<PAGE>
<TABLE>
<S><C>
U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
/X/ QUARTERLY REPORT UNDER SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the quarterly period ended: March 31, 1999
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _______ to _______
Commission File Number 0-22403
HORIZON Pharmacies, Inc.
(Exact name of registrant as specified in its charter)
DELAWARE 75-2441557
(State or other jurisdiction of (I.R.S. Employer Identification Number)
incorporation or organization)
501 Main Street
Denison, Texas 75020
(Address of principal executive offices)
(903) 465-2397
(Registrant's telephone number)
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 past 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days. Yes /X/ No / /
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date:
Title of Each Class Outstanding at May 14, 1999
Common stock, par value $.01 per share 5,669,668
</TABLE>
<PAGE>
FORM 10-Q
TABLE OF CONTENTS
<TABLE>
<S> <C>
PART I - FINANCIAL INFORMATION . . . . . . . . . . . . . . . . . . . . . . . . 3
Condensed Consolidated Balance Sheets . . . . . . . . . . . . . . . . . . 3
Condensed Consolidated Statements of Income (Unaudited) . . . . . . . . . 4
Condensed Consolidated Statements of Cash Flows(Unaudited). . . . . . . . 5
Notes to Condensed Consolidated Financial Statements(Unaudited) . . . . . 7
Management's Discussion and Analysis of Financial Condition and
Results of Operations.. . . . . . . . . . . . . . . . . . . . . . . . . . 8
Quantitative and Qualitative Disclosures about Market Risks.. . . . . . .17
PART II. OTHER INFORMATION. . . . . . . . . . . . . . . . . . . . . . . . . .18
Exhibits and Reports On Form 8-K. . . . . . . . . . . . . . . . . . . . .18
SIGNATURES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .19
</TABLE>
<PAGE>
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
HORIZON PHARMACIES, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
ASSETS
DECEMBER 31, MARCH 31,
1998 1999
---- ----
(Audited) (Unaudited)
<S> <C> <C>
Current assets:
Cash and cash equivalents ......................................... $ 6,617 $ 4,322
Accounts receivable, net:
Third-party providers .................................... 5,040 6,887
Others ................................................... 2,590 2,436
Refundable income taxes ........................................... 503 503
Inventories, at the lower of specific identification cost or market 18,084 20,629
Other ............................................................. 311 340
-------- --------
Total current assets ....................................................... 33,145 35,117
Debt issue costs, net of accumulated amortization .......................... 69 119
Property, equipment and capital lease assets:
Property and equipment:
Land and buildings ....................................... 867 887
Equipment ................................................ 3,177 3,528
-------- --------
Total ........................................... 4,044 4,415
Less accumulated depreciation ..................................... 531 652
-------- --------
Property and equipment, net ....................................... 3,513 3,763
Equipment under capital leases, net of accumulated amortization of
$184,975 in 1998 and $232,779 in 1999 ............................. 530 821
-------- --------
Total property, equipment and capital lease assets, net .................... 4,043 4,584
Intangibles, at cost:
Noncompete covenants and customer lists ........................... 1,981 2,419
Goodwill .......................................................... 8,145 9,601
-------- --------
10,126 12,020
Less accumulated amortization ............................ 736 904
-------- --------
Intangibles, net ........................................................... 9,390 11,116
-------- --------
Total Assets ............................................. $ 46,647 $ 50,936
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable .................................................. $ 7,889 $ 9,246
Accrued liabilities ............................................... 1,438 1,500
Notes payable ..................................................... 109 -
Current portion of long-term debt ................................. 3,104 2,283
Current obligations under capital leases .......................... 167 207
-------- --------
Total current liabilities .................................................. 12,707 13,235
Long-term debt ............................................................. 13,159 15,852
Obligations under capital leases ........................................... 353 480
Shareholders' equity
Preferred stock, $.01 par value, authorized 1,000,000 shares, none - -
issued .....................................................................
Common stock, $.01 par value, authorized 14,000,000 shares;
issued 5,623,743 shares in 1998 and 5,675,749 in 1999 ............. 56 57
Additional paid-in capital ........................................ 22,343 22,896
Accumulated deficit ............................................... (1,901) (1,514)
-------- --------
20,498 24,439
Treasury Stock, at cost; 6,081 shares in 1998 and 1999 ........... 70 70
-------- --------
Total shareholders' equity ................................................. 20,428 21,365
-------- --------
$ 46,647 $ 50,936
======== ========
</TABLE>
See accompanying notes.
3
<PAGE>
HORIZON PHARMACIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH 31
----------------------------
1998 1999
---- ----
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C>
Net revenues:
Prescription drugs sales ................... $ 9,800 $ 23,615
Other sales and services ................... 3,022 7,370
-------- --------
Total net revenues .................................. 12,822 30,985
Costs and expenses:
Cost of sales and services:
Prescription drugs ................ 7,181 17,317
Other ............................. 1,669 4,598
Depreciation and amortization .............. 151 339
Selling, general and administrative expenses 3,310 8,017
-------- --------
Total costs and expenses ............................ 12,311 30,271
-------- --------
Income from operations .............................. 511 714
Other income (expense):
Interest and other income .................. 51 70
Interest expense ........................... (104) (397)
-------- --------
Total other income (expense) ........................ (53) (327)
-------- --------
Income before provision
for income taxes ................................... 458 387
Provision for income taxes (Note 3) ................. 183 -
-------- --------
Net income .......................................... $ 275 $ 387
======== ========
Basic earnings per share (Note 2) ................... $ .06 $ .07
======== ========
Diluted earnings per share (Note 2) ................. $ .06 $ .07
======== ========
</TABLE>
See accompanying notes.
<PAGE>
HORIZON PHARMACIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
MARCH 31,
---------
THREE MONTHS ENDED
1998 1999
---- ----
(IN THOUSANDS)
<S> <C> <C>
OPERATING ACTIVITIES
Net income .................................................................. $ 275 $ 387
Adjustments to reconcile net income to net cash used in operating activities:
Depreciation and amortization of property, equipment
and capital lease assets .................................. 82 169
Amortization of Intangibles ........................................ 68 168
Provision for uncollectible accounts receivable .................... 2 -
Provision (credit) for deferred income taxes ....................... (25)
Changes in operating assets and liabilities, net of acquisitions of
businesses:
Accounts receivable ....................................... (776) (1,383)
Inventories ............................................... (647) (815)
Other current assets ...................................... (24) (66)
Accounts payable .......................................... 330 1,356
Accrued liabilities ....................................... 103 61
Income taxes payable ...................................... 8 -
------- -------
Total adjustments ........................................................... (879) (510)
------- -------
Net cash used in operating activities ....................................... (604) (123)
INVESTING ACTIVITIES
Purchases of property and equipment ......................................... (136) (383)
Assets acquired for cash in acquisitions of businesses ...................... (951) (1,280)
------- -------
Net cash used in investing activities ....................................... (1,087) (1,663)
FINANCING ACTIVITIES
Borrowings .................................................................. - 51
Debt issue costs incurred ................................................... - (3)
Principal payments on debt .................................................. (203) (511)
Principal payments on obligations under capital leases ...................... (26) (46)
Issuance of common stock, net of offering costs ............................. 224 -
------- -------
Net cash used in financing activities ....................................... (5) (509)
------- -------
Net decrease in cash and cash equivalents ................................... (1,696) (2,295)
Cash and cash equivalents at beginning of period ............................ 4,084 6,617
------- -------
Cash and cash equivalents at end of period .................................. $ 2,388 $ 4,322
======= =======
Supplemental disclosure of interest paid .................................... $ 104 $ 391
5
<PAGE>
<CAPTION>
MARCH 31,
---------
THREE MONTHS ENDED
1998 1999
----- ----
(IN THOUSANDS)
<S> <C> <C>
NONCASH INVESTING AND FINANCING ACTIVITIES
Equipment leased under capital leases ....................................... $ - $ 213
Issuance of common stock to reduce long-term debt ........................... 20 -
Acquisitions of businesses financed by debt and common stock:
Accounts receivable and other ...................................... $ 13 $ 310
Inventories ........................................................ 1,279 1,730
Property and equipment ............................................. 321 164
Intangibles ........................................................ 1,414 1,852
------- -------
3,027 4,056
Less cash paid ..................................................... (951) (1,280)
------- -------
Assets acquired .................................................... $ 2,076 $ 2,776
======= =======
Financed by:
Debt ............................................................... $ 1,786 $ 2,222
Common stock ....................................................... 290 554
------- -------
$ 2,076 $ 2,776
======= =======
</TABLE>
See accompanying notes.
<PAGE>
HORIZON PHARMACIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(IN THOUSANDS, EXCEPT SHARE DATA)
NOTE 1
The unaudited condensed consolidated financial statements include all
adjustments, consisting of normal, recurring accruals, which HORIZON Pharmacies,
Inc. considers necessary for a fair presentation of the financial position and
the results of operations for the indicated periods. The notes to the financial
statements should be read in conjunction with the notes to the financial
statements contained in our Form 10-K, for the year ended December 31, 1998.
The results of operations for the three months ended March 31, 1999, are not
necessarily indicative of the results to be expected for the full year ending
December 31, 1999. HORIZON's revenues and earnings are higher during peak
holiday periods and from Christmas through Easter (the first and fourth quarters
of the calendar year). Estimated gross profit rates were used to determine
costs of sales for the three months ended March 31, 1998 and 1999.
NOTE 2
Weighted average common shares outstanding used in the calculation of basic
earnings per share for the three months ended March 31, 1998 and 1999 totaled
4,492,576 and 5,658,025, respectively. Common shares used in the calculation of
diluted earnings per share for the three months ended March 31, 1998 and 1999
were 4,751,797 and 5,900,464, respectively. The difference in the number of
shares for 1998 and 1999 is attributable to dilutive stock options and warrants
of 259,221 and 242,439, respectively.
NOTE 3
The provisions for income taxes included in the accompanying statements of
income for the three months ended March 31, 1998 is based on an estimated
effective tax rate of 40%. No income taxes are provided for in three months
ended March 31, 1999 due to the existence of a net operating loss carry forward
resulting from losses in the fourth quarter of 1998.
7
<PAGE>
NOTE 4
At March 31, 1999, we operated 49 free-standing retail pharmacies, all of
which were acquired from third parties in purchase transactions. Such
acquisitions have each been structured as asset purchases and generally have
included inventories, store fixtures and the assumption of store operating lease
arrangements. The acquisitions generally have been financed by debt to the
sellers and/or an inventory supplier. A summary of acquisitions for the three
months ended March 31, 1998 and 1999 follows:
<TABLE>
<CAPTION>
ASSETS ACQUIRED
----------------------------------------
ACCOUNTS
THREE MONTHS RECEIVABLE
ENDED STORES PURCHASE AND DEBT COMMON
MARCH 31 ACQUIRED PRICE INVENTORIES INTANGIBLES EQUIPMENT INCURRED STOCK ISSUED
-------- -------- ----- ----------- ----------- --------- -------- ------------
<S> <C> <C> <C> <C> <C> <C> <C>
1998.............. 6 $3,027 $1,280 $1,414 $334 $1,786 $290
1999.............. 4 $4,056 $1,730 $1,852 $474 $2,222 $554
</TABLE>
The following unaudited pro forma results of operations data give effect
to the acquisitions completed during the three month periods ended March 31,
1998 and 1999 as if the transactions had been consummated as of January 1,
1998. The unaudited pro forma results of operations data is presented for
illustrative purposes and is not necessarily indicative of the actual results
that would have occurred had the acquisitions been consummated as of January
1, 1998, or of future results of operations. The data reflects adjustments
for amortization of intangibles resulting from the purchases, incremental
interest expense resulting from borrowings to fund the acquisitions,
reductions in employee benefits and rent expense and income taxes.
<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH 31,
-----------------------------
1998 1999
---- ----
<S> <C> <C>
Unaudited pro forma information:
Net revenues................................................ $ 26,073 $ 31,777
Net income.................................................. 520 443
Basic earnings per share.................................... .09 .09
Diluted earnings per share.................................. .09 .09
</TABLE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
(DOLLARS IN THOUSANDS)
OVERVIEW
The following discussion and analysis reviews the operating results of
Horizon for the three months ended March 31, 1999 and compares those results to
the comparable period of 1998. Certain statements
8
<PAGE>
contained in this discussion are not based on historical facts, but are
forward-looking statements that are based upon numerous assumptions about
future conditions which may ultimately prove to be inaccurate, and actual
events and results may materially differ from anticipated results described
in such statements. Our ability to achieve such results is subject to
certain risks and uncertainties, such as those inherent generally in the
retail pharmacy industry and the impact of competition, pricing and changing
market conditions. We disclaim, however, any intent or obligation to update
these forward-looking statements. As a result, you should not rely on these
forward-looking statements.
Horizon's principal business strategy since commencing operations in 1994
has been to establish a chain of retail pharmacies through the acquisition of
free standing, full-line retail pharmacies and related businesses. In
evaluating a retail pharmacy for potential acquisition, we (i) evaluate the
target store's profits and losses for preceding years; (ii) review the store's
income tax returns for preceding years; (iii) review computer-generated
prescription reports showing historical information including prescriptions
sold, average price of each prescription, gross margins and trends in
prescription sales; (iv) analyze the store's location and competition in the
immediate area; (v) review the store's lease agreement, if any; and (vi) assess
targeted areas for growth patterns and trends. Based on our analysis of the
foregoing items, we may prepare an offer to purchase the particular store. To
assess the reasonableness of the seller's asking price, we consider the
anticipated rate of return, payback period and the availability and terms of
seller financing, it being generally desired that one-third of the purchase
price be seller-financed with the balance split between cash and other
consideration such as our Common Stock.
During the three months ended March 31, 1998 and 1999, we acquired six and
four retail pharmacies, respectively. The primary measurement of the effect of
acquisitions on our operating performance is the number of store operating
months, which is the number of months we owned all of the stores during the
relevant measuring period. We plan to continue making acquisitions as the most
significant factor in our growth strategy.
Currently, our primary source of revenue is the sale of prescription drugs.
During the three months ended March 31, 1998, and March 31, 1999, sales of
prescription drugs generated 76.4% and 76.2% respectively of net revenues. We
expect our prescription drug business to increase on an annual basis as a result
of the demographic trends toward an aging population and the continued
development of new pharmaceutical products. However, we anticipate that such
sales will decrease as a percentage of our overall net revenues and gross
margins as we expand our home healthcare and other non-pharmaceutical sales and
services which have historically generated higher margins.
Our net revenues and profits are higher during peak holiday periods and
from Christmas through Easter. Sales of health-related products peak during
seasonal outbreaks of cough and cold/flu viruses, which typically occur during
the winter and spring. Accordingly, revenues and profits are typically highest
in the fourth quarter and the first quarter of the ensuing year.
RESULTS OF OPERATIONS
The following table sets forth the percentage relationship of certain
income statement data for the periods indicated:
9
<PAGE>
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31,
---------
1998 1999
---- ----
<S> <C> <C>
INCOME STATEMENT DATA
NET REVENUES:
Prescription drugs sales....................... 76.4% 76.2%
Other sales and services....................... 23.6% 23.8%
Total net revenues........................... 100.0% 100.0%
COSTS AND EXPENSES:
Cost of sales-prescription drugs(1)............ 73.3% 73.3%
Cost of sales-other(2)......................... 55.2% 62.4%
Selling, general and administrative expenses(3) 25.8% 25.9%
Depreciation and amortization(3)............... 1.2% 1.1%
Interest expense net(3)........................ .4% 1.1%
Income before provision for income taxes(3).... 3.6% 1.2%
Net income (3)................................. 2.1% 1.2%
</TABLE>
- -------------
(1) As a percentage of prescription drugs sales.
(2) As a percentage of other sales and services.
(3) As a percentage of total net revenues.
Intangible assets, including but not limited to goodwill, pharmacy files
and non-compete covenants, have historically represented a substantial portion
of our acquisition costs. Such assets are amortized over a period of not more
than 40 years. Accordingly, the amortization of intangible assets is not
expected to have a significant effect on our future results of operations.
NET REVENUES
Our net revenues increased $18,163 or 142% to $30,985 for the three months
ended March 31, 1999 compared to $12,822 for the three months ended March 31,
1998. The increase was attributable primarily to the increase in store
operating months from 81 in the first quarter of 1998 to 144 in the first
quarter of 1999.
Sales of prescription drugs decreased from 76.4% of total revenues for the
three months ended March 31, 1998 to 76.2% of total revenues for three months
ended March 31, 1999. We expect that prescription drug sales will continue to
decrease as a percentage of total revenues as the Company expands its home
healthcare and other non-pharmaceutical sales and services whose gross margins
exceed those of pharmaceutical sales.
Same store sales for our first 27 stores increased from $12,381 in the
first three months of 1998 to $13,670 in the first three months of 1999.
Management believes that this increase of 10.4% is primarily the result of
increased advertising and promotions as well as an enhanced product mix.
10
<PAGE>
The following tables show our prescription drug gross margins and total
revenues margins for the three months ended March 31, 1998 and 1999;
<TABLE>
<CAPTION>
GROSS MARGINS ON GROSS MARGINS ON
PRESCRIPTION DRUG SALES TOTAL REVENUES
----------------------- --------------
AMOUNT PERCENTAGE AMOUNT PERCENTAGE
------ ---------- ------ ----------
<S> <C> <C> <C> <C>
Three Months Ended March 31,
1999............................. $ 6,298 26.7% $ 9,070 29.3%
1998............................. $ 2,681 26.7% $ 3,972 31.0%
</TABLE>
The decrease in the gross margin on other sales and services from 1998 to
1999 was primarily the result of the acquisition of new stores which
historically have had lower margins than those of our existing stores.
COSTS AND EXPENSES
Cost of sales increased $13,065 or 148% from $8,850 in the three months
ended March 31, 1998 to $21,915 in the three months ended March 31, 1999. This
increase is primarily the result of increased sales volume resulting from the
increased number of store operating months.
Our cost of sales as a percentage of total net revenues increased 1.7% from
69.0% in the three months ended March 31, 1998 to 70.7% in the three months
ended March 31, 1999. This increase in total cost of sales is primarily due to
an increase in the cost of other sales and resulting from our acquisition of
stores with lower gross margins than we have historically incurred.
Selling, general and administrative expenses increased from $3,310 in the
three months ended March 31, 1998 to $8,017 in the three months ended March 31,
1999. Such expenses, expressed as a percentage of net revenues, were 25.8% and
25.9% for the three months ended March 31, 1998 and 1999, respectively. The
amount increased principally due to increased store count and resulting
increased store operating months.
Depreciation and amortization increased to $339 or 1.1% of net revenues for
the three months ended March 31, 1999 from $151 or 1.2% of net revenues for the
three months ended March 31, 1998. This increase was due primarily to our
purchase of new stores.
Interest expense was $104 in the first quarter of 1998 compared to $397
during the first quarter of 1999. The increase in interest expense resulted
primarily from the increase in debt associated with our acquisitions.
Interest and other income was $51 in the first quarter of 1998 compared to
$70 in the first quarter of 1999.
11
<PAGE>
EARNINGS
Pretax income was $387 for the three months ended March 31, 1999 as
compared to $458 in the same period of 1998.
Net income for the three months of 1999 rose to $387 from $275 in the
comparable period of 1998, an increase of 40.7%. We incurred no income tax
expense in 1999 as a result of a loss carryforward from the fourth quarter of
1998.
LIQUIDITY AND CAPITAL RESOURCES
Net cash used in operating activities for the three months ended March 31,
1999 was $123 as compared to net cash used of $604 for the three months ended
March 31, 1998. Increases in accounts receivable and inventories, which were
partially offset by an increase in accounts payable and net income, were the
primary reasons for the decreased usage of cash.
Net cash used in investing activities was $1,087 and $1,663 for the three
months ended March 31, 1998 and 1999, respectively. The principal cause of this
difference was the increase in cost of stores acquired by the Company during the
three months ended March 31, 1999.
Cash decreased $2,295 during the three months ended March 31, 1999 from
$6,617 at December 31, 1998 to $4,322 at March 31, 1999.
Typically, cash provided by operations is adequate to supply working
capital and external sources are used mainly to finance new store acquisitions
and other capital expenditures. We believe that our working capital needs,
including growth in accounts receivable and inventory, will be funded by cash
flow from operations. New store acquisitions and other capital expenditures
will be funded by the McKesson credit facility and capital leases. McKesson
currently provides us with a $18,000 credit facility, subject to certain
restrictive covenants (including financial ratio requirements) which we must
meet to maintain the credit facility. At December 31, 1998 we were in default of
several of these covenants, but McKesson waived such defaults pursuant to an
agreement executed April 15, 1999. At December 31, 1998, we had borrowed $8,500
under this credit facility. We believe that, based on our prior acquisitions,
the average acquisition cost per store will be approximately $500 to $700 plus
inventory based on such variables as store sales, margins and profits. We also
believe that we will be able to obtain seller financing for approximately 30% to
40% of such acquisition.
During January 1999, we acquired four additional stores; however, as a
result of the loss incurred in 1998, we temporarily suspended acquisitions. We
plan to resume acquisitions in the latter part of the second quarter or the
third quarter. During 1999 we expect to fund such acquisitions with the existing
credit facility, seller financing, cash flow from operations, the issuance of a
limited number of restricted shares of common stock, and possibly another
acquisition line of credit or equity offering. Thereafter we expect to fund
acquisitions with cash flow from current operations, seller financing, and the
public or private offering of certain equity or long-term debt securities.
12
<PAGE>
Because of the Federal moratorium on home healthcare licenses from
September 1997 to January 1998, and the uncertainty of the current regulations,
we do not plan to expand our home healthcare operations in 1999. We expect,
however, to offer home medical equipment through stores which have not
heretofore offered such equipment.
YEAR 2000
The Year 2000 issue is the result of computer programs being written using
two digits rather than four to define the applicable year. Any of our computer
programs or hardware that have date-sensitive software or embedded computer
chips may recognize a date using "00" as the year 1900 rather than the year
2000. This could result in a system failure or miscalculations which could
disrupt our normal business activities.
We have established a plan to prepare our systems for the Year 2000 issue
and to reasonably assure that our critical business partners are prepared. We
have completed our assessment of all internal systems that could be
significantly affected by the Year 2000 issue and have determined that we will
be required to modify or replace portions of our software primarily related to
our accounting and pharmacy systems. We believe that with modifications or
replacements of the identified software programs, the Year 2000 issue can be
mitigated. However, if all additional phases of the Year 2000 plan are not
completed timely, the Year 2000 issue could have a material impact on our
operations as discussed under "Risks and Contingency Plans." In addition, we
are in the process of gathering information about the Year 2000 compliance
status of our key third-party business partners.
STATUS
Our internal information technology exposures are primarily related to four
areas: (i) our financial accounting system; (ii) our management information
systems comprising primarily stand-alone PCS; (iii) our pharmacy system used in
connection with the dispensation of pharmaceuticals; and (iv) our point of sale
system for our automated cash registers. As of March 31, 1999, we had completed
upgrading our accounting and management information systems, and we expect to
complete software reprogramming and replacement for the pharmacy and point of
sale systems no later than June 30, 1999. Once the software is reprogrammed or
replaced with a Year 2000 compliant version, we will test and implement the
software. As of March 31, 1999, we had completed 45% of our testing and had
implemented 90% of our remediated applications. Completion of the testing phase
for all significant systems is expected by June 1, 1999 with all remediated
systems fully tested and implemented by June 30, 1999.
Our non-Information Technology systems consist primarily of miscellaneous
office equipment which is not material to our business. The initial assessment
of these systems has indicated that modification or replacement will not be
necessary as a result of the Year 2000 issue. As such, we are not currently
remediating this operating equipment. However, the existence of embedded
technology is by nature more difficult to identify. While we believe that all
significant non-Information Technology systems are Year 2000 compliant, we plan
to continue testing our operating equipment and expect to complete the testing
by September 30, 1999.
13
<PAGE>
SIGNIFICANT THIRD PARTIES
Our significant third-party business partners consist of our suppliers,
banks and third party insurance carriers. An initial inventory of significant
suppliers and banks has been completed and letters mailed requesting information
regarding each parties' Year 2000 compliance status. We intend to develop
contingency plans by July 31, 1999 for suppliers that appear to have substantial
Year 2000 operational risks which may include the change of suppliers to
minimize such risks. We will continue our efforts to raise awareness and inform
store managers of the risks posed by the Year 2000 throughout fiscal year 1999.
COSTS
Our Year 2000 plan encompasses the use of both internal and external
resources to identify, remediate, test, and implement systems for Year 2000
readiness. External resources include contract resources which will be used to
supplement available internal resources. The total cost of the Year 2000
project, excluding internal personnel costs, is estimated at $1,500 and is being
funded by operating cash flows. As of March 31, 1999, we had incurred expenses
of $300 related to the Year 2000 project. Of the total remaining project costs,
approximately $1,000 is attributable to the purchase and implementation of new
hardware and software and will be capitalized. The remaining $200 relates to
remediation and testing of software and will be expensed as incurred.
RISKS AND CONTINGENCY PLANS
We believe we have an effective plan in place to resolve the Year 2000
issue in a timely manner. However, due to the forward-looking nature and lack of
historical experience with Year 2000 issues, it is difficult to predict with
certainty what will happen after December 31, 1999. Despite the Year 2000
remediation efforts being made, it is likely that there will be disruptions and
unexpected business problems during the early months of 2000. We plan to make
diligent efforts to assess the Year 2000 readiness of our significant business
partners and will develop contingency plans for critical areas where we believe
our exposure to Year 2000 risk is the greatest. However, despite our efforts, we
may encounter unanticipated third party failures, more general public
infrastructure failures or a failure to successfully conclude our remediation
efforts as planned. If the remaining Year 2000 plan is not completed timely, in
addition to the implications noted above, we may be required to utilize manual
processing of certain otherwise automated processes primarily related to partner
compensation and cash management. Any one of these unforeseen events could have
a material adverse impact on our results of operations, financial condition, or
cash flows in 1999 and beyond.
IMPACT OF INFLATION AND CHANGING PRICES
Inflation continues to cause increases in product, occupancy and operating
expenses, as well as the cost of acquiring capital assets. The effect of higher
operating costs is minimized by achieving operating efficiencies.
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FACTORS AFFECTING OPERATIONS
DEPENDENCE ON ACQUISITIONS FOR GROWTH. Our growth strategy depends upon
our ability to continue to acquire, consolidate and operate existing
free-standing pharmacies and related businesses on a profitable basis. We
continually review acquisition proposals and are currently engaged in
discussions with third parties with respect to possible acquisitions. We
compete for acquisition candidates with buyers who have greater financial and
other resources and may be able to pay higher acquisition prices than we are
able to pay. To the extent we are unable to acquire suitable retail
pharmacies, or to successfully integrate such stores into our operations, our
ability to expand our business will be reduced significantly.
SALES TO THIRD-PARTY PAYORS
We sell a growing percentage of our prescription drugs to customers who
are covered by third-party payment programs. Although contracts with
third-party payors may increase the volume of prescription sales and gross
profits, third-party payors typically negotiate lower prescription prices
than non third-party payors. Accordingly, gross profit margins on sales of
prescription drugs have been decreasing and are expected to continue to
decrease in future periods.
RELIANCE ON MEDICARE AND MEDICAID REIMBURSEMENTS
Substantially all of our home healthcare revenues are attributable to
third-party payors, including Medicare and Medicaid, private insurers,
managed care plans and HMOs. The amounts we receive from government programs
and private third-party payors are dependent upon the specific benefits
included under the program or the patient's insurance policies. Any
substantial delays in reimbursement or significant reductions in the coverage
or payment rates of third-party payors, or from patients enrolled in the
Medicare or Medicaid programs, would have a material adverse effect on our
revenues and profitability.
EXPANSION
Our ongoing expansion will require us to implement and integrate enhanced
operational and financial systems, and additional management, operational and
financial resources. Our inability to implement and integrate these systems
and/or add these resources could have a material adverse effect on our results
of operations and financial condition. There can be no assurance we will be able
to manage our expanding operations effectively or maintain or accelerate our
growth. Although we experienced growth in net sales in 1998 and 1999, and
increased profits in 1998 and 1999, we sustained a substantial loss in the
fourth quarter of 1998 as a result of the malfunction of our computerized
pricing system which failed to receive and/or integrate average wholesale price
updates electronically transmitted from our primary supplier. While such
malfunction has been corrected, there can be no assurance we will not experience
other such problems related to expansion or that we will be able to maintain or
increase net revenues.
GOVERNMENT REGULATION AND HEALTHCARE REFORM
Pharmacists and pharmacies are subject to a variety of state and Federal
regulations, and may be adversely affected by certain changes in such
regulations. In addition, prescription drug sales represent a significant
portion of our revenues and profits, and are a significant segment of our
business. These revenues
15
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are affected by regulatory changes, including changes in programs providing
for reimbursement of the cost of prescription drugs by third-party payment
plans, such as government and private plans, and regulatory changes relating
to the approval process for prescription drugs.
REGULATION OF HOME HEALTHCARE SERVICES
Our home healthcare business is subject to extensive Federal and state
regulation. Changes in the law or new interpretations of existing laws could
have a material effect on permissible activities, the relative costs associated
with doing business and the amount of reimbursement for our products and
services paid by government and other third-party payors.
MALPRACTICE LIABILITY
The provision of retail pharmacy and home healthcare services entails an
inherent risk of claims of medical and professional malpractice liability. We
may be named as a defendant in such malpractice lawsuits and subject to the
attendant risk of substantial damage awards. While we believe we have adequate
professional and medical malpractice liability insurance coverage, there can be
no assurance that we will not be sued, that any such lawsuit will not exceed our
insurance coverage, or that we will be able to maintain such coverage at
acceptable costs and on favorable terms.
COMPETITION
The retail pharmacy and home healthcare businesses are highly competitive.
We compete with national, regional and local retail pharmacy chains, independent
retail pharmacies, deep discount retail pharmacies, supermarkets, discount
department stores, mass merchandisers and other retail stores and mail order
operations. Similarly, our home healthcare operations compete with other larger
providers of home healthcare services including chain operations and independent
single unit stores which are more established in that market and which offer
more extensive home healthcare services than we offer. Most of our competitors
have financial resources that are substantially greater than ours, and we cannot
assure that we will be able to continue to successfully compete with such
competitors.
GEOGRAPHIC CONCENTRATION
Currently, 19 and 7 of our 49 retail pharmacies are located in Texas and
New Mexico, respectively, and we plan to acquire other retail pharmacies located
in such states. Consequently, our results of operations and financial condition
are dependent upon general trends in the Texas and New Mexico economies and any
significant healthcare legislative proposals enacted in those states.
SUBSTANTIAL INDEBTEDNESS
We have incurred substantial debt and may incur additional indebtedness in
the future in connection with our plan of acquisitions. Our ability to make cash
payments to satisfy our debt will depend upon our future operating performance,
which is subject to a number of factors including prevailing economic conditions
and financial, business and other factors beyond our control. If we are unable
to generate sufficient earnings and cash flow to service such debt we may have
to refinance certain of these obligations
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or dispose of certain assets. In the event we are required to refinance all
or any part of such debt, there can be no assurance that we will be able to
effect such refinancing on satisfactory terms.
POSSIBLE NEED FOR ADDITIONAL CAPITAL
We believe the proceeds from operating revenues and the McKesson credit
facility will be adequate to satisfy our capital requirements for the next 12
months, although circumstances, including the acquisition of additional stores,
may require that we obtain additional long or short-term financing to realize
certain business opportunities. No assurance can be made that we will be able to
obtain such financing.
RELIANCE ON SINGLE SUPPLIER
We currently purchase approximately 70% of our inventory from McKesson,
which also provides us with order entry machines, shelf labels and other
supplies. We believe that the wholesale pharmaceutical and non-pharmaceutical
distribution industry is highly competitive because of the consolidation of the
retail pharmacy industry and the practice of certain large retail pharmacy
chains to purchase directly from product manufacturers. Although we believe we
could obtain our inventory through another distributor at competitive prices and
upon competitive payment terms if our relationship with McKesson was terminated,
there can be no assurance that the termination of such relationship would not
adversely affect our business.
POTENTIAL FLUCTUATIONS IN QUARTERLY RESULTS; SEASONALITY
Our results of operations depend significantly upon the net sales generated
during the first and fourth quarters, and any decrease in net sales for such
periods could have a material adverse effect upon our profitability. As a
result, we believe that period-to-period comparisons of our results of
operations are not and will not necessarily be meaningful, and should not be
relied upon as an indication of future performance.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS.
We are exposed to market risk from changes in interest rates on debt. Our
exposure to interest rate risk currently consists of our outstanding line of
credit. The balance outstanding under the line of credit was $8,678,248 at
March 31, 1999. The impact on our results of operations of a one-point interest
rate change on balances outstanding under the line of credit would be
immaterial. This market risk discussion contains forward-looking statements.
Actual results may differ materially from this discussion based upon general
market conditions and changes in financial markets.
17
<PAGE>
PART II. OTHER INFORMATION.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits
<TABLE>
<CAPTION>
EXHIBIT NO. NAME OF EXHIBIT
----------- ---------------
<S> <C>
3.1. Articles of Incorporation of HORIZON Pharmacies, Inc.,
incorporated by reference to Exhibit 3.1 of our
Quarterly report on Form 10-QSB filed on August 14,
1998.
3.2. Bylaws of HORIZON Pharmacies, Inc., incorporated by
reference to Exhibit 3.2 of our Quarterly Report on Form
10-QSB filed on August 14, 1998.
27.1 Financial Data Schedule
</TABLE>
(b) Reports on Form 8-K
During the three months ended March 31, 1999, the Company filed no Current
Reports on Form 8-K.
18
<PAGE>
SIGNATURES
In accordance with the requirements of the Exchange Act, the Company caused
the report to be signed on its behalf by the undersigned, thereunto duly
authorized.
HORIZON Pharmacies, Inc.,
a Delaware corporation
Date: May 19, 1999 /s/ Ricky D. McCord
-----------------------------------
Ricky D. McCord
President, Chief Executive Officer
Date: May 18, 1999 /s/ John N. Stogner
-----------------------------------
John N. Stogner
Chief Financial Officer
<TABLE> <S> <C>
<PAGE>
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<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> MAR-31-1999
<CASH> 4,322
<SECURITIES> 0
<RECEIVABLES> 9,540
<ALLOWANCES> 217
<INVENTORY> 20,629
<CURRENT-ASSETS> 35,117
<PP&E> 4,415
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<TOTAL-ASSETS> 50,932
<CURRENT-LIABILITIES> 13,235
<BONDS> 16,332
0
0
<COMMON> 57
<OTHER-SE> 21,308
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<SALES> 30,985
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