UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
------------------------------
(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1997
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER: 333-1926
DOCTORS HEALTH, INC.
(FORMERLY DOCTORS HEALTH SYSTEM, INC.)
(Exact name of registrant as specified in its charter)
DELAWARE 52-1907421
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
10451 MILL RUN CIRCLE
10TH FLOOR
OWINGS MILLS, MARYLAND 21117
(Address of principal executive offices)
(Zip Code)
(410) 654-5800
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
--- ---
As of November 7, 1997 1,620,000 shares of the registrant's Class A Common
Stock and 5,377,732 shares of the Registrant's Class B Common Stock were
outstanding.
<PAGE>
DOCTORS HEALTH, INC.
FORM 10-Q
SEPTEMBER 30, 1997
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page
No.
----
<S><C>
PART I. FINANCIAL INFORMATION
Item 1. Unaudited Consolidated Financial Statements
Unaudited Consolidated Balance Sheets................................. 1
Unaudited Consolidated Statements of Operations....................... 2
Unaudited Consolidated Statements of Cash Flows....................... 3
Notes to Unaudited Consolidated Financial Statements.................. 4
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations......................... 8
Item 3. Qualitative and Quantitative Disclosures about Market Risk............ 11
PART II. OTHER INFORMATION
Item 2. Changes in Securities and Use of Proceeds............................. 11
Item 4. Submission of Matters to a Vote of Security Holders................... 12
Item 6. Exhibits and Reports on Form 8-K...................................... 12
SIGNATURES
</TABLE>
<PAGE>
DOCTORS HEALTH, INC. AND SUBSIDIARIES
UNAUDITED CONSOLIDATED BALANCE SHEETS
AS OF JUNE 30 AND SEPTEMBER 30, 1997
<TABLE>
<CAPTION>
JUNE 30, SEPTEMBER 30,
1997 1997
------------ -------------
<S><C>
ASSETS
CURRENT ASSETS
Cash and cash equivalents...................................................................... $ 4,737,828 $ 16,300,210
Restricted cash................................................................................ 680,000 680,000
Short-term investments......................................................................... -- 3,000,000
Accounts receivable (net of allowance for doubtful accounts of $270,521 and $193,706 at June 30
and September 30, 1997, respectively)........................................................ 2,722,891 2,513,493
Accounts receivable-affiliates................................................................. 1,115,885 1,071,818
Other receivables.............................................................................. 1,170,504 1,712,977
Prepaid expenses............................................................................... 190,987 391,821
Due from affiliates............................................................................ 925,658 895,227
------------ -------------
TOTAL CURRENT ASSETS......................................................................... 11,543,753 26,565,546
PROPERTY AND EQUIPMENT, NET...................................................................... 4,205,532 4,221,241
OTHER ASSETS
Intangibles (net of accumulated amortization of $445,148 and $611,823 at June 30 and September
30, 1997, respectively)...................................................................... 6,475,925 7,022,205
Deferred charges (net of accumulated amortization of $515,056 and $620,548 at June 30 and
September 30, 1997, respectively)............................................................ 1,595,396 937,403
Accrued interest receivable.................................................................... 374,970 391,953
Other receivable............................................................................... 200,000 153,000
Deposits....................................................................................... 83,066 85,065
------------ -------------
TOTAL OTHER ASSETS........................................................................... 8,729,357 8,589,626
------------ -------------
TOTAL ASSETS..................................................................................... $ 24,478,642 $ 39,376,413
============ =============
LIABILITIES, REDEEMABLE CONVERTIBLE
PREFERRED STOCK AND STOCKHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES
Current maturities of notes payable............................................................ $ 6,007,589 $ 6,119,121
Accounts payable............................................................................... 1,108,499 184,464
Accrued medical services....................................................................... 5,301,384 6,077,168
Other accrued expenses......................................................................... 3,233,955 2,831,282
Due to affiliates.............................................................................. 965,204 880,288
------------ -------------
TOTAL CURRENT LIABILITIES.................................................................... 16,616,631 16,092,323
LONG-TERM OBLIGATIONS
Notes payable.................................................................................. 5,462,621 5,400,408
Notes payable and purchase obligations-related parties......................................... 2,659,456 2,711,035
------------ -------------
TOTAL LONG-TERM OBLIGATIONS.................................................................. 8,122,077 8,111,443
COMMITMENTS AND CONTINGENCIES
REDEEMABLE CONVERTIBLE PREFERRED STOCK
6.5% cumulative, Series A, $5 par value, authorized and issued 1,000,000 shares (liquidation
value $3,500,000 plus unpaid dividends)...................................................... 5,651,472 5,738,222
Less subscription receivable................................................................... (1,500,000) (1,500,000)
------------ -------------
4,151,472 4,238,222
9.75% cumulative, Series B, $11.25 par value, authorized and issued 355,556 shares at June 30,
1997 and 438,068 shares at September 30, 1997 (liquidation value $4,000,000 and $4,928,265,
respectively, plus unpaid dividends)......................................................... 4,548,945 4,449,303
8% cumulative, Series C, $17.50 par value, authorized 1,071,428 shares; issued and outstanding
571,428 shares (liquidation value $10,000,000 plus unpaid dividends)......................... 10,581,696 10,782,152
8% Series D, dividends payable in-kind, $10.00 par value, authorized 5,750,000 shares; issued
and outstanding 2,000,000 shares (liquidation value $20,000,000 plus unpaid dividends)....... -- 18,611,379
STOCKHOLDERS' EQUITY (DEFICIT)
Preferred Stock, $.01 par value; authorized 1,000,000 shares, no shares issued................. -- --
Common Stock (Note 7)
Class A, $.01 par value; authorized 20,700,000 shares, issued and outstanding 810,000 and
1,620,000 shares at June 30 and September 30, 1997, respectively............................ 8,100 16,200
Class B, $.01 par value; authorized 10,000,000 shares, issued and outstanding 2,645,167 and
5,328,020 shares at June 30 and September 30, 1997, respectively............................ 26,452 53,280
Class C, $.01 par value; authorized 29,050,000; no shares issued............................. -- --
Additional paid-in capital................................................................... 6,551,539 6,848,252
Deferred compensation........................................................................ (912,508) (860,476)
Accumulated deficit.......................................................................... (25,215,762) (28,965,665)
------------ -------------
TOTAL STOCKHOLDERS' EQUITY (DEFICIT)....................................................... (19,542,179) (22,908,409)
------------ -------------
TOTAL LIABILITIES, REDEEMABLE CONVERTIBLE PREFERRED STOCK AND STOCKHOLDERS' EQUITY (DEFICIT)... $ 24,478,642 $ 39,376,413
============ =============
</TABLE>
The accompanying notes are an integral part of these
consolidated balance sheets.
1
<PAGE>
DOCTORS HEALTH, INC. AND SUBSIDIARIES
UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 1996 AND 1997
<TABLE>
<CAPTION>
THREE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
1996 1997
------------- -------------
<S><C>
REVENUES
Capitation revenue........................................................................... $ 1,267,613 $ 4,568,707
Net revenue.................................................................................. 2,194,511 3,397,694
------------- -------------
3,462,124 7,966,401
------------- -------------
EXPENSES
Medical services expense..................................................................... 1,195,501 3,908,010
Care center costs............................................................................ 2,103,519 3,293,743
General and administrative................................................................... 2,670,080 3,166,519
Depreciation and amortization................................................................ 224,384 476,581
------------- -------------
6,193,484 10,844,853
------------- -------------
Loss from operations...................................................................... (2,731,360) (2,878,452)
OTHER INCOME (EXPENSE)
Interest and other income.................................................................... 69,038 296,440
Interest expense............................................................................. (148,215) (328,069)
------------- -------------
(79,177) (31,629)
------------- -------------
Loss before income taxes.................................................................. (2,810,537) (2,910,081)
Income taxes................................................................................. -- --
------------- -------------
NET LOSS.................................................................................. $(2,810,537) $(2,910,081)
============= =============
Loss applicable to common stock
Net loss.................................................................................. $(2,810,537) $(2,910,081)
Preferred stock dividends and issuance costs accreted..................................... 223,024 805,082
------------- -------------
Loss applicable to common stock........................................................... $(3,033,561) $(3,715,163)
============= =============
Net loss per share............................................................................. $ (0.47) $ (0.54)
============= =============
Weighted average number of shares outstanding (Note 7)......................................... 6,412,434 6,928,688
============= =============
</TABLE>
The accompanying notes are an integral part of these
consolidated financial statements.
2
<PAGE>
DOCTORS HEALTH, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 1996 AND 1997
<TABLE>
<CAPTION>
THREE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
1996 1997
------------- -------------
<S><C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss..................................................................................... $(2,810,537) $(2,910,081)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization............................................................. 224,384 476,581
Deferred compensation..................................................................... -- 52,032
Changes in operating assets and liabilities, net of effects of medical practice
receivables acquired
Accounts receivable..................................................................... (331,386) 209,398
Accounts receivable -- affiliates....................................................... 99,607 44,067
Prepaid expenses and other receivables.................................................. (131,513) (760,290)
Due from/to affiliates.................................................................. 139,343 (54,485)
Accounts payable........................................................................ 63,716 (924,035)
Accrued and other liabilities........................................................... 185,212 595,248
Organizational costs and deferred charges............................................... (226,122) --
------------- -----------
Net cash used in operating activities................................................ (2,787,296) (3,271,565)
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of property and equipment........................................................... (371,222) (211,903)
Purchase of short-term investments........................................................... -- (3,000,000)
Payments for acquisitions.................................................................... (92,986) (542,276)
Deposits..................................................................................... (26,668) (1,999)
------------- -----------
Net cash used in investing activities................................................ (490,876) (3,756,178)
CASH FLOWS FROM FINANCING ACTIVITIES
Net proceeds from issuance of redeemable convertible preferred stock......................... 7,489,200 18,711,361
Borrowings under notes payable............................................................... 1,183,017 --
Principal payments on capital lease obligations.............................................. (24,709) --
Payments on notes payable.................................................................... (168,115) (121,236)
------------- -----------
Net cash provided by financing activities............................................ 8,479,393 18,590,125
Net increase in cash and cash equivalents............................................ 5,201,221 11,562,382
Cash and cash equivalents, at beginning of period.............................................. 1,419,295 4,737,828
------------- -----------
Cash and cash equivalents, at end of period.................................................... $ 6,620,516 $16,300,210
============ ===========
</TABLE>
The accompanying notes are an integral part of these
consolidated financial statements.
3
<PAGE>
DOCTORS HEALTH, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED SEPTEMBER 30, 1997 AND 1996
NOTE 1 -- BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles of interim
financial reporting and in accordance with Rule 10-01 of Regulation S-X.
Accordingly, they do not include all of the information and notes required by
generally accepted accounting principles for complete financial statements.
In the opinion of management, the unaudited interim financial statements
contained in this report reflect all adjustments, consisting of normal recurring
accruals, which are necessary for a fair presentation of the financial position
and the results of operations for the interim periods presented. The results of
operations for any interim period are not necessarily indicative of results for
the full year.
The consolidated financial statements for the three months ended September
30, 1996 and 1997 are unaudited and should be read in conjunction with the
financial statements and the notes thereto included in the Company's Form 10-K
for the year ended June 30, 1997.
In preparing financial statements in accordance with generally accepted
accounting principles, management makes estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosures of contingent
assets and liabilities at the date of the financial statements, as well as the
reported amounts of revenues and expenses during the reporting period. Actual
results could differ from these estimates.
NOTE 2 -- CAPITATION REVENUE AND MEDICAL SERVICES EXPENSE RECOGNITION
As of September 30, 1997, the Company has three Global Capitation Contracts
(two Medicare and one commercial) and five gatekeeper capitation contracts with
seven health maintenance organizations (HMOs). (See Management's Discussion and
Analysis of Operations for the definition of Global Capitation Contracts.) The
gatekeeper capitation contracts represent Primary Care Physician ("PCP")
capitation and the Company records no profit margin on these contracts. Under
the contracts, the Company receives monthly capitation fees based on the number
of enrollees electing any one of the Company's affiliated PCPs. The capitation
revenue under these contracts is prepaid monthly based on the number of
enrollees and is recognized as capitation revenue during the month services are
provided to the enrollees. During the three months ended September 30, 1996,
approximately $927,000 and $341,000, were recorded as global capitation and
gatekeeper capitation revenue, respectively, in the Company's consolidated
financial statements. During the three months ended September 30, 1997,
approximately $4,275,000 and $294,000, were recorded as global capitation and
gatekeeper capitation revenue, respectively, in the Company's consolidated
financial statements.
The Company's commercial capitation contract also includes a provision
whereby the Company can earn incentive revenue or incur medical services
expenses based upon the enrollees' utilization of hospital services. Estimated
amounts receivable or payable from the HMO are recorded based upon actual
hospital and other institutional utilization and associated costs incurred by
assigned HMO enrollees, compared to the portion of the commercial capitation
fees allocated for institutional care. Differences between actual contract
settlements and estimated receivables or payables relating to the arrangement
are recorded in the year of settlement. Included in accrued medical services as
of June 30 and September 30, 1997 is approximately $180,000 and $200,000,
respectively, of estimated amounts due to the HMO under this arrangement. Also,
as of June 30 and September 30, 1997, the Company has included in accrued
medical services a provision of approximately $146,000 and $125,000,
respectively, which represents an estimate of the loss to be incurred over the
remaining term of the commercial capitation contract.
Under the Company's two Medicare global capitation contracts, the Company
has assumed responsibility for managing and paying for substantially all of the
medical care for the respective payors' enrollees. Consequently, the Company
does not perform an institutional incentive settlement with the HMOs under the
two Medicare contracts.
The Company is responsible for some or all of the medical services provided
by its affiliated physicians and other providers to which it refers patients who
are covered under global capitation contracts. The cost of medical services is
recognized in the period in which the care is provided and includes an estimate
of the cost of services which have been
4
<PAGE>
DOCTORS HEALTH, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
NOTE 2 -- CAPITATION REVENUE AND MEDICAL SERVICES EXPENSE
RECOGNITION -- Continued
incurred but not yet reported. The estimate for accrued medical services is
calculated by pricing the open authorizations for medical services from the
Company's medical management system as well as projecting the associated costs
using historical studies of claims paid and actuarial assistance. Estimates are
continually monitored and reviewed and, as settlements are made or estimates are
adjusted, differences are reflected in current operations. As of June 30 and
September 30, 1997, approximately $4,975,000 and $5,752,000, respectively, was
recorded as accrued medical services for incurred but not reported services.
The Company purchases reinsurance from independent insurance companies
which limits the amount of risk it ultimately bears by providing reimbursement
payments once medical services provided to an individual enrollee exceed an
agreed-upon amount. Under the commercial capitation contract, the Company is
insured for 90% of all medical services expense over $5,000 per enrollee per
year. Under the Medicare global capitation contracts, the Company is insured for
90% of all physician and hospital medical services expense over $5,000 and
$75,000, respectively, per enrollee per year. Effective July 1, 1997, the
non-hospital insurance attachment point was increased from $5,000 per enrollee
to $7,500 per enrollee for the commercial and Medicare contracts. During the
three months ended September 30, 1996 and 1997, the Company recorded
approximately $13,000 and $29,000, respectively, as reinsurance recoveries.
Estimates of reinsurance receivables as of June 30 and September 30, 1997 under
these arrangements were approximately $102,000 and $123,000, respectively.
NOTE 3 -- INTANGIBLE ASSETS
As a result of the Company's acquisitions of certain practice assets and
affiliations with Core Medical Groups ("CMGs") and its managed care agreements
with independent practice associations ("IPAs"), the Company acquires and
reports intangible assets. These assets consist principally of long-term
management agreements between the Company and the CMGs and managed care
contracting agreements with IPAs. As of September 30, 1997, the company has
recorded $7,022,205 of net intangible assets.
NOTE 4 -- NET REVENUE
The Company's net revenues represent the contractual management and similar
fees earned under its long-term management agreements ("PSO Agreements") with
CMGs. Under the PSO Agreements, the Company is contractually responsible and at
risk for the operating costs of the CMGs with the exception of amounts retained
by physicians. The Company's net revenues include the reimbursement of all
medical practice operating costs and the contractual management fees as defined
in the PSO Agreements. Contractual fees are accrued when collection is probable.
Revenue from all CMGs is recorded at established rates reduced by allowances for
doubtful accounts and contractual adjustments and amounts retained by physician
groups.
The following represents amounts included in the determination of net
revenue:
<TABLE>
<CAPTION>
THREE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
1996 1997
------------- -------------
<S><C>
Gross physician revenue........................................................................ $ 5,883,910 $ 9,028,182
Less: Provision for contractual and other adjustments........................................ (2,307,886) (3,620,607)
Gatekeeper capitated income.................................................................... 617,441 1,202,413
------------- -------------
Net physician revenue.......................................................................... 4,193,465 6,609,988
Amount retained by affiliated core medical groups:
Physicians................................................................................... 1,834,717 2,907,261
Ancillary employees and expenses............................................................. 164,237 305,033
------------- -------------
Net revenue.................................................................................... $ 2,194,511 $ 3,397,694
============= =============
</TABLE>
For the three months ended September 30, 1996 and 1997, one of the CMGs
comprised approximately 76% and 40%, respectively, of the Company's net revenue.
5
<PAGE>
DOCTORS HEALTH, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
NOTE 5 -- CAPITALIZATION
On July 7, 1997, the Company entered into a Preferred Stock Purchase
Agreement, as amended on July 15, 1997 (the "Series D Purchase Agreement") with
The Beacon Group III Focus Value Fund, L.P. ("Beacon") pursuant to which the
Company agreed to sell to Beacon 3,000,000 shares of the Company's Series D
Redeemable Convertible Preferred Stock (the "Series D Preferred Stock") for a
purchase price of $30,000,000. The parties completed an initial purchase of
2,000,000 shares for $20,000,000 on July 15, 1997. Under the Series D Purchase
Agreement, the Company expects to complete a subsequent purchase of 1,000,000
shares for $10,000,000 on or before June 30, 1998, subject to certain conditions
set forth in the Series D Purchase Agreements.
Upon the issuance of the full 3,000,000 shares of Series D Preferred Stock
to Beacon, Beacon will own 100% of the Company's issued and outstanding Series D
Preferred Stock and approximately 30% of the issued and outstanding capital
stock of the Company, on a fully diluted basis.
In connection with the issuance of its Series D Preferred Stock, the
Company amended its Amended and Restated Articles of Incorporation (the
"Restated Articles") to, among other things, (a) authorize 5,750,000 shares of
Series D Convertible Preferred Stock, (b) amend or revise certain of the terms
and conditions of its currently authorized and issued Series A Convertible
Preferred Stock, Series B Convertible Preferred Stock, and Series C Convertible
Preferred Stock, (c) increase the size of its Board of Directors from nineteen
to twenty members, (d) elect two of Beacon's designees to the Company's Board of
Directors and Executive Committee, (e) modify the composition and authority of
the Company's Executive Committee, and (f) change the name of the Company to
"Doctors Health, Inc.".
The Series D Preferred Stock issued to Beacon is senior to all other
classes of the Company's capital stock with respect to payment of dividends and
distributions and liquidation rights. The Series D Preferred Stock also is
subject to redemption by the Company at the election of the holder of the Series
D Preferred Stock at $10.00 per share, plus accrued but unpaid dividends, after
five years from the issuance date of the Series D Preferred Stock and is
convertible at an adjustable rate into the Company's Class C Common Stock at the
option of the holder of the Series D Preferred Stock and automatically upon a
qualifying initial public offering of the Company.
The number of shares of Class C Common Stock issuable upon conversion of
the Series D Preferred Stock is subject to adjustment pursuant to two stock
adjustment agreements between the Company and Beacon. The first stock adjustment
agreement provides for an upward or downward adjustment in the number of shares
issuable to Beacon based upon the Company's Medicare Medical Loss Ratio and the
number of Medicare enrollees in the Company's Medicare Global Capitation
Contracts with Payors. Pursuant to the first agreement, the number of shares
issuable to Beacon could be reduced to 2,727,272 shares of Class C Common Stock
or increased to 5,454,545 shares of Class C Common Stock. The second stock
adjustment agreement provides that the adjustment set forth in the second
agreement would supersede the first stock adjustment agreement if the 105th U.S.
Congress adopted certain changes in the Medicare program to reduce payments to
health maintenance organizations and medical management companies such as the
Company. Pursuant to the second stock adjustment agreement, the number of shares
issuable to Beacon could be reduced to 2,727,272 shares of Class C Common Stock
or increased to 7,500,000 shares of Class C Common Stock. Management of the
Company has determined that the second stock adjustment agreement is not
applicable in light of the Medicare legislation adopted by the 105th Congress.
In connection with Beacon's investment in the Company, the Company also
entered into, among other agreements, (a) a Shareholders' Agreement and Voting
Trust, which supersedes the Company's Stockholders Agreement and provides, among
other things, for certain restrictions on the sale and transfer of all classes
of the Company's capital stock, and (b) a Registration Rights Agreement with
Beacon which provides Beacon with certain rights to require the Company to
register with the Securities and Exchange Commission Beacon's shares of Series D
Preferred Stock for resale.
6
<PAGE>
DOCTORS HEALTH, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS -- CONTINUED
NOTE 6 -- NOTES PAYABLE
Notes Payable as of September 30, 1997 are as follows:
<TABLE>
<CAPTION>
DATE OF
DESCRIPTION MATURITY AMOUNT
- - - ----------- ----------------- ------------
<S><C>
NationsBank Credit Facility............................................................. December 31, 1997 $ 4,000,000
HBO & Company Note Payable.............................................................. May 14, 1998 2,000,000
Note Payable to Series C Preferred Stockholder.......................................... January 31, 1999 5,283,036
Other Notes Payable..................................................................... Various 236,493
------------
Total Notes Payable........................................................................................ 11,519,529
Less: Current Maturities of Notes Payable.................................................................. 6,119,121
------------
Long-Term Notes Payable................................................................................. $ 5,400,408
============
</TABLE>
See "Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Liquidity and Capital Resources" for discussion
regarding the Company's refinancing of certain of the above amounts.
NOTE 7 -- STOCK SPLIT-UP
Effective September 30, 1997, the Company's outstanding common stock was
split-up 2 for 1 effected in the form of a dividend (the "Stock Split-up"). The
net loss per share for all periods presented have been restated to reflect the
Stock Split-up. As a result of certain adjustment provisions in the Company's
Restated Articles and in applicable option, and warrant agreements, the number
of shares of common stock into which each then outstanding share of Preferred
Stock, option or warrant is convertible, exerciseable or exchangeable, as the
case may be, was automatically increased by a ratio of two to one on the
effective date of the Stock Split-up.
NOTE 8 -- SUBSEQUENT EVENTS
On October 3, 1997, the Company and an HMO entered into a new global
capitation contract for Medicare enrollees and an agreement to manage the HMO's
network of primary care and specialty physicians. Under the agreement, effective
October 1, 1997, the Company assumed responsibility for managing all physician
and institutional care, subject to certain exclusions, delivered to
approximately 10,000 enrollees in exchange for a capitation fee. The term of the
agreement is for three years with annual renewals after the initial term has
expired. The Company expects to realize capitation revenue of approximately
$4,000,000 per month from this new agreement.
7
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
The Company is a physician driven managed care and medical management
company which conducts its business through a network consisting of primary care
physicians ("PCPs"), specialists, hospitals and other health care providers (the
"Network"). As of September 30, 1997, the Network included approximately 2,500
physicians in the state of Maryland and Virginia, including approximately 260
PCPs, 210 obstetrician-gynecologists and 2,030 specialists.
The Company's primary focus is managing physician networks, consisting of
individual and small groups of physicians organized by the Company into medical
groups, existing physician networks, independent practice associations ("IPAs")
and independent physician groups. The Network is designed to give the Company
access to, and increase its bargaining power for, managed care contracts and to
provide health maintenance organizations ("HMOs") and other prepaid health
insurance plans (collectively, the "Payors") with a single-source of
well-managed health care providers.
The Company's overall strategy is to deliver health care at a cost which is
less than the revenues it receives under Global Capitation Contracts with Payors
(the "Global Capitation Contracts"). The Global Capitation Contracts obligate
the Company to provide primary care, specialist, hospital and other services to
enrollees (persons entitled to health care services through their employers or,
with respect to elderly persons, through the federal government's Medicare
program) of Payors (the "Global Capitation Contracts"). Enrollees are sometimes
referred to as capitated lives. The Company seeks to ensure the delivery of high
quality, cost-effective health care by (i) delivering preventive medical care
services to reduce high-cost, acute care episodes; (ii) arranging for the
cost-effective delivery of health care services through managed care contracting
arrangements with various health care providers; and (iii) managing certain
medical cases to seek favorable treatment results for patients.
As a managed care company, the Company negotiates and enters into Global
Capitation Contracts, pursuant to which (i) Payors pay the Company a fixed
amount per month based on the number of enrollees who have selected a PCP in the
Network and (ii) the Company pays the health care providers within the Network,
or those having other contractual arrangements with the Company for providing
the required medical care. The Company also receives a management fee derived
from revenues earned by certain physician medical groups it has organized (the
"Core Medical Groups") pursuant to certain long-term management agreements
between the Core Medical Groups and the Company ("PSO Agreements"). The PCPs who
have affiliated with the Company designate the Company as their agent for the
purpose of negotiating Global Capitation Contracts and other managed care
contracts.
As a medical management company, the Company coordinates the delivery of
medical care by the various health care providers in the Network. Through a care
management department consisting of physicians, nurses, social workers and other
staff, the Company seeks to promote the wellness of patients, control costs, and
encourage patient satisfaction through the delivery of medical management
services. Such medical management services include case and disease management,
utilization review and quality management services.
The Company derives substantially all of its revenue from (i) payments made
by Payors to the Company pursuant to Global Capitation Contracts and Gatekeeper
Capitation Contracts ("Capitation Revenue") and (ii) the contractual management
and similar fees earned under its long-term PSO Agreements with Core Medical
Groups ("Net Revenues"). The Company's Net Revenues include the reimbursement of
all medical practice operating costs and the contractual management fees
pursuant to the PSO Agreements and other agreements. Net Revenue is recognized
when services are performed and collection of the related revenues is probable.
The Company expects that the greatest contributor to operating income will
be Capitation Revenue. The Company's level of profitability associated with
Capitation Revenue will depend on (i) increasing the number of PCPs in the
Company's Networks and increasing the number of networks the Company manages;
(ii) attracting patients to enroll in benefit plans that enter into Global
Capitation Contracts with the Company (principally Medicare beneficiaries);
(iii) securing additional, Global Capitation Contracts and maintaining existing
Global Capitation Contracts with adequate reimbursement rates; and (iv)
assisting PCPs in managing the delivery of high quality care at a cost less than
the payments received under the Global Capitation Contracts.
8
<PAGE>
RESULTS OF OPERATIONS
The Company's operating results are significantly affected by the number of
PCPs in the Network, the number of PCPs participating in Global Capitation
Contracts, the number of Global Capitation Contracts in which the Company
participates, and the number of patients enrolled in benefit plans under Global
Capitation Contracts with the Company. The following table summarizes the
Company's history with respect to PCPs, executed Global Capitation Contracts and
patients enrolled in benefit plans under Global Capitation Contracts with the
Company:
<TABLE>
<CAPTION>
JUNE 30, JUNE 30, JUNE 30, SEPTEMBER 30,
1995 1996 1997 1997
-------- -------- -------- -------------
<S><C>
Number of PCPs in the Network.................................................. 24 59 197 258
Number of PCPs participating in Global Capitation Contracts.................... 0 45* 110* 109*
Number of Global Capitation Contracts.......................................... 0 3 3 3
Number of Global Capitation Contract Patients:
Commercial................................................................... 0 2,039 4,943 5,561
Medicare..................................................................... 0 491 3,256 3,509
</TABLE>
- - - ---------------
*There is a lag between when physicians join networks and when they become
eligible to participate in Global Capitation Contracts as a result of the
credentialing and enpaneling processes and other internal Company procedures.
The following table sets forth for the three months ended September 30,
1996 and 1997 selected financial data expressed as a percentage of total
revenues. Because of the Company's limited operating history, the limited period
in which it has been assisting and managing PCPs, its limited experience with
full and shared-risk capitation arrangements and the growth of the Company's
revenues, the Company does not believe that the period to period comparisons,
percentage relationships within periods and apparent trends set forth below are
necessarily indicative of future operations.
<TABLE>
<CAPTION>
THREE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
1996 1997
------------- -------------
<S><C>
Capitation revenue............................................................................. 36.6% 57.3%
Net revenue.................................................................................... 63.4% 42.7%
------------- -------------
Total revenues................................................................................. 100.0% 100.0%
Medical services expense....................................................................... 34.5% 49.1%
Care center costs.............................................................................. 60.8% 41.3%
General and administrative..................................................................... 77.1% 39.7%
Depreciation and amortization.................................................................. 6.5% 6.0%
Interest and other income...................................................................... (2.0)% (3.7)%
Interest expense............................................................................... 4.3% 4.1%
Income tax expense............................................................................. -- --
------------- -------------
Net loss....................................................................................... (81.2)% (36.5)%
============= =============
</TABLE>
THREE MONTHS ENDED SEPTEMBER 30, 1997 COMPARED TO THE THREE MONTHS ENDED
SEPTEMBER 30, 1996
TOTAL REVENUES. The Company's total revenues increased to $7,966,401 for
the three months ended September 30, 1997 from $3,462,124 for the three months
ended September 30, 1996. Capitation revenue increased to $4,568,707 ($4,274,995
due to Global Capitation Contracts and $293,712 due to Gatekeeper Capitation
Contracts) or 57.3% of total revenues for the three months ended September 30,
1997, compared to $1,267,613 ($926,613 due to Global Capitated Contracts and
$341,000 due to Gatekeeper Capitation Contracts) or 36.6% of total revenues in
1996. This increase in Capitation Revenue from 1996 to 1997 is primarily
attributable to an increase in the number of PCPs affiliated with the Company
from 61 to 258, the increase in the number of PCPs participating in Global
Capitation Contracts from 45 to 109 and the increase in the number of enrollees
participating in the Company's Global Capitation Contracts from 3,139 to 9,070.
The Company expects the Capitation Revenue to increase in total and as a
percentage of total revenues due to the increase in the number of enrollees
participating in the Company's Global Capitation Contracts and the new Medicare
global capitation contract effective October 1, 1997 as discussed above.
MEDICAL SERVICES EXPENSE. Medical services expense was $3,908,010 or 49.1%
of total revenue for the three months ended September 30, 1997 compared to
$1,195,501 or 34.5% of total revenue for the three months ended September 30,
1996. This increase resulted from the increase in the number of PCPs
participating in Global Capitation Contracts from 45 to
9
<PAGE>
109, and the increase in the number of enrollees participating in the Company's
Global Capitation Contracts from 3,139 to 9,070. The Company expects these
expenses to increase due to the increase in the number of PCPs participating in
Global Capitation Contracts with the Company and the new Medicare global
capitation contract effective October 1, 1997 as discussed above.
CARE CENTER COSTS. Care center costs increased to $3,293,743 or 41.3% of
total revenues for the three months ended September 30, 1997 from $2,103,519 or
60.8% of total revenues for the three months ended September 30, 1996. This
increase in the dollar amount of care center costs resulted from the increase in
the number of physicians in CMGs from 59 to 98. The Company expects that these
expenses will continue to decline as a percentage of total revenues because the
Company anticipates that it will not add a significant number of physicians to
the CMGs in the future.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
increased to $3,166,519 or 39.7% of total revenue for the three months ended
September 30, 1997 from $2,670,080 or 77.1% of total revenues for the three
months ended September 30, 1996. This increase in dollar amount resulted
primarily from increased compensation expenses from expansion of the Company's
corporate management team, as well as its marketing, acquisitions, network
development and care management departments and additional operating costs
incurred in adding physicians to the Company's Network and attracting patients
who enroll in benefit plans under Global Capitation Contracts. While these
expenses are expected to increase as the Company adds PCPs, the Company expects
that these expenses will continue to decline as a percentage of total revenues.
DEPRECIATION AND AMORTIZATION EXPENSES. Depreciation and amortization
expenses increased to $476,581 or 6.0% of total revenues for the three months
ended September 30, 1997 from $224,384 or 6.5% of total revenues for the three
months ended September 30, 1996. The increase in dollar amount resulted
primarily from intangible assets acquired in connection with the purchase of
certain medical practice assets from PCPs, as well as the purchase of certain
fixed assets.
INTEREST AND OTHER INCOME. Interest and other income increased to $296,440
or 3.7% of total revenues for the three months ended September 30, 1997 from
$69,038 or 2.0% of total revenues for the three months ended September 30, 1996.
The increase in dollar amount resulted primarily from the increase in cash and
cash equivalents and short-term investments.
INTEREST EXPENSE. Interest expense increased to $328,069 or 4.1% of total
revenues for the three months ended September 30, 1997 from $148,215 or 4.3% of
total revenues for the three months ended September 30, 1996. These dollar
increases resulted primarily from the increase in the level of borrowings.
INCOME TAX EXPENSE. In light of the Company's loss and its full valuation
allowance for deferred tax assets, for the three months ended September 30, 1997
and 1996, the Company did not require a provision for income taxes.
NET LOSS. The Company had a net loss of $2,910,081 for the three months
ended September 30, 1997 compared to $2,810,537 for the three months ended
September 30, 1996.
LOSS APPLICABLE TO COMMON STOCK. In arriving at loss applicable to common
stock, the Company's net loss is increased by dividends payable to the
Redeemable Convertible Preferred Stockholders and the amortization of Redeemable
Convertible Preferred Stock issuance costs. The net loss applicable to common
stock was $3,715,163 for the three months ended September 30, 1997 compared to
$3,033,561 for the three months ended September 30, 1996.
LIQUIDITY AND CAPITAL RESOURCES
LIQUIDITY. As of September 30, 1997, the Company had working capital of
$10,473,223. The Company's working capital position at September 30, 1997 was
substantially derived from the July 7, 1997 transaction whereby, the Company
entered into a Preferred Stock Purchase Agreement, as amended on July 15, 1997
("the Series D Purchase Agreement"), with Beacon pursuant to which the Company
agreed to sell to Beacon 3,000,000 shares of the Company's Series D Redeemable
Convertible Preferred Stock for a purchase price of $30,000,000. The parties
completed an initial purchase of 2,000,000 shares for $20,000,000 on July 15,
1997 resulting in net proceeds of $18,711,361 under the Series D Purchase
Agreement. The Company expects to complete a subsequent purchase of 1,000,000
shares for $10,000,000 on or before June 30, 1998, subject to certain conditions
set forth in the Series D Purchase Agreement.
The Company has established an $11,000,000 credit facility ("Credit
Facility") with Chase Manhattan Bank, N.A. ("Chase") for the purpose of
refinancing its NationsBank Credit Facility of $4,000,000 which has a maturity
of December 31, 1997. In addition, the Credit Facility will support a $4,400,000
standby letter of credit which will be required under the Company's new Global
Capitation Contract as described above. The maturity date of the $11,000,000
Credit Facility will be November 1, 1998. The Credit Facility will be
collateralized by the Company's cash assets under management with Chase
10
<PAGE>
Asset Management, Inc. and charge interest at the rate of approximately 6.5%.
Under the terms of the Beacon transaction, any or all of the notes payable not
refinanced may be retired with a portion of the remaining $10,000,000 to be
invested by Beacon on or before June 30, 1998.
CASH FLOW. Net cash used in operating activities was $3,271,565 for the
three months ended September 30, 1997, compared to $2,787,296 in 1996. The use
of cash for operating activities for the three months ended September 30, 1997
resulted primarily from (i) $2,910,081 in net losses, (ii) a $760,290 increase
in prepaid expenses and other receivables, (iii) a $924,035 reduction in
accounts payable offset by (iv) a $595,248 increase in accrued and other
liabilities and (v) depreciation and amortization of $476,581.
Net cash used in investing activities was $3,756,178 for the three months
ended September 30, 1997, compared to $490,876 in 1996. The use of cash for
investing activities for the three months ended September 30, 1997 was primarily
from (i) the purchase of a $3,000,000 certificate of deposit and (ii) $542,276
of cash for payments for acquisitions.
Net cash provided by financing activities was $18,590,125 for the three
months ended September 30, 1997, compared to $8,479,393 in 1996. (See the Beacon
transaction described above.)
Until the Company attracts an adequate number of Capitated Lives in Global
Capitation Contracts, the Company expects to incur operating losses and
experience negative operating cash flows. The Company believes that its cash and
cash equivalents as of September 30, 1997 and internally-generated cash will be
sufficient to fund the Company's operations through June 30, 1998. Subsequent to
June 30, 1998, the Company will require additional capital to fund operations,
potential acquisitions and other Company commitments. At that time, the Company
will seek additional capital through internally-generated funds or outside
sources, but there is no assurance that the Company will be able to obtain such
capital.
FORWARD LOOKING STATEMENTS AND FACTORS THAT
MAY AFFECT FUTURE RESULTS
This Quarterly Report on Form 10-Q contains statements which, to the extent
they are not recitations of historical fact, may constitute forward-looking
statements regarding future operating results and financial condition. All
forward-looking statements involve risks and uncertainties. Although the Company
believes that its expectations are based upon reasonable assumptions within the
bounds of its knowledge of its business and operations, there can be no
assurance that actual results will not materially differ from its expectations.
The future operating results and financial condition of the Company are
dependent upon the Company's ability to market its services profitably,
successfully increase market share and manage expense growth relative to revenue
growth. In addition, the future operating results and financial condition of the
Company may also be affected by several factors, including (i) the Company's
growth strategy and its ability to raise sufficient capital to support growth,
(ii) government regulation of the health care industry; (iii) integration risks,
(iv) dependence on managed care contracts and dependence on enrollment patients
in managed care contracts with HMOs, (v) health care cost-containment decisions
of Payors; (vi) controlling and estimating health care costs; and (vii)
competition for opportunities to expand the Company's network of physicians and
health care providers. Changes in one or more of these factors could have a
material adverse effect on the future operating results and financial condition
of the Company.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.
PART II
OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
CHANGES IN SECURITIES
The information required by this item has been previously reported in the
Registrant's Annual Report on Form 10-K filed on September 29, 1997 and the
Report on Form 8-K filed on July 21, 1997.
11
<PAGE>
USE OF PROCEEDS
Between January 24, 1997 and September 30, 1997, the Registrant transferred
142,020 shares of Class B Common Stock and options to purchase 66,000 shares of
Class B Common Stock (adjusted for a two-for-one stock split up completed on
September 30, 1997) in connection with physician affiliation transactions. The
Registrant received assets and contractual services which have been integrated
into the Company's operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
At a special meeting of the Company's stockholders held on August 13, 1997,
one matter was voted upon by the Company's stockholders. The Company's
stockholders approved re-incorporation of the Company as a Delaware corporation
by (a) establishing a Delaware subsidiary, Doctors Health Inc. ("Doctors Health
Delaware") by filing of a Certificate of
Incorporation with the state of Delaware and (b) the merger of the current
Maryland corporation, Doctors Health, Inc. with Doctors Health Delaware, with
Doctors Health Delaware surviving. The vote to approve such transactions was as
follows:
FOR 7,412,496
AGAINST 0
ABSTENTIONS 0
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
11 -- Statement regarding computation of per share earnings
27 -- Financial Data Schedule
(b) Reports on Form 8-K.
The registrant filed the following current Reports on Form 8-K during the
quarter ended September 30, 1997:
DATE OF REPORT ITEMS REPORTED
---------------- --------------
July 21, 1997 5
October 3, 1997 5
12
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant caused this report to be signed on its behalf by the undersigned
thereunto duly authorized.
DOCTORS HEALTH, INC.
By: /s/ John R. Dwyer, Jr.
----------------------
John R. Dwyer, Jr.
Chief Financial Officer
13
EXHIBIT 11
COMPUTATION OF (LOSS) EARNINGS PER SHARE
<TABLE>
<CAPTION>
Three Months Ended September 30,
--------------------------------
1997 1996
------------- ------------
<S><C>
Weighted average of common shares outstanding during the period (adjusted to
reflect the Stock Split-up) 6,928,688 6,412,434
Net (loss) earnings $(2,910,081) $(2,810,537)
Dividends and issuance costs on Series A, B, C and D Redeemable Convertible
Preferred Stock 805,082 223,024
Net (loss) earnings as adjusted (3,715,163) (3,033,561)
Net (loss) earnings per common share $ (0.54) $ (0.47)
All outstanding options and warrants as of September 30, 1997
and 1996 have been excluded as they are anti-dilutive.
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<CIK> 0001010005
<NAME> Doctors Health, Inc. 10-Q
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> JUN-30-1997
<PERIOD-END> SEP-30-1997
<CASH> 16,300,210
<SECURITIES> 3,000,000
<RECEIVABLES> 5,491,994
<ALLOWANCES> 193,706
<INVENTORY> 0
<CURRENT-ASSETS> 26,565,546
<PP&E> 5,441,206
<DEPRECIATION> 1,219,965
<TOTAL-ASSETS> 39,376,413
<CURRENT-LIABILITIES> 16,092,323
<BONDS> 0
<COMMON> 69,480
38,081,056
0
<OTHER-SE> (22,977,889)
<TOTAL-LIABILITY-AND-EQUITY> 39,376,413
<SALES> 7,966,401
<TOTAL-REVENUES> 8,262,841
<CGS> 0
<TOTAL-COSTS> 7,201,753
<OTHER-EXPENSES> 3,643,100
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 328,069
<INCOME-PRETAX> (2,910,081)
<INCOME-TAX> 0
<INCOME-CONTINUING> (2,910,081)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (2,910,081)
<EPS-PRIMARY> (0.54)
<EPS-DILUTED> (0.54)
</TABLE>
