<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------------------
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE YEAR ENDED DECEMBER 31, 1998
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ________ TO _________
COMMISSION FILE NUMBER: 0-22835
MONARCH DENTAL CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 51-0363560
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
MONARCH DENTAL CORPORATION
4201 SPRING VALLEY ROAD, SUITE 320
DALLAS, TX 75244
(Address of principal executive offices)
(972) 702-7446
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12 (b) of the Act:
None
Securities registered pursuant to Section 12 (g) of the Act:
Common Stock, $.01 par value
----------------------------
(Title of class)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the Registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [X]
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The aggregate market value of the shares of the Registrant's Common Stock held
by non-affiliates of the Registrant on March 16, 1999 was approximately
$23,543,366 based upon the closing price per share of the Registrant's Common
Stock as reported on the Nasdaq Stock Market on March 16, 1999. Shares of Common
Stock held by each officer and director and by each person who owns 5% or more
of the outstanding Common Stock have been excluded in that such persons may be
deemed to be affiliates. This determination of affiliate status is not
necessarily a conclusive determination for other purposes. As of March 16, 1999,
there were 12,140,818 outstanding shares of the Registrant's Common Stock.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the following documents are incorporated by reference into the Parts
of this Report on Form 10-K indicated below:
(1) The Annual Report to Stockholders for fiscal year ended
December 31, 1998 (Part II).
(2) The Company's definitive proxy statement dated April 5, 1999 for
the Annual Meeting of Stockholders to be held on May 11, 1999
(Part III).
STATEMENTS MADE OR INCORPORATED INTO THIS ANNUAL REPORT INCLUDE A
NUMBER OF FORWARD-LOOKING STATEMENTS WITHIN THE MEANING OF SECTION 27A OF THE
SECURITIES ACT OF 1933 AND SECTION 21E OF THE SECURITIES EXCHANGE ACT OF 1934.
FORWARD LOOKING STATEMENTS INCLUDE, WITHOUT LIMITATION, STATEMENTS CONTAINING
THE WORDS "ANTICIPATES," "BELIEVES," "EXPECTS," "INTENDS," "FUTURE" AND WORDS OF
SIMILAR IMPORT WHICH EXPRESS MANAGEMENT'S BELIEF, EXPECTATIONS OR INTENT
REGARDING THE COMPANY'S FUTURE PERFORMANCE. THE COMPANY'S ACTUAL RESULTS COULD
DIFFER MATERIALLY FROM THOSE SET FORTH IN THE FORWARD-LOOKING STATEMENTS.
FACTORS THAT MAY CAUSE SUCH DIFFERENCES INCLUDE RISKS ASSOCIATED WITH THE
COMPANY'S ACQUISITION STRATEGY AND EXPANSION WITHIN EXISTING MARKETS, MANAGEMENT
OF GROWTH AND COMPETITION, WHICH ARE DESCRIBED IN ITEM 7 OF PART II OF THIS
FORM 10-K UNDER THE CAPTION "CERTAIN FACTORS THAT MAY AFFECT FUTURE RESULTS."
<PAGE> 3
MONARCH DENTAL CORPORATION
INDEX TO
ANNUAL REPORT ON FORM 10-K
<TABLE>
<CAPTION>
Page No.
<S> <C> <C>
Part I.
Item 1. Business 4
Item 2. Properties 13
Item 3. Legal Proceedings 13
Item 4. Submission of Matters to a Vote of Security Holders 13
Part II.
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters 14
Item 6. Selected Financial Data *
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations *
Item 8. Financial Statements and Supplementary Data *
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure 16
Part III.
Item 10. Directors and Executive Officers of the Registrant **
Item 11. Executive Compensation **
Item 12. Security Ownership of Certain Beneficial Owners and Management **
Item 13. Certain Relationships and Related Transactions **
Part IV.
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K 18
Signatures 20
</TABLE>
* Incorporated by reference to the Company's Annual Report to Stockholders
for fiscal year ended December 31, 1998.
** Incorporated by reference to the Company's definitive proxy statement dated
April 5, 1999 for the Annual Meeting of Stockholders to be held on May 11,
1999.
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PART I
ITEM 1. BUSINESS
The information contained in this report is provided as of December 31,
1998, unless otherwise indicated.
The Company manages dental group practices in selected markets, located
in Texas, Wisconsin, Pennsylvania, Virginia, Ohio, Arkansas, Utah, Colorado,
Georgia, New Jersey, Florida, Indiana, Arizona and New Mexico at December 31,
1998. Dentists practicing at the Company's dental offices (the "Dental Offices")
provide general dentistry services such as examinations, cleanings, fillings,
bonding, placing crowns and fitting and placing fixed or removable prostheses.
At many of the Company's Dental Offices, dentists also provide specialty dental
services such as orthodontics, oral surgery, endodontics, periodontics and
pediatric dentistry. The Company seeks to build geographically dense networks of
dental providers by expanding within its existing markets and entering new
markets through acquisition. At December 31, 1998, the Company owned and managed
194 Dental Offices, of which 28 were internally developed and 168 were acquired
(two of these offices were subsequently closed) by the Company. At December 31,
1998, 405 full-time dentists practiced at the Company's Dental Offices. The
Company was incorporated under the laws of Delaware on December 28, 1994.
DENTAL SERVICES
Dentists practicing at the Dental Offices provide general dentistry
services such as examinations, cleanings, fillings, bonding, placing crowns and
fitting and placing fixed or removable prostheses. At many of the Company's
Dental Offices, dentists also provide specialty dental services such as
orthodontics, oral surgery, endodontics, periodontics and pediatric dentistry.
Specialty dental services are typically offered through teams which rotate
through several Dental Offices in a particular market. This enables the Company
to capture revenue from services that would otherwise be referred to independent
specialists.
Except with respect to Dental Offices located in states in which the
ownership of dental practices by non-dentists is permitted, dental services
provided at the Dental Offices are provided by or under the supervision of
licensed dentists employed by or under independent contracts with the
professional corporations managed by the Company (the "P.C.s"). In states in
which the Company operates and in which the ownership of dental practices by
non-dentists is permitted (currently Wisconsin), dental services provided at the
Dental Offices are provided by or under the supervision of licensed dentists
employed by or under independent contracts with the Company. The Company owns
all of the operating assets of each of the Dental Offices, including inventory,
equipment, leases and leasehold improvements. The Company typically equips its
Dental Offices with state-of-the-art clinical and diagnostic equipment such as
fiber optic handpieces, intraoral video cameras and panoramic and cephalometric
X-ray equipment.
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The following table shows the principal areas in which the Company owns
and manages Dental Offices, the number of Dental Offices and dentists in each
area at December 31, 1998, the year that each practice was established and the
effective date of each practice's affiliation with the Company:
<TABLE>
<CAPTION>
NUMBER OF NUMBER OF DATE EFFECTIVE DATE
DENTAL GROUP PRACTICE / MARKET DENTAL OFFICES DENTISTS (1) FOUNDED OF ACQUISITION
- ------------------------------ -------------- ------------ ------- --------------
<S> <C> <C> <C> <C>
Monarch, Dallas-Fort Worth 27 74 1983 N/A
MacGregor Dental Centers, Houston 19 44 1962 February 1, 1996
Midwest Dental Care, Wisconsin 23 42 1975 September 1, 1996
Convenient Dental Care, Arkansas 1 5 1982 November 1, 1996
Arkansas Dental Health, Arkansas 3 6 1984 January 1, 1997
United Dental Care, Arkansas 8 9 1990 April 1, 1997
Dental Centers of Indiana, Indiana 14 9 1980 August 1, 1997
J.B. Hays, Arkansas 1 3 1994 October 1, 1997
Three Peaks Dental Health, Colorado 6 10 1990 November 1, 1997
Press Family Dental, San Antonio 7 16 1971 November 1, 1997
Dental America, Midland - Odessa 3 4 1994 December 1, 1997
Dental Care One, Ohio 8 7 1979 March 1, 1998
Managed Dental Care Centers, Austin
and New Mexico 7 8 1995 June 1, 1998
Valley Forge Dental Associates, Various 57 139 1995 September 1, 1998
Talbert Dental, Arizona and Utah 10 29 1973 September 1, 1998
</TABLE>
(1) Includes full-time general dentists and specialists employed by or under
contract with the Company (in the case of Midwest) or the applicable P.C.
(in the case of each dental group practice other than Midwest).
The attributes of the Dental Offices vary from market to market. In
urban and suburban areas a Dental Office may have, for example, 15 or more
single-chair operatories, a multi-chair specialty bay, several full-time general
dentists, several dental hygienists and dental assistants, a business manager
and a receptionist. In more rural markets, a Dental Office may have, for
example, only three or four single chair operatories, and be staffed by one
general dentist, one hygienist or dental assistant and a receptionist. One
general dentist, designated as the Dental Director, oversees professional
matters at each Dental Office.
ADVERTISING AND MARKETING
The Company seeks to increase patient volume at the Dental Offices
through television, radio and print advertising and other marketing techniques.
The Company has developed these techniques over the past 15 years in its
Dallas-Fort Worth operations and adapts them for use in its other markets as
appropriate. The Company's advertising emphasizes regional brand name
recognition of its affiliated Dental Offices, quality of care, comprehensive
specialty services, affordable payment plans for more complex procedures and
patient satisfaction. The Company operates as "Monarch(TM) Dental" or under
established regional brand names, such as "ProDent(SM)" in Philadelphia and
"Midwest Dental(SM)" in Wisconsin, depending on the nature and requirements of
the relevant market. The Company believes the brand name recognition by
consumers and managed dental care payors generated by its advertising programs
has contributed to its growth.
The Company complements its advertising and marketing programs in
Dallas-Fort Worth and certain other markets with a regional call center for the
Dental Offices located in that market. The Company's advertising and marketing
support activities also include the offering of convenient office hours,
selecting favorable locations for its Dental Offices, offering same-day
emergency care and introducing or expanding additional, higher-margin specialty
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services at the Dental Offices. The Company has been able to leverage its
existing advertising program to generate revenue as it expands within its
markets.
PAYOR MIX
Third-party payment arrangements from which the Company derives revenue
directly or through the P.C.s include indemnity insurance, preferred provider
plans and capitated managed dental care plans. Under indemnity insurance plans,
the patient or the patient's employer pays insurance premiums and the insurance
company reimburses the dentist for all or a portion of the dentist's usual and
customary fee, with the patient paying the portion not covered by insurance.
Under preferred provider plans, dentists agree to provide dental services to
plan members on a discounted fee-for-service basis. Capitated managed dental
care plans typically pay dental group practices that agree to provide services
to plan members a fixed monthly amount for each plan member covered for a
specified schedule of services regardless of the quantity or cost of services to
the participating dental group practice obligated to provide them. This
arrangement shifts the risk of utilization to the dental group practice that
provides the dental services. Because the Company assumes responsibility under
the Management Agreements for all aspects of the operation of the dental
practices (other than the practice of dentistry) and thus bears all costs of the
P.C.s associated with the provision of dental services at the Dental Offices
(other than compensation and benefits of dentists and hygienists), the risk of
over-utilization of dental services at the Dental Offices under capitated
managed dental care plans is effectively shifted to the Company. In addition,
members of capitated managed dental care plans pay the P.C.s or the Company, as
applicable, additional amounts as co-payments for more complex procedures. The
relative size of capitation payments and co-payments varies in accordance with
the level of benefits provided and plan design.
The Company seeks to optimize the revenue mix at the Dental Offices
between revenue from fee-for-service business and revenue from capitated managed
dental care plans. The Company focuses on fee-for-service business, which
includes fees paid by indemnity insurers, fees from preferred provider plans and
direct patient billings. The Company seeks to increase fee-for-service business
by expanding its operations within existing markets, entering new markets and
advertising.
The Company seeks to supplement fee-for-service business with revenue
derived from contracts with capitated managed dental care plans. Capitated
managed dental care relationships with the Company and the P.C.s increase
dentist productivity and facility utilization. These relationships also provide
increased co-payment revenue, referrals of additional fee-for-service patients
and opportunities for dentists practicing at the Dental Offices to educate
patients about the benefits of elective dental procedures that may not be
covered by the patients' capitated managed dental care plans.
The following table sets forth information regarding the sources of
revenue of the Company for the years ended December 31, 1998, 1997 and 1996:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
---------------------------------------------------------------------------------------
1998 1997 1996
------------------------- ------------------------- -------------------------
PERCENT PERCENT PERCENT
REVENUE SOURCE REVENUE OF TOTAL REVENUE OF TOTAL REVENUE OF TOTAL
---------- ---------- ---------- ---------- ---------- ----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Fee-for-Service (1) $ 77,453 59.8% $ 42,506 62.0% $ 21,863 60.8%
Managed Dental Care:
Capitation 34,764 26.8% 15,728 22.9% 8,142 22.6%
Co-payment 17,384 13.4% 10,385 15.1% 5,975 16.6%
---------- ---------- ---------- ---------- ---------- ----------
Total $ 129,601 100.0% $ 68,619 100.0% $ 35,980 100.0%
========== ========== ========== ========== ========== ==========
</TABLE>
(1) Constitutes Revenue derived from indemnity dental plans, preferred provider
plans and direct payments by patients not covered by any third party payor.
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OPERATIONS
The Company seeks to achieve operational efficiencies based on the best
practices identified in its affiliated dental groups. The Company adapts and
implements these practices throughout its provider networks, when appropriate,
to (i) reduce purchasing and administrative expenses, (ii) improve operational
efficiencies in such areas as scheduling, billing and personnel management and
(iii) introduce and standardize patient record keeping, treatment protocols and
technique utilization. The Company establishes and maintains geographically
dense networks of dentists in each of its markets. The Company believes that
these provider networks offer preferred provider and capitated managed dental
care plans the ability to enter the markets served by the networks more quickly
and comprehensively and to service their plan members more efficiently than
contracting through solo or smaller group practices. The Company believes these
networks provide it with advantages in establishing and maintaining
relationships with capitated managed dental care plans and other third-party
payors, including greater leverage than that of solo or smaller group practices
when negotiating provider agreements.
Recruiting
Establishing geographically dense networks of providers by effective
recruiting of qualified dentists is an important element of the Company's
business strategy. In the Company's experience, many dentists in the early
stages of their careers have incurred substantial student loans. As a result
they face significant financial constraints to starting their own practices or
buying into existing practices, especially in view of the capital-intensive
nature of modern dentistry. The Company believes that practice in its network of
Dental Offices offers both recently graduated dentists and more experienced
dentists without their own practices advantages over a solo or smaller group
practice, including relief from the burden of administrative and management
responsibilities and the resulting ability to focus almost exclusively on
practicing dentistry. Advantages to dentists may also include, depending upon
the market involved, compensation which rewards productivity, employee benefits
such as health insurance, paid vacation, continuing education, payment of
professional membership fees and malpractice insurance, and, for affiliated
specialists, the prospect of a steadier stream of referrals than a specialist
practicing independently. In markets in which it is difficult to recruit and
retain dentists, such as certain rural areas, the Company may seek to establish
partnerships in which these dentists retain a portion of the equity interest in
the practice.
The Company believes that hygienists, dental assistants and office
staff are critical to attracting and retaining patients. Accordingly, the
Company actively recruits such staff by offering salaries and benefits which it
believes are generally superior to those offered by many solo or smaller group
practices.
Call Centers; Scheduling
The Company maintains a regional call center in Dallas-Fort Worth. The
call center staff fields calls generated by advertising, schedules patient
visits, answers patient questions and initiates contact with patients for
follow-up of ongoing treatment programs. The Company has implemented or is
currently implementing similar call centers that will serve each of its other
markets.
The Company utilizes a centralized management information system in the
call centers to schedule patient appointments. The Dental Offices generally
offer extended office hours and Saturday appointments. The Company sends
patients to the Dental Office that is most convenient for the patient in terms
of timing and location. The Company's centralized scheduling systems provide the
Company with better control over patient scheduling, resulting in increased
productivity, as well as the ability to analyze and control the revenue mix at
the Dental Offices by balancing fee-for-service and capitated managed dental
care patients. This also enables the staff at each Dental Office to focus on
patient care and customer service by eliminating a significant number of
incoming calls.
Purchasing
The integration of the Dental Offices enables the Company to take
advantage of economies of scale that are generally not available to solo or
smaller group practices. The Company is able to purchase dental supplies,
laboratory
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services, insurance, office furniture, equipment, information systems and
advertising at reduced costs. The Company also can contract for employee
benefits at a lower cost than solo or smaller group practices typically can
obtain for themselves and their employees.
Management Information Systems
The Company has licensed for use at its Dental Offices a management
information system for dental practice management. The majority of the Dental
Offices are currently utilizing this information system. The Company uses the
information system to track data related to each Dental Office's operations and
financial performance. The information system can provide each of the Dental
Offices with data such as patient and practitioner scheduling information,
insurance coverage information, clinical record-keeping and revenue and
collection data (including credit history). Within each market, the Company uses
the information system to manage billing and collections, including electronic
insurance claims processing. In addition, the Company uses the information
system to provide information for case management and outcome related research.
Quality Assurance
The Company requires the dentists and hygienists at each of its Dental
Offices to develop and implement clinical management procedures and treatment
protocols, as well as uniform business and administrative standards under which
dental services are provided. These procedures, protocols and standards vary
from region to region and are determined by the Dental Directors in each region
in consultation with and under the guidance of a committee of the Regional
Dental Directors. The protocols include treatment planning, diagnostic
screening, radiographic records, record keeping, specialty referrals and dental
hygiene protocols. State licensing authorities require dentists to undergo
annual training. The dentists and hygienists practicing at the Dental Offices
can obtain some of the required continuing education training through the
Company's internal training programs in each regional market, certain of which
have been accredited by the Academy of General Dentistry.
AFFILIATION STRUCTURE
Relationship with P.C.s
In states in which the ownership of dental practices by non-dentists is
prohibited, the Company derives all of its revenue from its Management
Agreements with the P.C.s. Under each of the Management Agreements, the Company
receives a management fee equal to the Company's costs plus the lower of (i) 30%
of the P.C.'s net revenues or (ii) the P.C.'s net pre-tax income. The Company's
costs include all direct and indirect costs, overhead and expenses relating to
the Company's provision of services to the P.C.s under the Management
Agreements, such that substantially all costs associated with the provision of
dental services at the Dental Offices are borne by the Company, other than the
compensation and benefits of the dentists and hygienists who are employed by or
are independent contractors of the P.C.s. Under the Management Agreements, the
Company provides the P.C.s with, among other things, the facilities,
administrative personnel and supplies, as well as numerous services, including
administrative, accounting, cash management, financial statements and reports,
budgeting including capital expenditures, recruiting, insurance, litigation
management, negotiation of managed dental care contracts (which are entered into
by the Company and the P.C.s (except in Wisconsin)), management information
systems, billing and collection services. Each Management Agreement is for a
term of 40 years, with automatic renewal thereafter. Further, each Management
Agreement generally may be terminated by the P.C. only for cause, which includes
an uncured breach of the agreement by the Company, or upon the P.C.'s bankruptcy
or voluntary dissolution and may be terminated by the Company as of any
anniversary date of the Management Agreement upon 90 days' prior written notice.
In addition to the Management Agreements, the Company has a contractual right to
designate or approve the licensed dentists who own each P.C.'s capital stock.
Because the Company establishes a "controlling financial interest" under the
Management Agreements, the Company consolidates the dental group practices. In
states in which non-dentists are permitted to own dental practices, such as
Wisconsin, there is no need for this structure and the dentists are employed
directly by or are independent contractors of the Company.
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Employment Agreements
All dentists practicing at the Dental Offices have entered into
employment agreements, or independent contractor agreements through their
professional corporations, with the P.C.s or, in the case of dentists practicing
in dental offices located in states (currently Wisconsin) in which the ownership
of dental practices by the Company is permitted, the Company. Such agreements
typically contain a non-competition agreement for up to three years following
their termination within a specified geographic area, usually a specified number
of miles from the relevant Dental Office. The employment agreements with
dentists who have sold their practices to the Company generally are for a
specified initial term of up to five years. Under each agreement, the dentist
assigns billing and collection rights to the P.C., in the case of states in
which non-dentists are permitted to own dental practices, or to the P.C. in
other states, with the P.C. in turn assigning such rights to the Company under
the terms of the applicable Management Agreement. In return, the dentist
receives either a fixed salary or collections-based compensation, which may have
a minimum guarantee, and a package of benefits which varies from region to
region. The dentists' compensation and benefits are paid by the entity, either
the Company or the relevant P.C., with whom the dentist has entered into an
employment agreement.
COMPETITION
The dental services industry is highly fragmented, consisting primarily
of solo and smaller group practices. The dental practice management segment of
this industry, currently in its formative stage, is highly competitive and is
expected to become more competitive. In this regard, the Company expects that
the provision of multi-specialty dental services at convenient locations will
become increasingly more common. The Company is aware of several dental practice
management companies that are currently operating in its existing markets.
Companies with dental practice management businesses similar to that of the
Company, which currently operate in other parts of the country, may begin
targeting the Company's existing markets for expansion. Such competitors may be
better capitalized or otherwise enjoy competitive advantages which may make it
difficult for the Company to compete against them or to acquire additional
Dental Offices on terms acceptable to the Company. As the Company seeks to
expand its operations into new markets, it is likely to face competition from
dental practice management companies which already have established a strong
business presence in such locations.
The business of providing general dental, orthodontic and other
specialty dental services is highly competitive in the markets in which the
Company operates. The Company believes it competes with other providers of
dental and specialty services on the basis of factors such as brand name
recognition, convenience, cost and the quality and range of services provided.
Competition may include practitioners who have more established practices and
reputations. The Company's affiliated dental practices also compete in the
retention and recruitment of general dentists, specialists and clinical staff.
If the availability of dentists begins to decline in the Company's markets, it
may become more difficult to attract qualified dentists to staff the Dental
Offices sufficiently or to expand them. The Dental Offices may not be able to
compete effectively against other existing practices or against new single or
multi-specialty dental practices that enter its markets, or to compete against
such other practices in the recruitment of qualified dentists.
GOVERNMENT REGULATION
The practice of dentistry is regulated at both the state and federal
levels. There can be no assurance that the regulatory environment in which the
Company or P.C.s operate will not change significantly in the future. The laws
and regulations of all states in which the Company operates impact the Company's
operations but do not currently materially restrict the Company's operations in
those states. In addition, state and federal laws regulate health maintenance
organizations and other managed care organizations for which dentists may be
providers. In general, regulation of health care-related companies is
increasing. In connection with its operations in existing markets and expansion
into new markets, the Company may become subject to additional laws, regulations
and interpretations or enforcement actions. The ability of the Company to
operate profitably will depend in part upon the ability of the Company and the
P.C.s to operate in compliance with applicable health care regulations.
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State Regulation
The laws of many states, including all states in which the Company
currently operates, except Wisconsin, permit a dentist to conduct a dental
practice only as an individual, a member of a partnership or an employee of a
professional corporation, limited liability company or limited liability
partnership. These laws typically prohibit, either by specific provision or as a
matter of general policy, non-dental entities, such as the Company, from
practicing dentistry, from employing dentists and, in certain circumstances,
hygienists or dental assistants, or from otherwise exercising control over the
provision of dental services. Because under the Management Agreements the
Company bears all costs associated with the provision of dental services by the
P.C.s at the Dental Offices other than compensation and benefits of dentists and
hygienists and determines annual budgets for the P.C.s, the Company is
effectively able to manage the profitability of the Dental Offices. Under the
Management Agreements, however, the P.C.s control all clinical aspects of the
practice of dentistry and the provision of dental services at the Dental
Offices, including the exercise of independent professional judgment regarding
the diagnosis or treatment of any dental disease, disorder or physical
condition. Under the Management Agreements, persons to whom dental services are
provided at the Dental Offices are patients of the P.C.s and not of the Company
and the Company does not have or exercise any control or direction over the
manner or methods in which dental services are performed nor does the Company
interfere in any way with the exercise of professional judgment by the dentists
who are employees or independent contractors of the P.C.s.
Many states in which the Company's Dental Offices presently are located
have fraud and abuse laws which are similar to the federal fraud and abuse law
described below, and which in many cases apply to referrals for items or
services reimbursable by any insurer, not just by Medicare and Medicaid. A
number of states, including all of the states in which Dental Offices are
currently located, also impose significant penalties for submitting false claims
for dental services. Many states, including all of the states in which the
Dental Offices are currently located, either prohibit or require disclosure of
self-referral arrangements and impose penalties for the violation of these laws.
Many states also prohibit dentists from splitting fees with non-dentists.
Many states limit the ability of a person other than a licensed dentist
to own or control equipment or offices used in a dental practice. Some of these
states allow leasing of equipment and office space to a dental practice, under a
bona fide lease, if the equipment and office remain under the control of the
dentist. Some states (none in which the Company currently operates) prohibit the
advertising of dental services under a trade or corporate name. Some states,
including Arkansas, require all advertisements to be in the name of the dentist.
A number of states also regulate the content of advertisements of dental
services and the use of promotional gift items. In addition, many states impose
limits on the tasks that may be delegated by dentists to hygienists and dental
assistants. Some states (none in which the Company currently operates) require
entities designated as "clinics" to be licensed, and may define clinics to
include dental practices that are owned or controlled in whole or in part by
non-dentists. These laws and their interpretations vary from state to state and
are enforced by the courts and by regulatory authorities with broad discretion.
In addition, there are certain regulatory risks associated with the
Company's role in negotiating and administering managed care contracts. The
application of state insurance laws to third-party payor arrangements, other
than fee-for-service arrangements, is an unsettled area of law with little
guidance available. As the Company or the P.C.s contract with third-party
payors, on a capitation or other basis under which the Company or the relevant
P.C. assumes financial risk, the Company or the P.C.s may become subject to
state insurance laws. Specifically, in some states, regulators may determine
that the Company or the P.C.s are engaged in the business of insurance,
particularly if they contract on a financial-risk basis directly with
self-insured employers or other entities that are not licensed to engage in the
business of insurance. To the extent that the Company or the P.C.s are
determined to be engaged in the business of insurance, the Company may be
required to change the method of payment from third-party payors and the
Company's revenue may be materially and adversely affected.
Federal Regulation
Many of the federal laws regulating the provision of dental care apply
only to dental services which are reimbursed under the Medicare or Medicaid
programs. Because very little dental care is currently provided by Medicare
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and Medicaid, the Company derives very little revenue from these programs.
Therefore, the current impact of these laws is negligible. However, there can be
no assurance that the reach of these laws will not be expanded in the future to
cover services reimbursable by any payor. If these laws were to be expanded in
such a manner, they could have a material adverse effect upon the Company.
The federal fraud and abuse statute prohibits, subject to certain safe
harbors, the payment, offer, solicitation or receipt of any form of remuneration
in return for, or in order to induce, (i) the referral of a person for service,
(ii) the furnishing or arranging for the furnishing of items or services or
(iii) the purchase, lease or order or the arrangement or recommendation of a
purchase, lease or order of any item or service which is, in each case,
reimbursable under Medicare or Medicaid. The statute reflects the federal
government's policy of increased scrutiny of joint ventures and other
transactions among health care providers in an effort to reduce potential fraud
and abuse related to Medicare and Medicaid costs. Because dental services are
covered under various government programs, including Medicare and Medicaid, this
federal law applies to dentists and the provision of dental services.
Significant prohibitions against dentist self-referrals for services
covered by Medicare and Medicaid programs were enacted, subject to certain
exceptions, by Congress in the Omnibus Budget Reconciliation Act of 1993. These
prohibitions, commonly known as Stark II, amended prior physician and dentist
self-referral legislation known as Stark I (which applied only to clinical
laboratory referrals) by dramatically enlarging the list of services and
investment interests to which the self-referral prohibitions apply. Effective
January 1, 1995, Stark II prohibits a physician or dentist, or a member of his
or her immediate family, from making referrals for certain "designated health
services" to entities in which the physician or dentist has an ownership or
investment interest, or with which the physician or dentist has a compensation
arrangement. "Designated health services" include, among other things, clinical
laboratory services, radiology and other diagnostic services, radiation therapy
services, durable medical equipment, prosthetics, outpatient prescription drugs,
home health services and inpatient and outpatient hospital services. Stark II
prohibitions include referrals within the physician's or dentist's own group
practice (unless such practice satisfies the "group practice" exception) and
referrals in connection with the physician's or dentist's employment
arrangements with the P.C. (unless the arrangement satisfies the employment
exception). Stark II also prohibits billing the Medicare or Medicaid programs
for services rendered following prohibited referrals. Noncompliance with, or
violation of, Stark II can result in exclusion from the Medicare and Medicaid
programs and civil and criminal penalties. The Company believes that its
operations as presently conducted do not pose a material risk under Stark II,
primarily because the Company does not provide "designated health services."
Even if the Company were deemed to provide "designated health services," the
Company believes its activities would be protected under the employment and
group practice exceptions to Stark II. Nevertheless, there can be no assurance
that Stark II will not be interpreted or hereafter amended in a manner that has
a material adverse effect on the Company's operations as presently conducted.
Proposed federal regulations also govern physician incentive plans
associated with certain managed care organizations that offer risk-based
Medicare or Medicaid contracts. These regulations define physician incentive
plans to include any compensation arrangement (such as capitation arrangements,
bonuses and withholds) that may directly or indirectly have the effect of
reducing or limiting services furnished to patients covered by the Medicare or
Medicaid programs. Direct monetary compensation which is paid by a managed care
plan, dental group or intermediary to a dentist for services rendered to
individuals covered by the Medicare or Medicaid programs is subject to these
regulations, if the compensation arrangement places the dentist at substantial
financial risk. When applicable, the regulations generally require disclosure to
the federal government or, upon request, to a Medicare beneficiary or Medicaid
recipient regarding such financial incentives, and require the dentist to obtain
stop-loss insurance to limit the dentist's exposure to such financial risk. The
regulations specifically prohibit physician incentive plans which involve
payments made to directly induce the limitation or reduction of medically
necessary covered services. A recently enacted federal law specifically exempts
managed care arrangements from the application of the federal anti-kickback
statute (the principal federal health care fraud and abuse law), but there is a
risk this exemption may be repealed. It is unclear how the Company will be
affected in the future by the interplay of these laws and regulations.
The Company may be subject to Medicare rules governing billing agents.
These rules prohibit a billing agent from receiving a fee based on a percentage
of Medicare collections and may require Medicare payments for the services of
dentists to be made directly to the dentist providing the services or to a lock
box account opened in the name of the applicable P.C.
11
<PAGE> 12
Federal regulations also allow state licensing boards to revoke or
restrict a dentist's license in the event such dentist defaults in the payment
of a government-guaranteed student loan, and further allow the Medicare program
to offset such overdue loan payments against Medicare income due to the
defaulting dentist's employer. The Company cannot assure compliance by dentists
with the payment terms of their student loans, if any.
Revenues of the P.C.s or the Company from all insurers, including
governmental insurers, are subject to significant regulation. Some payors limit
the extent to which dentists may assign their revenues from services rendered to
beneficiaries. Under these "reassignment" rules, the Company may not be able to
require dentists to assign their third-party payor revenues unless certain
conditions are met such as acceptance by dentists of assignment of the payor
receivables from patients, reassignment to the Company of the sole right to
collect the receivables, and written documentation of the assignment. In
addition, governmental payment programs such as Medicare and Medicaid limit
reimbursement for services provided by dental assistants and other ancillary
personnel to those services which were provided "incident to" a dentist's
services. Under these "incident to" rules, the Company may not be able to
receive reimbursement for services provided by certain members of the Company's
Dental Office staff unless certain conditions are met such as requirements that
services must be of a type commonly furnished in a dentist's office and must be
rendered under the dentist's direct supervision and that clinical Dental Office
staff must be employed by the dentist or the P.C. The Company does not currently
derive a significant portion of its Revenue under such programs.
The operations of the Dental Offices are also subject to compliance
with regulations promulgated by the Occupational Safety and Health
Administration ("OSHA"), relating to such matters as heat sterilization of
dental instruments and the usage of barrier techniques such as masks, goggles
and gloves. The Company incurs expenses on an ongoing basis relating to OSHA
monitoring and compliance.
Although the Company believes its operations as currently conducted are
in material compliance with existing applicable laws, there can be no assurance
that the Company's contractual arrangements will not be successfully challenged
as violating applicable fraud and abuse, self-referral, false claims,
fee-splitting, insurance, facility licensure or certificate-of-need laws or that
the enforceability of such arrangements will not be limited as a result of such
laws. In addition, there can be no assurance that the business structure under
which the Company operates, or the advertising strategy the Company employs,
will not be deemed to constitute the unlicensed practice of dentistry or the
operation of an unlicensed clinic or health care facility. The Company has not
sought judicial or regulatory interpretations with respect to the manner in
which it conducts its business. There can be no assurance that a review of the
business of the Company and the P.C.s by courts or regulatory authorities will
not result in a determination that could materially and adversely affect their
operations or that the regulatory environment will not change so as to restrict
the Company's existing or future operations. In the event that any legislative
measures, regulatory provisions or rulings or judicial decisions restrict or
prohibit the Company from carrying on its business or from expanding its
operations to certain jurisdictions, structural and organizational modifications
of the Company's organization and arrangements may be required, which could have
a material adverse effect on the Company, or the Company may be required to
cease operations.
INSURANCE
The Company maintains professional malpractice and general liability
insurance for itself and maintains professional liability insurance covering
dentists, hygienists and dental assistants at the Dental Offices. The Company
generally is a named insured under such policies and is named as an additional
insured on each individual dentist's policy. The Company maintains general
liability and umbrella coverage, including malpractice coverage, of up to $5
million per occurrence and $5 million in the aggregate. Certain types of risks
and liabilities are not covered by insurance, however, and there can be no
assurance that coverage will continue to be available upon terms satisfactory to
the Company or that the coverage will be adequate to cover losses. Malpractice
insurance, moreover, can be expensive and varies from state to state. Successful
malpractice claims asserted against the dentists, the P.C.s or the Company may
have a material adverse effect on the Company's business, financial condition
and operating results. While the Company believes its insurance policies are
adequate in amount and coverage for its current
12
<PAGE> 13
operations, there can be no assurance that the coverage maintained by the
Company will be sufficient to cover all future claims or will continue to be
available in adequate amounts or at a reasonable cost.
EMPLOYEES
As of December 31, 1998, the Company had approximately 1,789 employees,
including 45 dentists and 51 hygienists located at Midwest but excluding the 425
dentists and 432 hygienists employed by or contracting with the P.C.s. The
Company is not party to any collective bargaining agreement with a labor union
and considers its relations with its employees to be satisfactory.
ITEM 2. PROPERTIES
The Company's corporate headquarters are located at 4201 Spring Valley
Road, Dallas, Texas, in approximately 8,500 square feet occupied under a lease
which expires on December 31, 1999.
The Company also leases real estate at the location of each Dental
Office. Typically, each acquired Dental Office is located at the site used by
the respective selling dentist prior to the Company's acquisition. For the year
ended December 31, 1998, the Company had lease costs of approximately $6.3
million.
ITEM 3. LEGAL PROCEEDINGS
On January 8, 1999, a judgment in the amount of $1.1 million was
entered for a formerly employed dentist and against Managed Dental Care Centers,
Inc., a subsidiary of which the Company owns 65%. The judgment awards damages
for fraud, tortious interference and breach of employment and purchase
agreements, as well as punitive damages. The Company has filed a motion for a
new trial and a motion for judgment notwithstanding the verdict. Furthermore,
the Company is indemnified against this claim and all legal fees, costs and
expenses related thereto by the former shareholders (and current minority
partners) of Managed Dental Care Centers, Inc., although the ability to collect
under this indemnification may be in question. The Company intends to contest
this matter vigorously.
On February 8, 1999, the Company was served with a Notice and Demand
for Arbitration on behalf of four limited partnerships who were among the
principal stockholders of Valley Forge Dental Associates, Inc. ("Valley Forge")
in the merger which closed on September 10, 1998, all of which are associated
with Foster Management Company of Valley Forge, Pennsylvania (collectively, the
"Former Principal Stockholders"). In the Notice and Demand for Arbitration, the
Former Principal Stockholders assert claims based on alleged misrepresentations
and / or non-disclosures by the Company in connection with the Valley Forge
transaction and seek damages in an amount not less than $8 million. The Company
believes that these claims are without merit and intends to defend them
vigorously, including seeking an award of its legal fees, costs and expenses.
The Company believes that the defense of the claims could involve significant
litigation-related expenses but that it will not have a material adverse effect
on its financial condition or results of operations; however, there can be no
assurance that this will be the case.
In addition to the matters discussed above, the Company is engaged in
various legal proceedings incidental to its business activities. Management does
not believe the resolution of such matters will have a material adverse effect
on the Company's financial position, results of operations or liquidity.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the
fourth quarter of fiscal year 1998.
13
<PAGE> 14
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
MARKET INFORMATION
The Common Stock of the Company has been traded on the Nasdaq National
Market since the Company's initial public offering on July 18, 1997 and trades
under the symbol "MDDS". The Company may be delisted from the Nasdaq National
Market following the completion of delisting proceedings currently in progress
within the next few months if the price of its Common Stock does not reach and
sustain a price of at least $5 per share. The following table sets forth the
high and low sale prices for the Common Stock during the periods indicated.
<TABLE>
<CAPTION>
PERIOD HIGH ($) LOW ($)
----------------------------------------------- -------- ------
<S> <C> <C>
1997
Third Quarter (from July 18).............. 23.8750 14.9375
Fourth Quarter............................ 21.7500 11.2500
1998
First Quarter............................. 17.750 11.000
Second Quarter............................ 19.750 12.000
Third Quarter............................. 16.875 9.375
Fourth Quarter............................ 14.375 3.625
</TABLE>
HOLDERS
As of March 16, 1999, the closing price of the Common Stock was $3.375.
The number of record holders of the Company's Common Stock as of March 16, 1999
was 167. The Company believes the number of beneficial owners of the Company's
Common Stock at that date was substantially greater.
DIVIDENDS
The Company has not declared or paid any cash dividends on its Common
Stock since it became a C corporation in February 1996. The Company currently
intends to retain its earnings for future growth and, therefore, does not
anticipate paying cash dividends in the foreseeable future. Payment of future
dividends, if any, will be at the discretion of the Company's Board of Directors
after taking into account various factors, including the Company's financial
condition, operating results and current and anticipated cash needs. In
addition, under the terms of the Company's senior credit facility, the payment
of cash dividends is currently prohibited without the consent of the lender.
14
<PAGE> 15
CHANGES IN SECURITIES AND USE OF PROCEEDS
In September 1998, pursuant to a Stock Purchase Agreement, the Company
granted options to purchase 350,000 shares of Common Stock at an exercise price
of $11.375 per share to certain employees of the Company.
In November 1998, pursuant to a Stock Purchase Agreement, the Company
issued 820 shares of Common Stock to Bernard Baros as consideration for
achieving specified financial performance goals in reliance upon the exemption
from registration under Regulation D promulgated under the Securities Act.
In December 1998, pursuant to a Stock Purchase Agreement, the Company
issued 49,852 shares of Common Stock to Craig Abramowitz, Richard Poller, John
Borchers and Kenneth Reynolds as consideration for achieving specified financial
performance goals in reliance upon the exemption from registration
under Regulation D promulgated under the Securities Act.
ITEM 6. SELECTED FINANCIAL DATA
The information set forth in "Selected Consolidated Financial
Information" on pages 9 through 10 of the Annual Report to Stockholders for the
fiscal year ended December 31, 1998 is incorporated herein by reference.
15
<PAGE> 16
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The information set forth in "Management's Discussion and Analysis of
Financial Condition and Results of Operations" on pages 11 through 20 of the
Annual Report to Stockholders for the fiscal year ended December 31, 1998 is
incorporated herein by reference.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated financial statements of the Company set forth on pages
21 through 32 of the Annual Report to Stockholders for the fiscal year ended
December 31, 1998 is incorporated herein by reference.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
16
<PAGE> 17
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information appearing under the captions "Information Regarding
Directors" and "Executive Officers" in the registrant's definitive proxy
statement dated April 5, 1999 relating to the Annual Meeting of Stockholders to
be held on May 11, 1999 is incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
The information appearing under the caption "Executive Compensation" in
the registrant's definitive proxy statement dated April 5, 1999 relating to the
Annual Meeting of Stockholders to be held on May 11, 1999 is incorporated herein
by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information appearing under the caption "Principal and Management
Stockholders" in the registrant's definitive proxy statement dated April 5, 1999
relating to the Annual Meeting of Stockholders to be held on May 11, 1999 is
incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information appearing under the caption "Certain Transactions" in
the registrant's definitive proxy statement dated April 5, 1999 relating to the
Annual Meeting of Stockholders to be held on May 11, 1999 is incorporated herein
by reference.
17
<PAGE> 18
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS FILED ON FORM 8-K
(a) Documents Filed as Part of this Annual Report on Form 10-K:
1. Financial Statements: The following Consolidated Financial
Statements of Monarch Dental Corporation and Report of
Independent Public Accountants, are incorporated by
reference to pages 21 through 32 of the Registrant's 1998
Annual Report to Stockholders:
Report of Independent Public Accountants
Consolidated Balance Sheets at December 31, 1998 and
1997
Consolidated Statements of Income for the Years Ended
December 31, 1998, 1997 and 1996
Consolidated Statements of Stockholders' Equity for the
Years Ended December 31, 1998, 1997 and 1996
Consolidated Statements of Cash Flows for the Years
Ended December 31, 1998, 1997 and 1996
Notes to Consolidated Financial Statements
2. Financial Statement Schedules: The following financial
statement schedule for Monarch Dental Corporation is filed
as part of this Annual Report and should be read in
conjunction with the Consolidated Financial Statements of
Monarch Dental Corporation:
Schedule II - Valuation and Qualifying Accounts
Schedules not listed above have been omitted because they
are not applicable or are not required or the information
required to be set forth therein is included in the
Consolidated Financial Statements or Notes thereto.
3. Exhibits:
The Exhibits listed on the accompanying Exhibit Index
immediately following the financial statement schedules are
filed as part of, or incorporated by reference into, this
Annual Report.
(b) Reports on Form 8-K.
The Company filed a Form 8-K, dated September 25, 1998, reporting
the acquisition of Valley Forge Dental Associates, Inc. which was
amended to add Financial Statements and pro forma financial
information by Form 8-K/A (Amendment No. 1), dated November 24,
1998.
The Company filed a Form 8-K, dated October 2, 1998, reporting
the acquisition of certain assets of Talbert Medical Management
Corporation.
18
<PAGE> 19
(c) Exhibits
The Company hereby files as part of this Annual Report on Form
10-K the Exhibits listed in the attached Exhibit Index pages of
this Annual Report.
(d) Financial Statement Schedules
The Company hereby files as part of this Annual Report on Form
10-K the financial statement schedule listed in item 14 (a) 2 as
set forth above.
19
<PAGE> 20
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.
MONARCH DENTAL CORPORATION
Date: March 31, 1999 By: /s/ GARY W. CAGE
------------------------------
Gary W. Cage
Chief Executive Officer
Date: March 31, 1999 By: /s/ STEVEN G. PETERSON
------------------------------
Steven G. Peterson
Chief Financial Officer
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature
appears below constitutes and appoints Warren F. Melamed and Gary W. Cage, joint
and severally, his or her attorneys-in-fact, each with the power of
substitution, for such person in any and all capacities, to sign any amendments
to this Report on Form 10-K, and to file the same, with exhibits thereto and
other documents in connection therewith, with the Securities and Exchange
Commission, hereby ratifying and confirming all that each of said
attorneys-in-fact, or substitute or substitutes, may do or cause to be done by
virtue hereof.
Pursuant to the requirements of the Securities and Exchange Act of 1934, this
Report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated below.
<TABLE>
<CAPTION>
Signature Title Date
- --------- ----- ----
<S> <C> <C>
/s/ WARREN F. MELAMED, D.D.S. Chairman of the Board March 31, 1999
- ------------------------------------- and Director
Warren F. Melamed, D.D.S.
/s/ GARY W. CAGE Chief Executive Officer, March 31, 1999
- ------------------------------------- President
Gary W. Cage and Director
/s/ STEVEN G. PETERSON Chief Financial Officer March 31, 1999
- ------------------------------------- (principal financial officer
Steven G. Peterson and principal accounting officer)
/s/ GLENN E. HEMMERLE Director March 31, 1999
- -------------------------------------
Glenn E. Hemmerle
/s/ ROGER B. KAFKER Director March 31, 1999
- -------------------------------------
Roger B. Kafker
/s/ JOHN E. MAUPIN, JR., D.D.S. Director March 31, 1999
- -------------------------------------
John E. Maupin, Jr., D.D.S
/s/ W. BARGER TYGART Director March 31, 1999
- -------------------------------------
W. Barger Tygart
</TABLE>
20
<PAGE> 21
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Stockholders of
Monarch Dental Corporation:
We have audited in accordance with generally accepted auditing standards, the
consolidated financial statements of Monarch Dental Corporation and subsidiaries
included in this Form 10-K and have issued our report thereon dated March 11,
1999. Our audit was made for the purpose of forming an opinion on the basic
financial statements taken as a whole. The schedule listed in the index to the
financial statement schedules is presented for the purposes of complying with
the Securities and Exchange Commission's rules and is not part of audit of the
basic financial statements and, in our opinion, fairly states in all material
respects the financial data required to be set forth therein in relation to the
basic financial statements taken as a whole.
ARTHUR ANDERSEN LLP
Dallas, Texas,
March 11, 1999
<PAGE> 22
SCHEDULE II
MONARCH DENTAL CORPORATION AND SUBSIDIARIES
VALUATION AND QUALIFYING ACCOUNTS
FOR THE YEARS ENDED DECEMBER 31, 1998, 1997, AND 1996
(IN THOUSANDS)
<TABLE>
<CAPTION>
ADDITIONS ADDITIONS
BALANCE AT CHARGED TO FROM BALANCE
BEGINNING COSTS AND ACQUIRED AT END
CLASSIFICATION OF PERIOD EXPENSES COMPANIES DEDUCTIONS OF PERIOD
-------------- --------- --------- --------- ---------- ---------
<S> <C> <C> <C> <C> <C>
December 31, 1998:
Allowance for Doubtful Accounts $ 2,865 $ 2,861 $ 5,086 $ (2,684)(b) $ 8,128
Accumulated Amortization of Intangible
Assets 1,677 6,262 -- (3,317) 4,622
--------- --------- --------- --------- ---------
Total Reserves and Allowances $ 4,542 $ 9,123 $ 5,086 $ (6,001) $ 12,750
========= ========= ========= ========= =========
December 31, 1997:
Allowance for Doubtful Accounts $ 1,676 $ 1,546 $ 1,547 $ (1,904)(b) $ 2,865
Accumulated Amortization of Intangible
Assets 573 1,127 -- (23) 1,677
--------- --------- --------- --------- ---------
Total Reserves and Allowances $ 2,249 $ 2,673 $ 1,547 $ (1,927) $ 4,542
========= ========= ========= ========= =========
December 31, 1996:
Allowance for Doubtful Accounts $ 385 $ 1,324 $ 851 $ (884)(b) $ 1,676
Accumulated Amortization of Intangible
Assets -- 573 -- -- 573
--------- --------- --------- --------- ---------
Total Reserves and Allowances $ 385 $ 1,897 $ 851 $ (884) $ 2,249
========= ========= ========= ========= =========
</TABLE>
(a) This schedule should be read in conjunction with the Company's audited
consolidated financial statements and related notes thereto.
(b) Write-off of uncollectible receivables net of recoveries of bad debt
write-offs.
<PAGE> 23
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT
NUMBER EXHIBIT
------ -------
<S> <C>
2.1 Stock Redemption Agreement dated as of February 5, 1996 by
and between the Registrant and Warren F. Melamed, D.D.S.
(excluding schedules, which the Registrant agrees to furnish
supplementally to the Commission upon request) (1)
2.2 Stock Purchase Agreement dated as of February 5, 1996 by and
among the Registrant and the investors named therein
(excluding schedules, which the Registrant agrees to furnish
supplementally to the Commission upon request) (1)
2.3 Asset Contribution Agreement dated as of January 31, 1996 by
and among the Registrant, Shears Vanguard Ltd., Shears
Vanguard Inc., MDC Dental, Inc., Shears Vanguard SMI Inc.,
Shears Vanguard General, Inc. and Charles G. Shears, D.D.S.
(excluding schedules, which the Registrant agrees to furnish
supplementally to the Commission upon request) (1)
2.4 Asset Contribution Agreement dated as of February 5, 1996 by
and among the Registrant, Warren F. Melamed, D.D.S. and Roy
D. Smith, III, D.D.S. (excluding schedules, which the
Registrant agrees to furnish supplementally to the
Commission upon request) (1)
2.5 Stock Purchase Agreement dated as of August 29, 1996 by and
between the Registrant and David L. Hehli, D.D.S. (excluding
exhibit, which the Registrant agrees to furnish
supplementally to the Commission upon request) (1)
2.6 Agreement and Plan of Merger dated as of June 19, 1997 by
and among the Registrant, Dental Centers of Indiana
(Monarch), Inc., Dental Centers of Indiana, Inc., James W.
Willis, Mark R. Johnson and Thurman H. Brown, II (excluding
exhibits, which the Registrant agrees to furnish
supplementally to the Commission upon request) (3)
2.7 First Amendment to Agreement and Plan of Merger dated as of
July 25, 1997 by and among Monarch Dental Corporation,
Dental Centers of Indiana (Monarch), Inc., Dental Centers of
Indiana, Inc. and James W.
Willis, Mark R. Johnson, and Thurman H. Brown, II (4)
2.8 Asset Purchase Agreement dated as of November 12, 1997 by
and among Monarch Dental (Press) Associates, L.P., Victor
Press, B.D.S., P.C., VP Investments, Inc., Victor Press,
Roger Obregon, Edgardo A. Gonzalez, Jeffrey J. Jacobs,
Campbell R. Janse, Nick M. Higgins, Frank B. Lewis and Bruce
M. Kral (excluding exhibits, which the Registrant agrees to
furnish supplementally to the Commission upon request) (5)
*2.9 Agreement and Plan of Merger, dated as of September 1, 1998,
by and among Monarch Dental Corporation, Valley Forge Dental
Associates, Inc., DFV Acquisition Corp. and certain
stockholders of Valley Forge Dental Associations, Inc.
(excluding exhibits, which the Registrant agrees to furnish
supplementally to the Commission upon request) (6)
*2.10 Asset Purchase Agreement, dated as of September 1, 1998, by
and among Monarch Dental Associates (Utah), Inc., Robert
Anderson, D.D.S., Inc., James Brodahl, D.D.S., Inc., Larry
Kaban, D.D.S., Inc., John Whitley, D.D.S., Inc., Talbert
Dental Group, P.C., Talbert Dental Group, Inc. and Talbert
Medical Management Corporation (excluding exhibits, which
the Registrant agrees to furnish supplementally to the
Commission upon request) (7)
3.1 Restated Certificate of Incorporation (8)
3.2 Second Amended and Restated By-Laws (8)
4.1 Specimen certificate for Shares of Common Stock, $.01 par
value, of the Registrant (2)
10.1 Monarch Dental Corporation 1996 Stock Option and Incentive
Plan, as amended (2)
10.2 Monarch Dental Corporation 1997 Employee Stock Purchase Plan
(1)
10.3 Monarch Dental Corporation 1996 Equity Acquisition
Option Plan (2)
</TABLE>
<PAGE> 24
<TABLE>
<CAPTION>
EXHIBIT
NUMBER EXHIBIT
------ -------
<S> <C>
10.4 Amended and Restated Stockholders' Agreement dated as of
August 29, 1996 by and among the Registrant, the TA
Investors (as defined), the MacGregor Investors (as
defined), the Monarch Investors (as defined) and the Hehli
Investors (as defined) (2)
10.6 Amended and Restated Non-Competition Agreement dated as of
July 1, 1997 by and between the Registrant and Warren F.
Melamed, D.D.S. (3)
10.7 Management Agreement by and between Modern Dental
Professionals, P.C. and Monarch Dental Associates, L.P. (2)
10.8 Management Agreement by and between Modern Dental
Professionals, P.C. and MacGregor Dental Associates, L.P.
(2)
10.9 Management Agreement by and between Modern Dental
Professionals - Girlinghouse, P.A. and Convenient Dental
Care, Inc. (2)
10.10 Management Agreement by and between Modern Dental
Professionals - Beavers, P.A. and Arkansas Dental Health
Associates, Inc. (2)
10.11 Management Agreement by and between Modern Dental
Professionals / UDC - Girlinghouse, P.A. and United Dental
Care, Inc. (2)
10.12 Management Agreement by and between William T. Harris and
Associates, a Professional Dental Corporation and United
Dental Care, Inc. (2)
10.13 Management Agreement by and between United Dental Care Tom
Harris, D.D.S. & Associates and United Dental Care, Inc. (2)
10.14 Management Agreement by and between Modern Dental
Professionals - Indiana, P.C. and Dental Centers of Indiana
(Monarch), Inc.(8)
10.15 Management Agreement by and between Modern Dental
Professionals - Colorado, P.C. and Three Peaks Dental
Management, Inc.(8)
10.16 Restricted Stock Agreement dated as of February 6, 1996 by
and between the Registrant and Warren F. Melamed, D.D.S. (1)
10.17 Primary Care Dentist Agreement effective April 1, 1997 by
and between Prudential Dental Maintenance Organization, Inc.
and Modern Dental Professionals, P.C. and Monarch Dental
Associates, L.P. (excluding certain portions which have been
omitted as indicated based upon a request for confidential
treatment, but which have been separately filed with the
Commission) (2)
</TABLE>
<PAGE> 25
<TABLE>
<CAPTION>
EXHIBIT
NUMBER EXHIBIT
------ -------
<S> <C>
10.18 Dental Service Agreement dated January 1, 1995 by and
between Compcare Health Services Insurance Corporation and
Advance Dental Management, Inc. (excluding certain portions
which have been omitted as indicated based upon a request
for confidential treatment, but which have been separately
filed with the Commission) (2)
10.19 Form of Director Indemnification Agreement (1)
10.20 Sublease Agreement dated as of March 7, 1996 by and between
Old American Country Mutual Fire Insurance Company and Oral
Health Concepts Inc. (1)
10.21 Office Lease Agreement dated as of September 6, 1996 by and
between Government Employees Insurance Company and Monarch
Dental Associates, L.P. (1)
10.22 Employment Agreement dated as of July 1, 1997 by and among
the Registrant, Monarch Dental Associates, L.P. and Warren
F. Melamed, D.D.S. (3)
10.23 Employment Agreement dated as of July 1, 1997 by and among
the Registrant, Monarch Dental Associates, L.P. and Mr. Gary
W. Cage (3)
10.24 Non-Competition Agreement dated as of July 1, 1997 by and
between the Registrant and Mr. Gary W. Cage (3)
10.25 Employment Agreement dated as of September 11, 1998 by and
between the Registrant and Joseph J. Frank (6)
*10.26 Monarch Dental Corporation 1999 Stock Option and Grant Plan
*10.27 Agreement dated as of March 26, 1999 by and among the
Registrant, Warren F. Melamed, D.D.S. and Modern Dental
Professionals, P.C.
*11.1 Statement re: Computation of per share earnings data
*13.1 Annual Report to Stockholders for the fiscal year ended
December 31, 1998 (such report, except for those portions
thereof which are expressly incorporated by reference in
this filing, is furnished for the information of the
Commission and is not deemed "filed" as part hereof)
*21.1 Subsidiaries of the Registrant
*23.1 Consent of Arthur Andersen LLP
*24.1 Powers of Attorney (included on signature page hereto)
*27.1 Financial Data Schedule
</TABLE>
S
* Filed herewith
(1) Filed as an exhibit to the Registrant's Pre-Effective Amendment No. 1
to its Registration Statement on Form S-1 (File No. 333-24409) filed
with the Securities and Exchange Commission on May 20, 1997 and
incorporated herein by reference thereto.
(2) Filed as an exhibit to the Registrant's Pre-Effective Amendment No. 2
to its Registration Statement on Form S-1 (File No. 333-24409) filed
with the Securities and Exchange Commission on June 23, 1997 and
incorporated herein by reference thereto.
<PAGE> 26
(3) Filed as an exhibit to the Registrant's Pre-Effective Amendment No. 3
to its Registration Statement on Form S-1 (File No. 333-24409) filed
with the Securities and Exchange Commission on July 17, 1997 and
incorporated herein by reference thereto.
(4) Filed as an exhibit to the Registrant's Current Report on Form 8-K
filed with the Securities and Exchange Commission on August 15, 1997
and incorporated herein by reference thereto.
(5) Filed as an exhibit to the Registrant's Current Report on Form 8-K
filed with the Securities and Exchange Commission on November 19, 1997
and incorporated herein by reference thereto.
(6) Filed as an exhibit to the Registrant's Current Report on Form 8-K
filed with the Securities and Exchange Commission on September 25,
1998 and incorporated herein by reference thereto.
(7) Filed as an exhibit to the Registrant's Current Report on Form 8-K
filed with the Securities and Exchange Commission on October 2, 1998
and incorporated herein by reference thereto.
(8) Filed as an exhibit to the Registrant's Current Report on Form 10-K
filed with the Securities and Exchange Commission on March 31, 1998
and incorporated herein by reference thereto.
<PAGE> 1
EXHIBIT 10.26
MONARCH DENTAL CORPORATION
1999 STOCK OPTION AND GRANT PLAN
SECTION 1. GENERAL PURPOSE OF THE PLAN; DEFINITIONS
The name of the plan is the Monarch Dental Corporation 1999 Stock
Option and Grant Plan (the "Plan"). The purpose of the Plan is to encourage and
enable the employees of Monarch Dental Corporation (the "Company") and its
Subsidiaries (as defined below) upon whose judgment, initiative and efforts the
Company largely depends for the successful conduct of its business to acquire a
proprietary interest in the Company. It is anticipated that providing such
persons with a direct stake in the Company's welfare will assure a closer
identification of their interests with those of the Company, thereby stimulating
their efforts on the Company's behalf and strengthening their desire to remain
with the Company.
The following terms shall be defined as set forth below:
"Act" means the Securities Exchange Act of 1934, as amended.
"Award" or "Awards," except where referring to a particular category of
grant under the Plan, shall include Non-Qualified Stock Options, Restricted
Stock Awards and Unrestricted Stock Awards.
"Board" means the Board of Directors of the Company.
"Code" means the Internal Revenue Code of 1986, as amended, and any
successor Code, and related rules, regulations and interpretations.
"Committee" has the meaning specified in Section 2.
"Fair Market Value" of the Stock on any given date means (i) if the
Stock is admitted to quotation on the National Association of Securities Dealers
Automated Quotation System ("NASDAQ"), the Fair Market Value on any given date
shall not be less than the average of the highest bid and lowest asked prices of
the Stock reported for such date or, if no bid and asked prices were reported
for such date, for the last day preceding such date for which such prices were
reported; or (ii) if the Stock is admitted to trading on a national securities
exchange or the NASDAQ National Market, then clause (i) shall not apply and the
Fair Market Value on any date shall not be less than the closing price reported
for the Stock on such exchange or system for such date or, if no sales were
reported for such date, for the last date preceding such date for which a sale
was reported; and (iii) if the Stock is not publicly traded on a
<PAGE> 2
securities exchange or traded in the over-the-counter market or, if traded or
quoted, there are no transactions or quotations within the last ten trading days
or trading has been halted for extraordinary reasons, the Fair Market Value on
any given date shall be determined in good faith by the Committee with reference
to the rules and principles of valuation set forth in Section 20.2031-2 of the
Treasury Regulations.
"Incentive Stock Option" means any Stock Option designated and
qualified as an "incentive stock option" as defined in Section 422 of the Code.
"Independent Director" means a member of the Board who is neither an
employee or officer of the Company or any Subsidiary.
"Non-Qualified Stock Option" means any Stock Option that is not an
Incentive Stock Option.
"Option" or "Stock Option" means any option to purchase shares of Stock
granted pursuant to Section 5.
"Restricted Stock Award" means any Award granted pursuant to Section 6.
"Stock" means the Common Stock, par value $.01 per share, of the
Company, subject to adjustments pursuant to Section 3.
"Subsidiary" means any corporation or other entity (other than the
Company) in any unbroken chain of corporations or other entities, beginning with
the Company, if each of the corporations or entities (other than the last
corporation or entity in the unbroken chain) owns stock or other interests
possessing 50% or more of the economic interest or the total combined voting
power of all classes of stock or other interests in one of the other
corporations or entities in the chain, as well as any professional corporation
for which the Company or any Subsidiary thereof provides management services.
"Unrestricted Stock Award" means any Award granted pursuant to Section
7.
SECTION 2. ADMINISTRATION OF PLAN; COMMITTEE AUTHORITY TO SELECT
PARTICIPANTS AND DETERMINE AWARDS
(a) Committee. The Plan shall be administered by the Board of Directors
of the Company, or at the discretion of the Board, by a committee or committees
of the Board consisting of not less than two Independent Directors, except as
contemplated by Section 2(c). Each member of the Committee shall be a
"Non-Employee Director" within the meaning of Rule 16b-3(a)(3) under the Act.
All references herein to the Committee shall be deemed to
2
<PAGE> 3
refer to the entity then responsible for administration of the Plan at the
relevant time (i.e., either the Board of Directors or a committee of the Board,
as applicable).
(b) Powers of Committee. The Committee shall have the power and
authority to grant Awards consistent with the terms of the Plan, including the
power and authority:
(i) to select the employees of the Company and its
Subsidiaries to whom Awards may from time to time be granted;
(ii) to determine the time or times of grant, and the extent,
if any, of NonQualified Stock Options, Restricted Stock Awards and
Unrestricted Stock Awards, or any combination of the foregoing, granted
to any one or more participants;
(iii) to determine the number of shares of Stock to be covered
by any Award;
(iv) to determine and modify from time to time the terms and
conditions, including restrictions, not inconsistent with the terms of
the Plan, of any Award, which terms and conditions may differ among
individual Awards and participants, and to approve the form of written
instruments evidencing the Awards;
(v) to accelerate at any time the exercisability or vesting of
all or any portion of any Award and/or to include provisions in Awards
providing for such acceleration;
(vi) to impose any limitations on Awards granted under the
Plan, including limitations on transfers, repurchase provisions and the
like and to exercise repurchase rights or obligations;
(vii) to extend at any time the period in which Stock Options
may be exercised;
(viii) to determine at any time whether, to what extent, and
under what circumstances Stock and other amounts payable with respect
to an Award shall be deferred either automatically or at the election
of the participant and whether and to what extent the Company shall pay
or credit amounts constituting interest (at rates determined by the
Committee) or dividends or deemed dividends on such deferrals; and
(ix) at any time to adopt, alter and repeal such rules,
guidelines and practices for administration of the Plan and for its own
acts and proceedings as it shall deem advisable; to interpret the terms
and provisions of the Plan and any Award (including related written
instruments); to make all determinations it deems advisable for the
administration of the Plan; to decide all disputes arising in
connection with the Plan; and to otherwise supervise the administration
of the Plan.
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<PAGE> 4
All decisions and interpretations of the Committee shall be binding on
all persons, including the Company and Plan participants.
(c) Delegation of Authority to Grant Awards. The Board, in its
discretion, may appoint the Chief Executive Officer of the Company as a
one-person Committee in addition to the Committee contemplated by Section 2(a)
having authority (co-extensive with such other Committee) to grant Awards to
individuals who are not subject to the reporting and other provisions of Section
16 of the Act or "covered employees" within the meaning of Section 162(m) of the
Code.
SECTION 3. STOCK ISSUABLE UNDER THE PLAN; MERGERS; SUBSTITUTION
(a) Stock Issuable. The maximum number of shares of Stock reserved and
available for issuance under the Plan shall be 1,000,000 shares of Stock. For
purposes of the foregoing limitations, the shares of Stock underlying any Awards
which are forfeited, canceled, reacquired by the Company, satisfied without the
issuance of Stock or otherwise terminated (other than by exercise) shall be
added back to the shares of Stock available for issuance under the Plan. Subject
to such overall limitation, shares of Stock may be issued up to such maximum
number pursuant to any type or types of Award. The shares available for issuance
under the Plan may be authorized but unissued shares of Stock or shares of Stock
reacquired by the Company.
(b) Recapitalizations. If, through or as a result of any merger,
consolidation, sale of all or substantially all of the assets of the Company,
reorganization, recapitalization, reclassification, stock dividend, stock split,
reverse stock split or other similar transaction, the outstanding shares of
Stock are increased or decreased or are exchanged for a different number or kind
of shares or other securities of the Company or any successor company, or
additional shares or new or different shares or other securities of the Company
or other non-cash assets are distributed with respect to such shares of Stock or
other securities, the Committee shall make an appropriate or proportionate
adjustment in (i) the maximum number of shares reserved for issuance under the
Plan, (ii) the number of Stock Options or other Awards that can be granted to
any one individual participant, (iii) the number and kind of shares or other
securities subject to any then outstanding Awards under the Plan, and (iv) the
price for each share subject to any then outstanding Stock Options or other
Awards under the Plan, without changing the aggregate exercise price (i.e., the
exercise price multiplied by the number of shares) as to which such Stock
Options remain exercisable and the repurchase price for shares subject to
repurchase. The adjustment by the Committee shall be final, binding and
conclusive. No fractional shares of Stock shall be issued under the Plan
resulting from any such adjustment, but the Committee in its discretion may make
a cash payment in lieu of fractional shares.
4
<PAGE> 5
(c) Mergers and Other Transactions. In the case of (i) the dissolution
or liquidation of the Company, (ii) a merger, reorganization or consolidation in
which the Company is acquired by another person or entity (other than a holding
company formed by the Company and other than a merger, reorganization or
consolidation where shareholders of the Company immediately prior to the
transaction continue immediately after the transaction, to own shares
representing in the aggregate 50 percent or more of the voting shares of the
corporation issuing cash or securities in the merger, reorganization or
consolidation), (iii) the sale of all or substantially all of the assets of the
Company to an unrelated person or entity, or (iv) the sale of all of the Stock
of the Company to an unrelated person or entity, then unless otherwise provided
in the Award agreement the outstanding Options shall become fully vested. Upon
the effectiveness of any such transaction or event, the Plan and all outstanding
Options and other Awards granted hereunder shall terminate, unless provision is
made in connection with such transaction for the assumption of such awards
heretofore granted, or the substitution of such Awards of new Awards of the
successor entity or parent thereof, with appropriate adjustment as to the number
and kind of shares and, if appropriate, the per share exercise prices, as
provided in Section 3(b) above. In the event of such termination, each optionee
shall be permitted to exercise for a period of at least 15 days prior to the
termination all outstanding vested Options. The treatment of Restricted Stock
Awards and Unrestricted Stock Awards in connection with any such transaction
shall be as specified in the relevant Award agreement.
(d) Substitute Awards. The Committee may grant Awards under the Plan in
substitution for stock and stock based awards held by employees of another
corporation who become employees of the Company or a Subsidiary as the result of
a merger or consolidation of the employing corporation with the Company or a
Subsidiary or the acquisition by the Company or a Subsidiary of property or
stock of the employing corporation. The Committee may direct that the substitute
awards be granted on such terms and conditions as the Committee considers
appropriate in the circumstances.
SECTION 4. ELIGIBILITY
Participants in the Plan will be such employees of the Company and its
Subsidiaries who are responsible for or contribute to the management, growth or
profitability of the Company and its Subsidiaries as are selected from time to
time by the Committee, in its sole discretion.
SECTION 5. STOCK OPTIONS
Any Stock Option granted under the Plan shall be pursuant to a stock
option agreement which shall be in such form as the Committee may from time to
time approve. Option agreements need not be identical.
5
<PAGE> 6
Stock Options granted under the Plan shall be Non-Qualified Stock
Options, which may be granted to employees of the Company and its Subsidiaries.
(a) Terms of Stock Options. Stock Options granted under the Plan shall
be subject to the following terms and conditions and shall contain such
additional terms and conditions, not inconsistent with the terms of the Plan, as
the Committee shall deem desirable:
(i) Exercise Price. The exercise price per share for the Stock
covered by a Stock Option shall be determined by the Committee at the
time of grant.
(ii) Option Term. The term of each Stock Option shall be fixed
by the Committee.
(iii) Exercisability; Rights of a Stockholder. Stock Options
shall become vested and exercisable at such time or times, whether or
not in installments, as shall be determined by the Committee at or
after the grant date. The Committee may at any time accelerate the
exercisability of all or any portion of any Stock Option. An optionee
shall have the rights of a stockholder only as to shares acquired upon
the exercise of a Stock Option and not as to unexercised Stock Options.
(iv) Method of Exercise. Stock Options may be exercised in
whole or in part, by giving written notice of exercise to the Company,
specifying the number of shares to be purchased. Payment of the
purchase price may be made by one or more of the following methods:
(A) In cash, by certified or bank check or other
instrument acceptable to the Committee;
(B) In the form of shares of Stock that are not then
subject to restrictions under any Company plan and that have
been held by the optionee free of such restrictions for at
least six months, if permitted by the Committee in its
discretion. Such surrendered shares shall be valued at Fair
Market Value on the exercise date; or
(C) By the optionee delivering to the Company a
properly executed exercise notice together with irrevocable
instructions to a broker to promptly deliver to the Company
cash or a check payable and acceptable to the Company to pay
the purchase price; provided that in the event the optionee
chooses to pay the purchase price as so provided, the optionee
and the broker shall comply with such procedures and enter
into such agreements of indemnity and other agreements as the
Committee shall prescribe as a condition of such payment
procedure.
6
<PAGE> 7
Payment instruments will be received subject to collection. The
delivery of certificates representing the shares of Stock to be
purchased pursuant to the exercise of a Stock Option will be contingent
upon receipt from the optionee (or a purchaser acting in his stead in
accordance with the provisions of the Stock Option) by the Company of
the full purchase price for such shares and the fulfillment of any
other requirements contained in the Stock Option or applicable
provisions of laws.
(v) Termination. Unless otherwise provided in the option
agreement or determined by the Committee, upon the optionee's
termination of employment (or other business relationship)
with the Company and its Subsidiaries, the optionee's rights
in his Stock Options shall automatically terminate.
(b) Reload Options. At the discretion of the Committee, Options granted
under the Plan may include a "reload" feature pursuant to which an optionee
exercising an option by the delivery of a number of shares of Stock in
accordance with Section 5(a)(v)(B) hereof would automatically be granted an
additional Option (with an exercise price equal to the Fair Market Value of the
Stock on the date the additional Option is granted and with the same expiration
date as the original Option being exercised, and with such other terms as the
Committee may provide) to purchase that number of shares of Stock equal to the
number delivered to exercise the original Option.
(c) Non-transferability of Options. No Stock Option shall be
transferable by the optionee otherwise than by will or by the laws of descent
and distribution and all Stock Options shall be exercisable, during the
optionee's lifetime, only by the optionee. Notwithstanding the foregoing, the
Committee may provide in an option agreement that the optionee may transfer,
without consideration for the transfer, his Non-Qualified Stock Options to
members of his immediate family, to trusts for the benefit of such family
members, to partnerships in which such family members are the only partners; or
to charitable organizations; provided, however, that the transferee agrees in
writing to be bound by the terms and conditions of this Plan and the applicable
Option Agreement.
SECTION 6. RESTRICTED STOCK AWARDS
(a) Nature of Restricted Stock Awards. A Restricted Stock Award is an
Award entitling the recipient to acquire, at par value or such other purchase
price determined by the Committee, shares of Stock subject to such restrictions
and conditions as the Committee may determine at the time of grant ("Restricted
Stock"). Conditions may be based on continuing employment (or other business
relationship) and/or achievement of pre-established performance goals and
objectives.
7
<PAGE> 8
(b) Rights as a Stockholder. Upon execution of a written instrument
setting forth the Restricted Stock Award and paying any applicable purchase
price, a participant shall have the rights of a stockholder with respect to the
voting of the Restricted Stock, subject to such conditions contained in the
written instrument evidencing the Restricted Stock Award. Unless the Committee
shall otherwise determine, certificates evidencing the Restricted Stock shall
remain in the possession of the Company until such Restricted Stock is vested as
provided in Section 6(d) below.
(c) Restrictions. Restricted Stock may not be sold, assigned,
transferred, pledged or otherwise encumbered or disposed of except as
specifically provided herein or in the written instrument evidencing the
Restricted Stock Award. If a participant's employment (or other business
relationship) with the Company and its Subsidiaries terminates under the
conditions specified in the relevant instrument relating to the Award, or upon
such other event or events as may be stated in the instrument evidencing the
Award, the Company or its assigns shall have the right or shall agree, as may be
specified in the relevant instrument, to repurchase some or all of the shares of
Stock subject to the Award at such purchase price as is set forth in such
instrument.
(d) Vesting of Restricted Stock. The Committee at the time of grant
shall specify the date or dates and/or the attainment of pre-established
performance goals, objectives and other conditions on which Restricted Stock
shall become vested, subject to such further rights of the Company or its
assigns as may be specified in the instrument evidencing the Restricted Stock
Award.
(e) Waiver, Deferral and Reinvestment of Dividends. The written
instrument evidencing the Restricted Stock Award may require or permit the
immediate payment, waiver, deferral or investment of dividends paid on the
Restricted Stock.
SECTION 7. UNRESTRICTED STOCK AWARDS
(a) Grant or Sale of Unrestricted Stock. The Committee may, in its sole
discretion, grant (or sell at a purchase price determined by the Committee) an
Unrestricted Stock Award to any participant, pursuant to which such participant
may receive shares of Stock free of any vesting restrictions ("Unrestricted
Stock") under the Plan. Unrestricted Stock Awards may be granted or sold as
described in the preceding sentence in respect of past services or other valid
consideration, or in lieu of any cash compensation due to such individual.
(b) Elections to Receive Unrestricted Stock In Lieu of Compensation.
Upon the request of a participant and with the consent of the Committee, each
such participant may, pursuant to an advance written election delivered to the
Company no later than the date specified by the Committee, receive a portion of
the cash compensation otherwise due to such participant in the form of shares of
Unrestricted Stock either currently or on a deferred basis.
8
<PAGE> 9
(c) Restrictions on Transfers. The right to receive shares of
Unrestricted Stock on a deferred basis may not be sold, assigned, transferred,
pledged or otherwise encumbered, other than by will or the laws of descent and
distribution.
SECTION 8. TAX WITHHOLDING
(a) Payment by Participant. Each participant shall, no later than the
date as of which the value of an Award or of any Stock or other amounts received
thereunder first becomes includable in the gross income of the participant for
Federal income tax purposes, pay to the Company, or make arrangements
satisfactory to the Committee regarding payment of, any federal, state, or local
taxes of any kind required by law to be withheld with respect to such income.
The Company and its Subsidiaries shall, to the extent permitted by law, have the
right to deduct any such taxes from any payment of any kind otherwise due to the
participant.
(b) Payment in Stock. Subject to approval by the Committee, a
participant may elect to have such tax withholding obligation satisfied, in
whole or in part, by (i) authorizing the Company to withhold from shares of
Stock to be issued pursuant to any Award a number of shares with an aggregate
Fair Market Value (as of the date the withholding is effected) that would
satisfy the withholding amount due, or (ii) transferring to the Company shares
of Stock owned by the participant with an aggregate Fair Market Value (as of the
date the withholding is effected) that would satisfy the withholding amount due.
SECTION 9. TRANSFER, LEAVE OF ABSENCE, ETC.
For purposes of the Plan, the following events shall not be deemed a
termination of employment:
(a) a transfer to the employment of the Company from a Subsidiary or
from the Company to a Subsidiary, or from one Subsidiary to another; or
(b) an approved leave of absence for military service or sickness, or
for any other purpose approved by the Company, if the employee's right to
re-employment is guaranteed either by a statute or by contract or under the
policy pursuant to which the leave of absence was granted or if the Committee
otherwise so provides in writing.
SECTION 10. AMENDMENTS AND TERMINATION
The Board may, at any time, amend or discontinue the Plan and the
Committee may, at any time, amend or cancel any outstanding Award (or provide
substitute Awards at the same or
9
<PAGE> 10
reduced exercise or purchase price or with no exercise or purchase price in a
manner not inconsistent with the terms of the Plan), but such price, if any,
must satisfy the requirements which would apply to the substitute or amended
Award if it were then initially granted under this Plan for the purpose of
satisfying changes in law or for any other lawful purpose, but no such action
shall adversely affect rights under any outstanding Award without the holder's
consent.
SECTION 11. STATUS OF PLAN
With respect to the portion of any Award which has not been exercised
and any payments in cash, Stock or other consideration not received by a
participant, a participant shall have no rights greater than those of a general
creditor of the Company unless the Committee shall otherwise expressly determine
in connection with any Award or Awards. In its sole discretion, the Committee
may authorize the creation of trusts or other arrangements to meet the Company's
obligations to deliver Stock or make payments with respect to Awards hereunder,
provided that the existence of such trusts or other arrangements is consistent
with the foregoing sentence.
SECTION 12. GENERAL PROVISIONS
(a) No Distribution; Compliance with Legal Requirements. The Committee
may require each person acquiring Stock pursuant to an Award to represent to and
agree with the Company in writing that such person is acquiring the shares
without a view to distribution thereof.
No shares of Stock shall be issued pursuant to an Award until all
applicable securities law and other legal and stock exchange or similar
requirements have been satisfied. The Committee may require the placing of such
stop-orders and restrictive legends on certificates for Stock and Awards as it
deems appropriate.
(b) Other Compensation Arrangements; No Employment Rights. Nothing
contained in this Plan shall prevent the Board from adopting other or additional
compensation arrangements, including trusts, and such arrangements may be either
generally applicable or applicable only in specific cases. The adoption of this
Plan and the grant of Awards do not confer upon any employee any right to
continued employment with the Company or any Subsidiary.
10
<PAGE> 11
SECTION 13. GOVERNING LAW
This Plan shall be governed by Delaware law except to the extent such
law is preempted by federal law.
Adopted and Effective: March 2, 1999
<PAGE> 1
EXHIBIT 10.27
March 26, 1999
CONFIDENTIAL
Dr. Warren F. Melamed
17723 Cedar Creek Canyon Road
Dallas, TX 75252
Re: Separation Agreement
Dear Warren:
This letter agreement (this "Agreement") formalizes the agreement that
we have reached regarding your agreed resignation from Monarch Dental
Corporation (the "Company") as of December 31, 1998 (the "Resignation Date").
The purpose of this Agreement is to establish an amicable arrangement for ending
your employment relationship. For purposes of this Agreement, all references to
the "Company" shall include Monarch Dental Corporation, a Delaware corporation,
and any of its subsidiaries and affiliated companies including associated
professional corporations, and any successor thereto by merger or otherwise.
In exchange for the promises of you and the Company set forth below,
you and the Company agree as follows:
1. TERMINATION OF EMPLOYMENT. You resign effective as of the
Resignation Date as President and Chief Dental Officer of Monarch Dental
Corporation and from any other position (whether as an officer, director or
employee) currently held by you with Monarch Dental Corporation or any of its
subsidiaries or affiliated companies including associated professional
corporations effective as of the Resignation Date; provided, however, that you
shall remain Chairman of the Board of Directors (the "Board of Directors") of
Monarch Dental Corporation in a non-employee capacity as an independent Director
on the terms set forth in paragraph 3 below. You acknowledge that you have not
been actively employed by the Company since December 31, 1998. Said resignations
are hereby accepted by the Company.
GWC /s/ GWC WFM /s/ WFM JLM /s/ JLM
EXECUTION COPY
<PAGE> 2
Dr. Warren F. Melamed
March 26, 1999
Page 2
2. SUCCESSION EVENT. You hereby agree that your resignation on the
Resignation Date constitutes a "Succession Event" under the terms of that
certain Succession Agreement dated as of February 5, 1996 (the "Succession
Agreement") by and among you, the Company and Modern Dental Professionals, P.C.
(f/k/a Warren F. Melamed, D.D.S., P.C.) (the "PC"). You are hereby executing and
delivering and will execute and deliver from time to time on or after the date
hereof at the request of the Company and without further consideration such
instruments of transfer and assignment and take such other action as may be
necessary to effectively transfer and assign to an eligible nominee selected by
the Company all right, title and interest to your shares of the PC and to fully
implement the provisions of this Agreement and the Succession Agreement. The
Company agrees to purchase a 5-year, $1,000,000/$3,000,000 tail coverage
malpractice insurance policy covering you, which policy shall contain terms and
provisions reasonably acceptable to you, and further confirms that the terms of
your Indemnification Agreement referred to below shall apply with respect to any
malpractice claims which exceed this insurance coverage in accordance with its
terms.
3. SEVERANCE; DIRECTOR COMPENSATION. In connection with your
resignation, you shall receive following the Resignation Date, in consideration
of the release of claims set forth herein and the other covenants set forth in
this Agreement, severance payments equal to (i) $730,000 payable on the eighth
day following the execution hereof and (ii) an additional amount of $730,000
less payments made to you from January 1, 1999 to the date of execution of this
agreement in the amount of $75,000.00, payable in equal monthly installments
from April 1999 through July 2001 (provided that the Company shall have the
right to terminate or set-off such payments if and in the event you take any
action which constitutes a material breach any of your agreements set forth
herein or referred to herein and you fail to cure such material breach within 15
days following written notice thereof by the Company, and the Company shall have
established to the satisfaction of JAMS/Endispute as a neutral arbitrator
pursuant to paragraph 14 that such breach has occurred or there is probable
cause to believe such breach has occurred). Your severance payments shall be
payable as part of the Company's payroll in accordance with the Company's
current payroll practices for its executive officers, in all cases subject to
withholding under applicable law; provided, however, that the Company in its
sole discretion may elect to pay at any time any remaining amounts due to you
hereunder in a lump sum and upon the closing of any sale or any bankruptcy
filing of the Company any amounts remaining unpaid under the first sentence of
this paragraph 3 shall be paid to you. The Company shall also pay you (a) a
$35,000 annual retainer plus per
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Dr. Warren F. Melamed
March 26, 1999
Page 3
meeting fees equal to those paid to other independent (i.e. non-employee)
members of the Board of Directors ("independent Directors") and (b) any other
non-monetary compensation (such as stock options) paid to independent Directors,
in each case for as long as you serve as Chairman of the Board of Directors as
consideration for such service, which amount the Company shall pay you in
accordance with the Company's payment practices for its independent Directors
and which amount the Company shall prorate for partial years. In your capacity
as Chairman of the Board and a Director, you agree to abide by all policies and
procedures of the Company applicable to its Directors generally, including,
without limitation, the Company's insider trading policy. In the event that you
cease to serve as Chairman of the Board of Directors, but remain a Director of
Monarch Dental Corporation, you shall be entitled to receive an annual retainer
equal to the highest amount paid to any other independent Director not then
serving as Chairman of the Board of Directors. Other than the payments described
above, the other perquisites set forth in paragraph 5 below and the payments
referred to in paragraph 8, you shall not be entitled to any additional payments
or benefits from the Company relating to your employment with the Company or
your services as a Director or the termination thereof or otherwise, including,
without limitation, any amounts specified in that certain Employment Agreement
dated as of July 1, 1997 by and between you and the Company (the "Employment
Agreement").
4. VESTING. We acknowledge that the circumstances regarding your
resignation contemplated by this Agreement do not constitute a "Termination
Event" for purposes of that certain Restricted Stock Agreement dated as of
February 6, 1996 by and between you and the Company, and further that such
shares are subject to repurchase only in the event a "Termination Event"
relating to a termination of employment under the circumstances described
therein should occur after the date of this Agreement. That certain
Non-Qualified Stock Option Agreement dated as of May 28, 1997 by and between you
and the Company (the "Stock Option Agreement") shall remain in full force and
effect and your options shall be governed by the terms thereof; provided,
however, that the Stock Option Agreement shall be deemed to be amended by this
Agreement to provide that any unvested options thereunder shall be deemed fully
vested on the date on which you cease to be a member of the Board of Directors
for any reason. You shall remain eligible for the repricing of options for so
long as you remain on the Board of Directors if and to the extent options of
independent Directors are repriced.
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Dr. Warren F. Melamed
March 26, 1999
Page 4
5. BENEFITS. You and your beneficiaries shall be entitled to
participate in any and all medical and dental plans and the Company's 401(k)
plan in which you and your beneficiaries are currently enrolled until July 31,
2001, at which time all such benefits shall terminate, subject to the rights of
you and your beneficiaries to continue certain benefits in accordance with and
subject to the law known as COBRA. In this regard you understand that the
Company shall amend its health insurance policy to provide for benefits to
Directors and you shall be required to pay for such benefits at COBRA rates on
an after tax basis, and the Company shall reimburse you for the monthly premium
paid in respect of participation by you and your family in the health plan,
subject to the limitation on total costs payable by the Company set forth in the
following sentence. Your eligibility to participate in the Company's other
employee benefit plans and programs ceases on or after the Resignation Date,
except that until July 31, 2001 the Company will (i) continue to provide you
with a car at a cost not to exceed $1,500 per month (provided that you shall be
responsible for gas, insurance, maintenance and any other costs associated with
such car), (ii) you shall be entitled to use the home computer previously
purchased by the Company and the balance of your current air pass, and (iii) you
shall be entitled to Internet access, admiral's club membership, cellular phone
reimbursement, airline upgrades, toll tag reimbursement and dental society
memberships; provided, however, that the cost to the Company to pay or reimburse
you for all of the benefits set forth in this clause (iii) and to reimburse you
for your premiums under the Company's medical plan as provided in the preceding
sentence shall not to exceed $2,220 per month. Until July 31, 2001, you shall be
reimbursed for out-of-pocket expenses incurred by you in connection with the
business of the Company in accordance with the Company's policies with respect
thereto as in effect from time to time. You and your spouse, Janet L. Melamed,
agree that all payments to Ms. Melamed from the Company shall cease and that the
Company shall not be obligated to provide benefits to her, including, without
limitation, an automobile allowance or telephone, except as contemplated in the
first sentence of this paragraph 5. The Company agrees that if its Chief
Executive Officer receives a bonus with respect to its 1998 fiscal year, you
shall receive a proportionate bonus.
6. NOMINATION TO BOARD OF DIRECTORS. The Company hereby agrees that you
will be a nominee of the Board of Directors for election as a Class II Director
of Monarch Dental Corporation at the 1999 annual meeting of stockholders and
that the Board of Directors will recommend a vote for your election in the
Company's proxy statement relating to such meeting. The Company and the Board
will also support your election as both a member of the Board of Directors and
as Chairman of the Board through July 31, 2001, or until such time as
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Dr. Warren F. Melamed
March 26, 1999
Page 5
you decline to stand for reelection; provided, that the provisions of this
paragraph 6 shall terminate upon any sale of the Company.
7. STANDSTILL. You hereby agree not to submit or cause the submission
of any proposals or nominations of candidates for election as Directors of the
Company at any meeting of the Company's stockholders prior to July 31, 2001
other than in connection with approving the slate of candidates to be nominated
by the Board of Directors in advance of each meeting of the stockholders in your
capacity as a Director of the Company, and any proposals or nominations made in
violation of this Agreement shall not be placed on the ballot at any meeting of
the Company's stockholders. Except as otherwise requested by the Board of
Directors of the Company and on behalf of the Company, you shall not "solicit"
"proxies" (as such terms are used in the proxy rules of the United States
Securities and Exchange Commission) from other stockholders of the Company in
connection with any meeting of the Company's stockholders prior to July 31,
2001. In connection with any matter submitted to the stockholders of the Company
during such period, you agree to vote, or cause to be voted, your shares either
in accordance with the recommendation of the Board of Directors or in proportion
to the votes of the other stockholders in connection with the relevant matter as
you determine with respect to each matter presented. The Board of Directors
shall not nominate any person for election as a Director of the Company prior to
July 31, 2001 without consulting with you prior to such nomination. The
provisions of this paragraph 7 shall terminate upon the closing of any sale of
the Company.
8. NON-COMPETITION; CONFIDENTIALITY. You hereby acknowledge that you
are still subject to the terms and covenants contained (i) in Article 2 of the
Employment Agreement and (ii) in that certain Non-Competition Agreement dated as
of February 5, 1996 by and between you and the Company (the "Non-Competition
Agreement") and you hereby reaffirm and readopt all of such terms and covenants
as if they were completely restated herein. The Company acknowledges that it
continues to be subject to the obligations contained in Section 1(d) of that
Non-Competition Agreement, commencing January 1, 1999. Each of us confirms that
the Non-Competition Agreement is the only existing agreement in effect setting
forth non-competition obligations to which you are subject, which obligations
remain in effect through February 5, 2001, including following any sale of the
Company.
9. INDEMNIFICATION; REGISTRATION RIGHTS. The Company hereby
acknowledges that it remains subject to the terms and covenants contained in (i)
that certain Indemnification
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Dr. Warren F. Melamed
March 26, 1999
Page 6
Agreement dated as of February 5, 1996 by and between you and the Company (the
"Indemnification Agreement"), and (ii) Article IV of the Amended and Restated
Stockholders' Agreement dated as of August 28, 1996 by and among you, the
Company and certain other stockholders of the Company (the "Registration Rights
Provisions"), and it hereby reaffirms and readopts all of such terms and
covenants as if they were completely restated herein. You agree not to exercise
registration rights in connection with any secondary registration of shares in
connection with any Valley Forge-related settlements.
10. RETURN OF PROPERTY. The Company and you hereby acknowledge that all
documents, records, materials, software, equipment, information and other
physical or intellectual property that have come into your possession or been
produced or created by you in connection with your employment with or for the
Company ("Property") have been and remain the sole property of the Company. The
Company and you hereby acknowledge that you have returned to the Company all
such Property, except to the extent such Property is being utilized by you in
your role as a Director of the Company and upon cessation of such role any such
property shall be promptly returned.
11. LITIGATION COOPERATION. The Company and you agree to cooperate
fully with each other in (i) the defense, prosecution or investigation of any
claims or actions which already have been brought or threatened, or which may be
brought or threatened in the future against or on behalf of you or the Company
by or against third parties and (ii) responding to, cooperating with, or
contesting any governmental audit, inspection, inquiry or investigation, in
either case that relate to events or occurrences that transpired during your
employment or association with the Company. The full cooperation in connection
with such claims or actions shall include, without implication of limitation:
being reasonably available to meet with counsel to prepare for discovery or
trial; to testify truthfully as a witness when reasonably requested and at
reasonable times designated by you or the Company; and to reasonably meet with
counsel or other designated representative of you or the Company to prepare
responses to and to cooperate with the your or the Company's processing of
governmental audits, inspections, inquiries or investigations. The Company will
reimburse you for any reasonable out-of-pocket expenses that you incur in
connection with such cooperation, subject to reasonable and satisfactory
documentation. The Company will not exercise its rights under this paragraph so
as to interfere with your ability to engage in gainful employment and shall
endeavor to schedule your responsibilities hereunder so as not to interfere with
your schedule
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Dr. Warren F. Melamed
March 26, 1999
Page 7
so long as you promptly provide timely alternative dates on which you can
fulfill your obligations hereunder.
12. SUBORDINATION. You hereby confirm that your right to payments from
the Company hereunder and under the Non-Competition Agreement shall be
subordinated as set forth in Exhibit A hereto.
13. RELEASE. The Company and you hereby irrevocably and unconditionally
release, acquit and forever discharge the other and each of the Company's
current and former officers, directors, agents, employees, representatives,
co-venturers, parents, subsidiaries, affiliates, predecessors, successors,
assigns, insurers and stockholders (collectively, the "Company Released
Parties") from any and all claims, demands, causes of action, obligations,
damages, losses, expenses and liabilities of any kind or nature whether legal,
equitable or statutory, liquidated or unliquidated, known or unknown, suspected
or unsuspected, fixed or contingent, which the Company or you may have had from
the beginning of time to the date hereof, including but not limited to any such
claims concerning or related, directly or indirectly, to your employment at the
Company and/or the cessation thereof or your status as a stockholder or Director
of the Company. This release includes actions claiming violation of Title VII of
the Civil Rights Act of 1964, as amended, 42 U.S.C. 2000e et seq., the Age
Discrimination in Employment Act, the Americans with Disabilities Act, the Texas
Commission on Human Rights Act, all other labor laws of Texas, and any other
federal, state, or local law, order or regulation. This release also includes
any claims for wrongful discharge or that the Company has dealt with you
unfairly or in bad faith, and actions raising tortious claims, actions raising
any claim of express or implied contract of employment, or any other cause of
action or claims of violation of common law. This release is for any and all
relief, without regard to its form or characterization. Included in this release
are any and all claims for attorneys' fees and for future damages allegedly
arising from the alleged continuation of the effects of any past action,
omission or event. Notwithstanding anything in this release to the contrary,
this release shall not be construed to terminate any party's rights arising
directly under this Agreement (including Article 2 of your Employment Agreement
as incorporated herein), the Indemnification Agreement, the Stock Option
Agreement (as amended hereby) or the Registration Rights Provisions, or to in
any way limit or modify your obligations under the Non-Competition Agreement or
Article 2 of your Employment Agreement.
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Dr. Warren F. Melamed
March 26, 1999
Page 8
14. MISCELLANEOUS. You have been advised to consult with an attorney
before signing this Agreement and hereby confirm that you have done so.
By signing this Agreement, you acknowledge that you are doing so
voluntarily and only after consultation with your personal attorney. You also
acknowledge that you are not relying on any representations by the undersigned
or any other representative of the Company concerning the meaning of any aspect
of this Agreement.
You acknowledge that you have been given the opportunity, if you so
desired, to consider this Agreement for twenty-one (21) days before executing
it. If not signed by you and returned to Mr. Gary W. Cage, Chief Executive
Officer, Monarch Dental Corporation, 4201 Spring Valley Road, Suite 320, Dallas,
Texas 75244, so that he receives it by close of business on the twenty-second
(22nd) day after your receipt of the Agreement, this Agreement will not be
valid. In addition, if you breach any of the conditions of the Agreement within
the twenty-one (21) day period, the offer of this Agreement will be withdrawn
and your execution of the Agreement will not be valid. In the event that you
execute and return this Agreement within twenty-one (21) days or less of the
date of its delivery to you, you acknowledge that such decision was entirely
voluntary and that you had the opportunity to consider this letter agreement for
the entire twenty-one (21) day period. The Company acknowledges that for a
period of seven (7) days from the date on which you execute this Agreement, you
shall retain the right to revoke this Agreement by written notice delivered to
Mr. Cage at the address indicated above, and that this Agreement shall not
become effective or enforceable until the expiration of such revocation period.
In the event of any dispute, this Agreement will be construed as a
whole, will be interpreted in accordance with its fair meaning, and will not be
construed strictly for or against either you or the Company. The laws of Texas
will govern any dispute about this Agreement, including any interpretation or
enforcement of this Agreement. In the event that any provision or portion of a
provision of this Agreement shall be determined to be unenforceable, the
remainder of this Agreement shall be enforced to the fullest extent possible as
if such provision or portion of a provision were not included. This Agreement
may be modified only by a written agreement signed by you and an authorized
representative of the Company.
All disputes, claims, or controversies arising out of or relating to
this Agreement or any of the agreements referenced herein or the negotiation,
validity or performance hereof or
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Dr. Warren F. Melamed
March 26, 1999
Page 9
thereof, that are not resolved by mutual agreement, shall be resolved solely and
exclusively by binding arbitration to be conducted before JAMS/Endispute, Inc.
or its successor. The arbitration shall be held in Dallas, Texas before a single
arbitrator and shall be conducted in accordance with the rules and regulations
promulgated by JAMS/Endispute, Inc.
Both the Company and you hereto irrevocably and unconditionally consent
to the exclusive jurisdiction of JAMS/Endispute, Inc. to resolve all disputes,
claims or controversies arising out of or relating to this Agreement or any of
the agreements referenced herein or the negotiation, validity or performance
hereof or thereof, and further consent to the jurisdiction of the courts of the
State of Texas for the purposes of enforcing the arbitration provisions of this
paragraph 14. Both the Company and you further irrevocably waive any objection
to proceeding before JAMS/Endispute based upon lack of personal jurisdiction or
to the laying of venue and further irrevocably and unconditionally waive and
agree not to make a claim in any court that arbitration before JAMS/Endispute,
Inc. has been brought in an inconvenient forum. You hereby consent to service of
process by registered mail at the address set forth above and the Company hereby
consents to service of process by registered mail at the address previously set
forth in this paragraph 13. Both the Company and you agree that its or your
submission to jurisdiction and its or your consent to service of process by mail
is made for the express benefit of the other.
Notwithstanding anything to the contrary contained herein, the
arbitration provisions of this paragraph 13 shall not prevent any party hereto
from seeking any temporary restraining order or preliminary injunctive relief to
which such party may be entitled hereunder pending and subject to the resolution
of the subject matter thereof in an arbitration proceeding initiated pursuant to
the terms hereof.
This Agreement is complete, reflects the entire agreement of the
parties with respect to all matters between such parties, and supersedes all
previous written or oral negotiations, commitments and writings except Article 2
of your Employment Agreement as incorporated herein, the Indemnification
Agreement, the Stock Option Agreement (as amended hereby), the Registration
Rights Provisions and the Non-Competition Agreement.
The Company is executing this Agreement with you on behalf of itself
and each of its subsidiaries and affiliated companies including associated
professional corporations (other than the PC).
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Dr. Warren F. Melamed
March 26, 1999
Page 10
If you agree to these terms, please sign and date below and return this
Agreement to the undersigned within the time limitation set forth above.
Sincerely,
MONARCH DENTAL CORPORATION
By: /s/ GARY W. CAGE
--------------------------------
Name: Gary W. Cage
Title: Chief Executive Officer
ACCEPTED AND AGREED TO:
/s/ WARREN F. MELAMED
- ---------------------------------------
Warren F. Melamed, D.D.S.
Dated: March 26, 1999
---------------------------------
MODERN DENTAL PROFESSIONALS, P.C.
(F/K/A WARREN F. MELAMED, D.D.S., P.C.)
By: /s/ WARREN F. MELAMED
------------------------------------
Name: Warren F. Melamed, D.D.S.
Title: President
Dated: March 26, 1999
---------------------------------
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Dr. Warren F. Melamed
March 26, 1999
Page 11
SPOUSAL CONSENT: I ACKNOWLEDGE THAT
I HAVE READ THE FOREGOING AGREEMENT
AND THAT I UNDERSTAND THE CONTENTS
THEREOF AND HEREBY ACCEPT AND AGREE
TO THE FOREGOING TERMS.
/s/ JANET L. MELAMED
- -------------------------------------
Janet L. Melamed
Dated: March 26, 1999
-------------------------------
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EXHIBIT A
Subordination.
(a) Subordination to Senior Indebtedness. The right to payments under
the attached Separation Agreement ("Payments") is wholly subordinated, junior
and subject in right of payment, to the extent in the manner hereinafter
provided, to the prior payment of all Senior Indebtedness of the Company now
outstanding or hereinafter incurred. As used herein, the term "Senior
Indebtedness" shall mean the principal of, any premium, if any, and interest on
(i) all indebtedness of the Company for monies borrowed from banks, trust
companies, insurance companies and other financial institutions, including
commercial paper and accounts receivable sold or assigned by the Company to such
institutions; (ii) principal of, and premium, if any, and interest on, any
indebtedness or obligations of others of the kinds described in (i) above
assumed or guaranteed in any manner by the Company; and (iii) deferrals,
renewals, extensions and refundings of any such indebtedness or obligations
described in (i) and (ii) above.
(b) Payment upon Dissolution, Etc.
(i) In the event of any bankruptcy, insolvency,
reorganization, receivership, composition of all or substantially all creditors
of the Company, assignment for benefit of creditors or other similar proceeding
initiated by or against the Company or any dissolution or winding up or total or
partial liquidation of substantially all of the Company's assets or
reorganization of the Company (being hereinafter referred to as a "Proceeding"),
all claims of the holders of the right to Payments in such Proceeding shall be
deemed assigned, pro rata, to the then holders of the Senior Indebtedness on the
basis of the respective amounts of such Senior Indebtedness held by such holder,
and the holders of the rights to Payments hereby agree to execute all documents
that such holders request in order to evidence such assignment; provided,
however, that such assignment shall terminate upon receipt by such holders of
payment in full of all of the Senior Indebtedness. While such assignment is in
effect, the then holders of the Senior Indebtedness shall have the exclusive
right to exercise all rights of the holders of the right to Payments arising
from their claims in the Proceeding, including but not limited to the right to
vote for a trustee and to accept or reject a proposed plan of reorganization or
composition, and the holders of the right to Payments hereby agree to execute
all documents requested by the then holders of the Senior Indebtedness in order
to exercise any such rights whether (at the sole discretion of such holders) in
the holder's own name or in the name of the holders of the right to Payments.
While such assignment is in effect, the holders of the right to Payments also
agree that they shall, upon request, and at their own expense take all
reasonable actions (including but not limited to the execution and filing of
documents and the giving of testimony in any Proceeding, whether or not such
testimony could have been compelled by process) necessary to prove the full
amount of all their claims in any
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<PAGE> 13
Proceeding, and the holders of the right to Payments shall not expressly, by
implication or by inaction waive any claim in any Proceeding without the written
consent of such holder.
(ii) Upon payment or distribution to creditors in a Proceeding
of assets of the Company of any kind or character, whether in cash, property or
securities, all principal and interest due upon any Senior Indebtedness shall
first be paid in full in cash, or payment thereof in full duly provided for,
before any holders of the right to Payments shall be entitled to receive or, if
received, to retain any payment or distribution on account of the right to
Payments; and upon any such Proceeding, any payment or distribution of assets of
the Company of any kind or character, whether in cash, property or securities,
to which any holders of the right to Payments would be entitled except for the
provisions of this Exhibit shall be paid by the Company or by any receiver,
trustee in bankruptcy, liquidating trustee, agent or other person making such
payment or distribution, or by any holders of the right to Payments who shall
have received such payment or distribution, directly to the holders of the
Senior Indebtedness (pro rata to each such holder on the basis of the respective
amounts of such Senior Indebtedness held by such holder) or their
representatives to the extent necessary to pay all such Senior Indebtedness in
full after giving effect to any concurrent payment or distribution to or for the
holders of such Senior Indebtedness, before any payment or distribution is made
to any holders of the right to Payments. In the event of any Proceeding, the
holders of right to Payments shall be entitled to be paid one hundred percent
(100%) of the principal amount thereof and accrued interest thereon before any
distribution of assets shall be made among the holders of any class of shares of
the capital stock of the Company in their capacities as holders of such shares.
(c) Subrogation. Subject to payment in full of all Senior Indebtedness,
the holders of the right to Payments shall be subrogated to the rights of the
holders of Senior Indebtedness to receive payments or distributions of the
assets of the Company made on such Senior Indebtedness until all principal and
interest on the right to Payments shall be paid in full in cash; and for
purposes of such subrogation, no payments or distributions to the holders of
Senior Indebtedness of any cash, property or securities to which any holders of
the right to Payments would be entitled except for the subordination provisions
of this Exhibit shall, as between the holders of the right to Payments and the
Company and/or its creditors other than the holders of the Senior Indebtedness,
be deemed to be a payment on account of the Senior Indebtedness.
(d) Rights of Holders Unimpaired. The provisions of this
Exhibit are and are intended solely for the purposes of defining the relative
rights of the holder of the right to Payments and the holder of Senior
Indebtedness and nothing in this Exhibit shall impair, as between the Company
and the holder of the right to Payments, the obligation of the Company, which is
unconditional and absolute, to pay to the holder of the right to Payments such
Payments when and as due in accordance with the attached agreement, nor shall
anything
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<PAGE> 14
herein prevent the holder of the right to Payments from exercising all remedies
otherwise permitted by applicable law or hereunder upon default, subject to the
rights set forth above of holders of Senior Indebtedness to receive cash,
property or securities otherwise payable or deliverable to the holders of the
holder of the right to Payments.
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<PAGE> 1
EXHIBIT 11.1
MONARCH DENTAL CORPORATION AND SUBSIDIARIES
COMPUTATION OF NET INCOME PER SHARE
(Dollars in thousands, except per share data)
<TABLE>
<CAPTION>
Year Ended December 31,
--------------------------
1998 1997
---------- ----------
<S> <C> <C>
Income (loss) before extraordinary item $ (424) $ 2,135
Extraordinary loss, net of applicable tax benefit -- (264)
---------- ----------
Net income (loss) $ (424) $ 1,871
========== ==========
Weighted average common shares outstanding 10,805 6,369
Weighted average common equivalent shares outstanding -- 1,977
---------- ----------
Weighted average common and common equivalent
shares outstanding 10,805 8,346
========== ==========
NET INCOME PER COMMON SHARE:
Income (loss) before extraordinary item $ (0.04) $ 0.34
Extraordinary item -- (0.05)
---------- ----------
Net income (loss) $ (0.04) $ 0.29
========== ==========
NET INCOME PER SHARE - ASSUMING DILUTION:
Income (loss) before extraordinary item $ (0.04) $ 0.26
Extraordinary item -- (0.04)
---------- ----------
Net income (loss) $ (0.04) $ 0.22
========== ==========
</TABLE>
<PAGE> 1
EXHIBIT 13.1
ITEM 6. SELECTED FINANCIAL DATA
The selected consolidated statement of income data for the years ended
December 31, 1998, 1997, 1996, 1995 and 1994 and the selected consolidated
balance sheet data at December 31, 1998, 1997, 1996, 1995 and 1994 have been
derived from the Consolidated Financial Statements of Monarch Dental Corporation
(the "Company") that have been audited by Arthur Andersen LLP, independent
public accountants. The following selected consolidated financial information
should be read in conjunction with the Consolidated Financial Statements and
Notes thereto of the Company.
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
---------------------------------------------------------------
(IN THOUSANDS, EXCEPT PER SHARE DATA) 1998 1997 1996 1995 1994
- ------------------------------------- --------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C>
CONSOLIDATED STATEMENT OF INCOME DATA:
Patient revenue, net $ 129,601 $ 68,619 $ 35,980 $ 13,223 $ 9,559
Operating expenses:
Provider salaries and benefits 40,283 21,179 10,527 3,978 2,883
Clinical and other salaries and benefits 36,556 18,803 9,386 3,214 2,241
Dental supplies 6,898 4,282 2,216 833 509
Laboratory fees 5,954 2,902 1,648 633 430
Occupancy 7,265 3,709 1,937 471 392
Advertising 2,436 1,781 1,210 710 626
Other operating expenses 17,855 7,944 4,839 1,422 1,138
Depreciation and amortization 9,863 2,938 1,430 293 252
--------- --------- --------- --------- ---------
127,110 63,538 33,193 11,554 8,471
--------- --------- --------- --------- ---------
Operating income 2,491 5,081 2,787 1,669 1,088
Interest expense, net 2,872 1,545 1,687 87 81
Minority interest in combined subsidiaries 12 46 -- -- --
--------- --------- --------- --------- ---------
Income (loss) before income taxes and extraordinary item (393) 3,490 1,100 1,582 1,007
Income taxes(1) 31 1,355 425 -- --
--------- --------- --------- --------- ---------
Income (loss) before extraordinary item (424) 2,135 675 1,582 1,007
Extraordinary loss on early extinguishment of debt,
net of applicable tax benefit of $167 -- (264) -- -- --
--------- --------- --------- --------- ---------
Net income (loss) $ (424) $ 1,871 $ 675 $ 1,582 $ 1,007
========= ========= ========= ========= =========
Pro forma net income(1) -- -- -- $ 970 $ 617
Net income (loss) per common share(2):
Income (loss) before extraordinary item $ (0.04) $ 0.34 $ 0.24
Extraordinary item -- (0.05) --
--------- --------- ---------
Net income (loss) $ (0.04) $ 0.29 $ 0.24
Net income (loss) per common share - assuming dilution(2):
Income (loss) before extraordinary item $ (0.04) $ 0.26 $ 0.13
Extraordinary item -- (0.04) --
--------- --------- ---------
Net income (loss) $ (0.04) $ 0.22 $ 0.13
Weighted average common shares outstanding - basic 10,805 6,369 2,846
Weighted average common and common
equivalent shares outstanding - diluted 10,805 8,346 5,077
CONSOLIDATED BALANCE SHEET DATA:
Cash and cash equivalents $ 3,993 $ 2,975 $ 1,059 $ 760 $ 413
Working capital (deficit) (14,539) 1,337 (3,995) 349 22
Total assets 169,005 64,592 32,906 3,182 1,952
Long-term debt, less current maturities 71,328 11,200 18,769 1,077 688
Redeemable equity securities -- -- 9,711 -- --
Total stockholders' equity (deficit) 57,463 41,966 (5,408) 623 146
</TABLE>
- ------------------------------------------------------------------------------
(1) The Company was an S corporation prior to February 6, 1996, and accordingly
its consolidated statements of income for periods prior to such date did not
include income tax expense. Pro forma net income includes an adjustment to
reflect estimated income tax effects on net income for the years ended
December 31, 1995 and 1994, at an assumed effective tax rate of 38.7%.
(2) Computed on the basis described in Note 1 of Notes to Consolidated Financial
Statements. Due to the effect of the reorganization that occurred on
February 6, 1996 on the Company's capital structure, per share data for the
periods ended prior to January 1, 1996 are not comparable to subsequent
periods and, therefore, have not been presented.
1
<PAGE> 2
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This Annual Report on Form 10-K contains forward-looking statements
within the meaning of Section 27A of the Securities Act of 1933 and Section 21B
of the Securities and Exchange Act of 1934, including the statements below
concerning current management initiatives to restore profitability, current
expectations concerning acquisitions and future revenue growth, future
amortization and interest levels and liquidity and capital resources. The
Company's actual results could differ materially from those set forth in the
forward-looking statements. Certain factors that might cause such a difference
include, among others, risks associated with implementation of strategic
initiatives to improve profitability, risks associated with integration of newly
acquired companies, risks associated with the change of status or departure of
key management personnel, risks associated with the constantly changing health
care environment, the pace of development and acquisition activity, the
reimbursement rates for dental services, and other risks detailed in the
Company's Securities and Exchange Commission filings. These and other risk
factors are listed below under the caption "Certain Factors That May Affect
Future Results".
OVERVIEW
The Company manages dental group practices in selected markets located
in Texas, Wisconsin, Pennsylvania, Virginia, Ohio, Arkansas, Utah, Colorado,
Georgia, New Jersey, Florida, Indiana, Arizona and New Mexico. The managed
dental facilities (each, a "Dental Office" and collectively, the "Dental
Offices") provide general dentistry services such as examinations, cleanings,
fillings, bonding, placing crowns and fitting and placing fixed or removable
prostheses. Many of the Dental Offices also provide specialty dental services
such as orthodontics, oral surgery, endodontics, periodontics and pediatric
dentistry. The Company focuses on fee-for-service dentistry, supplementing this
business with revenue from contracts with capitated managed dental care plans.
The Company seeks to build geographically dense networks of dental
providers by expanding within its existing markets. The Company has generated
growth within its existing markets by increasing patient volume and fees in
existing Dental Offices, either on a per-patient or per-procedure basis, by
increasing the physical space of existing Dental Offices and by opening Dental
Offices on a de novo basis. The Company has entered selected new markets by
acquiring dental group practices. The Company then seeks to use the acquired
dental group practice as a "pedestal" from which to expand within the newly
entered market.
The Company has grown very rapidly in recent years. Patient revenue,
net increased from $36.0 million in 1996 to $68.6 million in 1997, an increase
of 90.7%, and increased to $129.6 million in 1998, representing an increase of
88.9% over 1997. During 1998 the Company increased the number of markets in
which it operates from eight to 21 through acquisitions and increased the number
of Dental Offices it manages from 99 to 194 through acquisitions and the opening
of new offices, as shown in the table below.
<TABLE>
<CAPTION>
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
Offices at beginning of period 99 53 12 10 9
De novo offices 7 7 2 2 1
Acquired offices 90 39 39 -- --
Closed offices (2) -- -- -- --
--- --- --- --- ---
Offices at end of period 194 99 53 12 10
=== === === === ===
</TABLE>
The very rapid growth of the Company has placed (and will continue to
place) strains on the Company's management, operations and systems. It has also
resulted in substantially increased operating expenses, including expense levels
associated with the operation of the Dental Offices (mainly salaries, benefits
and other expenses) as well as increased depreciation and amortization and
interest expense. In the fourth quarter of 1998 the company experienced slowing
revenue growth in specific existing markets, namely Houston and Arkansas, and
lower than expected performance in newly entered markets, namely Dayton, Ohio,
Austin, Texas and New Mexico, coupled with the increases in overall expense
levels, began to materially adversely affect the Company's profitability, as
growth of revenue failed to keep pace with growth of expenses. As a result, the
Company's net income prior to the unusual charges described below declined from
$1.7 million in the third quarter of 1998 to $312,000 in the fourth quarter of
1998. Net income for 1998 was $4.5 million before unusual charges ($.41 per
share) as compared with net income before an extraordinary charge of $2.1
million ($.26 per share) in 1997. The Company is currently in the process of
implementing management initiatives intended to increase revenue and reduce
expenses across its expanded network of Dental Offices, including the closure of
unprofitable operations. However, there can be no assurance that the Company
will be able to restore profitability to prior levels through these management
initiatives. There also can be no assurance that revenue growth will not
continue to
2
<PAGE> 3
slow in some of the Company's markets or that difficulties associated with the
Company's rapid growth will not continue to adversely affect its operations.
The Company's 1998 result of operations was also materially affected by
unusual charges recorded in the fourth quarter, which were $7.7 million in the
aggregate on a pre-tax basis ($4.9 million after tax). These charges include
$1.6 million associated with the change of employment status of Dr. Warren F.
Melamed, the Company's founder, who is no longer an employee but remains as a
non-employee Chairman of the Board, $3.3 million relating to goodwill
impairments associated with the closure of certain Dental Offices in Houston and
Austin, Texas and Arkansas, $1.8 million in litigation reserves and $1.0 million
associated with non-impairment expenses incurred in conjunction with the closing
of the aforementioned Dental Offices. As a result of these charges, as well as
the effect of increased amortization and interest expenses associated with
acquisitions, the Company recorded a net loss of $424,000 in 1998 as compared
with net income before an extraordinary charge of $2.1 million in 1997.
Acquisitions. Beginning with the acquisition of MacGregor Dental
Centers ("MacGregor") in February 1996, the Company has conducted an active
program to identify dental group practices outside of the Dallas-Fort Worth
market as potential acquisition candidates with a view to expanding the
Company's operations into new markets. Since December 31, 1995, the Company has
completed the following acquisitions:
<TABLE>
<CAPTION>
NUMBER OF NUMBER OF DATE EFFECTIVE DATE
DENTAL GROUP PRACTICE / MARKET DENTAL OFFICES DENTISTS(1) FOUNDED OF ACQUISITION
- ------------------------------ -------------- ----------- ------- -------------------
<S> <C> <C> <C> <C>
1996 in-markets 1 1 1981 October 1, 1996
1997 in-markets 4 4 N/A Various
1998 in-markets 7 7 N/A Various
MacGregor, Houston 15 42 1962 February 1, 1996
Midwest, Wisconsin 22 36 1975 September 1, 1996
Convenient, Arkansas 1 6 1982 November 1, 1996
Arkansas Dental Health, Arkansas 3 7 1984 January 1, 1997
United, Arkansas 9 15 1990 April 1, 1997
Dental Centers of Indiana, Indiana 11 14 1980 August 1, 1997
J.B. Hays, Arkansas 1 6 1994 October 1, 1997
Three Peaks Dental Management, Colorado 6 10 1990 November 1, 1997
Press Family Dental, San Antonio 3 14 1971 November 1, 1997
Dental America, Midland - Odessa 2 4 1994 December 1, 1997
Dental Care One, Ohio 8 14 1979 March 1, 1998
Managed Dental Care Centers, Austin &
New Mexico 8 10 1995 June 1, 1998
Valley Forge Dental Associates, Various 57 130 1995 September 1, 1998
Talbert Dental, Arizona and Utah 10 32 1973 September 1, 1998
</TABLE>
- ------------------------------------------------------------------------------
(1) Includes full-time general dentists and specialists employed by or under
contract with the Company (in the case of Midwest) or the applicable
professional corporation (in the case of each dental group practice other
than Midwest).
For information concerning the purchase prices for these acquisitions, each of
which was accounted for as a purchase, reference is made to Note 4 of the
Company's Consolidated Financial Statements included herewith.
The Company has financed its rapid expansion through acquisitions with
a combination of debt and equity issuances. As a result of its acquisitions, the
amount of intangible assets on the Company's consolidated balance sheets has
increased from $46.3 million at December 31, 1997 to $126.5 million at December
31, 1998; this has resulted and will continue to result in a substantial
increase in the Company's amortization expenses relative to historic levels. In
addition, outstanding total indebtedness has increased from $11.8 million at
December 31, 1997 to $76.1 million at December 31, 1998; this has resulted and
will continue to result in increased interest expense relative to historic
levels. The Company anticipates that, as a result
3
<PAGE> 4
of its focus on internal operations and the uncertain availability of additional
capital, the pace of acquisitions will slow materially, although the Company
expects that it will continue to review acquisitions in selected existing
markets on an opportunistic basis when and as opportunities arise and to the
extent the company has available capital. Further expansion through acquisitions
is likely to require additional borrowings unless a substantial increase in the
current market price of the Company's common stock permits the raising of
additional capital in the equity markets; there can be no assurance that such
capital will be available. The Company may determine to refinance existing
indebtedness with longer term indebtedness having lower amortization
requirements but higher interest payments, which would result in higher levels
of interest expense in the future.
Existing Market Development. Monarch commenced operations in 1983 with
a group dental practice in Dallas. From its founding in 1983 through December
31, 1998, the Company opened 27 additional Dental Offices on a de novo basis (21
in Dallas-Fort Worth, three in Houston, two in San Antonio and one in Indiana.)
The Company completed its first acquisition of a solo practice in an existing
market (Dallas-Fort Worth) in October 1996. The Company purchased four solo
practices in existing markets (three in Dallas-Fort Worth and one in Houston) in
1997 and in 1998 purchased seven solo practices in existing markets (one in
Dallas, two in Indiana, two in San Antonio, one in Wisconsin and one in
Midland-Odessa). Patient revenue, net from the Company's Dallas-Fort Worth
operations increased $5.1 million, or 38.1%, to $18.3 million in 1996, increased
$6.3 million, or 34.4%, to $24.6 million in 1997 and increased $8.8 million, or
35.5%, to $33.4 million in 1998. Operating income for the Company's Dallas-Fort
Worth operations increased $805,000, or 40.0%, to $2.8 million in 1996,
increased $542,000, or 18.8%, to $3.4 million in 1997 and increased $1.8
million, or 52.2%, to $5.2 million in 1998. However, there can be no assurance
that the Company's revenue and operating income in this market will continue to
grow at these historical rates or that the Company's operations in other markets
will grow at rates comparable to those experienced in Dallas-Fort Worth.
The average investment by the Company in the sixteen de novo Dental
Offices opened since January 1, 1996 was approximately $280,000, which includes
the cost of equipment, leasehold improvements and working capital associated
with the initial operations. Eleven de novo Dental Offices opened since January
1, 1996 began contributing operating income to the Company within three months
of opening. Three de novo Dental Offices opened since January 1, 1996 began
contributing operating income to the Company within four, five and seven months,
respectively, of opening and two de novo Dental Offices opened April 1, 1998 and
September 1, 1998, respectively, had not yet begun contributing operating income
at December 31, 1998. Future de novo Dental Offices, however, may require a
greater investment by the Company and may not begin contributing operating
income to the Company within that period of time. The Company expenses operating
costs (other than costs related to fixed assets) in connection with the
establishment of a de novo Dental Office as these costs are incurred.
COMPONENTS OF REVENUE AND EXPENSES
Under the Management Agreements, the Company establishes a "controlling
financial interest" as defined by EITF 97-2, "Application of FASB No. 94 and APB
No. 16 to Physician Practice Management Entities and Certain Other Entities
under Contractual Management Arrangement" ("EITF 97-2"). In addition, the
Company has nominee shareholder arrangements with certain of the dental group
practices as defined by EITF 97-2. For these reasons, the Company consolidates
the financial statements of the dental group practices. The Company's 1997 and
prior years consolidated financial statements have been restated to conform with
the provisions of EITF 97-2. The restatement affected the display of previously
reported revenues, amounts retained by the dental group practices and general
and administrative expenses only and did not affect the Company's 1997 and prior
years financial position, results of operations or cash flows.
Patient revenue, net ("Revenue") represents the revenue of the
professional dental corporations managed by the Company ("P.C.s") or the Company
(in states in which ownership of dental practices by the Company is permitted),
reported at estimated realizable amounts, received from third-party payors and
patients for dental services rendered at the Dental Offices. Operating expenses
consist of the expenses incurred by the Company or the P.C.s in connection with
the operation and management of the Dental Offices. These include salaries and
benefits paid to dentists and hygienists by the P.C.s or by the Company in
states in which it operates and in which ownership of dental practices by the
Company is permitted (currently Wisconsin), salaries and benefits for personnel
other than dentists and hygienists, dental supplies, dental laboratory fees,
occupancy costs, advertising, equipment leases, management information systems
and other expenses related to dental practice operations, as well as
depreciation and amortization expense.
The Company's Revenue is derived principally from fee-for-service
Revenue and Revenue from capitated managed dental care plans. Fee-for-service
Revenue consists of Revenue of the P.C.s or the Company (in states in which the
ownership of dental practices by the Company is permitted) received from
indemnity dental plans, preferred provider plans and direct
4
<PAGE> 5
payments by patients not covered by any third-party payment arrangement. Managed
dental care Revenue consists of Revenue of the P.C.s or the Company (in states
in which the ownership of dental practices by the Company is permitted) received
from capitated managed dental care plans, including capitation payments and
patient co-payments. Capitated managed dental care contracts are between dental
benefits organizations, the Company and the P.C.s (except in Wisconsin). Under
the Management Agreements, the Company negotiates and administers these
contracts on behalf of the P.C.s. Under a capitated managed dental care
contract, the dental group practice provides dental services to the members of
the dental benefits organization and receives a fixed monthly capitation payment
for each plan member covered for a specific schedule of services regardless of
the quantity or cost of services to the participating dental group practice
obligated to provide them. This arrangement shifts the risk of utilization of
these services to the dental group practice providing the dental services.
Because the Company assumes responsibility under the Management Agreements for
all aspects of the operation of the dental practices (other than the practice of
dentistry) and thus bears all costs of the P.C.s associated with the provision
of dental services at the Dental Offices (other than compensation and benefits
of dentists and hygienists), the risk of over-utilization of dental services at
the Dental Offices under capitated managed dental care plans is effectively
shifted to the Company. In addition, dental group practices participating in a
capitated managed dental care plan often receive co-payments for more
complicated or elective procedures. In contrast, under traditional indemnity
insurance arrangements, the insurance company pays whatever reasonable charges
are billed by the dental group practice for the dental services provided.
The Company seeks to increase fee-for-service business at the Dental
Offices by increasing the size of existing offices, opening new offices and
advertising. The Company seeks to supplement this fee-for-service business with
Revenue from contracts with capitated managed dental care plans. Fee-for-service
Revenue accounted for 59.8%, 62.0%, and 60.8% of the Company's total Revenue for
1998, 1997 and 1996, respectively. Managed dental care Revenue increased as a
percentage of Revenue to 40.2% in 1998 from 38.0% in 1997 due to the
acquisitions of dental practices with higher managed care Revenue relative to
total Revenue. Managed dental care Revenue decreased as a percentage of Revenue
to 38.0% in 1997 from 39.2% in 1996 due to the acquisitions of dental practices
with lower managed care Revenue relative to total Revenue. As the Company has
increased capacity by expanding within its existing markets and into new
markets, managed dental care Revenue has contributed to overall higher
utilization of the Company's facilities. Thus, although the Company's
fee-for-service business generally is more profitable than its capitated managed
dental care business on a per-patient and per-procedure basis, capitated managed
dental care business serves to increase facility utilization and dentist
productivity.
The relative percentage of the Company's Revenue derived from
fee-for-service business and capitated managed dental care contracts varies from
market to market depending on the availability of capitated managed dental care
contracts in any particular market and the Company's ability to negotiate
favorable terms in such contracts. In addition, the profitability of managed
dental care Revenue varies from market to market depending on the level of
capitation payments and co-payments in proportion to the level of benefits
required to be provided. Variations in the relative penetration and popularity
of capitated managed dental care from market to market across the country,
however, make it difficult to determine whether the Company's experience in new
markets will be consistent with its experience in existing markets. The Company
expects that the level of profitability of its operations in new markets entered
through acquisition will vary depending in part on these factors and may not
replicate or be comparable to the Company's results in existing markets.
5
<PAGE> 6
RESULTS OF OPERATIONS
As a result of the recent rapid expansion of its business through
existing market development and acquisitions and the Company's limited period of
affiliation with these practices, the Company believes that the period-to-period
comparisons set forth below may not be meaningful.
The following table sets forth the percentages of Revenue represented
by certain items reflected in the Company's consolidated statements of income.
The information that follows should be read in conjunction with the Consolidated
Financial Statements and Notes thereto.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
---------------------------------------------------
1998 1997 1996
---- ---- ----
<S> <C> <C> <C>
Patient revenue, net 100.0% 100.0% 100.0%
Operating expenses:
Provider salaries and benefits 31.1 30.9 29.2
Clinical and other salaries and benefits 28.2 27.4 26.1
Dental supplies 5.3 6.2 6.2
Laboratory fees 4.6 4.2 4.6
Occupancy 5.6 5.4 5.4
Advertising 1.9 2.6 3.4
Other operating expenses 13.8 11.6 13.5
Depreciation and amortization 7.6 4.3 4.0
---- ---- ----
98.1 92.6 92.4
---- ---- ----
Operating income 1.9 7.4 7.6
Interest expense, net 2.2 2.2 4.7
Minority interest -- 0.1 --
---- ---- ----
Income (loss) before income taxes and
extraordinary item (0.3) 5.1 2.9
Income taxes -- 2.0 1.2
---- ---- ----
Income (loss) before extraordinary item (0.3) 3.1 1.7
Extraordinary loss, net of applicable tax
benefit -- 0.4 --
---- ---- ----
Net income (loss) (0.3)% 2.7% 1.7%
==== ==== ====
</TABLE>
YEAR ENDED DECEMBER 31, 1998 COMPARED TO YEAR ENDED DECEMBER 31, 1997
Patient revenue, net. Revenue increased to $129.6 million for 1998 from
$68.6 million for 1997, an increase of $61.0 million, or 88.9%. This increase
resulted from the acquisitions of Dental Care One, Managed Dental Care Centers,
Inc. ("MDCC"), Valley Forge Dental Associates, Inc. ("Valley Forge") and Talbert
Medical Management Corporation ("Talbert") in March 1998, June 1998, September
1998 and September 1998, respectively, which contributed combined Revenue of
$30.4 million for the ten months, seven months, four months and four months
ended December 31, 1998, respectively. Dental offices in the eight markets
served at December 31, 1997, namely Dallas-Fort Worth, Houston, Wisconsin,
Arkansas, Indiana, Colorado, San Antonio and Midland-Odessa (the "existing
markets") contributed an additional $30.6 million of the increase in Revenue in
1998 resulting from the opening of seven de novo Dental Offices, the physical
expansion of ten existing Dental Offices, the acquisition of seven solo
practices and the acquisitions of United Dental Care Tom Harris D.D.S. and
Associates ("United"), Dental Centers of Indiana, Inc. ("DCI"), Three Peaks
Dental Health L.P. ("Three Peaks"), Press Family Dental ("Press") and Dental
America in April 1997, August 1997, November 1997, November 1997 and December
1997, respectively, which provided three, seven, ten, ten and eleven additional
months of Revenue, respectively, in 1998. As a result of the Company's focus on
restoring profitability of its expanded operations and the uncertain
availability of additional capital to finance acquisitions, the Company
anticipates that the pace of its acquisitions will slow in the current fiscal
year and accordingly that its revenue will not continue to grow at the rates
experienced in recent years.
6
<PAGE> 7
Fee-for-service Revenue (i.e., Revenue derived from indemnity dental plans,
preferred provider plans and direct payments by patients not covered by any
third-party payor) increased to $77.5 million for 1998 from $42.5 million for
1997, an increase of $35.0 million, or 82.2%, due to acquisitions in new markets
and growth in existing markets. New Market growth resulted from the acquisitions
of Dental Care One, MDCC, Valley Forge and Talbert which contributed combined
fee-for-service Revenue of $16.9 million for the respective periods following
the dates of acquisition. In existing markets, fee-for-service Revenue increased
to $60.6 million for 1998 from $42.5 million for 1997, representing an increase
of $18.1 million, or 42.6%. Existing market growth resulted from the opening of
seven de novo Dental Offices, the physical expansion of ten existing Dental
Offices, the acquisition of seven solo practices and the acquisitions of United,
DCI, Three Peaks, Press and Dental America in April 1997, August 1997, November
1997, November 1997 and December 1997, respectively, which provided three,
seven, ten, ten and eleven additional months of fee-for-service Revenue,
respectively, in 1998. Managed dental care Revenue (i.e., Revenue from capitated
managed dental care plans, including capitation payments and patient
co-payments) increased to $52.1 million for 1998 from $26.1 million for 1997, an
increase of $26.0 million, or 99.7%. This increase resulted in part from the
acquisitions of Dental Care One, MDCC, Valley Forge and Talbert which
contributed combined managed dental care Revenue of $13.5 million for the
respective periods following the dates of acquisition. In existing markets,
managed dental care Revenue increased to $38.6 million for 1998 from $26.1
million for 1997, an increase of $12.5 million or 47.7%. The increase in
existing markets resulted from the opening of seven de novo Dental Offices, the
physical expansion of ten existing Dental Offices, the acquisition of seven solo
practices and the acquisitions of United, DCI, Three Peaks, Press and Dental
America in April 1997, August 1997, November 1997, November 1997 and December
1997, respectively, which provided three, seven, ten, ten and eleven additional
months of managed dental care Revenue, respectively, in 1998. As a percentage of
Revenue, fee-for-service Revenue decreased to 59.8% from 62.0% for 1998 and
1997, respectively.
Provider salaries and benefits. Provider salaries and benefits expense
increased to $40.3 million for 1998 from $21.2 million for 1997, an increase of
$19.1 million, or 90.2%. The increase was due to the acquisitions of Dental Care
One, MDCC, Valley Forge and Talbert which added combined provider salaries and
benefits expense of $10.3 million for the respective periods following the dates
of acquisition. In existing markets, provider salaries and benefits expense
increased $8.8 million as dentist and hygienist compensation increased as a
result of a higher level of production at the Dental Offices and the
acquisitions of United, DCI, Three Peaks, Press and Dental America in April
1997, August 1997, November 1997, November 1997 and December 1997,
respectively, which provided three, seven, ten, ten and eleven additional months
of provider salaries and benefits expense, respectively, in 1998, and also as a
result of higher compensation levels at certain acquired companies. As a percent
of Revenue, provider salaries and benefits expense increased slightly to 31.1%
from 30.9% for 1998 and 1997, respectively, reflecting constant or higher salary
levels for providers across the Company's network of Dental Offices and reduced
revenue levels at certain of the Company's offices in the fourth quarter of
1998. The Company's objective is to reduce provider salaries and benefits as a
percent of Revenue by increasing productivity in its Dental Offices; however,
there can be no assurance that the Company's efforts in this regard will be
successful.
Clinical and other salaries and benefits. Clinical and other salaries
and benefits expense increased to $36.6 million for 1998 from $18.8 million for
1997, an increase of $17.8 million, or 94.4%. The increase resulted from the
acquisitions of Dental Care One, MDCC, Valley Forge and Talbert which added
combined clinical and other salaries and benefits expense of $8.2 million for
the respective periods following the dates of acquisition. In existing markets,
clinical and other salaries and benefits expense increased $9.6 million due to
the opening of seven de novo Dental Offices, the physical expansion of ten
existing Dental Offices, the acquisition of seven solo practices and the
acquisitions of United, DCI, Three Peaks, Press and Dental America in April
1997, August 1997, November 1997, November 1997 and December 1997, respectively,
which provided three, seven, ten, ten and eleven additional months of clinical
and other salaries and benefits expense, respectively, in 1998. Additionally,
the Company recorded a $1.6 (pretax) million unusual charge in the fourth
quarter of 1998 representing a change in employment status of Dr. Warren F.
Melamed, the Company's founder, former President and Chief Dental Officer. As a
percent of Revenue, clinical and other salaries and benefits expense increased
to 28.2% from 27.4% for 1998 and 1997, respectively. This increase was due
principally to the $1.6 million unusual charge recorded in the fourth quarter of
1998.
Dental supplies. Dental supplies expense increased to $6.9 million for
1998 from $4.3 million for 1997, an increase of $2.6 million, or 61.1%. This
increase resulted from the acquisitions of Dental Care One, MDCC, Valley Forge
and Talbert which added combined dental supplies expense of $1.6 million for the
respective periods following the dates of acquisition. In existing markets,
dental supplies expense increased $1.0 million as a result of increased
production and the acquisitions of United, DCI, Three Peaks, Press and Dental
America in April 1997, August 1997, November 1997,
7
<PAGE> 8
November 1997 and December 1997, respectively, which provided three, seven, ten,
ten and eleven additional months of dental supplies expense, respectively, for
1998. As a percent of Revenue, dental supplies expense decreased to 5.3% from
6.2% for 1998 and 1997, respectively. This decrease was due principally to the
leveraging of supply contracts with expansion in existing markets and to the
acquisitions having lower dental supplies expense as a percent of Revenue than
the Company's existing operations.
Laboratory fees. Laboratory fee expense increased to $6.0 million for
1998 from $2.9 million for 1997, an increase of $3.1 million, or 105.2%. This
increase resulted from the acquisitions of Dental Care One, MDCC, Valley Forge
and Talbert which added combined laboratory fee expense of $1.6 million for the
respective periods following the dates of acquisition. In existing markets,
laboratory fee expense increased $1.5 million as a result of increased
production and the acquisitions of United, DCI, Three Peaks, Press and Dental
America in April 1997, August 1997, November 1997, November 1997 and December
1997, respectively, which provided three, seven, ten, ten and eleven additional
months of laboratory fees expense, respectively, for 1998. As a percent of
Revenue, laboratory fee expense increased to 4.6% from 4.2% for 1998 and 1997,
respectively. This increase was due principally to the acquisitions having
higher laboratory fee expense as a percent of Revenue than the Company's
existing operations.
Occupancy. Occupancy expense increased to $7.3 million for 1998 from
$3.7 million for 1997, an increase of $3.6 million, or 95.9%. This increase
resulted from the acquisitions of Dental Care One, MDCC, Valley Forge and
Talbert which added a combined $1.5 million to occupancy expense for the
respective periods following the dates of acquisition. In existing markets,
occupancy expense increased $2.1 million resulting from the opening of seven de
novo Dental Offices, the physical expansion of ten existing Dental Offices, the
acquisition of seven solo practices and the acquisitions of United, DCI, Three
Peaks, Press and Dental America in April 1997, August 1997, November 1997,
November 1997 and December 1997, respectively, which provided three, seven, ten,
ten and eleven additional months of occupancy expense, respectively, for 1998.
Additionally, the Company recorded a $476,000 (pretax) unusual charge in the
fourth quarter of 1998 representing costs associated with Dental Office closures
in Houston and Austin, Texas and Arkansas. The majority of these closures
occurred in the first quarter of 1999. As a percent of Revenue, occupancy
expense increased slightly to 5.6% from 5.4% for 1998 and 1997, respectively.
This increase was due principally to the $476,000 unusual charge recorded in the
fourth quarter of 1998.
Advertising. Advertising expense increased to $2.4 million for 1998
from $1.8 million for 1997, an increase of $655,000, or 36.8%. This increase
resulted from the acquisitions of Dental Care One, MDCC, Valley Forge and
Talbert which added a combined $335,000 to advertising expense for the
respective periods following the dates of acquisition. There was an increase of
$320,000 in television and print advertising in the existing markets in 1998. As
a percent of Revenue, advertising expense decreased to 1.9% from 2.6% for 1998
and 1997, respectively. This decrease resulted from leveraging advertising
expense with greater market penetration in existing markets.
Other operating expenses. Other operating expenses consist of general
and administrative expenses and bad debt expense (which was formerly a component
of amounts retained by dental group practices). Other operating expenses
increased to $17.9 million for 1998 from $7.9 million for 1997, an increase of
$10.0 million, or 124.8%. This increase resulted from the acquisitions of Dental
Care One, MDCC, Valley Forge and Talbert which added combined other operating
expenses of $3.7 million for the respective periods following the dates of
acquisition. Other operating expenses for existing markets increased $6.3
million resulting from the opening of seven de novo Dental Offices, the physical
expansion of ten existing Dental Offices, the acquisition of seven solo
practices, the acquisitions of United, DCI, Three Peaks, Press and Dental
America in April 1997, August 1997, November 1997, November 1997 and December
1997, respectively, which provided three, seven, ten, ten and eleven additional
months of other operating expenses, respectively, for 1998 and the expansion of
the Company's corporate infrastructure to manage growth. Additionally, other
operating expenses reflect a $2.2 million (pretax) unusual charge recorded in
the fourth quarter of 1998 representing costs associated with establishing
litigation reserves ($1.8 million) and reserves for expenses associated with
certain Dental Office closures ($419,000). As a percent of Revenue, other
operating expenses increased to 13.8% from 11.6% for 1998 and 1997,
respectively. This increase was due principally to the $2.2 million unusual
charge recorded in the fourth quarter of 1998.
Depreciation and amortization. Depreciation and amortization expense
increased to $9.9 million for 1998 from $2.9 million for 1997, an increase of
$7.0 million, or 235.7%. This increase resulted from the acquisitions of Dental
Care One, MDCC, Valley Forge and Talbert which added combined depreciation and
amortization expense of $1.7 million for the respective periods following the
dates of acquisition. Depreciation and amortization expense for existing markets
increased $5.3 million resulting from the opening of seven de novo Dental
Offices, the physical expansion of ten existing Dental Offices, the acquisition
of seven solo practices and the acquisitions of United, DCI, Three Peaks, Press
and Dental America in April
8
<PAGE> 9
1997, August 1997, November 1997, November 1997 and December 1997,
respectively, which provided three, seven, ten, ten and eleven additional months
of depreciation and amortization expense, respectively, for 1998. Additionally,
the Company recorded a $3.3 million (pretax) unusual charge in the fourth
quarter of 1998 for goodwill impairment associated with the closure of certain
Dental Offices in Houston and Austin, Texas and Arkansas. As a percent of
Revenue, depreciation and amortization expense increased to 7.6% from 4.3% for
1998 and 1997, respectively. This increase was due principally to the $3.3
million unusual charge recorded in the fourth quarter of 1998 and to the
acquired companies having higher depreciation and amortization expense as a
percent of Revenue than the Company's existing operations.
Operating income. Operating income decreased to $2.5 million for 1998
from $5.1 million for 1997, a decrease of $2.6 million, or 51.0%. This decrease
resulted from the acquisitions of Dental Care One, MDCC, Valley Forge and
Talbert which added combined operating income of $1.7 million for the respective
periods following the dates of acquisition and a $5.5 million increase in
operating income in existing markets in 1998 offset by increased corporate
expenses of $2.1 million due to the development of corporate infrastructure and
the $7.7 million (pretax) of unusual charges recorded in the fourth quarter of
1998, as described above, representing costs associated with a change in
employment status, goodwill impairment and the establishment of litigation
reserves and reserves for the closure of certain Dental Offices. As a percent of
Revenue, operating income decreased to 1.9% from 7.4% for 1998 and 1997,
respectively. This decrease was due principally to the $7.7 million (pretax)
unusual charges recorded in the fourth quarter of 1998.
Interest expense, net. Interest expense, net increased to $2.9 million
for 1998 from $1.5 million for 1997, an increase of $1.4 million, or 85.9%. This
increase is attributable to the higher average outstanding debt balances in 1998
versus 1997. Effective November 1997, the Company entered into a new Credit
Facility (the "Credit Facility") with a bank syndicate. Average debt outstanding
under the Credit Facility totaled $29.5 million for 1998 compared to average
debt outstanding of $14.7 million for 1997.
Minority interest. Minority interest expense decreased to $12,000 for
1998 from $46,000 for 1997, a decrease of $34,000, or 73.9%. This decrease
resulted from lower net income relating to the acquisitions of DCI, which owns a
fifty percent ownership in two partnerships operating four Dental Offices in
Indiana, Dental America, which owns a twenty percent interest in a group dental
practice with two offices located in Midland and Odessa, Texas, and MDCC, which
owns a thirty-five percent interest in a group dental practice with two offices
in Austin, Texas and five offices in New Mexico for the twelve months ended
December 31, 1998 and 1997, respectively.
Income taxes. Income tax expense decreased to $31,000 for 1998 from
$1.4 million for 1997, a decrease of $1.3 million, or 97.7%. This decrease was
the result of lower net income before taxes, which decreased to $(393,000) for
1998 from $3.5 million for 1997, a decrease of $3.9 million, or 111.3%.
Extraordinary loss. The Company incurred an extraordinary loss of
$264,000, net of tax for 1997 as it extinguished its prior credit facility and
wrote off $431,000 in unamortized loan fees, net of a tax benefit of $167,000.
YEAR ENDED DECEMBER 31, 1997 COMPARED TO YEAR ENDED DECEMBER 31, 1996
Patient revenue, net. Revenue increased to $68.6 million for 1997 from
$36.0 million for 1996, an increase of $32.6 million, or 90.7%. This increase
resulted from the acquisitions of Arkansas Dental Health Associates, Inc.
("Arkansas Dental Health"), United Dental Care Tom Harris D.D.S. and Associates
("United"), Dental Centers of Indiana, Inc. ("DCI"), Dental Diagnostic and
Treatment Center ("J.B. Hays"), Three Peaks Dental Health L.P. ("Three Peaks"),
Press Family Dental and Dental America in January 1997, April 1997, August 1997,
October 1997, November 1997, November 1997 and December 1997, respectively,
which contributed combined Revenue of $10.6 million for the twelve months, nine
months, five months, three months, two months, two months and one month ended
December 31, 1997, respectively. Dental offices in the Dallas-Fort Worth,
Houston, Wisconsin and Arkansas markets (the "existing markets") contributed an
additional $22.0 million of the increase in Revenue in 1997 resulting from the
opening of seven de novo Dental Offices, the physical expansion of five existing
Dental Offices, the acquisition of four solo practices and the acquisitions of
Midwest Dental Care ("Midwest") and Convenient Dental Care, Inc. ("Convenient")
in September 1996 and November 1996, respectively, which provided eight and ten
additional months of Revenue, respectively, in 1997.
9
<PAGE> 10
Fee-for-service Revenue (i.e., Revenue derived from indemnity dental
plans, preferred provider plans and direct payments by patients not covered by
any third-party payor) increased to $42.5 million for 1997 from $21.9 million
for 1996, an increase of $20.6 million, or 94.4%, due to acquisitions in new
markets and growth in existing markets. This increase resulted from the
acquisitions of Arkansas Dental Health, United, DCI, J.B. Hays, Three Peaks,
Press Family Dental and Dental America which contributed combined
fee-for-service Revenue of $8.8 million for the respective periods following the
dates of acquisition. In existing markets, fee-for-service Revenue increased to
$33.7 million for 1997 from $21.9 million for 1996, representing an increase of
$11.8 million, or 54.3%. The increase in existing markets resulted from the
opening of seven de novo Dental Offices, the physical expansion of five existing
Dental Offices, the acquisition of four solo practices and the acquisitions of
Midwest and Convenient in September 1996 and November 1996, respectively, which
provided eight and ten additional months of fee-for-service Revenue,
respectively, in 1997. Managed dental care Revenue (i.e., Revenue from capitated
managed dental care plans, including capitation payments and patient
co-payments) increased to $26.1 million for 1997 from $14.1 million for 1996, an
increase of $12.0 million, or 85.0%. This increase resulted in part from the
acquisitions of Arkansas Dental Health, United, DCI, J.B. Hays, Three Peaks,
Press Family Dental and Dental America which contributed combined managed dental
care Revenue of $1.8 million for the respective periods following the dates of
acquisition. In existing markets, managed dental care Revenue increased to $24.3
million for 1997 from $14.1 million for 1996, an increase of $10.2 million or
72.3%. The increase in existing markets resulted from the opening of seven de
novo Dental Offices, the physical expansion of five existing Dental Offices, the
acquisition of four solo practices and the acquisitions of Midwest and
Convenient in September 1996 and November 1996, respectively, which provided
eight and ten additional months of managed dental care Revenue, respectively, in
1997. As a percentage of Revenue, fee-for-service Revenue increased to 62.0%
from 60.8% for 1997 and 1996, respectively.
Provider salaries and benefits. Provider salaries and benefits expense
increased to $21.2 million for 1997 from $10.5 million for 1996, an increase of
$10.7 million, or 101.2%. The increase was due to the acquisitions of Arkansas
Dental Health, United, DCI, J.B. Hays, Three Peaks, Press Family Dental and
Dental America which together added provider salaries and benefits expense of
$3.1 million for the respective periods following the dates of acquisition. In
existing markets, amounts retained by dental group practices increased $7.6
million as dentist and hygienist compensation increased as a result of a higher
level of production at the Dental Offices and the acquisitions of Midwest and
Convenient in September 1996 and November 1996, respectively, which provided
eight and ten additional months of provider salaries and benefits, respectively,
in 1997. As a percent of Revenue, provider salaries and benefits increased to
30.9% from 29.2% for 1997 and 1996, respectively.
Clinical and other salaries and benefits. Clinical and other salaries
and benefits expense increased to $18.8 million for 1997 from $9.4 million for
1996, an increase of $9.4 million, or 100.3%. The increase resulted from the
acquisitions of Arkansas Dental Health, United, DCI, J.B. Hays, Three Peaks,
Press Family Dental and Dental America which added combined clinical and other
salaries and benefits expense of $2.7 million for the respective periods
following the dates of acquisition. In existing markets, clinical salaries and
benefits expense increased $6.7 million due to the opening of seven de novo
Dental Offices, the physical expansion of five existing Dental Offices, the
acquisition of four solo practices and the acquisitions of Midwest and
Convenient in September 1996 and November 1996, respectively, which provided
eight and ten additional months of clinical and other salaries and benefits
expense, respectively, in 1997. As a percent of Revenue, clinical and other
salaries and benefits expense increased to 27.4% from 26.1% for 1997 and 1996,
respectively. This increase is the result of acquisitions having higher clinical
and other salaries and benefits expense as a percent of Revenue than the
Company's existing operations and reflecting a more fully staffed corporate
infrastructure for the year ended December 31, 1997.
Dental supplies. Dental supplies expense increased to $4.3 million for
1997 from $2.2 million for 1996, an increase of $2.1 million, or 93.2%. This
increase resulted from the acquisitions of Arkansas Dental Health, United, DCI,
J.B. Hays, Three Peaks, Press Family Dental and Dental America which added
$684,000 of combined dental supplies expense for the respective periods
following the dates of acquisition. In existing markets, dental supplies expense
increased $1.4 million as a result of increased production and the acquisitions
of Midwest and Convenient in September 1996 and November 1996, respectively,
which provided eight and ten additional months of dental supplies expense for
1997. As a percent of Revenue, dental supplies expense remained constant at 6.2%
for 1997 and 1996, respectively.
Laboratory fees. Laboratory fee expense increased to $2.9 million for
1997 from $1.6 million for 1996, an increase of $1.3 million, or 76.1%. This
increase resulted from the acquisitions of Arkansas Dental Health, United, DCI,
J.B. Hays, Three Peaks, Press Family Dental and Dental America which added
combined laboratory fee expense of $577,000 for the respective periods following
the dates of acquisition. In existing markets, laboratory fee expense increased
$677,000 as a result of increased production and the acquisitions of Midwest and
Convenient in September 1996 and November 1996, respectively, which provided
eight and ten additional months of laboratory fees expense for 1997. As a
percent of Revenue, laboratory fee expense decreased slightly to 4.2% from 4.6%
for 1997 and 1996, respectively.
10
<PAGE> 11
Occupancy. Occupancy expense increased to $3.7 million for 1997 from
$1.9 million for 1996, an increase of $1.8 million, or 91.5%. This increase
resulted from the acquisitions of Arkansas Dental Health, United, DCI, J.B.
Hays, Three Peaks, Press Family Dental and Dental America which added a combined
$503,000 to occupancy expense for the respective periods following the dates of
acquisition. In existing markets, occupancy expense increased $1.3 million
resulting from the opening of seven de novo Dental Offices, the physical
expansion of five existing Dental Offices, the acquisition of four solo
practices and the acquisitions of Midwest and Convenient in September 1996 and
November 1996, respectively, which provided eight and ten additional months of
occupancy expense, respectively, for 1997. As a percent of Revenue, occupancy
expense remained constant at 5.4% for 1997 and 1996, respectively.
Advertising. Advertising expense increased to $1.8 million for 1997
from $1.2 million for 1996, an increase of $571,000, or 47.2%. This increase
resulted from the acquisitions of Arkansas Dental Health, United, DCI, J.B.
Hays, Three Peaks, Press Family Dental and Dental America which added a combined
$260,000 to advertising expense for the respective periods following the dates
of acquisition. There was an increase of $311,000 in television and print
advertising in the existing markets in 1997. As a percent of Revenue,
advertising expense decreased to 2.6% from 3.4% for 1997 and 1996, respectively.
This decrease resulted from leveraging advertising expense with greater market
penetration in existing markets.
Other operating expenses. Other operating expenses increased to $7.9
million for 1997 from $4.8 million for 1996, an increase of $3.1 million, or
64.2%. This increase resulted from the acquisitions of Arkansas Dental Health,
United, DCI, J.B. Hays, Three Peaks, Press Family Dental and Dental America
which added combined general and administrative expense of $932,000 for the
respective periods following the dates of acquisition. Other operating expenses
for existing markets increased $3.0 million resulting from the opening of seven
de novo Dental Offices, the physical expansion of five existing Dental Offices,
the acquisition of four solo practices, the acquisitions of Midwest and
Convenient in September 1996 and November 1996, respectively, which provided
eight and ten additional months of other operating expenses for 1997 and the
expansion of the Company's corporate infrastructure to manage growth. As a
percent of Revenue, other operating expenses decreased to 11.6% from 13.5%. This
decrease was due principally to leveraging corporate expenses against additional
Revenue resulting from acquisitions and expansion in existing markets.
Depreciation and amortization. Depreciation and amortization expense
increased to $2.9 million for 1997 from $1.4 million for 1996, an increase of
$1.5 million, or 105.5%. This increase resulted from the acquisitions of
Arkansas Dental Health, United, DCI, J.B. Hays, Three Peaks, Press Family Dental
and Dental America which added combined depreciation and amortization expense of
$521,000 for the respective periods following the dates of acquisition.
Depreciation and amortization expense for existing markets increased $987,000
resulting from the opening of seven de novo Dental Offices, the physical
expansion of five existing Dental Offices, the acquisition of four solo
practices and the acquisitions of Midwest and Convenient in September 1996 and
November 1996, respectively, which provided eight and ten additional months of
depreciation and amortization expense for 1997. As a percent of Revenue,
depreciation and amortization expense increased slightly to 4.3% from 4.0% for
1997 and 1996, respectively.
Operating income. Operating income increased to $5.1 million for 1997
from $2.8 million for 1996, an increase of $2.3 million, or 82.3%. This increase
resulted from the acquisitions of Arkansas Dental Health, United, DCI, J.B.
Hays, Three Peaks, Press Family Dental and Dental America which added combined
operating income of $1.3 million for the respective periods following the dates
of acquisition. Income from the Company's existing markets increased $2.3
million for 1997, which was offset by increased corporate expenses of $1.3
million due to the development of corporate infrastructure. As a percent of
Revenue, operating income decreased slightly to 7.4% from 7.6% for 1997 and
1996, respectively.
Interest expense, net. Interest expense, net decreased to $1.5 million
for 1997 from $1.7 million for 1996, a decrease of $200,000, or 8.4%. This
decrease is attributable to the retirement of $24.8 million in outstanding debt
under the prior credit facility with the use of proceeds obtained from the
Company's initial public offering on July 23, 1997. Effective November 1997 the
Company entered into a new Credit Facility (the "Credit Facility") with a bank
syndicate. Average debt outstanding under the two credit facilities totaled
$14.7 million for 1997 compared to average debt outstanding of $17.7 million for
1996.
Minority interest. Minority interest expense was $46,000 for 1997 as a
result of the acquisitions of DCI, which owns a fifty percent ownership in two
partnerships operating four Dental Offices in Indiana, and Dental America, which
owns a twenty percent interest in a group dental practice with two offices
located in Midland and Odessa, Texas.
Income taxes. Income tax expense increased to $1.4 million for 1997
from $425,000 for 1996, an increase of $1.0 million, or 218.6%. This increase
was the result of higher net income before taxes, which increased to $3.5
million for 1997 from $1.1 million for 1996, an increase of $2.4 million, or
217.3%.
Extraordinary loss. The Company incurred an extraordinary loss of
$264,000, net of tax for 1997 as it extinguished its prior credit facility and
wrote off $431,000 in unamortized loan fees, net of a tax benefit of $167,000.
11
<PAGE> 12
QUARTERLY CONSOLIDATED FINANCIAL INFORMATION (UNAUDITED)
The following table sets forth unaudited quarterly consolidated operating
results for each of the Company's last eight quarters ended December 31, 1998.
This information has been prepared by the Company on a basis consistent with the
Company's audited consolidated financial statements and includes all adjustments
(consisting only of normal recurring adjustments) that management considers
necessary for a fair presentation of the data. These quarterly consolidated
results are not necessarily indicative of future consolidated results of
operations. This information should be read in conjunction with the Consolidated
Financial Statements and Notes.
<TABLE>
<CAPTION>
QUARTER ENDED
----------------------------------------------------------------------------------
DEC. 31, SEPT. 30, JUNE 30, MAR. 31, DEC. 31, SEPT. 30, JUNE 30, MAR. 31,
1998 (1) 1998 1998 1998 1997 1997 1997 1997
-------- --------- -------- -------- -------- --------- -------- --------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Patient revenue, net ................... $ 45,378 $ 34,090 $ 25,853 $ 24,280 $ 20,462 $ 17,436 $ 16,245 $ 14,476
Operating expenses:
Provider salaries and benefits ....... 14,910 10,484 7,671 7,218 6,217 5,426 5,027 4,509
Clinical and other salaries and
benefits ........................... 13,873 9,252 6,965 6,466 5,739 4,752 4,478 3,834
Dental supplies ...................... 2,372 1,624 1,462 1,440 1,245 1,119 1,006 912
Laboratory fees ...................... 2,155 1,510 1,231 1,058 880 770 661 591
Occupancy ............................ 2,856 1,737 1,343 1,329 1,092 955 862 800
Advertising .......................... 745 599 578 515 519 516 421 325
Other operating expenses ............. 8,000 3,930 2,900 3,024 2,136 1,884 1,946 1,978
Depreciation and amortization ........ 5,816 1,719 1,241 1,087 980 724 669 565
-------- -------- -------- -------- -------- -------- -------- --------
50,727 30,855 23,391 22,137 18,808 16,146 15,070 13,514
-------- -------- -------- -------- -------- -------- -------- --------
Operating income (loss) ................ (5,349) 3,235 2,462 2,143 1,654 1,290 1,175 962
Interest expense, net .................. 1,876 482 231 282 171 150 645 579
Minority interest in combined
subsidiaries .......................... (37) (15) 15 50 16 30 -- --
-------- -------- -------- -------- -------- -------- -------- --------
Income (loss) before income taxes
and extraordinary item .............. (7,188) 2,768 2,216 1,811 1,467 1,110 530 383
Income taxes ........................... (2,620) 1,080 864 707 572 428 205 150
-------- -------- -------- -------- -------- -------- -------- --------
Income (loss) before extraordinary
item ................................. (4,568) 1,688 1,352 1,104 895 682 325 233
Extraordinary loss on early
extinguishment of debt, net of
applicable tax benefit ............... -- -- -- -- -- (264) -- --
-------- -------- -------- -------- -------- -------- -------- --------
Net income (loss) ...................... $ (4,568) $ 1,688 $ 1,352 $ 1,104 $ 895 $ 418 $ 325 $ 233
======== ======== ======== ======== ======== ======== ======== ========
Net income (loss) per common share:
Income (loss) before extraordinary
item ............................... $ (0.38) $ 0.16 $ 0.13 $ 0.11 $ 0.09 $ 0.08 $ 0.10 $ 0.07
Extraordinary item ................... -- -- -- -- -- (0.03) -- --
-------- -------- -------- -------- -------- -------- -------- --------
Net income (loss) .................... $ (0.38) $ 0.16 $ 0.13 $ 0.11 $ 0.09 $ 0.05 $ 0.10 $ 0.07
======== ======== ======== ======== ======== ======== ======== ========
Net income (loss) per common share-
assuming dilution:
Income (loss) before extraordinary
item ............................... $ (0.38) $ 0.16 $ 0.13 $ 0.11 $ 0.09 $ 0.07 $ 0.05 $ 0.04
Extraordinary item ................... -- -- -- -- -- (0.03) -- --
-------- -------- -------- -------- -------- -------- -------- --------
Net income (loss) .................... $ (0.38) $ 0.16 $ 0.13 $ 0.11 $ 0.09 $ 0.04 $ 0.05 $ 0.04
======== ======== ======== ======== ======== ======== ======== ========
Weighted average number of common
shares outstanding - basic ........... 11,945 10,708 10,324 10,235 10,130 8,746 3,281 3,217
======== ======== ======== ======== ======== ======== ======== ========
Weighted average number of common and
common equivalent shares
outstanding - diluted ................ 11,945 10,797 10,466 10,322 10,277 9,587 6,744 6,407
======== ======== ======== ======== ======== ======== ======== ========
</TABLE>
12
<PAGE> 13
<TABLE>
<CAPTION>
QUARTER ENDED
----------------------------------------------------------------------------------
DEC. 31, SEPT. 30, JUNE 30, MAR. 31, DEC. 31, SEPT. 30, JUNE 30, MAR. 31,
1998 (1) 1998 1998 1998 1997 1997 1997 1997
-------- --------- -------- -------- -------- --------- -------- --------
(PERCENTAGE OF REVENUE)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Patient revenue, net ........................ 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%
Operating expenses:
Provider salaries and benefits ............ 32.9 30.8 29.7 29.7 30.4 31.1 30.9 31.2
Clinical and other salaries and
benefits ................................ 30.7 27.1 26.9 26.6 28.1 27.2 27.6 26.5
Dental supplies ........................... 5.2 4.8 5.7 5.9 6.1 6.4 6.2 6.3
Laboratory fees ........................... 4.7 4.4 4.8 4.4 4.3 4.4 4.1 4.1
Occupancy ................................. 6.3 5.1 5.2 5.5 5.3 5.5 5.3 5.5
Advertising ............................... 1.6 1.8 2.2 2.1 2.5 3.0 2.6 2.2
Other operating expenses .................. 17.6 11.5 11.2 12.5 10.4 10.8 12.0 13.7
Depreciation and amortization ............. 12.8 5.0 4.8 4.5 4.8 4.2 4.1 3.9
----- ----- ----- ----- ----- ----- ----- -----
111.8 90.5 90.5 91.2 91.9 92.6 92.8 93.4
----- ----- ----- ----- ----- ----- ----- -----
Operating income (loss) ..................... (11.8) 9.5 9.5 8.8 8.1 7.4 7.2 6.6
Interest expense, net ....................... 4.1 1.4 0.9 1.1 0.8 0.9 4.0 4.0
Minority interest in combined
subsidiaries .............................. (0.1) -- -- 0.2 0.1 0.1 -- --
----- ----- ----- ----- ----- ----- ----- -----
Income (loss) before income taxes
and extraordinary item .................... (15.8) 8.1 8.6 7.5 7.2 6.4 3.2 2.6
Income taxes ................................ (5.7) 3.1 3.4 3.0 2.8 2.5 1.2 1.0
----- ----- ----- ----- ----- ----- ----- -----
Income (loss) before extraordinary
item ...................................... (10.1) 5.0 5.2 4.5 4.4 3.9 2.0 1.6
Extraordinary loss on early
extinguishment of debt, net of
applicable tax benefit .................... -- -- -- -- -- 1.5 -- --
----- ----- ----- ----- ----- ----- ----- -----
Net income (loss) ........................... (10.1)% 5.0% 5.2% 4.5% 4.4% 2.4% 2.0% 1.6%
===== ===== ===== ===== ===== ===== ===== =====
</TABLE>
(1) Includes the effect of approximately $7.7 million (pre-tax) in charges
relating primarily to executive compensation expense, litigation reserves,
goodwill impairment and Dental Office closure costs.
13
<PAGE> 14
LIQUIDITY AND CAPITAL RESOURCES
At December 31, 1998, the Company had a $14.5 million working capital
deficit, representing a decrease of $15.8 million from the working capital
surplus of $1.3 million at December 31, 1997. This working capital deficit
resulted principally from the effect of the Valley Forge acquisition and
included $36.5 million in current liabilities, consisting of $6.1 million in
accounts payable, $22.6 million in accrued liabilities, $3.0 million in amounts
payable to dental group practices as consideration for accounts receivable
acquired from such group practices and $4.8 million in current maturities of
notes payable and capital lease obligations. These current liabilities were
offset by current assets of $21.9 million, consisting of $4.0 million in cash
and cash equivalents, $15.3 million in accounts receivable, net of allowances,
prepaid expenses of $1.4 million and $1.2 million in federal income tax
receivable. The Company's principal sources of liquidity as of December 31,
1998 consisted of cash and cash equivalents, net accounts receivable and
borrowing capacity under the Credit Facility. There can be no assurance that the
Company's working capital deficit will not continue in the future, particularly
if additional indebtedness requires current amortization of principal.
For the year ended December 31, 1998 and 1997, cash provided by
operations was $3.1 million and $4.1 million, respectively.
Cash used in investing activities was $55.5 million for the year ended
December 31, 1998 and $19.8 million for the year ended December 31, 1997. For
the year ended December 31, 1998, $48.6 million was utilized for acquisitions
and $6.9 million was invested in the purchase of additional property and
equipment. For the year ended December 31, 1997, $16.5 million was utilized for
acquisitions and $3.3 million was invested in the purchase of additional
property and equipment.
For the year ended December 31, 1998 and 1997, cash provided by
financing activities was $53.4 million and $17.7 million, respectively. In the
year ended December 31, 1998, the cash provided was primarily comprised of $55.2
million in net borrowings offset by the repayment of $1.7 million in outstanding
debt. In the year ended December 31, 1997, the cash provided was comprised of
$38.6 million in proceeds from the issuance of stock, offset by the net
repayment of $12.9 million in outstanding debt and payments of $8.0 million to
redeem Redeemable Preferred Stock in conjunction with the Company's initial
public offering.
The Company extinguished its prior credit facility, which was to expire
on August 29, 1999, with a bank. The Company entered into a new Credit Facility
with a bank syndicate effective November 1997, which was amended in March 1999.
Under the new Credit Facility, the Company may borrow up to $85.0 million. As of
December 31, 1998, the Company had $65.4 million outstanding under the Credit
Facility and remaining availability of $9.6 million. At March 29, 1999 the
Company had $74.8 million outstanding under Credit Facility and remaining
availability of $10.2 million. The amounts outstanding under the new Credit
Facility bear interest at variable rates which are based upon either the
lender's base rate or LIBOR, plus, in either case, a margin which varies
according to the ratio of the Company's funded debt to EBITDA, each as defined
in the Credit Facility. The Credit Facility prohibits the Company from incurring
indebtedness, incurring liens, disposing of assets, making investments or making
acquisitions above a predetermined consideration level without bank approval,
and requires the Company to maintain certain financial ratios on an ongoing
basis. The Credit Facility is secured by pledges of all of the outstanding
capital stock of, or other equity interests in, the Company's subsidiaries, and
a lien on substantially all of the assets of the Company. As a result of a
judgment rendered against the Company in January 1999 (see Note 8 to the
Consolidated Financial Statements), the Company is in violation of the terms of
the Credit Facility. The Company has received a waiver from the bank syndicate
relating to this matter.
The Company believes that the cash generated from operations will be
sufficient to fund its anticipated working capital needs and capital
expenditures (other than financing necessary to complete future acquisitions)
for the foreseeable future. The Company expects to fund future acquisitions with
cash from operations and borrowings under the Credit Facility. In order to meet
its long-term liquidity needs, the Company may issue additional equity and debt
securities, subject to market and other conditions. There can be no assurance
that any such additional financing will be available on terms acceptable to the
Company. Moreover, there can also be no assurance that cash generated from
operations will be sufficient to cover the Company's interest expense or that
the Company will not experience losses in the future. The failure to raise the
funds necessary to finance its future cash requirements could adversely affect
the Company's ability to pursue its strategy and could negatively affect its
operations in future periods.
14
<PAGE> 15
YEAR 2000 ISSUE
The statements in the following section include "Year 2000 readiness
disclosure" within the meaning of the Year 2000 Information and Readiness
Disclosure Act.
Many existing computer programs and databases use two digits to
identify a year in the date field (i.e., 98 would represent 1998). These
programs and databases were not originally designed to operate after December
31, 1999. If not corrected, many computer programs and databases could fail or
create erroneous results relating to the year 2000. If the Company, its
significant customers, or suppliers fail to make necessary modifications and
conversions on a timely basis, the year 2000 issue could have a material adverse
effect on the Company's operations. However, the impact cannot be quantified at
this time. The Company believes that its competitors face a similar risk.
The Company is in the process of addressing the possible exposures
related to the impact on its computer programs and databases of the year 2000
issue. Key management information systems and operational systems, including
equipment with embedded microprocessors, have been or are currently being
inventoried and assessed, and detailed plans have been or are currently being
developed for the required program and database modifications or replacements.
Progress against these plans is monitored and reported to management on a
regular basis. Implementation of required changes to critical systems is
expected to be completed during fiscal 1999. The Company is also focusing on
major customers, which consist of third-party payors such as preferred provider
plans, and certain key suppliers to assess their compliance. The Company expects
to complete such assessment by June 30, 1999. In the event a material customer
or supplier is not Year 2000 compliant, the Company's business, financial
condition and results of operations could be materially and adversely affected.
The costs incurred to date related to these programs have not been
material and the Company does not expect its future costs related to these
programs to be material. Such costs have been and will continue to be funded
through operating cash flows. The Company presently believes that the total cost
of achieving year 2000 compliance will not be material to its financial
condition, liquidity, or results of operations.
Time and cost estimates are based on currently available information.
Developments that could affect estimates include, but are not limited to, the
availability and cost of trained personnel; the ability to locate and correct
all relevant computer code and systems; and remediation success of the Company's
customers and suppliers.
The preceding "Year 2000 Readiness Disclosure" contains various
forward-looking statements within the meaning of Section 21E of the Securities
Exchange Act of 1934 and the Section 27A Securities Act of 1933. These
forward-looking statements represent the Company's beliefs or expectations
regarding future events. When used in the "Year 2000 Readiness Disclosure", the
words "believes," "expects," "estimates" and similar expressions are intended to
identify forward-looking statements. Forward-looking statements include, without
limitation, the Company's expectations as to when it will complete the
modification and testing phases of its Year 2000 project plan as well as its
Year 2000 contingency plans; its estimated cost of achieving Year 2000
readiness; and the Company's belief that its internal systems will be Year 2000
compliant in a timely manner. All forward-looking statements involve a number of
risks and uncertainties that could cause the actual results to differ materially
from the projected results. Factors that may cause these differences include,
but are not limited to, the availability of qualified personnel and other
information technology resources; the ability to identify and remediate all date
sensitive lines of computer code or to replace embedded computer chips in
affected systems or equipment; and the actions of governmental agencies or other
third parties with respect to Year 2000 problems.
15
<PAGE> 16
CERTAIN FACTORS THAT MAY AFFECT FUTURE RESULTS
RISKS ASSOCIATED WITH ACQUISITION STRATEGY
The Company has grown substantially in a relatively short period of
time, principally through acquisitions. The Company has completed 28
acquisitions resulting in the addition of 168 Dental Offices since January 1,
1996. The Company has incurred substantial indebtedness to finance these
acquisitions. The Company's has experienced setbacks in managing and integrating
certain newly acquired operations, which has adversely affected the Company's
operating results. Failure of the Company's management to manage and integrate
the Company's existing and newly acquired operations and to improve the
operating performance of these operations could continue to have a material
adverse effect on the Company's business, financial condition and operating
results.
The Company's growth strategy emphasizes entering selected new markets
by acquiring group practices which have a significant market presence or which
the Company believes can achieve such a presence in the near term, and seeking
to use the acquired practices as a "pedestal" from which to expand. The
Company's "pedestal" expansion strategy for new markets entered through
acquisition are untested and there can be no assurance that the Company will be
able to implement such strategy successfully.
The Company devotes substantial time and resources to
acquisition-related activities. There can be no assurance that suitable
acquisition candidates will be identified or that acquisitions will be
consummated on terms favorable to the Company, on a timely basis or at all. In
the event the closing of a planned acquisition fails to occur or is delayed, the
Company's quarterly financial results may be materially lower than analysts'
expectations, which likely would cause a decline, perhaps substantial, in the
market price of the Company's Common Stock. In addition, increasing
consolidation in the dental services industry may result in an increase in
purchase prices required to be paid by the Company to acquire dental practices.
In the event the Company is able to identify and consummate
acquisitions, the integration of such acquisitions may be a difficult, costly
and time-consuming process. During the period immediately following an
acquisition, the Company's expenditures related to the integration of the
acquired dental practices may exceed the operating cash flow of such dental
practices. Moreover, the Company's operating results in fiscal quarters
immediately following an acquisition may be adversely affected while the Company
attempts to integrate the acquired practices. As a result, there can be
assurance that future acquisitions will not have a material adverse effect on
the Company's business, financial condition and operating results.
RISKS ASSOCIATED WITH EXPANSION WITHIN EXISTING MARKETS
The Company seeks to increase revenue and profitability in existing
markets by physically expanding its existing Dental Offices to add more general
dentists, specialists and hygienists, by establishing Dental Offices on a de
novo basis and by improving the efficiency of the Dental Offices. The Company's
success will be dependent, in part, upon increasing the revenue from existing
Dental Offices and successfully establishing de novo Dental Offices. The Company
is subject to risks associated with this growth strategy, including the risk
that the Company will be unable to successfully expand existing Dental Offices
or establish de novo Dental Offices, or increase efficiency through its
management of the existing Dental Offices.
MANAGEMENT OF GROWTH
The Company has experienced a period of rapid growth with a substantial
increase in the number of its Dental Offices, resulting significantly from
expansion into 20 new markets since January 1, 1996. The number of Dental
Offices owned and managed by the Company increased from 12 at January 1, 1996 to
194 at December 31, 1998. This growth has placed, and will continue to place,
strains on the Company's management, operations and systems. The Company's
ability to compete effectively will depend upon its ability to hire, train and
assimilate additional management and other employees and its ability to expand,
improve and effectively utilize its operating, management, marketing and
financial systems to accommodate its expanded operations. Any failure by the
Company's management to effectively anticipate, implement and manage the changes
required to sustain the Company's growth may have a material adverse effect on
the Company's business, financial condition and operating results.
16
<PAGE> 17
POSSIBLE VOLATILITY OF STOCK PRICE; LOSS OF NASDAQ NATIONAL MARKET LISTING
The trading price of the Company's Common Stock was recently subject to
a major decline triggered by the Company's failure to meet the expectations of
securities analysts and investors for the year and quarter ended December 31,
1998. The Company cannot provide any assurance that the trading price of the
Company's Common Stock will recover or that it will not experience a further
decline. Moreover, the trading price of the Company's Common Stock could be
subject to additional fluctuations in response to quarter-to-quarter variations
in the Company's operating results, material announcements by the Company or its
competitors, governmental regulatory action, conditions in the health care
industry generally or in the dental services industry specifically, or other
events or factors, many of which are beyond the Company's control. The Company's
operating results in future quarters may be below the expectations of securities
analysts and investors. In such event, the price of the Company's Common Stock
would likely decline, perhaps substantially.
NASDAQ has advised the Company that the Company will not remain
eligible for continued listing on the NASDAQ National Market system ("NMS")
unless its common stock demonstrates compliance with NASDAQ's $5 minimum bid
price during the period ending May 5, 1999. Should the Company fail to satisfy
this requirement, the Company intends to request a hearing as permitted by
applicable NASDAQ procedures. In the event that NASDAQ denies continued NMS
listing following such a hearing, the Company expects that it would seek listing
on The NASDAQ SmallCap Market. The Company may also consider actions to preserve
NMS listing, although no assurance can be given that such actions will be
effective or that NMS listing will not cease during or after the second quarter.
LIMITED CAPITAL; NEED FOR ADDITIONAL FINANCING
Implementation of the Company's growth strategy has required and is
expected to continue to require significant capital resources. Such resources
will be needed to acquire or establish additional Dental Offices and for the
effective integration, operation and expansion of the Dental Offices. The
Company historically has used a combination of cash, promissory notes, stock and
the assumption of certain liabilities (including indebtedness) as consideration
in acquisitions of dental practices and intends to continue to do so. The
Company cannot be certain that its cash flow generated from operations and
borrowings available under the Company's existing credit facility or any
successor credit facility will be sufficient to meet its capital requirements
over the next few years. The Company anticipates that it will from time to time
issue additional equity securities and incur additional debt. Additional debt or
non-Common Stock equity financings could be required to the extent that the
Company's Common Stock does not have a market value sufficient to permit its use
for future financing needs. The Company may not be able to obtain additional
required capital on satisfactory terms, if at all. In particular, the Company's
existing credit facility contains certain restrictions on the Company's ability
to acquire additional dental practices. The failure to raise the funds necessary
to finance the expansion of the Company's operations or the Company's other
capital requirements could materially and adversely affect the Company's ability
to pursue its strategy and its operating results in future periods. If
additional funds are raised through the issuance of equity securities, dilution
to the Company's existing stockholders may result. If additional funds are
raised through the incurrence of debt, such debt instruments will likely contain
restrictive financial, maintenance and security covenants.
AVAILABILITY OF DENTISTS
All dentists practicing at the Dental Offices have entered into
employment agreements individually or through their professional corporations or
independent contractor agreements through their professional corporations. Such
agreements typically contain a non-competition agreement for up to three years
following termination of the agreement within a specified geographic area,
usually a specified number of miles from the relevant Dental Office. The
agreements with dentists who have sold their practices to the Company generally
are for a specified initial term of up to five years. Although the Company will
endeavor to renew agreements with affiliated dentists or their professional
corporations, in the event that many of the Company's affiliated dentists
terminate or do not renew their agreements or in the event the non-competition
agreements are determined to be unenforceable or more limited in scope than
their terms, the Company's business, financial condition and operating results
could be materially and adversely affected. The Company has recently experienced
setbacks in retaining dentists in its Houston, Texas; Dayton, Ohio; and Arkansas
markets, which has adversely affected the Company's financial condition and
operating results. In addition, the Company's expansion strategy is dependent on
the availability and successful recruitment of dentists. The Company may not be
able to successfully recruit new dentists for its existing and newly established
Dental Offices, which may have a material adverse effect on the Company's
expansion strategy and its business, financial condition and operating results.
17
<PAGE> 18
RISKS ASSOCIATED WITH COST CONTAINMENT INITIATIVES
The health care industry, including the dental services market, is
experiencing a trend toward cost containment, as third-party and government
payors seek to impose lower reimbursement rates upon providers. The Company
believes that this trend will continue and will increasingly affect dental
services. This may result in a reduction in per-patient and per-procedure
revenue from historic levels. Significant reductions in payments to dentists or
other changes in reimbursement by third-party payors for dental services may
have a material adverse effect on the Company's business, financial condition
and operating results.
RISKS ASSOCIATES WITH CAPITATED PAYMENT ARRANGEMENTS
Part of the Company's growth strategy involves obtaining capitated
managed dental care contracts. Capitated managed dental care contracts are
between dental benefits organizations, the Company and the dental professional
corporations (the "P.C.s") (except in Wisconsin). The Company negotiates and
administers these contracts on behalf of the P.C.s pursuant to management
agreements with the P.C.s (the "Management Agreements"). Because the Company
assumes responsibility under such Management Agreements for all aspects of the
operation of the dental practices (other than the practice of dentistry) and
thus bears all costs of the P.C.s associated with the provision of dental
services at the Dental Offices (other than compensation and benefits of dentists
and hygienists), the risk of over-utilization of dental services at the Dental
Offices under the capitated managed dental care plans is effectively shifted to
the Company. In contrast, under traditional indemnity insurance arrangements,
the insurance company pays whatever reasonable charges are billed by the dental
group practice for the dental services provided.
There can be no assurance that the Company will be able to negotiate
future capitation arrangements on behalf of itself or the P.C.s, as applicable,
on satisfactory terms or at all, or that the fees offered in current capitation
arrangements will not be reduced to levels unsatisfactory to the Company.
Moreover, to the extent that costs incurred by the Company's affiliated dental
practices in providing services to patients covered by capitated managed dental
care contracts exceed the revenue under such contracts, the Company's business,
financial condition and operating results may be materially and adversely
affected.
GEOGRAPHIC CONCENTRATION
The geographic concentration of the Company's operations in markets
such as the Dallas-Fort Worth, Houston, Wisconsin, Arkansas and Utah markets
increases the risk to the Company of adverse economic or regulatory developments
or action within these markets. In addition, the Company's growth strategy is
dependent, in part, upon acquiring larger group practices in selected markets.
The Company's strategy of focused expansion within selected markets increases
the risk to the Company that adverse economic or regulatory developments in one
or more of these markets may have a material adverse effect on the Company's
business, financial condition and operating results.
GOVERNMENT REGULATION
The practice of dentistry is regulated at both the state and federal
levels. There can be no assurance that the regulatory environment in which the
Company or P.C.s operate will not change significantly in the future. In
addition, state and federal laws regulate health maintenance organizations and
other managed care organizations for which dentists may be providers. In
general, regulation of health care-related companies is increasing. In
connection with its operations in existing markets and expansion into new
markets, the Company may become subject to additional laws, regulations and
interpretations or enforcement actions. The ability of the Company to operate
profitably will depend in part upon the ability of the Company and the P.C.s to
operate in compliance with applicable health care regulations.
Although the Company believes its operations as currently conducted are
in material compliance with existing applicable laws, there can be no assurance
that the Company's contractual arrangements will not be successfully challenged
as violating applicable fraud and abuse, self-referral, false claims,
fee-splitting, insurance, facility licensure or certificate-of-need laws or that
the enforceability of such arrangements will not be limited as a result of such
laws. In addition, there can be no assurance that the business structure under
which the Company operates, or the advertising strategy the Company employs,
will not be deemed to constitute the unlicensed practice of dentistry or the
operation of an unlicensed clinic or health care facility. The Company has not
sought judicial or regulatory interpretations with respect to the manner in
which it conducts its business. There can be no assurance that a review of the
business of the
18
<PAGE> 19
Company and the P.C.s by courts or regulatory authorities will not result in a
determination that could materially and adversely affect their operations or
that the regulatory environment will not change so as to restrict the Company's
existing or future operations. In the event that any legislative measures,
regulatory provisions or rulings or judicial decisions restrict or prohibit the
Company from carrying on its business or from expanding its operations to
certain jurisdictions, structural and organizational modifications of the
Company's organization and arrangements may be required, which could have a
material adverse effect on the Company, or the Company may be required to cease
operations.
RISKS ARISING FROM HEALTH CARE REFORM
There can be no assurance that the laws and regulations of the states
in which the Company operates will not change or be interpreted in the future
either to restrict or adversely affect the Company's relationships with dentists
or the operation of Dental Offices. Federal and state governments periodically
consider various types of health care initiatives and revisions to the health
care and health insurance system. Such initiatives and revisions could, if
adopted, have a material adverse effect on the Company's business, financial
condition and operating results. It is uncertain what legislative programs, if
any, will be adopted in the future, or what actions Congress or state
legislatures may take regarding health care reform proposals or legislation. In
addition, changes in the health care industry, such as the growth of managed
care organizations and provider networks, may result in lower payments for the
services of the Company's affiliated dental practices.
POSSIBLE EXPOSURE TO PROFESSIONAL LIABILITY
In recent years, dentists have become subject to an increasing number
of lawsuits alleging malpractice and related legal theories. Some of these
lawsuits involve large claims and significant defense costs. Any suits involving
the Company or dentists at the Dental Offices, if successful, could result in
substantial damage awards that may exceed the limits of the Company's insurance
coverage.
COMPETITION
The dental practice management segment of the dental services industry,
currently in its formative stage, is highly competitive and is expected to
become increasingly more competitive. In this regard, the Company expects that
the provision of multi-specialty dental services at convenient locations will
become increasingly more common. The Company is aware of several dental practice
management companies that are currently operating in its existing markets. There
are also a number of companies with dental practice management businesses
similar to that of the Company currently operating in other parts of the country
which may enter the Company's existing markets in the future. Such competitors
may be better capitalized or otherwise enjoy competitive advantages which may
make it difficult for the Company to compete against them or to acquire
additional Dental Offices on terms acceptable to the Company. As the Company
seeks to expand its operations into new markets, it is likely to face
competition from dental practice management companies which already have
established a strong business presence in such locations.
RELIANCE ON CERTAIN PERSONNEL
The success of the Company, including its ability to complete and
integrate acquisitions, depends on the continued services of a relatively
limited number of members of the Company's senior management. Implementation of
the Company's business strategy will require the addition of qualified
management personnel. To date, the Company has not been successful in attracting
enough qualified management personnel to keep pace with its growth. In addition,
the loss of the services of one or more members of the Company's senior
management or the failure to add qualified management personnel could have a
material adverse effect on the Company's business, financial condition and
operating results.
19
<PAGE> 20
RISKS ASSOCIATED WITH INTANGIBLE ASSETS
The acquisitions of dental practices may result in significant
increases in the Company's intangible assets relating to the Management
Agreements and goodwill. The Company expects the amount allocable to intangible
assets on its balance sheet to increase in the future in connection with
additional acquisitions, which will increase the Company's amortization expense.
In the event of any sale or liquidation of the Company or a portion of its
assets, there can be no assurance that the value of the Company's intangible
assets will be realized. In addition, the Company continually evaluates whether
events and circumstances have occurred indicating that any portion of the
remaining balance of the amount allocable to the Company's intangible assets may
not be recoverable. When factors indicate that the amount allocable to the
Company's intangible assets should be evaluated for possible impairment, the
Company may be required to reduce the carrying value of such assets. Based on
such an assessment, the Company recently was required to write off $3.3 million
in impaired goodwill in the quarter ended December 31, 1998. Any future
determination requiring the write off of a significant portion of unamortized
intangible assets could have a material adverse effect on the Company's
business, financial condition and operating results.
DEPENDENCE ON MANAGEMENT AGREEMENTS, THE P.C.S AND AFFILIATED DENTISTS
Except with respect to its Wisconsin operations, the Company receives
fees for services provided to the P.C.s under a Management Agreement. The
Company owns all of the operating assets of the Dental Offices but, except in
Wisconsin, does not employ or contract with dentists, employ hygienists or
control the provision of dental care at the Dental Offices. The Company's
revenue is dependent on the revenue generated by the P.C.s at the Dental
Offices. Therefore, effective and continued performance of dentists providing
services for the P.C.s is essential to the Company's long-term success. Under
each Management Agreement, the Company pays substantially all of the operating
and nonoperating expenses associated with the provision of dental services
except for the salaries and benefits of the dentists and hygienists. Any
material loss of revenue by the P.C.s would have a material adverse effect on
the Company's business, financial condition and operating results, and any
termination of a Management Agreement (which is permitted in the event of a
bankruptcy or dissolution or material breach by either the P.C. or the Company,
or upon 90 days' notice by the Company) could have such an effect. In the event
of a breach of a Management Agreement by a P.C., there can be no assurance that
the legal remedies available to the Company will be adequate to compensate the
Company for its damages resulting from such breach. The P.C.s are owned by
employees of the Company who are licensed to practice dentistry in the relevant
state. The Company has entered into a succession agreement with the respective
stockholders of the P.C.s whereby upon termination of such stockholder's
affiliation with the Company by the Company or such stockholder for any reason,
the stockholder is required to sell his or her ownership in the P.C. for a
nominal amount and the Company is entitled to designate a successor.
EFFECTIVE CONTROL BY PRINCIPAL STOCKHOLDERS
As of December 31, 1998, Dr. Warren Melamed, along with members of his
family and trusts for the benefit of members of his family, and investors
principally including investment funds associated with TA Associates, Inc.
beneficially owned in the aggregate approximately 19.2% and 14.2%, respectively,
of the Company's outstanding Common Stock. As a result, these stockholders will
have the ability to control or exert significant influence over the outcome of
fundamental corporate transactions requiring stockholder approval, including
mergers and sales of assets and the election of the members of the Company's
Board of Directors. Sales of shares by such stockholders could reduce the level
of such influence.
20
<PAGE> 21
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<S> <C>
Report of Independent Public Accountants 1
Consolidated Balance Sheets as of December 31, 1998 and 1997 2
Consolidated Statements of Income for the Years Ended 3
December 31, 1998, 1997, and 1996
Consolidated Statements of Stockholders' Equity for the Years 4
Ended December 31, 1998, 1997, and 1996
Consolidated Statements of Cash Flows for the Years Ended 5
December 31, 1998, 1997, and 1996
Notes to Consolidated Financial Statements 6
</TABLE>
<PAGE> 22
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
TO THE STOCKHOLDERS OF MONARCH DENTAL CORPORATION:
We have audited the accompanying consolidated balance sheets of Monarch Dental
Corporation (a Delaware corporation) and subsidiaries as of December 31, 1998
and 1997, and the related consolidated statements of income, stockholders'
equity, and cash flows for each of the three years in the period ended December
31, 1998. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Monarch Dental Corporation and
subsidiaries as of December 31, 1998 and 1997, and the results of their
operations and their cash flows for each of the three years in the period ending
December 31, 1998, in conformity with generally accepted accounting principles.
Arthur Andersen LLP
Dallas, Texas,
March 11, 1999
1
<PAGE> 23
MONARCH DENTAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
December 31,
----------------------------------
1998 1997
------------- -------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 3,992,845 $ 2,975,142
Accounts receivable, net of allowances of approximately $8,128,000
and $2,865,000 in 1998 and 1997, respectively 15,328,575 5,855,694
Prepaid expenses 1,369,503 255,773
Federal income tax receivable 1,239,590 --
------------- -------------
Total current assets 21,930,513 9,086,609
Property and equipment, net of accumulated depreciation of approximately $9,270,000
and $4,381,000 in 1998 and 1997, respectively 18,725,117 8,665,758
Goodwill, net of accumulated amortization of approximately $4,622,000
and $1,677,000 in 1998 and 1997, respectively 126,450,495 46,261,511
Other assets 1,899,268 577,794
------------- -------------
Total assets $ 169,005,393 $ 64,591,672
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 6,073,726 $ 1,898,118
Accrued payroll 7,513,420 1,798,487
Accrued liabilities 15,081,530 1,066,454
Taxes payable -- 297,380
Payable to affiliated dental group practices 3,010,853 2,071,564
Current maturities of notes payable and capital lease obligations 4,789,960 617,582
------------- -------------
Total current liabilities 36,469,489 7,749,585
Deferred income taxes 1,319,702 2,264,312
Notes payable 70,515,007 10,350,512
Capital lease obligations 813,073 849,425
Other liabilities 2,296,740 1,241,666
------------- -------------
Total liabilities 111,414,011 22,455,500
Minority interest in combined subsidiaries 128,261 170,653
Commitments and contingencies
Stockholders' equity:
Preferred Stock, $.01 par value, 2,000,000 shares authorized; no shares
issued or outstanding -- --
Common Stock, $.01 par value, 50,000,000 shares authorized; 11,982,254 and
10,228,473 shares issued and outstanding in 1998 and 1997, respectively 119,823 102,285
Additional paid-in capital 63,439,123 47,534,874
Retained earnings (deficit) (6,095,825) (5,671,640)
------------- -------------
Total stockholders' equity 57,463,121 41,965,519
------------- -------------
Total liabilities and stockholders' equity $ 169,005,393 $ 64,591,672
============= =============
</TABLE>
The accompanying notes are an integral part of
these consolidated financial statements.
2
<PAGE> 24
MONARCH DENTAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
<TABLE>
<CAPTION>
Years Ended December 31,
---------------------------------------------------
1998 1997 1996
------------- ------------- -------------
<S> <C> <C> <C>
Patient revenue, net $ 129,600,803 $ 68,619,379 $ 35,980,260
Operating expenses:
Provider salaries and benefits 40,283,317 21,178,925 10,526,787
Clinical and other salaries and benefits 36,556,073 18,802,599 9,386,566
Dental supplies 6,898,237 4,281,608 2,215,405
Laboratory fees 5,953,830 2,902,088 1,648,017
Occupancy 7,264,869 3,709,226 1,937,353
Advertising 2,436,481 1,781,017 1,210,100
Other operating expenses 17,854,560 7,944,179 4,839,073
Depreciation and amortization 9,862,928 2,938,466 1,430,447
------------- ------------- -------------
127,110,295 63,538,108 33,193,748
------------- ------------- -------------
Operating income 2,490,508 5,081,271 2,786,512
Interest expense, net 2,871,689 1,545,340 1,686,392
Minority interest in combined subsidiaries 11,524 45,661 --
------------- ------------- -------------
Income (loss) before income taxes and
extraordinary item (392,705) 3,490,270 1,100,120
Income taxes 31,480 1,355,637 425,466
------------- ------------- -------------
Income (loss) before extraordinary item (424,185) 2,134,633 674,654
Extraordinary loss on early extinguishment of debt,
net of applicable tax benefit of $166,540 -- (263,796) --
------------- ------------- -------------
Net income (loss) $ (424,185) $ 1,870,837 $ 674,654
============= ============= =============
Net income (loss) per common share:
Income (loss) before extraordinary item $ (0.04) $ 0.34 $ 0.24
Extraordinary item -- (0.05) --
------------- ------------- -------------
Net income (loss) $ (0.04) $ 0.29 $ 0.24
============= ============= =============
Net income (loss) per common share assuming dilution:
Income (loss) before extraordinary item $ (0.04) $ 0.26 $ 0.13
Extraordinary item -- (0.04) --
------------- ------------- -------------
Net income (loss) $ (0.04) $ 0.22 $ 0.13
============= ============= =============
Weighted average number of common shares
outstanding - basic 10,805,338 6,368,982 2,845,618
============= ============= =============
Weighted average number of common and
common equivalent shares outstanding - diluted 10,805,338 8,346,289 5,077,359
============= ============= =============
</TABLE>
The accompanying notes are an integral part of
these consolidated financial statements.
3
<PAGE> 25
MONARCH DENTAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1996, 1997, AND 1998
<TABLE>
<CAPTION>
SERIES A
CONVERTIBLE
JUNIOR PREFERRED
STOCK COMMON STOCK COMMON ADDITIONAL RETAINED TOTAL
----------------------- --------------------------- STOCK TO PAID-IN EARNINGS STOCKHOLDERS'
SHARES AMOUNT SHARES AMOUNT BE ISSUED CAPITAL (DEFICIT) EQUITY
------------ --------- ------------ ------------ --------- ------------ ------------ -------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance, December 31, 1995 -- $ -- 28,040,223 $ 280,402 $ -- $ -- $ 342,290 $ 622,692
Net income -- -- -- -- -- -- 674,654 674,654
Accretion of
Redeemable
Common Stock -- -- -- -- -- -- (47,767) (47,767)
Distributions -- -- -- -- -- -- (2,007,997) (2,007,997)
Repurchase of
Common Stock -- -- (26,534,463) (265,345) -- -- (6,419,511) (6,684,856)
Issuance of Class A
Common Stock -- -- 353,750 3,538 -- 71,457 -- 74,995
Issuance of Series A
Junior Preferred
Stock 734,645 7,346 -- -- -- 1,285,629 -- 1,292,975
Issuance of
Common Stock -- -- 1,274,240 12,743 75,000 579,236 -- 666,979
------------ -------- ------------ ------------ -------- ------------ ------------ ------------
Balance, December 31, 1996 734,645 7,346 3,133,750 31,338 75,000 1,936,322 (7,458,331) (5,408,325)
Net income -- -- -- -- -- -- 1,870,837 1,870,837
Accretion of
Redeemable
Common Stock -- -- -- -- -- -- (84,146) (84,146)
Issuance of Common
Stock -- -- 3,850,990 38,509 (75,000) 42,606,147 -- 42,569,656
Issuance of Series A
Junior Preferred
Stock 969,905 9,699 -- -- -- 1,696,293 -- 1,705,992
Conversion of Series A
Junior Preferred
Stock (1,704,550) (17,045) 852,275 8,523 -- 8,522 -- --
Conversion of
Redeemable
Common Stock -- -- 2,400,000 24,000 -- 1,289,315 -- 1,313,315
Repurchase of Common
Stock -- -- (8,542) (85) -- (1,725) -- (1,810)
------------ -------- ------------ ------------ -------- ------------ ------------ ------------
Balance, December 31, 1997 -- -- 10,228,473 102,285 -- 47,534,874 (5,671,640) 41,965,519
Net loss -- -- -- -- -- -- (424,185) (424,185)
Issuance of Common
Stock -- -- 1,753,781 17,538 -- 15,904,249 -- 15,921,787
------------ -------- ------------ ------------ -------- ------------ ------------ ------------
Balance, December 31, 1998 -- $ -- 11,982,254 $ 119,823 $ -- $ 63,439,123 $ (6,095,825) $ 57,463,121
============ ======== ============ ============ ======== ============ ============ ============
</TABLE>
The accompanying notes are an integral part of
these consolidated financial statements.
4
<PAGE> 26
MONARCH DENTAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------------------------------
1998 1997 1996
------------ ------------ ------------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ (424,185) $ 1,870,837 $ 674,654
Adjustments to reconcile net income (loss) to net cash
provided by operating activities -
Depreciation and amortization 9,862,928 2,938,466 1,430,447
Extraordinary loss, net -- 263,796 --
Minority interest 11,524 45,661 --
Changes in assets and liabilities, net of effects from
acquisitions -
Accounts receivable, net (5,230,288) (1,273,681) 166,298
Prepaid expenses (482,891) (58,635) 410,096
Federal income tax receivable (1,239,590) -- --
Other noncurrent assets 179,088 (424,694) 219,902
Accounts payable and accrued expenses 3,613,270 (334,778) (1,918,083)
Other liabilities (1,057,116) 400,410 851,204
Deferred income taxes (2,097,701) 650,844 425,666
------------ ------------ ------------
Net cash provided by operating activities 3,135,039 4,078,226 2,260,184
------------ ------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment, net (6,889,830) (3,330,102) (1,128,835)
Cash paid for dental group practices, including
related costs, net of cash acquired (48,601,828) (16,508,796) (22,291,515)
------------ ------------ ------------
Net cash used in investing activities (55,491,658) (19,838,898) (23,420,350)
------------ ------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from notes payable, net of issuance costs 55,150,000 15,235,000 21,772,750
Payments on notes payable and capital
lease obligations (1,736,018) (28,133,626) (2,301,598)
Distribution to minority interest stockholders (189,097) (30,000) --
Distribution to stockholders -- -- (2,007,997)
Repurchase of Common Stock -- (1,810) (6,684,856)
Redemption of Convertible Participating Preferred Stock -- (8,000,000) --
Issuance of common stock 149,437 38,606,913 10,681,285
------------ ------------ ------------
Net cash provided by financing activities 53,374,322 17,676,477 21,459,584
------------ ------------ ------------
NET INCREASE IN CASH AND CASH EQUIVALENTS 1,017,703 1,915,805 299,418
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 2,975,142 1,059,337 759,919
------------ ------------ ------------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 3,992,845 $ 2,975,142 $ 1,059,337
============ ============ ============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid during the year for interest $ 1,217,422 $ 1,260,285 $ 1,529,508
============ ============ ============
Cash paid for taxes $ 3,624,600 $ 640,000 $ --
============ ============ ============
Equipment acquired under capital leases $ 855,038 $ 961,225 $ 526,351
============ ============ ============
Debt assumed through acquisitions $ 10,886,539 $ 1,275,000 $ 908,000
============ ============ ============
</TABLE>
The accompanying notes are an integral part of
these consolidated financial statements.
5
<PAGE> 27
MONARCH DENTAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998, 1997 AND 1996
1. DESCRIPTION OF BUSINESS AND CURRENT OPERATING ENVIRONMENT:
Monarch Dental Corporation ("Monarch"), a Delaware corporation, and
subsidiaries (collectively, the "Company"), manages dental group practices in
selected markets. At December 31, 1998, the Company managed 194 dental group
practices in Texas, Wisconsin, Pennsylvania, Virginia, Ohio, Arkansas, Utah,
Colorado, Georgia, New Jersey, Florida, Indiana, Arizona and New Mexico. The
Company has grown substantially in a relatively short period of time,
principally through acquisitions. The Company completed 9 and 11 acquisitions in
1998 and 1997, respectively, resulting in the addition of 90 and 39 Dental
Offices, respectively.
Monarch was originally incorporated in Texas on December 28, 1994, and
was wholly-owned by Warren F. Melamed, D.D.S. ("Melamed"). On December 30, 1994,
eight Texas S corporations (later converted to limited partnerships) owned by
Melamed merged with and into Monarch in exchange for 1,150 shares of Monarch
Common Stock. These transactions were accounted for as a reorganization of
entities under common control.
On February 6, 1996, Melamed and another investor contributed their
respective interests in one limited partnership to Monarch in exchange for cash
and Common Stock in Monarch. The limited partnership interest held by the
investor was recorded by Monarch at fair market value. Under the Amended and
Restated Certificate of Incorporation of Monarch, Melamed's 1,150 shares were
converted into 28,040,223 shares of Common Stock in a transaction accounted for
as a stock split. Under a Stock Redemption Agreement, on February 6, 1996,
Monarch redeemed 26,534,463 shares of Common Stock from Melamed for cash of $6.7
million. Melamed also purchased 150,000 shares of Monarch restricted Common
Stock at fair market value. These transactions on February 6, 1996 are
collectively referred to as the "Reorganization".
In July 1997, the Company completed its initial public offering of
3,162,500 shares of Common Stock at $13.00 per share, resulting in net proceeds
of approximately $37.2 million.
The very rapid growth of the Company has placed (and will continue to
place) strains on the Company's management, operations and systems. The Company
is currently in the process of implementing management initiatives intended to
increase revenue and reduce expenses across its expanded network of Dental
Offices, including the closure of unprofitable operations (see Note 2). In
addition, the Company anticipates that, as a result of its focus on internal
operations, the pace of acquisition will slow materially, although the Company
expects that it will continue to review acquisitions in selected markets on an
opportunistic basis where, and as, opportunities arise.
2. SIGNIFICANT ACCOUNTING POLICIES:
Basis of Presentation / Basis of Consolidation
The accompanying consolidated financial statements have been prepared
on the accrual basis of accounting. All intercompany accounts and transactions
have been eliminated in the consolidation.
In thirteen states, the Company accounts for its management activities
with the dental group practices under long-term management agreements (the
"Management Agreements"). The Management Agreements represent the Company's
right to manage the Dental Offices during the 40-year term of the agreement. The
Management Agreements cannot be terminated by the related professional
corporation without cause, consisting primarily of bankruptcy or material
default. Under the Management Agreements, the Company assumes responsibility for
the management of all aspects of the dental group practices' business (including
all operating expenses consisting of the expenses incurred by the Company in
connection with managing the Dental Offices, including salaries and benefits for
personnel other than dentists and hygienists, dental supplies, dental laboratory
fees, occupancy costs, equipment leases, management information systems and
other expenses related to the dental practice operations) other than the
provision of dental services and retains a 100% residual interest in the net
income of the dental group practices. The Company receives a management fee
equal to the Company's costs plus the lower of (i) 30% of the P.C.'s net
revenues or (ii) the P.C.'s net pre-tax income. If net pre-tax income exceeds
30% of the P.C.'s net revenues, the P.C. would retain the amount of pre-tax
6
<PAGE> 28
income over 30% of the P.C.'s net revenues. The Company's net revenue is
significantly dependent upon the revenue of the dental group practices. The
Company has no material commitments or guarantees to the dental group practices
under the Management Agreements. In one state, currently Wisconsin, the Company
directly employs the dentists and hygienists.
Under the Management Agreements, the Company establishes a "controlling
financial interest" as defined by EITF 97-2, "Application of FASB No. 94 and APB
No. 16 to Physician Practice Management Entities and Certain Other Entities
under Contractual Management Arrangement" ("EITF 97-2"). In addition, the
Company has nominee shareholder arrangements with certain of the dental group
practices as defined by EITF 97-2. For these reasons, the Company consolidates
the financial statements of the dental group practices. The Company's 1997 and
1996 consolidated financial statements have been restated to conform with the
provisions of EITF 97-2. The restatement affected the display of previously
reported revenues and amounts retained by the dental group practices only and
did not affect the Company's 1997 and 1996 financial position, results of
operations or cash flows.
Patient Revenue, Net
Patient revenue, net represents the revenue of the Dental Offices
reported at the estimated realizable amounts from third-party payors and
patients for services rendered, net of contractual and other adjustments. In
certain states, dental services are billed and collected by the Company in the
name of the Dental Offices in accordance with the Management Agreements. Melamed
is the sole shareholder of Modern Dental Professional, P.C. ("Modern Dental"),
the professional corporation in Texas which employs the dentists and other
licensed personnel. Patient revenue, net generated by Modern Dental approximated
46%, 58% and 87% of total patient revenue, net in 1998, 1997 and 1996,
respectively. No other dental group practices provided more than 10% of patient
revenue, net.
Revenue under certain third-party payor agreements is subject to audit
and retroactive adjustments. There are no material claims, disputes or other
unsettled matters that exist to management's knowledge concerning third-party
reimbursements.
During 1998, 1997 and 1996, the Company estimates that approximately
40%, 38% and 39%, respectively, of patient revenue, net was received under
capitated managed dental care plan agreements with payors. The remainder of
patient revenue, net for these periods was earned under fee-for-service
arrangements. Approximately 20% and 26% of the Company's patient revenue, net
during 1997 and 1996, respectively, was derived from contracts with Prudential
Dental Maintenance Organization, Inc. and Compcare Health Services Insurance
Corporation, respectively. These contracts continue until terminated by either
party upon 60 to 90 days' prior written notice, and the material economic terms
can be renegotiated periodically, adversely affecting the Company's patient
revenue, net. Since the Company is required to provide only basic dental
services under these contracts, there are no significant future losses
anticipated under these contracts. There were no contracts with payors
comprising more than 10% of patient revenues, net during 1998.
Advertising
The costs of advertising, promotion and marketing are expensed in the
year incurred.
Cash and Cash Equivalents
For purposes of the consolidated statements of cash flows, cash and
cash equivalents include money market accounts and all highly liquid investments
with original maturities of three months or less.
Accounts Receivable
Accounts receivable represent receivables from patients and other
third-party payors for dental services provided. Such amounts are recorded net
of contractual allowances and estimated bad debts. The Dental Offices grant
credit without collateral to their patients, most of whom are local residents
and are insured under third-party payor agreements. Periodically, the Dental
Offices transfer the patient receivables to the Company under the terms of the
Management Agreements. Amounts collected on behalf of and payable to the Dental
Offices are reflected as payable to affiliated dental group practices in the
accompanying consolidated balance sheets. These amounts are unsecured and
consist primarily of salary and benefits expense of the dental group practices.
Management continually monitors and periodically adjusts its allowances
associated with these receivables based on estimated collection and payment
rates. Any adjustments to these estimates are made in the period that they
become known and quantifiable.
7
<PAGE> 29
Property and Equipment
Property and equipment are stated at cost or fair market value at dates
of acquisition, net of accumulated depreciation. Property and equipment are
depreciated using the straight-line method over the following useful lives:
<TABLE>
<CAPTION>
YEARS
-----
<S> <C>
Leasehold improvements .............................. Remaining life of lease
Furniture and fixtures .................................. 5-8
Dental equipment ........................................ 5-7
Computer equipment ................................... 5
</TABLE>
Equipment held under capital lease obligations is amortized on a
straight-line basis over the shorter of the lease term or estimated life of the
asset.
Goodwill
The Company's acquisitions involve the purchase of tangible and
intangible assets and the assumption of certain liabilities of the acquired
dental group practices. As part of the purchase price allocation, the Company
allocates the purchase price to the tangible assets acquired and liabilities
assumed, based on estimated fair market values. Costs of acquisition in excess
of the net estimated fair value of tangible assets acquired and liabilities
assumed are allocated first to identifiable intangibles and the remainder to
goodwill. The Company amortizes goodwill over twenty five years using the
straight-line method.
The Company reviews the recorded amount of goodwill for impairment
whenever events or changes in circumstances indicate that the carrying amount of
the asset may not be recoverable. If this review indicates that the carrying
amount of the asset may not be recoverable, as determined based on the
undiscounted cash flows of the operations acquired over the remaining
amortization periods, the carrying value of the asset is reduced to fair value.
Among the factors that the Company continually evaluates are unfavorable changes
in each Dental Office's relative market share and local market competitive
environment, current period and forecasted operating results, cash flow levels
of the Dental Offices and the impact on the net revenue earned by the Company,
and legal factors governing the practice of dentistry. During the fourth quarter
of 1998, the Company recorded impairment charges totaling approximately $3.3
million relating to Dental Offices that the Company plans to close in certain
markets. The majority of these closures are expected to be completed by March
31, 1999. Such amount is included in depreciation and amortization expense in
the accompanying consolidated statements of income.
There were no such charges in 1997 or 1996.
Accrued Liabilities
Accrued liabilities include Dental Office closure costs, accrued
compensation costs for a former officer (see Note 10), litigation reserves (see
Note 8), accrued interest, and property taxes. During the fourth quarter of
1998, in connection with the Dental Office closings discussed above, the Company
recorded charges of approximately $765,000 million related primarily to
estimated lease abandonment liabilities and severance costs.
Other Liabilities
Other liabilities consist primarily of reserves related to acquisitions
accounted for as purchases and deferred rent for the Company's facilities.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities 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.
8
<PAGE> 30
Income Taxes
At the Reorganization, Monarch terminated its status as an S
corporation and is currently subject to federal income taxes. The Company
accounts for income taxes under the liability method in accordance with
Statement of Financial Accounting Standards (SFAS) No. 109.
Net Income (Loss) Per Common Share
The net income (loss) per common share is based on the weighted average
number of common shares outstanding during the period. Diluted net income (loss)
per share has been calculated using the treasury stock method for stock options
and other diluted securities. Such shares totaled 1,977,307 and 2,231,741 in
1997 and 1996, respectively. Because the Company reported a loss in 1998, no
additional shares related to stock options have been included since the effect
would be antidilutive. If stock options had been included in the computation of
diluted earnings per share, the number of shares would have increased by
347,819.
Other
Certain reclassifications have been made to the 1997 and 1996 financial
statements to conform to the 1998 presentation.
3. NEW ACCOUNTING PRONOUNCEMENTS:
In 1998, the Company adopted SFAS No. 130, "Reporting Comprehensive
Income," which requires presentation of total nonowner changes in equity for all
periods displayed. This statement had no material impact on the Company.
In 1998, the Company adopted SFAS No. 131, "Disclosures about Segments
of an Enterprise and Related Information." This standard defines reporting
requirements for operating segments and related information about products and
services, geographic areas and reliance on major customers. (see Note 13.)
4. ACQUISITIONS:
The Company made the following acquisitions in 1996, 1997 and 1998. All
of these transactions were accounted for under the purchase method.
1996 Acquisitions -
Concurrent with the Reorganization discussed in Note 1, the Company
acquired certain assets and assumed certain liabilities of MacGregor Dental
Centers, Inc. and Shears Management, Inc. (collectively referred to as
"MacGregor") for $15.9 million in cash and 700,000 shares of Common Stock.
Effective September 1, 1996, the Company acquired all of the
outstanding stock of Midwest Dental Care - Sheboygan, SC ("Sheboygan"), and
Midwest Dental Care - Mondovi, SC ("Mondovi") in a stock purchase transaction
and acquired certain assets and assumed certain liabilities of Advance Dental
Management, a related entity to Sheboygan and Mondovi, in an asset purchase
transaction. All three entities (collectively referred to as "Midwest") were
acquired for $5.3 million in cash and 350,000 shares of Common Stock.
Additionally, the seller has the right to receive additional purchase
consideration of up to 80,000 stock options upon meeting specified financial
performance goals. As of December 31, 1998, none of these stock options have
been issued to the seller.
Effective October 1, 1996, the Company acquired certain assets and
assumed certain liabilities of John H. Davis, DDS for $172,000 in cash and 5,000
shares of Common Stock in an asset purchase transaction.
Effective November 7, 1996, the Company acquired all of the outstanding
stock of Convenient Dental Care, Inc. ("Convenient") in Arkansas for a $500,000
promissory note, paid in January 1997, and 30,000 shares of Common Stock in a
stock purchase transaction. Additionally, the seller was given the right to
receive additional purchase consideration of up to $200,000 contingent upon
meeting specified financial performance goals. The full amount of the additional
consideration was earned by the seller during 1998.
9
<PAGE> 31
1997 Acquisitions -
Effective January 1, 1997, the Company acquired all of the outstanding
stock of Arkansas Dental Health Associates, Inc. in Arkansas, for $1.6 million
in cash and 57,500 shares of Common Stock in a stock purchase transaction.
Additionally, the seller was given the right to receive additional purchase
consideration of up to $500,000 contingent upon meeting specified financial
performance goals. As of December 31, 1998, the seller has earned approximately
$423,000 of this amount with no future contingent amounts payable.
Effective April 1, 1997, the Company acquired certain assets and
assumed certain liabilities of United Dental Care Tom Harris D.D.S. & Associates
in Arkansas for $2.8 million in cash and 68,750 shares of Common Stock in an
asset purchase transaction.
Effective August 1, 1997, the Company acquired all of the outstanding
stock of Dental Centers of Indiana, Inc. in Indiana, for $1.8 million in cash
and 139,944 shares of Common Stock in a stock purchase transaction.
Additionally, the seller was given the right to receive additional purchase
consideration contingent upon meeting specified financial performance goals. As
of December 31, 1998, this additional consideration was earned by the seller
with no future contingent amounts payable.
Effective November 3, 1997, the Company acquired certain assets and
assumed certain liabilities of Press Family Dental in San Antonio, Texas for
$6.6 million in cash and 179,736 shares of Common Stock in an asset purchase
transaction.
Effective December 1, 1997, the Company acquired an 80% interest in
certain assets and assumed certain liabilities of Dental America in Midland,
Texas for $650,000 in cash and 8,785 shares of Common Stock in an asset purchase
transaction. Additionally, the seller was given the right to receive additional
purchase consideration contingent upon meeting specified financial performance
goals. As of December 31, 1998, this additional consideration was earned by the
seller with no future contingent amounts payable.
During 1997, the Company acquired certain assets and assumed certain
liabilities of four dental groups in Dallas and Conroe, Texas, Fayetteville,
Arkansas and Colorado Springs, Colorado for $3.4 million in cash and 28,774
shares of Common Stock in asset purchase transactions. Additionally, the sellers
were given the right to receive additional purchase consideration contingent
upon meeting specified financial performance goals. As of December 31, 1998,
this additional consideration was earned by the sellers with no future
contingent amounts payable.
1998 Acquisitions -
Effective March 1, 1998, the Company acquired certain assets and
assumed certain liabilities of Dental Care One in Dayton, Ohio for $2.3 million
in cash and 34,781 shares of Common Stock in an asset purchase transaction.
Effective June 1, 1998, the Company acquired 65% of the outstanding
stock of Managed Dental Care Centers, Inc. in Dallas, Texas for $2.0 million in
cash and 27,686 shares of Common Stock in a stock purchase transaction.
Effective September 1, 1998, the Company acquired all of the
outstanding stock of Valley Forge Dental Associates, Inc. ("Valley Forge") in
King of Prussia, Pennsylvania for 1,559,111 shares of Common Stock and the
issuance of approximately $42.0 million in debt in a stock purchase transaction.
As of December 31, 1998, Valley Forge had contingent purchase obligations in
cash, notes and stock totaling approximately $8.3 million in cash and notes and
approximately 41,122 shares of stock. These obligations were assumed by the
Company.
Effective September 1, 1998, the Company acquired certain assets and
assumed certain liabilities of Talbert Medical Management Corporation, which
operated dental offices in Utah and Arizona, for $7.0 million in cash in an
asset purchase transaction.
During 1998, the Company also acquired certain assets and assumed
certain liabilities of five dental groups in Indianapolis, Indiana, San Antonio
and Abilene, Texas and Manitowoc, Wisconsin for $946,000 in cash and 12,702
shares of Common Stock in asset purchase transactions.
10
<PAGE> 32
Obligations related to unknown contingent purchase considerations have
not been quantified and, accordingly, have not been reflected in the
accompanying consolidated financial statements. Such liability, if any, will be
recorded as additional purchase price in the period in which the outcome of the
contingencies becomes known.
All of the acquisitions have been accounted for using the purchase
method of accounting and, accordingly, the purchase price has been allocated to
the tangible and intangible assets acquired and liabilities assumed based on the
estimated fair values at the dates of acquisition. Some of these estimates are
preliminary and subject to further adjustment. The estimated fair values of
assets acquired and liabilities assumed during 1998 and 1997 are summarized as
follows:
<TABLE>
<CAPTION>
1998 1997
------------ ------------
<S> <C> <C>
Cash and cash equivalents ....................................... 649,000 $ 667,600
Accounts receivable, net ........................................ 4,380,082 1,150,899
Other assets .................................................... 2,321,401 5,216
Property and equipment, net ..................................... 6,780,225 1,519,222
Liabilities assumed ............................................. (33,669,377) (5,841,261)
Intangible assets ............................................... 82,706,046 24,416,542
Less - Fair value of Common Stock issued ........................ (14,701,698) (5,186,822)
Deferred purchase price (payable in cash) ............. -- (100,000)
------------ ------------
Cash purchase price ............................................. $ 48,465,679 $ 16,631,396
============ ============
</TABLE>
The following unaudited pro forma information reflects the effects of
the acquisitions and the 1997 initial public offering on the consolidated
results of operations of the Company had the 1998 and 1997 acquisitions and the
1997 initial public offering occurred at January 1, 1997. Future results may
differ substantially from pro forma results and cannot be considered indicative
of future results.
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-----------------------------
1998 1997
------------- -------------
(IN THOUSANDS)
(UNAUDITED)
<S> <C> <C>
Patient revenue, net .................................. $ 181,034 $167,272
========== ========
Net income ............................................ $ 319 $ 3,814
========== ========
Net income per common share-assuming dilution ......... $ 0.03 $ 0.32
========== ========
</TABLE>
5. PROPERTY AND EQUIPMENT:
Property and equipment consists of the following as of December 31:
<TABLE>
<CAPTION>
1998 1997
------------ ------------
<S> <C> <C>
Dental equipment ............................ $ 12,710,883 $ 6,476,916
Furniture and fixtures ...................... 6,480,359 2,186,944
Leasehold improvements ...................... 6,004,926 3,032,795
Computer equipment .......................... 2,798,676 1,349,729
------------ ------------
$ 27,994,844 $ 13,046,384
Less - Accumulated depreciation ............. (9,269,727) (4,380,626)
============ ============
Property and equipment, net ................. $ 18,725,117 $ 8,665,758
============ ============
</TABLE>
Depreciation expense was $3,601,043, $1,813,241 and $854,154 for 1998,
1997 and 1996, respectively.
11
<PAGE> 33
6. NOTES PAYABLE:
Notes payable consists of the following as of December 31:
<TABLE>
<CAPTION>
1998 1997
------------ ------------
<S> <C> <C>
Borrowings under credit facility, due 2001 ................................ $ 65,400,000 $ 10,250,000
Other notes payable, due 1999 - 2002, with an interest rate of
prime plus 0.5%, secured by certain receivables and property ........... 102,417 283,316
Notes payable assumed through acquisition, with an interest rate
ranging between 6.00% and 12.21%, with due dates between June 1999
and October 2003, secured by certain receivables
and property ........................................................... 8,987,550 --
------------ ------------
74,489,967 10,533,316
Less - Current maturities ................................................. (3,974,960) (182,804)
============ ============
Notes payable, net ........................................................ $ 70,515,007 $ 10,350,512
============ ============
</TABLE>
The maturities of notes payable at December 31, 1998, are as follows:
<TABLE>
<S> <C>
1999.......................................................... $ 3,974,960
2000.......................................................... 3,542,993
2001.......................................................... 66,677,839
2002.......................................................... 269,932
2003.......................................................... 24,243
------------
$ 74,489,967
============
</TABLE>
Effective November 1997, the Company entered into a new credit facility
(the "Credit Facility") with a bank syndicate. Under the Credit Facility, the
Company may borrow up to $75.0 million. As of December 31, 1998, the Company had
approximately $65.4 million in borrowings under the Credit Facility and
remaining availability of approximately $9.6 million. The amounts outstanding
under the Credit Facility bear interest at variable rates which are based upon
either the lender's base rate or LIBOR, plus, in either case, a margin which
varies according to the ratio of the Company's funded debt to EBITDA, each as
defined in the Credit Facility. The Credit Facility prohibits the Company from
incurring indebtedness, incurring liens, disposing of assets, making investments
or making acquisitions above a predetermined consideration level without bank
approval, and requires the Company to maintain certain financial ratios on an
ongoing basis. The Credit Facility is secured by pledges of all of the
outstanding capital stock of, or other equity interests in, the Company's
subsidiaries, and a lien on substantially all of the assets of the Company. As a
result of a judgment rendered against the Company in January 1999 (see Note 8),
the Company is in violation of the terms of the Credit Facility. The Company has
received a waiver from the bank syndicate relating to this matter.
The Company incurred an extraordinary loss of $264,000, net of tax in
1997 as it extinguished its previous credit facility and wrote off $431,000 in
unamortized loan fees, net of a tax benefit of $167,000.
7. STOCKHOLDERS' EQUITY:
At December 31, 1998, the Company has authorized 52,000,000 shares of
stock, of which (a) 50,000,000 shares, par value $0.01 per share, are designated
Common Stock, and (b) 2,000,000 shares, par value $0.01 per share, are
undesignated Preferred Stock.
Convertible Participating Preferred Stock
On February 6, 1996, Monarch sold 4,800,000 shares of Convertible
Participating Preferred Stock (the "Preferred Stock") to an unrelated investor
group for approximately $10.0 million. The Preferred Stock converted to
2,400,000 shares of Common Stock plus 3,840,000 shares of Redeemable Preferred
Stock upon the completion of the Company's initial public offering in July 1997.
The Redeemable Preferred Stock was automatically redeemed upon the completion of
the initial public offering for cash of approximately $8.0 million.
12
<PAGE> 34
Redeemable Common Stock
In connection with the acquisition of Midwest, the seller acquired the
right to put 175,000 shares of Common Stock back to the Company contingent upon
certain events as defined in the Midwest purchase agreement. These shares were
converted to Common Stock upon the completion of the initial public offering.
Series A Convertible Junior Preferred Stock
During 1996, the Company issued 734,645 shares of Series A Convertible
Junior Preferred Stock to the holders of the Convertible Participating Preferred
Stock. During 1997, an additional 969,905 shares were issued, resulting in a
total of 1,704,550 shares outstanding. These shares were converted into Common
Stock on a 1-for-2 basis upon the completion of the initial public offering.
Stock Option Plan
During 1996, the Company's Board of Directors approved the 1996 Stock
Option and Incentive Plan (the "Plan") under which 1,376,250 options to
purchase shares of the Company's common stock may be granted to key directors,
employees and other health care professionals associated with the Company, as
defined by the Plan. Generally, options vest over a 4-year period and are
exercisable over a ten-year life. As of December 31, 1998, 1997, and 1996,
1,066,875, 556,750, and 25,000 shares, respectively, were outstanding under the
Plan. The following table summarizes the combined activity under the Plan and
the options granted outside the Plan at December 31, 1998, 1997 and 1996:
<TABLE>
<CAPTION>
---------- ---------- ----------
1998 1997 1996
---------- ---------- ----------
<S> <C> <C> <C>
Outstanding at beginning of year ............ 556,750 25,000 --
Granted ..................................... 530,750 531,750 25,000
Exercised ................................... (625) -- --
Canceled .................................... (20,000) -- --
---------- ---------- ----------
Outstanding at end of year .................. 1,066,875 556,750 25,000
========== ========== ==========
Exercisable at end of year .................. 146,685 6,250 --
Price range ................................. $ 3.00-17.31 $ 3.00 - 13.00 $ 3.00
</TABLE>
The shares exercisable at December 31, 1998 and 1997 had a weighted average
exercise price of $9.29 and $3.00 per share, respectively.
Stock-Based Compensation
The Company accounts for its stock-based compensation arrangements
under the provisions of APB No. 25, "Accounting for Stock Issued to Employees".
In 1995, SFAS No. 123, "Accounting for Stock-Based Compensation" was issued,
whereby companies may elect to account for stock-based compensation using a fair
value based method or continue measuring compensation expense using the
intrinsic value method prescribed in APB No. 25. SFAS No. 123 requires that
companies electing to continue to use the intrinsic value method make pro forma
disclosure of net income and net income per share as if the fair value based
method of accounting had been applied.
The Company used the Black-Scholes option pricing model to estimate the
fair value of operations. The pro forma effects of adopting SFAS No. 123's fair
value based method for the period ended December 31, 1997 and 1996 were not
materially different from the corresponding APB No. 25 intrinsic value
methodology because the weighted average grant-date fair value of operations
granted during the period was immaterial. The effects of applying SFAS No. 123
during 1998 is as follows (in thousands, except per share amounts):
<TABLE>
<CAPTION>
1998
----
<S> <C>
Net loss:
As reported $ (424)
Pro forma (1,744)
Net loss per share (diluted):
As reported $ (0.04)
Pro forma (0.16)
</TABLE>
The fair value of each option grant is estimated using the following
weighted-average assumptions for grants; risk-free interest rate of 5.2 percent;
expected life of 7.0 years and expected volatility of 63 percent.
13
<PAGE> 35
8. COMMITMENTS AND CONTINGENCIES:
Operating and Capital Lease Obligations
The Company leases all of its facilities, including the Dental Offices
and corporate office, under non-cancelable operating leases, extending through
2015. Rent expense totaled approximately $6.3 million, $3.1 million and $1.6
million for 1998, 1997 and 1996, respectively.
Future minimum lease commitments under capital and non-cancelable
operating leases with remaining terms of one or more years are as follows as of
December 31, 1998:
<TABLE>
<CAPTION>
OPERATING CAPITAL
------------ ------------
<S> <C> <C>
1999 ............................................. $ 7,447,595 $ 968,991
2000 ............................................. 6,532,277 478,164
2001 ............................................. 5,409,034 227,777
2002 ............................................. 3,975,502 80,167
2003 ............................................. 2,784,999 46,428
Thereafter ....................................... 6,948,145 227,099
------------ ------------
Total minimum lease obligation ................ $ 33,097,552 2,028,626
============
Less - Amounts representing interest .......... (400,553)
------------
Present value of minimum lease obligations .... 1,628,073
Less - Current maturities ..................... (815,000)
------------
Capital lease obligations, net ................ $ 813,073
============
</TABLE>
Litigation, Claims, and Assessments
On February 8, 1999, the Company was served with a Notice and Demand
for Arbitration on behalf of four limited partnerships who were among the
principal stockholders of Valley Forge in the merger which closed on September
10, 1998, all of which are associated with Foster Management Company of Valley
Forge, Pennsylvania (collectively, the "Former Principal Stockholders"). In the
Notice and Demand for Arbitration, the Former Principal Stockholders assert
claims based on alleged misrepresentations and/or non-disclosures by the Company
in connection with the Valley Forge transaction and seek damages in an amount
not less than $8.0 million. The Company believes that these claims are without
merit and intends to defend them vigorously, including seeking an award of its
legal fees, costs and expenses. The Company believes that the defense of the
claims could involve significant litigation-related expenses but that it will
not have a material adverse affect on its financial condition or results of
operations; however, there can be no assurance that this will be the case. The
Company has accrued approximately $400,000 in legal expenses related to this
matter at December 31, 1998.
On January 8, 1999, a judgment in the amount of $1.1 million was
entered for a formerly employed dentist and against Managed Dental Care Centers,
Inc., a 65% owned subsidiary of the Company. The judgment awards damages for
fraud, tortious interference and breach of employment and purchase agreements,
as well as punitive damages. The Company has filed a motion for a new trial and
a motion for judgment notwithstanding the verdict. Furthermore, the Company is
indemnified against this claim and all legal fees, costs and expenses related
thereto by the former shareholders (and current minority partners) of Managed
Dental Care Centers, Inc., although the ability to collect under this
indemnification may be in question. Accordingly, the Company has accrued the
full amount of the judgment in the accompanying consolidated financial
statements as of December 31, 1998. The Company intends to contest this matter
vigorously.
In addition to the matters discussed above, the Company is engaged in
various legal proceedings incidental to its business activities. Management does
not believe the resolution of such matters will have a material adverse effect
on the Company's financial position, results of operations or liquidity.
14
<PAGE> 36
9. INCOME TAXES:
The income tax provision (benefit) consisted of the following for the
years ended December 31, (in thousands):
<TABLE>
<CAPTION>
1998 1997 1996
------- ------- -------
<S> <C> <C> <C>
Current:
Federal ........................ $ 2,035 $ 754 $ 184
State .......................... 350 184 20
------- ------- -------
2,385 938 204
Deferred .......................... (2,353) 418 221
------- ------- -------
Total ............................. $ 32 $ 1,356 $ 425
======= ======= =======
</TABLE>
The Company's effective tax rate of 38.8% in 1997 and 1996 is greater
than the federal rate of 34% due to the impact of state income taxes. Due to the
1998 pre-tax loss, the 1998 effective tax rate is significantly impacted by
state income taxes.
Deferred income taxes are recorded for temporary differences between
the basis of assets and liabilities for financial reporting purposes and income
tax purposes. Temporary differences comprising the deferred tax assets and
liabilities in the consolidated balance sheets as of December 31, 1998 and 1997
are as follows (in thousands):
<TABLE>
<CAPTION>
1998 1997
-------- -------
<S> <C> <C>
Deferred tax asset:
Accrued compensation ............................... $ (510) $ --
Tax loss carryforward .............................. -- (32)
Cash to accrual and other .......................... (427) (233)
Legal accruals ..................................... (632) --
-------- -------
$ (1,569) $ (265)
Deferred tax liability:
Deferred tax liabilities of acquired companies ..... 2,177 1,677
Accelerated depreciation ........................... 405 431
Intangible asset amortization ...................... 307 421
-------- -------
2,889 2,529
-------- -------
Net deferred tax liability ......................... $ 1,320 $ 2,264
======== =======
</TABLE>
The deferred income tax provision (benefit) of approximately
$(2,353,000), $418,000 and $221,000 in 1998, 1997 and 1996, respectively,
consists primarily of non-deductible accruals, the excess of the tax over book
amortization of intangible assets and the excess of the tax over book
depreciation of fixed assets.
10. RELATED-PARTY TRANSACTIONS:
The Company leases several of its facilities from affiliated entities.
Total rent expense paid to related parties for 1998, 1997 and 1996, was
approximately $1.1 million, $715,000 and $478,000, respectively.
The Management Agreement activity between the Company and the Dental
Offices is reflected as a liability in the consolidated balance sheets. Such
amounts are generally payable within a 30-day period following month-end and are
unsecured.
Included in accrued payroll is approximately $1.6 million in
compensation expense related to a change in employment status of the Company's
former Chief Executive Officer. This amount was recorded in the fourth quarter
of 1998 and will be paid in the second quarter of 1999.
15
<PAGE> 37
11. BENEFIT PLANS:
401(k) Plans
The Company maintains three defined contribution plans that conform to
IRS provisions for 401(k) plans. One plan, referred to as the "Monarch 401(k)
Plan", covers employees of the Company located in the Dallas -Fort Worth,
Houston, San Antonio, Indiana, Arkansas and Wisconsin markets. Under this plan,
employees are eligible to participate in the plan provided they have attained
the age of 18 and have completed the 90-day initial employment period. The
Company makes discretionary matching contributions up to a maximum dollar
amount. The second plan covers the employees formerly of Valley Forge and is
referred to as the "Valley Forge 401(k) Plan". Under this plan, employees are
eligible to participate in the plan provided they have attained the age of 21
and have been employed for at least six months. The third plan, referred to as
the "Dental Care One 401(k) Plan", covers employees located in the Dayton, Ohio
market. Under this plan, employees are eligible to participate in the plan
provided they have attained the age of 21, have completed 1,000 hours of
service, and have been employed for at least 12 months. Total contributions by
the Company for these plans were approximately $214,000, $118,000 and $76,000
for 1998, 1997, and 1996, respectively.
12. DISCLOSURES ABOUT THE FAIR VALUE OF FINANCIAL INSTRUMENTS:
SFAS No. 107, "Disclosures About Fair Value of Financial Instruments,"
requires disclosure about the fair value of financial instruments. Carrying
amounts for all financial instruments included in current assets and current
liabilities approximate estimated fair values due to the short maturity of those
instruments. The fair values of the Company's notes payable and capital lease
obligations are based on similar issues or on current rates available to the
Company and approximate their carrying values at December 31, 1998 and 1997.
13. SEGMENT REPORTING:
Effective January 1, 1999, the Company organized its business in five
reportable segments. The Company's reportable segments are strategic business
units, and are comprised of the following:
Region One - Includes Dallas/Fort Worth, Houston, San Antonio and West
Texas Dental Offices.
Region Two - Includes Utah, Colorado, New Mexico, Arizona and Austin,
Texas Dental Offices.
Region Three - Includes Wisconsin, Northern Virginia, Philadelphia,
Northern New Jersey, Cleveland and Florida Dental
Offices.
Region Four - Includes Atlanta, Pittsburgh and Southern Virginia
Dental Offices.
Region Five - Includes Indiana, Dayton and Arkansas Dental Offices.
The accounting policies of the segments are the same as those described
in the summary of significant accounting policies except that the Company does
not allocate income taxes to any of the regions. They are managed separately
because each region operates under different contractual arrangements, providing
service to a diverse mix of patients and payors.
16
<PAGE> 38
FOR THE YEAR ENDED DECEMBER 31, 1998
(Dollars in thousands)
<TABLE>
<CAPTION>
Region 1 Region 2 (a) Region 3 Region 4 (a) Region 5 Total
-------- ------------ -------- ------------ -------- -----
<S> <C> <C> <C> <C> <C> <C>
Patient revenue, net $ 59,108 $ 11,970 $ 33,210 $ 5,245 $ 20,068 $ 129,601
Total operating expenses 48,868 13,390 26,447 4,214 16,914 109,833
-------- ------ ------ ----- ------ -------
Segment contribution 10,240 (1,420) 6,763 1,031 3,154 19,768
Contribution margin 17% (12%) 20% 20% 16% 15%
Depreciation and
amortization expense 5,598 922 849 84 1,458 8,911 (b)
Interest expense 64 9 70 14 12 169
Segment profit (loss) 4,578 (2,351) 5,844 933 1,684 10,688
</TABLE>
FOR THE YEAR ENDED DECEMBER 31, 1997
(Dollars in thousands)
<TABLE>
<CAPTION>
Region 1 Region 2 (a) Region 3 Region 4 (a) Region 5 Total
-------- ------------ -------- ------------ -------- -----
<S> <C> <C> <C> <C> <C> <C>
Net patient revenue $ 40,258 $ 481 $ 16,969 $ -- $ 10,911 $ 68,619
Total operating expenses 33,473 411 14,844 -- 9,253 57,981
-------- ----- -------- ------- -------- --------
Segment contributions 6,785 70 2,125 -- 1,658 10,638
Contribution margin 17% 15% 13% -- 15% 16%
Depreciation and
amortization expense 1,874 25 560 -- 467 2,926
Interest expense 70 1 46 -- 27 144
Segment profit 4,841 44 1,519 -- 1,164 7,568
</TABLE>
<TABLE>
<CAPTION>
Reconciliation of Profits (in thousands) 1998 1997
----- ----
<S> <C> <C>
Segment profit 10,688 7,568
Unallocated amounts:
Corporate operating expenses 7,393 2,619
Corporate depreciation and amortization 973 12
Corporate interest expense 2,703 1,401
Minority interest 12 46
-- --
Income (loss) before income taxes $ (393) $ 3,490
======= =======
</TABLE>
(a) Region 2 and Region 4 were created primarily from the Talbert Medical
Management Corporation and Valley Forge acquisition discussed in Note 4.
Accordingly, operating results from 1998 and 1997 are not comparable.
(b) Includes impairment charges of approximately $3.3 million related to Dental
Office closures.
14. SUBSEQUENT EVENTS:
Effective January 1, 1999, the Company acquired certain assets and
assumed certain liabilities of the Williams Dental Group in Dallas, Texas for
$2.5 million in cash and 314,000 shares of Common Stock in an asset purchase
transaction accounted for as a purchase. The Company also acquired certain
assets and assumed certain liabilities of three additional entities during the
first quarter of 1999. The Company paid cash of $950,000, issued debt of
$150,000 and issued 240,000 shares of Common Stock in conjunction with these
acquisitions.
17
<PAGE> 1
EXHIBIT 21.1
MONARCH DENTAL CORPORATION AND AFFILIATES
Monarch Dental Corporation
Partners Dental Corporation
Monarch Dental Associates, L.P.
MacGregor Dental Associates, L.P.
Monarch Dental Management, Inc.
Modern Dental Professionals, P.C.
Midwest Dental Care, Mondovi, Inc.
Midwest Dental Care, Sheboygan, Inc.
Midwest Dental Management, Inc.
Monarch Dental Associates (Arkansas), Inc.
Modern Dental Professionals - Girlinghouse, P.A.
Modern Dental Professionals - St. Raymond (a Professional Dental Corporation)
Dental Centers of Indiana (Monarch), Inc.
DCI, Lee, L.P.
Drs. Johnson, Terry and Associates, L.P.
Modern Dental Professionals - Indiana, P.C.
Three Peaks Dental Management, Inc.
Modern Dental Professionals - Colorado, P.C.
Monarch Dental (Press) Associates, L.P.
Monarch Dental Associates (Midland/Odessa), L.P.
Managed Dental Care Centers, Inc.
Dental Care One (Monarch), Inc.
Monarch Dental Associates (Abilene), L.P.
Monarch Dental Associates (Utah), Inc.
Monarch Dental Associates (Arizona), L.L.C.
Monarch Dental Professionals - Utah, P.C.
Monarch Dental Professionals - New Mexico, P.C.
Monarch Dental Professionals - Arizona, P.C.
Monarch Dental Professionals - Sternberg, Inc.
Valley Forge Dental Associates, Inc.
VFD of Pennsylvania, Inc.
Horizon Group International, Inc.
Precise Dental Lab, Inc.
VFD of Georgia, Inc.
VFD of Pittsburgh, Inc.
Pro Dent, Inc.
Riverhearst, Inc.
VFD Realty, Inc.
Valley Forge Dental Florida, P.A.
Western Dental Associates, P.C.
Nancy J. Magone, D.M.D., P.C.
Witkin Dentistry, P.C.
Horizon Dental Group International, Inc. - R.W. Aros, D.D.S.
Bruce L. Talus, D.M.D., P.C.
Bruce L. Talus, D.M.D. and Associates, P.C.
Dworkin and Clemens, D.D.S.
George E. Frattali, D.D.S. & Associates, Ltd.
George E. Frattali, D.D.S. & Associates, P.A.
Village at Newtown Dentists, P.C.
Poller Dental Centers, P.A.
<PAGE> 1
EXHIBIT 23.1
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the incorporation by
reference in this Form 10-K of our report dated March 11, 1999. It should be
noted that we have not audited any financial statements of the company
subsequent to December 31, 1998 or performed any audit procedures subsequent to
the date of our report.
ARTHUR ANDERSEN LLP
Dallas, Texas,
March 11, 1999
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 3,992,845
<SECURITIES> 0
<RECEIVABLES> 23,456,575
<ALLOWANCES> 8,128,000
<INVENTORY> 0
<CURRENT-ASSETS> 21,930,513
<PP&E> 27,995,117
<DEPRECIATION> 9,270,000
<TOTAL-ASSETS> 169,005,393
<CURRENT-LIABILITIES> 36,469,489
<BONDS> 0
0
0
<COMMON> 119,823
<OTHER-SE> 57,343,298
<TOTAL-LIABILITY-AND-EQUITY> 169,005,393
<SALES> 0
<TOTAL-REVENUES> 129,600,803
<CGS> 0
<TOTAL-COSTS> 0
<OTHER-EXPENSES> 127,110,295
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 2,871,689
<INCOME-PRETAX> (392,705)
<INCOME-TAX> 31,480
<INCOME-CONTINUING> (424,185)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (424,185)
<EPS-PRIMARY> (.04)
<EPS-DILUTED> (.04)
</TABLE>
