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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 


 

FORM 10-Q

 

(Mark One)

 

x Quarterly Report Pursuant to Section 13 or 15(d) of the

Securities Exchange Act of 1934

 

For the quarterly period ended March 31, 2004

 

¨ Transition Report Pursuant to Section 13 or 15(d) of the

Securities Exchange Act of 1934

 

For the transition period from                            

 

Commission File No. 0-23311

 


 

RADIOLOGIX, INC.

(Exact name of registrant as specified in its charter)

 

Delaware   75-2648089
(State or other jurisdiction of incorporation or organization)   (I.R.S. Employer Identification No.)

 

2200 Ross Avenue

3600 JP Morgan Chase Tower

Dallas, Texas 75201-2776

(Address of principal executive offices, including zip code)

 

(214) 303-2776

(Registrant’s telephone number, including area code)

 

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 whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

 

Yes  x    No  ¨

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

                                                 Class                                                 


 

                    Outstanding at May 7, 2004                    


Common Stock, $0.0001 par value   21,765,985 shares

 



Table of Contents

RADIOLOGIX, INC.

 

FORM 10-Q

 

INDEX

 

     Page

Part I.  FINANCIAL INFORMATION

    

Item 1.  Financial Statements

    

     Consolidated Balance Sheets as of March 31, 2004 (Unaudited) and December 31, 2003 (Audited)

   1

     Consolidated Statements of Operations (Unaudited) for the three months ended March 31, 2004 and 2003

   2

     Consolidated Statements of Cash Flows (Unaudited) for the three months ended March 31, 2004 and 2003

   3

     Notes to Consolidated Financial Statements (Unaudited)

   4

Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations

   19

Item 3.  Quantitative and Qualitative Disclosures About Market Risk

   27

Item 4.  Controls and Procedures

   27

Part II.  OTHER INFORMATION

    

Item 6.  Exhibits and Reports on Form 8-K

   28

SIGNATURES

   29

INDEX TO EXHIBITS

   30


Table of Contents

PART I: FINANCIAL INFORMATION

 

Item 1. Financial Statements

 

RADIOLOGIX, INC. AND SUBSIDIARIES

 

CONSOLIDATED BALANCE SHEETS

(In thousands)

 

    

March 31,

2004


    December 31,
2003


 
     (Unaudited)        

ASSETS

                

CURRENT ASSETS:

                

Cash and cash equivalents

   $ 41,856     $ 36,766  

Accounts receivable, net of allowances

     60,085       58,746  

Due from affiliates

     2,642       4,104  

Assets held for sale

     251       251  

Other current assets

     7,818       7,571  
    


 


Total current assets

     112,652       107,438  

PROPERTY AND EQUIPMENT, net

     59,397       60,233  

INVESTMENTS IN JOINT VENTURES

     11,061       10,665  

GOODWILL

     14,571       20,110  

INTANGIBLE ASSETS, net

     66,925       67,917  

DEFERRED FINANCING COSTS, net

     7,746       8,151  

OTHER ASSETS

     6,403       4,622  
    


 


Total assets

   $ 278,755     $ 279,136  
    


 


LIABILITIES AND STOCKHOLDERS’ EQUITY                 

CURRENT LIABILITIES:

                

Accounts payable and accrued expenses

   $ 18,120     $ 14,598  

Accrued physician retention

     10,236       8,821  

Accrued salaries and benefits

     7,828       7,788  

Current portion of long-term debt

     254       261  

Current portion of capital lease obligations

     869       1,438  

Other current liabilities

     419       482  
    


 


Total current liabilities

     37,726       33,388  

DEFERRED INCOME TAXES

     2,355       4,260  

LONG-TERM DEBT, net of current portion

     160,067       160,081  

CONVERTIBLE DEBT

     11,980       11,980  

CAPITAL LEASE OBLIGATIONS, net of current portion

     104       295  

DEFERRED REVENUE

     7,210       7,312  

OTHER LIABILITIES

     244       319  
    


 


Total liabilities

     219,686       217,635  

COMMITMENTS AND CONTINGENCIES

                

MINORITY INTERESTS IN CONSOLIDATED SUBSIDIARIES

     1,072       817  

STOCKHOLDERS’ EQUITY:

                

Preferred stock, $.0001 par value; 10,000,000 shares authorized; no shares
issued and outstanding

     —         —    

Common stock, $.0001 par value; 50,000,000 shares authorized; 21,765,985
shares issued in 2004 and 2003, respectively, and 21,747,301 outstanding in
2004 and 2003, respectively

     2       2  

Treasury stock

     (180 )     (180 )

Additional paid-in capital

     13,962       13,942  

Retained earnings

     44,213       46,920  
    


 


Total stockholders’ equity

     57,997       60,684  
    


 


Total liabilities and stockholders’ equity

   $ 278,755     $ 279,136  
    


 


 

See accompanying notes to consolidated financial statements.

 

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RADIOLOGIX, INC. AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share data)

 

     For the Three Months
Ended March 31,


 
     2004

    2003

 
     (Unaudited)  

SERVICE FEE REVENUE

   $ 69,529     $ 63,206  

COSTS AND EXPENSES:

                

Salaries and benefits

     23,867       20,897  

Field supplies

     4,255       4,040  

Field rent and lease expense

     8,447       7,887  

Other field expenses

     11,305       10,332  

Bad debt expense

     5,898       5,466  

Severance and other related costs

     —         969  

Corporate general and administrative

     3,612       3,641  

Impairment of goodwill

     5,500       —    

Depreciation and amortization

     6,888       6,765  

Interest expense, net

     4,431       4,669  
    


 


Total costs and expenses

     74,203       64,666  
    


 


LOSS BEFORE EQUITY IN EARNINGS OF

                

INVESTMENTS, MINORITY INTERESTS IN

                

CONSOLIDATED SUBSIDIARIES, INCOME TAXES

                

AND DISCONTINUED OPERATIONS

     (4,674 )     (1,460 )

Equity In Earnings of Investments

     596       1,198  

Minority Interests In Income of Consolidated Subsidiaries

     (255 )     (199 )
    


 


LOSS BEFORE INCOME TAXES AND DISCONTINUED OPERATIONS

     (4,333 )     (461 )

Income Tax Benefit

     (1,733 )     (184 )
    


 


LOSS FROM CONTINUING OPERATIONS

     (2,600 )     (277 )

Discontinued Operations:

                

Loss before income taxes from discontinued operations

     (179 )     (7,222 )

Income tax benefit

     (72 )     (2,889 )
    


 


Loss from discontinued operations

     (107 )     (4,333 )
    


 


NET LOSS

   $ (2,707 )   $ (4,610 )
    


 


LOSS PER COMMON SHARE

                

Loss from continuing operations—basic

   $ (0.12 )   $ (0.01 )

Loss from discontinued operations—basic

     (0.00 )     (0.20 )
    


 


Net loss—basic

   $ (0.12 )   $ (0.21 )

Loss from continuing operations—diluted

   $ (0.12 )   $ (0.01 )

Loss from discontinued operations—diluted

     (0.00 )     (0.20 )
    


 


Net loss—diluted

   $ (0.12 )   $ (0.21 )

WEIGHTED AVERAGE SHARES OUTSTANDING

                

Basic

     21,765,985       21,695,153  

Diluted

     22,287,561       21,751,225  

 

See accompanying notes to unaudited consolidated financial statements

 

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RADIOLOGIX, INC. AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

 

     For the Three
Months Ended
March 31,


 
     2004

    2003

 
     (Unaudited)  

CASH FLOWS FROM OPERATING ACTIVITIES:

                

Net loss

   $ (2,707 )   $ (4,610 )
    


 


Adjustments to reconcile net loss to net cash provided by operating activities including discontinued operations:

                

Minority interests in income of consolidated subsidiaries

     255       199  

Equity in earnings of investments

     (596 )     (1,198 )

Depreciation and amortization

     6,888       6,891  

Impairment of goodwill

     5,539       6,900  

Deferred revenue

     (102 )     (102 )

Changes in operating assets and liabilities, net of acquisitions and disposals

                

Accounts receivable, net

     (1,339 )     (1,217 )

Other receivables and current assets

     1,491       (1,721 )

Accounts payable and accrued expenses

     2,943       (4,181 )
    


 


Net cash provided by operating activities

     12,372       961  
    


 


CASH FLOWS FROM INVESTING ACTIVITIES:

                

Purchases of property and equipment

     (4,664 )     (8,041 )

Contributions to joint ventures

     —         (200 )

Distributions from joint ventures

     200       235  

Other investments

     (1,993 )     2,053  
    


 


Net cash used in investing activities

     (6,457 )     (5,953 )
    


 


CASH FLOWS FROM FINANCING ACTIVITIES:

                

Payments on long-term debt

     (836 )     (1,161 )

Other items

     11       3  
    


 


Net cash used in financing activities

     (825 )     (1,158 )
    


 


NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS

     5,090       (6,150 )

CASH AND CASH EQUIVALENTS, beginning of period

     36,766       19,153  
    


 


CASH AND CASH EQUIVALENTS, end of period

   $ 41,856     $ 13,003  
    


 


 

See accompanying notes to unaudited consolidated financial statements.

 

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RADIOLOGIX, INC. AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

MARCH 31, 2004

(Unaudited)

 

Note 1. Basis of Presentation

 

Radiologix, Inc. (together with its subsidiaries, “Radiologix” or the “Company”), a Delaware corporation, is a leading national provider of diagnostic imaging services through its ownership and operation of free-standing, outpatient diagnostic imaging centers. This quarterly report for Radiologix supplements our annual report to security holders for the fiscal year ended December 31, 2003. As permitted by the Securities and Exchange Commission for interim reporting, we have omitted certain notes and disclosures that substantially duplicate those in the annual report. In the opinion of management, all adjustments necessary for a fair presentation have been included and are of a normal recurring nature, other than those adjustments related to discontinued operations which are discussed separately in Note 4. Interim results are not necessarily indicative of the results that may be expected for the year. These consolidated financial statements do not include all disclosures associated with the annual consolidated financial statements. For further information, refer to Management’s Discussion and Analysis of Financial Condition and Results of Operations and the audited consolidated financial statements and notes included in our annual report to security holders for the year ended December 31, 2003.

 

The unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States and include the accounts of the Company and its wholly owned and majority owned subsidiaries. All significant intercompany transactions have been eliminated. Investments in entities that the Company does not control, but in which it has a substantial ownership interest and can exercise significant influence, are accounted for using the equity method.

 

Certain previously-reported amounts, including balances and results of operations related to subsequently discontinued operations, have been reclassified to conform to the current year’s presentation. These reclassifications have no impact on total assets, liabilities, stockholders’ equity, net loss, or cash flows.

 

 

Note 2. Summary of Significant Accounting Policies

 

Use of Estimates in the Preparation of the Financial Statements

 

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, results of operations and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.

 

 

Impairment of Long-Lived Assets

 

Goodwill of $14.6 million at March 31, 2004 and $20.1 million at December 31, 2003, is not subject to amortization; however it is subject to periodic valuation assessments. Under the provisions of Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets, the Company is required to perform at least an annual impairment test. To the extent book value exceeds fair value, at the date an impairment is determined, the Company reduces goodwill by recording a charge to operations.

 

In March 2004, the Company engaged an independent valuation specialist to estimate the fair value of recorded goodwill. In conjunction with their valuation completed in April 2004, management re-assessed the past and expected future operating performance of the Questar imaging centers. This information was provided to the independent valuation specialists. The valuation performed by the specialist was based on discounted cash flows with consideration given to the financial condition and operating performance of Questar relative to those of other publicly traded companies in similar lines of business. Based on their valuation, the Company recognized an impairment charge of $5.5 million in the three months ended March 31, 2004.

 

The Company regularly considers whether events or circumstances may affect either the fair value of the

 

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recorded intangible assets or the associated useful lives. At March 31, 2004, the Company does not believe there are any indicators that the carrying values or the useful lives of these assets need to be adjusted.

 

Intangible assets arise from contracts between the Company and a third party (generally a radiology medical group practice) that grants a long-term commitment to provide professional radiology services at the Company’s imaging centers. Under the terms of those agreements, the radiologists are not employed by the Company, but are subject to the terms of service agreements with the Company. If a contracted radiology practice breaches the service agreement, or if Radiologix terminates the agreement for cause, the practice is required to purchase all associated tangible and intangible assets, including the unamortized portion of the intangible assets, at the then net book value. The cost of intangible assets is generally amortized over a 25-year useful life. If the terms of a service agreement are revised, the asset value and remaining useful life of that agreement may be adjusted to reflect the economic impact of the revisions.

 

The accompanying consolidated financial statements reflect amortization expense for these intangible assets of approximately $1 million for the three months ended March 31, 2004 and 2003. Accumulated amortization as of March 31, 2004 and December 31, 2003 totaled $19.4 million and $18.5 million, respectively.

 

As of March 31, 2004, four imaging centers (five at December 31, 2003) were designated for sale or closure over the next twelve months. During the three months ended March 31, 2004, one imaging center was closed. During 2003, subsequent to March 31, 2003, six imaging centers were sold or closed. These centers are not located in areas where we expect to build a market concentration. In accordance with Statement of Financial Accounting Standards No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, the financial results from these four imaging centers are reported in discontinued operations for the three months ended March 31, 2003 and 2004. The three months ended March 31, 2003 includes a $6.9 million pre-tax charge to write down the related goodwill of these centers. For the three months ended March 31, 2003, the consolidated statement of operations in the accompanying financial statements has been restated to reflect the results of operations for the eleven imaging centers included in discontinued operations.

 

 

Non-Consolidated Joint Ventures

 

In January 2003, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards Board Interpretation No. 46, Consolidation of Variable Interest Entities, an Interpretation of ARB No. 41 (FIN 46). In December 2003, the FASB modified FIN 46 to make certain technical corrections and address certain implementation issues that had arisen. FIN 46 provides a new framework for identifying variable interest entities (VIEs) and determining when a company should include the assets, liabilities, non-controlling interests and results of activities of a VIE in its consolidated financial statements.

 

In general, a VIE is a corporation, partnership, limited liability corporation, trust or any other legal structure used to conduct activities or hold assets that either (1) has an insufficient amount of equity to carry out its principal activities without additional subordinated financial support, (2) has a group of equity owners that are unable to make significant decisions about its activities, or (3) has a group of equity owners that do not have the obligation to absorb losses or the right to receive returns generated by its operations. However, FIN 46 specifically excludes a VIE that is a business if the variable interest holder did not participate significantly in the design or redesign of the entity.

 

We adopted the provisions of FIN 46 as of March 31, 2004. We have reviewed the Company’s non-consolidated joint ventures under the provision and have determined that none of the joint ventures meet the definition of a variable interest entity.

 

 

Stock-Based Awards

 

As permitted by Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based

 

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Compensation (FAS 123), the Company does not currently recognize compensation expense related to stock option grants to its employees; however it does account for stock-based compensation of non-employees under the provisions of FAS 123. Option awards are generally granted under the terms of the 1996 Stock Option Plan, as amended and are priced at fair market value on the date granted.

 

During the three months ended March 31, 2004, the Company granted 480,000 options to purchase the Company’s common stock, primarily as employment inducements for key executives. 280,000 of those options vest over a five-year period, and 200,000 vest in specified increments, based on the performance (at stock prices ranging from $5.00 to $17.50 per share) of the Company’s common stock for consecutive 20-day periods applicable to the increment. No options were granted to non-employees during the three months ended March 31, 2004.

 

During the first quarter of 2004, the Company found the number of options reported as outstanding at December 31, 2003 were understated by 119,429 options. This had no impact on previously reported earnings or loss per share in any of the quarters in 2003 or for the year ended December 31, 2003. At March 31, 2004, 153,081 options were available for future grants under the 1996 Stock Option Plan, as revised.

 

The summary below presents the pro-forma financial results that would have been reported if the Company had applied the provisions of FAS No. 123, as amended by Statement of Financial Accounting Standards No. 148, Accounting for Stock Based Compensation—Transition and Disclosure during the periods ended March 31, 2004 and 2003 (dollars are presented in thousands, except per share amounts):

 

     2004

    2003

 

Net loss, as reported

   $ (2,707 )   $ (4,610 )

Add: Total stock-based compensation expensed in net loss

     6       —    

Deduct: Total stock-based compensation expense determined under fair value based method for all awards, net of related tax effects

     (553 )     (1,133 )
    


 


Pro forma net loss

   $ (3,254 )   $ (5,743 )
    


 


Loss per common share:

                

Basic—as reported

   $ (0.12 )   $ (0.21 )

Basic—pro forma

   $ (0.15 )   $ (0.26 )

Loss per share:

                

Diluted—as reported

   $ (0.12 )   $ (0.21 )

Diluted—pro forma

   $ (0.15 )   $ (0.26 )

 

The fair value of each option grant is estimated at the date of grant using a Black-Scholes option pricing model with the following weighted average assumptions for grants during the three months ended March 31, 2004 and 2003, respectively: risk-free interest rate of 3.83% and 3.81%; expected life of 5.4 and 5.4 years; expected volatility of 41.2% and 54.6%; and dividend yield of zero in 2004 and 2003, respectively. The weighted-average grant-date fair value of new grants during the three months ended March 31, 2004 and 2003 was $3.65 per share and $1.71 per share, respectively.

 

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 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 single measure of the fair value of its employee stock options.

 

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Revenue Recognition

 

Service fee revenue is comprised of billed charges for both the technical and professional components of service, reduced by estimated contractual adjustments and by amounts retained by contracted radiology group practices under the service agreements. Revenue is recognized when services are rendered by contracted radiology practices, the imaging centers, or both. Bad debt expense related to established charges is reflected as an operating expense rather than a reduction of revenue. Contractual adjustments and bad debt expense are estimated based on historical collection experience. Because Radiologix has no financial controlling interest in the radiology practices, as defined in Emerging Issues Task Force Issue 97-2 (EITF 97-2), the Company does not consolidate the financial statements of those practices in its consolidated financial statements.

 

The following table sets forth the amounts of revenue for the contracted radiology practices and diagnostic imaging centers that would have been presented in the consolidated statements of operations had Radiologix met the provisions of EITF 97-2 (in thousands):

 

    

For the Three Months Ended

March 31,


 
     2004

    2003

 

Revenue for contracted radiology practices and diagnostic imaging centers, net of contractual adjustments

   $ 96,038     $ 87,645  

Less: amounts retained by contracted radiology practices

     (26,509 )     (24,439 )
    


 


Service fee revenue

   $ 69,529     $ 63,206  
    


 


 

The Company’s service fee revenue is dependent upon the operating results of the contracted radiology practices and diagnostic imaging centers. Where state law allows, service fees due under the service agreements for the contracted radiology practices are derived from two distinct revenue streams: (1) a negotiated percentage (typically 20% to 30%) of the professional revenues, reduced by certain expenses, as defined in the service agreements; and (2) 100% of the adjusted technical revenues as defined in the service agreements. In states where the law requires a flat fee structure, Radiologix has negotiated a base service fee, which approximates the estimated fair market value of the services provided under the service agreements and which is renegotiated each year. Service fee revenue is comprised of the following (in thousands):

 

    

For the Three Months Ended

March 31,


     2004

   2003

Professional component

   $ 12,076    $ 11,476

Technical component

     57,453      51,730
    

  

Service fee revenue

   $ 69,529    $ 63,206
    

  

 

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Note 3. Long-Term Debt

 

Senior Notes

 

The Company’s $160 million senior notes due December 15, 2008 bear interest at 10 1/2% payable semiannually in arrears on June 15 and December 15 of each year. The senior notes are redeemable on or after December 15, 2005 at various redemption prices, plus accrued interest to the date of redemption. These notes are unsecured obligations, which rank senior in right of payment to all subordinated indebtedness and equal in right of payment with all other senior indebtedness. The senior notes are unconditionally guaranteed on a senior unsecured basis by certain restricted existing and future subsidiaries.

 

 

Credit Facility

 

In December 2003, the Company amended its revolving credit facility to provide for borrowings up to $35 million through December 31, 2008. Borrowings under the credit facility bear interest at (i) an adjusted LIBOR rate, plus an applicable margin which can vary from 3.0% to 3.5% depending on monthly balances outstanding under the credit facility or (ii) the prime rate, plus an applicable margin which can vary from 1.75% to 2.25% depending on monthly balances outstanding under the credit facility. It is at the Company’s discretion to borrow under an adjusted LIBOR rate or under the prime rate. There are no restrictive covenants under the credit facility. The credit facility is secured by substantially all of the Company’s assets and a pledge of the capital stock of all of our wholly owned subsidiaries.

 

Under the credit facility agreement, the Company can borrow up to 85% of eligible accounts receivable, as defined. At March 31, 2004, $35 million was available under the credit facility and no borrowings were outstanding.

 

 

Convertible Junior Subordinated Note

 

The Company has a $12.0 million convertible junior subordinated note, which matures July 31, 2009, and bears interest, payable quarterly in cash or payment with in kind securities, at an annual rate of 8.0%. The note holder may convert borrowings under the note to common stock at $7.52 per share.

 

 

Note 4. Discontinued Operations

 

As of March 31, 2004, the Company had designated four under-performing centers or centers that are not in areas where Radiologix expects to build a market concentration for sale or closure within the next 12 months. Additionally, since March 31, 2003, seven imaging centers were closed or sold, including one during the three months ended March 31, 2004. Subsequent to March 31, 2004, one imaging center was sold for total consideration of $50,000. The results of operations of eleven imaging centers that were sold, closed, or designated for sale or closure are reflected as discontinued operations as follows (in thousands):

 

    

For the Three

Months Ended

March 31,


 
     2004

    2003

 

Service fee revenue

   $ 910     $ 2,408  
    


 


Pre-tax loss from discontinued operations

     (179 )     (7,222 )

Income tax benefit

     (72 )     (2,889 )
    


 


Net loss from discontinued operations

   $ (107 )   $ (4,333 )
    


 


 

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Assets and liabilities of discontinued operations, included in their respective captions as of March 31, 2004 and 2003 were as follows (in thousands):

 

     2004

   2003

Assets

   $ 2,756    $ 4,588

Liabilities

     559      1,583
    

  

Net assets of discontinued operations

   $ 2,197    $ 3,005
    

  

 

 

Note 5. Earnings Per Share

 

Basic earnings per share (EPS) is calculated by dividing income available to common stockholders by the weighted average number of common shares outstanding during the period.

 

Diluted EPS includes options, warrants, and other potentially dilutive securities, using the treasury stock method to the extent that these securities are not anti-dilutive. Diluted EPS also includes the effect of the convertible junior subordinated note using the “if converted” method to the extent the securities are not anti-dilutive. For the three months ended March 31, 2004 and 2003, approximately $145,000 of tax-effected interest savings and 1,593,098 weighted average shares related to the convertible junior subordinated note were not included in the computation of diluted EPS because to do so would be anti-dilutive for the period. For the three months ended March 31, 2004 and 2003, 521,576 shares and 56,085 shares, respectively, related to stock options, were included in diluted EPS.

 

 

Note 6. Segment Reporting

 

The Company reports the results of its operations through four designated regions of the United States: Mid-Atlantic, Northeastern, Central and Western. In addition, the Company reports the results of its operations of the imaging centers of its Questar subsidiary. The Company’s operations in each of the four designated regions encompass the ownership and operation of diagnostic imaging centers and the provision of administrative, management and information services to the contracted radiology practices that provide professional interpretation and supervision services in connection with its diagnostic imaging centers and to hospitals and radiology practices with which the Company operates joint ventures. The Company has divided the operations into the four regions and Questar only for purposes of the division of internal management responsibilities, but does not focus on each of these regions as separate product lines or make financial decisions as if they were separate product lines. The Questar operations are viewed as a separate group only from the perspective that the Questar imaging centers are currently single modality centers and do not operate under the same type of management service agreement with physicians as those that govern the Company’s other operations in the four designated regions.

 

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The following table summarizes the operating results and assets of the five reportable segments (dollars in thousands):

 

     For the Three Months Ended March 31, 2004

 
     Mid-Atlantic
Region (1)


    Northeastern
Region (2)


    Central
Region (3)


    Western
Region (4)


   Questar (5)

    Total

 

Service fee revenue

   $ 31,310     14,359     8,325     10,304    5,231     $ 69,529  

Total costs and expenses

   $ 26,573     12,734     7,084     9,331    10,197     $ 65,919  
    


 

 

 
  

 


Income (loss) before equity in earnings of investments and minority interests in consolidated subsidiaries, income taxes and discontinued operations

   $ 4,737     1,625     1,241     973    (4,966 )   $ 3,610  

Equity in earnings of investments

   $ 457     —       139     —      —       $ 596  

Minority interests in income of consolidated subsidiaries

   $ (154 )   —       (101 )   —      —       $ (255 )

Income (loss) before income taxes from continuing operations

   $ 5,040     1,625     1,279     973    (4,966 )   $ 3,951  

Loss before income taxes from discontinued operations

   $ —       (62 )   —       —      (117 )   $ (179 )

Income (loss) before income taxes

   $ 5,040     1,563     1,279     973    (5,083 )   $ 3,772  

Assets

   $ 67,978     22,817     22,494     19,500    27,020     $ 159,809  

Purchases of property and equipment

   $ 3,093     959     5     22    118     $ 4,197  

 

     For the Three Months Ended March 31, 2003

 
     Mid-Atlantic
Region (1)


    Northeastern
Region (2)


   Central
Region (3)


    Western
Region (4)


   Questar (5)

    Total

 

Service fee revenue

   $ 27,885     12,211    8,813     9,168    5,129     $ 63,206  

Total costs and expenses

   $ 23,682     11,407    6,897     8,104    5,193     $ 55,283  
    


 
  

 
  

 


Income (loss) before equity in earnings of investments and minority interests in consolidated subsidiaries, income taxes and discontinued operations

   $ 4,203     804    1,916     1,064    (64 )   $ 7,923  

Equity in earnings of investments

   $ 957     —      241     —      —       $ 1,198  

Minority interests in income of consolidated subsidiaries

   $ (126 )   —      (100 )   —      27     $ (199 )

Income (loss) before income taxes from continuing operations

   $ 5,034     804    2,057     1,064    (37 )   $ 8,922  

Income (loss) before income taxes from discontinued operations

   $ —       49    —       —      (7,271 )   $ (7,222 )

Income (loss) before income taxes

   $ 5,034     853    2,057     1,064    (7,308 )   $ 1,700  

Assets

   $ 79,870     38,795    27,872     24,451    17,357     $ 188,345  

Purchases of property and equipment

   $ 3,715     1,023    420     412    2,281     $ 7,851  

(1) Includes the Baltimore/Washington, D.C. Metropolitan area.

 

(2) Includes Rochester, New York, Rockland County, New York and the surrounding areas.

 

(3) Includes San Antonio, Texas, St. Lucie County, Florida, Topeka, Kansas, Northeast Kansas and the surrounding areas.

 

(4) Includes San Francisco/Oakland/San Jose, California and surrounding areas.

 

(5) Includes diagnostic imaging centers in Arizona, California, Colorado, Delaware, Florida, Georgia, Illinois, Kansas, Minnesota, Missouri, Nebraska, Nevada, Ohio and Pennsylvania that were acquired as part of the Questar acquisition and that have not been integrated into pre-existing Radiologix market areas.

 

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Corporate assets, including intangible assets, as of March 31, 2004 and 2003 were $118,946 and $97,694, respectively.

 

The following is a reconciliation of loss before income taxes and purchases of property and equipment by the Company’s five reportable segments to the Company’s consolidated financial statements for the three months ended March 31, 2004 and 2003 (in thousands):

 

     For the Three Months Ended
March 31,


 
     2004

    2003

 

Segment income before income taxes

   $ 3,772     $ 1,700  

Unallocated amounts:

                

Corporate general and administrative

     (3,612 )     (3,641 )

Corporate severance and other related costs

     —         (746 )

Corporate depreciation and amortization

     (1,468 )     (1,582 )

Corporate interest expense

     (3,204 )     (3,414 )
    


 


Consolidated loss before income taxes

   $ (4,512 )   $ (7,683 )
    


 


     For the Three Months Ended
March 31,


 
     2004

    2003

 

Purchases of property and equipment

                

Segment amounts

   $ 4,197     $ 7,851  

Corporate amount

     467       190  
    


 


Total purchases of property and equipment

   $ 4,664     $ 8,041  
    


 


 

 

Note 7. Subsequent Event

 

On April 30, 2004, the Company completed the disposition of a Questar imaging center. Consideration received for the disposition was $50,000.

 

On May 7, 2004, the Company completed the disposition of its minority interest in five imaging centers as well as its wholly owned imaging center in San Antonio, Texas. Under the terms of the agreement, the disposition is effective May 1, 2004. Consideration received for the disposition was $10.5 million.

 

 

Note 8. Unconsolidated Joint Ventures

 

The Company has ten unconsolidated joint ventures with ownership interests ranging from 22% to 50%. These joint ventures represent partnerships with hospitals, health systems or radiology practices and were formed for the purpose of owning and operating diagnostic imaging centers. Professional services at the joint venture diagnostic imaging centers are performed by the contracted radiology practices in such market area or a radiology practice that participates in the joint venture. The Company’s investments in these joint ventures are accounted for under the equity method. The following table is a summary of key financial data for these joint ventures (in thousands):

 

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Table of Contents
     March 31,
2004


   December 31,
2003


Current assets

   $ 22,189    $ 20,920

Noncurrent assets

     13,413      13,906

Current liabilities

     4,868      5,274

Noncurrent liabilities

     577      352

Minority interest

     596      4,082

 

     For the Three Months Ended
March 31,


     2004

   2003

Net revenue

   $ 11,663    $ 13,986

Net income

   $ 2,135    $ 3,664

 

 

Note 9. Supplemental Guarantor Information

 

In connection with the senior notes, certain of the Company’s subsidiaries (Subsidiary Guarantors) guaranteed, jointly and severally, the Company’s obligation to pay principal and interest on the senior notes on a full and unconditional basis.

 

The following supplemental condensed consolidating financial information presents the balance sheets as of March 31, 2004 and December 31, 2003, and the statements of income (loss) and cash flows for the three months ended March 31, 2004 and 2003. In the consolidating condensed financial statements, the Subsidiary Guarantors account for their investment in the non-guarantor subsidiaries using the equity method.

 

The non-guarantor subsidiaries include Advanced PET Imaging of Maryland, L.P., Lakewood OpenScan MR, LLC, Lexington MR, Ltd., Montgomery Community Magnetic Imaging Center Limited Partnership, Tower OpenScan MRI, and MRI at St. Joseph Medical Center LLC. The Subsidiary Guarantors include all wholly owned subsidiaries of Radiologix, Inc. (the “Parent”).

 

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RADIOLOGIX, INC. AND SUBSIDIARIES

 

CONDENSED CONSOLIDATING BALANCE SHEET (Unaudited)

 

March 31, 2004

(In thousands)

 

     Parent

    Subsidiary
Guarantors


    Non-
Guarantor
Subsidiaries


    Eliminations

    Total
Consolidated


Assets:

                                      

Cash and cash equivalents

   $ 40,330     $ (840 )   $ 2,366     $ —       $ 41,856

Accounts receivable, net

     —         56,650       3,435       —         60,085

Other current assets

     (228 )     19,456       (8,517 )     —         10,711
    


 


 


 


 

Total current assets

     40,102       75,266       (2,716 )     —         112,652

Property and equipment, net

     2,301       54,725       2,371       —         59,397

Investment in subsidiaries

     153,866       —         —         (153,866 )     —  

Intangible assets, net

     —         73,663       7,833       —         81,496

Other assets

     10,025       15,155       30       —         25,210
    


 


 


 


 

     $ 206,294     $ 218,809     $ 7,518     $ (153,866 )   $ 278,755
    


 


 


 


 

Liabilities and stockholders’ equity:

                                      

Accounts payable and accrued expenses

   $ 10,234     $ 24,998     $ 952     $ —       $ 36,184

Current portion of long-term debt

     22       605       496       —         1,123

Other current liabilities

     17       402       —         —         419
    


 


 


 


 

Total current liabilities

     10,273       26,005       1,448       —         37,726

Long-term debt, net of current portion

     171,508       27       616       —         172,151

Other noncurrent liabilities

     (33,484 )     49,754       (6,461 )     —         9,809

Minority interests in consolidated subsidiaries

     —         —         1,072       —         1,072

Stockholders’ equity

     57,997       143,023       10,843       (153,866 )     57,997
    


 


 


 


 

     $ 206,294     $ 218,809     $ 7,518     $ (153,866 )   $ 278,755
    


 


 


 


 

 

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RADIOLOGIX, INC. AND SUBSIDIARIES

 

CONDENSED CONSOLIDATING BALANCE SHEET

 

December 31, 2003

(In thousands)

 

     Parent

    Subsidiary
Guarantors


  

Non-
Guarantor

Subsidiaries


    Eliminations

    Total
Consolidated


Assets:

                                     

Cash and cash equivalents

   $ 31,625     $ 3,856    $ 1,285     $ —       $ 36,766

Accounts receivable, net

     —         55,246      3,500       —         58,746

Other current assets

     1,034       19,587      (8,695 )     —         11,926
    


 

  


 


 

Total current assets

     32,659       78,689      (3,910 )     —         107,438

Property and equipment, net

     2,113       55,636      2,484       —         60,233

Investment in subsidiaries

     152,103       —        —         (152,103 )     —  

Intangible assets, net

     —         80,139      7,888       —         88,027

Other assets

     12,701       10,791      (54 )     —         23,438
    


 

  


 


 

     $ 199,576     $ 225,255    $ 6,408     $ (152,103 )   $ 279,136
    


 

  


 


 

Liabilities and stockholders’ equity:

                                     

Accounts payable and accrued expenses

   $ 6,612     $ 23,502    $ 1,093     $ —       $ 31,207

Current portion of long-term debt

     45       1,145      509       —         1,699

Other current liabilities

     —         482      —         —         482
    


 

  


 


 

Total current liabilities

     6,657       25,129      1,602       —         33,388

Long-term debt, net of current portion

     171,506       168      682       —         172,356

Other noncurrent liabilities

     (39,271 )     58,163      (7,001 )     —         11,891

Minority interests in consolidated subsidiaries

     —         —        817       —         817

Stockholders’ equity

     60,684       141,795      10,308       (152,103 )     60,684
    


 

  


 


 

     $ 199,576     $ 225,255    $ 6,408     $ (152,103 )   $ 279,136
    


 

  


 


 

 

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RADIOLOGIX, INC. AND SUBSIDIARIES

 

CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS (Unaudited)

 

For the Three Months Ended March 31, 2004

(In thousands)

 

     Parent

    Subsidiary
Guarantors


    Non-
Guarantor
Subsidiaries


    Eliminations

   Total
Consolidated


 

Service fee revenue

   $ —       $ 64,949     $ 4,580     $ —      $ 69,529  

Costs and expenses:

                                       

Salaries and benefits

     —         23,127       740       —        23,867  

Field supplies

     —         3,959       296       —        4,255  

Field rent and lease expense

     —         8,129       318       —        8,447  

Other field expenses

     —         9,832       1,473       —        11,305  

Bad debt expense

     —         5,552       346       —        5,898  

Corporate general and administrative

     3,612       —         —         —        3,612  

Impairment of goodwill

     —         5,500       —         —        5,500  

Depreciation and amortization

     635       6,031       222       —        6,888  

Interest expense, net

     3,204       1,190       37       —        4,431  
    


 


 


 

  


Total costs and expenses

     7,451       63,320       3,432       —        74,203  
    


 


 


 

  


Income (loss) before equity in earnings of investments, minority interests in consolidated subsidiaries, income taxes and discontinued operations

     (7,451 )     1,629       1,148       —        (4,674 )

Equity in earnings of investments

     —         596       —         —        596  

Minority interests in income of consolidated subsidiaries

     —         —         (255 )     —        (255 )
    


 


 


 

  


Income (loss) before taxes and discontinued operations

     (7,451 )     2,225       893       —        (4,333 )

Income tax benefit

     (2,980 )     890       357       —        (1,733 )
    


 


 


 

  


Income (loss) from continuing operations

     (4,471 )     1,335       536       —        (2,600 )
    


 


 


 

  


Discontinued operations:

                                       

Loss from discontinued operations

     —         (179 )     —         —        (179 )

Income tax benefit

     —         (72 )     —         —        (72 )
    


 


 


 

  


Loss from discontinued operations

     —         (107 )     —         —        (107 )
    


 


 


 

  


Net income (loss)

   $ (4,471 )   $ 1,228     $ 536     $ —      $ (2,707 )
    


 


 


 

  


 

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RADIOLOGIX, INC. AND SUBSIDIARIES

 

CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS (Unaudited)

 

For the Three Months Ended March 31, 2003

(In thousands)

 

     Parent

    Subsidiary
Guarantors


    Non-
Guarantor
Subsidiaries


    Eliminations

   Total
Consolidated


 

Service fee revenue

   $ —       $ 58,626     $ 4,580     $ —      $ 63,206  

Costs and expenses:

                                       

Salaries and benefits

     —         20,121       776       —        20,897  

Field supplies

     —         3,748       292       —        4,040  

Field rent and lease expense

     —         7,379       508       —        7,887  

Other field expenses

     —         8,769       1,563       —        10,332  

Bad debt expense

     —         5,123       343       —        5,466  

Severance and other related costs

     746       223       —         —        969  

Corporate general and administrative

     3,641       —         —         —        3,641  

Depreciation and amortization

     743       5,791       231       —        6,765  

Interest expense, net

     3,415       1,215       39       —        4,669  
    


 


 


 

  


Total costs and expenses

     8,545       52,369       3,752       —        64,666  
    


 


 


 

  


Income (loss) before equity in earnings of investments, minority interests in consolidated subsidiaries, income taxes and discontinued operations

     (8,545 )     6,257       828       —        (1,460 )

Equity in earnings of investments

     —         1,198       —         —        1,198  

Minority interests in income of consolidated subsidiaries

     —         —         (199 )     —        (199 )
    


 


 


 

  


Income (loss) before taxes and discontinued operations

     (8,545 )     7,455       629       —        (461 )

Income tax expense (benefit)

     (3,418 )     2,982       252       —        (184 )
    


 


 


 

  


Income (loss) from continuing operations

     (5,127 )     4,473       377       —        (277 )
    


 


 


 

  


Discontinued operations:

                                       

Loss from discontinued operations

     —         (7,222 )     —         —        (7,222 )

Income tax benefit

     —         (2,889 )     —         —        (2,889 )
    


 


 


 

  


Loss from discontinued operations

     —         (4,333 )     —         —        (4,333 )
    


 


 


 

  


Net income (loss)

   $ (5,127 )   $ 140     $ 377     $ —      $ (4,610 )
    


 


 


 

  


 

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RADIOLOGIX, INC. AND SUBSIDIARIES

 

CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS (Unaudited)

 

For the Three Months Ended March 31, 2004

(In thousands)

 

     Parent

    Subsidiary
Guarantors


    Non-
Guarantor
Subsidiaries


    Eliminations

   Total
Consolidated


 

NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES

   $ (1,550 )   $ 13,159     $ 763     $ —      $ 12,372  
    


 


 


 

  


CASH FLOWS FROM INVESTING ACTIVITIES:

                                       

Purchases of property and equipment

     (823 )     (3,732 )     (109 )     —        (4,664 )

Joint ventures

     —         200       —         —        200  

Other investments

     3,375       (5,340 )     (28 )     —        (1,993 )
    


 


 


 

  


Net cash provided by (used in) investing activities

     2,552       (8,872 )     (137 )     —        (6,457 )
    


 


 


 

  


CASH FLOWS FROM FINANCING ACTIVITIES:

                                       

Payments on long-term debt

     (21 )     (736 )     (79 )     —        (836 )

Due to/from parent/subsidiaries

     7,713       (8,247 )     534       —        —    

Other items

     11       —         —         —        11  
    


 


 


 

  


Net cash provided by (used in) financing activities

     7,703       (8,983 )     455       —        (825 )
    


 


 


 

  


NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS

     8,705       (4,696 )     1,081       —        5,090  

CASH AND CASH EQUIVALENTS, beginning of period

     31,625       3,856       1,285       —        36,766  
    


 


 


 

  


CASH AND CASH EQUIVALENTS, end of period

   $ 40,330     $ (840 )   $ 2,366     $ —      $ 41,856  
    


 


 


 

  


 

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RADIOLOGIX, INC. AND SUBSIDIARIES

 

CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS (Unaudited)

 

For the Three Months Ended March 31, 2003

(In thousands)

 

     Parent

    Subsidiary
Guarantors


    Non-
Guarantor
Subsidiaries


    Eliminations

   Total
Consolidated


 

NET CASH PROVIDED BY (USED IN) OPERATING
ACTIVITIES

   $ (3,860 )   $ 4,032     $ 789     $ —      $ 961  
    


 


 


 

  


CASH FLOWS FROM INVESTING ACTIVITIES:

                                       

Purchases of property and equipment

     (592 )     (7,382 )     (67 )     —        (8,041 )

Joint ventures

     —         35       —         —        35  

Other investments

     92       2,109       (148 )     —        2,053  
    


 


 


 

  


Net cash used in investing activities

     (500 )     (5,238 )     (215 )     —        (5,953 )
    


 


 


 

  


CASH FLOWS FROM FINANCING ACTIVITIES:

                                       

Proceeds (payments) on long-term debt

     30       (996 )     (195 )     —        (1,161 )

Due to/from parent/subsidiaries

     (321 )     1,620       (1,299 )     —        —    

Other items

     7       (9 )     5       —        3  
    


 


 


 

  


Net cash provided by (used in) financing activities

     (284 )     615       (1,489 )     —        (1,158 )
    


 


 


 

  


NET DECREASE IN CASH AND CASH EQUIVALENTS

     (4,644 )     (591 )     (915 )     —        (6,150 )

CASH AND CASH EQUIVALENTS, beginning of period

     15,775       (381 )     3,759       —        19,153  
    


 


 


 

  


CASH AND CASH EQUIVALENTS, end of period

   $ 11,131     $ (972 )   $ 2,844     $ —      $ 13,003  
    


 


 


 

  


 

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Table of Contents
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

Overview

 

We are a leading national provider of diagnostic imaging services through our ownership and operation of free-standing, outpatient diagnostic imaging centers. We utilize sophisticated technology and technical expertise to perform a broad range of imaging procedures, such as magnetic resonance imaging (MRI), computed tomography (CT), positron emission tomography (PET), nuclear medicine, ultrasound, mammography, bone densitometry (DEXA), general radiography (X-ray) and fluoroscopy. For the three months ended March 31, 2004, we derived 83% of our service fee revenue from the ownership, management and operation of our radiology and imaging center network and 17% of our service fee revenue from administrative, management and information services provided to contracted radiology practices. As of March 31, 2004, we owned, operated or maintained an ownership interest in imaging equipment at 105 locations, including four imaging centers that are included in discontinued operations in the accompanying financial statements. In addition, we provided management services to ten radiology practices. As of March 31, 2004, our imaging centers were located in 15 states, with concentrated geographic coverage in markets located in California, Florida, Kansas, Maryland, New York, Texas and Virginia. Effective May 1, 2004, we sold our interests in Texas.

 

We focus on providing quality patient care and service to ensure patient and referring physician satisfaction. We develop comprehensive radiology networks by investing in technologically advanced imaging equipment, and in high quality service. Our regional consolidation of diagnostic imaging centers improves response time, increases overall patient accessibility, permits us to standardize procedures and aids us in developing best practices. We seek the input and participation of the contracted radiology practices to which we provide administrative, management and information services to improve productivity and the quality of services. By focusing on further improving and standardizing the operations of our diagnostic imaging centers, we believe that we can increase patient and referring physician satisfaction, reduce our costs and increase utilization at our diagnostic imaging centers.

 

We contract with radiology practices to provide professional services, including the supervision and interpretation of imaging procedures performed in our centers. We do not engage in the practice of medicine nor do we employ physicians. Our radiologists maintain full control over the provision of professional radiological services. We believe the contracted radiology practices generally have outstanding physician and practice credentials and reputations; strong competitive market positions; a broad sub-specialty mix of physicians; a history of past growth and potential for future growth; and a willingness to continually improve the delivery of diagnostic imaging services.

 

Service fee revenue is comprised of billed charges for both the technical and professional components of service, reduced by estimated contractual adjustments and by amounts retained by contracted radiology group practices for their professional services, as outlined in our service agreements. Revenue is recognized when services are rendered by contracted radiology practices, the imaging centers, or both. Bad debt expense related to established charges is reflected as an operating expense rather than a reduction of revenue. Contractual adjustments and bad debt expense are estimated based on historical collection experience, including payor mix, managed care contract pricing and contract revenue and the aging of patient accounts receivable balances. As these factors change, revisions are made as appropriate in the period known.

 

The Company’s service fee revenue is dependent upon the operating results of the contracted radiology practices and diagnostic imaging centers. Where state law allows, service fees due under the service agreements for the contracted radiology practices are derived from two distinct revenue streams: (1) a negotiated percentage (typically 20% to 30%) of the professional revenues, reduced by certain expenses, as defined in the service agreements; and (2) 100% of the adjusted technical revenues as defined in the service agreements. In states where the law requires a flat fee structure, the Company has negotiated a base service

 

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fee, which approximates the estimated fair market value of the services provided under the service agreements and which is renegotiated each year.

 

Our diagnostic imaging centers are also principally dependent on our ability to attract referrals from primary care physicians, specialists and other healthcare providers. The referral often depends on the existence of a contractual arrangement with the referred patient’s health benefit plan. The Company has contracts with health benefit plans representing many of the patients in the markets we serve.

 

 

Results of Operations

 

We report the results of our operations through four designated regions of the United States: Mid-Atlantic, Northeastern, Central and Western regions. In addition, we report separately the results of our operations of the imaging centers of our subsidiary, Questar. Our operations in each of the four designated regions encompass the ownership and operation of diagnostic imaging centers and the provision of administrative, management, information, and other services to the contracted radiology practices which provide professional interpretation and supervision services to our diagnostic imaging centers and to hospitals and radiology practices with which we operate joint ventures. Our services are designed to leverage our existing infrastructure and improve radiology practice or joint venture profitability, efficiency and effectiveness. We have divided the operations into the four regions and Questar only for purposes of the division of internal management responsibilities, but do not focus on these regions as separate product lines or make financial decisions as if they were separate product lines. The Questar operations are viewed as a separate group only from the perspective that the Questar imaging centers are currently single modality centers and do not operate under the same type of management service agreement with physicians as those that govern the Company’s other operations in the four regions.

 

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Three Months Ended March 31, 2004 Compared to Three Months Ended March 31, 2003

 

In the first quarter of 2004, our operations continued to show improvement, due primarily to an overall volume increase of approximately 6.8% in our Mid-Atlantic, Northeastern and Western regions. This resulted in an increase in service fee revenue in these regions of approximately 12.2% over the first quarter of 2003. In 2004 these regions also realized an $0.8 million increase in revenue due to a favorable settlement under certain managed care contracts, making the overall increase in service fee revenue for these regions approximately 14.0%. Our Central and Questar regions experienced an approximately 2.6% volume increase and an accompanying net 2.8% decrease in service fee revenue due primarily to increases in amounts retained by contracted radiology practices. Service fee revenue for the Company for the three months ended March 31, 2004 increased 10% to $69.5 million in 2004 from $63.2 million in 2003.

 

In the first quarter of 2004, the Company recognized a $5.5 million pre-tax charge to continuing operations that was related to the impairment of Questar goodwill. Following the guidance provided in Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets, management re-assessed the past and expected future performance of the Questar imaging centers. This information was provided to the independent valuation specialists. Based on the results of their independent valuation, the Company concluded that assets related to this acquisition were permanently impaired and recognized this charge. The valuation performed by the specialist was based on discounted cash flows and consideration given to the financial condition and operating performance of Questar relative to those of other publicly traded companies in the similar lines of business. Excluding the impairment charge of $5.5 million, pre-tax income from continuing operations was approximately $1 million for the quarter ended March 31, 2004.

 

In accordance with Statement of Financial Accounting Standards No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, during the quarter ended March 31, 2003, the Company recognized a $6.9 million pre-tax charge to discontinued operations that was related to the impairment of long-lived assets of Questar.

 

In 2004 our focus continues to be on revenue growth and reducing field salaries and benefits expense as a percent of service fee revenue. Salaries and benefits as a percentage of service fee revenue from continuing operations for the first quarter of 2004 was 34.3% and 33.1% in 2003. This increase resulted from the on-going shortage of technologists and requires us to fill vacant positions with costly temporary labor. Management is currently evaluating our service offerings and patient flows to identify less-costly methods of providing high quality patient care and is evaluating its back office and support operations for new opportunities to gain economies of scale.

 

During the three months ended March 31, 2003, Radiologix recognized a $1.0 million charge in connection with severance and expenses related to changes in the Company’s senior management team. No similar charge was recognized in the first quarter of 2004.

 

While operating expenses remain a top area of focus, other operating expenses, excluding $5.5 million charge for impairment of goodwill in 2004 and $969,000 of severance and other related costs in 2003, show several positive trends, as outlined for the three months ended March 31, 2004 and 2003 below:

 

     2004

   2003

   Percent
Increase
(Decrease)


    Percent of
Service Fee
Revenue


    Basis
Point
Change


 

Field salaries and benefits

   $ 23,867    $ 20,897    14.2 %   34.3 %   33.1 %   120  

Field supplies

     4,255      4,040    5.3     6.1     6.4     (30 )

Field rent and lease expense

     8,447      7,887    7.1     12.1     12.5     (40 )

Other field expenses

     11,305      10,332    9.4     16.3     16.3     —    

Bad debts expense

     5,898      5,466    7.9     8.5     8.6     (10 )

Corporate, general and administrative

     3,612      3,641    (0.8 )   5.2     5.8     (60 )

Depreciation and amortization

     6,888      6,765    1.8     9.9     10.7     (80 )

Interest expense, net

     4,431      4,669    (5.1 )   6.4     7.4     (100 )
    

  

  

 

 

 

Total operating expense, excluding charges

   $ 68,703    $ 63,697    7.9 %   98.8 %   100.8 %   (200 )
    

  

  

 

 

 

 

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Although corporate, general and administrative expenses declined from 2003 to 2004, the cost as a percentage of service fee revenue may increase slightly with the recent hiring of the senior management positions. In March and April 2004, the Company hired a Chief Financial Officer and General Counsel, as well as other senior management positions.

 

Income tax benefit on continuing operations represented 40% of pre-tax income in 2004 and 2003.

 

 

Discontinued Operations

 

As of March 31, 2004, we had a designated four under-performing centers or centers that are not in areas where we expect to build a market concentration for sale or closure within the next 12 months. Additionally, since March 31, 2003, seven imaging centers were closed or sold, including one during the three months ended March 31, 2004. Subsequent to March 31, 2004, one imaging center was sold for total consideration of $50,000. The results of operations of eleven imaging centers that were sold, closed, or designated for sale or closure are reflected as discontinued operations as follows (in thousands):

 

     For the Three
Months Ended
March 31, 2004


 
     2004

    2003

 

Service fee revenues

   $ 910     $ 2,408  
    


 


Pre-tax loss from discontinued operations

     (179 )     (7,222 )

Income tax benefit

     (72 )     (2,889 )
    


 


Net loss from discontinued operations

   $ (107 )   $ (4,333 )
    


 


 

Assets and liabilities of discontinued operations included in their respective captions, as of March 31, 2004 and 2003 were as follows (in thousands):

 

     2004

   2003

Assets

   $ 2,756    $ 4,588

Liabilities

     559      1,583
    

  

Net assets of discontinued operations

   $ 2,197    $ 3,005
    

  

 

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LIQUIDITY AND CAPITAL RESOURCES

 

Liquidity for the three months ended March 31, 2004, was derived from cash and cash equivalents and net cash proceeds from operating activities. As of March 31, 2004, we had net working capital of $74.9 million, including cash and cash equivalents of $41.9 million. We had current assets of $112.7 million and current liabilities of $37.7 million, including current maturities of long-term debt and capital lease obligations of $1.1 million. For the three months ended March 31, 2004, we generated $12.4 million in net operating cash flow, invested $6.5 million and used cash of $825,000 in financing activities.

 

Net cash from operating activities for the three months ended March 31, 2004 of $12.4 million increased from $961,000 for the same period in 2003. Our days outstanding on accounts receivable decreased from 75 days at March 31, 2003 to 60 days at March 31, 2004. We calculate days sales outstanding by dividing accounts receivable, net of allowances, by the three-month average revenue per day.

 

Net cash used in investing activities for the three months ended March 31, 2004 and 2003 was $6.5 million and $6.0 million, respectively. Purchases of property and equipment during the three months ended March 31, 2004 and 2003 were $4.7 million and $8.0 million, respectively.

 

Net cash flows used in financing activities for the three months ended March 31, 2004 and 2003 were $0.8 million and $1.2 million, respectively.

 

At March 31, 2004, we had outstanding senior note borrowings of $160.0 million, a $12.0 million convertible subordinated junior note and an additional $1.3 million in other debt obligations. At March 31, 2004, no borrowings were outstanding under the credit facility under which the Company can borrow up to $35 million. Borrowings under this line are limited to 85% of eligible accounts receivable, as defined under the credit facility. Borrowings are secured by substantially all of our assets and a pledge of the capital stock of our wholly owned subsidiaries.

 

We operate in a capital intensive, high fixed-cost industry that requires significant amounts of capital to fund operations, particularly the initial start-up and development expense of new diagnostic imaging centers and the acquisition of additional centers and new diagnostic imaging equipment. We currently believe that our cash balances, the expected cash flow from operations and our borrowing capacity under our revolving credit facility and our lease lines with major manufacturers will be sufficient to fund our working capital, acquisitions and capital expenditure requirements for the immediately foreseeable future. Our long-term liquidity needs will consist of working capital and capital expenditure requirements, the funding of future acquisitions and repayment of debt. We intend to fund these long-term liquidity needs from cash generated from operations, available borrowings under our revolving credit facility, our lease lines of credit, and future debt and equity financing. However, our ability to generate cash is subject to our performance, general economic conditions, industry trends and other factors. Many of these factors are beyond our control and cannot be anticipated at this time. To the extent we are unable to generate sufficient cash from our operations, funds are not available under our credit facility or we are unable to structure or obtain operating leases, we may be unable to meet our capital expenditure requirements. Furthermore, we may not be able to raise any necessary additional funds through bank financing or the issuance of equity or debt securities on terms acceptable to us, if at all.

 

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Critical Accounting Policies

 

The preparation of our consolidated financial statements requires the use of judgments and estimates. Our critical accounting policies are described below to provide a better understanding of how we develop our judgments about future events and related estimations and how they can impact our financial statements. A critical accounting policy is one that requires our most difficult, subjective or complex estimates and assessments and is fundamental to our results of operations. We identified our most critical accounting policies to be:

 

  revenue recognition and estimation of contractual allowances and bad debt of accounts receivable; and
  evaluation of intangible assets, including goodwill, and long-lived assets for impairment.

 

Revenue Recognition, Contractual Allowances and Allowances for Doubtful Accounts

 

Revenue of the contracted radiology practices and diagnostic imaging centers is recorded when services are rendered by the contracted radiology practices and diagnostic imaging centers based on established charges and reduced by estimated contractual allowances. Service fee revenue is recorded net of estimated contractual allowances and amounts retained by the contracted radiology practices under the terms of the service agreements. We estimate contractual allowances based on the patient mix at each contracted radiology practice and diagnostic imaging center, the impact of managed care contract pricing, and historical collection information. We operate imaging centers in various states, each of which has multiple managed care contracts and a different patient mix. We review monthly the estimated contractual allowance rates for each contracted radiology practice and diagnostic imaging center. The contractual allowance rate is adjusted as changes to the factors discussed above become known. We record bad debt expense monthly based on historical collection rates of each contracted radiology practice and diagnostic imaging center. Should circumstances change (shift in payor mix, decline in economic conditions or deterioration in aging of patient receivables), our estimates of the net realizable value of patient receivables could be reduced by a material amount.

 

Impairment of Intangible and Long-Lived Assets

 

Impairment losses are recognized for long-lived assets through operations when indicators of impairment exist and the underlying cash flows are not sufficient to support the assets’ carrying value. Potential indicators of impairment can include, but are not limited to the following:

 

a. History of operating losses or expected future losses

 

b. Significant adverse change in legal factors

 

c. Changes in the extent or manner in which the assets are used

 

d. Current expectations to dispose of the assets by sale or other means

 

e. Reductions or expected reductions of cash flow

 

We primarily use an expected sales value to estimate the fair values of our long-lived assets. Sales values are based in part on recent acquisitions we made and our knowledge of the radiology and imaging business environment. In March 2003, we recorded a $6.9 million pre-tax charge to write-down goodwill related to these centers.

 

Our service agreements, included in the consolidated balance sheets as intangible assets are not considered to have indefinite useful lives and will continue to be amortized over a useful life of 25 years. We regularly evaluate the carrying value and lives of the finite lived intangible assets in light of any events or circumstances that we believe may indicate that the carrying amount or amortization period should be adjusted. As of March 31, 2004, we do not believe there are any indicators that the carrying values or the useful lives of these assets need to be adjusted.

 

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Goodwill

 

Goodwill and other intangible assets with an indefinite useful life are no longer amortized as expenses of operations, but rather carried on the balance sheet as permanent assets. These intangible assets are subject to at least annual assessments for impairment by applying a fair-value-based test. We engaged an independent third-party valuation specialist to determine the fair value of the Questar operations. In conjunction with their valuation, management re-assessed the past and expected future operating performance of the Questar imaging centers. This information was provided to the independent valuation specialists. The valuation performed by the specialist was based on discounted cash flows and consideration given to the financial condition and operating performance of Questar relative to those of other publicly traded companies in the similar lines of business. Their preliminary valuation was completed in April 2004 and indicated that the carrying value of the Questar operations exceeded the fair value and consequently an impairment charge of $5.5 million was recorded. We conduct our annual impairment test of goodwill during our first quarter of each year.

 

This discussion and analysis should be read in conjunction with our consolidated financial statements and related notes included elsewhere in this report.

 

Recent Accounting Pronouncements

 

In January 2003, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards Board Interpretation No. 46, Consolidation of Variable Interest Entities, an Interpretation of ARB No. 41 (FIN 46). In December 2003, the FASB modified FIN 46 to make certain technical corrections and address certain implementation issues that had arisen. FIN 46 provides a new framework for identifying variable interest entities (VIEs) and determining when a company should include the assets, liabilities, non-controlling interests and results of activities of a VIE in its consolidated financial statements.

 

In general, a VIE is a corporation, partnership, limited liability corporation, trust or any other legal structure used to conduct activities or hold assets that either (1) has an insufficient amount of equity to carry out its principal activities without additional subordinated financial support, (2) has a group of equity owners that are unable to make significant decisions about its activities, or (3) has a group of equity owners that do not have the obligation to absorb losses or the right to receive returns generated by its operations. However, FIN 46 specifically excludes a VIE that is a business if the variable interest holder did not participate significantly in the design or redesign of the entity.

 

We adopted the provisions of FIN 46 as of March 31, 2004. We have reviewed the Company’s non-consolidated joint ventures under the provision and have determined that none of the joint ventures meets the definition of a variable interest entity.

 

Health Insurance Portability and Accountability Act

 

The administrative provisions of the Health Insurance Portability and Accountability Act of 1996 (HIPAA) direct the federal government to adopt national electronic standards for automated transfer of certain healthcare data between healthcare payors, plans and providers. HIPAA is designed to enable the entire healthcare industry to communicate electronic data using a single set of standards, thus eliminating all nonstandard formats currently in use. Our contracted radiology practices and diagnostic imaging centers are “covered entities” under HIPAA, and as such, must comply with the HIPAA electronic data interchange mandates. The HIPAA requirements are scheduled by the federal government to be implemented over a multi-year timeframe. Implementation delays or difficulties by the Company, the federal government, or others with which we do business could impact our future cash flow in a way we cannot currently predict.

 

Forward-Looking Statements

 

Throughout this report we make “forward-looking statements” within the meaning of Section 27A of the Securities Act and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Forward-looking statements include words such as “may,” “will,” “would,” “could,” “likely,” “estimate,” “intend,” “plan,” “continue,” “believe,” “expect” or “anticipate” and other similar words and include all

 

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discussions about our acquisition and development plans. We do not guarantee that the transactions and events described in this report will happen as described or that any positive trends noted in this report will continue. The forward-looking statements contained in this report are generally located in the material set forth under the heading “Management’s Discussion and Analysis of Financial Condition and Results of Operations”, but may be found in other locations as well. These forward-looking statements generally relate to our plans, objectives and expectations for future operations and are based upon management’s reasonable estimates of future results or trends. Although we believe that our plans and objectives reflected in or suggested by such forward-looking statements are reasonable, we may not achieve such plans or objectives. You are cautioned not to unduly rely on such forward-looking statements when evaluating the information presented in this report. You should read this report completely and with the understanding that actual future results may be materially different from what we expect. We will not update forward-looking statements even though our situation may change in the future.

 

Specific factors that might cause actual results to differ from our expectations include, but are not limited to:

 

  economic, demographic, business and other conditions in our markets;

 

  the highly competitive nature of the healthcare business;

 

  a decline in patient referrals;

 

  changes in the rates or methods of third-party reimbursement for diagnostic imaging services;

 

  the termination of our contracts with radiology practices;

 

  the loss of a high percent of radiologists operating in our contracted radiology practices;

 

  the availability of additional capital to fund capital expenditure requirements;

 

  burdensome lawsuits against our contracted radiology practices and us;

 

  reduced operating margins due to our managed care contracts and capitated fee arrangements;

 

  any failure by us to comply with state and federal anti-kickback and anti-self referral laws or any other applicable healthcare regulations;

 

  changes in business strategy and development plans;

 

  changes in Federal, state or local regulations affecting the healthcare industry;

 

  our substantial indebtedness, debt service requirements and liquidity constraints; and

 

  risks related to our notes and healthcare securities generally.

 

A more comprehensive list of such factors are set forth in the Company’s Annual Report on Form 10-K for the year ended December 31, 2003, and our other filings with the Securities and Exchange Commission.

 

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Item 3. Quantitative and Qualitative Disclosures About Market Risk

 

The Company’s exposure to market risk for changes in interest rates relates primarily to the Company’s cash equivalents, credit facility, and its senior and convertible notes. At March 31, 2004, Radiologix had no borrowings outstanding under its credit facility. Radiologix’s notes bear interest at fixed rates.

 

 

Item 4. Controls and Procedures

 

Evaluation of Disclosure Controls and Procedures. Based on their evaluation as of a date within 45 days of the filing date of this Quarterly Report on Form 10-Q, the Company’s principal executive officer and principal financial officer have concluded that the Company’s disclosure controls and procedures (as defined in Rules 13a-14 (c) and 15d-14 (c) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) are effective to ensure that information required to be disclosed by the Company in reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms.

 

There have been no significant changes in the Company’s internal controls or in other factors that have materially affected or are reasonably likely to materially affect its internal controls during our most recent fiscal quarter, including any corrective actions with regard to significant deficiencies and material weaknesses.

 

We have investments, not material in amount, in certain unconsolidated entities. Since we do not control these entities, our disclosure controls and procedures with respect to these entities are necessarily substantially more limited than those we maintain with respect to our consolidated subsidiaries.

 

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PART II: OTHER INFORMATION

 

Item 6. Exhibits and Reports on Form 8-K

 

  (a) Exhibits. The list of exhibits filed as part of this report is incorporated by reference to the Index to Exhibits at the end of this report.

 

  (b) Reports on Form 8-K. The registrant filed a current report on Form 8-K on March 11, 2004, announcing the release of its financial results for the year ended December 31, 2003.

 

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SIGNATURES

 

Pursuant to the requirements 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.

 

        RADIOLOGIX, INC.
Date: May 7, 2004      

/S/    STEPHEN D. LINEHAN

       
           

Stephen D. Linehan

President and Chief Executive Officer

(Principal Executive Officer)

Date: May 7, 2004      

/S/    RICHARD J. SABOLIK

       
           

Richard J. Sabolik

Senior Vice President and

Chief Financial Officer

(Principal Accounting Officer)

 

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INDEX TO EXHIBITS

 

Exhibit
Number


  

Description


31.1    Certification of Stephen D. Linehan pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. *
31.2    Certification of Richard J. Sabolik pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. *
32.1    Certification Pursuant to 18 U.S.C. Section 1350, as Adopted pursuant to Section 906 of The Sarbanes-Oxley Act of 2002 of Stephen D. Linehan. *
32.2    Certification Pursuant to 18 U.S.C. Section 1350, as Adopted pursuant to Section 906 of The Sarbanes-Oxley Act of 2002 of Richard J. Sabolik. *

* Filed herewith.

 

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