<PAGE>
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
------------------------
FORM 10-Q
<TABLE>
<C> <S>
/X/ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 OF THE
SECURITIES EXCHANGE ACT OF 1934
</TABLE>
FOR THE QUARTERLY PERIOD ENDED DECEMBER 31, 1999
OR
<TABLE>
<C> <S>
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 OF THE
SECURITIES EXCHANGE ACT OF 1934
</TABLE>
FOR THE TRANSITION PERIOD FROM ______________ TO ______________
COMMISSION FILE NUMBER 0-27502
------------------------
HEALTH SYSTEMS DESIGN CORPORATION
(Exact name of registrant as specified in its charter)
<TABLE>
<S> <C>
DELAWARE 94-3235734
(State or other Jurisdiction of (I.R.S. Employer Identification Number)
Incorporation or Organization)
1111 BROADWAY, OAKLAND, CALIFORNIA 94607
(Address of principal executive offices) (Zip code)
</TABLE>
(510) 251-1330
(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 / /
The registrant had 6,739,158 shares of common stock outstanding as of
January 31, 2000.
Exhibit index is located on page 11
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
HEALTH SYSTEMS DESIGN CORPORATION
INDEX
<TABLE>
<CAPTION>
PAGE
--------
<C> <C> <S> <C>
PART I. FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements
Consolidated Balance Sheets--December 31, 1999 and 2
September 30, 1999..........................................
Consolidated Statements of Operations--Three months ended
December 31, 1999 and 1998.................................. 3
Consolidated Statements of Cash Flows--Three months ended
December 31, 1999 and September 30, 1999.................... 4
Notes to Consolidated Financial Statements.................. 5
Item 2. Management's Discussion and Analysis of Financial Condition
and
Results of Operations....................................... 7
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K............................ 10
</TABLE>
1
<PAGE>
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
HEALTH SYSTEMS DESIGN CORPORATION
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
<TABLE>
<CAPTION>
DECEMBER 31, SEPTEMBER 30,
1999 1999
------------ -------------
(UNAUDITED)
<S> <C> <C>
ASSETS
Current Assets:
Cash and cash equivalents................................. $ 4,312 $ 4,176
Short-term marketable securities.......................... 3,512 5,029
Accounts receivable, net of allowance for doubtful
accounts of $425 at December 31, 1999, and $325 at
September 30, 1999, respectively........................ 6,839 4,440
Unbilled revenue.......................................... 2,870 6,007
Prepaid expenses.......................................... 327 272
------- -------
Total current assets.................................... 17,860 19,924
------- -------
Property and equipment:
Computer equipment........................................ 4,308 4,148
Office furniture and other................................ 2,428 2,320
------- -------
Total property and equipment............................ 6,736 6,468
Less: accumulated depreciation.......................... (3,907) (3,561)
------- -------
Net property and equipment.............................. 2,829 2,907
------- -------
Deposits and other assets................................... 446 623
------- -------
Software development costs, net of accumulated amortization
of $1,581 at December 31, 1999 and $1,245 at September 30,
1999, respectively........................................ 3,279 3,330
------- -------
Total assets............................................ $24,414 $26,784
======= =======
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable.......................................... $ 1,077 $ 878
Accrued liabilities....................................... 2,996 3,481
Current portion of capital lease obligations.............. 301 294
Unearned revenue.......................................... 4,428 4,700
------- -------
Total current liabilities............................... 8,802 9,353
Deferred rent............................................. 59 21
Capital lease obligations, net of current portion......... 183 262
------- -------
Total liabilities....................................... 9,044 9,636
Stockholders' equity:
Preferred stock, $.001 par value, 1,000,000 shares
authorized, none outstanding............................ -- --
Common stock, $.001 par value, 20,000,000 shares
authorized, 6,736,158 and 6,730,858 shares issued and
outstanding at December 31, 1999 and September 30, 1999,
respectively............................................ 7 7
Additional paid-in capital................................ 24,131 24,122
Treasury stock, 2,054 shares.............................. (29) (29)
Deferred compensation..................................... (8) (12)
Retained deficit.......................................... (8,731) (6,940)
------- -------
Total stockholders' equity................................ 15,370 17,148
------- -------
Total liabilities and stockholders' equity.............. $24,414 $26,784
======= =======
</TABLE>
2
<PAGE>
HEALTH SYSTEMS DESIGN CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER-SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
DECEMBER 31,
-------------------
1999 1998
-------- --------
<S> <C> <C>
Revenues:
System sales.............................................. $ 3,888 $ 4,454
Services and other........................................ 1,282 927
------- -------
Total revenues.......................................... 5,170 5,381
Cost of revenues............................................ 2,742 2,203
------- -------
Gross margin............................................ 2,428 3,178
------- -------
Operating expenses:
General and administrative................................ 1,489 1,470
Sales and marketing....................................... 861 1,193
Product development....................................... 1,936 2,052
------- -------
Total operating expenses................................ 4,286 4,715
------- -------
Loss from operations.................................. (1,858) (1,537)
Interest, net............................................... 81 112
------- -------
Loss before provision for income taxes.................. (1,777) (1,425)
Provision for income taxes.................................. 14 1
------- -------
Net loss.................................................... $(1,791) $(1,426)
======= =======
Net loss per share:
Basic..................................................... $ (0.27) $ (0.21)
======= =======
Diluted................................................... $ (0.27) $ (0.21)
======= =======
Weighted average common shares outstanding:
Basic..................................................... 6,734 6,678
======= =======
Diluted................................................... 6,734 6,678
======= =======
</TABLE>
3
<PAGE>
HEALTH SYSTEMS DESIGN CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
DECEMBER 31,
-------------------
1999 1998
-------- --------
<S> <C> <C>
Cash flows from operating activities:
Net loss.................................................. $(1,791) $(1,426)
Adjustments to reconcile net loss to net cash used in
operating activities:
Allowance for doubtful accounts......................... 100 200
Depreciation and amortization........................... 758 490
Gain on sale of assets.................................. -- 7
Amortization of deferred liabilities.................... 41 4
Changes in current assets and liabilities:
Accounts receivable................................... (2,499) (1,625)
Unbilled revenue...................................... 3,137 (798)
Prepaid expenses...................................... (55) (44)
Accounts payable...................................... 199 (116)
Accrued liabilities................................... (485) 20
Unearned revenue...................................... (272) 2,986
------- -------
Net cash used in operating activities............... (867) (302)
------- -------
Cash flows from investing activities:
Purchases of property and equipment....................... (268) (124)
Proceeds from sale of property and equipment.............. -- 75
Sales of short-term marketable securities, net............ 1,517 --
Capitalization of software development costs.............. (361) (684)
Deposits and other assets................................. 177 (100)
------- -------
Net cash provided by (used in) investing activities..... 1,065 (833)
------- -------
Cash flows from financing activities:
Repayments of capital lease obligations................... (71) --
Proceeds from exercise of common stock options............ 9 9
Proceeds from exercise of common stock warrants........... -- 25
------- -------
Net cash provided by (used in) financing activities..... (62) 34
------- -------
Net increase (decrease) in cash......................... 136 (1,101)
Cash and cash equivalents at beginning of period............ 4,176 9,440
------- -------
Cash and cash equivalents at end of period.................. $ 4,312 $ 8,339
======= =======
Supplemental disclosure of cash flow information:
Interest paid............................................. $ 8 $ --
Taxes paid................................................ $ 8 $ 1
</TABLE>
4
<PAGE>
HEALTH SYSTEMS DESIGN CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999
1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information on substantially the same basis as the annual audited
financial statements. However, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments, consisting
of normal recurring adjustments, considered necessary for a fair presentation
have been included. Operating results for the three month period ended
December 31, 1999 are not necessarily indicative of the results that may be
expected for the year ending September 30, 2000. These consolidated financial
statements should be read in conjunction with the financial statements and
footnotes thereto for the year ended September 30, 1999 included in the
Company's Form 10-K Annual Report.
2. REVENUE RECOGNITION
The Company licenses its internally developed software products and other
software products and other software products directly to end-users and
indirectly though remarketers, under the terms of product license contracts. The
Company also generates revenues from sales of implementation services, fees for
product enhancement, post-contract support, consulting services and training
services performed for customers who license the Company's products and
reselling hardware and third party products. Contracts with customers could be
terminated under certain circumstances and revenues recognized could be
refundable upon termination in certain cases, including breach of contract. The
termination of significant customer contracts could have a material adverse
effect on the Company's business, financial condition, or results of operations.
If the contract does not require significant production or customization of
software, license revenue is recognized when all the following conditions are
met: a signed contract is obtained, delivery has occurred, the fee is fixed and
determinable, and collection is probable. The Company generally recognizes
DIAMOND-REGISTERED TRADEMARK- 725 license revenue upon shipment of the software
to end users, as no significant production or customization of this software is
required, and the installation period is relatively short. The Company generally
recognizes DIAMOND-REGISTERED TRADEMARK- 950C/S license revenue on a
percentage-of-completion basis based on the labor hours required to implement
the system, as this software generally requires an extended installation period
and can require significant enhancements. If the software license agreement
provides for acceptance criteria that extend beyond the published specifications
of the applicable product, then revenues are recognized upon the earlier of
customer acceptance or the expiration of the acceptance period.
Implementation, consulting and training fees are billed either on an hourly
or a monthly basis and are recognized as services are rendered. Third party
software and hardware are typically billed and recognized as revenue when
delivered to the end user.
The Company generally recognizes DIAMOND-REGISTERED TRADEMARK- enhancement
revenues on a percentage-of-completion basis based on the labor hours required
to complete the applicable release project.
Post-contract support services are billed on a monthly basis. Customers who
purchase post-contract support services under maintenance agreements have the
right to receive unspecified product updates and upgrades. Revenues from
post-contract support services are recognized ratably over the term of the
support period. If post-contract support services are included free or at a
discount in a license agreement,
5
<PAGE>
HEALTH SYSTEMS DESIGN CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
DECEMBER 31, 1999
2. REVENUE RECOGNITION (CONTINUED)
such amounts are recorded at their fair market value based on the value
established by independent sale of such post-contract support services to
customers and license fee revenue is correspondingly reduced. Customers that do
not purchase post-contract support must purchase product updates and upgrades
under separate agreements that are subject to the criteria of the Company's
revenue recognition policy.
3. CAPITALIZED SOFTWARE DEVELOPMENT COSTS
The Company accounts for capitalized software costs in accordance with SFAS
86, "Accounting for the Costs of Computer Software to be Sold, Leased, or
Otherwise Marketed." The Company begins capitalizing software development costs
upon the establishment of technological feasibility, which is established upon
the completion of a working model or, in the case of major releases, detailed
program design. Costs incurred prior to technological feasibility are charged to
expense as incurred. Capitalization ceases when the product is considered
available for general release to customers. Capitalized software development
costs are amortized to direct costs over the estimated economic lives of the
software products based on actual sales experience and product life expectancy.
Generally, estimated economic lives of the software products do not exceed
3 years. Capitalized software development cost amortization was approximately
$412,000 and $173,000 for three months ended December 31, 1999 and 1998,
respectively.
4. ADOPTION OF NEW ACCOUNTING STANDARDS
In June 1998, the FASB issued SFAS No. 133 "Accounting for Derivative
Instruments and Hedging Activities" which is required to be adopted for fiscal
quarters beginning after June 15, 2000. Adoption of this pronouncement is not
expected to have a material impact on the Company's financial statements taken
as a whole.
In June 1999, the FASB issued SFAS No. 137 "Accounting for Derivative
Instruments and Hedging Activities--Deferral of the Effective date of SFAS
No. 133" which extended the required adoption date for SFAS No. 133 to fiscal
years beginning after June 15, 2000.
6
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
OVERVIEW
Health Systems Design Corporation (the Company) provides health benefits
information systems software to a broad range of organizations that administer
health benefits. The Company's principal product line,
DIAMOND-REGISTERED TRADEMARK- consists of DIAMOND-REGISTERED TRADEMARK- 725 AND
DIAMOND-REGISTERED TRADEMARK- 950C/S. The Company's principal software products,
DIAMOND-REGISTERED TRADEMARK-, enable organizations to manage information about
members, employer groups, providers, benefit plans, referrals and authorizations
and health care services. DIAMOND-REGISTERED TRADEMARK- supports a wide range of
administrative and financial transactions related to provider reimbursement,
premium billing, customer service, patient care management and a variety of
other functions.
The Company's revenues are derived from licensing
DIAMOND-REGISTERED TRADEMARK- products, providing the associated implementation,
product enhancements, post-contract support, consulting services and training
services and reselling hardware and third party products. If there are no
uncertainties surrounding a contract, as described by generally accepted
accounting principles, then the Company generally recognizes
DIAMOND-REGISTERED TRADEMARK- 950C/S license revenue on a percentage of
completion basis based on the labor hours required to implement the system. The
Company's ability to make individual system sales in a particular period will
significantly impact its financial performance in future periods. As the Company
has pursued larger system sales (DIAMOND-REGISTERED TRADEMARK- 950C/S), it has
seen and expects to continue to see variability in the recognition of system
sales revenue. If there are no uncertainties surrounding a contract, as
described by generally accepted accounting principles, then the Company
generally recognizes DIAMOND-REGISTERED TRADEMARK- 725 license revenue upon
shipment of the software to end users. Implementation, post-contract support,
consulting fees and training are billed either on an hourly or monthly basis and
are recognized as services are rendered. Hardware and third party products are
typically billed and recognized as revenues when delivered to the client.
Significant portions of system revenues recognized in the three months ended
December 31, 1999 resulted from license sales executed in prior periods.
RESULTS OF OPERATIONS
REVENUES
Total revenues were $5,170,000 and $5,381,000 for the three months ended
December 31, 1999 and 1998, respectively, representing a decrease of 4%. Two
customers accounted for approximately 38% and 32% of total revenues for the
three months ended December 31, 1999 and 1998, respectively. Blue Shield of
California represented 20% while Kaiser Permanente represented 18% for the three
months ended December 31, 1999. Kaiser Permanente represented 21% while the Ohio
Department of Mental Health represented 11% of total revenues for the three
months ended December 31, 1998. No other customers exceed 10% of total revenues
in the periods presented.
In the three months ended December 31, 1999, the Company experienced lower
license and implementation booking relative to the three months ended
December 31, 1998. The Company expects this slowdown in bookings to have a
negative impact on revenues in the next two quarters of fiscal 2000.
In addition, at December 31, 1999, a total of 67% of accounts receivable,
66% of unbilled revenue and 72% of unearned revenue is related to Blue Shield of
California and Kaiser Permanente.
SYSTEM SALES. System sales revenues consist of license fees for the
Company's products, implementation and enhancement fees, and revenues associated
with reselling third-party software and hardware. System sales revenues were
$3,888,000 and $4,454,000 for the three months ended December 31, 1999 and 1998,
respectively, representing a decrease of 13%. The decrease in system sales
revenue is due primarily to lower bookings in previous quarters.
7
<PAGE>
SERVICES AND OTHER. Services and other revenues are comprised of system
support, consulting and training revenues. Services and other revenues were
$1,282,000 and $927,000 for the three months ended December 31, 1999 and 1998,
respectively, representing an increase of 38%. The increase in services and
other revenues was due primarily to an increase in support fees resulting from
the Company's larger installed DIAMOND-REGISTERED TRADEMARK- 950C/S customer
base.
COST OF REVENUES. Cost of revenues was $2,742,000 and $2,203,000 for the
three months ended December 31, 1999 and 1998, respectively, representing an
increase of 24%. Cost of revenues increased from 41% of total revenues in the
three months ended December 31, 1998 to 53% of total revenues in the three
months ended December 31, 1999. No long-term trend should be implied from either
of these period to period comparisons. Costs of revenues increased primarily due
to increases in amortization expense, personnel costs and rent.
OPERATING EXPENSES.
GENERAL AND ADMINISTRATIVE. General and administrative expenditures were
$1,489,000 and $1,470,000 for the three months ended December 31, 1999 and 1998,
respectively, representing an increase of 1%. General and administrative
expenditures as a percentage of total revenues for the three months ended
December 31, 1999 and 1998 were 29% and 27%, respectively. General and
administrative expenses include the salaries and benefits associated with
general management, finance and administration and allocated facilities costs.
SALES AND MARKETING. Sales and marketing expenditures were $861,000 and
$1,193,000 for the three months ended December 31, 1999 and 1998, respectively,
representing a decrease of 28%. Sales and marketing expenditures as a percentage
of revenues for the three months ended December 31, 1999 and 1998 were 17% and
22%, respectively. The decreases in sales and marketing expenditures during the
period were primarily due to a decrease in personnel costs, commissions and
marketing activities.
PRODUCT DEVELOPMENT. Product development expenditures, net of software
capitalization, were $1,936,000 and $2,052,000 for the three months ended
December 31, 1999 and 1998, respectively, representing a decrease of 6%. Product
development expenditures as a percentage of revenues for the three months ended
December 31, 1999 and 1998 was 37% and 38%, respectively. The Company believes
that product development expenditures are essential to maintaining its
competitive position and expects these costs to continue to constitute a
significant percentage of total revenues in the near future.
The Company capitalized $361,000 and $684,000 of product development costs
in the three months ended December 30, 1999 and 1998, respectively. Capitalized
product development expenditures as a percentage of total product expenditures
were 16% and 25% for the three months ended December 31, 1999 and 1998,
respectively. The decrease in product development costs capitalized, for the
three months ended December 31, 1999, is due primarily to stage of development
of major releases. The Company begins capitalizing software development costs
upon the establishment of technological feasibility, which is established upon
the completion of a working model or, in the case of major releases, detailed
program design. Costs incurred prior to technological feasibility are charged to
expense as incurred. Capitalization ceases when the product is considered
available for general release to customers.
INTEREST INCOME AND EXPENSE. Interest income, net of interest expense, was
$81,000 and $112,000 for the three months ended December 31, 1999 and 1998,
respectively. The decrease in interest income, net of expense, was primarily due
to the amount of cash invested and interest paid on capital lease obligations.
Interest income represents interest earned on the Company's excess cash
balances, which are generally placed in short term investments, money market
funds, and government securities.
PROVISION FOR INCOME TAXES. The provision for income taxes was $14,000 and
$1,000 for the three months ended December 31, 1999 and 1998 respectively. The
increase in the provision for income taxes was due to recording higher state
taxes then in the prior comparable period.
8
<PAGE>
LIQUIDITY AND CAPITAL RESOURCES
Net cash used in operating activities was $867,000 and $302,000 during the
three months ended December 31, 1999 and 1998, respectively. The increase in
cash used by operating activities, as compared to the three months ended
December 31, 1998, resulted primarily from an increased loss,an increase in
accounts receivable and a decrease in accrued liabilities partially offset by a
decrease in unbilled revenue.
Net cash provided by (used in) investing activities was $1,065,000 and
($833,000) during the three months ended December 31, 1999 and 1998,
respectively. The increase in cash provided by investing activities, as compared
to the three months ended December 31, 1998, consisted primarily of sales of
short-term marketable securities during the current period.
Net cash provided by (used in) financing activities was ($62,000) and
$34,000 during the three months ended December 31, 1999 and 1998, respectively.
The increase in cash used by financing activities, as compared to the three
months ended December 31, 1998, was primarily due to repayments on a capital
lease obligation.
As of December 31, 1999 and 1998, the Company had cash and cash equivalents
in the amounts of $4,312,000 and $8,339,000 respectively.
The company believes that available funds and cash flows from operations and
short-term marketable securities will be adequate to fund its presently
anticipated working capital requirements for at least the next 12 months.
YEAR 2000 ISSUES
In early fiscal 1997, the Company conducted an overall assessment of the
DIAMOND-REGISTERED TRADEMARK- products, as well as its internal computer
systems, to determine if there were any issues related to the change to the Year
2000. The Company inventoried and made inquiries of vendors, as well as tested
the DIAMOND-REGISTERED TRADEMARK- products for potential issues. Since
January 1, 2000, the company has not encountered any material issues relating to
the Year 2000. The costs associated with correcting reported issues have not
been and are not expected to be material.
As described above, some Year 2000 issues may not be discovered until well
after January 1, 2000. The Company intends to continue to prioritize reports of
such issues and correct significant related problems.
"SAFE HARBOR" STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF
1995:
Statements in this report concerning the future results of operations,
financial condition and business of the Company are "forward-looking" statements
as defined in the Securities Act of 1933 and the Securities and Exchange Act of
1934. Investors are cautioned that information contained in these forward-
looking statements is inherently uncertain, and that actual performance and
results may differ materially due to numerous risk factors. Such risks and
uncertainties include Healthcare and Government Regulation; dependence of the
Company's results of operations on certain large customers; variability of
operating results due to the long sales cycle and implementation period of the
Company's products; the Company's dependence on a single product line; the
dynamic nature of the market in which the Company's product line competes;
development of new products and enhancements to the current product; risk of
acquisition; the Company's ability to attract and retain qualified personnel and
other risks described in the Company's other filings with the Securities and
Exchange Commission.
9
<PAGE>
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
<TABLE>
<S> <C>
Management Contract, dated January 13, 2000 between the
10.32 Registrant and 2C Solutions, LLC
11.1 Statement re: computation of earnings per share
27 Financial Data Schedule
</TABLE>
(b) Reports on Form 8-K
No reports on Form 8-K have been filed during the quarter for which this
report is filed.
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
<TABLE>
<S> <C> <C>
HEALTH SYSTEMS DESIGN CORPORATION
Date: February 11, 2000
By: /s/ ARTHUR M. SOUTHAM
-----------------------------------------
Arthur M. Southam,
PRESIDENT AND CHIEF EXECUTIVE OFFICER
By: /s/ STEVEN L. MOORE
-----------------------------------------
Steven L. Moore,
EXECUTIVE VICE PRESIDENT AND
CHIEF FINANCIAL OFFICER
</TABLE>
10
<PAGE>
HEALTH SYSTEMS DESIGN CORPORATION
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT DESCRIPTION
- --------------------- -----------
<C> <S>
10.32 Management Contract, dated January 13, 2000 between the
Registrant and 2C Solutions, LLC
11.1 Computation of net loss per share
27 Financial Data Schedule
</TABLE>
11
<PAGE>
EXHIBIT 10.32
2C Solutions, LLC
18535 Devonshire St.
Suite 501
Northridge, CA 91324
January 13, 2000
Richard Auger
Chairman
Health Systems Design
1111 Broadway
18(th) Floor
Oakland, CA 94607
e-mail: [email protected]
RE: Southam Management Agreement--Revised
Dear Rich:
This is to follow up on discussions with you and Matt regarding my
continuing role in the leadership and management of HSD.
My letter of July 27, 1999, signed by you on behalf of HSD, set forth our
agreement regarding my role as interim CEO of HSD. That agreement was based on
the premise that I would serve as interim CEO until a new CEO was appointed
pursuant to a search process that was in progress. The Agreement anticipated
that the engagement would last 2-5 months, would involve about 75% of my time
and that I would be at HSD's Oakland office, or with clients, 2-3 days per week.
My involvement with HSD has been extensive. It has involved changes to
organizational structure and personnel. In addition, it has involved the
exploration of strategic opportunities that can stimulate HSD's growth and/or
allow shareholders to achieve liquidity and economic value. I believe that we
are making progress in our efforts to energize and reposition the company for
future success.
For several reasons the Board has decided to put a hold on the search for a
new CEO while the Company pursues various alternatives. The decision to have me
continue in my role and not hire a new CEO at this time benefits the Company. It
provides continuity, avoids the difficulty of installing a new CEO at a time of
transition, avoids the dilution that would take place with a large option
package and avoids the financial cost of the full compensation package required
to recruit a new CEO.
I have greatly enjoyed the opportunity to work with you and other members of
the HSD team over the last several months. Thanks for your support and guidance.
The only "trade-offs" have been the significant time required away from my
family and the opportunity cost relative to the development of 2C and other
opportunities. I look forward to continuing in my role as President and CEO at
least until we complete the current exploration of strategic options and move
HSD to its next stage.
Given the change in scope and duration of my engagement it is appropriate to
adjust our earlier agreement. I propose the following:
ROLE AND RESPONSIBILITIES:
I will continue in my role as President and CEO of HSD for at least the
minimum term outlined below. In this role I will report to and work closely with
the Board of Directors. I will have the authority and responsibility usually
associated with the President/CEO position. We will not use the "interim" title
to describe my role to HSD staff and outside parties.
<PAGE>
OBJECTIVES AND GOALS
Many of the goals remain the same as in our original July 27 letter
agreement. I will update these goals with you and provide them as a separate
document. I look forward to reviewing and modifying these goals with you on an
ongoing basis.
SCOPE AND TERM:
This revised agreement will begin December 1, 1999 and continue until at
least September 30, 2000. Thereafter, it will continue on a quarter-to-quarter
basis. On or after July 1, 2000 it can be terminated, without cause, by either
party, effective the last day of the month following ninety (90) days prior
written notice.
During the term of this agreement, I will devote essentially all my
professional work time to the activities of HSD. I will be present in the
Oakland office and/or at client sites an average of at least three days per
week. I will take approximately fifteen days of vacation, not including legal
holidays, during the period ending in September. I will of course be available
on a 7/24 basis by phone, e-mail, etc. to facilitate the effective operation of
the Company. I will continue in my capacity as a member of 2C Solutions and will
maintain some non-HSD professional activities and investments that require no
more than a few days per month and do not compete with the business of HSD. I
have discussed these with you and will update you at any time.
COMPENSATION:
My compensation package will be as follows:
- Cash compensation will be $35,000 (thirty five thousand dollars) per month
beginning with the month of December.
- HSD will pay for or reimburse reasonable expenses related to HSD business.
- HSD will pay for or reimburse transportation and reasonable lodging costs
incurred as a result of my travel between my home in Southern California
and Oakland.
- I will not receive any additional options at this time. I will retain all
existing options including those granted at the August meeting of the
Board pursuant to our prior agreement.
If, prior to September 30, 2000, HSD enters into a definitive agreement(s)
with respect to one or more transactions that result in a Change of Control of
the Company, and I have not terminated this agreement prior to the Change of
Control, I will be eligible for a "transaction bonus" payable immediately
following a Change of Control. For purposes of this provision a Change of
Control will mean the occurrence of any one of the following events:
(i) a merger or acquisition in which the Company is not the surviving
entity, except for a transaction the principal purpose of which is to
change the State of the Company's incorporation;
(ii) the sale, transfer or other disposition of all or substantially all of
the assets of the Company in liquidation or dissolution of the Company;
(ii) a transfer of all or substantially all of the Company's assets pursuant
to a partnership or joint venture agreement or similar arrangement
where the Company's resulting interest is less than fifty percent
(50%);
(iii) any reverse merger in which the Company is the surviving entity but in
which fifty percent (50%) or more of the Company's outstanding voting
stock is transferred to holders different from those who held the stock
immediately prior to such merger;
(ii) on or after the date hereof, a change in ownership of the Company
through an action or series of transactions, such that any person is or
becomes the beneficial owner, directly or indirectly, of
2
<PAGE>
securities of the Company representing fifty percent (50%) of more of
the securities of the combined voting power of the Company's
outstanding securities; or
(vi) a majority of the members of the Board are replaced during any
twelve-month period by directors whose appointment or election is not
endorsed by a majority of the members of the Board prior to the date of
such appointment or election.
- The amount of the transaction bonus will be based on the transaction price
(or in the case of more than one transaction, the weighted average of the
price at which shares were sold) as follows:
<TABLE>
<CAPTION>
TRANSACTION PRICE/SHARE BONUS PAYMENT
- ----------------------- -------------
<S> <C>
Less than $8.00/share $150,000
$8.00-$9.99/share $225,000 plus $850.00 (eight hundred fifty dollars)
for each cent per share in excess of $8.00 per share
$10.00 or more per share $400,000 plus $1,200 (one thousand two hundred
dollars) for each cent per share in excess of $10.00
per share
</TABLE>
- I will be eligible for a "continuity and performance bonus," if this
Agreement is still in effect or if I am still serving as President and/or
CEO of HSD, on September 30, 2000. The bonus will be based on the
following:
CONTINUITY AND PERFORMANCE BONUS PARAMETERS
<TABLE>
BONUS POTENTIAL 25% 50% 100%
AT 100% AWARD LEVEL AWARD LEVEL AWARD LEVEL
<S> <C> <C> <C> <C>
Revenue $40,000 $30 million $33 million $42 million
Net Income (After $30,000 $250,000 $1 million $3 million
Tax)
Share Price Following $100,000 $7.50 $9.00 $12.00
Third Quarter
Earnings Release
Share Price Following $100,000 $7.50 $9.00 $12.00
Fourth Quarter
Earnings Release
</TABLE>
- Each of the measures will be evaluated independently.
- Performance levels between award levels will be pro-rated.
- No bonus will be paid for performance below the 25% award level
- Share price for purposes of this program will be based on the average
of the highest closing prices for any 10 trading days out of the first
20 trading days following the date of HSD's earnings releases for the
fiscal third quarter (ending June 2000) and fiscal fourth quarter
(ending September 2000).
- In the event the share price award is equal to or above $50,000 for
either period, the Company may elect to pay up to 40% of the award in
the form of a stock grant. The conversion price of the award to stock
will be the same formula used to determine the share price for
purposes of the bonus.
3
<PAGE>
- Income performance targets include accrual for my bonuses. The fiscal
year revenue and income target bonuses will be paid to me following
Board review of fiscal year end audited financial statements and
confirmation that targets have been achieved. The share price target
bonuses will be paid to me following completion of each measurement
period and certification by HSD's Chief Financial Officer of the price
to be used for purposes of this bonus.
- The parameters of this program will not be adjusted for any mergers,
acquisitions or transactions.
- In the event a Change of Control occurs on or before June 30, 2000,
resulting in a transaction related payment to me, I will not be
eligible for any "Continuity and Performance Bonus" as described
herein.
- In the event a Change of Control occurs after June 30, 2000 but prior
to October 1, 2000, resulting in a transaction related payment to me,
I will be eligible for the portion of the continuity and performance
bonus program related to "Share Price Following 3(rd) Quarter Earnings
Release." I will not be eligible for the portions of the continuity
and performance bonus award related to "Share Price Following 4(th)
Quarter Earnings Release," "Revenue," and "Net Income" described
above.
- In the event this Agreement is not replaced by another agreement and
continues beyond September 30, 2000, HSD will develop a Bonus
program(s) for the Fiscal year ending September 2001.
- I will be performing and billing these services as an independent
consultant through 2C Solutions, LLC. I will not be provided with any
other benefits customarily provided to employees, except as outlined
above.
- Monthly fees and any expenses will be billed on a monthly basis by 2C
Solutions LLC and will be paid by HSD within 10 days.
- The obligations regarding compensation, minimum term and notice of
termination will apply to successor organizations in the event of a change
of control of HSD. Disputes regarding this agreement, including disputes
regarding the interpretation the transaction bonus, will be settled, if
necessary, by binding arbitration.
If this is acceptable please sign where indicated below and return a copy to
me.
Sincerely,
Arthur M. Southam, MD
Accepted on Behalf of HSD
Date:
Richard Auger
Chairman
4
<PAGE>
EXHIBIT 11.1
HEALTH SYSTEMS DESIGN CORPORATION
COMPUTATION OF NET LOSS PER SHARE
(IN THOUSANDS, EXCEPT PER-SHARE AMOUNTS)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
DECEMBER 31,
-------------------
1999 1998
-------- --------
<S> <C> <C>
Net loss.................................................. $(1,791) $(1,426)
======= =======
Weighted average common shares outstanding:
Basic................................................... 6,734 6,678
======= =======
Fully Diluted........................................... 6,734 6,678
======= =======
Net loss per common share:
Basic................................................... $ (0.27) $ (0.21)
======= =======
Diluted................................................. $ (0.27) $ (0.21)
======= =======
</TABLE>
Net Income (Loss) Per Common Share:
Basic net income (loss) per common share (Basic EPS) excludes dilution and
computed by dividing net income (loss) by the weighted average number of common
shares outstanding during the period. Diluted net income per common share
(Diluted EPS) reflects the potential dilution that could occur if stock options
or other contracts to issue common stock were exercised or converted into common
stock. The computation of Diluted EPS does not assume exercise or conversion of
securities that would have an antidilutive effect on net income per common
share. In periods where losses are recorded, common stock equivalents would
decrease the loss per share and are therefore not added to the weighted average
shares outstanding.
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> SEP-30-2000
<PERIOD-START> OCT-01-1999
<PERIOD-END> DEC-31-1999
<CASH> 4312
<SECURITIES> 3512
<RECEIVABLES> 7264
<ALLOWANCES> 425
<INVENTORY> 0
<CURRENT-ASSETS> 17860
<PP&E> 6736
<DEPRECIATION> 3907
<TOTAL-ASSETS> 24414
<CURRENT-LIABILITIES> 8802
<BONDS> 183
0
0
<COMMON> 7
<OTHER-SE> 15363
<TOTAL-LIABILITY-AND-EQUITY> 24414
<SALES> 0
<TOTAL-REVENUES> 5170
<CGS> 0
<TOTAL-COSTS> 2742
<OTHER-EXPENSES> 4286
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 81<F1>
<INCOME-PRETAX> (1777)
<INCOME-TAX> 14
<INCOME-CONTINUING> 0
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (1791)
<EPS-BASIC> (0.27)
<EPS-DILUTED> (0.27)
<FN>
<F1>Interest Income
</FN>
</TABLE>
