SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2000
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ___________ to ___________
Commission File Number: 1-13263
CASTLE DENTAL CENTERS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 76-0486898
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
1360 POST OAK BOULEVARD, SUITE 1300 77056
HOUSTON, TEXAS (ZIP CODE)
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
Registrant's telephone number, including area code: (713) 479-8000
N/A
(FORMER NAME, FORMER ADDRESS AND FORMER FISCAL YEAR, IF CHANGED SINCE LAST YEAR)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [ ]
The number of shares of Common Stock issued and outstanding, par value,
$0.001 per share, as of November 14, 2000 was 6,417,206.
<PAGE>
CASTLE DENTAL CENTERS, INC.
INDEX
PAGE
----
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
Condensed Consolidated Balance Sheets
December 31, 1999 and September 30, 2000 ...................... 3
Condensed Consolidated Statements of Operations
For the Three Months and Nine Months Ended September 30, 1999
and 2000 ...................................................... 4
Condensed Consolidated Statements of Cash Flows
For the Nine Months Ended September 30, 1999 and 2000 ......... 5
Notes to Condensed Consolidated Financial Statements ............ 6
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operations ......... 10
Item 3. Quantitative and Qualitative Disclosures
About Market Risks ....................................... 16
PART II ...................................................................
Item 1. Legal Proceedings ........................................ 17
Item 2. Changes in Securities and Use of Proceeds ................ 17
Item 3. Defaults Upon Senior Securities .......................... 17
Item 4. Submission of Matters to a Vote of Security Holders ...... 17
Item 5. OTHER INFORMATION ........................................ 17
Item 6. Exhibits and Reports on Form 8-K ......................... 17
SIGNATURES ................................................................ 18
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<PAGE>
PART I: FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CASTLE DENTAL CENTERS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)
(in thousands, except share data)
<TABLE>
<CAPTION>
DECEMBER 31, SEPTEMBER 30,
1999 2000
------------- -------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents ............................................. $ 59 $ 1,670
Patient receivables, net .............................................. 16,928 11,121
Unbilled patient receivables, net ..................................... 4,667 3,068
Prepaid expenses and other current assets ............................. 6,687 2,710
------------- -------------
Total current assets ........................................... 28,341 18,569
------------- -------------
Property and equipment, net ............................................... 20,361 20,243
Intangible assets, net .................................................... 64,020 60,952
Other assets .............................................................. 2,260 2,199
------------- -------------
Total assets .................................................... $ 114,982 $ 101,963
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Current portion of long-term debt and capital lease obligations ....... $ 2,192 $ 63,232
Accounts payable and accrued liabilities .............................. 9,855 11,556
Deferred compensation payable, related party .......................... 526 132
------------- -------------
Total current liabilities ...................................... 12,573 74,920
------------- -------------
Long-term debt and capital lease obligations, net of current portion ...... 53,996 991
Deferred income taxes ..................................................... 6,896 --
Minority interest ......................................................... 4,354 --
Commitments and contingencies
Stockholders' equity:
Common stock, $.001 par value, 19,000,000 shares authorized;
6,417,206 shares issued and outstanding ............................... 6 6
Additional paid-in capital .............................................. 42,086 42,086
Accumulated deficit ..................................................... (4,929) (16,040)
------------- -------------
Total stockholders' equity ...................................... 37,163 26,052
------------- -------------
Total liabilities and stockholders' equity ........................... $ 114,982 $ 101,963
============= =============
</TABLE>
The accompanying notes are an integral part of the condensed
consolidated financial statements.
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<PAGE>
CASTLE DENTAL CENTERS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
(in thousands, except per share data)
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
----------------------- -----------------------
1999 2000 1999 2000
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Net patient revenues ............................. $ 26,092 $ 27,115 $ 76,920 $ 80,344
Expenses:
Dentist salaries and other professional costs .... 6,842 7,116 20,387 21,025
Clinical salaries ................................ 5,323 5,396 16,096 15,556
Dental supplies and laboratory fees .............. 2,341 2,839 6,820 8,490
Rental and lease expense ......................... 1,598 2,281 4,528 5,645
Advertising and marketing ........................ 1,138 1,089 2,899 3,023
Depreciation and amortization .................... 1,440 1,783 4,295 5,166
Other operating expenses ......................... 1,466 1,917 4,434 5,472
Bad debt expense ................................. 1,021 9,637 2,423 11,935
General and administrative .................. 2,890 3,789 7,801 9,115
Asset impairment ............................ -- 1,910 -- 1,910
---------- ---------- ---------- ----------
Total expenses ......................... 24,059 37,757 69,683 87,337
---------- ---------- ---------- ----------
Operating income (loss) .......................... 2,033 (10,642) 7,237 (6,993)
Litigation settlement ............................ -- -- 1,366 1,495
Interest expense ................................. 1,140 1,915 3,155 5,011
Other expense (income), net ...................... 38 (1) 41 (6)
---------- ---------- ---------- ----------
Income (loss) before income taxes ................ 855 (12,556) 2,675 (13,493)
Provision (benefit) for income taxes ............. 348 (2,043) 1,058 (2,382)
---------- ---------- ---------- ----------
Net income (loss) ................................ $ 507 $ (10,513) $ 1,617 $ (11,111)
========== ========== ========== ==========
Income (loss) per common share:
Basic and diluted: ............................... $ 0.07 $ (1.64) $ 0.24 $ (1.72)
========== ========== ========== ==========
Weighted average number of common and
common equivalent shares outstanding
Basic and diluted .......................... 6,825 6,417 6,825 6,462
========== ========== ========== ==========
</TABLE>
The accompanying notes are an integral part of the condensed
consolidated financial statements.
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<PAGE>
CASTLE DENTAL CENTERS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(in thousands)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30,
----------------------------
1999 2000
------------ ------------
<S> <C> <C>
Net cash provided by operating activities ............................ $ 357 $ 3,517
Investing activities:
Capital expenditures ............................................ (8,352) (3,086)
Acquisition of affiliated practices, net of cash acquired ....... (365) (5,039)
------------ ------------
Net cash used by investing activities ................................ (8,717) (8,125)
------------ ------------
Financing activities:
Payments of long-term debt and capital lease obligations ........ (1,249) (8,976)
Proceeds from debt .............................................. 9,200 16,870
Bank overdraft .................................................. -- (818)
Debt issuance costs ............................................. -- (857)
------------ ------------
Net cash provided by financing activities ............................ 7,951 6,219
------------ ------------
Net change in cash and cash equivalents ......................... (409) 1,611
Cash and cash equivalents, beginning of period ....................... 695 59
------------ ------------
Cash and cash equivalents, end of period ............................. $ 286 $ 1,670
============ ============
</TABLE>
The accompanying notes are an integral part of the condensed
consolidated financial statements.
-5-
<PAGE>
CASTLE DENTAL CENTERS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION:
Castle Dental Centers, Inc. and subsidiaries (the "Company") provide
administrative and management services, non-healthcare personnel, facilities and
equipment to certain professional corporations in Texas, Florida, California and
Tennessee ("affiliated dental practices") under long-term management services
agreements.
The consolidated financial statements include the accounts of the Company
and all wholly owned and beneficially-owned subsidiaries and the accounts of
affiliated dental practices in which the Company has a long-term controlling
financial interest. Because of corporate practice of medicine laws in the states
in which the Company operates, the Company does not own dental practices but
instead enters into exclusive long-term management services agreements
("Management Services Agreements) with professional corporations that operate
the dental practices. In addition, the Company has the contractual right to
designate, in its sole discretion and at any time, the licensed dentist who is
the majority shareholder of the capital stock of the professional corporation at
a nominal cost ("nominee arrangements"). At September 30, 2000, all of the
affiliated dental practices were owned by dentists with whom the Company had a
nominee arrangement. Under the Management Services Agreements, the Company
establishes annual operating and capital budgets for the professional
corporations and compensation guidelines for the licensed dental professionals.
The Management Services Agreements have initial terms of twenty-five to forty
years. The management fee charged by the Company to an affiliated dental
practice is intended to reflect and is based on the fair value of the management
services rendered by the Company to the affiliated dental practice. Subject to
applicable law, the management fee earned by the Company, except professional
corporations located in California, is generally comprised of three components:
(i) the costs incurred by it on behalf of the affiliated dental practice; (ii) a
base management fee ranging from 12.5% to 20.0% of patient revenues; and, (iii)
a performance fee equal to the patient revenues of the affiliated dental
practice less (a) the expenses of the affiliated dental practice and (b) the sum
of (i) and (ii), as described in the agreements. In California, the Company is
paid a monthly management fee comprised of two components: (i) the costs
incurred by it on behalf of the affiliated practice and (ii) a management fee in
an amount ranging from 15.0% to 30.0% of net patient revenues. The amount of the
management fee is reviewed by the Company and the affiliated dental practice at
least annually in order to determine whether such fee should be adjusted to
continue to reflect the fair value of the management services rendered by the
Company.
Through the management services agreements and the nominee arrangements,
the Company has a significant long-term controlling financial interest in the
affiliated dental practices and, therefore, according to Emerging Issues Task
Force Issue No. 97-2, "Application of FASB Statement No. 94, CONSOLIDATION OF
ALL MAJORITY-OWNED SUBSIDIARIES, and APB No. 16, BUSINESS COMBINATIONS, to
Physician Practice Management Entities and Certain Other Entities with
Contractual Management Agreements," must consolidate the results of the
affiliated practices with those of the Company. Net patient revenues are
presented in the accompanying statement of operations because the Company must
present consolidated financial statements. All significant intercompany accounts
and transactions, including management fees, have been eliminated in
consolidation.
The accompanying unaudited condensed consolidated financial statements as
of September 30, 2000 and for the three and nine months ended September 30, 1999
and 2000 include the accounts of the Company and its majority owned management
company subsidiaries and the affiliated dental practices. Pursuant to the rules
and regulations of the Securities and Exchange Commission, certain information
and footnote disclosures normally included in annual financial statements
prepared in accordance with generally accepted accounting principles have been
omitted. The unaudited condensed consolidated financial statements have been
prepared consistent with the accounting policies reflected in the Company's
annual financial statements included in the Company's Form 10-K filed with the
Securities and Exchange Commission, and should be read in conjunction therewith.
In management's opinion, the unaudited condensed
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<PAGE>
CASTLE DENTAL CENTERS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
consolidated financial statements include all adjustments, consisting of normal
recurring adjustments, considered necessary for a fair presentation of such
financial statements. Interim results are not necessarily indicative of results
for a full year.
In December 1999, the Unites States Securities and Exchange Commission
issued Staff Accounting Bulletin ("SAB") No. 101 "Revenue Recognition in
Financial Statements, "as amended, which for the Company is effective October 1,
2000. SAB No. 101 summarizes certain of the staff's views in applying generally
accepted accounting principles to revenue recognition in financial statements.
The Company believes that implementation of SAB No. 101 will have no material
impact on its financial statements.
2. EARNINGS PER SHARE:
Basic earnings per share for all periods presented equals net income
divided by weighted average number of shares of common stock outstanding during
each period. Diluted earnings per share reflect the effect of dilutive stock
options, if applicable.
3. ASSET IMPAIRMENT, ALLOWANCE FOR DOUBTFUL ACCOUNTS RECEIVABLE AND OTHER
ITEMS
In September 2000, the Company recorded charges totaling $11.9 million on
a pre-tax basis. The charges included $1.9 million in asset impairment, $8.5
million in bad debt expense, $0.5 million in rent and lease expense, $50,000 in
other operating expenses and $1.0 million in general and administrative
expenses.
The $1.9 million asset impairment results primarily from the closing of
six dental offices in Florida, Texas and California, and the write-off of
related intangible assets and long-term receivables associated with certain
acquisitions. As a result, the Company reduced intangible assets by
approximately $0.9 million, leasehold improvements and equipment by
approximately $0.3 million, and other assets by approximately $0.7 million.
The increase in bad debt expense of $8.5 million results from a change in
the estimate of the allowance for doubtful accounts for both billed accounts
receivable and unbilled accounts receivable from orthodontic patients. Higher
than expected attrition rates for orthodontic patients and lower than expected
collection rates from patients with insurance are the primary causes for the
increase in the allowance for doubtful accounts.
Rent and lease expenses result from the accrual of future lease
commitments on closed dental centers and on properties that are under lease but
that will not be built-out due to the Company's plan to reduce capital
expenditures. General and administrative expenses of $1.0 million and other
operating expenses of $50,000 represent investment costs related to the
investigations of strategic alternatives, provisions for litigation and
severance costs.
4. ACQUISITIONS:
In January 2000, the Company entered into a settlement agreement with
Dental Consulting Services, LLC ("DCS"), a 20% shareholder in the Company's
California entity, Castle West. Pursuant to the terms of the settlement
agreement, the Company acquired the 20% minority interest and a conversion right
held by DCS. Total consideration paid by the Company was $5.3 million of which
$300,000 was paid in November 1999 as a deposit. The additional consideration
was recorded as follows
Prepaid expenses and other current assets ..................... $ (334)
Other assets .................................................. (305)
Management services agreements ................................ 149
Accounts payable and accrued liabilities ...................... (100)
Deferred income taxes ......................................... 1,275
Minority interest ............................................. 4,354
-------
Cash purchase price, net of cash acquired ................. $ 5,039
=======
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<PAGE>
CASTLE DENTAL CENTERS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
5. LONG-TERM DEBT AND CAPITAL LEASE OBLIGATIONS:
The Company maintains a revolving credit agreement with its bank (the
"Credit Agreement") that provides for borrowings up to $55.0 million and is
scheduled to mature in November 2002. Revolving credit advances under the Credit
Agreement require quarterly interest payments through March 2001 at which time
principal becomes payable based on a five-year quarterly amortization and a
final payment at maturity. Borrowings under the bank credit facility may at no
time exceed a specified borrowing base, which is calculated as a multiple of the
Company's earnings before interest, income taxes, depreciation and amortization
("EBITDA"), as adjusted. The Credit Agreement bears interest at variable rates,
which are based upon (a) either (i) the bank's base rate or (ii) LIBOR plus (b)
a margin which varies according to the ratio of the Company's funded debt to
EBITDA, each as defined in the Credit Agreement. A commitment fee is payable
quarterly at rates ranging from 0.125 percent to 0.5 percent of the unused
amounts for such quarter. The Credit Agreement is collateralized by
substantially all of the Company's assets and contains affirmative and negative
covenants that require the Company to maintain certain financial ratios, limit
the creation or existence of liens and set certain restrictions on acquisitions,
mergers, sale of assets and restrict the payment of dividends. At September 30,
2000, approximately $45.2 million was outstanding under the Credit Agreement.
In January 2000, the Company amended its Credit Agreement and entered into
a senior subordinated note agreement (Subordinated Note Agreement) and a
subordinated convertible note agreement (Convertible Note Agreement) with two
lenders. The Subordinated Note Agreement and Convertible Note Agreement provide
for borrowings of $13.7 million and $1.3 million, respectively. Loans under the
Subordinated Note Agreement bear interest at the 90-day LIBOR rate plus five and
one-half percent, payable quarterly, and are due in eight quarterly installments
beginning in the sixty-third month following the closing date. Loans under the
Convertible Note Agreement bear interest at the same rate as loans under the
Subordinated Note Agreement and are due on demand beginning seven years after
the closing date with a final maturity date of January 30, 2009. The convertible
note is convertible at any time into 442,880 shares of Company common stock at
the request of the holders at a fixed conversion price of $3.1125 per share. The
Subordinated Note Agreement and Convertible Note Agreement contain affirmative
and negative covenants that require that the Company maintain certain financial
ratios, limit the amount of additional indebtedness, limit the creation or
existence of liens, set certain restrictions on acquisitions, mergers and sales
of assets and restrict the payment of dividends.
As a result of losses incurred in the second and third quarters of 2000,
the Company has not been in compliance with certain financial covenants of the
Credit Agreement, Subordinated Note Agreement and Convertible Note Agreement
(Debt Agreements) since June 30, 2000. As a result, amounts outstanding under
these agreements were subject to acceleration. Accordingly, the Company was in
default under these agreements and has classified the related debt as a current
liability. The Company has requested waivers of these covenant violations and is
negotiating with its lenders to obtain such waivers and to restructure the Debt
Agreements. There is no assurance that the Company will receive the requested
waivers or that it will be able to restructure the Debt Agreements. Based upon
its current operating plans, which assume that the debt is not accelerated, the
Company projects to have sufficient funds to meet its operating requirements
through the fiscal year ending December 31, 2000. However, there will not be
sufficient funds to begin scheduled repayments under the Credit Agreement in
March 2001 or pay the outstanding debt under the Debt Agreements if waivers
cannot be obtained. Management believes it will be able to replace the bank
credit facility with other financing or restructure the bank credit facility.
However, there is no assurance that such financing will be available or that the
related terms and conditions will be acceptable to the Company. If the Company
cannot obtain such alternative financing or refinancing of its current line of
credit, it would have a material and adverse effect on the Company's financial
position. In addition, the Company has not made approximately $0.9 million in
principal and interest payments due to the subordinated note holders in
September and October 2000, because it is restricted from making such payments
as long as the Company is in default of the Credit Agreement.
In order to increase its liquidity, the Company has developed the
following strategies; (i) suspension of the development of any new dental
centers, (ii) implementation of stricter credit policies to reduce the amount of
new accounts receivable, (iii) selective reductions in personnel and other
overhead expenses, (iv) raising additional capital, and (v) seeking other
strategic alternatives such as the merger or sale of the Company. However, there
can be no assurance that these efforts will be successful.
-8-
<PAGE>
CASTLE DENTAL CENTERS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)
6. INCOME TAXES
In September 2000, the Company recorded a valuation allowance of
approximately $2.5 million against the Company's entire net deferred tax asset,
because there is no assurance that the Company will be able to recognize the tax
asset.
7. COMMITMENTS AND CONTINGENCIES:
In June 2000, the Company recorded litigation expenses of $1,495,000
resulting from an arbitration award against two subsidiaries of the Company in
an arbitration proceeding in Los Angeles, California. The arbitrator found that
the subsidiaries had breached a contractual agreement to acquire a dental
practice and awarded the plaintiffs actual damages and costs of $442,000. In
August 2000, the arbitrator awarded the plaintiffs an additional $666,000 for
attorney fees and costs, resulting in a total judgment of $1,108,000 against the
Company's subsidiaries. This amount, as well as additional legal expenses
incurred by the Company, was included in the litigation expenses recorded in
June 2000. None of the judgment amount awarded to the plaintiffs has been paid
as of November 20, 2000.
The Company carries insurance with coverage and coverage limits that it
believes to be customary in the dental industry. Although there can be no
assurance that such insurance will be sufficient to protect the Company against
all contingencies, management believes that its insurance protection is
reasonable in view of the nature and scope of the Company's operations.
The Company is from time to time subject to claims and suits arising in
the ordinary course of operations. In the opinion of management, the ultimate
resolution of such pending legal proceedings will not have a material adverse
effect on the Company's financial position, results of operations or liquidity.
8. SEGMENT INFORMATION
The following table sets forth the financial information with respect to
the Company and its reportable segments:
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
---------------------------- ----------------------------
1999 2000 1999 2000
------------ ------------ ------------ ------------
(in thousands)
<S> <C> <C> <C> <C>
Net patient revenues:
Texas ............................................... $ 17,617 $ 18,434 $ 50,942 $ 54,006
Florida ............................................. 3,112 2,644 9,465 8,630
Tennessee ........................................... 2,706 3,268 7,574 9,608
California .......................................... 2,657 2,769 8,939 8,100
------------ ------------ ------------ ------------
Total net patient revenues ....................... $ 26,092 $ 27,115 $ 76,920 $ 80,344
============ ============ ============ ============
Operating income:
Texas ............................................... $ 2,496 $ (1,108) $ 7,681 $ 3,861
Florida ............................................. 203 (1,131) 551 (838)
Tennessee ........................................... 328 150 812 808
California .......................................... 193 (325) 1,430 415
Corporate, general and administrative expenses (1)... (1,187) (8,228) (3,237) (11,239)
------------ ------------ ------------ ------------
Total operating income (loss) .................... 2,033 (10,642) 7,237 (6,993)
Interest expense ....................................... 1,140 1,915 3,155 5,011
Other (income) expense ................................. 38 (1) 41 (6)
Litigation settlement .................................. -- -- 1,366 1,495
------------ ------------ ------------ ------------
Income (loss) before income taxes ................ $ 855 $ (12,556) $ 2,675 $ (13,493)
============ ============ ============ ============
</TABLE>
(1) includes unallocated bad debt expense.
-9-
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
THIS QUARTERLY REPORT ON FORM 10-Q CONTAINS FORWARD LOOKING STATEMENTS WITHIN
THE MEANING OF THE SECURITIES ACT OF 1933 AND SECTION 21B OF THE SECURITIES AND
EXCHANGE ACT OF 1934. THE COMPANY'S ACTUAL RESULTS COULD DIFFER MATERIALLY FROM
THOSE SET FORTH IN THE FORWARD-LOOKING STATEMENTS. CERTAIN FACTORS THAT MIGHT
CAUSE SUCH A DIFFERENCE INCLUDE, AMONG OTHERS, THE CHANGING ENVIRONMENT FOR
DENTAL HEALTH CARE, THE PACE OF THE COMPANY'S DEVELOPMENT AND ACQUISITION
ACTIVITIES, THE REIMBURSEMENT RATES FOR DENTAL SERVICES, AND OTHER RISK FACTORS
DETAILED IN THE COMPANY'S SECURITIES AND EXCHANGE COMMISSION FILINGS, INCLUDING
THE COMPANY'S FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 1999, AS FILED WITH THE
U.S. SECURITIES AND EXCHANGE COMMISSION.
OVERVIEW
The Company develops, manages and operates integrated dental networks through
contractual affiliations with general, orthodontic and multi-specialty dental
practices in Texas, Florida, California and Tennessee. The Company does not
engage in the practice of dentistry but rather establishes integrated dental
networks through affiliations with dental practices providing quality care in
selected markets with a view to establishing broad geographic coverage within
those markets. The Company seeks to achieve operating efficiencies by
consolidating and integrating affiliated practices into regional networks,
realizing economies of scale in such areas as marketing, administration and
purchasing and enhancing the revenues of its affiliated dental practices by
increasing both patient visits and the range of specialty services offered. At
November 20, 2000 the Company managed 100 dental centers with approximately 235
affiliated dentists, orthodontists and specialists.
COMPONENTS OF REVENUES AND EXPENSES
Net patient revenues represent amounts billed by the affiliated dental
practices to patients and third-party payors for dental services rendered.
Revenues are reported at established rates reduced by contractual amounts based
on agreements with patients, third party payers and others obligated to pay for
services rendered.
Under the terms of the typical management services agreement with an
affiliated dental practice, the Company becomes the exclusive manager and
administrator of all non-dental services relating to the operation of the
practice. While actual terms of the various management service agreements may
vary from practice to practice, material aspects of all the management service
agreements, including the ability of the Company to nominate the majority
shareholder and the calculation of the management fees, are consistent. The
obligations of the Company include assuming responsibility for the operating
expenses incurred in connection with managing the dental centers. These expenses
include salaries, wages and related costs of non-dental personnel, dental
supplies and laboratory fees, rental and lease expenses, advertising and
marketing costs, management information systems, and other operating expenses
incurred at the dental centers. In addition to these expenses, the Company
incurs general and administrative expenses related to the billing and collection
of accounts receivable, financial management and control of the dental
operations, insurance, training and development, and other general corporate
expenditures.
RESULTS OF OPERATIONS
The following table sets forth the percentages of patient revenues
represented by certain items reflected in the Company's Statement of Operations.
The information that follows should be read in conjunction with the Annual
audited Financial Statements and notes thereto of the Company included in the
Company's Form 10-K filed with the Securities and Exchange Commission, as well
as the unaudited Financial Information, included in this Form 10-Q.
-10-
<PAGE>
<TABLE>
<CAPTION>
FOR THE THREE MONTHS ENDED FOR THE NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
---------------------------- ----------------------------
1999 2000 1999 2000
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Net patient revenues ............................................ 100.0% 100.0% 100.0% 100.0%
Expenses:
Dentist salaries and other professional costs .............. 26.2% 26.2% 26.5% 26.2%
Clinical salaries .......................................... 20.4% 19.9% 20.9% 19.4%
Dental supplies and laboratory fees ........................ 8.9% 10.5% 8.9% 10.6%
Rental and lease expense ................................... 6.1% 8.4% 5.9% 7.0%
Advertising and marketing ....................................... 4.4% 4.0% 3.8% 3.8%
Depreciation and amortization .............................. 5.5% 6.6% 5.6% 6.4%
Other operating expenses ................................... 5.7% 7.1% 5.8% 6.8%
Bad debt expense ........................................... 3.9% 35.5% 3.1% 14.9%
General and administrative ................................. 11.1% 14.0% 10.1% 11.3%
Asset impairment ........................................... - % 7.0% - % 2.4%
------------ ------------ ------------ ------------
Total expenses ........................................ 92.2% 139.2% 90.6% 108.7%
------------ ------------ ------------ ------------
Operating income (loss) ......................................... 7.8% (39.2%) 9.4% (8.7%)
Litigation settlement ........................................... - % - % 1.8% 1.9%
Interest expense ................................................ 4.4% 7.1% 4.1% 6.2%
Other expense (income), net ..................................... 0.2% - % 0.1% - %
------------ ------------ ------------ ------------
Income (loss) before income taxes ............................... 3.2% (46.3%) 3.4% (16.8%)
Provision (benefit) for income taxes ............................ 1.3% (7.5%) 1.4% (3.0%)
------------ ------------ ------------ ------------
Net income (loss) ............................................... 1.9% (38.8%) 2.0% (13.8%)
============ ============ ============ ============
</TABLE>
THREE MONTHS ENDED SEPTEMBER 30, 2000 COMPARED TO THREE MONTHS ENDED
SEPTEMBER 30, 1999
NET PATIENT REVENUE - Net patient revenues of affiliated dental practices
increased from $26.1 million to $27.1 million, an increase of $1.0 million or
3.9%. Approximately, $1.2 million of the increase was attributable to the
opening of 12 de novo offices in Texas, Florida and Tennessee. Patient revenues
for dental centers open for more than one year increased approximately $0.7
million, or 2.6%, from the third quarter of 1999, offset by decreased revenues
of approximately $0.9 million from six dental centers closed in the last year.
DENTIST SALARIES AND OTHER PROFESSIONAL COSTS - Dentist salaries and other
professional costs consist primarily of compensation paid to dentists,
orthodontists, and hygienists employed by the affiliated dental practices. For
the three months ended September 30, 2000, dentist salaries and other
professional costs were $7.1 million, an increase of $0.3 million, or 4.0%, from
the comparable period of 1999. The increase was due primarily to the staffing of
de novo dental centers and increased dentist compensation resulting from higher
patient revenues. Expressed as a percentage of net patient revenues, dentist
salaries and other professional costs remained unchanged at 26.2% for the three
months ended September 30, 1999 and the comparable 2000 period.
CLINICAL SALARIES - Clinical salaries increased from $5.3 million for the
three months ended September 30, 1999, to $5.4 million for the three months
ended September 30, 2000, an increase of $0.1 million, or 1.4%. The de novo
dental centers accounted for the increase. Expressed as a percentage of net
patient revenues, clinical salaries decreased from 20.4% for the three months
ended September 30, 1999 to 19.9% for the comparable 2000 period.
DENTAL SUPPLIES AND LABORATORY FEES - Dental supplies and laboratory fees
increased from $2.3 million for the three months ended September 30, 1999 to
$2.8 million for the three months ended September 30, 2000, an increase of $0.5
million, or 21.3%. The increase is attributable to additional dental supplies
required for the opening of de novo dental centers and increased lab costs.
Expressed as a percentage of patient revenues, dental supplies and laboratory
fees increased from 8.9% to 10.5% for the three-month periods ended September
30, 1999 and 2000, respectively.
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RENT AND LEASE EXPENSE - Rent and lease expense increased from $1.6 million
for the three months ended September 30, 1999, to $2.3 million for the three
months ended September 30, 2000, an increase of $0.7 or 42.7%. Lease expense in
the three month period ended September 30, 2000 included the accrual of $0.5
million in lease expense on closed dental centers and on properties that are
under lease but that will not be built-out due to the Company's plan to reduce
capital expenditures. The Company is attempting to sublease these properties or
otherwise terminate the lease obligations. Excluding this charge, rent and lease
expense, expressed as a percentage of net patient revenues, increased from 6.1%
for the three months ended September 30, 1999 to 6.5% for the comparable 2000
period. This increase is attributable primarily to the addition of de novo
dental centers.
ADVERTISING AND MARKETING - Advertising and marketing expense of $1.1
million for the three months ended September 30, 2000, was relatively unchanged
from the prior year period. Expressed as a percentage of net patient revenues,
advertising and marketing decreased from 4.4% for the three months ended
September 30, 1999 to 4.0% for the comparable 2000 period, resulting from
favorable leveraging of advertising expenditures.
DEPRECIATION AND AMORTIZATION - Depreciation and amortization increased
from $1.4 million for the three months ended September 30, 1999, to $1.8 million
for the three months ended September 30, 2000, an increase of $0.3 million, or
23.8%. The increase is attributable primarily to the addition of leasehold
improvements and dental equipment associated with the opening of de novo centers
and management information system. Expressed as a percentage of net patient
revenues, depreciation and amortization increased from 5.5% for the three months
ended September 30, 1999 to 6.6% for the comparable 2000 period.
OTHER OPERATING EXPENSES - Other operating expenses increased from $1.5
million for the three months ended September 30, 1999 to $1.9 million for the
comparable period of 2000, an increase of approximately $0.5 million or 30.8%.
Other operating expenses include expenses related to the operation of the
Company's dental centers, such as utilities, taxes and management information
systems. Expressed as a percentage of net patient revenues, other operating
expenses increased from 5.6% for the three months ended September 30, 1999 to
7.1% for the comparable 2000 period.
BAD DEBT EXPENSE - Bad debt expense increased from $1.0 million for the
three months ended September 30, 1999 to $9.6 million for the three months ended
September 30, 2000, including a charge of $8.5 million to record additional
allowance for doubtful accounts receivable. The Company has changed its
estimates for the collectibility of certain categories of accounts receivable
resulting in additional charges of $6.4 million on billed accounts receivable
and $2.1 million of unbilled accounts receivable from orthodontic patients.
Lower collection rates on patients with insurance, slower payments from
insurance companies, and higher than expected attrition on orthodontic patients
accounted for the change in estimates. Management is continuing to review and
modify credit and collection policies in order to reduce the level of accounts
receivable and to increase collection of past-due accounts. It is anticipated
that the change in estimates for the collection of accounts receivable will
result in higher rates of bad debt expense in future periods, until such time as
the collectibility of accounts receivable is improved.
GENERAL & ADMINISTRATIVE EXPENSE - General and administrative expenses
increased from $2.9 million for the three months ended September 30, 1999, to
$3.8 million for the three months ended September 30, 2000, an increase of $0.9
million, or 31.1%. Excluding charges of $1.0 million, general and administrative
expenses were $2.8 million in the third quarter 2000, 3.9% lower than third
quarter 1999 general and administrative expenses. The charges included
investment costs related to the investigations of strategic alternatives,
provisions for litigation and severance costs. Excluding these charges, general
and administrative expenses, expressed as a percentage of net patient revenues,
decreased from 11.1% for the three months ended September 30, 1999 to 10.2% for
the comparable 2000 period.
ASSET IMPAIRMENT - The closing of six under-performing dental centers in
Florida, California and Texas resulted in the write-off of $1.9 million in
leasehold improvements, intangible assets and long-term receivables related to
those offices and associated acquisitions. The closed offices included two
dental centers on the east coast of Florida, two centers in the Los Angeles
area, and two centers in Texas. The write-off of intangible assets related to
the acquisition of the dental centers on the east coast of Florida and one of
the California dental centers.
INTEREST EXPENSE - Interest expense increased from $1.1 million for the
three months ended September 30, 1999 to $1.9 million for three months ended
September 30, 2000, an increase of $0.8 million. The increase is attributable to
higher borrowings and an increase in variable interest rates under the Credit
Agreement and the senior subordinated credit agreements.
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PROVISION FOR INCOME TAXES - For the three months ended September 30, 1999,
the Company recorded a provision for income taxes of $0.3 million, resulting
from income before income taxes of $0.9 million. For the three months ended
September 30, 2000, the Company recorded a benefit for income taxes of $2.0
million resulting from a loss before income taxes of $12.6 million. The benefit
for income taxes in the third quarter 2000 was reduced by a valuation allowance
of approximately $2.5 million that was recorded against the Company's entire
deferred tax asset, because there is no assurance that the Company will be able
to recognize the tax asset in the future. Accordingly, the benefit for income
taxes recorded in the three-month period ended September 30, 2000 was limited to
16.3% of the loss before income taxes.
NINE MONTHS ENDED SEPTEMBER 30, 2000 COMPARED TO NINE MONTHS ENDED SEPTEMBER 30,
1999
NET PATIENT REVENUE - Net patient revenues of affiliated dental practices
increased from $76.9 million for the nine months ended September 30, 1999, to
$80.3 million for the nine months ended September 30, 2000, an increase of $3.4
million or 4.5%. Approximately $4.8 million of the increase was attributable to
the opening of de novo dental centers in Texas, Florida and Tennessee. Patient
revenues for dental centers open for more than one year increased approximately
$1.2 million, or 1.5%, from the first nine months of 1999, offset by decreased
revenues of approximately $2.7 million from six dental centers closed in the
last year.
DENTIST SALARIES AND OTHER PROFESSIONAL COSTS - Dentist salaries and other
professional costs consist primarily of compensation paid to dentists,
orthodontists, and hygienists employed by the affiliated dental practices. For
the nine months ended September 30, 2000, dentist salaries and other
professional costs were $21.0 million, an increase of $0.6 million or 3.1% from
the comparable period of 1999. The increase was due primarily to the staffing of
de novo dental centers and increased dentist compensation resulting from higher
patient revenues. Expressed as a percentage of net patient revenue, dentist
salaries and other professional costs decreased from 26.5% for the nine months
ended September 30, 1999 to 26.2% for the comparable 2000 period.
CLINICAL SALARIES - Clinical salaries decreased from $16.1 million for the
nine months ended September 30, 1999, to $15.6 million for the nine months ended
September 30, 2000, a decrease of $0.5 million or 3.4%. The decrease was due
primarily to reduced staffing in the dental centers. Expressed as a percentage
of net patient revenues, clinical salaries decreased from 20.9% for the nine
months ended September 30, 1999 to 19.4% for the comparable 2000 period.
DENTAL SUPPLIES AND LABORATORY FEES - Dental supplies and laboratory fees
increased from $6.8 million for the nine months ended September 30, 1999 to $8.5
million for the nine months ended September 30, 2000, an increase of $1.7
million or 24.5%. The increase is attributable to additional dental supplies
required for the opening of de novo dental centers and increased laboratory
costs. Expressed as a percentage of patient revenues, dental supplies and
laboratory fees increased from 8.9% for the nine months ended September 30, 1999
to 10.6% for the comparable 2000 period.
RENT AND LEASE EXPENSE - Rent and lease expense increased from $4.5
million for the nine months ended September 30, 1999 to $5.6 million for the
nine months ended September 30, 2000, an increase of $1.1 million or 24.7%.
Lease expense in the nine month period ended September 30, 2000 included the
accrual of $0.5 million in lease expense on closed dental centers and on
properties that are under lease but that will not be built-out due to the
Company's plan to reduce capital expenditures. Excluding this charge, rent and
lease expense, expressed as a percentage of net patient revenues, increased from
5.9% for the nine months ended September 30, 1999 to 6.4% for the comparable
2000 period. This increase is attributable primarily to the addition of de novo
dental centers.
ADVERTISING AND MARKETING - Advertising and marketing expense increased
from $2.9 million for the nine months ended September 30, 1999, to $3.0 million
for the nine months ended September 30, 2000, an increase of $0.1 million, or
4.3%. Expressed as a percentage of net patient revenues, advertising and
marketing expense of 3.8% for the nine months ended September 30, 2000 was
unchanged from the comparable prior year period.
DEPRECIATION AND AMORTIZATION - Depreciation and amortization increased from
$4.3 million for the nine months ended September 30, 1999, to $5.2 million for
the nine months ended September 30, 2000, an increase of $0.9 million, or 20.3%.
The increase is attributable primarily to the addition of leasehold improvements
and dental equipment associated with the opening of de novo centers and
management information system updates. Expressed
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as a percentage of net patient revenues, depreciation and amortization increased
from 5.6% to 6.4% for the nine-month periods ended September 30, 1999 and 2000,
respectively.
OTHER OPERATING EXPENSES - Other operating expenses increased from $4.4
million for the nine months ended September 30, 1999, to $5.5 million for the
nine months ended September 30, 2000, an increase of $1.0 million or 23.4%.
Other operating expenses include certain expenses related to the operation of
the Company's dental centers. The increase is attributable primarily to
additional operating expenses associated with the opening of de novo dental
centers. Expressed as a percentage of net patient revenues, other operating
expenses increased from 5.8% for the nine months ended September 30, 1999 to
6.8% for the comparable 2000 period.
BAD DEBT EXPENSE - Bad debt expense increased from $2.4 million for the
nine months ended September 30, 1999 to $11.9 million for the nine months ended
September 30, 2000, including a charge of $8.5 million to record additional
allowance for doubtful accounts receivable. The Company has changed its
estimates for the collectibility of certain categories of accounts receivable
resulting in additional charges of $6.4 million on billed accounts receivable
and $2.1 million of unbilled accounts receivable from orthodontic patients.
Lower collection rates on patients with insurance, slower payments from
insurance companies, and higher than expected attrition on orthodontic patients
accounted for the change in estimates. Management is continuing to review and
modify credit and collection policies in order to reduce the level of accounts
receivable and to increase collection of past-due accounts. It is anticipated
that the change in estimates for the collection of accounts receivable will
result in higher rates of bad debt expense in future periods, until such time as
the collectibility of accounts receivable is improved.
GENERAL & ADMINISTRATIVE EXPENSE - General and administrative expenses
increased from $7.8 million for the nine months ended September 30, 1999, to
$9.1 million for the nine months ended September 30, 2000, an increase of $1.3
million, or 16.8%. Excluding charges of $1.0 million, general and administrative
expenses were $8.1 million for the nine months ended September 30, 2000, 3.9%
higher than general and administrative expenses for the nine months ended
September 30, 1999. The charges included investment costs related to the
investigations of strategic alternatives, provisions for litigation and
severance costs. Excluding these charges, general and administrative expenses,
expressed as a percentage of net patient revenues, were 10.1% for the nine
months ended September 30, 2000, unchanged from the comparable prior year
period.
ASSET IMPAIRMENT - The closing of six under-performing dental centers in
Florida, California and Texas resulted in the write-off of $1.9 million in
leasehold improvements, intangible assets and long-term receivables related to
those offices and associated acquisitions. The closed offices included two
dental centers on the east coast of Florida, two centers in the Los Angeles
area, and two centers in Texas. The write-off of intangible assets related to
the acquisition of the dental centers on the east coast of Florida and one of
the California dental centers.
LITIGATION EXPENSE - For the nine months ended September 30, 2000 the
Company recorded a $1.5 million charge resulting from an adverse arbitration
award in an arbitration proceeding in Los Angeles, California (Note 7 of Notes
to Condensed Consolidated Financial Statements). In the nine months ended
September 30, 1999, litigation expense of $1.4 million resulted from the
settlement of a lawsuit filed by the former owner of certain dental practices
acquired by the Company in 1996.
INTEREST EXPENSE - Interest expense increased from $3.2 million for the
nine months ended September 30, 1999 to $5.0 million for the nine months ended
September 30, 2000, an increase of $1.8 million, or 58.8%. The increase is
attributable to higher borrowings and an increase in variable interest rates
under the Credit Agreement and the senior subordinated credit agreements.
PROVISION FOR INCOME TAXES - For the nine months ended September 30, 1999,
the Company recorded a provision for income taxes of $1.1 million, resulting
from income before income taxes of $2.7 million. For the nine months ended
September 30, 2000, the Company recorded a benefit for income taxes of $2.4
million resulting from a loss before income taxes of $13.5 million. The benefit
for income taxes in the third quarter 2000 was reduced by a valuation allowance
of approximately $2.5 million that was recorded against the Company's entire
deferred tax asset, because there is no assurance that the Company will be able
to recognize the tax asset in the future. Accordingly, the benefit for income
taxes recorded in the nine-month period ended September 30, 2000 was limited to
17.7% of the loss before income taxes compared to an effective tax rate of 39.6%
recorded in the prior year period.
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LIQUIDITY AND CAPITAL RESOURCES
At September 30, 2000 the Company had a net working capital deficit of
$56.4 million, resulting primarily from the classification as a current
liability of $45.2 million of outstanding borrowings under the Company's senior
bank credit facility and $15.0 million in senior subordinated note and
convertible note agreements (see below). Current assets consisted of cash and
cash equivalents of $1.7 million, billed and unbilled accounts receivable of
$14.2 million and $2.7 million of prepaid expenses and other current assets.
Current liabilities totaled $74.9 million, consisting of $11.6 million in
accounts payable and accrued liabilities, $63.2 million in current maturities of
long-term debt and $0.1 million of deferred compensation payable to a
stockholder.
For the nine months ended September 30, 1999 and 2000, cash provided by
operating activities was $0.4 million and $3.5 million, respectively. In the
nine months ended September 30, 1999, cash used in investing activities amounted
to $8.7 million, consisting of $365,000 to fund acquisitions and $8.4 million
for capital expenditures primarily for the construction of new dental offices
and equipment. For the nine months ended September 30, 2000, cash used in
investing activities was $8.1 million, consisting primarily of $5.0 million to
acquire a 20% minority interest in the Company's California subsidiary and $3.1
million for capital expenditures. For the nine months ended September 30, 1999,
cash provided by financing activities totaled $8.0 million representing $9.2
million in advances under the Company's bank credit agreement, offset partially
by $1.2 million in repayments of long-term debt and capital lease obligations.
For the nine months ended September 30, 2000, cash provided by financing
activities totaled $6.2 million representing $16.9 million in proceeds from
long-term debt offset partially by $9.0 million in repayments of long-term debt
and capital lease obligations, payment of $0.9 million in debt issuance costs
and $0.8 million reduction in bank overdrafts.
During the first nine months of 2000, the Company's principal sources of
liquidity consisted primarily of cash and cash equivalents and borrowings under
the Company's bank credit agreement ("Credit Agreement"). In January 2000, the
Company amended its Credit Agreement with its existing banks and entered into a
senior subordinated note agreement ("Subordinated Note Agreement") and a
subordinated convertible note agreement ("Convertible Note Agreement") with two
lenders. In May 2000, the Company amended its credit agreement to provide
additional availability for the Company to complete the de novo dental centers
that were under development for 2000. In August 2000, the Company advised its
lenders that it was in violation of certain financial covenants of the Credit
Agreement, the Subordinated Note Agreement and the Convertible Note Agreement
(the "Debt Agreements") as a result of losses incurred in the second and third
quarters of 2000.
The Credit Agreement provides for borrowings up to $55.0 million and
matures November 2002. Advances under the Credit Agreement require quarterly
interest payments through March 2001 at which time principal becomes payable
quarterly based on a five-year amortization with final payment at maturity.
Borrowings under the Credit Agreement may at no time exceed a specified
borrowing base, which is calculated as a multiple of the Company's earnings
before interest, income taxes, depreciation and amortization ("EBITDA"), as
adjusted. The Credit Agreement bears interest at variable rates, which are based
upon either the bank's base rate or LIBOR, plus, in either case, a margin which
varies according to the ratio of the Company's funded debt to the EBITDA, each
as defined in the Credit Agreement. A commitment fee is payable quarterly at
rates ranging from 0.125 percent to 0.5 percent of the unused amounts for such
quarter. The Credit Agreement contains affirmative and negative covenants that
require that Company to maintain certain financial ratios, limit the amount of
additional indebtedness, limit the creation or existence of liens, set certain
restrictions on acquisitions, mergers and sales of assets and restrict the
payment of dividends. In addition, under the May 2000 amended Credit Agreement,
capital expenditures for 2000 are limited to no more than $3.5 million, further
acquisitions are not permitted in 2000, and the payment of any litigation
settlement is restricted to no more than $100,000, without consent of the
lenders. At September 30, 2000, $45.2 million was outstanding under the Credit
Agreement.
The Subordinated Note Agreement and Convertible Note Agreement provided
borrowings of $13.7 and $1.3 million, respectively. Proceeds from these notes
were used to reduce borrowings under the bank credit facility, to acquire a 20%
minority interest in the Company's California subsidiary and to reduce other
accrued liabilities and accounts payable. Loans under the Subordinated Note
Agreement bear interest at the 90-day LIBOR rate plus five and one-half percent,
payable quarterly, and are due in eight quarterly installments beginning in the
sixty-third month following the closing date. Loans under the Convertible Note
Agreement bear interest at the same rate as loans under the Subordinated Note
Agreement and are due on demand beginning seven years after the closing date
with a final maturity date of January 30, 2009. The convertible note is
convertible at any time into 442,880 shares of Company common stock at the
request of the holders at a fixed conversion price of $3.1125 per share. The
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Subordinated Note Agreement and Convertible Note Agreement contain affirmative
and negative covenants that require that Company to maintain certain financial
ratios, limit the amount of additional indebtedness, limit the creation or
existence of liens, set certain restrictions on acquisitions, mergers and sales
of assets and restrict the payment of dividends. At September 30, 2000, the
Company was not in compliance with certain financial covenants of the
Subordinated Note Agreement and Convertible Note Agreement. In addition, the
Company has not made $0.9 million in principal and interest payments due to the
subordinated note holders in September and October 2000, because it is
restricted from making such payments as long as the Company is in default of the
Credit Agreement.
As a result of losses incurred in the second and third quarters 2000, the
Company has not been in compliance with certain financial covenants of the Debt
Agreements since June 30, 2000. As a result, amounts outstanding under these
agreements were subject to acceleration. Accordingly, the Company was in default
under these agreements and has classified the related debt as a current
liability. The Company has requested waivers of these covenant violations and is
negotiating with its lenders to obtain such waivers and to restructure the Debt
Agreements. There is no assurance that the Company will receive the requested
waivers or that it will be able to restructure the Debt Agreements. Based upon
its current operating plans, which assume that the debt is not accelerated the
Company projects to have sufficient funds to meet its operating requirements
through the fiscal year ending December 31, 2000. However, there will not be
sufficient funds to begin scheduled repayments under the Credit Agreement in
March 2001 or pay the outstanding debt under the Debt Agreements if waivers
cannot be obtained. Management believes it will be able to replace the bank
credit facility with other financing or restructure the bank credit facility.
However, there is no assurance that such financing will be available or that the
related terms and conditions will be acceptable to the Company. If the Company
cannot obtain such alternative financing or refinancing of its current line of
credit, it would have a material and adverse effect on the Company's financial
position.
In order to increase its liquidity, the Company has developed the
following strategies; (i) suspension of the development of any new dental
centers, (ii) implementation of stricter credit policies to reduce the amount of
new accounts receivable, (iii) selective reductions in personnel and other
overhead expenses, (iv) raising additional capital, and (v) seeking other
strategic alternatives such as the merger or sale of the Company. However, there
can be no assurance that these efforts will be successful.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's financial instruments with market risk exposure include
borrowings under its Credit Agreement, Subordinated Note Agreement and
Convertible Note Agreement, which total $60.2 million at September 30, 2000.
Based on this balance, a change of one percent in the interest rate would cause
a change in interest expense of approximately $602,000, or $0.08 per share
(diluted), on an annual basis. These financial instruments were not entered into
for trading purposes and each financial instrument bears interest at a
pre-agreed upon percentage point spread from either the prime interest rate or
Eurodollar interest rate.
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PART II -- OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
In June 2000, the Company recorded litigation expenses of $1,495,000
resulting from an arbitration award against two subsidiaries of the Company in
an arbitration proceeding in Los Angeles, California. The arbitrator found that
the subsidiaries had breached a contractual agreement to acquire a dental
practice and awarded the plaintiffs actual damages and costs of $442,000. In
August 2000, the arbitrator awarded the plaintiffs an additional $666,000 for
attorney fees and costs, resulting in a total judgment of $1,108,000 against the
Company's subsidiaries. This amount was included in the litigation expenses
recorded in June 2000 as well as expenses incurred by the Company. None of the
judgment amount awarded to the plaintiffs has been paid as of November 20, 2000.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.
Not applicable.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
The Company was in default of its senior bank credit facility, senior
subordinated note agreement and subordinated convertible note agreement (Debt
Agreements) at September 30, 2000, resulting from non-compliance with certain
financial covenants of the agreements. As a result, amounts outstanding under
these agreements were subject to acceleration. Accordingly, the Company was in
default under these agreements and has classified the related debt as a current
liability at September 30, 2000. The Company has requested waivers of these
covenant violations and is negotiating with its lenders to obtain such waivers
and to restructure the Debt Agreements. There can be no assurance that the
Company will receive the requested waivers or that it will be able to
restructure the Debt Agreements. Based upon its current operating plans, which
assume that the debt is not accelerated the Company projects to have sufficient
funds to meet its operating requirements through the fiscal year ending December
31, 2000. However, there will not be sufficient funds to begin scheduled
repayments under the bank credit facility in March 2001 or pay the outstanding
debt under the Debt Agreements if waivers cannot be obtained. Management
believes it will be able to replace the bank credit facility with other
financing or restructure the bank credit facility. However, there is no
assurance that such financing will be available or that the related terms and
conditions will be acceptable to the Company. If the Company cannot obtain such
alternative financing or refinancing of its current line of credit, it would
have a material and adverse effect on the Company's financial position.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
NONE
ITEM 5. OTHER INFORMATION.
Not applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
The following exhibits are filed with this report:
27. Financial Data Schedule.
(b) REPORTS ON FORM 8-K
NONE
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
CASTLE DENTAL CENTERS, INC.
Date: November 20, 2000 By: JACK H. CASTLE, JR.
Jack H. Castle, Jr.
Chief Executive Officer
Date: November 20, 2000 By: JOHN M. SLACK
John M. Slack
Chief Financial Officer
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