<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 8-K
CURRENT REPORT
Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
Date of Report (Date of earliest event reported) February 17, 2000
-----------------
UNITED PAYORS & UNITED PROVIDERS, INC.
--------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 0-20905 51-0374698
-------- ------- ----------
(State or other Jurisdiction of (Commission (IRS Employer
incorporation or organization) File Number) Identification No.)
2275 Research Boulevard, Sixth Floor, Rockville, Maryland 20850
----------------------------------------------------------------
(Address of principal executive offices)
(301) 548-1000
---------------
(Registrant's telephone number, including area code)
Not Applicable
--------------
(Former name or former address, if changed since last report)
<PAGE>
Item 5. Other Events.
-------------
United Payors & United Providers, Inc. is filing as an exhibit to this
Form 8-K its audited financial statements as of and for the year ended December
31, 1999.
Item 7. Financial Statements and Other Exhibits.
---------------------------------------
Exhibit 99.1 Consolidated Financial Statements as of and for the year
ended December 31, 1999.
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 hereunto duly authorized.
UNITED PAYORS & UNITED PROVIDERS, INC.
Dated: February 17, 1999 By: /s/ S. Joseph Bruno
---------------------------------------
S. Joseph Bruno
Vice President and Chief Financial Officer
<PAGE>
Exhibit 99.1 Consolidated Financial Statements as of and for the year ended
December 31, 1999.
<PAGE>
Exhibit 99.1
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Shareholders of
United Payors & United Providers, Inc.
In our opinion, the accompanying consolidated balance sheets and the
related consolidated statements of operations, shareholders' equity and cash
flows present fairly, in all material respects, the financial position of United
Payors & United Providers, Inc. and subsidiaries (the "Company") as of December
31, 1999 and 1998, and the results of their operations and their cash flows for
each of the three years in the period ended December 31, 1999, in conformity
with accounting principles generally accepted in the United States. These
financial statements are the responsibility of the Company's management; our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits of these statements in accordance with
auditing standards generally accepted in the United States, which require that
we plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements, assessing the accounting principles used and
significant estimates made by management, and evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for the opinion expressed above.
PricewaterhouseCoopers LLP
Washington, D.C.
February 7, 2000
F-1
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
December 31, December 31,
1999 1998
------------ ------------
<S> <C> <C>
ASSETS
HEALTH CARE SERVICES
- --------------------
Current assets:
Cash and cash equivalents $ 36,774,618 $ 27,510,647
Short-term investments 5,145,070 3,855,195
Accounts receivable, net 17,861,953 12,729,631
Deferred income taxes 1,199,866 707,491
Other current assets 1,555,665 1,109,584
------------ ------------
Total current assets 62,537,172 45,912,548
Fixed assets, net 4,384,053 4,301,944
Advances to contracting providers, net 37,337,030 24,414,030
Investment securities 23,575,600 1,811,777
Intangible and other assets, net 46,175,300 39,504,700
------------ ------------
Total assets - HEALTH CARE SERVICES 174,009,155 115,944,999
------------ ------------
FINANCIAL SERVICES
- ------------------
Cash and cash equivalents 6,617,677 -
Secondary market funding receivable 1,478,456 -
Investment securities 2,933,163 -
Loans receivable, net 15,883,237 -
Real estate owned, net 912,540 -
Intangible and other assets, net 7,869,873 -
------------ ------------
Total assets - FINANCIAL SERVICES 35,694,946 -
------------ ------------
Total assets $209,704,101 $115,944,999
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
HEALTH CARE SERVICES
- --------------------
Current liabilities:
Accounts payable and accrued expenses $ 11,421,900 $ 11,487,823
Income and other taxes payable 638,426 2,861,841
Notes payable and capital leases, current portion 5,000,000 5,040,951
------------ ------------
Total current liabilities 17,060,326 19,390,615
Deferred income taxes 7,100,000 -
Non-current accrued expenses 933,333 1,073,333
Notes payable and capital leases, less current portion 12,500,000 17,022,738
------------ ------------
Total liabilities - HEALTH CARE SERVICES 37,593,659 37,486,686
------------ ------------
FINANCIAL SERVICES
- ------------------
Savings and NOW deposits 6,910,207 -
Other time deposits 18,288,798 -
------------ ------------
Total deposits 25,199,005 -
Other liabilities 961,689 -
------------ ------------
Total liabilities - FINANCIAL SERVICES 26,160,694 -
------------ ------------
Total liabilities 63,754,353 37,486,686
------------ ------------
Commitments and contingencies
Shareholders' equity:
Convertible preferred stock, $0.01 par value, 5,000,000 shares
authorized, none issued and outstanding at December 31,
1999 and 1998 - -
Common stock, $0.01 par value, 35,000,000 shares authorized,
19,086,781 and 17,360,454 shares issued at December 31, 1999
and 1998, respectively 190,859 173,605
Additional paid-in capital 65,621,617 37,123,886
Treasury stock, 33,000 and 273,151 shares
at December 31, 1999 and 1998, respectively, at cost (494,440) (2,634,490)
Accumulated comprehensive income 10,748,000 -
Retained earnings 70,410,272 44,491,012
Deferred compensation (526,560) (695,700)
------------ ------------
Total shareholders' equity 145,949,748 78,458,313
------------ ------------
Total liabilities and shareholders' equity $209,704,101 $115,944,999
============ ============
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-2
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 1999, 1998, AND 1997
<TABLE>
<CAPTION>
1999 1998 1997
-------------- -------------- ---------------
<S> <C> <C> <C>
HEALTH CARE SERVICES
- --------------------
Revenue
Provider network outsourcing $ 83,494,019 $ 57,951,926 $ 41,195,238
Medical management outsourcing 24,283,984 20,497,393 19,832,853
-------------- -------------- ---------------
Total revenue 107,778,003 78,449,319 61,028,091
-------------- -------------- ---------------
Operating expenses
Direct contract expenses 51,030,137 33,524,429 29,173,204
General and administrative 10,167,474 8,364,594 6,221,269
Depreciation and amortization 4,357,396 4,028,416 1,695,142
-------------- -------------- ---------------
Total operating expenses 65,555,007 45,917,439 37,089,615
-------------- -------------- ---------------
Other income
Realized gain on sale of marketable securities, net 136,234 419,060 355,325
Interest income, net of interest expense 423,718 155,966 1,045,350
Other income, net 180,977 154,244 25,553
-------------- -------------- ---------------
Total other income, net 740,929 729,270 1,426,228
-------------- -------------- ---------------
Income before income taxes HEALTH CARE SERVICES 42,963,925 33,261,150 25,364,704
FINANCIAL SERVICES
- ------------------
Interest income 685,881
Interest expense 300,847
--------------
Net interest income 385,034
Provisions for loan losses 1,805
--------------
Net interest income after provision for loan losses 383,229
Other income 193,518
General and administrative expenses 426,203
Amortization of goodwill 104,209
--------------
Income before income taxes - FINANCIAL SERVICES 46,335
--------------
TOTAL COMPANY
- -------------
Income before income taxes 43,010,260 33,261,150 25,364,704
Income tax provision 17,091,000 13,682,000 10,388,000
-------------- -------------- ---------------
Net income $ 25,919,260 $ 19,579,150 $ 14,976,704
============== ============== ===============
Net income per share - basic $ 1.40 $ 1.15 $ 0.87
============== ============== ===============
Weighted average shares outstanding - basic 18,491,473 17,064,954 17,239,065
============== ============== ===============
Net income per share - diluted $ 1.35 $ 1.09 $ 0.86
============== ============== ===============
Weighted average shares - diluted 19,252,856 17,981,445 17,486,467
============== ============== ===============
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-3
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1999, 1998, AND 1997
<TABLE>
<CAPTION>
Additional Accumulated
Common Stock Paid-in Treasury Comprehensive
----------------------
Shares Amount Capital Stock Income
----------- -------- ----------- ----------- -------------
<S> <C> <C> <C> <C> <C>
Balance at
December 31, 1996 17,326,704 $173,605 $35,096,951 $ (30,000) $ -
Acquisition of treasury
stock (339,375) - - (3,299,450) -
Treasury shares reissued
in connection with
acquisition 37,500 - - 300,000 -
Stock options issued - - 1,643,350 - -
Treasury shares
reissued 27,900 - 233,585 - -
Options issued in
connection with
network management
agreement - - 150,000 - -
Deferred compensation, net - - - - -
Net income - - - - -
------------ -------- ----------- ---------- -------------
Balance at
December 31, 1997 17,052,729 173,605 37,123,886 (3,029,450) -
Acquisition of treasury
stock (16,500) - - (207,574) -
Treasury shares reissued
under the Employee
Stock Purchase Plan 25,574 - - 370,524 -
Treasury shares reissued
upon exercise of stock
options 24,000 - - 205,760 -
Other treasury shares
reissued 1,500 - - 26,250 -
Compensation expense, net - - - - -
Net income - - - - -
------------ -------- ----------- ---------- -------------
Balance at
December 31, 1998 17,087,303 173,605 37,123,886 (2,634,490) -
Acquisition of treasury
stock (33,000) - - (494,440) -
Shares issued under
under the Employee
Stock Purchase Plan 25,969 260 432,835 - -
Shares issued upon
exercise of stock
options 514,367 2,411 750,456 2,634,490 -
Tax benefit of stock
options exercised - - 1,731,471 - -
Shares issued in
secondary offering 1,458,300 14,583 25,582,969 - -
Compensation expense - - - - -
Net income - - - - -
Unrealized gain on
investment securities,
net of income taxes - - - - 10,748,000
Total comprehensive
income - - - - -
------------ -------- ----------- ---------- -------------
Balance at
December 31, 1999 19,052,939 $190,859 $65,621,617 $ (494,440) $ 10,748,000
============ ======== =========== ========== =============
<CAPTION>
Retained Deferred
Earnings Compensation Total
---------- ------------ ------
<S> <C> <C> <C>
Balance at
December 31, 1996 $ 9,935,158 $ - $ 45,175,714
Acquisition of treasury
stock - - (3,299,450)
Treasury shares reissued
in connection with
acquisition - - 300,000
Stock options issued - - 1,643,350
Treasury shares
reissued - - 233,585
Options issued in
connection with
network management
agreement - - 150,000
Deferred compensation, net - (883,200) (883,200)
Net income 14,976,704 - 14,976,704
---------- -------------- -------------
Balance at
December 31, 1997 24,911,862 (883,200) 58,296,703
Acquisition of treasury
stock - - (207,574)
Treasury shares reissued
under the Employee
Stock Purchase Plan - - 370,524
Treasury shares reissued
upon exercise of stock
options - - 205,760
Other treasury shares
reissued - - 26,250
Compensation expense, net - 187,500 187,500
Net income 19,579,150 - 19,579,150
---------- -------------- -------------
Balance at
December 31, 1998 44,491,012 (695,700) 78,458,313
Acquisition of treasury
stock - - (494,440)
Shares issued under
under the Employee
Stock Purchase Plan - - 433,096
Shares issued upon
exercise of stock
options - - 3,387,357
Tax benefit of stock
options exercised - - 1,731,471
Shares issued in
secondary offering - - 25,597,552
Compensation expense - 169,140 169,140
Net income 25,919,260 - -
Unrealized gain on
investment securities,
net of income taxes - - -
Total comprehensive
income - - 36,667,260
----------- ------------- ------------
Balance at
December 31, 1999 $70,410,272 $ (526,560) $145,949,748
=========== ============= ============
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-4
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1999, 1998, AND 1997
<TABLE>
<CAPTION>
1999 1998 1997
------------- ------------- ------------
Operating activities
<S> <C> <C> <C>
Net income $ 25,919,260 $ 19,579,150 $ 14,976,704
Adjustment to reconcile net income to
net cash provided by operations
Realized gain on sale of marketable securities (136,234) (419,060) (355,325)
Depreciation and amortization 5,136,343 4,412,416 2,079,142
Loss on sale of assets - - 143,138
Amortization of premiums and fees (121,758) - -
Non-cash compensation expense 187,500 187,500 705,435
Deferred income taxes (153,000) (521,432) (180,459)
Changes in reserves and allowances 198,805 1,287,646 148,000
Origination of loans sold on secondary
market, net of costs (6,066,935) - -
Proceeds from sale of loans on the secondary market 6,966,918 - -
Changes in assets and liabilities, net of effects
of acquisitions
Accounts receivable (5,400,556) (1,114,948) (6,912,399)
Accounts payable and accrued expenses (393,950) (759,095) 1,944,024
Current and other assets (3,987,462) (674,337) (10,622)
Income and other taxes payable (2,223,415) 520,987 787,981
------------- ------------- ------------
Net cash provided by operating activities 19,925,516 22,498,827 13,325,619
------------- ------------- ------------
Investing activities
Purchases of fixed assets (2,039,036) (1,386,465) (1,495,599)
Purchases of marketable securities (4,268,846) (5,245,401) (4,989,131)
Proceeds from sale of marketable securities 3,845,015 5,650,291 5,307,940
Purchases of short-term investments (4,534,318) (3,803,609) (8,330,031)
Proceeds from sale of short-term investments 3,804,509 8,329,131 10,448,564
Advances to contracting providers, net (13,120,000) (7,564,300) (13,113,000)
Payments for acquisitions, net of cash acquired (9,853,096) (11,689,432) (13,447,439)
Proceeds from sale of other investments 1,222,999 - -
Purchases of investment securities (7,189,094) - -
Increases in loans, net (255,674) - -
Other, net - (1,000,415) (379,392)
------------- ------------- ------------
Net cash used in investing activities (32,387,541) (16,710,200) (25,998,088)
------------- ------------- ------------
Financing activities
Proceeds from secondary offering 25,597,552 - -
Proceeds from bank borrowings - 10,000,000 15,000,000
Purchase of treasury stock (494,440) (207,574) (3,299,450)
Exercise of stock options 3,387,357 - -
Tax benefit of exercise of stock options 1,731,471 - -
Proceeds from Employee Stock Purchase Plan 433,095 602,534 -
Repayment of notes payable and lease obligations (4,563,688) (3,129,009) (606,196)
Decrease in deposits, net (745,595) - -
------------- ------------- ------------
Net cash provided by financing activities 25,345,752 7,265,951 11,094,354
------------- ------------- ------------
Increase (decrease) in cash and cash equivalents 12,883,727 13,054,578 (1,578,115)
Cash and cash equivalents
Beginning of the year 30,508,568 14,456,069 16,034,184
------------- ------------- ------------
End of the year $ 43,392,295 $ 27,510,647 $ 14,456,069
============= ============= ============
Supplemental disclosures of cash flow information
Interest paid during the year $ 1,786,921 $ 1,137,323 $ 194,044
Taxes paid (refunded) during the year $ 16,440,323 $ 14,315,610 $ 10,183,484
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-5
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Business and Basis of Presentation
United Payors & United Providers, Inc. ("UP&UP" or the "Company"), a
Delaware corporation, serves as an intermediary between health care payors
(e.g., insurance companies) and health care providers (e.g., hospitals) by
entering into contractual arrangements designed generally to produce cost
savings and other benefits for payors and increased liquidity and improved
efficiency in claims submissions for providers. UP&UP derives its revenue from a
portion of the price concessions offered by the providers under such contractual
arrangements. UP&UP also offers medical management outsourcing services to
insurance companies and other payors. In 1999, the Company acquired a federal
savings bank "Bank", which derives its revenue from interest and fees on loans.
As a result of the acquisition of the Bank, which follows industry specific
financial reporting practices, the Company has presented health care services
and financial services separately, with respect to the balance sheets and
statements of operations, in the accompanying financial statements.
2. Public Offering
In May 1999, the Company completed a secondary offering of 2,747,300 shares
of common stock at $19.00 per share consisting of 1,458,300 shares issued by the
Company, 1,250,000 shares sold by Principal Mutual Holding Company and
affiliates ("Principal Mutual") and 39,000 shares sold by two other selling
shareholders. The issuance of the 1,458,300 shares resulted in net proceeds to
the Company of $25.6 million.
3. Summary of Significant Accounting Policies
Principles of consolidation
The accompanying consolidated financial statements have been prepared in
conformity with generally accepted accounting principles and include the
accounts and operations, after intercompany eliminations, of the Company and its
subsidiaries.
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
disclosures of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenue and expenses during the period.
Actual results could differ from those estimates.
Revenue recognition
Health Care Services
The Company recognizes provider network outsourcing revenue, under the
accrual method, based on a contracted percentage of the amount of cost savings
realized by payor clients which access the Company's contracting provider
network. Revenue is recorded in the period in which claims are repriced. For
medical management outsouring services, revenue is recorded based on the
contractual arrangements. Contracts may reflect a capitated rate, fee for
service or hourly rate. Pre-certification revenue is generally based on monthly
capitation calculations and is earned during the month for which the services
are provided. Case management revenue is generally based on fee for service or
hourly rates over the term of the contractual agreements.
F-6
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Financial Services
Interest on loans is accrued and credited to income using the interest
method based on the principal amounts outstanding. Loan fees, net of direct and
incremental origination costs, are deferred over the life of the related loans
and amortized using the interest method.
Cash equivalents and short-term investments
Health Care Services
The Company considers all highly liquid instruments with original
maturities of three months or less to be cash equivalents. The Company maintains
its cash and cash equivalents in bank accounts which, at times, may exceed
federally insured amounts. The Company has not experienced any losses in such
accounts and believes it is not exposed to any significant credit risk on cash
and cash equivalents. At December 31, 1999, and 1998 the Company had
approximately $33,592,321,and $15,865,387, respectively, of cash and cash
equivalents on deposit with commercial banks in excess of insured amounts.
From time to time, the Company invests in various marketable securities.
The sales of marketable securities resulted in realized gains of $610,516 and
realized losses of $474,282 in 1999; realized gains of $808,919 and realized
losses of $389,859 in 1998; realized gains of $602,012 and realized losses of
$246,687 in 1997. Cost was determined using the specific identification method.
Short-term investments in 1999 and 1998 consist of $1,471,070, and $1,895,215,
respectively, of securities backed by the United States Government; $3,286,776
and $1,632,849, respectively, of other debt securities; and certificates of
deposit of $387,224, and $327,131, respectively. These investments are reflected
at fair value which approximates the respective amortized cost.
Financial Services
The Company classifies cash and cash equivalents to include amounts due
from depository institutions, interest bearing deposits in other banks with
original maturities of less than three months and federal funds sold. Any
significant credit risk is mitigated by the fact the majority of the cash and
cash equivalents are on deposit at the Federal Reserve and the Federal Home Loan
Bank, both agencies of the United States Government.
Investment Securities
The Company carries investment securities in accordance with Statement of
Financial Accounting Standards No. 115, "Accounting for Certain Investments in
Debt and Equity Securities" ("SFAS No. 115"). SFAS No. 115 requires
institutions to classify and account for debt and equity securities in one of
three categories, as follows: 1) debt securities that an institution has the
positive intent and ability to hold to maturity are classified as held-to-
maturity and reported at amortized cost; 2) debt and equity securities that are
purchased and held principally for the purpose of selling them in the near term
are classified as trading securities and reported at fair value, with unrealized
gains and losses included in earnings; and 3) debt and equity securities not
classified as either held-to-maturity or trading securities are classified as
available-for-sale and reported at fair value, with unrealized gains and losses
excluded from earnings and reported as a net amount in a component of other
comprehensive income, net of the related income tax effect.
Health Care Services
As of December 31, 1999, all investment securities of health care services
were classified as available for sale securities.
Financial Services
As of December 31, 1999, all investment securities held by the Bank were
classified as held-to-maturity and recorded at amortized cost. Gains or losses
on disposition are based on the net proceeds and the adjusted carrying amount of
the securities sold, using the specific identification method.
F-7
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Advances to contracting providers - Health Care Services
The Company enters into contracts directly with providers of medical
services ("contracting providers"). The Company's contracts with contracting
providers prescribe specific fee concessions on medical services rendered by the
contracting providers to patients covered by medical plans of payor clients. In
partial consideration for the price concessions furnished by them, contracting
hospitals are offered the option by the Company of receiving an advance
("prepayment") of a portion of the estimated annual claims volume that such
contracting hospitals have with payor clients. As of December 31, 1999 and 1998
the amount of advances ("prepayments") were $38,213,030, and $25,093,030,
respectively. Upon termination of a provider contract by either party, the
amount of advances ("prepayments") through the date of termination becomes fully
due and payable to the Company. The Company considers deposits with contracting
providers recoverable. Allowances of $876,000 and $679,000 have been
established for these deposits as of December 31, 1999 and 1998, respectively.
Loans and Allowance for Loan Losses - Financial Services
Loans are stated at the amount of unpaid principal, reduced by an allowance
for loan losses and deferred loan fees. Interest on loans is calculated by
using the simple interest method on daily balances of the principal amount
outstanding. Loan fees, net of direct and incremental origination costs, are
deferred over the life of the related loans and amortized using the effective
interest rate method. The allowances for loan losses is an amount that
management believes will be adequate to absorb possible losses on existing loans
that may become uncollectible, based on evaluations of the collectibility of
loans and prior loan loss experience. Accrual of interest is discontinued on a
loan when management believes, after considering economic and business
conditions and collection efforts, that the borrower's financial condition is
such that the interest in uncollectible.
The Bank has adopted Statement of Financial Accounting Standards (SFAS) No.
114, "Accounting by Creditors for Impairment of a Loan," and SFAS No. 118,
"Accounting by Creditors for Impairment of - Income Recognition and
Disclosure." The Bank evaluates loans to determine if impairment has occurred.
SFAS No. 114 requires that certain impaired loans be measured based on the
present value of expected future cash flows discounted at the loan's original
effective interest rate. At times it is more practical to measure impairment
based on the loan's observable market price or the fair value of the collateral
if the loan is collateral dependent. When the measure of the impaired loan is
less than the recorded investment in the loan, the impairment is recorded though
a valuation allowance.
In the ordinary course of business, the Bank has entered into off-balance
sheet financial instruments consisting of commitments to extend credit,
commitments under lines of credit and stand-by letters of credit. Such
financial instruments are recorded in the financial statements when they are
funded or related fees are incurred or received.
Secondary Market Funding Receivable - Financial Services
Secondary Market Funding Receivable consists of residential mortgage loans
originated for the secondary market, under previously arranged purchase
agreements. As of December 31, 1999, secondary market receivables are carried
at the lower of cost or market value.
Real Estate Owned - Financial Services
Real estate owned includes real estate on which the Bank has completed
foreclosure proceedings. All foreclosed assets are held for sale. The Bank
actively tries to dispose of the real estate held for sale, and expects to
dispose of the property as soon as possible.
Foreclosed assets held for sale are carried at the lower of cost or fair
value less estimated selling costs. Cost is defined as the fair value of the
assets foreclosed at the time of foreclosures, plus costs incurred subsequent to
foreclosure, which are required to bring the property to its most marketable
condition. Valuations are periodically performed by management with the
adjustment to the carrying value being charged to earnings in the period of the
adjustment.
F-8
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Fixed assets
Fixed assets are stated at cost. Depreciation is computed using the
straight-line method over the estimated useful lives of the various assets which
range from three to seven years. Leasehold improvements are amortized using the
straight-line method over the shorter of the estimated useful lives of the
assets or the lease term.
Intangible assets
Health Care Services
Intangible assets represent the cost in excess of net assets of businesses
acquired (goodwill). These intangibles are amortized on a straight-line basis
over 3 to 20 years. Accumulated amortization at December 31, 1999 and 1998
amounted to approximately $4,944,000 and $4,356,000, respectively. Amortization
expense for the years ended December 31, 1999, 1998, and 1997 amounted to
$2,564,000, $2,702,000, and $774,000, respectively. The Company annually
evaluates the recoverability of intangible assets utilizing qualitative factors.
At such time as an impairment in value is identified, the impairment will be
quantitatively measured using a discounted cash flow methodology and charged to
expense.
Financial Services
Intangible assets represent the cost in excess of net assets of the
acquisition of the Bank in 1999. The excess of the total acquisition cost over
fair value of net assets acquired of approximately $6,200,000 is being amortized
over twenty years on a straight-line basis. Amortization expense for 1999 was
$104,000 and accumulated amortization as at December 31, 1999 was $104,000.
Income taxes
Income taxes have been recorded using the liability method. The income tax
provision includes federal and state income taxes both currently payable and
changes in deferred taxes due to differences between financial reporting and tax
basis of assets and liabilities. Deferred tax assets and liabilities are
measured using the enacted tax rates and laws that will be in effect when the
differences are expected to reverse.
Net income per common share
Basic net income per share is based on the weighted average number of
common stock outstanding during the period. Diluted income per share is based on
the weighted average number of common stock and common stock equivalent shares
outstanding during the year.
Concentration of payor clients - Health Care Services
A significant portion of the Company's revenue is derived from a small
number of payor clients. The inability to replace any such clients with
significant new payor clients would have had a material adverse effect on the
Company's business. The Company's revenue was concentrated (as a percentage of
total revenue) in the following payor clients during 1999, 1998, and 1997:
<TABLE>
<CAPTION>
1999 1998 1997
---- ---- ----
<S> <C> <C> <C>
Payor client A 10% 16% 20%
Payor client B - 11% 13%
Payor client C - 10% -
</TABLE>
At December 31, 1999, payor client A represented 14% of the Company's
accounts receivable. At December 31, 1998, payor clients A, B and C represented
16%, 6% and 7%, respectively, of the Company's accounts receivable.
F-9
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Comprehensive Income
Comprehensive income consists of net income and the appreciation, net of
income taxes, of the Company's health care services investment securities, (see
Note 16) and is presented in the Consolidated Statement of Shareholders' Equity.
There were no other comprehensive income items during the years ended
December 31, 1998 and 1997.
Reclassifications
Certain amounts in the 1998 and 1997 financial statements have been
reclassified to conform to the 1999 presentation.
4. Business Combinations
Effective September 1, 1997, the Company acquired America's Health Plan,
Inc. ("AHP") for a purchase price of approximately $19.9 million, consisting of
$15.1 million in cash and the assumption of approximately $4.8 million in
liabilities. The acquisition has been accounted for as a purchase and
accordingly, the results of operations of AHP have been included in the
accompanying consolidated statements of operations since the effective date of
the acquisition. The acquisition resulted in goodwill of approximately $15.5
million which is being amortized over 20 years. Under the terms of the
acquisition agreement, the purchase price of AHP was subject to adjustment
through the year 2000, if AHP revenues exceeded pre-determined targets. In
August, 1998, the Company and the seller entered into an agreement to set the
purchase price of AHP and eliminate the contingent consideration provisions in
the original acquisition agreement. Under the terms of the August 1998
agreement, the Company agreed to pay the seller $4.0 million in twelve equal
monthly installments commencing November 1, 1998. The $4.0 million has been
recorded as additional goodwill and is being amortized over the remaining
amortization period of the original goodwill. The unpaid balance, of
approximately $3.3 million at December 31, 1998, is included in accounts payable
and accrued expenses in the accompanying consolidated balance sheet.
Effective December 1, 1998, the Company acquired ProAmerica Managed Care,
Inc. ("ProAmerica") for a purchase price of approximately $14.3 million,
consisting of $11.7 million in cash and the assumption of approximately $2.6
million in liabilities. The acquisition has been accounted for as a purchase and
accordingly, the results of operations of ProAmerica have been included in the
accompanying consolidated statements of operations since the effective date of
the acquisition. The purchase price resulted in goodwill of approximately $12.5
million which is being amortized over 15 years.
Effective August 31, 1999 the Company acquired the Bank for a purchase
price of approximately $3.5 million in cash and the assumption of approximately
$26.5 million in liabilities based on a preliminary determination of the
liabilities assumed. The acquisition has been accounted for as a purchase and
accordingly, the results of operations of the Bank have been included in the
accompanying consolidated statements of operations since the date of the
acquisition. A preliminary allocation of the purchase price resulted in goodwill
of $6.2 million which is being amortized over 20 years. The unamortized portion
of goodwill at December 31, 1999 is included in financial services intangible
and other assets in the accompanying consolidated balance sheet.
In 1999, the Company acquired two preferred provider networks for total
cash consideration of $6.5 million. The cost of these networks was allocated to
goodwill and is being amortized over 15 years.
F-10
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The following unaudited pro forma consolidated results of operations for
the year ended December 31, 1998 is presented as though ProAmerica had been
acquired at the beginning of 1998, after giving effect to purchase accounting
adjustments relating to interest, the amortization of goodwill and income taxes.
<TABLE>
<CAPTION>
1998
-------
(In thousands,
except per share data)
<S> <C>
Revenue........................... $89,054
Net income........................ $19,735
Net income per share--basic....... $ 1.16
Weighted average shares--basic.... 17,065
Net income per share--diluted..... $ 1.10
Weighted average shares--diluted.. 17,981
</TABLE>
The pro forma results of operations for 1999 and 1998 would not have been
significantly different from the historical 1999 and the pro forma 1998 results
of operations if the Bank and the preferred provider networks acquired in 1999
were included in the pro forma results assuming they were acquired in January
1998. The pro forma results of operations are not necessarily indicative of the
results that would have occurred had the ProAmerica acquisition been consummated
as of January 1, 1998, nor are they necessarily indicative of future operating
results.
5. Loans Receivable - Financial Services
Mortgage, commercial and residential construction loans are collateralized
by the related property, real estate, equipment and receivables, and the loan-
to-value ratios generally do not exceed 80% at origination.
As of December 31, 1999, loans receivables consisted of:
<TABLE>
<S> <C>
Mortgage loans $14,174,971
Commercial and residential construction 2,063,835
Consumer 419,636
-----------
16,658,442
Less: Allowance for loan losses (641,483)
Deferred loan fees (133,722)
-----------
$15,883,237
===========
</TABLE>
6. Investments Securities
Health Care Services
As of December 31, 1999 and 1998 investment securities available for sale
consisted of:
<TABLE>
<CAPTION>
1999 1998
----------------------------------------------- -------------------------------------------------
Unrealized Urealized Fair Unrealized Unrealized Fair
Cost Gains Losses Value Cost Gains Losses Value
--------- ---------- --------- ---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Marketable
equity
securities $5,219,832 $17,900,000 - $23,119,832 $ 300,000 - - $ 300,000
Other
equity
securities 455,768 - - 455,768 1,511,777 - - 1,511,777
---------- ----------- --------- ----------- ----------- ---------- ---------- ----------
$5,675,600 $17,900,000 - $23,575,600 $ 1,811,777 - - $1,811,777
========== =========== ========= =========== =========== ========== ========== ==========
</TABLE>
F-11
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Financial Services
As of December 31, 1999, investment securities held to maturity consisted
of:
<TABLE>
<CAPTION>
Unrealized Unrealized Fair
Cost Gains Losses Value
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Interest bearing deposits in
other banks $ 492,000 $ - $ - $ 492,000
Corporate debt obligations 49,760 - 2,442 47,318
U.S. Government and agency
obligations 2,391,403 1,700 26,408 2,366,695
---------- ---------- ------- ----------
$2,933,163 $1,700 $28,850 $2,906,013
========== ========== ======= ==========
</TABLE>
As of December 31, 1999, $210,000 of U.S. Treasury Bills included above
were pledged for the performance of certain contractors related to properties
owned by the Bank in Anne Arundel County, Maryland.
As of December 31, 1999, investment securities mature in the following
periods:
<TABLE>
<CAPTION>
Cost Fair Value
---------- ----------
<S> <C> <C>
Due in one year or less $ 699,833 $ 696,367
Due in one-to-five years 2,233,330 2,209,646
---------- ----------
$2,933,163 $2,906,013
========== ==========
</TABLE>
7. Fixed Assets - Health Care Services
Fixed assets consist of the following:
<TABLE>
<CAPTION>
December 31 Depreciable
----------------------
1999 1998 Lives
---- ---- -----
<S> <C> <C> <C>
Computer equipment......................... $4,416,076 $3,062,223 3-5 years
Furniture, fixtures, and office equipment.. 3,244,036 2,796,787 5-7 years
Leasehold improvements..................... 1,316,605 1,113,965 5 years
Vehicles................................... 62,772 62,772 3 years
---------- ----------
Total fixed assets........................ 9,039,489 7,035,747
Accumulated depreciation and amortization.. (4,655,436) (2,733,803)
---------- ----------
Fixed assets, net......................... $4,384,053 $4,301,944
========== ==========
</TABLE>
Depreciation expense for the years ended December 31, 1999, 1998, and
1997 approximated $1,920,000, $1,326,000, and $915,000, respectively.
8. Real Estate Owned - Financial Services
Real estate owned at December 31, 1999 consists of the following:
Residential properties, at cost $999,540
Commercial properties, at cost 45,000
Allowance for losses on foreclosed properties (132,000)
--------
$912,540
========
F-12
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Real estate owned, at cost, at December 31, 1999 includes write downs in
the amount of $1,504,589 as a result of recording the properties at fair value
at the date of the Bank's acquisition, based on management's intent to dispose
of these properties in expedient manner. There was no activity in the allowance
for losses on foreclosed properties during the four months ended December 31,
1999.
9. Notes Payable - Health Care Services
In connection with the acquisition of AHP, the Company entered into a loan
agreement with a bank for an aggregate amount of $15 million. The loan balance
outstanding at December 31, 1999, and 1998 was $9 million, and $12 million,
respectively. The loan bears interest at the London Interbank Offered Rate
("LIBOR") plus 1 1/8% (approximately 7.5% at December 31, 1999). The principal
amount of the loan is paid in equal quarterly installments over a period of five
years, commencing March 31, 1998. Interest is payable in arrears on the last
business day of each quarter.
In December 1998, the Company utilized the proceeds from a $10 million line
of credit with a bank, bearing interest at LIBOR plus 1 1/8%, as part of the
consideration paid for the acquisition of ProAmerica. In February 1999, the
Company entered into a $10 million term loan with the same bank and utilized the
proceeds to replenish the amount drawn under the line of credit. The loan
balance outstanding at December 31, 1999 was $8.5 million. The term loan bears
interest at the rate of LIBOR plus 1 1/8% (approximately 7.5% at December 31,
1999). The principal amount of the loan is paid in equal quarterly installments
over a period of five years, commencing March 31, 1999. Interest is payable in
arrears on the last business day of each quarter.
Both term loans contain restrictive covenants. The most restrictive
covenant requires the Company to maintain certain financial ratios above stated
levels, restrict the Company from incurring additional debt, in excess of $10
million other than with the bank, and prohibits the Company from paying
dividends in excess of 50% of consolidated net income, as defined in the loan
agreement.
10. Deposits and Lines of Credit - Financial Services
The aggregate amount of short-term jumbo CDs, each with a minimum
denomination of $100,000, was approximately $3,748,900 at December 31, 1999.
At December 31, 1999, the scheduled maturities of CDs are as follows:
2000 $12,457,130
2001 2,831,177
2002 1,372,192
2003 1,268,795
2004 and thereafter 359,504
-----------
$18,288,798
===========
The Bank maintains an available line of credit with the Federal Home Loan
Bank of Atlanta (FHLB) of $3,000,000. Under the terms of this line, the Bank
has granted the FHLB a blanket lien on all residential mortgages. As of December
31, 1999, there were no advances outstanding under this Agreement.
F-13
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
11. Fair Value of Financial Instruments
The estimated fair values of the Company's financial instruments were as
follows as of December 31, 1999 and 1998:
<TABLE>
<CAPTION>
1999 1998
------------------------- -----------------------
Carrying Fair Carrying Fair
Amount Value Amount Value
----------- ----------- ----------- ---------
<S> <C> <C> <C> <C>
Health Care Services:
---------------------
Cash and cash equivalents $36,774,618 $36,774,618 $27,510,647 $27,510,647
Short-term investments 5,145,070 5,149,370 3,855,195 3,855,195
Investments in securities 23,575,600 23,575,600 1,811,767 1,811,767
Notes payable 17,500,000 17,500,000 22,063,689 22,063,689
Financial Services:
-------------------
Cash and cash equivalents 6,617,677 6,617,677
Secondary market funding
receivable 1,478,456 1,478,456
Short-term investments 2,933,163 2,906,013
Loans receivable 16,658,442 16,930,079
Federal Home Loan Bank stock 146,700 146,700
Deposits 25,199,005 25,374,616
</TABLE>
The following methods and assumptions were used by the Company in
estimating fair values of financial instruments as disclosed:
Cash and cash equivalents - The carrying amounts of cash and cash
-------------------------
equivalents approximate their fair value.
Short-term investments and investment securities - Fair values for short-
------------------------------------------------
term investments and investment in securities are based on quoted market prices,
or Black-Scholes pricing models where applicable.
Loans receivables - For variable-rate loans that reprice frequently and
-----------------
have no significant change in credit risk, fair values are based on carrying
values. Fair values for real estate and commercial loans are estimated using
discounted cash flow analyses, using interest rates currently being offered for
loans with similar terms to borrowers of similar credit quality. Fair values for
impaired loans are estimated using discounted cash flow analyses or underlying
collateral values, where applicable.
Secondary market funding receivable - Carrying amounts of secondary market
-----------------------------------
funding receivables approximate their fair value, due to their pre-sell
arrangements.
Deposits - The fair values disclosed for demand deposits are, by
---------
definition, equal to the amount payable on demand at the reporting date (that
is, their carrying amounts). The carrying amounts of variable-rate, fixed-term
money market accounts and variable-rate certificates of deposit (CDs)
approximate their fair values at the reporting date. The fair values of fixed
rate certificates of deposit are estimated using cash flow analyses, using
interest rates currently being offered.
F-14
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
12. Income Taxes
The provision for income taxes consists of the following:
<TABLE>
<CAPTION>
1999 1998 1997
--------- --------- ---------
<S> <C> <C> <C>
Current provision $17,244,000 $14,203,400 $10,568,500
Deferred provision (benefit) (153,000) (521,400) (180,500)
----------- ----------- -----------
Total provision $17,091,000 $13,682,000 $10,388,000
=========== =========== ===========
</TABLE>
The provision for income taxes varies from the amount of income tax
determined by applying the applicable United States tatutory tax rate to
pre-tax income as follows:
<TABLE>
<CAPTION>
1999 1998 1997
---- ---- ----
<S> <C> <C> <C>
United States statutory tax rate 35% 35% 35%
State taxes, net of Federal benefit 5% 6% 6%
--- --- ---
Effective tax rate 40% 41% 41%
=== === ===
</TABLE>
A summary of the tax effect of the significant components of deferred income
tax assets (liabilities) follows:
<TABLE>
<CAPTION>
1999 1998
---- ----
<S> <C> <C>
Deferred compensation.................................. $ (293,000) $ 488,000
Depreciation and amortization.......................... 578,000 (426,000)
Allowance for doubtful accounts........................ 1,020,000 1,068,000
Unrealized gain on investments......................... (7,065,000) -
Other accrued expenses................................. 180,000 202,000
----------- ----------
Net deferred tax asset (liability)................... $(5,580,000) $1,332,000
=========== ==========
</TABLE>
13. Shareholders' Equity
On April 13, 1998, the Company's Board of Directors approved a three-for-
two stock split in the form of a stock dividend payable on May 4, 1998, to
shareholders of record on April 24, 1998. The stock split resulted in the
issuance of a total of 5,786,818 additional shares of common stock. The par
value of the common stock was not changed. Accordingly, the issuance of the
additional shares resulted in the transfer of $57,869 from additional paid-in
capital to common stock to reflect the aggregate par value of the shares issued.
The effect of the stock split has been retroactively reflected in the
consolidated balance sheets and the consolidated statements of shareholders'
equity for all periods prior to the date of the stock split. All references in
the financial statements to number of shares, related prices and per share
amounts have also been restated to reflect the stock split.
Stock option and employee stock purchase plans
In October, 1996, the Company adopted the United Payors & United Providers,
Inc. Stock Option Plan ("SOP"). Stock options may be granted under the plan as
either incentive stock options or non-qualified stock options. The maximum
number of shares of the Company's common stock reserved for purchase pursuant to
the exercise of options granted under the SOP is 2,325,000 shares. All Company
employees, outside directors and consultants are eligible to receive option
awards. A Committee of the Board of Directors determines award amounts, exercise
prices, terms and vesting periods. The maximum term over which incentive stock
options and non-qualified stock options may be exercised may not exceed 10 years
and 12 years, respectively. The following table summarizes information regarding
transactions under the SOP:
F-15
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
<TABLE>
<CAPTION>
1999 1998 1997
------------------ ------------- ---------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
------ ----- ------ ----- ------ -----
<S> <C> <C> <C> <C> <C> <C>
Outstanding at January 1, 1,944,000 $ 8.64 1,800,000 $ 7.90 86,250 $ 7.43
Granted.................. 403,500 17.72 168,000 16.50 1,713,750 7.92
Exercised................ (496,000) (9.83) (24,000) (8.58) -- --
Canceled................. (94,500) (8.97) -- -- --
--------- -------- --------- --------- ---------- --------
Outstanding at December 31, 1,757,000 $10.35 1,944,000 $ 8.64 1,800,000 $ 7.90
========= ======== ========= ========= ========== ========
Exercisable at December 31, 1,062,625 $10.55 1,185,250 $ 9.03 1,048,125 $ 9.19
========= ======== ========= ========= ========== ========
</TABLE>
The following table summarizes information about stock options outstanding at
December 31, 1999:
<TABLE>
<CAPTION>
Weighted
Weighted Average
Range of Average Remaining
Exercise Price Shares Exercise Price Contractual Life
-------------- ------ -------------- ----------------
<S> <C> <C> <C>
$ 4.00 - 7.34........... 770,000 $5.71 7.9 years
7.35 - 9.34........... 268,125 8.01 8.0 years
9.35 - 12.00........... 166,875 11.84 8.0 years
12.01 - 20.00........... 552,000 17.50 4.9 years
</TABLE>
Information regarding stock options exercisable at December 31, 1999 is
summarized as follows:
<TABLE>
<CAPTION>
Weighted
Range of Average
Exercise Price Shares Exercise Price
-------------- ------ ---------------
<S> <C> <C>
$ 4.00 - 7.34............... 340,625 $ 5.96
7.35 - 9.34............... 268,125 8.01
9.35 - 12.00.............. 159,375 11.86
12.01 - 20.00.............. 294,500 17.44
</TABLE>
Effective January 1, 1998, the Company implemented the Employee Stock
Purchase Plan ("ESPP") approved by the Company's shareholders on June 3, 1997.
The maximum number of shares reserved for purchase by employees under the ESPP
is 525,000 shares. The ESPP is administered over consecutive quarterly offering
periods commencing on the first trading day of January, April, July and October
of each year. Under the ESPP eligible employees may purchase shares of common
stock through payroll deductions up to an annual amount of shares having a
market value of $25,000 at the date of grant. Shares are purchased on the last
trading day of each offering period at 85% of the market price of the common
stock at the beginning of the offering period or the end of the offering period,
whichever is lower. Shares issuable to employees may be purchased in the open
market or issued from treasury shares held by the Company. During 1999, 25,969
shares were issued under the ESPP at an average purchase price of $16.68 per
share.
During 1995, the Financial Accounting Standards Board issued Financial
Accounting Standard No. 123 ("FAS 123"), Accounting for Stock-Based
Compensation. This pronouncement requires that the Company calculate the fair
value of stock options and shares issued under employee stock purchase plans at
the date of grant using an option pricing model. The Company has elected the
"pro forma, disclosure only" option permitted under FAS 123, instead of
recording a charge to operations. The following table reflects pro forma net
income and net income per share had the Company elected to adopt the fair value
approach of FAS 123:
F-16
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
<TABLE>
<CAPTION>
1999 1998 1997
----------- ----------- -----------
<S> <C> <C> <C>
Net income
As reported............ $25,919,260 $19,579,150 $14,976,704
Pro forma.............. 23,963,915 18,658,341 14,466,736
Net income per share
As reported - basic.... $ 1.40 $ 1.15 $ .87
As reported - diluted.. 1.35 1.09 .86
Pro forma - basic...... 1.30 1.09 .84
Pro forma - diluted.... 1.24 1.04 .83
</TABLE>
The weighted-average exercise price and the weighted-average grant date fair
value of options granted whose exercise price equals, exceeds or is less than
the market price of the stock at the date of grant is as follows:
<TABLE>
<CAPTION>
1999 1998 1997
------------------------- --------------------- ---------------------
Weighted Weighted Weighted Weighted Weighted Weighted
Average Average Average Average Average Average
Exercise Fair Exercise Fair Exercise Fair
Exercise Price Price Value Price Value Shares Value
- -------------- ------ ------ ----- ----- ------ -----
<S> <C> <C> <C> <C> <C> <C>
Equals..... $ -- $ -- $13.43 $5.69 $ 7.66 $5.60
Exceeds.... 18.00 7.39 14.67 7.09 11.07 5.15
Less....... 14.29 11.23 19.70 8.41 4.51 6.84
</TABLE>
The estimated fair value of each option was calculated using the modified
American Black-Scholes economic option-pricing model. The following table
summarizes the weighted-average of the assumptions used for stock options
granted during 1999, 1998, and 1997:
<TABLE>
<CAPTION>
1999 1998 1997
---- ---- ----
<S> <C> <C> <C>
Risk-free interest rate........ 5.7% 5.4% 6.9%
Expected years until exercise.. 3.5 3.2 9.5
Expected volatility............ 53.9% 55.7% 45.0%
Dividend yield................. - - -
</TABLE>
The weighted average fair values per share common stock purchased under the
ESPP during 1999 and 1998 was $4.89 and $5.70 per share, respectively. The
weighted average of the assumption used to calculate the fair value of the
shares was as follows:
<TABLE>
<CAPTION>
1999 1998
---- ----
<S> <C> <C>
Risk-free interest rate.............. 4.9% 5.0%
Expected life........................ 3 months 3 months
Expected volatility.................. 53.9% 55.7%
Dividend yield....................... - -
</TABLE>
Other stock options and warrants
In connection with certain business transactions during 1996, the Company
granted options and warrants as follows: (a) 273,000 shares of its common stock
(at $8.33 per share) in the form of stock options, of which 27,000 were
exercised during 1999, pursuant to a non-compete agreement related to a
marketing commission restructuring; and (b) 252,000 shares of its common stock
(at $10.67 per share) in the form of stock warrants pursuant to the acquisition
of NHS. These options and warrants expire 3 to 5 years from the date of the
respective agreements. The weighted average exercise price of these options or
warrants granted during 1996 was $9.45. At December 31, 1999, all these options
and warrants were exercisable.
The options related to the above transactions have been valued using the
modified American Black-Scholes economic option pricing model. The resultant
valuation is reflected in the accompanying financial statements.
F-17
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
Treasury stock
On November 12, 1999, the Board of Directors authorized the Company to
establish a repurchase program of up to 1,000,000 shares of the Company's common
stock. Pursuant to this authorization, the Company began repurchasing on the
open market or in negotiated transactions at prices deemed appropriate by the
Company. Purchased shares are deposited in the Company's treasury and are to be
used principally for its employee stock purchase and stock option plans and for
general corporate purposes. As of December 31, 1999, the Company had repurchased
33,000 shares having an aggregate purchase price of $494,440. The Company
terminated the repurchase program effective February 7, 2000.
14. 401(k) Savings Plan
In October 1996, the Company authorized the establishment of an employee
401(k) Savings Plan. The 401(k) Savings Plan, which became effective in 1997, is
available to all of its employees subject to certain service requirements. The
Company matches the first $1,000 of the employee's contribution and 50%
thereafter. The Company's contribution vests after the employee has completed
five years of service with the Company. For 1999, 1998, and 1997 the amounts of
the Company's contribution were $580,000, $445,000, and $404,000, respectively.
15. Regulatory Matters - Financial Services
The Bank is subject to various regulatory capital requirements administered
by the federal banking agencies. Failure to meet minimum capital requirements
can initiate certain mandatory, and possibly additional discretionary, actions
by regulators that, if undertaken, could have a direct material effect on the
Bank's financial statements. Under capital adequacy guidelines and the
regulatory framework for prompt corrective action, the Bank must meet specific
capital guidelines that involve quantitative measures of the Bank's assets,
liabilities, and certain off-balance-sheet items as calculated under regulatory
accounting practices. The Bank's capital amounts and classification are also
subject to qualitative judgments by the regulators about components, risk
weightings, and other factors.
The bank is subject to extensive regulation, supervision and examination by
the Office of Thrift Supervision ("OTS") and the Federal Deposit Insurance
Corporation. Upon the acquisition of the Bank, UP&UP became a unitary savings
and loan holding company, subject to supervision and examination by the OTS of
the U.S. Department of Treasury. As a unitary savings and loan holding company,
UP&UP generally will not be restricted under existing laws as to the type of
business activities in which it may engage, provided the bank continues to meet
the standards as a qualified thrift lender. Nevertheless, the OTS will have
enforcement authority over UP&UP and its non-savings association subsidiaries.
Among other things, this authority permits the OTS to restrict or prohibit
activities that are determined to be a serious risk to the subsidiary savings
bank. In addition, legislation recently enacted by Congress provides that
unitary thrift holding companies can only be acquired by financial holding
companies, as defined in the legislation.
Quantitative measures established by regulation to ensure capital adequacy
require the Bank to maintain minimum amounts and ratios (set forth in the table
below) of total and Tier I capital (as defined in the regulations) to risk-
weighted assets (as defined). Management believes, as of December 31, 1999, that
the Bank meets all capital adequacy requirements to which it is subject.
As of December 31, 1999, the most recent notification from the OTS
categorized the Bank "as well capitalized" under the regulatory framework for
prompt corrective action. To be categorized "as well capitalized" the Bank must
maintain minimum total risk-based, Tier I risk-based, and Tier I leverage ratios
as set forth in the table.
F-18
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The Bank's actual capital amounts and ratios are also presented in the
table.
<TABLE>
<CAPTION>
To be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
---------- ----------------- -----------------
As of December 31, 1999: Amount Ratio Amount Ratio Amount Ratio
------------------------ ------ ----- ------ ----- ------ -----
<S> <C> <C> <C> <C> <C> <C>
Total Capital (to Risk Weighted Assets) $2,183,000 15.18% $1,150,000 8% $1,438,000 10%
Tier I Capital (to Risk Weighted) 2,067,000 14.37% 575,000 4% 863,000 6%
Tier I Capital (to average Assets) 2,067,000 7.10% 1,165,000 4% 1,456,000 5%
</TABLE>
16. Related Party Transactions
The Company utilizes, for corporate business purposes, the services of an
aircraft owned by a corporation of Thomas L. Blair, Chairman and Chief Executive
Officer of the Company. The amount expensed by the Company to this corporation
in 1999, 1998, and 1997 was approximately $272,000 $445,000, and $263,000,
respectively.
Effective December 31, 1995, UP&UP entered into an agreement with America's
Health Plan, Inc., an indirect wholly-owned subsidiary of Principal Mutual
whereby specified payor clients of America's Health Plan, Inc. ("AHP") were
transferred to UP&UP. As a result, Principal Mutual beneficially owned
approximately 38% of the Company's common stock. Effective September 1, 1997,
UP&UP acquired the remaining operations of AHP. AHP develops and markets its
proprietary health care provider network for access by payors of health care
costs such as insurers, third-party administrators and unions. The name of
America's Health Plan, Inc. was changed to UP&UP, Inc. immediately prior to the
acquisition. In connection with the acquisition, the Company was granted the
right to operate the health care provider network under the name America's
Health Plan. Effective May 1999, Principal Mutual divested all but approximately
5% of its equity ownership in the Company.
During 1996, Principal Mutual became a payor client of the Company.
Principal Mutual had been a payor client of AHP since 1992. Approximately
$7,183,000, $7,376,000, and $2,342,000 of the Company's provider network revenue
for 1999, 1998 and 1997, respectively, was derived from its contract with
Principal Mutual. At December 31, 1999 and 1998, approximately, $809,000 and
$904,000, respectively, is due from Principal Mutual and is included in accounts
receivable.
During 1997, the Company purchased medical and life insurance from
Principal Mutual. The Company did not purchase health insurance from Principal
Mutual during 1999 and 1998. Principal Mutual has also administered the
Company's 401(k) plan since 1997. Amounts paid to Principal Mutual in 1999, 1998
and 1997 for these insurance products and services approximated $199,000,
$159,000 and $386,000, respectively.
On October 8, 1999 the Company acquired from Thomas L. Blair an option to
acquire approximately 4,330,000 shares of HealthExtras, Inc. common stock for
$5,000,000. The exercise price of the option is $.92 per share. The option
expires if not exercised on or about October 2003.
The Company performs certain administrative services for HealthExtras, Inc.
("HealthExtras"), an entity formed by Principal Mutual and Thomas L. Blair, that
markets such products as catastrophic and supplemental health benefits. During
1999 and 1998, HealthExtras reimbursed the Company approximately $3.2 million
and $839,000, respectively, for staffing and other costs incurred by the
Company, in the performance of services, on behalf of HealthExtras. The Company
has also entered into a royalty arrangement with HealthExtras effective January
1, 1999. The royalty arrangement provides the Company with a per member/per
month ("PMPM") royalty fee. The royalty fee initially starts at $1.00 PMPM in
year one and increases to $1.50 PMPM in year four. The royalty fee is based upon
the tenure of each member participating in the HealthExtras program. During 1999
the Company received a royalty fee in the amount of $400,000. The royalty
arrangement was entered into in exchange for the Company granting HealthExtras'
members access to its national network of health care providers at no fee over a
four-year period. It is likely that HealthExtras' future product development
will integrate the use of the provider network.
F-19
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
17. Lease Commitments
The Company leases office space under non-cancelable operating leases. The
agreements provide for annual escalations and for the payment by the Company of
a proportionate share of the increase in the costs of operating the building.
For financial reporting purposes, the Company recognizes rent expense on a
straight-line basis over the term of the lease. The Company has also entered
into various operating lease agreements for office equipment. Rent expense under
the Company's non-cancelable operating leases aggregated $1,821,292, $1,496,000,
and $1,137,000, in 1999, 1998, and ,1997, respectively.
The Company has entered into an eleven year office space lease commencing
approximately April 1, 2000 that will consolidate its two Maryland office
locations. The Company expects to terminate its existing lease agreements with
minimal expense (no more than 90 days of lease expense) costs. Future minimum
lease payments under non-cancelable operating leases are as follows:
Operating
Leases
---------
2000....................................... $ 3,103,556
2001....................................... 3,087,106
2002....................................... 2,787,911
2003....................................... 2,694,505
2004....................................... 2,300,086
Thereafter................................. 15,730,239
-----------
$29,703,403
===========
18. Commitments and Contingencies
Effective April 1, 1997, the Company entered into a five-year employment
agreement with its President and Chief Operating Officer. The agreement provides
for, among other things, options to purchase 1,125,000 shares of the Company's
common stock that will vest over an eight-year period (with acceleration
provision based on performance) and a retirement benefit (approximately $1
million) in the form of vested trust arrangements that is earned over a five-
year period. A portion of the stock options have an exercise price which is
lower than the market price of the Company's common stock at the date of grant
("in the money"). The compensation element of these "in the money" options, net
of the related tax effect, has been recorded as deferred compensation and is
being amortized as compensation expense over a period of eight years. The
unamortized portion of the deferred compensation at December 31, 1999 and 1998
is included in shareholders' equity. In December 1997, the Company accelerated
the vesting on 750,000 stock options which had an exercise price at the date of
grant equal to or above the market price. This employment agreement was extended
for an additional five year period effective January, 1, 1999.
The Company offers its contracting providers an advance (prepayment) option
based on the percentage of claims volume for the preceding year. The advance
(prepayment) option may be requested at the execution of a contract between the
Company and contracting provider, or at the anniversary date.
On April 26, 1996, First Health Group Corporation (formerly known as
HealthCare COMPARE), a Delaware corporation and competitor of the Company, filed
a civil complaint against the Company in the United States District Court for
the Northern District of Illinois. The complaint, in its present amended form,
seeks permanent injunctive relief, an unspecified amount of damages and treble
damages based on alleged violations of the Lanham Act, 15 U.S.C. (S)(S)
1125(a)(1)(A) and (a)(1)(B), as well as common law claims of deceptive trade
practices, fraud, interference with contract, interference with prospective
economic relations and unfair competition. First Health contends that
representatives of the Company made false and misleading statements during
contract negotiations with health care providers in order to cause them to join
the Company's provider network. The Company denies the allegations in the
complaint and believes them to be without merit. The Company has asserted
counterclaims against First Health for violations of the Lanham Act, as well as
state law claims for unfair competition and commercial disparagement. In
F-20
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
its court filings and discovery responses, First Health asserts that it has
suffered damages in the range of $28.8 million to $37 million due primarily to
its loss of a single contract. First Health later attempted to significantly
expand its damages claim, but in an Order dated July 9, 1999, the Court struck
all of those new damages claims with the exception of one minor claim with a
purported value of approximately $31,500. Discovery in the action is completed
and the Company has filed motions for summary judgment arguing that: (a) First
Health's evidence is insufficient as a matter of law to establish liability for
false advertising; and (b) it is entitled to judgment on the claim of damages
related to the loss of a payor contract on the basis that First Health cannot
demonstrate that it lost the contract due to any actions by UP&UP. First Health
filed a cross-motion for summary judgment arguing that liability should be
presumed against UP&UP relative to the false advertising claims. The motions are
currently under consideration by the court and a written ruling is expected in
the second quarter of 2000. No trial date has been scheduled by the court as of
this date. Based upon the available information, management believes that its
potential liability, if any, arising from the litigation will not be material to
the consolidated financial statements of the Company.
In the normal course of business, the Bank makes various commitments and
incurs certain contingent liabilities that are not presented in the accompanying
consolidated financial statements. The commitments and contingent liabilities
include various guarantees, commitments to extend credit and standby letters of
credit. As of December 31, 1999, the Bank had undisbursed loan commitments other
than construction loans in process, stand-by letters of credit and commitments
under lines of credit as follows:
Undisbursed loan commitments $411,000
Stand-by letters of credit -
Commitments under lines of credit 137,373
--------
$548,373
========
The Company is also a party to other legal actions arising in the ordinary
course of business. Management believes that damages arising from these actions,
if any, will not be material to the consolidated financial statements of the
Company.
19. Earnings Per Share
A reconciliation of the numerators and denominators of the basic earnings
per share computations for the years ended December 31, 1999, 1998, and 1997 to
the numerators and denominators of the diluted earnings per share computations
for the respective periods follows:
<TABLE>
<CAPTION>
1999 1998 1997
------------------------------- --------------------------------- ------------------------------
Per Per Per
Net Income Shares Share Net Income Shares Share Net Income Shares Share
---------- ---------- ----- ---------- ---------- ----- ---------- ------ -----
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Basic................... $25,919,260 18,491,473 $ 1.40 $19,579,150 17,064,954 $ 1.15 $14,976,704 17,239,065 $ 0.87
Effect of Dilutive
Options and
Warrants............... - 761,383 (0.05) - 916,491 (0.06) - 247,402 (0.01)
----------- ---------- ------ ----------- ---------- ------ ----------- ---------- ------
Diluted................. $25,919,260 19,252,856 $ 1.35 $19,579,150 17,981,445 $ 1.09 $14,976,704 17,486,467 $ 0.86
=========== ========== ====== =========== ========== ====== =========== ========== ======
</TABLE>
All outstanding options and warrants were included in the computation of
diluted earnings per share in 1999.
Stock options to purchase 4,500 shares of common stock at an exercise price
of $21.59 per share were outstanding during 1998, but were not included in the
computation of diluted earnings per share because the exercise price of the
stock options was greater than the average market price of the common shares
and, therefore, were antidilutive. These stock options expire in April 2008.
Stock options to purchase 461,250 shares of common stock at a weighted
average exercise price of $11.85 per share and warrants to purchase 477,000
shares of common stock at $10.67 per share were outstanding during 1997 but were
not included in the computation of diluted earnings per share because the
exercise prices of the stock options and warrants were greater than the average
market price of the common shares and, therefore, were antidilutive. These stock
options and warrants have expiration dates ranging from October, 1999 to March,
2009.
F-21
<PAGE>
UNITED PAYORS & UNITED PROVIDERS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
20. Selected Quarterly Financial Data (Unaudited)
<TABLE>
<CAPTION>
Quarter End Quarter Ended Quarter End Quarter End
March 31 June 30 September 31 December 31
----------- -------------- -------------- -----------
<S> <C> <C> <C> <C>
1999:
Revenue......................... $23,722 $27,154 $28,235 $29,546
Operating profit................ 9,380 10,630 10,845 11,414
Net income...................... 5,599 6,506 6,679 7,135
Net income per share basic...... 0.32 0.35 0.35 0.37
Net income per share-- diluted.. 0.31 0.34 0.34 0.36
1998:
Revenue......................... $18,598 $19,097 $19,516 $21,238
Operating profit................ 7,558 8,168 8,954 9,044
Net income...................... 4,396 4,812 5,037 5,334
Net income per share basic...... 0.26 0.28 0.29 0.31
Net income per share-- diluted 0.25 0.27 0.28 0.30
</TABLE>
21. Subsequent Events
On February 4, 2000, the Company entered into a Merger Agreement with BCE
Emergis, Inc. of Canada. The merger is subject to shareholder approval and
certain other regulatory approvals. A Special Meeting of the shareholders of
UP&UP is expected to be held in March 2000. If the merger is approved,
shareholders of UP&UP will receive $27.00 cash for each share of common stock
owned.
F-22
