<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2000
[ ] 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)
N/A
(Former name, former address and former fiscal year,
if changed since last report)
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 the number of shares outstanding of each of the issue's classes of
common stock, as of the latest practicable date.
Class Outstanding as of August 11, 2000
----- ---------------------------------
Common Stock, $.01 par value 12,904,922
<PAGE> 2
MONARCH DENTAL CORPORATION
INDEX
<TABLE>
<CAPTION>
Page No.
<S> <C>
Part I. Financial Information
Item 1. Report of Independent Public Accountants 3
Item 2. Consolidated Financial Statements 4
Item 3. Management's Discussion and Analysis of Financial Condition
and Results of Operations 14
Part II. Other Information
Item 1. Legal Proceedings 21
Item 2. Changes in Securities and Use of Proceeds 22
Item 4. Submission of Matters to Vote of Security-Holders 22
Item 6. Exhibits and Reports Filed on Form 8-K 23
Signatures 24
Exhibit Index 25
</TABLE>
2
<PAGE> 3
PART I. FINANCIAL INFORMATION
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Stockholders of
Monarch Dental Corporation:
We have reviewed the accompanying consolidated balance sheet of Monarch Dental
Corporation (a Delaware corporation) and subsidiaries as of June 30, 2000 and
the related consolidated statements of income and cash flows for the
three-month and six-month periods ended June 30, 2000 and 1999. These financial
statements are the responsibility of the Company's management.
We conducted our review in accordance with standards established by the
American Institute of Certified Public Accountants. A review of interim
financial information consists principally of applying analytical procedures to
financial data and making inquiries of persons responsible for financial and
accounting matters. It is substantially less in scope than an audit conducted
in accordance with generally accepted auditing standards, the objective of
which is the expression of an opinion regarding the financial statements taken
as a whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to the financial statements referred to above for them to be in
conformity with accounting principles generally accepted in the United States.
ARTHUR ANDERSEN LLP
Dallas, Texas
August 11, 2000
3
<PAGE> 4
MONARCH DENTAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
June 30, December 31,
2000 1999
------------ ------------
(Unaudited)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 3,917,347 $ 3,921,193
Accounts receivable, net of allowances of approximately $12,988,000
and $12,678,000, respectively 18,117,670 17,408,886
Prepaid expenses 1,689,413 1,647,897
Income tax receivable -- 426,970
------------ ------------
Total current assets 23,724,430 23,404,946
Property and equipment, net of accumulated depreciation of approximately $17,051,000
and $14,363,000, respectively 18,354,379 19,071,714
Goodwill, net of accumulated amortization of approximately $12,637,000 and
$9,938,000, respectively 130,829,461 132,459,266
Deferred income taxes 340,999 340,999
Other assets 4,273,672 3,666,642
------------ ------------
Total assets $177,522,941 $178,943,567
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 1,986,004 $ 2,028,804
Accrued payroll 2,967,529 4,231,751
Accrued liabilities 6,092,942 10,862,474
Accrued restructuring charges 498,057 808,975
Income taxes payable 1,342,425 --
Payable to affiliated dental group practices 5,563,984 4,755,666
Current maturities of notes payable and capital lease obligations 84,054,531 9,539,775
------------ ------------
Total current liabilities 102,505,472 32,227,445
Notes payable 968,259 76,728,008
Capital lease obligations 526,883 455,240
Other liabilities 2,615,472 2,849,602
------------ ------------
Total liabilities 106,616,086 112,260,295
Minority interest in consolidated subsidiaries 321,885 88,818
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; 12,850,313 and
12,724,886 shares issued and outstanding, respectively 128,503 127,249
Common Stock to be issued 1,196,495 100,000
Additional paid-in capital 66,094,946 65,882,409
Retained earnings 3,165,026 484,796
------------ ------------
Total stockholders' equity 70,584,970 66,594,454
------------ ------------
Total liabilities and stockholders' equity $177,522,941 $178,943,567
============ ============
</TABLE>
The accompanying notes are an integral part of these
consolidated financial statements.
4
<PAGE> 5
MONARCH DENTAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30,
------------------------------- -------------------------------
2000 1999 2000 1999
-------------- -------------- -------------- --------------
<S> <C> <C> <C> <C>
Patient revenue, net $ 54,169,611 $ 51,469,550 $ 109,192,416 $ 100,924,569
Operating expenses:
Provider salaries and benefits 18,077,376 17,209,957 36,005,613 33,377,185
Clinical and other salaries and benefits 13,844,334 13,378,808 27,429,298 26,433,540
Dental supplies 2,560,475 2,580,113 5,528,090 5,229,337
Laboratory fees 2,622,395 2,210,711 5,486,656 4,530,026
Occupancy 2,524,054 2,493,383 5,107,062 5,069,353
Advertising 578,468 864,052 1,245,577 1,594,093
Other operating expenses 5,867,157 6,184,043 12,256,640 12,762,344
Strategic alternative costs 473,295 -- 473,295 --
Depreciation and amortization 2,756,784 2,655,347 5,471,573 5,217,581
-------------- -------------- -------------- --------------
49,304,338 47,576,414 99,003,804 94,213,459
-------------- -------------- -------------- --------------
Operating income 4,865,273 3,893,136 10,188,612 6,711,110
Interest expense, net 2,563,536 1,905,320 5,145,232 3,683,650
Minority interest in consolidated subsidiaries 81,334 136,540 168,806 169,919
-------------- -------------- -------------- --------------
Income before income taxes 2,220,403 1,851,276 4,874,574 2,857,541
Income taxes 1,001,152 725,632 2,194,344 1,118,077
-------------- -------------- -------------- --------------
Net income $ 1,219,251 $ 1,125,644 $ 2,680,230 $ 1,739,464
============== ============== ============== ==============
Net income per common share $ 0.09 $ 0.09 $ 0.21 $ 0.14
============== ============== ============== ==============
Net income per common share - assuming dilution $ 0.09 $ 0.09 $ 0.20 $ 0.14
============== ============== ============== ==============
Weighted average number of common shares
outstanding 12,846,989 13,003,031 12,842,777 12,546,975
============== ============== ============== ==============
Weighted average number of common and
common equivalent shares outstanding 13,374,086 13,003,031 13,337,579 12,546,975
============== ============== ============== ==============
</TABLE>
The accompanying notes are an integral part of these
consolidated financial statements.
5
<PAGE> 6
MONARCH DENTAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
Six months ended
June 30,
------------------------------
2000 1999
------------ ------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 2,680,230 $ 1,739,464
Adjustments to reconcile net income to net cash
provided by operating activities -
Depreciation and amortization 5,471,573 5,217,581
Minority interest in consolidated subsidiaries 168,806 169,919
Changes in assets and liabilities, net of effects from
acquisitions-
Accounts receivable, net (680,181) 208,657
Prepaid expenses (41,516) (610,682)
Income tax receivable 426,970 1,010,555
Other noncurrent assets 658,609 (10,858)
Accounts payable and accrued expenses 32,158 (2,810,330)
Accrued restructuring charges (310,918) (2,537,139)
Other liabilities 59,151 415,104
------------ ------------
Net cash provided by operating activities 8,464,882 2,792,271
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment, net (1,805,159) (2,854,856)
Cash paid for dental group practices, including
related costs, net of cash acquired (5,192,827) (7,663,730)
------------ ------------
Net cash used in investing activities (6,997,986) (10,518,586)
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from notes payable 2,400,000 15,650,000
Payments for debt issue costs (69,144) (330,869)
Payments on notes payable and capital lease obligations (3,767,184) (3,518,815)
Distribution to stockholders/partners (121,815) (345,457)
Issuance of common stock 87,401 127,668
------------ ------------
Net cash provided by (used in) financing activities (1,470,742) 11,582,527
------------ ------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (3,846) 3,856,212
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 3,921,193 3,992,845
------------ ------------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 3,917,347 $ 7,849,057
============ ============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid for interest $ 4,535,296 $ 3,761,777
============ ============
Cash paid for taxes $ 464,894 $ --
============ ============
Debt assumed through acquisitions $ -- $ 150,000
============ ============
Non-cash issuance of common stock $ 1,222,885 $ 3,602,134
============ ============
</TABLE>
The accompanying notes are an integral part of these
consolidated financial statements.
6
<PAGE> 7
MONARCH DENTAL CORPORATION AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
1. DESCRIPTION OF BUSINESS
Monarch Dental Corporation ("Monarch"), a Delaware
corporation, and subsidiaries (collectively, the "Company"), manages
dental group practices in selected markets. At June 30, 2000, the
Company managed 190 dental group practices in Texas, Wisconsin,
Pennsylvania, Virginia, Ohio, Arkansas, Utah, Colorado, Georgia, New
Jersey, Florida, Indiana, Arizona and New Mexico.
2. SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION / BASIS OF CONSOLIDATION
The financial statements for the three and six months ended
June 30, 2000 and 1999, have been prepared by the Company, without
audit, pursuant to Accounting Principles Board (APB) Opinion No. 28,
"Interim Financial Reporting." Certain information and footnote
disclosures normally included in the financial statements prepared in
accordance with generally accepted accounting principles have been
condensed or omitted pursuant to APB Opinion No. 28; nevertheless,
management of the Company believes that the disclosures herein are
adequate to prevent the information presented from being misleading.
In the opinion of management, all adjustments, consisting only of
normal recurring adjustments, necessary to present fairly the results
of its operations for the three and six months ended June 30, 2000 and
1999, have been included herein. The results of operations for the
three and six month periods are not necessarily indicative of the
results for the full year.
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,
advertising, 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 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 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.
7
<PAGE> 8
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.
NET INCOME PER COMMON SHARE
The net income per common share is based on the weighted
average number of common shares outstanding during the period. Diluted
net income per share has been calculated using the treasury stock
method for stock options and other dilutive securities. Such shares
totaled 527,098 and 494,802 for the three and six month periods ended
June 30, 2000, respectively. For the three and six month periods ended
June 30, 1999, the Company's average market price had fallen below the
average exercise price, therefore, no common stock equivalents are
included in the calculation. There were 1,097,060 stock options
outstanding at June 30, 1999.
OTHER
Certain reclassifications have been made to the 1999
financial statements to conform to the 2000 presentations.
3. NOTES PAYABLE
The Company has a $75.0 million Credit Facility with a bank
syndicate, which expires June 30, 2001. Additionally, the Company has
a $10.0 million short-term note with members of the same syndicate,
which expires December 15, 2000. Under the combined facilities, the
Company may borrow up to $85.0 million. At June 30, 2000 the Company
had $81.5 million outstanding under the facilities and remaining
availability of $3.5 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 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.
During 1999, the Company amended its loan agreement
associated with the Credit Facility. Changes made in the amendment
included, but were not limited to, modifications of certain defined
terms and financial ratios, additions of newly defined terms,
limitations on capital expenditures, modifications to the definition
of Events of Default and the requirement of prior bank approval for
consolidations, mergers, acquisitions, and sales of assets. The
methodology by which the Company's borrowing rates are determined was
also adjusted as part of the amendment. In conjunction with this
amendment, the bank syndicate received contingency compensation in the
form of warrants of the Company representing 3% of the fully diluted
outstanding common shares of the Company at the time of agreement,
subject to anti-dilution provisions, for an exercise price of $0.01
per share. At June 30, 2000, all of these warrants were vested
totaling 394,721 shares.
In June 2000, the Company further amended its loan agreement
to accommodate the current exploration of strategic alternatives and to
extend the maturity date of the $10.0 million short-term note to
December 15, 2000. The Company again amended its loan agreement in
August 2000. In accordance with the terms of the amended loan
agreement, the lenders have provided that the period of time during
which the Company will not be in default under the Credit Facility will
expire on September 1, 2000, unless the Company satisfies the
conditions and agreements contained in the amended loan agreement. In
the event that such conditions and agreements are not satisfied by such
date, management
8
<PAGE> 9
anticipates that it would enter into discussions with its lenders to
seek additional time to complete its process of exploring strategic
alternatives, including the possible sale or merger of the Company.
The Company believes that cash generated from operations and
borrowings under its credit facilities will be sufficient to fund its
cash requirements in the third quarter of 2000. Though the Company
does expect to generate sufficient cash in the fourth quarter to fund
operations, it does not expect to generate sufficient cash from
operations to repay its obligations under its short-term note due
December 15, 2000, which the Company expects will exceed $5.0 million
at that time. Failure to make the required principal payment would
constitute a default under the Credit Facility.
As of June 30, 2000, the Company is in compliance with the
terms of the Credit Facility. There can be no assurance that the
Company will maintain the ratios as required by the loan agreement.
The failure to maintain these ratios could adversely affect the
Company's operations in future periods.
Moreover, the Credit Facility expires by its terms on June
30, 2001 and all of the Company's debt thereunder will then be due.
The Company will not generate sufficient cash flow by June 30, 2001 to
repay all of its debt under the Credit Facility. The Company will need
to obtain an extension of the Credit Facility or to replace the Credit
Facility to avoid defaulting. Failure to extend or replace the Credit
Facility could result in foreclosure on the Company's assets. There
can be no assurance that the Company will be able to extend or replace
the Credit Facility.
In order to meet its short-term and long-term liquidity needs,
the Company may issue additional equity and debt securities, subject to
market and other conditions. In addition, the Company is also in
discussions with potential acquirors in order to determine if a sale of
the Company would be more beneficial to the Company's stockholders than
raising additional capital to meet its liquidity needs. There can be no
assurance that any such sale will be available on terms acceptable to
the Company. In the event a sale transaction is not consummated, the
Company would pursue the issuance of debt securities and has signed an
engagement letter with an investment bank to pursue the issuance of
these securities. Although there can be no assurance that this
financing will be available on terms acceptable to the Company, the
Company believes that given its current financial performance
additional sources of liquidity such as bank and private placement
financing will be available in the foreseeable future. These sources of
financing are available at rates that would increase the Company's
interest obligations. The failure to raise the funds necessary to
finance its future cash requirements could adversely affect the
Company's operations in future periods.
The Company enters into interest rate swap agreements to
manage its interest rate exposure. Interest rate swaps are agreements
to exchange interest rate payment streams based on a notional
principle amount. Company policy requires settlement accounting
principles for interest rate swaps in which net interest rate
differentials to be paid or received are recorded currently as
adjustments to interest expense. Transactions involving such
agreements did not have a material effect to the financial statements
for the three and six months ended June 30, 2000 and 1999,
respectively.
4. COMMITMENTS AND CONTINGENCIES
LITIGATION, CLAIMS, AND ASSESSMENTS
On or about April 26, 1999, the Company was served with a
putative class action complaint against the Company and certain of its
officers and directors, captioned Robert O. Neibert, et al. v. Monarch
Dental Corporation, Warren F. Melamed, Gary W. Cage and Roger B.
Kafker. The class action complaint, which was filed in the United
States District Court for the Northern District of Texas (the
"District Court"), alleges that the Company and certain of its
officers and directors violated the federal securities laws by making
material misrepresentations and omissions in certain public
disclosures during the period between February 24, 1998 and December
22, 1998. Following the announcement of the filing of this class
action lawsuit, the Company was served with two similar putative class
actions in the District Court, which encompass the same class period
and cover almost identical allegations. On May 24, 1999, the District
Court consolidated these three class action complaints into a single
action. The Company was subsequently served on September 10, 1999 with
a
9
<PAGE> 10
consolidated amended class action complaint which contained
substantially the same allegations as were encompassed in the prior
separate class action complaints. The Company and all of the
defendants named in the amended class action complaint filed motions
to dismiss all of the claims set forth in the complaint in October
1999.
After the motions to dismiss were filed but before the
District Court decided on them, the parties reached agreement on the
terms of a potential settlement of the action. Accordingly, the
parties entered into a Memorandum of Understanding dated January 31,
2000, which sets forth the principal bases of a settlement of the
action, subject to approval by the District Court. The Memorandum of
Understanding and the proposed settlement will be contingent upon (i)
the parties' execution of an appropriate Stipulation of Settlement
("Stipulation"); (ii) conditional certification of the Class for
purposes of the Settlement; (iii) Court approval of the settlement;
and (iv) dismissal of the Action with prejudice.
The Stipulation was submitted to the Court and preliminarily
approved on April 7, 2000. In the Stipulation, the parties requested
that (i) the District Court certify, for purposes of settlement, a
class of all persons (exclusive of Defendants and their affiliates)
who purchased or otherwise acquired shares of the Company during the
period between February 24, 1998 and December 22, 1998, and their
successors in interest and transferees, immediate and remote (the
"Class"); (ii) that the District Court finally approve the settlement,
including the release of all claims by Class members against the
Defendants; and (iii) that the District Court enter final judgment
dismissing with prejudice all claims of the plaintiffs and the Class
against the Defendants.
As part of the settlement, the Company has paid $3.5 million
into a settlement fund which will, among other things, be used to pay
authorized members of the Class. The entire settlement amount has been
funded by the Company's directors and officers liability insurance
carrier. No cash contribution was required of the Company or any of
the other defendants.
Between preliminary approval and final approval, plaintiffs'
counsel sent notice of the settlement to the Class. The District Court
considered and granted a request for final approval of the settlement
at a hearing on June 19, 2000. At that time, the releases running to
the Company and the individual defendants became effective.
On or about September 8, 1999, the Company filed a cause of
action entitled Midwest Dental Management, Inc. and Monarch Dental
Corporation v. David L. Hehli, DDS; Cause No. 99CV477, in the Circuit
Court of Eau Claire County, Wisconsin. The Company sued Dr. Hehli for
breach of contract among other claims and sought injunctive relief and
damages; Dr. Hehli counterclaimed for breach of contract and sought an
unspecified amount of damages. On or about January 17, 2000, the
Company was served with a complaint against Midwest Dental Management,
Inc. captioned Midwest Dental Plan, Ltd. v. Midwest Dental Management,
Inc., et al.; Cause No. 00-CV-6, which was filed in the Circuit Court
of Buffalo County, Wisconsin. The Plaintiff was seeking damages in an
unspecified amount and termination of an administrative services
agreement between Plaintiff and Midwest Dental Management, Inc. The
parties settled these disputes in May 2000 and all pending litigation
has been dismissed. The terms of the settlement include the purchase
by the Company of 79% of the issued and outstanding stock of Midwest
Dental Plan, Ltd.
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.
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<PAGE> 11
5. SEGMENT REPORTING
The Company organizes its business into 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, West Texas, New Mexico and Austin
Dental Offices. The Company exited the Austin
market in the first quarter of 1999.
Region Two - Includes Pittsburgh, Northern Virginia,
Southern Virginia, Atlanta and Florida Dental
Offices.
Region Three - Includes Indiana, Arkansas, Dayton and
Cleveland Dental Offices.
Region Four - Includes Wisconsin, Utah, Arizona and Colorado
Dental Offices.
Region Five - Includes Philadelphia and Northern New Jersey
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.
11
<PAGE> 12
FOR THE THREE MONTHS ENDED JUNE 30, 2000
(Dollars in thousands)
<TABLE>
<CAPTION>
Region 1 Region 2 Region 3 Region 4 Region 5 Total
----------- ----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C>
Patient revenue, net $ 20,264 $ 9,966 $ 7,486 $ 11,976 $ 4,478 $ 54,170
Total operating expenses 15,902 7,866 6,243 10,287 3,410 43,708
----------- ----------- ----------- ----------- ----------- -----------
Segment contribution 4,362 2,100 1,243 1,689 1,068 10,462
Contribution margin 22% 21% 17% 14% 24% 19%
Depreciation and
amortization expense 888 528 395 495 425 2,731
Interest expense, net 5 57 2 6 20 90
Segment profit 3,469 1,515 846 1,188 623 7,641
</TABLE>
FOR THE THREE MONTHS ENDED JUNE 30, 1999
(Dollars in thousands)
<TABLE>
<CAPTION>
Region 1 Region 2 Region 3 Region 4 Region 5 Total
---------- ---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C>
Patient revenue, net $ 18,677 $ 9,282 $ 7,320 $ 11,705 $ 4,486 $ 51,470
Total operating expenses 15,159 7,385 6,065 9,917 3,622 42,148
---------- ---------- ---------- ---------- ---------- ----------
Segment contribution 3,518 1,897 1,255 1,788 864 9,322
Contribution margin 19% 20% 17% 15% 19% 18%
Depreciation and
amortization expense 949 530 374 408 360 2,621
Interest expense, net 13 16 -- 8 37 74
Segment profit 2,556 1,351 881 1,372 467 6,627
</TABLE>
<TABLE>
<CAPTION>
Reconciliation of Profit (in thousands) Three Months Ended June 30,
-----------------------------
2000 1999
------------ ------------
<S> <C> <C>
Segment profit $ 7,641 $ 6,627
Unallocated amounts:
Corporate operating expenses 2,840 2,773
Corporate depreciation and amortization expense 26 34
Corporate interest expense, net 2,474 1,832
Minority interest in consolidated subsidiaries 81 137
------------ ------------
Income before income taxes $ 2,220 $ 1,851
============ ============
</TABLE>
12
<PAGE> 13
FOR THE SIX MONTHS ENDED JUNE 30, 2000
(Dollars in thousands)
<TABLE>
<CAPTION>
Region 1 Region 2 Region 3 Region 4 Region 5 Total
----------- ----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C>
Patient revenue, net $ 41,682 $ 19,668 $ 15,038 $ 24,226 $ 8,578 $ 109,192
Total operating expenses 32,379 15,694 12,558 20,554 6,936 88,121
----------- ----------- ----------- ----------- ----------- -----------
Segment contribution 9,303 3,974 2,480 3,672 1,642 21,071
Contribution margin 22% 20% 16% 15% 19% 19%
Depreciation and
amortization expense 1,790 1,050 782 967 849 5,438
Interest expense, net 8 97 3 13 34 155
Segment profit 7,505 2,827 1,695 2,692 759 15,478
</TABLE>
FOR THE SIX MONTHS ENDED JUNE 30, 1999
(Dollars in thousands)
<TABLE>
<CAPTION>
Region 1 Region 2 Region 3 Region 4 Region 5 Total
----------- ----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C>
Patient revenue, net $ 37,049 $ 17,881 $ 14,521 $ 22,669 $ 8,805 $ 100,925
Total operating expenses 30,303 14,716 12,242 19,420 7,373 84,054
----------- ----------- ----------- ----------- ----------- -----------
Segment contribution 6,746 3,165 2,279 3,249 1,432 16,871
Contribution margin 18% 18% 16% 14% 16% 17%
Depreciation and
amortization expense 1,892 1,040 716 803 693 5,144
Interest expense, net 24 42 -- 18 71 155
Segment profit 4,830 2,083 1,563 2,428 668 11,572
</TABLE>
<TABLE>
<CAPTION>
Reconciliation of Profit (in thousands) Six Months Ended June 30,
-------------------------
2000 1999
---------- ----------
<S> <C> <C>
Segment profit $ 15,478 $ 11,572
Unallocated amounts:
Corporate operating expenses 5,411 4,942
Corporate depreciation and amortization expense 33 73
Corporate interest expense, net 4,990 3,529
Minority interest in consolidated subsidiaries 169 170
---------- ----------
Income before income taxes $ 4,875 $ 2,858
========== ==========
</TABLE>
13
<PAGE> 14
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This Quarterly Report on Form 10-Q contains forward-looking statements
within the meaning of Section 27A of the Securities Act of 1933 and Section 21E
of the Securities and Exchange Act of 1934, including statements under
"Liquidity and Capital Resources" regarding the availability of cash from
operations to fund core operations, interest expense, nonrecurring and
contingency payments and obligations under the Company's short-term debt,
statements regarding amounts anticipated to be due under the Company's
short-term note at future points in time, statements regarding the sufficiency
of cash in the third and fourth quarters of 2000 and first half of 2001,
statements regarding the extension or replacement of the Company's current
credit facility, statements regarding the possible issuance of debt or equity
securities, statements concerning a possible sale of the Company and related
activities, statements regarding alternative financing strategies, and
statements regarding availability of additional sources of liquidity and of any
failure to raise necessary funding. 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 availability and consummation of financing or strategic
transactions, risks associated with liquidity and cash flow shortfalls, risks
associated with implementation of strategic initiatives, risks associated with
integration of 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 in the Company's Form 10-K for the year ended December
31, 1999 as filed with the U.S. Securities and Exchange Commission.
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, by opening Dental
Offices on a de novo basis and through acquisitions of existing dental
practices. The Company has entered selected new markets by acquiring dental
group practices, which have a significant market presence, or which the Company
believes can achieve such a presence in the near term. The Company then seeks
to use the acquired dental group practice as a "pedestal" from which to expand
within the newly entered market.
The following table sets forth the increase in the number of Dental
Offices owned and managed by the Company during each of the years indicated,
including the number of de novo Dental Offices and acquired Dental Offices in
each such year.
<TABLE>
<CAPTION>
2000 (1) 1999 1998 1997 1996
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Offices at beginning of period 190 192 99 53 12
De novo offices 1 -- 7 7 2
Acquired offices -- 7 88 39 39
Closed offices (1) (9) (2) -- --
-------- -------- -------- -------- --------
Offices at end of period 190 190 192 99 53
======== ======== ======== ======== ========
(1) Through June 30, 2000
</TABLE>
14
<PAGE> 15
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.
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.
RESULTS OF OPERATIONS
THREE MONTHS ENDED JUNE 30, 2000 COMPARED TO THREE MONTHS ENDED JUNE 30, 1999
Patient revenue, net. Revenue increased to $54.2 million for the three
months ended June 30, 2000 from $51.5 million for the three months ended June
30, 1999, an increase of $2.7 million, or 5.2%. This increase resulted
primarily from same store revenue growth generated by the successful
implementation of revenue enhancement initiatives in 2000 including patient
focused marketing programs and the expansion or relocation of twenty-six
existing Dental Offices and to a lesser extent the opening of one de novo
Dental Office.
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) remained constant at $31.1 million for the three months
ended June 30, 2000 and 1999, respectively. Managed dental care revenue (i.e.,
revenue from capitated managed dental care plans, including capitation payments
and patient co-payments) increased to $23.1 million for the three months ended
June 30, 2000 from $20.4 million for the three months ended June 30, 1999, an
increase of $2.7 million, or 13.4%. This increase resulted primarily from same
store revenue growth generated by the successful implementation of revenue
enhancement initiatives in 2000 including patient focused marketing programs
and the expansion or relocation of twenty-six existing Dental Offices and to a
lesser extent the opening of one de novo Dental Office. As a percentage of
Revenue, fee-for-service revenue decreased to 57.4% from 60.4% for the three
months ended June 30, 2000 and 1999, respectively.
Provider salaries and benefits. Provider salaries and benefits expense
increased to $18.1 million for the three months ended June 30, 2000 from $17.2
million for the three months ended June 30, 1999, an increase of $867,000, or
5.0%. This increase resulted primarily from increased dentist and hygienist
compensation due to a higher level of production at the Dental Offices and to a
lesser extent the opening of one de novo Dental Office and the expansion or
relocation of twenty-six existing Dental Offices. As a percent of Revenue,
provider salaries and benefits expense remained constant at 33.4% for the three
months ended June 30, 2000 and 1999, respectively.
Clinical and other salaries and benefits. Clinical and other salaries
and benefits expense increased to $13.8 million for the three months ended June
30, 2000 from $13.4 million for the three months ended June 30, 1999, an
increase of $466,000, or 3.5%. This increase resulted primarily from the
opening of one de novo Dental Office and the expansion or relocation of
twenty-six existing Dental Offices. As a percent of Revenue, clinical and other
salaries and benefits expense decreased to 25.6% from 26.0% for the three
months ended June 30, 2000 and 1999, respectively. This decrease was due
principally to the leveraging of constant salaries and benefits expense against
increased revenue.
Dental supplies. Dental supplies expense remained constant at $2.6
million for the three months ended June 30, 2000 and 1999, respectively. A
higher level of production at the Dental Offices, the opening of one de novo
Dental Office and the expansion or relocation of twenty-six existing Dental
Offices was offset by the leveraging of national supply contracts. As a percent
of Revenue, dental supplies expense decreased to 4.7% from 5.0% for the three
months ended June 30, 2000 and
15
<PAGE> 16
1999, respectively. This decrease was due principally to the leveraging of
national supply contracts.
Laboratory fees. Laboratory fee expense increased to $2.6 million for
the three months ended June 30, 2000 from $2.2 million for the three months
ended June 30, 1999, an increase of $412,000, or 18.6%. This increase resulted
primarily from increased production at the Dental Offices and an increase in
material costs used in the production of crowns and to a lesser extent the
opening of one de novo Dental Office and the expansion or relocation of
twenty-six existing Dental Offices. As a percent of Revenue, laboratory fee
expense increased to 4.8% from 4.3% for the three months ended June 30, 2000
and 1999, respectively. This increase was due principally to the increase in
material costs used in the production of crowns.
Occupancy. Occupancy expense remained constant at $2.5 million for the
three months ended June 30, 2000 and 1999, respectively. The expense associated
with the opening of one de novo Dental Office and the expansion or relocation
of twenty-six existing Dental Offices was offset by two Dental Office closures
since the end of the second quarter of 1999. As a percent of Revenue, occupancy
expense decreased slightly to 4.7% from 4.8% for the three months ended June
30, 2000 and 1999, respectively.
Advertising. Advertising expense decreased to $578,000 for the three
months ended June 30, 2000 from $864,000 for the three months ended June 30,
1999, a decrease of $286,000, or 33.1%. This decrease resulted primarily from
cost control initiatives implemented in 1999 that included the use of lower
cost advertising. A greater emphasis was placed on direct mailings and other
types of print advertising as opposed to the more expensive television and
radio advertising. As a percent of Revenue, advertising expense decreased to
1.1% from 1.7% for the three months ended June 30, 2000 and 1999, respectively.
This decrease resulted from the use of lower cost advertising and the
leveraging of advertising expense against increased revenue.
Other operating expenses. Other operating expenses decreased to $5.9
million for the three months ended June 30, 2000 from $6.2 million for the
three months ended June 30, 1999, a decrease of $317,000, or 5.1%. This
decrease resulted primarily from cost control initiatives implemented in 1999
offset by the opening of one de novo Dental Office and the expansion or
relocation of twenty-six existing Dental Offices. As a percent of Revenue,
other operating expenses decreased to 10.8% from 12.0% for the three months
ended June 30, 2000 and 1999, respectively. This decrease resulted from the
cost control initiatives implemented in 1999 and the leveraging of other
operating expenses against increased revenue.
Strategic alternative costs. Strategic alternative costs were $473,000
for the three months ended June 30, 2000 resulting from efforts to explore
strategic alternatives in order to expand the Company's growth opportunities and
maximize shareholder value. These alternatives include potential strategic
transactions, such as the possible sale or merger of the Company. There can be
no assurances that any actions taken by the Company will result in any
transaction or as to the value that any such transaction might have.
Depreciation and amortization. Depreciation and amortization expense
increased to $2.8 million for the three months ended June 30, 2000 from $2.7
million for the three months ended June 30, 1999, an increase of $101,000, or
3.8%. This slight increase resulted primarily from additional depreciation
expense on fixed assets purchased to facilitate the opening of one de novo
Dental Office and the expansion or relocation of twenty-six existing Dental
Offices.
Operating income. Operating income increased to $4.9 million for the
three months ended June 30, 2000 from $3.9 million for the three months ended
June 30, 1999, an increase of $972,000, or 25.0%. This increase resulted
primarily from increased revenue at the Dental Offices due to the
implementation of revenue initiatives in 2000 and certain cost control
initiatives implemented in 1999. As a percent of Revenue, operating income
increased to 9.0% from 7.6% for the three months ended June 30, 2000 and 1999,
respectively. This increase was due principally to increased Revenue and margin
improvement in clinical and other salaries and benefits expense, dental
supplies expense, occupancy expense, advertising expense, other operating
expenses and depreciation and amortization expense offset by higher laboratory
fee expense as a percent of Revenue.
Interest expense, net. Interest expense, net increased to $2.6 million
for the three months ended June 30, 2000 from $1.9 million for the three months
ended June 30, 1999, an increase of $658,000, or 34.5%. This increase is
attributable to the higher average outstanding debt balances and higher
interest rates for the three months ended June 30, 2000 and 1999, respectively.
The Company has a Credit Facility (the "Credit Facility") with a bank
syndicate. Average debt outstanding under the Credit Facility totaled $82.2
million for the three months ended June 30, 2000 compared to average debt
outstanding of $80.3 million for the three months ended June 30, 1999.
16
<PAGE> 17
Minority interest in consolidated subsidiaries. Minority interest in
consolidated subsidiaries expense decreased to $81,000 for the three months
ended June 30, 2000 from $137,000 for the three months ended June 30, 1999, a
decrease of $56,000, or 40.1%. This decrease resulted from lower net income in
markets that are not wholly owned by the Company for the three months ended
June 30, 2000 and 1999, respectively. The minority ownership percentages in
these markets range from 6.25% to 50%. These markets are located in Indiana,
Texas, New Mexico, Georgia, Pennsylvania and New Jersey.
Income taxes. Income tax expense increased to $1.0 million for the
three months ended June 30, 2000 from $726,000 for the three months ended June
30, 1999, an increase of $276,000, or 38.0%. This increase resulted from higher
income before income taxes, which increased to $2.2 million for the three
months ended June 30, 2000 from $1.9 million for the three months ended June
30, 1999, an increase of $369,000, or 19.9% and a higher effective tax rate in
2000 due primarily to the impact of goodwill amortization that is not tax
deductible.
SIX MONTHS ENDED JUNE 30, 2000 COMPARED TO SIX MONTHS ENDED JUNE 30, 1999
Patient revenue, net. Revenue increased to $109.2 million for the six
months ended June 30, 2000 from $100.9 million for the six months ended June
30, 1999, an increase of $8.3 million, or 8.2%. This increase resulted
primarily from same store revenue growth generated by the successful
implementation of revenue enhancement initiatives in 2000 including patient
focused marketing programs and the expansion or relocation of twenty-six
existing Dental Offices and to a lesser extent the opening of one de novo
Dental Office.
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 $63.6 million for the six months ended June
30, 2000 from $61.6 million for the six months ended June 30,1999, an increase
of $2.0 million, or 3.2%. This increase resulted primarily from same store
revenue growth generated by the successful implementation of revenue
enhancement initiatives in 2000 including patient focused marketing programs
and the expansion or relocation of twenty-six existing Dental Offices and to a
lesser extent the opening of one de novo Dental Office. Managed dental care
revenue (i.e., revenue from capitated managed dental care plans, including
capitation payments and patient co-payments) increased to $45.6 million for the
six months ended June 30, 2000 from $39.3 million for the six months ended June
30, 1999, an increase of $6.3 million, or 16.0%. This increase resulted
primarily from same store revenue growth generated by the successful
implementation of revenue enhancement initiatives in 2000 including patient
focused marketing programs and the expansion or relocation of twenty-six
existing Dental Offices and to a lesser extent the opening of one de novo
Dental Office. As a percentage of Revenue, fee-for-service revenue decreased to
58.3% from 61.1% for the six months ended June 30, 2000 and 1999, respectively.
Provider salaries and benefits. Provider salaries and benefits expense
increased to $36.0 million for the six months ended June 30, 2000 from $33.4
million for the six months ended June 30, 1999, an increase of $2.6 million, or
7.9%. This increase resulted primarily from increased dentist and hygienist
compensation due to a higher level of production at the Dental Offices and to a
lesser extent the opening of one de novo Dental Office and the expansion or
relocation of twenty-six existing Dental Offices. As a percent of Revenue,
provider salaries and benefits expense decreased slightly to 33.0% from 33.1%
for the six months ended June 30, 2000 and 1999, respectively.
Clinical and other salaries and benefits. Clinical and other salaries
and benefits expense increased to $27.4 million for the six months ended June
30, 2000 from $26.4 million for the six months ended June 30, 1999, an increase
of $996,000, or 3.8%. This increase resulted primarily from the opening of one
de novo Dental Office and the expansion or relocation of twenty-six existing
Dental Offices. As a percent of Revenue, clinical and other salaries and
benefits expense decreased to 25.1% from 26.2% for the six months ended June
30, 2000 and 1999, respectively. This decrease was due principally to the
leveraging of constant salaries and benefits expense against increased revenue.
Dental supplies. Dental supplies expense increased to $5.5 million for
the six months ended June 30, 2000 from $5.2 million for the six months ended
June 30, 1999, an increase of $299,000, or 5.7%. This increase resulted
primarily from a higher level of production at the Dental Offices and to a
lesser extent the opening of one de novo Dental Office and the expansion or
relocation of twenty-six existing Dental Offices. These increases were
partially offset by the leveraging of national supply contracts. As a percent
of Revenue, dental supplies expense decreased slightly to 5.1% from 5.2% for
the six months ended June 30, 2000 and 1999, respectively.
17
<PAGE> 18
Laboratory fees. Laboratory fee expense increased to $5.5 million for
the six months ended June 30, 2000 from $4.5 million for the six months ended
June 30, 1999, an increase of $957,000, or 21.1%. This increase resulted
primarily from increased production at the Dental Offices and an increase in
material costs used in the production of crowns and to a lesser extent the
opening of one de novo Dental Office and the expansion or relocation of
twenty-six existing Dental Offices. As a percent of Revenue, laboratory fee
expense increased to 5.0% from 4.5% for the six months ended June 30, 2000 and
1999, respectively. This increase was due principally to the increase in
material costs used in the production of crowns.
Occupancy. Occupancy expense remained constant at $5.1 million for the
six months ended June 30, 2000 and 1999, respectively. The expense associated
with the opening of one de novo Dental Office and the expansion or relocation
of twenty-six existing Dental Offices was offset by two Dental Office closures
since the end of the second quarter of 1999. As a percent of Revenue, occupancy
expense decreased to 4.7% from 5.0% for the six months ended June 30, 2000 and
1999, respectively. This decrease was due principally to the leveraging of
constant occupancy expense against increased revenue.
Advertising. Advertising expense decreased to $1.2 million for the six
months ended June 30, 2000 from $1.6 million for the six months ended June 30,
1999, a decrease of $349,000, or 21.9%. This decrease resulted primarily from
cost control initiatives implemented in 1999 that included the use of lower
cost advertising. A greater emphasis was placed on direct mailings and other
types of print advertising as opposed to the more expensive television and
radio advertising. As a percent of Revenue, advertising expense decreased to
1.1% from 1.6% for the six months ended June 30, 2000 and 1999, respectively.
This decrease resulted from the use of lower cost advertising and the
leveraging of advertising expense against increased revenue.
Other operating expenses. Other operating expenses decreased to $12.3
million for the six months ended June 30, 2000 from $12.8 million for the six
months ended June 30, 1999, a decrease of $506,000, or 4.0%. This decrease
resulted primarily from cost control initiatives implemented in 1999 offset by
the opening of one de novo Dental Office and the expansion or relocation of
twenty-six existing Dental Offices. As a percent of Revenue, other operating
expenses decreased to 11.2% from 12.6% for the six months ended June 30, 2000
and 1999, respectively. This decrease resulted from the cost control
initiatives implemented in 1999 and the leveraging of other operating expenses
against increased revenue.
Strategic alternative costs. Strategic alternative costs were $473,000
for the six months ended June 30, 2000 resulting from efforts to explore
strategic alternatives in order to expand the Company's growth opportunities and
maximize shareholder value. These alternatives include potential strategic
transactions, such as the possible sale or merger of the Company. There can be
no assurances that any actions taken by the Company will result in any
transaction or as to the value that any such transaction might have.
Depreciation and amortization. Depreciation and amortization expense
increased to $5.5 million for the six months ended June 30, 2000 from $5.2
million for the six months ended June 30, 1999, an increase of $254,000, or
4.9%. This slight increase resulted primarily from additional depreciation
expense on fixed assets purchased to facilitate the opening of one de novo
Dental Office and the expansion or relocation of twenty-six existing Dental
Offices.
Operating income. Operating income increased to $10.2 million for the
six months ended June 30, 2000 from $6.7 million for the six months ended June
30, 1999, an increase of $3.5 million, or 51.8%. This increase resulted
primarily from increased revenue at the Dental Offices due to the
implementation of revenue initiatives in 2000 and certain cost control
initiatives implemented in 1999. As a percent of Revenue, operating income
increased to 9.3% from 6.6% for the six months ended June 30, 2000 and 1999,
respectively. This increase was due principally to increased Revenue and margin
improvement in provider salaries and benefits expense, clinical and other
salaries and benefits expense, dental supplies expense, occupancy expense,
advertising expense, other operating expenses and depreciation and amortization
expense offset by higher laboratory fee expense as a percent of Revenue.
Interest expense, net. Interest expense, net increased to $5.1 million
for the six months ended June 30, 2000 from $3.7 million for the six months
ended June 30, 1999, an increase of $1.4 million, or 39.7%. This increase is
attributable to the higher average outstanding debt balances and higher
interest rates for the six months ended June 30, 2000 and 1999, respectively.
Average debt outstanding under the Company's Credit Facility totaled $82.4
million for the six months ended June 30, 2000 compared to average debt
outstanding of $76.6 million for the six months ended June 30, 1999.
18
<PAGE> 19
Minority interest in consolidated subsidiaries. Minority interest in
consolidated subsidiaries expense decreased to $169,000 for the six months
ended June 30, 2000 from $170,000 for the six months ended June 30, 1999, a
decrease of $1,000, or 0.6%. This slight decrease resulted from lower net
income in markets that are not wholly owned by the Company for the six months
ended June 30, 2000 and 1999, respectively.
Income taxes. Income tax expense increased to $2.2 million for the six
months ended June 30, 2000 from $1.1 million for the six months ended June 30,
1999, an increase of $1.1 million, or 96.2%. This increase resulted from higher
income before income taxes, which increased to $4.9 million for the six months
ended June 30, 2000 from $2.9 million for the six months ended June 30, 1999,
an increase of $2.0 million, or 70.6% and a higher effective tax rate in 2000
due primarily to the impact of goodwill amortization that is not tax
deductible.
LIQUIDITY AND CAPITAL RESOURCES
At June 30, 2000, the Company had a $78.8 million working capital
deficit, representing an increase of $70.0 million from the working capital
deficit of $8.8 million at December 31, 1999. This working capital deficit was
due principally to the reclassification of $75.0 million in notes payable due
June 30, 2001 under the Credit Facility from long-term to current liabilities.
The Company has not pursued a restructuring of the $75.0 million Credit Facility
pending the conclusion of the exploration of strategic alternatives. Current
liabilities also consisted of $2.0 million in accounts payable, $10.9 million in
accrued liabilities, $5.6 million in amounts payable to dental group practices
as consideration for accounts receivable acquired from such group practices and
$9.0 million in current maturities of additional notes payable and capital lease
obligations. Current liabilities were offset by current assets of $23.7 million,
consisting of $3.9 million in cash and cash equivalents, $18.1 million in
accounts receivable, net of allowances and prepaid expenses of $1.7 million. The
Company's principal sources of liquidity as of June 30, 2000 consisted of cash
and cash equivalents, net accounts receivable and borrowing capacity under the
Credit Facility. There can be no assurance the Company's working capital deficit
will not continue in the future, particularly if additional indebtedness
requires current amortization of principal.
For the six months ended June 30, 2000 and 1999, cash provided by
operations was $8.5 million and $2.8 million, respectively.
Cash used in investing activities was $7.0 million for the six months
ended June 30, 2000 and $10.5 million for the six months ended June 30, 1999.
In the six months ended June 30, 2000, $4.5 million was utilized to meet
contingent payments for acquisitions completed in prior periods, $700,000 was
used to purchase 79% of a dental insurance plan and $1.8 million was invested
in the purchase of additional property and equipment. In the six months ended
June 30, 1999, $7.7 million was utilized for acquisitions and to meet
contingent payments for acquisitions completed in prior periods and $2.8
million was invested in the purchase of additional property and equipment.
For the six months ended June 30, 2000, cash used in financing
activities was $1.5 million primarily comprised of the repayment of $3.8
million in outstanding debt offset by $2.4 million in net borrowings. For the
six months ended June 30, 1999, cash provided by financing activities was $11.6
million primarily comprised of $15.7 million in net borrowings offset by the
repayment of $3.5 million in outstanding debt and debt issue costs of $331,000.
The Company has a $75.0 million Credit Facility with a bank syndicate,
which expires June 30, 2001. Additionally, the Company has a $10.0 million
short-term note with members of the same syndicate, which expires December 15,
2000. Under the combined facilities, the Company may borrow up to $85.0
million. At June 30, 2000 the Company had $81.5 million outstanding under the
facilities and remaining availability of $3.5 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 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.
19
<PAGE> 20
During 1999, the Company amended its loan agreement associated with
the Credit Facility. Changes made in the amendment included, but were not
limited to, modifications of certain defined terms and financial ratios,
additions of newly defined terms, limitations on capital expenditures,
modifications to the definition of Events of Default and the requirement of
prior bank approval for consolidations, mergers, acquisitions, and sales of
assets. The methodology by which the Company's borrowing rates are determined
was also adjusted as part of the amendment. In conjunction with this amendment,
the bank syndicate received contingency compensation in the form of warrants of
the Company representing 3% of the fully diluted outstanding common shares of
the Company at the time of agreement, subject to anti-dilution provisions, for
an exercise price of $0.01 per share. At June 30, 2000, all of these warrants
were vested totaling 394,721 shares.
In June 2000, the Company further amended its loan agreement to
accommodate the current exploration of strategic alternatives and to extend the
maturity date of the $10.0 million short-term note to December 15, 2000. The
Company again amended its loan agreement in August 2000. In accordance with the
terms of the amended loan agreement, the lenders have provided that the period
of time during which the Company will not be in default under the Credit
Facility will expire on September 1, 2000, unless the Company satisfies the
conditions and agreements contained in the amended loan agreement. In the event
that such conditions and agreements are not satisfied by such date, management
anticipates that it would enter into discussions with its lenders to seek
additional time to complete its process of exploring strategic alternatives,
including the possible sale or merger of the Company.
The Company believes that cash generated from operations and
borrowings under its credit facilities will be sufficient to fund its cash
requirements in the third quarter of 2000. Though the Company does expect to
generate sufficient cash in the fourth quarter to fund operations, it does not
expect to generate sufficient cash from operations to repay its obligations
under its short-term note due December 15, 2000, which the Company expects will
exceed $5.0 million at that time. Failure to make the required principal
payment would constitute a default under the Credit Facility.
As of June 30, 2000, the Company is in compliance with the terms of
the Credit Facility. There can be no assurance that the Company will maintain
the ratios as required by the loan agreement. The failure to maintain these
ratios could adversely affect the Company's operations in future periods.
Moreover, the Credit Facility expires by its terms on June 30, 2001
and all of the Company's debt thereunder will then be due. The Company will not
generate sufficient cash flow by June 30, 2001 to repay all of its debt under
the Credit Facility. The Company will need to obtain an extension of the Credit
Facility or to replace the Credit Facility to avoid defaulting. Failure to
extend or replace the Credit Facility could result in foreclosure on the
Company's assets. There can be no assurance that the Company will be able to
extend or replace the Credit Facility.
In order to meet its short-term and long-term liquidity needs, the
Company may issue additional equity and debt securities, subject to market and
other conditions. In addition, the Company is also in discussions with potential
acquirors in order to determine if a sale of the Company would be more
beneficial to the Company's stockholders than raising additional capital to meet
its liquidity needs. There can be no assurance that any such sale will be
available on terms acceptable to the Company. In the event a sale transaction is
not consummated, the Company would pursue the issuance of debt securities and
has signed an engagement letter with an investment bank to pursue the issuance
of these securities. Although there can be no assurance that this financing will
be available on terms acceptable to the Company, the Company believes that given
its current financial performance additional sources of liquidity such as bank
and private placement financing will be available in the foreseeable future.
These sources of financing are available at rates that would increase the
Company's interest obligations. The failure to raise the funds necessary to
finance its future cash requirements could adversely affect the Company's
operations in future periods.
The Company enters into interest rate swap agreements to manage its
interest rate exposure. Interest rate swaps are agreements to exchange interest
rate payment streams based on a notional principle amount. Company policy
requires settlement accounting principles for interest rate swaps in which net
interest rate differentials to be paid or received are recorded currently as
adjustments to interest expense. Transactions involving such agreements did not
have a material effect to the financial statements for the three and six months
ended June 30, 2000 and 1999, respectively.
20
<PAGE> 21
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
On or about April 26, 1999, the Company was served with a
putative class action complaint against the Company and certain of its
officers and directors, captioned Robert O. Neibert, et al. v. Monarch
Dental Corporation, Warren F. Melamed, Gary W. Cage and Roger B.
Kafker. The class action complaint, which was filed in the United
States District Court for the Northern District of Texas (the
"District Court"), alleges that the Company and certain of its
officers and directors violated the federal securities laws by making
material misrepresentations and omissions in certain public
disclosures during the period between February 24, 1998 and December
22, 1998. Following the announcement of the filing of this class
action lawsuit, the Company was served with two similar putative class
actions in the District Court, which encompass the same class period
and cover almost identical allegations. On May 24, 1999, the District
Court consolidated these three class action complaints into a single
action. The Company was subsequently served on September 10, 1999 with
a consolidated amended class action complaint which contained
substantially the same allegations as were encompassed in the prior
separate class action complaints. The Company and all of the
defendants named in the amended class action complaint filed motions
to dismiss all of the claims set forth in the complaint in October
1999.
After the motions to dismiss were filed but before the
District Court decided on them, the parties reached agreement on the
terms of a potential settlement of the action. Accordingly, the
parties entered into a Memorandum of Understanding dated January 31,
2000, which sets forth the principal bases of a settlement of the
action, subject to approval by the District Court. The Memorandum of
Understanding and the proposed settlement will be contingent upon (i)
the parties' execution of an appropriate Stipulation of Settlement
("Stipulation"); (ii) conditional certification of the Class for
purposes of the Settlement; (iii) Court approval of the settlement;
and (iv) dismissal of the Action with prejudice.
The Stipulation was submitted to the Court and preliminarily
approved on April 7, 2000. In the Stipulation, the parties requested
that (i) the District Court certify, for purposes of settlement, a
class of all persons (exclusive of Defendants and their affiliates)
who purchased or otherwise acquired shares of the Company during the
period between February 24, 1998 and December 22, 1998, and their
successors in interest and transferees, immediate and remote (the
"Class"); (ii) that the District Court finally approve the settlement,
including the release of all claims by Class members against the
Defendants; and (iii) that the District Court enter final judgment
dismissing with prejudice all claims of the plaintiffs and the Class
against the Defendants.
As part of the settlement, the Company has paid $3.5 million
into a settlement fund which will, among other things, be used to pay
authorized members of the Class. The entire settlement amount has been
funded by the Company's directors and officers liability insurance
carrier. No cash contribution was required of the Company or any of
the other defendants.
Between preliminary approval and final approval, plaintiffs'
counsel sent notice of the settlement to the Class. The District Court
considered and granted a request for final approval of the settlement
at a hearing on June 19, 2000. At that time, the releases running to
the Company and the individual defendants became effective.
On or about September 8, 1999, the Company filed a cause of
action entitled Midwest Dental Management, Inc. and Monarch Dental
Corporation v. David L. Hehli, DDS; Cause No. 99CV477, in the Circuit
Court of Eau Claire County, Wisconsin. The Company sued Dr. Hehli for
breach of contract among other claims and sought injunctive relief and
damages; Dr. Hehli counterclaimed for breach of contract and sought an
unspecified amount of damages. On or about January 17, 2000, the
Company was served with a complaint against Midwest Dental Management,
Inc. captioned Midwest Dental Plan, Ltd. v. Midwest Dental Management,
Inc., et al.; Cause No. 00-CV-6, which was filed in the Circuit Court
of Buffalo County,
21
<PAGE> 22
Wisconsin. The Plaintiff was seeking damages in an unspecified amount
and termination of an administrative services agreement between
Plaintiff and Midwest Dental Management, Inc. The parties settled
these disputes in May 2000 and all pending litigation has been
dismissed. The terms of the settlement include the purchase by the
Company of 79% of the issued and outstanding stock of Midwest Dental
Plan, Ltd.
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 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
(a) Not applicable.
(b) Not applicable.
(c) In January 2000, pursuant to a Stock Option Agreement, the
Company granted options to purchase 5,000 shares of Common
Stock to a seller of an affiliated dental practice in partial
consideration of a legal settlement in reliance upon the
exemption from registration under Regulation D promulgated
under the Securities Act.
In April 2000, pursuant to a Stock Purchase Agreement, the
Company issued 10,432 shares of Common Stock to various
affiliated dentists as consideration for achieving specified
financial performance goals in reliance upon the exemption
from registration under Regulation D promulgated under the
Securities Act.
In May 2000, pursuant to a Stock Option Agreement, the
Company granted options to purchase 25,000 shares of Common
Stock at an exercise price of $2.4375 per share to its Chief
Financial Officer in reliance upon the exemption from
registration under Regulation D promulgated under the
Securities Act.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO VOTE OF SECURITY-HOLDERS
At the Annual Meeting of Shareholders of the Company held on May 9,
2000, the shareholders of the Company approved the election of Gary
W. Cage and Glenn E. Hemmerle, the Board of Directors' nominees, as
Class III Directors of the Company to hold office until the 2003
Annual Meeting of Shareholders and until their successors are duly
elected and qualified. No other nominations were made. The total
number of votes cast for the election of the Class III Directors was
10,573,557. Set forth below is a tabulation of the vote:
<TABLE>
<CAPTION>
Votes For Votes Withheld
--------- --------------
<S> <C> <C>
Gary W. Cage 10,460,165 113,392
Glenn E. Hemmerle 10,471,165 102,392
</TABLE>
There were no broker non-votes on this matter.
22
<PAGE> 23
At the Annual Meeting of Shareholders of the Company held on May 9,
2000, the shareholders of the Company approved the amendment to the
Company's 1997 Employee Stock Purchase Plan (the "Purchase Plan") to
increase the number of shares of Common Stock available for issuance
under the Purchase Plan from 250,000 to 500,000. No other amendments
were made. The total number of votes cast for the amendment to the
Purchase Plan was 10,573,557. Set forth below is a tabulation of the
vote:
<TABLE>
<CAPTION>
Votes For Votes Against Votes Abstain
--------- ------------- -------------
<S> <C> <C> <C>
Amendment to Purchase Plan 10,344,078 207,405 22,074
</TABLE>
There were no broker non-votes on this matter.
ITEM 5. OTHER INFORMATION
Not applicable.
ITEM 6. EXHIBITS AND REPORTS FILED ON FORM 8-K
(a) Exhibits.
10.1 Amended and Restated Employment Agreement dated as
of January 1, 2000 by and between Monarch Dental
Corporation and Gary W. Cage
10.2 Amended and Restated Employment Agreement dated as
of May 26, 2000 by and between Monarch Dental
Corporation and Lisa Corbett Peterson
10.3 Indemnification Agreement dated as of May 8, 2000 by
and between Monarch Dental Corporation and Lisa K.
Peterson
10.4 Third Amendment to Second Amended and Restated Loan
Agreement dated June 30, 2000 by and among Monarch
Dental Corporation, Bank of America, N.A. and Other
Entities Designated Herein
10.5 Fourth Amendment to Second Amended and Restated Loan
Agreement dated August 11, 2000 by and among Monarch
Dental Corporation, Bank of America, N.A. and Other
Entities Designated Herein
11 Statement re: Computation of per share earnings
27 Financial Data Schedules
(b) Reports on Form 8-K.
Not applicable.
23
<PAGE> 24
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: August 14, 2000 By: /s/ Gary W. Cage
-------------------------
Gary W. Cage
Chief Executive Officer
Date: August 14, 2000 By: /s/ Lisa K. Peterson
-------------------------
Lisa K. Peterson
Chief Financial Officer
24
<PAGE> 25
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
------ -----------
<S> <C>
10.1 Amended and Restated Employment Agreement dated as of January
1, 2000 by and between Monarch Dental Corporation and Gary W.
Cage
10.2 Amended and Restated Employment Agreement dated as of May 26,
2000 by and between Monarch Dental Corporation and Lisa
Corbett Peterson
10.3 Indemnification Agreement dated as of May 8, 2000 by and
between Monarch Dental Corporation and Lisa K. Peterson
10.4 Third Amendment to Second Amended and Restated Loan Agreement
dated June 30, 2000 by and among Monarch Dental Corporation,
Bank of America, N.A. and Other Entities Designated Herein
10.5 Fourth Amendment to Second Amended and Restated Loan
Agreement dated August 11, 2000 by and among Monarch
Dental Corporation, Bank of America, N.A. and Other
Entities Designated Herein
11 Statement re: Computation of per share earnings
27 Financial Data Schedules
</TABLE>
25
