting from the change in
exchange rates from year to year were reported separately as a component of
accumulated other comprehensive income (loss) included in stockholders' equity.
The company sold its interest in Techdyne in June 2001; accordingly foreign
currency translation adjustments are no longer included in the company's
stockholder's equity. See Consolidation above and Note 12.
F-10
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--CONTINUED
Other Income: Other income is comprised as
follows:
YEAR ENDED DECEMBER 31,
2003 2002 2001
-------- -------- --------
Interest income $ 94,738 $322,990 $361,738
Interest income from discontinued operations -- -- 7,997
Rental income 313,183 294,227 240,724
Rental income from discontinued operations -- -- 73,170
Management fee income 320,580 191,213 130,715
Other 80,419 40,167 65,825
-------- -------- --------
$808,920 $848,597 $880,169
======== ======== ========
Accrued Expenses: Accrued expenses and other
current liabilities is comprised as follows:
DECEMBER 31, DECEMBER 31,
2003 2002
------------ ------------
Accrued compensation $ 1,230,685 $ 909,763
Due to insurance companies 1,759,397 1,271,235
Payable subsidiary minority interest acquisition (See Note 670,000 --
11)
Other 568,309 647,825
------------ ------------
$ 4,228,391 $ 2,828,823
============ ============
Stock-Based Compensation: The company follows the intrinsic method of
Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees" (APB 25) and related Interpretations in accounting for its employee
stock options because, as discussed below, Financial Accounting Standards Board
Statement No. 123, "Accounting for Stock-Based Compensation" (FAS 123) requires
use of option valuation models that were not developed for use in valuing
employee stock options. FAS 123 permits a company to elect to follow the
intrinsic method of APB 25 rather than the alternative fair value accounting
provided under FAS 123 but requires pro forma net income and earnings per share
disclosures as well as various other disclosures not required under APB 25 for
companies following APB 25. The company has adopted the disclosure provisions
required under Financial Accounting Standards Board Statement No. 148,
"Accounting for Stock-Based Compensation - Transition and Disclosure" (FAS 148).
Under APB 25, because the exercise price of the company's stock options equals
the market price of the underlying stock on the date of grant, no compensation
expense was recognized. See "New Pronouncements."
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 option grants and modifications in 2003 and 2002: risk-free
interest rates of 1.76% for option grants during 2003 and 1.83% for the January
2000 options modified in January 2002; no dividend yield; volatility factor of
the expected market price of the Company's common stock of .78 for option grants
during 2003 and .67 for the January 2000 options modified in January 2002, and
an expected life of 2.17 years for option grants during 2003 and 1 year for the
January 2000 options modified in January 2002.
F-11
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--CONTINUED
The fair value of Dialysis Corporation of America's options was
estimated at the date of grant using a Black-Scholes option pricing model with
the following weighted-average assumptions for option grants during 2003, 2002
and 2001, respectively: risk-free interest rate of 1.44%, 3.73%, 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, which includes the pro forma effects related to the
company's interest in Dialysis Corporation of America pro forma adjustments,
follows:
2003 2002 2001
----------- ----------- -----------
Net income, as reported $ 273,354 $ 482,118 $ 1,232,422
Stock-based employee compensation expense
under fair value method, net of related
tax effects (43,257) (28,830) (14,867)
----------- ----------- -----------
Pro forma net income-basic computation $ 230,097 $ 453,288 $ 1,217,555
Subsidiary dilutive securities adjustments (66,691) (79,305) (12,496)
----------- ----------- -----------
Pro forma net income-diluted computation $ 163,406 $ 373,983 $ 1,205,059
=========== =========== ===========
Earnings per share:
Basic, as reported $ .04 $ .07 $ .20
=========== =========== ===========
Basic, pro forma $ .03 $ .07 $ .20
=========== =========== ===========
Diluted, as reported $ .03 $ .06 $ .20
=========== =========== ===========
Diluted, pro forma $ .02 $ .06 $ .19
=========== =========== ===========
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, using the treasury stock method and average
market price.
F-12
MEDICORE, INC. 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, numerator-basic computation $ 273,354 $ 482,118 $ 1,232,422
Adjustment due to subsidiaries' dilutive securities (66,691) (79,305) (12,496)
----------- ----------- -----------
Net income as adjusted, numerator-diluted computation $ 206,663 $ 402,813 $ 1,219,926
=========== =========== ===========
Weighted average shares- denominator basic computation 6,580,932 6,596,837 6,217,458
Effect of dilutive stock options 93,347 79,144 --
----------- ----------- -----------
Weighted average shares, as adjusted-denominator diluted 6,674,279 6,675,981 6,217,458
=========== =========== ===========
computation
Earnings per share:
Basic $ .04 $ .07 $ .20
=========== =========== ===========
Diluted $ .03 $ .06 $ .20
=========== =========== ===========
The components of earnings (loss) per share for 2001 are as follows.
Due to rounding involved in each separate computation, the total of the
individual rounded diluted per share amounts for continuing and discounted
operations does not equal the combined rounded diluted per share amount.
Continuing Operations:
Net loss - numerator basic computation $ (339,420)
Adjustment due to subsidiaries' dilutive securities (12,496)
-----------
Net loss, as adjusted - numerator diluted computation $ (351,916)
===========
Loss per share:
Basic $ (.05)
===========
Diluted $ (.06)
===========
Discontinued Operations:
Loss from operations $ (962,814)
Gain from disposal 2,534,656
-----------
Net income discontinued operations $ 1,571,842
===========
Earnings per share:
Basic $ .25
===========
Diluted $ .25
===========
The Company has various stock options outstanding which have not been
included in the earnings per share computation since they were anti-dilutive.
See Note 5.
Cash and Cash Equivalents: The Company considers all highly liquid
investments with a maturity of three months or less when purchased to be cash
equivalents. The carrying amounts, reported in the balance sheet for cash and
cash equivalents approximate their fair values. The credit risk associated with
cash and cash equivalents are considered low due to the high quality of the
financial institutions in which these assets are invested.
Credit Risk: The Company's primary concentration of credit risk is with
accounts receivable which consist primarily of amounts owed by governmental
agencies, insurance companies and private patients to our medical services
division, and amounts owed by commercial customers to our medical products
division. Receivables of our medical services division from Medicare and
Medicaid comprised 59% of that division's receivables at December 31, 2003 and
60% at December 31, 2002.
Customer Payment Terms: The majority of the company's sales are made at
payment terms of net amount due in 30-45 days, depending on the customer.
Estimated Fair Value of Financial Instruments: The carrying value of
cash, accounts receivable and debt in the accompanying financial statements
approximate their fair value because of the short-term maturity of these
instruments, and in the case of debt because such instruments bear variable
interest rates which approximate market.
Business Segments: The Company follows the provisions of Financial
Accounting Standards Board Statement No. 131, "Disclosures About Segments of an
Enterprise and Related Information" (FAS 131) which contains standards for
reporting information about operating segments in annual financial statements
with operating segments representing components of an enterprise evaluated by
the enterprise's chief operating decision maker for purposes of making decisions
regarding resource allocation and performance evaluation. The adoption of FAS
131 has not changed the Company's reported business segments, but has resulted
in changes in the company's segment reporting disclosures.
F-13
MEDICORE, INC. 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) and
foreign currency translation adjustments (related to Techdyne, sold June 2001;
see Consolidation above and Note 12) and is presented in the Consolidated
Statement of Shareholders' Equity.
Revenue Recognition: Net medical service revenues are recognized as
services are rendered at the net realizable amount from Medicare, Medicaid,
commercial insurers and other third-party payors. The medical services division
occasionally provides dialysis treatments on a charity basis to patients who
cannot afford to pay, however, the amount is not significant. Product sales are
recorded pursuant to stated shipping terms.
New accounting pronouncements:
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 have adopted the interim disclosure
provisions 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 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.
F-14
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--CONTINUED
Advertising Costs: The company expenses advertising costs as they are
incurred. Advertising costs amounted to $76,000, $60,000 and $36,000 during the
years ended December 31, 2003, 2002 and 2001, respectively.
Reclassification: The Statement of Operations has been reclassified to
reflect the operations of Techdyne as discontinued operations due to the
company's sale of its interest in Techdyne in June 2001. See Consolidation above
and Note 12.
NOTE 2--TRANSACTIONS WITH VIRAGEN, INC.
The company has a royalty agreement with a former subsidiary, Viragen,
Inc., pursuant to which it is to receive a royalty on Viragen's gross sales of
interferon and related products. The agreement provides for aggregate royalty
payments of $2.4 million to be paid based on the following percentages of
Viragen sales: 5% of the first $7 million, 4% of the next $10 million, and 3% of
the next $55 million. The effective date of the agreement was November 15, 1994,
with royalty payments due quarterly, commencing March 31, 1995. A payment of
approximately $108,000, earned under a previous royalty agreement, is due as the
final payment under the existing royalty agreement. In August 2002, the company
initiated a legal action against Viragen for breach of the royalty agreement and
for an accounting of sales pursuant to the royalty agreement.
In July, 2003, we reached an agreement with Viragen pursuant to
mediation proceedings following our obtaining a partial summary judgment against
Viragen in March, 2003, for amounts owed to us under a royalty agreement with
Viragen. Viragen agreed to remit $30,000 on each of August 1, 2003, August 1,
2004 and August 1, 2005, with annual interest accruing at 5% on the August 2004
and 2005 payments. Viragen remitted the $30,000 payment due August 1, 2003.
Viragen also agreed to commence remitting the quarterly royalty payments due
under the royalty agreement and remitted the first quarterly payments of $2,580
in October 2003 and $2,905 in January 2004..
NOTE 3--LONG-TERM DEBT
The company's medical products division had a $350,000 line of credit
with a local Florida bank, with interest at prime plus 1% payable monthly. This
line of credit matured January 22, 2003 and was secured by the accounts
receivable and inventory of the company's medical products division. The line of
credit had an outstanding balance of approximately $79,000 at December 31, 2002.
The line of credit and accrued interest were paid off in January 2003 prior to
maturity. The company did not renew this line of credit.
Dialysis Corporation of America through its subsidiary, DCA of
Vineland, LLC, pursuant to a December 3, 1999 loan agreement obtained a $700,000
development loan with interest at 8.75% through December 2, 2001, 1 1/2% over
the prime rate thereafter through December 15, 2002 and 1% over prime thereafter
, with an interest rate of 5% at December 31, 2003 and 5.25% at December 31,
2002, which is secured by a mortgage on Dialysis Corporation of America's real
property in Easton, Maryland. Outstanding borrowings were subject to monthly
payments of interest only through December 2, 2001 with monthly payments
thereafter of $2,917 principal plus interest through December 2, 2002 and
monthly payments thereafter of $2,217 plus interest with any remaining balance
due December 2, 2007. This loan had an outstanding principal balance of $636,000
at December 31, 2003 and $662,000 at December 31, 2002.
F-15
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 3--LONG TERM DEBT--CONTINUED
In April 2001, Dialysis Corporation of America obtained a $788,000
five-year mortgage through April 2006 secured by its land and 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, with an interest rate of 6% at December 31, 2003 and December
31, 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 Dialysis Corporation of America equipment financing agreement is
for financing for kidney dialysis machines for Dialysis Corporation of America's
facilities in Pennsylvania and Maryland, New Jersey and Georgia. Financing,
which is secured by the financed equipment, totaled approximately $399,000 in
2002 and $752,000 in 2001 with no additional financing during 2003. Monthly
payments under the agreement, which totaled approximately $59,000 as of December
31, 2003, are pursuant to various schedules extending through August 2007 with
interest at rates ranging from 4.13% to 10.48%. Financing under the equipment
financing agreement is a noncash financing activity which is a supplemental
disclosure required by FAS 95, "Statement of Cash Flows." 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.
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. Payments of principal
and interest as described above 636,182 662,084
Mortgage note secured by land and building with a net book value
of $896,000 at December 31, 2003. Payments of principal and
interest as described above 714,979 752,619
Line of credit maturing January 22, 2003 secured by accounts receivable
and inventory of medical supply division. Monthly payments
of interest as described above. Paid in full January 2003 -- 79,157
Mortgage note secured by land. Monthly principal payments of $1,083 plus
interest at 1.5% over the prime rate. Note paid in full January 2003 -- 3,205
Equipment financing agreement secured by Dialysis Corporation of America
equipment with a net book value of $1,749,000 at December 31,
2003. Payments of principal and interest as described above 1,321,194 1,844,402
---------- ----------
2,672,355 3,341,467
Less current portion 575,000 614,362
---------- ----------
$2,097,355 $2,727,105
========== ==========
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 15.
F-16
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 3--LONG-TERM DEBT--CONTINUED
The company's two mortgage agreements contain certain restrictive
covenants that, among other things, restrict the payment of dividends above 25%
of the net worth of Dialysis Corporation of America, 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
rations. The company was in compliance with the debt covenants at December 31,
2003 and December 31, 2002.
NOTE 4--INCOME TAXES
Deferred income taxes reflect the net tax effect of temporary
differences between the carrying amounts of assets and liabilities for financial
reporting purposes and the amounts used for income tax purposes. Significant
components of the company's deferred tax liabilities and assets are as follows:
DECEMBER 31,
----------------------
2003 2002
--------- ---------
Deferred tax liabilities:
Tax over book depreciation $ 285,000 $ 256,000
Gain on sale of DCA stock 691,000 685,000
--------- ---------
Total deferred tax liability 976,000 941,000
Deferred tax assets:
Obsolescence and other reserves 345,000 354,000
Inventory capitalization 28,000 28,000
Book over tax depreciation 8,000 --
Startup costs 47,000 --
Net operating loss carryforwards 286,000 275,000
Accrued expenses and other 123,000 122,000
--------- ---------
Sub-total 837,000 779,000
Valuation allowance (126,000) (115,000)
--------- ---------
Net deferred tax asset 711,000 664,000
--------- ---------
Net deferred tax liability $ 265,000 $ 277,000
========= =========
Due to the uncertainty as to the realizability of deferred tax assets,
a valuation allowance of $126,000 and $115,000, which relates to state income
tax net operating loss carryforwards, was recorded as of December 31, 2003 and
2002, respectively, reflecting an increase of $11,000 for 2003.
Deferred taxes in the accompanying balance sheets consist of the
following components:
DECEMBER 31,
----------------------
2003 2002
--------- ---------
Current deferred tax asset $ 477,000 $ 467,000
Long-term deferred tax asset 234,000 --
Long-term deferred tax liability (976,000) (744,000)
--------- ---------
Net long-term deferred tax liability (742,000) (744,000)
--------- ---------
Net deferred tax liability $(265,000) $(277,000)
========= =========
F-17
NOTE 4--INCOME TAXES--CONTINUED
The deferred tax liability includes $691,000 at December 31, 2003 and
$685,000 at 2002, resulting from income tax expense recorded on gains recognized
for financial reporting purposes, but not for income tax purposes. The result is
a difference between book and tax basis of the company's investment in Dialysis
Corporation of America. This temporary difference would reverse upon the
occurrence of certain events relating to the divestiture of Dialysis Corporation
of America. This deferred tax liability has been classified as non-current. See
Note 1.
Significant components of the provision (benefit) for income taxes are
as follows:
YEAR ENDED DECEMBER 31,
-----------------------------------
2003 2002 2001
--------- --------- ---------
Current:
Federal $ 383,984 $ 395,667 $(472,239)
State 264,305 124,213 (151,286)
--------- --------- ---------
648,289 519,880 (623,525)
--------- --------- ---------
Deferred:
Federal 3,000 328,000 (291,721)
State (15,000) (201,000) (12,879)
--------- --------- ---------
(12,000) 127,000 (304,600)
--------- --------- ---------
$ 636,289 $ 646,880 $(928,125)
========= ========= =========
The reconciliation of income tax attributable to income (loss) before
income taxes, minority interests and equity in affiliate earnings (loss)
computed at the U.S. federal statutory rate (34%) to income tax expense is as
follows:
YEAR ENDED DECEMBER 31,
-----------------------------------
2003 2002 2001
--------- --------- ---------
Tax at statutory rate $ 523,069 $ 573,537 $(300,002)
Adjustments resulting from:
State income taxes-net of federal income tax effect 189,116 110,691 (34,617)
Non deductible items 25,154 14,287 203,876
Prior year tax return to provision adjustment -- (5,456) --
Change in valuation allowance -- (102,000) (603,000)
Other (101,050) 55,821 (194,382)
--------- --------- ---------
$ 636,289 $ 646,880 $(928,125)
========= ========= =========
For income tax payments, see Note 14.
F-18
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 5--STOCK OPTIONS AND STOCK COMPENSATION
On May 6, 1996, we adopted a Key Employee Stock Plan reserving 100,000
shares of our common stock for issuance from time to time to officers,
directors, key employees, advisors and consultants as bonus or compensation for
performances and or services rendered to the company or otherwise providing
substantial benefit for the company. As of December 31, 2003, 2,000 shares have
been issued under this Plan.
Options to purchase 25,000 of the company's common shares issued as a
finder's fee in January, 2000, were exercisable at $3.00 per share through
January 31, 2002, and were extended through January 31, 2003, in connection with
which we recognized an expense of approximately $4,000 in fiscal 2002. These
options expired unexercised in January, 2003.
In July, 2000, we granted, under our 1989 Stock Option Plan, five-year
non-qualified stock options for 820,000 shares to officers, directors and
employees of Medicore and our subsidiaries. The options have an exercise price
of $1.38, the market price on the date of grant. Options for 16,000 shares were
cancelled during 2003 due to employee terminations and resignations.I In June,
2001, 115,000 options were exercised. In September, 2003, our board of directors
authorized the granting of bonuses to our officers, directors and employees,
which bonuses were partially comprised of the exercise of one-third of the
options then held by each such officer, director and employee as of September
11, 2003 resulting in the exercise of 229,668 options outstanding at December
31, 2003. At December 31, 2003, a total of 459,333 options were outstanding
under the 1989 Stock Option Plan.
As part consideration for a May, 2003, consulting agreement, we granted
options to purchase 200,000 shares of common stock exercisable for two years at
$2.50 per share. The fair value of these options was $56,000 pursuant to a
Black-Scholes computation. The $56,000 expense is being deferred and amortized
over the one year life of the consulting agreement commencing June, 2003.
Approximately $33,000 was recorded during fiscal 2003. If we terminate the
agreement, which we may do at our discretion, the option must be exercised
within six months of such termination date. See Note 7.
On September 25, 2003, we granted options for 21,000 common shares to
each of two directors for their service on several of our board committees,
including our audit committee. The options were granted under our 1989 Stock
Option Plan and are exercisable at $2.25 per share through September 24, 2006.
The options vest in equal annual increments of 7,000 shares each September 25,
2003, 2004 and 2005.
On January 28, 2004, Dialysis Corporation of America effected a
two-for-one stock split of its outstanding common stock. All option amounts and
exercise prices with respect to Dialysis Corporation of America have been
adjusted to reflect the stock split. Split-adjusted option exercise prices
resulting in a fraction of a cent have been rounded up to the nearest cent for
purposes of these notes to the financial statements of the Company.
In June, 1998, Dialysis Corporation of America's board of directors
granted an option under its 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.
F-19
NOTE 5--STOCK OPTIONS AND STOCK COMPENSATION--CONTINUED
In April, 1999, Dialysis Corporation of America adopted a stock option
plan pursuant to which its board of directors granted 1,600,000 options
exercisable at $.63 per share to certain of its 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
have been cancelled to date as a result of terminations. In April, 2000, the
680,000 one-year options were exercised for which Dialysis Corporation of
America received cash payment of the par value amount of $3,400 and the balance
in three-year promissory notes with interest at 6.2%. All the notes were repaid
with Dialysis Corporation of America stock at fair market value on February 9,
2004. The board of Dialysis Corporation of America extended the maturity date of
the notes to April 20, 2004. Interest income on the notes amounted to
approximately $26,000 each year for 2003, 2002 and 2001. 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, "Statements of Cash
Flows." See Note 14.
In January, 2001, Dialysis Corporation of America's board of directors
granted to its Chief Executive Officer and President a five-year option for
330,000 shares exercisable at $.63 per share with 66,000 options vesting
January, 2001, and 66,000 options vesting in equal annual increments on January
1 for each of the next four years.
In September, 2001, Dialysis Corporation of America's 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 and the
remaining 120,000 options 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, Dialysis Corporation of America's board of director's
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 each February 28 from 2003 through 2006. 15,000
options that vested in February 2003 were exercised in October 2003 and the
remaining 45,000 options expired unvested due to the July 31, 2003 resignation
of the officer.
In May, 2002, Dialysis Corporation of America's board of directors
granted five-year options for an aggregate of 21,000 shares to its employees of
which 11,000 remain 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 of common stock. All 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
those optionees from their employment with Dialysis Corporation of America, with
6,000 options having been cancelled during 2003.
In June, 2003, Dialysis Corporation of America's board of directors
granted to an officer a five-year stock 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 each June 4 from 2004 through 2007.
F-20
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 5--STOCK OPTIONS AND STOCK COMPENSATION--CONTINUED
In August, 2003, Dialysis Corporation of America's board of directors
granted a three-year option to a director who is also a member of its 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 on August 19,
2004 and 2005.
In June, 2001, Techdyne (which subsidiary we sold in June 2001) forgave
approximately $234,000 related to promissory notes from stock option exercises
with that amount reflected in discontinued operations. See Notes 1 and 12.
A summary of the company's stock option activity, and related
information for the years ended December 31, follows, with modified options
being reflected as grants and the original grants being modified reflected as
cancellations:
2003 2002 2001
---- ---- ----
WEIGHTED- WEIGHTED- WEIGHTED-
AVERAGE AVERAGE AVERAGE
OPTIONS EXERCISE PRICE OPTIONS EXERCISE PRICE OPTIONS EXERCISE PRICE
------- -------------- ------- -------------- ------- --------------
Outstanding-beginning of year 1,205,000 1,365,000 1,485,000
Granted 242,000 $ 2.46 25,000 $ 3.00 -- --
Exercised (229,668) $ 1.38 -- -- (115,000)$ 1.38
Expired (516,000) $ 3.18 (185,000) 2.88 (5,000)$ 4.25
---------- --------- ---------
Outstanding-end of year 701,332 1,205,000 1,365,000
========== ========= =========
Outstanding - end of year:
1995 and 1997 options -- -- -- -- 35,000 2.38
January 2000 and February 2000 options -- -- 500,000 $ 3.24 625,000 3.19
July 2000 options 459,332 $ 1.38 705,000 $ 1.38 705,000 1.38
May 2003 options 200,000 $ 2.50 -- -- --
September 2003 options 42,000 $ 2.25 -- -- --
---------- --------- ---------
701,332 1,205,000 1,365,000
========== ========= =========
Outstanding and exercisable at end of
year:
1995 and 1997 options -- -- -- -- 35,000 2.38
January 2000 and February 2000 options -- -- 500,000 $ 3.24 625,000 3.19
July 2000 options 459,332 $ 1.38 705,000 $ 1.38 705,000 1.38
May 2003 options 200,000 $ 2.50 -- -- -- --
September 2003 options 14,000 $ 2.25 -- -- -- --
---------- --------- ---------
673,332 1,205,000 1,365,000
========== ========= =========
Weighted-average fair value of
options granted, including
modified options, during the year $ .46 $ .15 $ .--
========== ========== ==========
The remaining contractual life at December 31, 2003 is 1.6 years for
the July 2000 options, 1.4 years for the May 2003 options and 2.7 years for the
September 2003 options.
F-21
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 5--STOCK OPTIONS AND STOCK COMPENSATION--CONTINUED
The company has 1,199,332 shares reserved for future issuance at
December 31, 2003, including: 459,332 shares for the 1989 plan; 200,000 shares
for the May 2003 options; 42,000 shares for the September 2003 options; 98,000
shares for key employee stock plan; and 400,000 shares for an employment
agreement.
A summary of Dialysis Corporation of America's stock option activity,
and related information for the years ended December 31, follows:
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-22
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 5--STOCK OPTIONS AND STOCK COMPENSATION--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.
All options of the company and Dialysis Corporation of America were
issued at fair market value on the date of grant.
NOTE 6--BUSINESS SEGMENT AND GEOGRAPHIC AREA DATA
The following summarizes information about the company's three reported
business segments, which are managed separately. The medical products division
has been shown separately even though not required by FAS 131. Corporate
activities include general corporate revenues and expenses. Corporate assets
include unallocated cash, deferred income taxes, corporate fixed assets and
goodwill not allocated to any of the segments. Intersegment sales, of which
there were none for the periods presented, are generally intended to approximate
market price. The company sold its interest in Techdyne in June 2001 for which
the operating results have been reclassified as discontinued operations and
accordingly are not included in the business segment data below. Subsequent to
the sale of Techdyne, the company's operations are primarily domestic, with all
property, plant and equipment located in the United States and minimal sales
outside the Untied States. See Notes 1 and 12.
BUSINESS SEGMENT REVENUES
2003 2002 2001
------------ ------------ ------------
Medical Products $ 814,087 $ 895,930 $ 864,035
Medical Services 30,278,106 25,606,677 19,441,170
New Technology 799,005 210,411 211,330
Corporate 220,341 221,534 299,255
Elimination of corporate rental charges
to medical products -- -- (1,830)
Elimination of medical services interest
charge to new technology -- -- (109,108)
Elimination of medical services
interest charge to corporate -- (2,957) (13,759)
Elimination of corporate interest
charge to medical services (1,633)
------------ ------------ ------------
$ 32,109,906 $ 26,931,595 $ 20,691,093
============ ============ ============
BUSINESS SEGMENT PROFIT (LOSS)
Medical Products $ (130,090) $ (728) $ (401,178)
Medical Services 2,207,132 2,099,156 966,388
New Technology 799,005 210,412 102,222
Corporate (1,337,613) (621,967) (1,533,399)
------------ ------------ ------------
$ 1,538,434 $ 1,686,873 $ (865,967)
============ ============ ============
F-23
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 6--BUSINESS SEGMENT AND GEOGRAPHIC AREA DATA--CONTINUED
2003 2002 2001
------------ ------------ ------------
BUSINESS SEGMENT ASSETS
Medical Products $ 384,816 $ 392,992 $ 335,588
Medical Services 19,604,374 17,153,984 15,683,433
New Technology -- 2,742,076 2,281,666
Corporate 11,060,251 8,386,678 11,733,433
Elimination of corporate advance receivable
from medical services (234,095) -- --
Elimination of medical services advance receivable
from corporate -- -- (200,728)
Elimination of medical services notes receivable
from new technology
------------ ------------ ------------
$ 30,815,346 $ 28,675,730 $ 29,833,392
============ ============ ============
OTHER BUSINESS SEGMENT INFORMATION
INTEREST INCOME:
Medical Services $ 53,886 $ 47,846 $ 180,368
New Technology 15,000 210,411 211,330
Corporate 57,596 98,404 130,999
Elimination of medical services intercompany
interest charge to corporate -- (2,957) (13,759)
Elimination of medical services intercompany
interest charge to new technology -- -- (109,108)
Elimination of corporate intercompany
interest charge to medical services (1,633) -- --
------------ ------------ ------------
$ 124,849 $ 353,704 $ 399,830
============ ============ ============
INTEREST EXPENSE:
Medical Products $ 334 $ 10,904 $ 15,933
Medical Services 202,949 220,441 210,805
New Technology -- -- 109,108
Corporate -- 14,053 15,333
Elimination of medical services
interest charge to new technology -- -- (109,108)
Elimination of medical services intercompany
interest charge to corporate -- (2,957) (13,759)
Elimination of corporate intercompany
interest charge to medical services (1,633) -- --
------------ ------------ ------------
$ 201,650 $ 242,441 $ 228,312
============ ============ ============
DEPRECIATION AND AMORTIZATION:
Medical Products $ -- $ 563 $ 22,068
Medical Services 1,186,234 1,065,887 808,659
Corporate 43,443 57,202 54,973
------------ ------------ ------------
1,229,677 1,123,652 $ 885,700
DISCONTINUED OPERATIONS:
Electro-mechanical -- -- 749,481
------------ ------------ ------------
$ 1,229,667 $ 1,123,652 $ 1,635,181
============ ============ ============
F-24
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 6--BUSINESS SEGMENT AND GEOGRAPHIC AREA DATA--CONTINUED
2003 2002 2001
---- ---- ----
OTHER SIGNIFICANT NON-CASH ITEMS:
NEW TECHNOLOGY:
Gain on sale of securities $ 784,005 -- --
MEDICAL SERVICES:
Stock option related compensation expense 120,000 100,000 --
CORPORATE:
Stock option related compensation expense 349,612 -- $ 1,032,550
DISCONTINUED OPERATIONS:
Gain on disposal of electro-mechanical
manufacturing operations, net of tax -- -- $ 2,534,656
CAPITAL EXPENDITURES:
Medical Products $ -- $ (1,121) $ --
Medical Services 1,656,000 1,325,882 1,984,980
Corporate 4,000 17,413 --
----------- ----------- -----------
$ 1,660,000 $ 1,342,174 $ 1,984,980
=========== =========== ===========
MAJOR CUSTOMERS
Medical services revenues represent revenues of the company's dialysis
division. A significant portion of medical service revenue pertains to services
provided to individuals receiving Medicare and Medicaid benefits or comparable
benefits in the states in which the company operates. Reimbursement rates under
these programs are subject to regulatory changes and governmental funding
restrictions. Although the company is not aware of any future rate changes,
significant changes in reimbursement rates could have a material effect on the
company's operations. Approximately 62%, 58% and 59% of medical service revenues
for the years ended December 31, 2003, 2002 and 2001, respectively, were derived
from Medicare and Medicaid reimbursement.
NOTE 7--COMMITMENTS
Commitments
The company and its subsidiaries have leases on severalfacilities,
which expire at various dates. The aggregate lease commitments at December 31,
2003 are approximately: 2004 - $1,145,000; 2005 - $1,075,000, 2006 - $989,000;
2007 - $839,000; 2008 - $767,000;thereafter - $1,969,000. Total rent expense for
continuing operations was approximately $953,000, $688,000 and $464,000 in
fiscal 2003, 2002 and 2001, respectively.
Effective January 1, 1997, Dialysis Corporation of America established
a 401(k) savings plan (salary deferral plan) with an eligibility requirement of
one year of service and 21 year old age requirement. The company and Techdyne
adopted the 401(k) profit sharing plan of Lytton, a Techdyne subsidiary, as
participating employers effective July 1, 1998. Subsequent to the sale of its
interest in Techdyne in June 2001, the company remained as a participating
employer in this multi-employer plan until January 2003 when the company and
Dialysis Corporation of America established a new 401(k) plan containing
employer match provisions on a portion of employee contributions. The expense
for employer
F-25
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 7--COMMITMENTS--CONTINUED
match amounted to $17,000 for fiscal 2003 and $10,000 for both fiscal 2002 and
fiscal 2001 the matching expense of Techdyne and Lytton are included in
discontinued operations for fiscal 2001. See Notes 1 and 12.
The company had a five-year employment agreement with Thomas K.
Langbein, its CEO, President and Chairman of the Board, through August 31, 2003,
which provided for annual increases in base salary in $10,000 increments and
which was $331,500 at August, 2003. The employment agreement also provided for a
monthly automobile allowance, participation in benefit plans and fringe benefits
available to the company's employees and executives, reimbursement for business
expenses and the payment of life insurance policies owned by Mr. Langbein. The
agreement also provided for the non-competition by Mr. Langbein for a period of
two years from termination of the relationship within a geographic area of the
company's primary operations. Under the agreement, Mr. Langbein was entitled to
certain severance payments in the event of termination as a result of death,
extended disability, wrongful termination or change of control or for good
reason by Mr. Langbein. The company and Mr. Langbein anticipate entering into a
new five-year employment agreement shortly.
Dialysis Corporation of America has a five-year employment contract
with Stephen W. Everett, its CEO, President and director, 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.
We entered into a one-year consulting agreement with an investment
relations firm in May, 2003, with a monthly fee of $4,000. The agreement also
provided for the issuance of an option to purchase 200,000 shares of our common
stock. At management's discretion, we may cancel the agreement at any time. In
June, 2003, two of the partners of the investment relations firm together with
Thomas K. Langbein, our Chief Executive Officer and President, became three of
the five directors of Xandros, Inc., a majority owned subsidiary of Linux Global
Partners, Inc., which is a privately held Linux software company to which we
made loans and in which we hold an approximate 14% interest. Mr. Langbein
resigned his positions with Xandros on August 12, 2003. See Notes 5 and 12.
NOTE 8--RELATED PARTY TRANSACTIONS
During 2003, 2002 and 2001, the company and Dialysis Corporation of
America paid premiums of approximately $612,000, $448,000 and $283,000,
respectively, for insurance through a director and stockholder, and the relative
of a director and stockholder.
During 2003, 2002 and 2001, legal fees of approximately $342,000,
$310,000 and $311,000, respectively, were incurred by the company and Dialysis
Corporation of America for an attorney who is general counsel and secretary of
the company (of which he is also a director), and serves as general counsel and
secretary to Dialysis Corporation of America. In addition, the attorney was
granted $60,000 in bonuses during fiscal 2003.
In May 2001, Dialysis Corporation of America loaned its president
$95,000 to be repaid with accrued interest at prime minus 1% (floating prime) on
or before maturity on May 11, 2006. This demand loan is collateralized by all
Dialysis Corporation of America's President's stock options in Dialysis
Corporation of America, as well as common stock from exercise of the options and
proceeds from sale of such stock. Interest income on the loan amounted to
approximately $4,000, $5,000 and $4,000 during the years ended December 31,
2003, 2002 and 2001, respectively.
The 20% minority interest in DCA of Vineland, LLC, a subsidiary of
Dialysis Corporation of America, 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 in DCA of
Vineland. See Note 10.
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.
F-26
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 8--RELATED PARTY TRANSACTIONS--CONTINUED
Minority members in subsidiaries in certain situations may fund their
portion of required capital contributions by issuance of an interest bearing
note payable to Dialysis Corporation of America which the minority member may
repay through its portion of capital distributions of the subsidiary. The 20%
member in DCA of Chevy Chase, LLC funded approximately $233,000 in capital
contributions during 2003 under a note with Dialysis Corporation of America
accruing interest at prime plus 2%, with interest totaling approximately $9,000
during 2003, with 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 Accounting
Standards Board Statement No. 95, "Statement of Cash Flows." See Note 14.
NOTE 9--ACQUISITIONS
In August, 2001, Dialysis Corporation of America acquired the 30%
minority interest in one of its Georgia dialysis centers for $600,000. Half of
the purchase price was paid in August, 2001, with the remaining 50% paid in
August, 2002. This transaction resulted in $523,000 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. Dialysis
Corporation of America's decision to make this investment was based largely on
its expectation of continued profitability of this center. The party from whom
Dialysis Corporation of America acquired the minority interest is the medical
director of another of Dialysis Corporation of America's subsidiaries. See Note
1.
In April, 2002, Dialysis Corporation of America acquired a Georgia
dialysis center. This transaction resulted in $400,000 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. Dialysis
Corporation of America's decision to make this investment was based on its
expectation of future profitability resulting from its review of this dialysis
center's operations prior to making the acquisition. See Note 1.
Effective April 8, 2003, Dialysis Corporation of America acquired the
assets of a Georgia dialysis center, and effective June 1, 2003, acquired the
30% minority interests in each of two of its 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 is included in accrued expenses and other
current liabilities at December 31, 2003. The results of operations of the
acquired center have been included in the consolidated financial statements
since its acquisition. Minority interest in the results of operations of the
centers for which we acquired the outstanding minority interest was included in
the consolidated financial statements until we acquired the minority interests.
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. Dialysis
Corporation of America's decision to make these acquisitions was based on its
expectation of profitability resulting from its 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 Dialysis Corporation of America's Georgia dialysis facilities. See Note 1.
NOTE 10--LOAN TRANSACTIONS
Dialysis Corporation of America customarily funds the establishment and
operations of its dialysis facility subsidiaries, usually until they become
self-sufficient, including those 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 Dialysis
F-27
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 10--LOAN TRANSACTIONS--CONTINUED
Corporation of America's subsidiaries provide for cash flow and other proceeds
to first pay any such financing provided by Dialysis Corporation of America,
exclusive of any tax payment distributions. One such loan exists with DCA of
Vineland, LLC. In April, 2000, a company owned by the Vineland medical director,
acquired an interest in DCA of Vineland for $203,000, which was applied to
reduce Dialysis Corporation of America's loan. The principal outstanding
indebtedness of this loan was approximately $425,000 and $347,000 at December
31, 2003 and 2002, respectively.
NOTE 11--INVESTMENT
During the period January 2000 through December, 2002, we made various
loans aggregating approximately $2,450,000 with a 10% annual interest rate, to
Linux Global Partners, a company investing in Linux software companies, one of
which recently initiated the marketing of a Linux desktop operating system. In
conjunction with the original loan we acquired an ownership interest in Linux
Global Partners. In consideration for our extending the due date on the loans on
several occasions we received additional shares of Linux Global Partners' common
stock and presently own approximately 14% of Linux Global Partners. Dialysis
Corporation of America also has an ownership interest in Linux Global Partners
of approximately 2%.
Interest on the notes evidencing our loans to Linux Global Partners
amounted to approximately $15,000 during 2003 (through January 24, 2003),
$210,000 for the year ended December 31, 2002 and $211,000 for the year ended
December 31, 2001. Interest receivable on these notes amounted to approximately
$492,000 at December 31, 2002, and was included in prepaid expenses and other
current assets.
The unpaid loans and accrued interest were satisfied through our
foreclosure in January 2003 of 4,115,815 shares of Ximian, Inc.'s series A
convertible preferred stock which were part of the collateral securing Linux
Global Partners' indebtedness to us. On January 24, 2003 Xandros, Inc., a 95%
owned subsidiary of Linux Global Partners, purchased the Ximian preferred shares
at the public foreclosure sale and deposited 775,000 shares of its common stock
(approximately 1.5% of Xandros) as a good faith deposit with the full amount due
in cash. Upon Xandros' failure to make the payment, we, as the next highest
bidder, obtained the Ximian preferred stock and, in accordance with the terms of
the public auction retained the Xandros shares in satisfaction of the
indebtedness due from Linux Global Partners. Thereafter, in connection with a
third-party's acquisition of Ximian in August, 2003, we sold the Ximian
preferred stock for approximately $3,541,000 in cash proceeds resulting in a
gain of approximately $784,000. An additional approximately $805,000 was placed
in escrow, with one-half of the escrowed funds to be released to us in one year
and the other half in two years, pending fulfillment by the parties to the
Ximian acquisition of certain conditions, at which time we would record an
additional gain based on net proceeds received.
NOTE 12--SALE OF TECHDYNE INTEREST
On April 6, 2001, the company entered into an agreement with Simclar to
sell its 71.3% ownership interest in Techdyne to Simclar for $10,000,000. The
agreement also provides for an earn-out consisting of 3% of consolidated
Techdyne sales (net of returns, allowances and bad debts) for the three fiscal
years commencing January 1, 2001. Limitations on the earn-out range from a
$5,000,000 maximum to a $2,500,000 minimum earn-out. The earn-out is payable in
cash each year for the earn-out
F-28
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 12--SALE OF TECHDYNE INTEREST--CONTINUED
period just ended. In April 2002, the company received the first earn-out
payment of $1,105,000 and in April 2003 we received the second earn-out payment
of approximately $1,011,000. At December 31, 2003, a receivable in the amount of
$384,000, represents the unpaid balance on the minimum $2,500,000 earn-out and
is reflected as a current receivable. See Note 1.
The pro forma consolidated condensed financial information presented
below reflects the sale of the company's interest in Techdyne as if it had
occurred as of January 1, 2001. For purposes of pro forma statement of
operations information, no assumption has been made that expenses have been
eliminated which were included in corporate expense allocations by the company
to Techdyne and which were included in the actual results of operations of
Techdyne. No assumption has been included in the pro forma information as to
investment income to be realized from investment of the proceeds of the sale.
The summary pro forma information, which excludes the gain on the sale, is not
necessarily representative of what the company's results of operations would
have been if the sale had actually occurred as of January 1, 2000 and may not be
indicative of the company's operating results for any future periods.
SUMMARY PRO FORMA INFORMATION
(Unaudited)
YEAR ENDED DECEMBER 31,
-----------------------
2001
----
Total revenues $ 20,683,000
==============
Net loss $ (1,522,000)
==============
Loss per share
Basic $ (.24)
==============
Diluted $ (.25)
==============
The company recorded a pre-tax gain on the sale of its interest in
Techdyne of approximately $4,200,000, including the $2,500,000 minimum earn-out,
after estimated costs of $200,000, with estimated income taxes of approximately
$1,600,000.
The Consolidated Statement of Operations reflects as discontinued
operations the results of operations of Techdyne, net of applicable taxes, and
the gain on disposal of Techdyne, net of applicable taxes. Certain
reclassifications have been made to prior period amounts in accordance with this
presentation.
The company provided certain financial and administrative services to
Techdyne under a service agreement. Subsequent to the company's sale of its
71.3% ownership interest in Techdyne to Simclar on June 27, 2001, the company
continued to provide services under the agreement through July 15, 2001, the
effective date of cancellation of the agreement, for additional consideration of
$15,000.
Simclar refinanced Techdyne's long-term debt and Techdyne repaid its
remaining loan payable to the company including accrued interest in October
2001. See Note 1.
F-29
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
NOTE 13--STOCK REPURCHASES
In December 2002, the company's board of directors authorized the
purchase of up to approximately 1,000,000 shares of the company's outstanding
common stock based on current market prices. As of December 31, 2002 no
repurchases were made subsequent to the company's announcement of the board's
intent. The company repurchased and cancelled 48,500 shares for approximately
$70,000 in fiscal 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 3) $190,000 $ 246,000 $535,000
- --------------------------------------------------------------------------------------------------------------------
Income taxes paid (see Note 4) 777,000 3,120,000 253,000
- --------------------------------------------------------------------------------------------------------------------
Equipment financing (see Note 3) -- 399,000 752,000
- --------------------------------------------------------------------------------------------------------------------
Option exercise bonus (see Note 5) 100,000 -- --
- --------------------------------------------------------------------------------------------------------------------
Subsidiary minority member capital
contributions funded by notes (see Note 8) 223,000 -- --
- --------------------------------------------------------------------------------------------------------------------
Subsidiary minority member distributions
applied against notes and accrued interest
(see Note 8) 54,000 -- --
- --------------------------------------------------------------------------------------------------------------------
NOTE 15--SUBSEQUENT EVENTS
The board of directors of Dialysis Corporation of America declared a
two-for-one stock split with respect to Dialysis Corporation of America'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 Dialysis
Corporation of America's common stock at that time to 7,937,344 shares. The
split also required adjustment in the outstanding stock options of Dialysis
Corporation of America by doubling the number of shares obtainable upon
exercise, and halving the exercise price of the options. See Note 5.
On March 17, 2004, the company agreed to a loan arrangement to provide
Dialysis Corporation of America with up to $1,500,000 of financing for equipment
purchases, evidenced by a demand promissory note from Dialysis Corporation of
America, with annual interest of 1.25% over the prime rate.
NOTE 16--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 $ 6,948 $ 7,649 $ 7,725 $ 8,165 $ 5,729 $ 6,536 $ 6,914 $ 6,873
Gross profit 2,614 2,989 2,903 3,245 2,188 2,679 2,819 2,803
Net income (loss) (44) (64) 230 151 18 133 177 154
Earnings (loss) per shares:
Basic $ .(01) $ .(01) $ .04 $ .02 $ .-- $ .02 $ .03 $ .02
Diluted $ .(01) $ .(01) $ .03 $ .02 $ .-- $ .02 $ .02 $ .02
Since the computation of earnings per share is made independently for
each quarter using the treasury stock method, the total of four quarters'
earnings per share do not necessarily equal earnings per share for the year.
NOTE 17--FOURTH QUARTER DATA (Unaudited)
The company recorded an income tax benefit adjustment to the valuation
allowance relating to its deferred tax asset of approximately $102,000 and
$603,000 during the fourth quarter of 2002 and 2001, respectively.
F-30
MEDICORE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2003
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
MEDICORE, INC. AND SUBSIDIARIES
DECEMBER 31, 2003
- --------------------------------------------------------------------------------------------------------------------------
COL. A COL. B COL. C
- --------------------------------------------------------------------------------------------------------------------------
Additions
Balance at Additions (Deductions) Charged to
Beginning Charged (Credited) to Other Accounts
Classification of Period Cost and Expenses Describe
- --------------------------------------------------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31, 2003:
Reserves and allowances deducted
from asset accounts:
Allowance for uncollectible accounts $ 842,000 $ 290,000
Reserve for inventory obsolescence 122,000 (15,000)
Valuation allowance for deferred tax asset 115,000 11,000
----------- ---------
$ 1,079,000 $ 286,000
=========== =========
YEAR ENDED DECEMBER 31, 2002:
Reserves and allowances deducted
from asset accounts:
Allowance for uncollectable accounts $ 753,000 $ 705,000
Reserve for inventory obsolescence 175,000 (53,000)
Valuation allowance for deferred tax asset 217,000 (102,000)
----------- ----------
$ 1,145,000 $ 550,000
=========== =========
YEAR ENDED DECEMBER 31, 2001:
Reserves and allowances deducted
from asset accounts:
Allowance for uncollectable accounts $ 452,000 $ 765,000
Reserve for inventory obsolescence 798,000 350,000
Valuation allowance for deferred tax asset 820,000 (603,000)
----------- ---------
$ 2,070,000 $ 512,000
=========== =========
- -----------------------------------------------------------------------------------------------------
COL. A COL. D COL. E
- -----------------------------------------------------------------------------------------------------
Other Changes Balance
Add (Deduct) at End of
Classification Describe Period
- -----------------------------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31, 2003:
Reserves and allowances deducted
from asset accounts:
Allowance for uncollectible accounts $ (336,000)(1) $ 796,000
Reserve for inventory obsolescence (17,000)(2) 90,000
Valuation allowance for deferred tax asset --- 126,000
----------- ----------
$ (353,000) $1,012,000
============ ==========
YEAR ENDED DECEMBER 31, 2002:
Reserves and allowances deducted
from asset accounts:
Allowance for uncollectable accounts $ (616,000)(1) $ 842,000
Reserve for inventory obsolescence --- 122,000
Valuation allowance for deferred tax asset --- 115,000
------------ ----------
$ (616,000) $1,079,000
============ ==========
YEAR ENDED DECEMBER 31, 2001:
Reserves and allowances deducted
from asset accounts:
Allowance for uncollectable accounts $ (223,000)(1) $ 753,000
(241,000)(3)
Reserve for inventory obsolescence (511,000)(2) 175,000
(462,000)(3)
Valuation allowance for deferred tax asset --- 217,000
------------ ----------
$(1,437,000) $1,145,000
============ ==========
(1) Net (write-offs) recoveries against receivables allowance.
(2) Net write-offs against inventory reserves.
(3) Sale of Techdyne
F-31
EXHIBITS
TO
MEDICORE, INC
ANNUAL REPORT ON FORM 10-K FOR THE FISCAL YEAR ENDED DECEMBER 31, 2003
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.